Fall 2017 Q14
I think Fall 2017 Q14 is quite a hard problem. I dont remember anywhere in the reading material that mentions about the Net Amount Recoverable from Reinsurers.
To re-state the balance sheet, should I assume that Surplus remain unchanged after removing reinsurance impact? then calculate Asset = Liability + Surplus
My second idea for the approach is to calculate the net amount recoverable from reinsurance equal to change in Liability + change in Asset (due to the restatement) in order to get the Total Asset.
Then calculate Surplus = Asset - Liability.
Which approach is correct?
Comments
You are correct that it is a hard problem. First check the solution I provided to this problem in the Schedule F wiki article:
There is also a practice template for this problem in mini BattleQuiz 2, so you can practice with random numbers as many times as you need to.
This problem is based on the following section from Odomirok (Chapter 14, p132):
Note that Net Amount Recoverable from Reinsurers is line item 16.1 on the asset side of the balance sheet. Also, you're correct that the surplus doesn't change.
If you've already looked at all that and it still doesn't make sense, we can discuss further.
This problem/concept confuses me a little too.
The premise of Part 8 is "...Part 8 provides a snapshot of the balance sheet as if the company had no reinsurance protection". Is the net amount recoverable from reinsurers supposed to represent the net balance sheet exposure to complete reinsurance default? (In other words it is the identified net credit for reinsurance)
If this is the case, I'm surprised it's not spelled out more clearly in Odomirok.
I agree, it is a little confusing. I took Odomirok at face value here, and if all reinsurers suddenly decided not to pay then then the line 16.1 asset, net amount recoverable from reinsurance would go to zero. But that couldn't happen in isolation. The ceding reinsurer would get some of the premiums back and possibly other things. The true net exposure would be less and that's what this problem is getting at.
But there were also a few other things that slowed me down:
At first, I got hung up because line 6 in the given information, net amount recoverable from reinsurance, is not the actual value from the balance sheet - it's net of that amount, so it will always be 0. Then the adjustment is the value that makes everything balance after you've made all the other adjustments. So for line 6 the gross amount equals that adjustment.
The amount from line 4 looks like it should be adjusted but that amount relates to assumed reinsurance. This question concerns only ceded reinsurance, and the effect of its removal, so line 4 has no adjustment.
Lastly, one potential use of reinsurance is surplus relief, but in this exhibit the surplus doesn't change. Your liabilities go up (of course) because you're taking back the ceded claims (kind of like commutation but without having to negotiate a price with the reinsurer - all ceded reinsurance transactions just get completely reversed.) Then the assets go up by the same amount and the net amount recoverable from reinsurance is the balancing item to make that all work. How convenient!
The concept of examining the books as if no (ceded) reinsurance exists makes sense. You can then create different reinsurance scenarios to see if any of them fit your needs better. But at the same time, it feels to me like this whole exercise is still missing something.
I hate to always say this, but for the exam you just need to know how to do the calculations and have some very basic sense for the purpose.
High level, what is the conceptual difference between item 3: reinsurance recoverable on loss and LAE payments, and item 6: net amount recoverable from reinsurers?
Thank you for the detailed answer above, that helps. I think an answer to this follow up question will take me from 90% to 100% there.
I couldn't find where that's explained in Odomirok, but here's how I thought through it:
The thing I'm not quite sure about is whether there are other items included in the line 6 adjustment beyond just the original reinsurance premium. There probably are other (minor?) accounting details related to the transaction that aren't specifically discussed in the source text.
Hope that helps!
I am sorry for going back to this, but can you clarify that both item 3: reinsurance recoverable on loss and LAE payments, and item 6: net amount recoverable from reinsurers, are item 16.1 on the balance sheet?
I find this confusing because all of the other adjusted items can be directly found on the balance sheet, but I am not sure if item 16.1 relates to reinsurance recoverable on loss and LAE payments, or net amount recoverable from reinsurers.
Item 6 in Schedule F Part 6 corresponds to (is equal to) item 16.1 of the Assets page of the Balance Sheet.
As the name suggests, it is the net amount recoverable from reinsurers, after all ceded assets and liabilities are reversed. You'll note in the solution sample 2 of 17.F.14 that it is treated as an "off-balance item" after all other adjustments are made.
so where would item 3: reinsurance recoverable on loss & LAE payments be on the balance sheet?
My original answer was in error, please disregard it. My apologies.
Line 16.1 on the asset side of the balance sheet comes from Schedule F - Part 3, and is the sum of columns 7 & 8. (Or column 43, which equals the sum of columns 7 & 8.) These, in turn, are equal to Item 3 in F Part 6.
Item 6 of F Part 6 is a balancing item, showing actual net recoverables assuming no reinsurance. It doesn't appear anywhere on the balance sheet. It is a side effect of reversing reinsurance transactions. Restatement of the balance sheet is a hypothetical exercise; the actuary reports to management this extra net recoverable in item 6 outside of what's in the balance sheet.
Hope that helps.
I created a modified Sch F - Part 6 that from the blank one provided in this article that has all 22 lines and what the adjustments and restated equations are.
Is there anything I missed?
there was a mistake in the first file I uploaded (I was off a line on 2 of the equations for line 3 & line 6)
Yes, this last one looks complete to me.
Hi for a), there are 2 ceded items from schedule P, both of which are treated as adjustments in the solution, may I ask why weren't they included in the "net of ceded" in the 1st place in F? I thought F is supposed to be a 1-stop-shop for reinsurance. Thank you in advance.
There is some overlap between Schedule P and Schedule F but Schedule F doesn't always provide the same level of granularity in terms of loss and loss adjustment expense reserves as Schedule P does.
Schedule F is primarily to assess credit risk for reinsurance while Schedule P provides a detailed historical development of loss and loss adjustment expense reserves. Part 1 of Schedule P presents both gross and ceded amounts for each accident year, giving an overview of how these reserves have developed over time.