international financial reporting standards: time … · international financial reporting...

International Financial Reporting Standards: Time For U.S. Insurers to Get On Board

Rebecca C. AmorosoAniko SmithPatricia MatsonPaul Nelson

March 25, 2008

Financial Services Presents:

Copyright © 2008 Deloitte Development LLC. All rights reserved.

Agenda

• IFRS Framework

• Insurance Contract Overview

• Implementation Considerations

• Questions & Answers


Poll Question #1

Which type of company do you work for?

• Life Insurance Company – U.S. Business Only• P&C Insurance Company – U.S. Business Only• Both Life and P&C Insurance Company – U.S. Business Only• Life and/or P&C Insurance Company – Global Operations• Other• Not applicable


The World is Moving towards IFRS

Europe2005

Australia 2005

Canada2011

Americas

South Africa2005

Asia PacificMiddle East

Current or anticipated requirement or permission to use of IFRS

ChinaConvergence

United States

IFRS Election?


What is the U.S. Convergence Story?

• The “Norwalk Agreement” Sept 2002 – IASB and FASB agreed to:

• Work together to eliminate differences between IFRS and U.S. GAAP

• Coordinate future work programs– Involved several “convergence” projects of IFRS and U.S.

GAAP• Short Term Convergence

– Impairment, Income Taxes, Fair Value Option, Borrowing costs• Joint Projects

– Business combinations, revenue recognition, performance reporting, conceptual framework


Recent SEC Activities

• Elimination of the U.S. GAAP reconciliation for Foreign Private Issuers using IFRS–Must use “IFRS, as published by the IASB”–Effective for December 31, 2007 year end

• Concept release on allowing U.S. companies a choice of filing IFRS or U.S. GAAP financial statements –Overall support from accounting firms, most issuers –

including insurers –Analysts and other users split on allowing a choice


Recent FASB Activities

• FASB Invitation to Comment – Aug 2007– Need for the FASB to address accounting for insurance contracts?– Is the IASB’s discussion paper IFRS 4 Phase II a good starting point? – Should the FASB undertake a separate or joint project with the IASB?

• Overview of Responses –Overall support from accounting firms, AICPA, life

insurers, most analysts

–P&C mixed feelings especially LT business

• FASB to decide in Q3-2008


IFRS for Insurance Contracts - CurrentIFRS 4 Phase I – March 2004

– Interim Standard dealing with insurance contracts• If insurance contract Local GAAP• If contract with DPF Local GAAP• If investment contract IAS 39

–Elimination of Equalisation / CAT reserves–Liability adequacy test –Gross reporting of reinsurance– Impairment of reinsurance assets–May require unbundling insurance and investment

elements


IFRS for Insurance Contracts – Current (cont’d)

Extensive Disclosure Requirements• Objective is to better understand risk exposure

and future cash flows – Prepare for Phase II• Describe business through management’s eyes• Disclosure of current information of factors

affecting future development• What is required?

–Quantitative and qualitative measures–Management, concentration and mitigation of risks–Assumptions and sensitivity analysis–Claim development information (e.g. 10-year table)


IFRS 4 - Phase II Overview

• Single measurement model– Life, P&C, Health, Reinsurance

• Exit value model– Amount to sell entire obligation to 3rd party – “Market” view

• Prospective valuation– Current estimates of future cash flow– Probability-weighted and unbiased


Phase II – Measurement: Three Building Blocks

Estimates of future cash flows Explicit and Current view (balance sheet date)Unbiased and probability weighted (risk neutral)“Market consistent” vs. “Entity specific”

ConsiderationsAvailability of market rates for L-T insurance liabilitiesUse of insurer’s credit in measuring liabilitiesUse of asset-based rates

Discounting Observable market rate considers 1)timing 2)currency 3)liquidity

ConsiderationsComplexity of stochastic scenarios Availability of “market” data for insurance liabilities Interaction with Fair Value (FAS 157)


Phase II – Measurement: Three Building Blocks (cont’d)

Margins – Risk Margin and Service MarginRisk Margin: The possibility of surprise in cash flowsService Margin: The amount for servicing the contract

Considerations:•Risk margin methods can have very different outcomes

–Percentile? –Cost of capital? –Economic Capital?

