Risk Management in The Insurance Industry and Solvency II

Financial Services
the way we see it
Risk Management in the

Insurance Industry and
Solvency II
European Survey 2006
Contents
Preface
About The Survey
1 Management Summary
This survey and report was produced

by Capgeminis Compliance and Risk
Management Centre of Excellence.
2 About the Survey
Author
Sjaak Bouma
8
8
9
11
11
Contributors
Luca DOnofrio
Augusto Franconi
Giuseppina Aprile
Vincenza Tarallo
Marco Folpmers
4 Solvency II and IAS/IFRS

4.1 Solvency II and IAS/IFRS Phase 2:
the guidelines and the timing of both projects are crucial
4.2 Examples of current differences in the financial statements
of European insurance companies
13
14
Sponsor
Harmen Meijnen, Global Lead,
Compliance & Risk Management
Centre of Excellence
5 2006-2007: The Time To Approach Solvency II
15
6 Survey results
6.1 Importance and Development of Risk Management
6.2 Risk Management Organisation and Processes
6.3 Internal Reporting
6.4 Legal Framework
6.5 Methods of Risk Management
17
17
22
25
27
28
3 Solvency II: The New Regulatory Capital Framework

3.1 Solvency I
3.2 Solvency II
3.3 Improved Risk Management
3.4 Solvency IIs Impact on Insurance Marketing Policies
14
Survey Coordination
Jan van Rompay, Council of Europe
Compliance & Risk Management
Local Survey Coordination
Norway
Jon Qvigstad
Peer Timo Andersen
Germany
Ulrich von Zanthier
Andreas Duldinger
Netherlands
Marien van Riessen
Garnt van Logtestijn
Belgium
Dermot Redmond
7 Key Findings and Conclusions
Appendix 1: Sample Insurance Company Participants

Appendix 2: Economic Capital as an Implementation Framework
Appendix 3: Literature
33
34
35
38
France
Antoine Pailhes
Portugal
Ana Cerqueira
Spain
Lucia Gonzalez
Italy
Luca DOnofrio
Claudio Trecate
Financial Services
the way we see it
Preface
Insurance is a form of risk management that parties use to protect themselves
against a loss. Ideally, it involves the equitable transfer of the risk of loss from
one entity to another, over a set period of time, in exchange for a reasonable fee.
For insurance companies, risk is more
integral to business than it is in perhaps
any other industry, so why do European
regulators want to introduce new
requirements for solvency and risk
management in the form of Solvency II?
The answer, in short, is that regulators
want to protect the stability of the
financial system. However, there are
three different underlying drivers of
change to consider.
First is the economic development
of the insurance segment itself. The
insurance sector has grown significantly
in recent decades, making it the
second-largest within the European
financial services industry. Due to
this growth, any negative disturbances
within the industry will potentially
affect the entire financial system.
Second, companies and markets are
becoming increasingly complex,
creating new types of risk, such as
operational risk. Insurers may not be
able to manage these new risks as
well as they manage those that are
core to their business, such as the
insurance technical risks. To preserve
systemic stability, regulations must
therefore tackle a broader range of
risks. Concomitantly, technological
developments are creating advanced
risk management possibilities, and
insurance companies must learn to
use these technology-enabled tools
in order to manage both existing and
new risks properly.
Third, the increased use of risk

vehicles could result in risk being
transferred to sectors in which capital
requirements are lowest. This type
of reallocation is possible because
capital regulations are not the same
across the financial services industry.
The inconsistency means financial
services companies can potentially
reduce regulatory capital without
reducing riskespecially at financial
conglomerates, which operate both
banking and insurance businesses.
In November 2005, European Central

Bank president Jean-Claude Trichet
addressed a CEIOPS (Committee of
European Insurance and Occupational
Pensions Supervisors) conference1
and warned of how the growing link
between banking and insurance
could weaken the insurance industry,
and the financial system as a whole.
He specifically noted how financial
conglomerates face larger capital
requirements in banking than they
do in insurance. By transferring risk
from their banking divisions to their
insurance divisions, conglomerates
can therefore benefit from capital
relief without actually reducing the
amount of risk exposure for the
conglomerate as a whole. Such risk
transfer could potentially weaken
conglomerates, he said.
These changing market conditions are

the reason the European Commission
(EC) is trying to develop a
state-of-the-art solvency framework
Solvency II to ensure proper
protection for policyholders.
In light of the pending revolution,
Capgemini conducted a survey
entitled Risk Management in the
Insurance Industry and Solvency II
to gauge how European insurance
companies are positioned to tackle
the risk-management challenge
created by Solvency II. This report
presents our findings, and offers
additional context and detail on the
new solvency framework.
Since Solvency II represents significant
challenges for the Insurance industry,
The European Financial Management
and Marketing Association (EFMA)
welcomes the opportunity to bring
these latest findings, market research
and insights to its members as part of
their value-added services. Capgemini
welcomes this collaborative effort to
bring industry leading research to the
EFMA community.
Source: Jean-Claude Trichet, Developing the Work and Tools of CEIOPS: the views of the ECB, Keynote speech at the Committee of European Insurance and
Occupational Pensions Supervisors (CEIOPS) conference, Frankfurt, November 2005
1 Management Summary
Times have changed. Insurance

companies and their operating
environment have been radically
altered by growing complexity in
markets and products, evolving
technology standards, globalisation
and conglomeration. As a result,
says the European Commission (EC),
existing solvency requirements fail
to provide the necessary level of
policyholder protection. In developing
Solvency II, the EC hopes to make
solvency requirements more relevant.
Solvency II envisages enterprise-wide
risk management as the basis for capital
requirements. It also seeks to create a
harmonised set of requirements across
Europe, providing a level playing field
in the financial services industry.
Solvency II seeks to incorporate IFRS
(International Financial Reporting
Standards) on valuation, but it will be
complex to develop, as it is seeks to
assure consistent guidelines.
Solvency II is built on a three-pillar
framework like the Basel II approach
developed for the banking industry,
and it similarly aims to align capital
requirements more closely with actual
risks. The framework also provides
incentives for insurance companies
to disclose their entire risk profile to
both supervisors and the market a
provision the EC hopes will encourage
insurance companies to develop their
risk management function proactively.
For insurance companies, then,

Solvency II presents a looming
compliance challenge. Lessons
learned from Basel II reveal two
key imperatives.
The first involves implementation,
and the need to influence the entire
insurance organisation. Solvency II
will require well-planned change
programmes, whose impact will
reach from the front office to the
board of directors and from risk
management to IT. These programmes
will span several years, but must start
promptly to ensure compliance in
2010, when Solvency II is currently
expected to take effect. The demands
on personnel in the organisation will
be significant throughout the
implementation years.
The second major challenge will be
managing the strategic consequences.
Solvency II should offer competitive
advantage to companies with a
low risk profile and superior risk
management as it will lower their
capital requirements. Risk-savvy
insurers can also use insights from
their sophisticated internal risk
models to develop risk-based
marketing, and employ risk-based
performance management, helping
to optimise their balance sheet.
Insurance companies that move
quickly to execute such risk-based
activities are likely to become
winners in the insurance industry.
Financial Services
As of this point, though, where does

the European insurance industry
stand in terms of risk management?
A survey conducted by Capgemini
across 8 European countries
and 63 insurance companies reveals
the following five insights about the
European insurance industry:
The development of the risk
management function typically
reflects the importance of the
underlying risk. As such, policies,
procedures, frameworks and strategies
are most often in place for the more
important risk types and are less
developed for less important risks.
There is also a difference between
the risk profile of life and non-life
companies, and thus their capabilities.
Since Solvency II requires disclosure
on specific risk types, it is likely that
most insurance companies will need
to fortify their risk management
function in certain areas.
Most insurance companies use
similar risk management processes,
procedures, frameworks and strategies,
but there are some tangible differences
across peer groups. Overall, for
example, large insurance companies
are more advanced in their risk
management approach than small and
medium-sized insurance companies.
That disparity justifies the existence
of a standard capital formula for
smaller insurance companies in the
Solvency II framework.
Risk profiles and capabilities differ

among business segments. Companies
with both life and non-life businesses
are less sophisticated in areas where
risks are to be integrated under
Solvency II, and on enterprise-wide
risks, such as operational risk. In
addition, less then half of participating
insurance companies currently employ
integrated risk management as is
advocated by the new framework.
Current risk-management practices
suggest many European insurers
may face a significant capability gap
when it comes to Solvency IIs
risk-based approach:
- Insurers may be familiar with
risk-management methods such
as stress-testing, scenario analysis
and actuarial approaches, but not
with specific risk dimensions, such
as the probability of economic ruin
and value at risk, which are likely
to be integral to the Solvency II
approach.
- Almost half of the participating
insurance companies already have
access to their own internal risk
models, which are an option for
calculating solvency ratios under
the new framework.
Insurance companies already
comprehend the gravity of risk, and
expect risk to become even more
important in the future. Significantly,
though, improvements in risk
management are being driven first
by compliance and only secondarily
by the business case, even though
insurers across Europe see the
potential commercial benefits of
improved risk management.
Risk Management in the European Insurance Industry and Solvency II
the way we see it
In summary, Capgeminis insurance

and risk management experts are
convinced that Solvency II needs to
be high on the agenda of European
insurance companies. The risk
management function in insurance
is well-developed, but shows some
tangible gaps with respect to current
Solvency II blueprints.
Among insurers, the current state
of the risk management function, and
thus the roadmap towards compliance,
depends on the companys size, region
and business segment. To develop
a company-specific roadmap and to
prepare for Solvency II, Capgemini
recommends that insurance companies
conduct three key initiatives:
(1) compliance scans (2) development of
(quantitive) advanced risk management
skill sets (3) pre-emptive data
management and data gathering.
In the next couple of years, the strategic
impact of Solvency II is likely to start
producing industry-wide changes for
insurance. Now is the time for insurers
to ready themselves for Solvency II,
and prepare to leverage the potential
benefits of the changes that are to come.
2 About the Survey
The survey Risk Management in the

