Sun Life Financial and Indian Economic Surge How is the Insurance market in India changing? Why is India an attractive market for investment? The insurance market in India has undergone significant changes over the past few years The Insurance Act of 1938 was the first legislation governing all forms of insurance to provide strict state control over insurance business. Life insurance in India was completely nationalized on January 19, 1956, through the Life Insurance Corporation Act. All 245 insurance companies operating then in the country were merged into one entity, the Life Insurance Corporation of India 972 – The General Insurance Business (Nationalization) Act, 1972 nationalized the general insurance business in India with effect from 1st January 1973. Till end of FY 1999-2000, two state-run insurance companies, namely Life Insurance Corporation (LIC) and General Insurance Corporation (GIC) were the monopoly insurance providers in India. Under GIC there were four subsidiaries National Insurance Company Ltd. Oriental Insurance Company Ltd. New India Assurance Company Ltd. United India Assurance Company Ltd. In the fiscal year 2000-01, the Indian federal government lifted all entry restrictions for private sector investors.
Foreign investment insurance market was also allowed with 26 percent cap. GIC was converted into India’s national reinsure from December, 2000 . All the subsidiaries working under the GIC umbrella were restructured as independent insurance companies. Since opening up of the insurance sector 21 private companies have been granted licenses. With the de-regulation in Indian Insurance industry, the monopoly of public sector companies in life insurance and general insurance has come to an end. This has augmented the innovative practices initiated by the private players.
Growth in the interactive technology such as internet has further created a wave of excitement in the insurance market. Indian economy and Indian Insurance sector is committed to a double digit growth. Huge population base and large untapped market are key reasons why insurance industry is a big opportunity area in India for national as well as foreign investors. India is the fifth largest life insurance market in the emerging insurance economies globally and is growing at 32-34% annually. The strong growth potential of the country has also made international players to look at the Indian insurance market.
Moreover, saturation in insurance markets in many developed economies has made the Indian market more attractive for international insurance players. OUTLOOK The Indian Insurance market is expected to be around US$52 billion by 2010 o Expected CAGR of over 30% p. a. POTENTIAL Largely untapped market with 17% of the world’s population o Nearly 80% of the Indian population is without Life, Health and Non-life insurance o Life Insurance penetration is low at 4. 1% in 2006-07 o Non-life penetration is even lower at 0. % in 2006-07 o The per capita spend on Life and Non-Life Insurance is US$33. 2 and US$5. 2 (2006-07), respectively compared to a world average of US$330 and US$224 o Strong economic growth with increase in affluence and rising risk awareness leading to rapid growth in the insurance sector Investment opportunities exist in both life and non-life segments. Total estimated investment opportunity of US$14-15 billion The current FDI in this sector stands at around Rs 2500 crores and market experts expects FDI to zoom by about 2. times once the FDI cap is raised by another 23 percent to 49 percent. Why did Sun Life Financials enter the Indian Market? India’s economic development made it a most lucrative Insurance market in the world. Before the year 1999, there was monopoly state run LIC transacting life business and the General Insurance Corporation of India with its four Subsidiaries transacting the rest. In the wake of reform process and passing Insurance Regulatory and Development Authority (IRDA) Act through Indian parliament in 1999, Indian Insurance was opened for private companies.
Liberalization on the Insurance sectors allowed foreign players to enter the market with Indian partners. India also offered immense possibilities to foreign Insurers since it is the world’s most populous country having over a billion people. Indian population comprised of 1. 05 billion, savings rate being 26 percent and middle class population of 300 million, out of which only 110 million were insured. Insurance density in country, based on per capita premium was just $5 in life insurance segment and $2 in general segment. The share of life insurance premium to GDP was 1. 29 percent.
Sun Life Financials studied the Indian scenario and saw great untapped potential in Indian Insurance market, economic stability and growth prospects and hence decided to enter Indian Market. What was the entry mode in India for Sun Financials and why? Sun Financials entered the Indian market through a joint venture with the Aditya Birla Group. The joint venture was called Birla Sun Life Insurance Company. The structure and equity pattern was Indian Rayon and Birla Global Finance Ltd having a stake of 69 percent and 5 percent respectively while Sun Life Financial held 26 percent.
Sun Life Financials holding was limited to 26 percent because the Indian government set up the Insurance Regulatory Development Authority (“IRDA”) in 1999 under the IRDA Act. At the moment IRDA prohibits 100% foreign ownership of an Indian insurance company. It requires Indian promoters to invest either wholly in any new insurance venture, or team up with a foreign insurer which can own no more than 26% of the shares in the joint venture. The Indian promoter must sell the majority of his shares to the Indian public through a public offering after 10 years.
Compare attractiveness of China & India from the perspective insurance and financial services There was not much of difference in the economic performance of India and China until about 1980, when their per capita incomes were similar. Over the last quarter century, both the nations started economic reforms and chose to accelerate their growth. Both China and India both have chosen the paths best suited to them, based on their systems and circumstances. China nurtures and directs economic activity more than India does.
China embraces FDI , whereas India is cautious about FDI. These distinctive paths followed by them have given rise to different styles of companies thriving in India and China. China has more of industries that rely on hard infrastructure (manufacturing, labor-intensive) and India more of soft infrastructure (bio-technology, software services) However India will have the world’s largest population by the year 2050–-1. 6 billion people versus 1. 4 billion in China. Sixty percent of India’s population is under age 32, while the Chinese demographics is much older.
