Regulatory change opening doors for MENA’s captive offer
A version of this article by Group Chief Executive and Managing Director, Manoj Kumar was first published in the June edition of Premium Insurance Magazine.
Having existed for 60 years, captives are an advanced and recognised concept, and increasingly seen as being at the core of a risk managers’ toolbox to address a variety of complex risks. Indeed, they are no longer seen just as a risk transfer strategy, but a risk management strategy. This is because a captive responds to new and emerging risks offering insurance and control where the commercial market has not yet evolved or does not have the capacity.
It’s perhaps a little surprising therefore that historically they’ve been underused within the Middle East market, but recent regulatory changes could be opening up exciting new opportunities.
Since the Bahrain Monetary Authority issued its first licence for a captive insurer in 2003, uptake has remained somewhat slow, particularly in comparison to other more established jurisdictions. The Middle East has not managed to take advantage of the significant global expansion that we’ve seen in the captive market
This is despite the Dubai International Financial Centre (DIFC) and the Qatar Financial Centre (QFC) introducing a regulatory regime for captive insurance in 2011, which included protected cell company (PCC) legislation, something which the UK only managed in 2017. Even the region’s major oil and gas companies have been reluctant to set up captives locally, with many favouring Bermuda and Guernsey over the practicality of staying local.
The Covid-19 pandemic brought with it disrupted supply chains, travel restrictions and enormous financial pressure for nearly all industries and companies worldwide. The longest hardening markets the industry has ever seen in recent times fostered greater interest in alternative risk financing in general. Not only the pandemic, but also record natural catastrophe frequency, and geopolitical uncertainty have all contributed towards making captives a more attractive option.
Across the globe, captives have thrived as the pandemic and other global events showed that these vehicles continue to respond effectively to challenging insurance market conditions. There are approaching 7,000 captives worldwide and more than 3,300 parent companies, domiciled in a variety of locations. Business Insurance’s 2020 annual domicile and captive manager directory put the annual premium at around $115bn (£83bn) and assets under management at $248bn (£180bn) for 2019. This is likely to be a conservative estimate and will have increased considerably in the last two years as the hardening insurance market has prompted the formation of more captives and greater utilisation of existing ones.
Captive activity is also being driven by a new generation of companies, particularly in sectors such as healthcare; manufacturing; retail/wholesale; and communications, media, and technology, that have grown quickly into large multinationals with complex, unique and often intangible risk profiles.
There a range of factors affecting where a captive manager decides to locate their captive, with the key reasons can be summarised as:
- Clarity: A jurisdiction’s regulatory underpinning is a prime motivator, with a clearly-understood regulatory rulebook prioritised by many captive managers in their decision-making. Within this rulebook, a more proportionate interpretation of regulation is crucial.
- Convenience: To be closer to their parent company operations, allowing a business to benefit from use of shared language; and to increase efficiency in terms of governance requirements.
- Cost: The set-up costs and ongoing expenses associated with operating a captive, which vary depending on the domicile – although higher annual costs and capital requirements are associated with onshore locations.
There is also a sense in the market that risk mangers may well be thinking again about the location of their captive offering the middle east jurisdictions new opportunities to attract them. Particularly as many companies are putting more premium and new, emerging risks into their existing captives, or formed new entities.
This may because they want to relocate their captives from offshore locations to reduce the reputational risk associated with the captive, although this trend is more noticeable in EU-owned captive businesses.
There is also the practicalities of having to meet the restrictions and changing attitudes to international travel due to Covid-19 which have made locating a captive in a home jurisdiction a much more attractive prospect for many businesses.
The most successful jurisdictions are adapting quickly to these changing attitudes and needs, but fundamentally they are successful because they recognise the risks associated with captives are far reduced compared to commercial insurance companies and have developed appropriate and robust captive regulatory frameworks accordingly. Regulatory restrictions within the MENA region prevented local captives providers from fully capitalising on this increased demand.
It was the regulatory changes undertaken by the Dubai Financial Services Authority’s (DFSA) in April 2021 that served as the development the industry needed to encourage growth. The DFSA’s board approved the revised solvency regime for captive insurers after consulting industry members. The DFSA hoped that such a revision of the solvency regime would bring the regime in line with international best practices and support the captive insurance industry with a proportionate set of rules.
The new regime sought to replace the previous set of rules that were generally written to regulate commercial insurers’ activities with a new, modernised regulatory scheme that specifically accounted for captives.
These rules were particularly designed to help small captives, exempting them from annual actuarial studies, unless specifically required to do so by the DFSA in the course of risk-based supervision or when undertaking life insurance business. This aspect of the previous regime was particularly burdensome because captives—particularly, smaller ones—typically retain little risk relative to their asset bases.
Companies were now allowed to lend surplus capital back to parent companies – a significant benefit, especially at times when maintaining liquidity is crucial. Importantly, the new DFSA rules allow capital requirements to be calculated based on its net written premiums rather than gross premiums. This eliminated what was effectively a penalty on captives that relied heavily on reinsurance and as a result had relatively low net premiums totals.
By making the solvency regime for captives more proportionate to their business model and risk profile, Dubai’s regulator hoped to unleash new growth in the region. The changes would make Dubai a more competitive solution for companies based not only in the UAE, but also the MENA region more broadly, especially with the geographical proximity and cultural similarity Dubai offers to nearby countries.
As such, the DFSA’s decision promised significant change for Dubai’s local captive market. In the year since these regulatory changes opened up new doors for captive growth, we have seen a steady rise in interest in captives in the Middle East, as global demand continues to grow. The MENA region is exceeding global growth levels, with a recent Marsh study reporting that Middle East parents’ captives increased 20% in 2020/21.
What is further encouraging this growth of captives in the DFIC is the development over the past decades of the DIFC as a strong, competitive regional reinsurance hub. Increasingly, Lloyd’s syndicates have developed strong presences in Dubai, providing clients with meaningful access to reinsurance capacity for Dubai-based captives.
The development of captive regimes across the middle east offers clients another important opportunity to develop their presence locally. The market is continuing to evolve and it’s great that the region’s regulators are responding to these demands and embracing these innovations to meet the industry’s changing requirements.