Insurance Industry and Solvency II was
developed and conducted in light of the
new regulatory capital requirements
being prepared by the EC. The results
provide valuable insight into the status
of the risk management function
across European insurance companies
in relation to the new Solvency II
framework, and the data highlight
potential compliance gaps. The survey
results should help to increase awareness
at insurance companies across Europe.
For participants, the findings offer insight
into their position relative to all insurance
companies and to others in their peer
groups and should, therefore, help
these companies to identify potential
development areas on the road to
Solvency II compliance.
Questionnaire
The survey questions cover five topics:
1. Key areas of risk. Questions relate
to the current and future importance
of risks, as well as to the processes
and procedures set to manage
these risks.
2. The risk management organisation
and processes, including the presence
of a framework, risk strategies and
responsibilities, and the integration
of risk management.
3. Internal risk reporting, including
processes and the distribution of
risk reports.
4. Legal framework.
5. Available risk management methods.
Some of the questions relate to the
importance, quality or existence of risks,
processes and procedures and require a
self-assessment. The results assume the
respondent was capable of answering
the question and of answering honestly
and objectively. The development of risk
management and the existence of certain
risks may vary anyway, depending on
the insurers size or business segment.
Financial Services
Participants
Capgemini used its international network
of offices to conduct the survey in
local markets. In total, the survey
covers 63 insurance companies across
8 European countries Norway,
Germany, The Netherlands, Belgium,
France, Italy, Spain and Portugal.
Appendix 1 names some of the
participating companies. Note that
five questions reflect answers from
only 7 countries, due to certain
national differences in the survey.
For the purposes of this survey,

participants are characterised as
one of the following:
1. Life insurance business
2. Non-life insurance business,
including health insurance
and credit insurance
3. Life and non-life business
Peer Groups
and Insurance Types
Two peer groups are defined. The first
comprises small and medium-sized
insurance companies with total annual
premium revenue of < 1.5 billion.
The second comprises large companies
with total annual premium revenue
of 1.5 billion.
Country Comparisons
Solvency II is not just a state-of-the-art
solvency framework; it will further
harmonise the existing European
insurance market. As Europe moves
toward unifying legislation and a single
market, national differences should
play a far reduced role, so the findings
are presented from a single European
market perspective, and there is generally
no comparison of regions or countries.
the way we see it
Results
In general, the survey analysis
presented in chapter 6 reflects
the consolidated results from
all participants, but we also offer
comparisons of peer groups or
insurance business types when
those data breakdowns are of
particular interest.
The distribution of participants across

peer groups and insurance categories
is outlined in Table 2.1.
Table 2.1 Distribution of participants
Total number of participants
63
Peer groups
Small and medium-sized insurance companies
32
Large insurance companies
31
Insurance type
Life insurance business
20
Non-life insurance business
16
Life and non-life business
27
3 Solvency II: The New Regulatory

Capital Framework
The insurance market has been subject
to significant change in recent years. The
industry has had to cope with major
destabilising forces, from technology to
terrorism and financial market instability.
The insurance market has also grown
in size and complexity, making it
second in size only to banking among
European financial services. From
a regulatory standpoint, then, the
importance of solvency has increased
dramatically, since any failure in the
insurance market potentially creates
systemic risk risk that threatens entire
financial markets and systems, not
just individual market participants.
The threat of systemic risk has also
become more acute with the growth
of financial conglomerates, which
combine banking and insurance
activities. Jean Claude-Trichet, president
of the ECB, said in 20052 that there
are several ways in which insurance
companies can potentially affect banks
and disrupt financial stability. Perhaps
most striking is the danger created by
the fact that insurance and banking are
subject to different capital regulations.
As a result, a bancassurance group could
transfer risk from its banking business
to its insurance companies and capture
capital relief without actually reducing
risk for the group.
All in all, then, the EC believes existing
solvency regulations are not adequate to
protect policyholders and beneficiaries.
The EC started to develop Solvency II as
a way to provide the proper protection.
The new framework also aims to create
a level playing field for all participants,
harmonise supervision across EC

member states, improve capital
allocation, and increase competition
in the European insurance industry.
3.1 Solvency I
To frame the discussion of Solvency II,
it is important to look first at existing
regulations. Solvency I comprises a
core set of regulations plus various
amendments. The non-life and life
directives of 1973 and 1979, respectively,
form the core of the framework.
Additional regulations adopted for
both businesses in 2002 aimed to
improve the calculation of solvency
margin requirements. For the life
business, the solvency requirement
is based on a percentage of the
mathematical provisions plus a
percentage of the remaining positive
capital at risk. In non-life, the required
solvency margin is based on a
percentage of gross written premiums,
a percentage of average claims over a
time period, or the carried-forward
amount of preceding years. The
solvency requirement can be reduced
by reinsurance. For both businesses
there is a minimum guarantee fund
that provides a safety net.
Current regulations do provide a certain
level of protection to the policyholder,
but there are limitations. A UK Treasury
report provides examples of where the
regulatory capital based on the current
framework diverges from an individual
companys economic capital3. Another
limitation of Solvency I is that non-life
solvency margins are based on the
volume of contracts rather than the
See footnote 1
Source: HM Treasury, Solvency II: a new framework for prudential regulation of insurance in the EU, a
discussion paper, London, February 2006
Financial Services
2005
CEIOPS
Answers To Calls
For Advice
2006
2007
Formal
QIS1 QIS2
Adoption of
European Framework
Commission Draft
from
of Directive Commission
(Oct. 2006)
(July 2007)
2008
2009
2010
Definition of
Realisation
Dates
Adoption of
European Commission
Suggestions
Effective Date
Solvency II
Source: Capgemini 2006
actual risks embedded in specific

contracts. Other examples of shortcomings relate to the inadequate
determination of technical provisions
and the lack of comprehensive
guidelines on how to benefit from
diversification and pooling effects.
These examples illustrate just a few
of the solvency provisions that are
inadequate for todays environment.
3.2 Solvency II
The ECs new regulatory framework
for insurance follows closely on the
heels of Basel II capital regulations
developed for the banking industry.
Presented in July 2004, Basel II adopts
a new approach to the management
of risk and the calculation of capital
requirements. Its three-pillar framework
deals specifically with credit, market
and operational risk and offers banks
the option of using their own internal
risk models to estimate risk and
calculate risk-weighted assets.
Solvency II should be compatible

with valuation standards and thus with
the accounting standards of the
International Accounting Standards
Board (IASB).
The framework should encourage
a level playing field in the financial
industry by being consistent and
compatible with banking regulations.
Small insurance concerns should
be able to comply with Solvency II
without having to incur
disproportionate costs.
Figure 3.1 Solvency II Roadmap
2004
the way we see it
The EC has similar aspirations for

insurance, and is employing a threepillar approach for Solvency II, though
the scope of each pillar will obviously
be tailored to insurance. In the proposed
framework being used in consultations
with the industry, the EC has defined
some general conditions4, including
the following:
The framework should provide
supervisors the ability to assess the
overall solvency of individual life
insurance, non-life insurance and
reinsurance institutions.
This assessment of overall solvency
should be based on a risk-oriented
approach.
The framework should contain
incentives for insurance companies to
measure and properly manage risks.
Solo supervision should remain a
national supervisors task. However,
it should be a goal to harmonise
supervision across member states.
In developing the framework, the

EC is using the so-called Lamfalussy
method, which takes a phased
approach to legislative and regulatory
changes to ensure that EC-wide,
national and industry issues are
addressed separately but consistently.
In the case of Solvency II, Level 1
focused on developing the framework
and should, based on current timelines,
be adopted by July 2007. In the
next levels, technical details will be
worked out (until 2009) followed by
implementation across the countries
involved. According to current timelines,
Solvency II should take full effect in
2010 (see Figure 3.1).
Within the Lamfalussy approach,
the CEIOPS has an important
advisory role on Solvency II. The
EC initiated three waves of calls
for advice from the CEIOPS. The
consultations yielded responses in June
and November 2005 and May 2006,
which together provide the first
indications of what the three-pillar
framework requires.
Source: European Commission, Amended framework for consultation on Solvency II, April 2006
Pillar I
Quantitative Requirements
Pillar II
Supervisory Review Process
Pillar III
Market Discipline
MCR
Corporate Governance &

Internal Control
Supervisory Disclosure
SCR; Standard Formula,

Internal Models
Supervisory Review Process

Supervisory Powers
Public Disclosure
Risk Dependencies
Risk Mitigation
Safety Measures
Solvency Control Levels
Technical Provisions
Risk Management Function

Asset & Liability Management
Material, Quantifiable Risks
All Risks
Subjects
Pillar I contains four items of note.

First, it stipulates how technical
provisions should be calculated. The
CEIOPS adviceand thus potentially
the frameworkadvocates a policy-bypolicy valuation (rather than a portfolio
approach) and a calculation of the risk
margin per business line. Second, the
pillar stipulates Minimum Capital
Requirements (MCR), which CEIOPS
explains as follows5: The MCR reflects
a level of capital below which an
insurance undertakings operations
present an unacceptable risk to
policyholders. If an undertakings
available capital falls below the MCR,
ultimate supervisory action should be
triggered. Third, Pillar I contains
Solvency Capital Requirements (SCR),
and states that the SCR level of capital
should be enough to allow an insurer
to absorb unforeseen losses and should
assure the desired level of policyholder
protection. Insurers have the option of
calculating the SCR, which must take
into account all material and quantifiable
risks, using a standard formula or using
(partly or wholly) an internal model.
Smaller insurance companies are likely
to use the standard formula, allowing
them to comply without incurring
disproportionate costs. By using internal
models, though, insurance companies
Figure 3.2 Solvency II Three Pillar Framework
Underwriting Risks
Market Risk
Credit Risk
Operational Risk
Liquidity Risk
ALM Risk
Other
Risks
The Solvency II framework (see

Figure 3.2) mirrors the concept of
its Basel II forerunner. Pillar I deals
with the quantitative determination of
capital requirements, and Pillar II with
the supervisory review process. Pillar III
tackles disclosure, sets requirements
with respect to market transparency
and completes the framework.
can tailor capital requirements to their

specific risk profile. Fourth, Pillar I
deals with investment management
rules. The call for advice focuses on
asset eligibility and high level
requirements for Asset and Liability
Management (ALM), investment and
concentration limits, and the balance
between these items and financial
resources calculated under the
technical provisions, SCR and MCR.
Pillar II pertains to corporate governance,
ALM and investment management rules
and the supervisory review process
(SRP). Corporate governance in the
Solvency II framework focuses on risk
management processes and the internal
control function. The involvement of

the board of directors and that of senior
management are frequently stated
requirements. Other requirements relate
to fit and proper personnel, risk
strategies, risk reporting, responsibilities,
independence of functions, and risk
management policies and procedures.
An important feature of Pillar II is
the power of the supervisor to require
additional capital, resulting in a
so-called adjusted SCR, and to take
measures to reduce risks. Pillar III
completes the framework with a set
of disclosure requirements. Unlike
Basel II, which only demands market
disclosures, Solvency II establishes rules
for supervisory and public disclosure.
Source: CEIOPS, Answers to the European Commission on the second wave of Calls for Advice in the framework of the Solvency II project, October 2005.
10
Financial Services
Risk
Management
Systems
Return
on Invested
Capital
Capital Allocated
in Line with
Actual Risks
3.3 Improved Risk Management