•Availability of “market participant” data on servicing–Use other FSI information–Consider using “entity-specific” information


Insurance Contracts (Phase II) Project -What is proposed is mostly untried and untested

Fair value measurements

Revisions to IAS 37

Financial instruments

Revenue recognition

Financial statements

presentation Liabilities and

equity

Interaction with other IASB Projects


Phase II Timeline

If FASB decides on joint project = U.S. GAAP and IFRS identical for insurance contracts

Discussion Paper

2007

Exposure Draft

Final Standard

Implementation

20122008 2009 2010 2011

IASB

ImplementationDecision on ITC

ITC Insurance

accounting?FASB


IFRS Benefits and ChallengesWith the opportunity to file financial statements according to IFRS within reach, more U.S. companies have greater interest in understanding (and mobilizing around) IFRS and the associated benefits & challenges.

Benefits

– Significant cost savings opportunity– Standardized and improved

accounting and financial reporting policies

– More efficient use and availability of resources

– Improved risk management and controls

– Better cash management– Improved look into the economic

reality with “substance over form”principles

Challenges

– Changing the cultural mindset– Ensuring application in a globally

consistent manner– Creating/updating policies,

modifying systems, and training personnel

– Improving internal risk management practices

– Understanding how judgments are made and how they are applied. Relying less on detailed rules and bright lines.

– Upfront costs to adopt the standard


Poll Question #2

What is your company doing related to the IFRS Phase II discussion paper?

• Nothing• Performing high level assessment• Performing some analysis• Performing comprehensive analysis• Other• Don’t know/ Not applicable


Phases of an IFRS Conversion EffortThe overall approach towards assessing and implementing IFRS can be summarized using the following three-phase methodology

Key Tasks

Objective

Conduct initial “As-Is”assessment

Identify and prioritize opportunities to convert to IFRS

Develop IFRS roadmap and conversion plan

Consider global process and system implications

Consider training needs Assess need to conduct a pilot

program

Confirm and document detailed workplan on a country-by-country basis

Select and document global IFRS policies

Convert statutory reporting from local GAAP to IFRS

Deploy tools to be used in determining necessary adjustments and disclosures, including tax reporting

Prepare IFRS compliant financial statements

Consider changes required to facilitate ongoing IFRS reporting without top-side adjustments:− Processes − Information − Technology− People and Organization

Monitor compliance with continued reporting requirements

Standardize and streamline efforts to improve efficiency of IFRS reporting

Integrate with planning, budgeting and management reporting

Create a roadmap for implementation of sustainable reporting under IFRS

Enable processes and infrastructure to accomplish conversion to reporting under IFRS

Develop a sustainable “business as usual” IFRS reporting process

Assess Convert Sustain

Phase 1 Phase 2 Phase 3


Time is Getting ShortStart evaluation and assessment• Comparative disclosures required - 2012 and 2011• Need two to three years of pro-forma application and analysis to fully

understand and explain results Areas for consideration:• Actuarial valuation• Product development • Risk management• Business processes and IT infrastructure• Other

– Accounting and financial reporting needs – Internal controls over financial reporting– Tax implications– Dividend implications – Human resources requirements– Training needs– Rating agency and analyst implications


Poll Question #3

What stage is your company at in terms of implementation of IFRS generally?

• Not started• Started assessment• Started implementation• Fully implemented• Other• Do not know/ Not applicable


Valuation Implications

The implementation of IFRS will have a significant impact on the data and methods for valuation of insurance contracts:

Data Requirements

Fair ValueMethodology

Disclosures

Valuation Implications

There will be increased reliance on actuarial models in order to meet requirements for valuation of insurance contracts.

Use of an actuarial modeling approach, rather than a valuation system approach, will increase flexibility in responding to “what-if” testing requests by management. Data feeds will need to fully capture sensitivity tests in order to develop ad hoc reporting.

New methods are subject to significant potential for error without appropriate controls around actuarial models, spreadsheets, and data flows

Key Principles

The differences that arise in the accounting treatment between current accounting standards and IFRS will create a need for new input data, and new classification of data in administrative systems.

Increased disclosures such as sensitivity tests and roll-forwards will create additional challenges

Analysis of ChangesAssumption changes from period to period can introduce significant volatility and require

detailed support for derivation and rationale for changes

Management reporting should allow for drill down into drivers of change


Product Development ImplicationsIn addition, certain components of the reporting changes will create incentives for companies to structure products differently to improve the financial reporting picture

Bifurcation

Future Premiums

Product Implications

Current Phase II paper includes a restrictive definition regarding future premiums that can be included in fair valuation

For U.S. insurance products, this will have substantial implications on universal life contracts

As a result, companies may look to change requirements around payments on future premiums to mitigate the losses that may result

Key Principles

The ability to bifurcate insurance contracts between investment and insurance components may lead to product changes in order to qualify for bifurcation and improve reporting

Inception Gain/Loss

Use of an exit price concept may create gains or losses at inception

May create impacts on product design or pricing to minimize

Observable Inputs

Requirements to use market observable inputs may create substantial volatility

As a result, product design may be affected in order to reduce exposure to certain market parameters

