Our Accounts 65
Notes to the Financial Statements continued
31 December 2012
3. Risk management and control (continued)
General Insurance
The Group’s general insurance (‘GI’) activities are primarily concerned with the pricing, accepting and management of risks from its policyholders.
In accepting risks the Group is committing to paying claims and therefore these risks must be understood. The Group manages these risks
through its underwriting strategy, reinsurance arrangements and proactive claims handling.
For a portfolio of insurance contracts where the theory of probability is applied to pricing and provisioning, the principal risk that the Group faces
under its insurance contracts is the risk that actual claims exceed the carrying value of the Group’s insurance liabilities. The risk arises from the
inherent uncertainties as to the occurrence, amount and timing of insurance claims. For general insurance contracts this is primarily represented
by exposure to risks which may lead to significant claims in terms of frequency or value. These would include significant weather events,
subsidence and large single claims arising from either the motor business (injury claims) or SME business (liability and/or property claims).
Procedures are in place to measure, monitor and control exposure to all these risks.
Experience shows that the larger the portfolio of similar insurance contracts, the smaller the relative variability about the expected outcome will
be. In addition, a more diversified portfolio is less likely to be affected by a change in any subset of the portfolio. The Group has developed its
insurance underwriting strategy to diversify the type of insurance risks accepted and within each of these categories to achieve a sufficiently large
population of risks to reduce the variability of the expected outcome.
Property business (domestic and commercial) is exposed to catastrophic risks such as result from storms or floods as well as risks such as
subsidence. The Group has entered into reinsurance contracts which provide protection against catastrophic weather events.
Motor business is exposed to the risk of large personal injury claims, where the claim amounts can be significant due to the cost of care required
for the claimant. The Group has entered into excess of loss reinsurance contracts which reduce its exposure to large claims. The reinsurance
retention is £5.0m per claim (2011: £5.0m per claim).
Commercial business is exposed to large individual property losses and also to liabilities arising from employment and commercial activities.
The Group has entered into reinsurance contracts which provide protection against these liabilities.
Statements and Reviews
The Group has historic Quota share and Excess of loss reinsurance contracts which reduce the Group’s exposure to large claims.
The table below sets out the concentration of General Insurance contract liabilities by type of contract:
2012 2011
Gross Reinsurance Net Gross Reinsurance Net
Group £m £m £m £m £m £m
Motor 1,071.5 (117.8) 953.7 857.3 (94.3) 763.0
Household 57.8 (0.2) 57.6 53.9 – 53.9
Travel 1.0 – 1.0 1.0 – 1.0
Our Businesses
Commercial 153.4 (17.0) 136.4 114.8 (6.6) 108.2
Other 3.4 – 3.4 2.9 – 2.9
1,287.1 (135.0) 1,152.1 1,029.9 (100.9) 929.0
The claims provision is the estimated cost of outstanding claims from expired risks. The provision is calculated largely from using our own historic
claims development data. How much the past claim development will reflect future claims development will be impacted by the following factors:
Risk Management
l Changes in actuarial processes and methodology.
l Changes in risk profile.
l Changes in underwriting, rating and policy conditions.
l Changes in legislation and regulation (e.g. Periodic Payment Orders (‘PPOs’), Ministry of Justice reforms, changes to the Ogden discount rate, etc).
l Changes in other external factors (e.g. claims farming/accident management firms).
It is therefore very important that the impact of these items on claims development is understood. Whilst every effort has been made to ensure
the claims provision appropriately allows for such changes, there remains uncertainty in the eventual reserve outcome as a result.
Corporate Governance
This uncertainty can change from year to year depending on the timing and magnitude of these items.
The Group has identified two specific areas of uncertainty that it has explicitly allowed for within the claims provision but where the outcome could
be worse than the amount allowed for. These are:
l Uncertainty in the proportion of claims identified by the Group as being likely to settle on a PPO basis that actually settle on a PPO basis.
l Uncertainty in relation to the Ogden discount rate.
The claims provision includes a specific allowance for claims identified as having the potential to settle on a PPO basis. This allowance is based
on the mean cost of claims derived from a range of scenarios based on the PPO settlement rate for the claims. If all of these claims settled as
Our Accounts
PPOs, the reserves would deteriorate by an estimated £8.6m from the position shown above.