Solvency II reflects the ECs desire to link
solvency capital more directly to the
actual risks faced by an individual
insurance company, and it contains
specific incentives to encourage
insurance companies to improve their
risk management function. In short,
insurers will be able to directly influence
their solvency capital requirements in
a number of ways under Solvency II.
First, each insurance company has
three options for calculating SCR,
and the more advanced the chosen
approach, the lower the SCR will
be, all else being equal.
Second, the formula used to calculate
the SCR is likely to be based on Tail
Value at Risk (TailVaR; see Appendix
2). TailVaR, unlike Value at Risk
(VaR), takes account of losses in the
tail of a distribution. By reducing the
magnitude of losses in the tail, an
insurance company can reduce
solvency capital.
The third incentive for insurers is in
Pillar III, which demands that insurers
report risks to market parties, such
as investors and rating agencies.
Insurers that demonstrate superior
risk-management capabilities should
enjoy higher company ratings (and
potentially share prices) than those
companies that prove to be less
sophisticated in risk management.
3.4 Solvency IIs Impact on

Insurance Marketing Policies
The Solvency II model will require
insurance groups to allocate capital
based on insurance, financial and
operational risks. It is therefore likely
that levels of solvency capital will vary
between insurance companies with
different risk profiles. This disparity
will create strategic opportunities.
We strongly believe insurance
companies will be presented with
four avenues through which they
can gain a competitive edge as a
result of Solvency II:
I. Competitive Advantage in
Capital Requirements
Specific types of insurance companies
will benefit from lower capital
requirements than their competitors,
due to differing company profiles.
Large insurers are expected to benefit
from risk diversification, both
geographically and across portfolios.
Niche players are another group
of potential winners. Some of those
insurance companies will have
relatively simple and low-risk
portfolios that will have relatively
lower capital requirements.
the way we see it
Indeed, the Standard & Poors

credit-rating agency has said leaders
in adopting Solvency II principles may
benefit from significant competitive
advantages, while laggards risk having
to give up their independence or even
quit the market.6
II. Risk-Based Marketing
Until now, insurance companies have
defined the price of new products
based almost solely on technical
insurance indicators. When Solvency
II takes effect, the product price must
also take account of financial and
operational risk indicators. Insurance
companies should also be able to
garner superior portfolio insights from
the historical data and risk modelling
required for Solvency II.
By leveraging risk insights in commercial
activities, insurers can develop a riskbased marketing approach, characterised
by risk-based pricing, targeted portfolios,
more relevant product development,
improved cross-selling, and the buying
and selling of portfolios based on the
underlying risk profile.
In short, we expect the first adopters
of new capital-allocation criteria will
have a competitive edge, making better
strategic choices as they align product
development with the best profitability
on risk ratios.
III. Performance Management
New profitability indicators required to
manage risk will also offer a competitive
advantage to some insurance companies.
The valuation of profitability will no
longer be based on absolute returns
on equity ratios. Rather, profitability
will be based on returns on equity
adjusted for risk capital consumption.
The RORAC (return on risk-adjusted
capital) ratio, which will replace EVA
(economic value added), is considered
to be a better indicator of the risk
capital allocation.
Standard & Poors, Industry Report Card: European Insurance, January 2005
11
Pioneers of Solvency IIs risk-based

principles will gain a competitive
advantage by proactively and promptly
identifying and pursuing profitable
lines of business and abandoning less
profitable ones.
Capgemini advocates the use of
an economic capital approach in
implementing Solvency II (see
Appendix 2 for details). Economic
capital, a recognised risk-based
performance management tool, provides
an approach for steering business based
on the optimal mix of profit and risk.
As such, it provides a performance
management solution that aligns well
with the new Solvency II requirements.
12
IV.External Rating
Pillar III includes requirements
not only on supervisory disclosure,
but on market disclosure. Insurance
companies will be required to report
on risks and the management of risk
in their annual reports. For investors
and rating agencies, such information is
useful in determining creditworthiness.
In the future, then, the share prices and
credit ratings of insurance companies
will be more dependent on risk profile
than ever beforeand it will be in the
best interest of insurance companies to
demonstrate sound risk management.
Financial Services
the way we see it
4 Solvency II and IAS/IFRS
The insurance market faces radical

change due to Solvency II. Indeed, the
French Society of Financial Analysts
(SFAF) has called the new framework
a Revolution in value measurement
and strategy for the insurance sector.7
To fulfil the solvency requirements,
insurance companies must review
both the business processes and the
profitability of their business lines.
Certainly, Solvency II is revolutionary
in that it provides:
A better and more detailed
measurement of risks
The evaluation of company assets at
market value according to IAS/IFRS
accounting principles
A global focus on enterprise risk
management (not only technical
risks but also financial, operational
and other risks)
IFRS 4 (International Financial

Reporting Standard 4) on accounting
for insurance contracts already took
effect in Europe in January 2005, but
IFRS 4 represented only the first phase
of the IASBs project to develop a
comprehensive accounting framework
for insurance companies. In Phase 2,
the IASB will issue a Discussion Paper
detailing new and complete IAS/IFRS
principles on insurance contracts. The
paper is due out by December 31st 2006
(see Figure 4.1).
Then the IASB will deliver definitive
IAS/IFRS principles, currently expected
by September 30th, 2008. The last step
will be to implement an insurance
liabilities evaluation and measurement
model based on fair value. It is due to
take full effect by 2010.
Figure 4.1 IAS and Solvency II Roadmaps
Exposure Draft
Phase 2 (30-Jun)
Discussion Paper
Phase 2 (31-Dec)
IFRS 4
Final IFRS
(30-Sep)
IAS Phase 2
Balance Sheet
Local
Year 1: IAS
& Intl.
Balance Sheet
Acct.
Principles International Accounting Principles
2004
2005
CEIOPS
Answers To Calls
For Advice
2006
2007
Formal
QIS1 QIS2
Adoption of
European Framework
Commission Draft
from
of Directive Commission
(Oct. 2006)
(July 2007)
2008
2009
2010
Definition of
Realisation
Dates
Adoption of
European Commission
Suggestions
Effective Date
Solvency II
Source: Solvency II, une rvolution pour la valorisation et la strategie Analyse Financiere n 20 July,
August, September 2006 from the Dossier Avenir radieux pour lassurance (Translation: Solvency II,
a revolution in value measurement and strategy from the Dossier Great perspectives for insurers)
13
Meanwhile, the EC is expected to finalise

the draft directive of Solvency IIs 3-pillar
framework by October 20068, with
formal EU adoption due by July 2007.
European countries are due to adopt
the Directive in 2008, and insurance
companies are expected to be compliant
by 2010.9 This timeline remains subject
to change, however.
4.1 Solvency II and IAS/IFRS
Phase 2: the guidelines and
the timing of both projects
are crucial
The IAS/IFRS accounting principles
and the Solvency II capital standards
both hinge on the evaluation of
insurance contracts. It is essential to
calculate company liabilities accurately
in order to determine appropriate
solvency ratios and capital requirements.
Insurance contracts are the main
component of an insurance companys
liabilities, and the adoption of IAS/IFRS
accounting rules will create an important
tool for evaluating those contracts.
Phase 2 of the IAS/IFRS project is
expected to deliver the key reference
guidelines on solvency issues. The IASB
aims to create one set of accounting
principles for both financial and
regulatory reporting a set that also
matches the demands of Solvency II.
Currently, however, inconsistencies seem
inevitable. For example, Solvency II
demands that insurers estimate all risks,

including catastrophic and equalisation
risks. IAS/IFRS Phase 1 does not include
provisions for catastrophic risks, though
IAS/IFRS Phase 2 seems to consider the
possibility of making provisions for
identifiable catastrophic risks, such as
earthquakes, in calculating risk margins.
IAS/IFRS Phase 2 insurance principles
are still in the draft stage, and any holdup in the definitive version might delay
the implementation of Solvency II.
On the other hand, if Solvency II took
effect before IAS/IFRS Phase 2, it would
reduce accounting transparency, since
standards would not be harmonised.
Ideally, then, Solvency II regulators
will take IAS/IFRS Phase 2 drafts as
a benchmark, rather than using the
interim Phase 1 rules, in order to
prevent conflicts in the application
of the related disposals and controls.
Certainly, the alignment of Solvency II
and IAS/IFRS Phase 2 principles could
help insurance companies to avoid
the additional expense of updating
information systems and reengineering
business processes to get the data
required for one initiative and
then another.
Source: European Commission, Solvency II Roadmap Towards a Framework Directive, July 2005
Source: CEIOPS Expected Project Time Schedule
14
4.2 Examples of current

differences in the financial
statements of European
insurance companies
According to IFRS 4, an insurance
company must fulfil the local generally
accepted accounting principles (GAAP)
in calculating liabilities until the
definitive IAS/IFRS accounting
principles on insurance contracts
based on fair value are adopted.
As a result, the following issues can
arise currently:
The different evaluation of assets
(at fair value - IAS 39) and liabilities
(local GAAP) means a companys
results can be highly volatile, and
vary significantly from one reporting
period to the next. It can also create
an accounting mismatch. The
mismatch can be mitigated by
short-term investments, but these
may produce an economic loss.
It can be difficult to compare insurance
companies in different countries,
because GAAP differs by location.
IAS principles demand that insurers
distinguish life-insurance contracts
from financial contracts. However,
they do not provide any quantitative
rules for evaluating those contracts,
so GAAP prevails. In Italy, for example,
insurers distinguish life contracts on
the basis of the size of the riskand
that risk is significant, ranging in 2005
from 5% to 10% of the total value of
the contract.
Financial Services
the way we see it
5 2006-2007: The Time