Alternatively, products may be designed to better enable hedging of key market risks


Risk Management ImplicationsUse of a fair value approach to measuring insurance contracts will create benefits and challenges with respect to companies’ overall risk management programs

Hedging

Reinsurance

Implications

May be an alternative approach to mitigate volatility if hedging is not viable

Reinsurance prices/quotes will need to be considered in fair valuation

Key Components

Use of fair value will significantly increase benefits of hedging, and make it more critical for contracts with significant market risk

Hedging objectives may need revision to incorporate impact of risk margins on liabilities

Economic Capital

Broader Risk Management

Requirements to use market observable inputs may create substantial volatility

As a result, new risk mitigation techniques may be required

Use of fair value approaches to valuation may improve the alignment between market risk management techniques and shareholder reporting

Understanding and implementation of new, and sometimes unfamiliar, requirements may create additional control and reputational risks

May be used for setting of risk margins

Typically based on a fair value approach

As a result, likely to become more critical and robust


Poll Question #4

Do you believe implementation of IFRS will have an impact on your product development process?

• Definitely• Perhaps• Unlikely• No• Don’t know• Not applicable


Technology ImplicationsAdjustments to financial systems are likely to arise from five key areas within a typical insurance financial systems architecture

ReportingData Warehouse

Management Ledger

Transformation Layer Financial Applications

General Ledger

ReportingCapabilities

Data Standards

BudgetingPlanning

TransferPricing

Costing CapitalCalculation

SourceSystems

Actuarial Models & Calculation Engines

Actuarial

Claims

Policy Admin

Investment Mgmt

Risk Systems

Other

Financial Reporting

Management Reporting

Corporate Reporting

Business Unit Reporting

Extract

Transform

Load

Validate

Standardize

Normalize

Tax Reporting

Local GAAP/Reg Reporting

1 1 2

3

3

4

5


Source Systems & Transformation Layer

Differences in the accounting treatment between current accounting standards and IFRS will create a need for new input data

Data and transactions that are captured, stored and ultimately sent to the financial systems may not have all needed attributes or qualities

Transformation Layer not likely to have been designed with IFRS in mind; data sender/receiver structures may need to be adjusted

Over time the potential for acquisitions of companies using IFRS will increase; altering source systems and Extract, Transform and Load (ETL) tools to provide all needed data elements will make integrations significantly more efficient

Potential ImpactsSource Systems & Transformation Layer

Identify missing data elements due to differences in accounting treatment

Assess required enhancements to legacy systems

Identify and document all internal and external data sources that must be migrated

Key Assessment Activities

1


Management Ledger

Layer

General Ledger


Data Standards

BudgetingPlanning

TransferPricing

CostingCalculation

SourceSystems


Actuarial

Mgmt

Other

Financial Reporting


Corporate Reporting


Extract

Transform

Load

Validate

Standardize

Normalize

Tax Reporting


1 1 2

3

3

4

5


Management Ledger


General Ledger


Data Standards

Capital

SourceSystems


Actuarial

Policy Admin

Investment Mgmt

Risk Systems

Other

Financial Reporting


Corporate Reporting


Extract

Transform

Load

Validate

Standardize

Normalize

Tax Reporting


1 1 2

3

3

4

5

Claims


Poll Question #5

How much change will be required to your company's financial systems to support IFRS?

• Minimal• Moderate• Significant• Transformational• Don’t know• Not applicable


General Ledger & Financial Applications

Differences in the accounting treatment between current accounting standards and IFRS will likely drive changes to General Ledger design, Chart of Accounts, as well as sub-ledgers and feeds

Multinational companies may ultimately realize a need to re-develop General Ledger platforms or additional sets of books to ensure compliance with multiple financial reporting requirements

Changes to IFRS will likely necessitate redesigned accounting, reporting, consolidation, and reconciliation processes, which may impact configurations of the financial applications

Potential ImpactsGeneral Ledger & Financial Applications

Assess high level changes to Chart of Accounts based upon differences between IFRS and local GAAP

Analyze reconciliation process between sub ledgers and General Ledger; assess accounting, reporting, close consolidation, and reconciliation processes

