Chief Financial Officer’s review

Reinsurance expense has increased owing to:

  • reinstatement and accelerated amortisation costs ($83m);
  • rate increase on catastrophe renewal; and
  • general business growth.

The increase in financial year 2010 was mainly due to the cost of adverse development cover in the UK ($67m).

Further increase in reinsurance expense is expected in financial year 2012, due to the amortisation of the balance of reinstatement costs in the first half of 2012, and upwards pressure on catastrophe rates.

Sound capital
management

Nick Hawkins

Chief Financial Officer

The strategic importance of sound capital management has never been greater. Australian and New Zealand general insurers have had to respond to their highest ever claim costs in the past year. Throughout this period, the Group has retained a robust capital position – an important feature in maintaining the confidence of our policyholders and shareholders.

CAPITAL STRENGTH

At 30 June 2011, we held 1.58 times the amount of capital required by our regulator, the Australian Prudential Regulation Authority (APRA). This level of capital remains above our long term benchmark of 1.45 to 1.5 times APRA’s requirement, which we believe is a prudent position. We also maintained “very strong” financial strength ratings of “AA–” from Standard & Poor’s for each of our key wholly owned insurers.

Reinsurance

Reinsurance – the insurance we buy to protect IAG against large or catastrophe losses – is a critical part of our approach to capital management. Our reinsurance programme has provided us with significant protection from this year’s natural peril claim costs. For example, while the gross cost to the industry of claims relating to the earthquakes in New Zealand was billions of dollars, reinsurance capped IAG’s net claim costs for the three events to around $83 million. We have an integrated reinsurance programme, renewed annually, with a number of key components. The main catastrophe component covers losses from $250 million to $4.1 billion. We also have a number of additional layers of cover which cap our costs for other major claim events, depending on their size.

While the number of natural peril events in our region this year has led to speculation that general insurers might find it difficult to renew their reinsurance programmes, we do not believe this will be the case – although we do expect our reinsurance programme to be more expensive. Our strong position in the Australian and New Zealand markets should continue to make us strategically attractive to our global reinsurance partners, some of whom we have worked with for over 50 years.

Investments

The Group has also generated solid investment returns in financial year 2011. At 30 June 2011, we had an investment portfolio of $11.9 billion, divided into two distinct pools. We have different investment strategies for each pool. Our technical reserves of around $8.3 billion back our insurance liabilities. These are almost entirely invested in fixed income and cash and generated investment income of $489 million. Shareholders’ funds, of around $3.6 billion, are invested in a combination of growth assets, including equities and alternative assets such as convertible bonds, and fixed income and cash. This portfolio generated improved returns of $213 million for financial year 2011. The credit quality of the Group’s investment book remains high, with 94% of the fixed interest and cash portfolio rated “AA” or better.