To Approach Solvency II
The new regulatory framework is
revolutionary for the insurance industry.
With Solvency II, regulation will move
away from rules-based supervision
and give companies the lead in
assessing risks and calculating capital
requirements. Based on current work by
the EC, and lessons learned in banking
from Basel II, a few realities are becoming
clear, including the following:
Solvency II regulations will
radically change the business
of insurance groups.
The business scenario is being made
more complex by the concomitant
development of the Solvency II and
IAS/IFRS Phase 2 projects; the timeline
to implement and fulfil these
requirements is extremely tight.
The sooner insurance groups can
adopt an integrated vision and a
structured project approach to
accomplish the changes required
for Solvency II, the better business
opportunities they can get, and the
more likely it is they can beat
the competition and become
market leaders.
Dealing with these realities will create
numerous difficulties for insurance
companies, but the overall challenge
is essentially two-fold. First insurers
must ensure robust implementation
of Solvency II. Second, and more
importantly, they must decide how
to recognise and utilise the strategic
opportunities of the new framework
(as discussed in section 3.4).
To fulfil Solvency II and IAS/IFRS

Phase II requirements, European
insurance companies must accomplish
an in-depth review of their business
processes, information systems and
organisational structures. In short,
they should spend coming months
defining their Solvency II business
and operating plans.
We advocate an integrated vision,
using a structured project plan that
addresses the following themes:
1. Design of future risk management
model. A first design of the
Integrated Model for financial,
technical and operational risk.
2. Strategy to manage required
organisational and commercial
changes.
3. Future state design of risk data
management and reporting function.
The next step is to ingrain the new
business model into the organisation,
so it can drive business decisions
optimally. The change process will
entail multi-year programmes, involving
people, processes and technology
throughout the organisation, and it
is critical that the process be iterative.
15
Figure 5.1 Project Scope for Adopting a New Enterprise Business Model
Corporate Governance Model
Processes and
Procedures
Structure
Risk
Management
System
Internal Control
System
Information System
To develop a company-specific roadmap

to prepare for Solvency II, Capgemini
strongly recommends that insurance
companies conduct three key initiatives:
Compliance Scan
Compliance scans are a useful tool
in identifying weak spots in the risk
management domain. Insurance
companies can develop a checklist
of likely needs, based on available
Solvency II guidelines, and use that
list as a framework for assessing
people, processes, procedures and
existing methodologies. The outcome
of the compliance scan provides
valuable context for crafting the
Solvency II change programme.
Development of (Quantitative)
Advanced Risk Management
Skill Sets
One lesson learned from Basel II is
that the implementation of such a
framework demands both knowledge
and resources in various areas.
16
Accordingly, insurers should make

sure to assess resource availability
in the preparation phase and act
on the outcome. They should,
for example, make sure they
have adequate quantitative risk
management expertise for risk
modellinga resource that many
banks have found to be in short
supply in preparing for Basel II.
Pre-Emptive Data Management
and Data Gathering
With Solvency II taking effect
around 2010, it is critical for
insurance companies to start
capturing and manage the right
risk data in the right way as soon
as possiblein order to avoid
costly manual risk data gathering
and recovery later. First, capital
calculations require enterprise data,
so data from all business units or
sub-divisions must be unified and
stored. Second, adequate data history
must be developed for model
validation purposes.
Financial Services
the way we see it
6 Survey results
6.1 Importance and

Development of
Risk Management
The risk management function will
change significantly in coming years
amid the move to a more risk-based
solvency approach. The new supervisory
regime will force insurance companies
to be proactive in moving to Solvency II
compliance. In preparing for Solvency II,
it is vital for insurance companies to
understand the importance of the
five types of risk that are central to
the framework and to assess where
they stand in their ability to manage
those risks.
What Levels of Importance

Do the Following Areas of Risk
Have In Your Company at the
Present Moment?
The five risks defined by the IAA are
insurance technical risk, market risk,
credit risk, operational risk and liquidity
risk. Survey responses show market risk
and insurance technical risk are the most
important types of risk for insurance
companies (see Figure 6.1). Each risk
scored a 3.7 on a scale from 1 (low
importance) to 4 (high importance),
followed by credit risk and operational
risk (both scoring 3.0). Liquidity risk
is the least important (2.3).
Figure 6.1 Present Level of Importance Per Risk Area
4.0
All insurance companies

Life
Non-Life
Both Life and Non-Life
Importance
1 (no importance) to 4 (high importance)
3.5
3.0
2.5
2.0
1.5
1.0
Insurance
Market
Credit
Operational
Liquidity
Risk Area
Source: Capgemini Analysis, 2006
17
This assessment differs little between

large insurance companies and small
and medium-sized companies, though
large companies generally assign
slightly more weight to most risk
types. For technical risk, though, large
companies actually assigned slightly
less importance (0.1) to the risk than
did the smaller companies.
Considering different insurance
businesses, technical risk is more
important for non-life insurance (4.0)
then for the other segments (life, 3.5,
combined life and non-life, 3.6). Not
surprisingly, market risk is paramount
in the life business (4.0), where horizons
are long, and there is a big difference
between the maturities of premiums
and claims. The gravity of market risk
is slightly lower for non-life companies
(3.6) and those operating in both
segments (3.7).
What Level of Importance Do You

Think the Different Areas of Risk
Will Have in the Future?
The importance of these five risk types
changes little in the future. Again,
insurance technical risk and market
risk are deemed most important (both
3.8), followed by operational risk (3.3)
and credit risk (3.2). Liquidity risk is
still least important, with a score of
2.6. As is the case in the current state,
the importance of a specific risk type
varies most between countries for
credit risk and liquidity risk, though
the divergence is slightly larger in the
future assessment.
Survey respondents expect all types of
risk to become more important in the
future, with the gravity of individual
risk types rising as much as 12.3% (for
operational risk - see Figure 6.2). The
increased focus on operational risk

no doubt reflects a real increase in
such risks, but it is probably also a
manifestation of the increased attention
that operational risk has received in
recent compliance initiatives, from
Basel II to Sarbanes-Oxley.
Again, large insurance companies tend
to assign a greater importance to all risk
types than do small and medium-sized
insurers. Only for market risk is the
same score assigned (3.8). The largest
gap in perceived importance lies in
credit risk, where large insurers assigned
a 3.4 score, compared with 3.0 among
smaller ones. Again, certain risks are
expected to remain more important
to some segments than others in
the future, though the size of those
differences between businesses
tends to decrease in the future.
Figure 6.2 Increase of Importance Per Risk Area
14.0%
12.3%
11.7%
12.0%
% Increase
10.0%
8.0%
6.8%
6.0%
4.0%
3.4%
2.1%
2.0%
0.0%
Insurance
Market
Credit
Risk Area
18
Operational
Liquidity
Financial Services
For the Following Areas of Risk,

Have You Established a Risk
Management Procedure?
Managing risk is not just a matter of
developing tools and models. It is
equally important that the tools and
models be used properly. Pillar II of
the Solvency II directive will contain
requirements related to processes and
procedures for identifying, measuring,
monitoring and managing risks. These
strategies, policies and procedures
should assure adequate day-to-day
execution of risk management activities.
Processes and procedures should be in
place for each risk type, and should be
updated on a regular basis. It is likely
that all insurance companiesregardless
of size or segmenthave procedures
for the defined risk types, but the
level of detail and quality will vary
among companies.
The survey shows the existence of

risk management procedures for a
specific risk type largely depends
on the importance of the risk type.
Procedures are established for
insurance technical risk and market
risk at 77.8% of all survey participants.
For operational risk and liquidity risk,
such procedures are in place for only
47.6% and 46.8%, respectively. (We
assume that respondents who say
procedures are not in place mean
those procedures are not properly
established, as opposed
to being non-existent.)
In fact, the presence of risk management
procedures is exactly in line with the
stated importance of those risks when
we consider the number of insurance
companies that have established or
recently started risk management
the way we see it
procedures. In other words, there are

relatively more companies with risk
management processes for the more
important risk types. In the case of
operational risk, the majority (47.6%)
have procedures in place and many
(30.2%) have recently started to employ
such processes.
Procedures for managing market,
credit and operational risk are equally
prevalent across business segments
(see Figure 6.3). However, 100% of
non-life companies have well- or
recently established procedures for
managing insurance technical risk,
though only 28.6% have processes
for handling liquidity risk. That is far
less than the 84.6% of life insurance
companies and 55.6% of companies
operating in both life and non-life that
have liquidity-risk processes in place.
Figure 6.3 Presence of Risk Management Procedures Per Risk Area

Life
Non-Life
100%
% of Companies with Procedure

Established or Recently Started
80%
60%
40%
20%
0%
Insurance
Market
Credit
Operational
Liquidity
Risk Area
19
How Would You Assess Your Risk

Management Processes Within
These Different Areas of Risk?
Insurance companies are more confident
in their ability to manage market and
technical insurance risk than other
types of risk. On average, market risk
management processes scored 3.3 on
a scale from 1 (bad) to 4 (very good).
Technical-risk activities scored a 3.0,
while the marks were lower for credit
risk (2.8), and liquidity risk (2.4).
Participants were least confident in
operational risk management processes,
which received a grade of 2.3.
Among individual countries, assessments
differed most widely on credit and
liquidity risk. Large insurance companies
generally believe their processes to be
of a slightly higher quality than do
smaller companies. (The difference in
scores ranged from 0.1 for liquidity
risk to 0.4 for credit risk.)
Life insurance companies are less
confident in their capabilities than
non-life businesses, except in the
case of managing liquidity risk, which
life insurers scored at 2.7, compared
with the non-life score of 1.5. According
to the assessments by survey
participants, non-life insurance
companies have the best processes
for insurance technical, market and
operational risk management, while
insurance companies operating in
both life and non-life segments are
best at handling credit risk.
10
20
How Important are the