China typically relies on cheap labor from unskilled workers to drive its export business and has largely ignored an investment in high technology industries. India, on the other hand, has an educated workforce that for the most part is fluent in English. The role of government is also critical to both economies. China still remains a communist regime while India’s government is a more progressive federal republic. India is considered to be a high-risk market for both life and general insurance in terms of economic and industry risks.
Low levels of market sophistication in the life industry and the impending de-tariffing in general insurance are the reasons for placing India in the high-risk category. Compared to this, though China is placed as high in terms of economic risk, it is placed at moderately high in terms of industry risk. China’s financial system is relatively more bank dominated and its financial depth (as measured by domestic credit to GDP of 160 percent) is much more substantial than that of India (60 percent of GDP). One might think that behind the huge volume of savings and investment lies a strong financial sector.
On the contrary, the financial sector might be the weakest link and its progress has not matched that of the rest of the economy. Allocation of capital to the most productive investment opportunities has been weakened as state-owned enterprises have absorbed most of the resources China’s early steps to liberalize its economy and invest heavily to modernize its physical infrastructure gave it a substantial edge over India in terms of income per capita levels. They also made China a more attractive destination to foreign investors.
However, although India started economic reforms only a decade later than China, it is far more advanced in its institutional infrastructure and corporate governance. This is reflected in contrasting outcomes: foreign direct investment is considerably lower than in China, but returns on investment are better on average. The key to unlock India’s potential to rival China as an FDI destination is a decisive effort by the Indian authorities to push ahead with reforms. What would you recommend Government of India and China to increase their attractiveness in the financial and insurance sector?
Following are recommendations for Government of India: Need for tax law clarity Investors and investments go to countries where there is certainty and clarity. If the Indian tax authorities seek to challenge traditionally accepted interpretations of the tax law, the country as a whole will send a negative message to the overseas investing community. Trading safe harbor The government wants Mumbai to be an international financial hub. However, the current Indian laws tax the investors if their investment managers are based in India and actively make investment decisions for them.
As a result, these investment managers set up investment advisory entities in India, which advise the investment manager on securities which can be bought and sold; the actual investment decisions are taken outside India. Major jurisdictions around the world offer a “trading safe harbour” to investors. They do not tax the investors in that jurisdiction simply because the investment manager buys and sells securities for them through an office located there. The presence of investment managers in India can act as a catalyst to attract foreign investment, which can propel growth.
Ease of doing business The World Bank Report 2009 ranks India 122 out of 181 economies on ease of doing business. A better ranking would help India attract foreign capital. This could, to some extent, be achieved by simplifying the existing registration process. Differential tax treatment Differential tax treatment exists for equities and derivatives. While short-term capital gains on the sale of securities on which securities transaction tax has been paid is subject to 15% tax, the tax rate is much higher (30%) on derivatives.
There is no reason why only stocks should be given preferential treatment but derivatives with the same underlying stocks should be treated differently. An earlier amendment to the Income-tax Act has clarified that income from stocks and index derivatives should no longer be considered as speculation income. It need not necessarily follow that income from derivatives is business income. However, the tax authorities seem to be taking the view that all income from derivatives should be characterized as business income.
Given the huge volume of trades on the Indian stock exchanges, a clarification on the characterization of income from derivatives would help the investing community. Microfinance The lack of access to credit for the poor is a major obstacle preventing the improvement of their economic conditions. However, conventional finance institutions rarely lend to low-income families and households headed by women. Microfinance institutions (MFI) have stepped in to bridge this gap. However, their growth and scalability is constrained by existing laws and policies.
Most of the MFIs are organized as trusts or not-for-profit companies; international investors mainly look for profitable ventures, and hence, investing in these MFIs is not an attractive option. A liberal policy should be adopted to encourage investment in this sector. Increase FDI Cap from 26 percent to 49 percent In the insurance sector the government should increase the FDI cap from 23 percent to 49 percent. Recommendations for China: Improve governance and increase competition in the insurance and banking sectors. Shifting to more customer friendly driven insurance regulations. Scope of increasing awareness among the other parts of the country also. Promoting insurers to explore the various untapped regions as well as trying newer business models. Encouraging more insurance companies to go public.
More diversification in the products and services offered by both life and non life insurance companies. Inducing social welfare reforms and a more supportive regulatory framework that provides insurers a greater flexibility to pursue business. The Government should take measures to manage the risk of an overheating economy (or going into recessionary phase), to prevent the insurance market from getting affected . Life insurance companies can be licensed to form 50-50 joint ventures with Chinese firms. Non-life companies can be licensed only as branches. Foreign insurance companies are licensed as either life or non-life companies, but may not write both types of insurance. Participation from Non-life insurance sector should be increased by liberalizing this rule. Foreign insurers are limited to operations in Shanghai and Guangzhou.
The geographical area for foreign insurers should be increased. Foreign life insurers may not sell pension products or make group insurance sales to Chinese citizens (which account for over 60 percent of the market). This law should be removed as major population of china includes elderly people. In China premiums can only be invested in bank deposits, government or financial bonds, or other fund allocation methods approved by the State Council. The use of premiums to establish securities institutions or invest in enterprises is strictly forbidden. This rule should be changed.