Assess Journal Entry methods and templates


2


Management Ledger


General Ledger


Data Standards

BudgetingPlanning

TransferPricing

CostingCalculation

SourceSystems


1 1 2

3

3

4

5


Management Ledger

Transformation Layer

Financial Applications

General Ledger


Data Standards

SourceSystems

Actuarial Models &Calculation Engines

1 1 2

3

3

4

5

Capital

Actuarial

Other

Actuarial

Policy Admin

Investment Mgmt

Risk Systems

Other

Claims

Extract

Load

Normalize

Extract

Transform

Load

Validate

Standardize

Financial Reporting


Corporate Reporting


Tax Reporting

Local GAAP/

Financial Reporting


Corporate Reporting


Tax Reporting



Financial Data Standards & Warehouse

IFRS has much more extensive disclosure requirements, requiring regular reporting and usage of financial data that may not be standardized in insurer data models

Increased need for documented assumptions, sensitivity analyses, potential factors that could affect future development may expand the scope of information managed by insurance financial systems

Reporting warehouse feeds to actuarial and/or calculations engines may need to be adjusted in a standardized way to support reporting processes

Data governance functions and Meta Data Repositories (potentially including Data Dictionary, ETL & Business Intelligence Tools) may need to be adjusted to reflect revised data model

Potential ImpactsFinancial Data Standards & Warehouse

Identify changes in financial information requirements due to IFRS transition; assess impacts of these requirements on existing data model

Assess readiness of data governance function and Meta Data Repositories to be updated to reflect new data definitions


3


Management Ledger


General Ledger


Data Standards

BudgetingPlanning

TransferPricing


SourceSystems


1 1 2

3

3

4

5


Management Ledger



General Ledger


Data Standards

SourceSystems


1 1 2

3

3

4

5

Actuarial

Other

Actuarial

Policy Admin

Investment Mgmt

Risk Systems

Other

Claims

Financial Reporting


Corporate Reporting


Tax Reporting

Local GAAP/

Financial Reporting


Corporate Reporting


Tax Reporting


Extract

Load

Normalize

Extract

Transform

Load

Validate

Standardize



Most insurers will rely heavily on actuarial models outside of the valuation system to meet requirements for valuation of insurance contracts

Current valuation systems may not have functionality to handle IFRS requirements

Data feeds may need to be adjusted to support sensitivity tests that are required for ad hoc reporting and IFRS disclosures; new feeds are subject to significant potential for error without appropriate controls

Increased disclosures such as sensitivity tests and roll forwards will create additional challenges

Differences that arise in accounting treatment between current accounting standards and IFRS may create a need for new expense allocations and other calculations

Potential ImpactsActuarial Models & Calculation Engines

Assess valuation systems and actuarial models for IFRS impacts

Assess existing expense allocations methods and engines to determine if rules need to be adjusted


4


Management Ledger

Layer

General Ledger


Data Standards

BudgetingPlanning

TransferPricing


SourceSystems


1 1 2

3

3

4

5


Management Ledger



General Ledger


Data Standards

SourceSystems


1 1 2

3

3

4

5

Actuarial

Other

Actuarial

Policy Admin

Investment Mgmt

Risk Systems

Other

Claims

Financial Reporting


Corporate Reporting


Tax Reporting

Local GAAP/

Financial Reporting


Corporate Reporting


Tax Reporting


Extract

Load

Normalize

Extract

Transform

Load

Validate

Standardize


Reporting Capabilities

The differences that arise in the accounting treatment between current accounting standards and IFRS will create a need for changes in reporting

Assumption changes from period to period can introduce significant volatility and require detailed support for derivation and rationale for changes, requiring design of additional reports

External reporting templates will likely require revisions to reflect IFRS requirements

Increased disclosures such as sensitivity tests and roll-forwards may require additional ad hoc query capabilities

Potential ImpactsReporting Capabilities

Evaluate external reporting templates to identify changes required to support increased/different disclosures

Identify information sets that would be needed to meet IFRS reporting and disclosure requirements

Assess business intelligence environment’s readiness for identified IFRS changes


5


Management Ledger

Layer

General Ledger


Data Standards

BudgetingPlanning

TransferPricing


SourceSystems


1 1 2

3

3

4

5


Management Ledger



General Ledger


Data Standards

SourceSystems


1 1 2

3

3

4

5

Actuarial

Other

Actuarial

Policy Admin

Investment Mgmt

Risk Systems

Other

Claims

Financial Reporting


Corporate Reporting


Tax Reporting

Local GAAP/

Financial Reporting


Corporate Reporting


Tax Reporting


Extract

Load

Normalize

Extract

Transform

Load

Validate

Standardize

Questions & Answers

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Contact info

• Rebecca C. Amoroso+1 973 602 5385, [email protected]

• Aniko Smith+1 213 688 4110, [email protected]

• Patricia Matson• +1 860 725 3302, [email protected]

• Paul Nelson• +1 312 486 4447, [email protected]

mailto:[email protected]





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