Various Areas of Risk
Relative to Your Companys
Aggregated Risk Exposure?10
Solvency II aims to create a level playing
field across the financial sector in
Europe. As a result, there are definite
similarities between Basel II and
Solvency II. Nevertheless, fundamental
differences between the industries also
require the two frameworks to diverge.
In particular, Basel II focuses on the
asset side of bank balance sheets, while
Solvency II targets the liabilities side
for insurers. Also, Basel II reflects the
paramount importance of credit risk to
banking, while Solvency II must reflect
the relative importance of different
risk types to insurance companies.
Our survey shows market risk is the
most important risk type for European
insurance companies, accounting for
38% of aggregate risk exposure (see
Figure 6.4). Insurance technical risk
is second, accounting for 31% of total
risk. Credit risk (13%) and operational
risk (14%) are next, and about equally
important, while liquidity risk accounts
for only 6% of total risk. Respondents
were also asked to identify any other
important risks they face. Several cited
business risk, but the results offer no
insight into the degree of exposure to
that type of risk.
Since Solvency II is a pan-European
initiative, we generally did not dissect
the survey results by country or region.
However, we thought it would be
interesting to look for any country
divergence in risk exposure, since such
differences might pose a challenge for
the EC as it seeks to unify solvency
regulations. Significantly, the survey
confirms insurance companies in
northwest European countries have
a different risk profile from those
operating in southern European
countries.
Methodology: participants are asked for an assessment of their risk profile by dividing total (100%) risk over
the five risk types. Guidance was given by dividing the whole spectrum in five categories. But more specific
answers were also given and used. To assure total risk of 100% per respondent, some of the answers were
calibrated by the survey team.
Financial Services
In southern Europe, market risk

represents a smaller share of total
risk than it does in the northwest or
in Europe as a whole, while operational
risk plays a larger role (see Figure 6.4).
Liquidity and credit risk are also more
important than in the northwest or the
continent as a whole. For insurance
companies in northwest Europe, market
risk accounts for 44% of aggregate
exposure, significantly more than in
southern Europe, and more than the
continents average, while operational and
liquidity risk are relatively less important.
The survey does not offer a rationale
for these divergences. It is possible
that companies in different regions
simply define risk categories differently,
or that the sampling itself has skewed
the results. CEIOPS quantitative
impact studies may provide more
insight into the risk definitions and
insurer risk profiles.
Risk profiles do not seem to differ
much with company size. Market,
operational and credit risk make up
much the same proportion of risk for
large and small and medium-sized
insurance companies. Insurance
technical risk accounts for a greater
portion of total risk at smaller companies
(35% vs. 27% at larger companies),
while credit risk accounts for less
(11% vs. 16%).
the way we see it
Figure 6.4 Relative Risk Exposure Among Insurers, by Region

Region North-West
All Insurance Companies

Liquidity
6%
Operational
14%
Insurance
31%
Liquidity
3%
Operational
11%
Region South
Liquidity
10%
Insurance
32%
Operational
19%
Insurance
31%
Credit
12%
Credit
13%
Market
44%
Market
38%
Credit
15%
Market
25%
Figure 6.5 Relative Risk Exposure Among Insurers, by Business

Life Insurance Companies
Liquidity
8%
Operational
13%
Insurance
22%
Liquidity
2%
Operational
11%
Credit
9%
Credit
16%
Market
45%

Insurance Companies
Non-Life Insurance Companies
Insurance
47%
Liquidity
7%
Operational
16%
Insurance
29%
Credit
13%
Market
32%
Market
35%
Risk profiles do differ among insurance

businesses, though (see Figure 6.5).
Market risk accounts for the largest
share of aggregate risk exposure for
life insurance companies (45%), while
insurance technical risk looms largest for
non-life businesses (47%). Interestingly,
companies involved in both life and
non-life are exposed to more operational
risk (16% of total risk) than companies
dedicated to one business or the other,
but their exposure to other types of
risks generally lies somewhere between
the two.
21
Which Factors Will Influence

Your Future Development
and Improvement of Risk
Management Processes?
The EC hopes Solvency II will encourage
insurance companies to become more
sophisticated risk managers. Indeed, the
framework offers capital incentives to
those that move past mere compliance
and adopt a risk-based approach. But
are insurance companies also looking at
Solvency II as a business opportunity?
And what is really driving any plans to
develop their risk management function?
The survey shows regulatory
compliance is still the main driver
behind improvements in risk
management processes (see Figure 6.6).
Regulatory compliance scored an
average 3.8, on a scale from 1 (no
influence) to 4 (high influence). Other
facets of compliance are also quite
important, including the requirements
of the company owner (3.2) or the
market (3.0).
Business logic, however, is the second

most powerful force (3.3). Losses
incurred by others provide the least
impetus for improving risk management
(2.1), and few companies are driven
by aspirations to be risk-management
pioneers (2.2).
Losses incurred by own company
seem to be more influential in cases
where the loss has been considerable.
The distribution of survey responses
on this driver was widespread, and
suggests a company that experienced
major losses over an extended period
is more likely to be driven by that loss
to improve risk management than a
company that has suffered only a mild,
short-term loss. Generally, though,
insurance companies do not seem
to be image-driven when it comes
to improving their risk-management
function, though reputational risk is
always an issue.
Figure 6.6 Level of Influence on the Development and Improvement in Risk

Management Processes
1 = No Influence
4 = High Influence
Comply with
regulatory requirements
4.0
Image driven
3.5
3.0
Comply with
the requirements
of the owner
2.5
2.0
In short, the survey results show

insurance companies know they need
to comply with new regulations, and
many believe enhanced risk management
could improve their business and
revenues. Few, however, see enough
benefits to want to pioneer risk
management advances.
6.2 Risk Management
Organisation and Processes
Does Your Company Have a Risk
Strategy Related to Risk Classes
and Overall Risk Exposure?
The economic capital framework
presented in Appendix 2 starts by
defining the risk appetite and scope
for economic capital management
two aspects of corporate risk strategy.
Solvency II will require insurance
companies to develop risk strategies,
and the board of directors will need to
be involved in the process, and informed
about these strategies at all times.
Day-to-day risk management activities
should reflect the strategies defined.
Most European insurance companies
have such strategies for the most
important risk typesinsurance
technical risk and market risk (see
Figure 6.7). Credit risk comes third,
with slightly more than half of the
insurance companies having a strategy
fully in place (52.4%). For operational
risk, most companies are in the
decision-making or implementation
stage. For liquidity risk and overall
risk, about one-third have neither set
a strategy nor decided on one.
1.5
Comply with
market requirements
Be a pioneer in
risk management
Business
driven logic
Losses made
by others
Losses in
own company
22
As is the case with the presence of risk

frameworks, strategies are more common
for large insurance companies, where
processes are in place or partly in place
for between 63.0% (liquidity risk) and
93.5% (market risk) of all companies,
depending on the risk type. For small
and medium insurance companies
these percentages range from 37.5%
(overall risk) to 78.1% (market risk).
Less than 40% of the companies in
this group have any type of liquidityrisk strategies in place. There is little
significant difference between strategy
positions among business segments,
Financial Services
with results per business type fluctuating

around the average of all companies,
with an absolute maximum deviation
of 14.4%.
Does Your Company Have
a Department With Overall
Responsibility for the Companys
Risk Exposure? Do You Account
for Dependencies Between Risks?
If You Have Established / Plan to
Establish Such a Unit, Where in the
Organisation Does / Will It Reside?
Solvency II contains requirements for
overall risk and risk interdependencies.
The survey shows 55.6% of European
insurance companies already have a
department with overall responsibility
for risk. An additional 17.5% have
such responsibilities partly in place.
The remaining 27.0% have not assigned
overall responsibility for risk to any
specific department(s).
Among small and medium-sized
insurance companies, overall
responsibility is in place for 53.1%,
partly in place for 15.6% and not
in place for 31.3%. Among large
insurance companies, 58.1% have
assigned overall responsibility for risk,
19.4% have partly assigned it, and
22.6% have no overall governance.
Companies with both life and non-life
insurance businesses are less likely
than life or non-life companies to have
assigned (wholly or partly) overall
responsibility for risk. Admittedly, the
organisational structure of life/non-life
companies is generally more complex,
perhaps making it more difficult to
assign overall responsibility. The survey
shows 63% of companies involved in
both businesses have defined overall
responsibility for risk, a much smaller
proportion than life insurance (80.0%)
or non-life insurance companies (81.3%).
The department (or departments) to
which overall responsibility is assigned
varies by company. Most common is
a risk-controlling or risk-management
unit in the insurance organisation
(see Table 6.1). For companies with
a department responsible for overall risk,
the way we see it
Figure 6.7 Presence of Risk Strategy Per Risk Type

100%
3.2%
6.3%
90%
11.1%
3.2%
4.8%
6.3%
15.9%
80%
3.2%
11.1%
9.5%
17.8%
17.7%
15.6%
14.5%
13.3%
12.9%
9.5%
11.1%
20.6%
22.2%
22.2%
70%
69.8%
60%
22.2%
57.1%
8.9%
52.4%
50%
17.7%
44.4%
40%
38.1%
37.1%
30%
20%
10%
0%
Insurance
Market
Credit
Operational
Liquidity
Overall Risk
In Place
Partly In Place
Planned
Decision Not Taken
No
Table 6.1 Department with Overall Responsibility for Risk
Departments
% of companies that assigned overall

responsibility to this department
1. Project team in the IC
2.3%
2. Controlling unit in the IC
23.3%
3. Risk controlling/risk management
51.2%
4. Other staff division in the IC
4.7%
5. Board of directors of the IC
25.6%
6. Corporate level
23.3%
7. Others
9.3%
Total (multiple answers possible)
139.5%
23
51.2% embed it in a risk controlling/

management unit. Other popular
overseers are the controlling unit, the
board of directors and the corporate
level (e.g., corporate risk controlling).
Figure 6.8 Presence of Integrated Risk Management
100%
8.3%
90%
Solvency II will contain more

complex requirements than Basel II
with respect to risk dependencies.
Basel II includes a general function
to calculate diversification effects,
but Solvency II will have a set of
requirements more tailored to specific
circumstances. The survey shows 34.9%
of European insurance companies
already take risk interdependencies
into account, and the process is partly
in place for another 27.9%. Those
averages also hold largely true for
small and medium-sized insurance
companies, where 57.1% already have
processes wholly or partly in place
to account for interdependencies,
compared with 68.2% of large
companies and 62.8% of all companies.
Is Your Risk Management Integrated?
What Importance Do You Consider
Integrated Risk Management to Have?
Integrated risk management takes
account of the active influence of
all aspects of all kinds of risks at the
same time, considering the correlation
between the risks in order to control
the potential loss by selectively using
control measures. The survey shows
all European insurance companies
regardless of size or segmentbelieve
integrated risk management is very
important, with a score of 3.7 on
a scale from 1(low importance) to
4 (high importance).
12.5%
4.2%
4.2%
16.7%
12.5%
20.8%
80%
12.5%
29.2%
70%
22.9%
8.3%
60%
16.7%
50%
45.8%
43.8%
40%
41.7%
30%
20%
In Place
Partly In Place
Planned
Decision Not Taken
No
10%
0%
All Insurance
Companies
Small and Medium

Insurance Companies
Large Insurance
Companies
Figure 6.9 Presence of Internal Risk Reporting Processes Per Risk Type
100%
90%
7.9%
6.3%
6.3%
6.3%
3.2%
9.5%
4.8%
11.1%
12.7%
17.5%
16.1%
17.4%
16.1%
4.8%
6.3%
80%
17.4%
12.7%
17.5%
77.8%
70%
11.1%
60%
23.8%
61.9%
58.7%
8.7%
8.7%
9.7%
21.0%
50%
47.8%
40%
39.7%
37.1%
30%
20%
10%
0%
Insurance
Market
Credit
Operational
Liquidity
Overall Risk
In Place
Partly In Place
Planned
Decision Not Taken
No
24
Financial Services
Of all participating insurance companies,

43.8% already have integrated risk
management in place (see Figure 6.8),
while 22.9% are in a transition phase.
Similarly, 41.7% of small and mediumsized insurers have integrated risk
management in place, while 16.7% are
in transition, compared with 45.8% and
29.2%, respectively, of large insurers.
However, a large number of the smaller
companies have not yet decided to
adopt integrated risk management.
manner and appropriate form to risk

management, senior management
and the board of directors, depending
on their information needs. The
complexity of Solvency II, and in
particular the interaction between
risks, will require even more
sophisticated internal reporting.
Again, capabilities are strongest
in the area of market risk. Of all
participating companies, 77.8% have
processes in place for market risk
reporting (see Figure 6.9), followed by
insurance technical risk (61.9%) and
credit risk (58.7%). The implementation
of risk reporting processes for
operational risk is only complete at
39.7% of companies. However,
insurance companies are progressing,
as evidenced by the fact that 23.8%
have reporting processes for operational
risk partly in place and 17.5% are
planning to adopt such processes.
6.3 Internal Reporting

Does Your Company Have a Reporting
Process That Takes Into Account Both
Individual Categories of Risk and the
Interdependencies Between Them?
Adequate management and control over
risks requires high-calibre reporting
processes that form an institutionalised
procedure in which flows, roles and
responsibilities are regulated. Risk
reports provide vital information
and should be available in a timely
the way we see it
Again, small and medium-sized

insurance companies are less
advanced than large companies.
The number of small and medium
insurance companies with reporting
processes in place or partly in place
ranges from 42.1% for liquidity risk to
78.1% for insurance technical risk.
For large insurance companies, the
range is from 64.3% for liquidity risk
to 93.5% for market risk.
Across business types the number of
insurance companies that have reporting
processes in place is relatively low
among companies with both life and
non-life business (see Figure 6.10). For
four of the six risk types, this group
scores lower than the groups comprising
companies active in only the life or
non-life segments. Remarkable are
operational risk and overall risk, where
the number of companies with reporting
processes in place or partly in place is,
in absolute figures, between 10% and
37% lower than for the two other groups.
Figure 6.10 Presence of Internal Risk Reporting Processes Per Risk Type, by Business
100%

Life
Non-Life
% of Companies with Process

In Place or Partly In Place
80%
60%
40%
20%
0%
Insurance
Market
Credit
Operational
Liquidity
Overall Risk
Risk Area
25
Does Your Company Issue an Internal

Report on Each Risk Type and On
Risk Interdependencies? If So, Who
Receives Which Reports?
The risk report most commonly
available in the desired form relates
to market risk (see Table 6.2). About
90% of companies create internal
reports on market risk, and more than
83% of companies create insurance
technical risk and credit risk reports.
Least prevalent are liquidity risk
reports, which are available at about
60% of participating insurance
companiesalthough that number is
perhaps higher than expected, given
that insurance companies assign a
relatively low importance to liquidity
risk. In fact, though, a similar number
of companies also have available
operational-risk and riskinterdependency reports.
Table 6.2 Availability of Reports Per Risk Type

Report Availability in %
Insurance Technical Risk
83.6%
Market Risk
90.7%
Credit Risk
83.3%
Operational Risk
69.8%
Liquidity Risk
60.5%
Dependencies Between Risk
66.0%
Figure 6.11 Distribution of Reports
Local Division/Department Heads

Head Controlling
It is not surprising that internal reports

are so readily available for the more
common risk types, since these are
typically required by regulation. But
it is worth noting that the absence of
a report does not necessarily equate
to an omission. Some reports are not
required (in the case of small companies,
for example), and some information
may be relayed in a form the survey
respondents do not class as a report.
When a company has a report for a
specific risk type it goes, on average, to
four divisions or division heads in the
organisation. In other words, a single
report is typically sent to four different
departments in that insurance company.
The board of directors receives 81.3%
of all risk reports (see Figure 6.11). Risk
management or risk controlling receives
56.2%, followed by internal audit
(51.5%). Solvency II requires tangible
involvement in risk by the board and
senior management a term that has
not yet been clearly defined but is likely
to include local division/department
heads, who now receive 42.6% of
available reports.
26
Head Risk Controlling/

Risk Management
Head Finance
Head Accounting
Head Other Staff Division
Board of Directors
Division at Group Level
Internal Audit
External Accountant
Other Division
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
Financial Services
With respect to risks, 55.8% of insurance

companies have an open mind toward
the dynamics and transparent handling
of risk. Also positive is their openness
to changean attitude that exists among
59.6% of the participating European
insurance companies. In fact, no
company said it would not reconsider
its risk management approaches.
Which Department(s) Within Your
Company Is (Are) Responsible For
Solvency II?
Of survey participants, 11.1%
have not assigned responsibility for
Solvency II to any department (see
Table 6.3). Of those that have assigned
the responsibilityto one or more
departments42.9% said responsibility
resides with the central risk controlling
or central risk management unit, and
25.4% put a project team in charge
to ensure sound implementation. The
board of directors is widely expected
to sponsor Solvency II efforts, but is
held directly responsible at only
17.5% of companies.
Figure 6.12 Assessment per Solvency II Relevant Aspect

70%
Existent
Partly Existent
Non Existent
60%
50%
% of Total
6.4 Legal Framework

Solvency II: How Would You Assess
Your Company With Regard to the
Following Aspects?
Lessons learned from Basel II suggest
insurance companies will have to work
hard on Solvency II in the coming
years. The road to timely compliance
will be paved with new experiences,
cultural change and potential pitfalls.
Prerequisites include proper information,
free capacity and know-how for
implementation. The survey shows most
European insurance companies
regardless of size or segmentbelieve
they are only partly armed for the
challenge (see Figure 6.12). Since
Solvency II offers different approaches,
it makes sense that the size of the
company does not affect its perceived
readiness for the new framework.
the way we see it
40%
30%
20%
10%
0%
Know-How
Level of
Free Capacity
for SII
Information of
for SII
Employees on SII Implementation Implementation
Open Attitude Open to Changes

Towards Risk
Risk Area
Table 6.3 Department Responsible for Solvency II
Not Defined
11.1%
Department
% of Companies That Assigned

Responsibility for Solvency II
to this Department
Project Team in IC
25.4%
Central Controlling Unit in the IC
17.5%
Central Risk-Controlling Unit/

Risk-Management Unit in the IC
42.9%
Other Staff Department in the IC
15.9%
Direct Responsibility of the

Board of Directors of the IC
17.5%
Group (e.g. Group Risk Controlling)
12.7%
Others
9.5%
Total (Multiple Answers Possible)
152.4%
27
6.5 Methods of Risk Management

Which Methods and Dimensions
Do You Use in the Risk Management
Process for the Various Risk Types?
Which of Them Do You Plan to Use?
For each risk type, there are several
common methods used in the riskmanagement process. None is the
obviously preferred method (see
Figures 6.13AD), with the exception
of actuarial methods to manage
insurance technical risk, CEIOPS
documentation refers often to stress
tests, scenario analysis and simulation
techniquesmethods that will be
required where they can help assure
robustness and validation of models.
Actuarial methods are also relevant.
Taking the average use per risk type,
simulation techniques are the least
used method with 23.3% (average of
as is percentages for insurance, market,
ALM and loss/solvency/credit risk),
followed by actuarial methods (30.5%),
scenario analysis (37.7%) and stress
testing (39.1%). Where most methods
are more or less used equally across
risk classes, actuarial methods are
typically reserved for insurance risk.
Taking into account that insurance
companies have methods partly in
place (as is / to be) or are planning
to implement a method (to be), stress
testing and scenario analysis are likely
to be used most in the future, while
actuarial methods remain favoured
for managing insurance risk. Only a
few participants plan to use actuarial
approaches for other risk types.
Figure 6.13A Usage of Stress Testing Per Risk Type
100.0%
As Is
As Is/To Be
To Be
90.0%
80.0%
25.5%
12.7%
70.0%
18.2%
18.2%
60.0%
18.2%
50.0%
10.9%
47.3%
40.0%
14.5%
43.6%
9.1%
34.5%
30.0%
30.9%
20.0%
10.0%
0.0%
Insurance
Market
ALM
Loss/Solvency/Credit
Figure 6.13B Usage of Scenario Analysis Per Risk Type
100.0%
As Is
As Is/To Be
To Be
90.0%
80.0%
16.4%
12.7%
70.0%
60.0%
20.0%
16.4%
23.6%
18.2%
50.0%
40.0%
30.0%
9.1%
45.5%
40.0%
10.9%
34.5%
30.9%
20.0%
10.0%
0.0%
Insurance
28
Market
ALM
Financial Services
the way we see it
Figure 6.13C Usage of Simulation Techniques Per Risk Type
100.0%
As Is
As Is/To Be
To Be
90.0%
80.0%
70.0%
27.8%
21.8%
60.0%
25.5%
50.0%
16.4%
40.0%
27.3%
9.3%
30.0%
29.6%
7.3%
27.3%
23.6%
20.0%
3.6%
12.7%
10.0%
0.0%
Insurance
Market
ALM
Figure 6.13D Usage of Actuarial Methods Per Risk Type
100.0%
As Is
As Is/To Be
To Be
90.0%
10.9%
80.0%
25.5%
70.0%
60.0%
50.0%
52.7%
5.5%
40.0%
12.7%
30.0%
5.5%
10.9%
29.1%
3.6%
21.8%
20.0%
3.6%
18.2%
10.0%
0.0%
Insurance
Market
ALM
29
Various risk management methods are

used quite commonly in the European
insurance industry, but certain measures
or dimensions are not. Of the dimensions
named, Value at Risk is used most often
(see Figures 6.14AD). Depending on
the risk type, between 18.5% and 36.4%
of companies use VaR. Variance is the
second most frequently used measure,
followed by probability of economic
ruin. Expected policy holder deficit,
RAROC and RORAC are hardly used.
Significantly, Solvency II will contain
explicit requirements related to the use
of VaR (TailVaR) and probability of
economic ruin, so the survey results
highlight a significant potential
capabilities gap for many in the
European insurance industry.
Figure 6.14A Dimensions Used for Insurance Technical Risk Management

100.0%
As Is
As Is/To Be
To Be
90.0%
80.0%
70.0%
60.0%
23.6%
50.0%
40.0%
18.2%
7.3%
12.7%
30.0%
9.1%
20.0%
3.6%
5.5%
10.0%
7.3%
21.8%
16.4%
7.3%
12.7%
20.0%
3.6%
5.5%
0.0%
Variance
Coefficient Probability of
of Variation Economic
Ruin
VaR
Expected
Policy Holder
Deficit
9.1%
3.6%
1.8%
RAROC
7.3%
3.6%
5.5%
RORAC
Figure 6.14B Dimensions Used for ALM Risk Management

100.0%
As Is
As Is/To Be
To Be
90.0%
80.0%
70.0%
60.0%
50.0%
18.5%
40.0%
14.8%
30.0%
11.1%
20.0%
5.5%
5.6%
5.5%
10.0%
3.6%
5.5%
12.7%
0.0%
Variance
30
12.7%
12.7%
13.0%
3.6%
Ruin
18.5%
VaR
3.6%
3.6%
3.6%
1.8%
1.8%
Expected
RAROC
Policy Holder
Deficit
3.6%
3.6%
RORAC
Financial Services
the way we see it
Figure 6.14C Dimensions Used for Market Risk Management

100.0%
As Is
As Is/To Be
To Be
90.0%
80.0%
16.4%
70.0%
60.0%
20.0%
50.0%
40.0%
7.3%
30.0%
36.4%
5.5%
12.7%
25.5%
20.0%
12.7%
5.5%
5.5%
10.0%
3.6%
14.5%
12.7%
3.6%
7.3%
10.9%
0.0%
Variance
Ruin
VaR
5.5%
3.6%
1.8%
1.8%
Expected
RAROC
Policy Holder
Deficit
RORAC
Figure 6.14D Dimensions Used for Loss/Solvency/Credit Risk Management

100.0%
As Is
As Is/To Be
To Be
90.0%
80.0%
70.0%
60.0%
50.0%
14.8%
40.0%
30.0%
14.5%
9.3%
5.5%
20.0%
22.2%
3.6%
18.2%
1.8%
3.6%
9.1%
10.0%
1.8%
14.5%
0.0%
Variance
Ruin
VaR
14.5%
1.8%
3.6%
3.6%
1.8%
Expected
RAROC
Policy Holder
Deficit
12.7%
1.8%
7.3%
RORAC
31
Figure 6.15 Presence of Internal Model(s)
100%
5.5%
14.5%
90%
80%
12.7%
70%
18.2%
60%
50%
49.1%
40%
30%
20%
10%
Present
Under Implementation
Planned
Decision Open
Not Present
0%
Does Your Company

Use an Internal Model?
The more advanced Solvency II
approaches allow, and even encourage,
insurance companies to use internal
models. The framework will also set
standards for the robustness, validation
and improvement of internal models.
The development of Solvency IIcompliant models will be a challenging
task, but will ultimately yield several
benefitsfor both insurers and
supervisors. Recognised benefits cited
in the CEIOPS advice include the
convergence of internal and external
risk measurement, improved adequacy
in modelling non-linear contracts,
and risk parameters providing a
framework for discussion between
insurer and supervisor.
32
The survey shows 49.1% of

participating insurance companies
already use an internal model (see
Figure 6.15). Another 18.2% are in
the implementation phase, and 12.7%
plan to build an internal model. Another
14.5% have yet to decide on whether
to build an internal model, and 5.5%
are not even considering it.
Companies are using or planning to
use different kinds of models34.7%
are Risk Based Capital (RBC) models,
31.9% use simulation, 25% are based
on Dynamic Financial Analysis (DFA),
and 8.3% are other kinds of models.
Financial Services
the way we see it
7 Key Findings and Conclusions
Solvency II is expected to become a challenging compliance

theme for the insurance industry. It is much like the Basel II
framework for banking, but includes some enhancements
and additional requirements. Solvency II provides incentives
for insurers that potentially offer strategic and organisational
benefits. Insurance companies are also confronted, however,
with meeting evolving IAS/IFRS standards (though there
is some overlap with Solvency II).
The magnitude of the challenge for insurance companies
hinges on the present state of their risk management
function, and our survey results reveal five key findings
about the state of the European insurance industry:
1. Insurance companies have more advanced risk
management for more important risks. For other
risks there are potential gaps with Solvency II.
The survey reveals that insurance companies
acknowledge risks are importantand will become
even more important in the future. In general, the more
important a specific risk type, the better the existing
risk management functionin terms of processes,
procedures, frameworks and strategies. Similarly, risk
profiles differ among companies in different insurance
segmentslife, non-life, or both life and non-life
business. As a result, the calibre of the risk management
function for specific risk types also varies. Solvency II
requires disclosures on specific risk types and it is likely
that the risk management function for some of these
risks will require attention at some insurance companies.
2. Results for small insurance companies justify the
standard formula in the framework.
Risk management processes, procedures, frameworks
and strategies are common across most insurance
companies. However, not surprisingly, large insurance
companies are generally better equipped than small
and medium-sized ones. This reality supports the
inclusion in Solvency II of a standard capital formula
that smaller companies can use.
3. Companies with both life and non-life business are
not as advanced in integrated risk management as
those focused solely on life or non-life.
Integrated risk management is in place for less then
half of insurance companiesa marked counterpoint
to the aspirations of Solvency II. Insurance organisations

that are active in both life and non-life business are
likely to be more complex, but the survey shows these
companies are less advanced in managing integrated
risks and enterprise-wide risks like operational risk.
Capgemini experts believe that integrated risk
management will be a key challenge for these companies
on the path towards Solvency II compliance.
4. The likely need to use TailVar and probability
of economic ruin in Solvency II calculations
represents a capability gap for many insurance
companies.
Risk management methods, like stress-testing, scenario
analysis and actuarial methods, are quite commonly
used by the insurance industry. However, Solvency II
is likely to require insurance companies to use measures
such as probability of economic ruin and Tail Value
at Risk. These measures are currently used by very
few insurance companies, suggesting a significant
capabilities gap for the industry. In addition to the
various risk measures, however, internal models are
already available at almost half of the participating
insurance companies.
5. Business-driven logic is an important engine
for improvements in risk management.
Improvements in risk management are primarily being
driven by compliance, but business logic is also a
significant engine of change. However, while insurance
companies see the potential benefits of Solvency II,
few aspire to be pioneers in risk management.
In conclusion
The European insurance industry is already moving
towards the latest risk-management standards, even for
relatively new types of risk. However, important gaps
exist between the current state and the expected
Solvency II requirements, and closing those gaps will
put significant demands on the insurance industry.
According to Capgeminis insurance and risk management
experts, modelling and reporting requirements, risk
calculation at detailed levels, integration of risks and the
requirements related to the supervisory review process are
some of the key topics that will emerge in the Solvency
II programmes of European insurers in coming years.
33
Appendix 1
Sample Insurance
Company Participants
Table 1.1 provides a partial listing of the survey participants11 by peer group and
business type.
Table 1.1 Peer Group (Annual Premium Revenues)

Small & Medium Companies < 1.5b
Life Business
Non-Life Business
Both Life and Non-Life Business
Large Insurance Companies > 1.5b
Carige Vita Nuova

Loyalis
LV1871
Neue Bayerische Beamten
Lebensversicherung
Nordea
SB1 Liv
Swiss Life
Atradius
Bayerische Beamten Versicherung
BBV Krankenversicherung
Rural Seguros
SB1 Skade
Verenigde Assurantiebedrijven Nederland
Aoreana Seguros
Agrupaci Mutua
Cardif
Imprio Bonana
Mutua General
Pelayo
Santalucia
V VAA Groep
11
34
Aviva
CNP
Eurizon Vita
Storebrand
Tranquilidade
Vital
Giensidige
IF
KLP Skade
Allianz Portugal
AXA
Caser
Delta Lloyd
Dexia Insurance Belgium
Eureko
Fidelidade Mundial
Fondiaria-SAI
Fortis Verzekeringen Nederland
ING Insurance Belgium
KBC
Lloyd Adriatico
MAIF
Mapfre
MMA
Nationale-Nederlanden
SNS Reaal
Some responses pertain to companies that are part of a larger insurance group, and some insurance
groups are represented by responses from more than one business unit.
Financial Services
Appendix 2
the way we see it
Economic Capital
as an Implementation
Framework
Solvency II sets standards for risk
management practices, and uses an
economic capital approach that offers
a powerful performance management
solution for insurance companies. Here
we outline Capgeminis assessment of
the benefits of a risk-based approach.
In short, Capgeminis Economic Capital
approach to handling Solvency II offers
three main advantages. First, the
approach is dynamic, as opposed to
the static directive, which offers no
roadmap for implementation. Second,
the risk-based solvency approach can
help to frame operational and strategic
decision-making, turning a compliance
requirement into a business benefit.
Third, economic and regulatory capital
will be harmonised.
Of course, regulatory requirements and
economic capital guidelines have already
started to converge in recent years, and
Solvency II represents the next step.
In practice, the SCR under the internal
model approach will converge with
economic capital. (Both tend to include
all quantifiable risks. The minimum of
the SCRthe MCRcan be calculated
with a prescribed formula.) Aside from
solvency standards, the economic
capital framework includes reporting,
governance, usage and quality
management guidance. So why use
the more complex economic capital
approach? The answer lies in benefits.
Without an economic capital provision,
Solvency II would simply be the latest
in a long line of compliance initiatives.
Economic capital turns Solvency II
into a business enabler. Economic
capital is not only a tool for solvency

capital management. It is also a tool
for risk-adjusted performance
management, which will help companies
to steer their business units based on
a mix of risk and return. From a
commercial standpoint, economic capital
can be used in product pricing and
can help to prevent adverse selection.
So how does the economic capital
approach work? Capgemini developed
a logical framework consistent with
Solvency II Pillars I and II. It
consists of four sequential steps,
which together form a dynamic
implementation path (see Figure A2.1).
The first step for an insurance company
is to define its risk appetite by setting
its confidence level. This means
determining its desired probability
of ruinthe chance that the
company will not be able to meet
its policyholder liabilities. Based on
current documentation, Solvency II
is likely to require a confidence level
of 99.5%, with a corresponding 0.5%
probability of ruin. In other words,
an insurance companys capital level
should be enough to absorb 99.5% of
all negative shocks without becoming
insolvent. The risk appetite chosen
by the insurance company determines
the risk for the policyholder.
35
Figure A2.1 Economic Capital Framework
Risk Appetite
1. Set Conference
Level
Ruin Probability
95%
97.5%
99%
99.5%
Economic Capital Scope
Data Processing and Use
2. Define Risks
and Controls
3. Define
Organisational Scope
4. Develop Data
Systems and
Methods
IAA Risks
Underwriting Risk
Market Risk
Credit Risk
Operational Risk
Liquidity Risk
Entities Involved
Main Entity
Daughters/Affiliates
Suppliers
Data
Supplier
Input
Process
Output
Customer
5. Economic Capital
Reporting Use
and Governance
EC Reporting
Reporting of EC
Risk Contributions/
Component VARs
Diversification
Benefits
Extra Risks
ALM Risk
Other Risks
VAR Calculation
Horizon
Frequency
Management
Intervention
Risk
Classification
Pillar 1
Pillar 2
Systems
Data Warehouse
QRM
Statistical Systems
BI Tools
Solvency Measures
Minimum Capital
Requirement (MCR)
Solvency Capital
Requirement (SCR)
Methods
VAR vs TVAR
Delta-Normal
Delta-Gamma
Historical Simulation
Monte Carlo
Simulation
Methods for
Correlation &
Diversification
Scaling EC
IFRS and Valuation
Mitigation
Reinsurance
Alternative Risk
Transfer
Source: Capgemini, 2006
36
Quality
6. Economic Capital
Quality Management
Quality
Management
Data Quality
Documentation
Validation
Back Testing
Stress Testing
MCR and SCR
Comparison
Supervisor
Involvement
Use
Solvency Target/
Capital Management
Economic Profit
Risk-Based Pricing
Prospective Control
Governance
Senior Management
Involvement
Responsibilities
Changes
The Risk Control

Function
Board of Directors
and Senior
Management
Policies and
Procedures
Adequate
IT Systems
Qualified Staff
Financial Services
Figure A2.2 Tail Value at Risk
Not to scale
Mean
VaR (99.5th percentile)

Tail-VaR (99.5th percentile)
average of losses in the shaded area
Loss
the way we see it
Specific items mentioned in current

CEIOPS documentation include:
Active involvement of senior
management and the board of
directors.
Embedding risk management
policies by implementing
procedures.
Adequate IT systems.
Fit and proper personnel:
sufficiently educated, qualified
and soundparticularly for key
personnel in critical functions.
Source: CEIOPS, Answers Second Wave, p.82, October, 2005
The second step relates to the scope

of economic capital. The sub-steps
(Nos. 2 and 3 of 6) involve defining
risks and controls and organisational
scope to establish the scope of
implementation. To be compatible
with Solvency II, the risk types
identified by the IAA (International
Actuarial Association) should at least
be included, along with other material
and quantifiable risks. The IAA risk
types are insurance technical risk,
market risk, credit risk, operational
risk and liquidity risk. In addition,
Solvency II Pillar II risks should be
included (e.g., MCR, SCR). In the
calculation of solvency capital, CEIOPS
is advising that mitigation techniques,
such as reinsurance and ART (Alternative
Risk Transfer) also be included.
Solvency II requires a calculation of
both the MCR and SCR. In practice,
the SCR will converge with economic
capital, including similar risks, so the
use of the economic capital framework
enables an insurance company to
calculate the SCR.
The third step pertains to data

processing and use. The first sub-step
in this phase involves the development
of data systems and methods, with
different methods for each risk type.
CEIOPS recommends using Tail Value
at Risk (TailVar)a concept illustrated
in Figure A.2.2instead of Value at
Risk (VaR) to create an incentive for
insurance companies to control the
height of expected losses in the tail
of the loss-distribution. The economic
capital framework also uses TailVar.
Since TailVaR measures the probabilityweighted average amount present in the
statistical tail of the loss distribution,
insurers can reduce their capital
requirements by better managing and
reducing the risks in the tail. VaR,
commonly used in banking, does not
take into account losses in the tail.
Another data step (sub-step 5) relates
to data reporting, use and governance.
Solvency II will include similar
governance requirements in Pillar II.
The fifth and last phase in the economic

capital framework pertains to quality. The
internal control function is a key part
of measures aimed at ensuring highcalibre economic capital management.
Advantages of Economic Capital
The economic capital approach offers
more then just a dynamic framework
for implementing Solvency II. It
includes potential benefits from
a commercial, organisational and
financial perspective. As economic
and solvency capital converge, an
insurance company can harmonise its
balance sheet by reducing divergences
in capital requirements. Organisational
benefits are felt when the insurer starts
using economic capital in performance
management. Using risk-adjusted return
on capital (RAROC), business units can
be steered by a mix of profit and risk.
The commercial benefits include the
potential for incorporating capital
requirements in product pricing. In
summary, the dynamic framework
helps insurance companies to cope
with the challenges of Solvency II.
37
Appendix 3
Literature
BIS, International Convergence of

Capital Measurement and Capital
Standards, A revised framework,
Updated November 2005
BIS, The joint forumRegulatory
and market differences: issues and
observations, May 2006
BIS, The joint forumTrends in risk
integration and aggregation, 2003
CEIOPS, Annual Report 2004 and
Work Programme 2005, 2005
CEIOPS, Answers to the EU on the
first wave of Calls for advice in the
framework of the Solvency II project,
June 2005
second wave of Calls for advice in the
October 2005
third wave of Calls for advice in the
May 2006
Drzik, J., At the crossroads for change:
risk and capital management in the
insurance industry, The Geneva
Papers 2005, 30
38
European Commission, Amended

Framework for consultation on
Solvency II, July 2005
European Commission, Amended
Framework for consultation on
Solvency II, April 2006
HM Treasury, Solvency II: a new
framework for prudential regulation
of insurance in the EU, a discussion
paper, London, February 2006
IASB, Insurance contractsPhase II,
11 July 2006
Nakada, P., H. Shah, H. Ugur Koyluoglu,
O. Collignon, P&C RAROC: a catalyst
for improved capital management in
the property and casualty insurance
industry, The Journal of Risk Finance,
Fall 1999
Solvency II, une rvolution pour la
valorisation et la strategieAnalyse
Financiere n 20July, August,
September 2006from the Dossier
Avenir radieux pour lassurance
Solvency Working Party, Report of
Solvency Working Party. Prepared for
IAA Insurance Regulation Committee,
February 2002
Financial Services
About Us
With nearly 5,000 Financial Services
professionals, over 700 clients
worldwide and a reputation for
unparalleled delivery, Capgemini is
uniquely positioned to serve the
financial services industry. We help
move businesses forward with proven
solutions in banking, insurance,
wealth management, compliance and
risk management, payments, leasing,
asset management and business
process outsourcing.
Capgeminis Compliance & Risk
Management Centre of Excellence helps
financial services institutions set up
leading edge risk management or
compliance functions globally. More
than 500 Capgemini compliance &
risk management consultants worldwide
work with clients in multi national
teams to realise sustainable results
in a wide range of areas including:
organisational restructuring,
development of capital management
methodology, risk modelling, risk
systems selection and transformation,
establishment of compliance frameworks
and regulatory compliance impact
analysis as well as implementation.
Capgemini, one of the worlds foremost
providers of Consulting, Technology
and Outsourcing services, has a unique
way of working with its clients, which
it calls the Collaborative Business
Experience. Through commitment to
mutual success and the achievement
of tangible value, Capgemini helps
businesses implement growth strategies,
leverage technology, and thrive through
the power of collaboration. Capgemini
employs approximately 61,000 people
worldwide and reported 2005 global
revenues of 6,954 million euros.
the way we see it
The European
Financial Management
& Marketing Association
The European Financial Management &
Marketing Association is a not-for-profit
association with a membership uniquely
composed of banking and financial
services organisations in Europe. EFMA
seeks to promote innovation in the
banking and financial communities
by fostering debate and discussion in
a setting removed from the pressures
of commercial competition. Through
meetings and an open exchange of
information, EFMA facilitates dialogue
and collaboration among its members,
creating a forum for the recognition
and study of best practice. EFMA is
funded by membership fees and income
earned from events and services. The
fees paid by members finance an array
of services strictly reserved for members.
The income earned from supporting
activities enables the association to
reduce these fees. This original
arrangement maintains EFMAs
neutrality, protecting programs and
activities from commercial pressures
and ensuring a standard of programme
quality that is highly valued by members.
The loyalty of EFMA members,
representing over three quarters of the
largest banking organisations in Europe,
is a testament to its effectiveness in
performing this mission.
Visit www.efma.com
Visit www.capgemini.com/compliance
39
www.capgemini.com/compliance
www.efma.com
FS20060913_184
Please contact us at:

complianceandrisk@capgemini.com
2006 Capgemini. All rights reserved.

Risk Management in The Insurance Industry and Solvency II

Încărcat de

Informații document

Titlu original

Drepturi de autor

Formate disponibile

Partajați acest document

Partajați sau inserați document

Opțiuni de partajare

Vi se pare util acest document?

Este necorespunzător acest conținut?

Drepturi de autor:

Formate disponibile

Risk Management in The Insurance Industry and Solvency II

Încărcat de

Drepturi de autor:

Formate disponibile

Financial Services

the way we see it