After extensive development and implementation efforts, international financial reporting standards (IFRS) 17 became effective on January 1, 2023 for Canadian insurers. As insurers work towards enhancing reporting and disclosure functions, we shed light on early observations from the first six months of 2023 reporting and provide some considerations for IFRS 17 management reporting.
Common themes and observations in the IFRS 17 reporting
From the first six months, several common themes emerged as key messages for management:
- The underlying economics of insurance contracts remain unchanged. IFRS 17 changes only the timing and pattern of profit recognition, which in turn will affect the value of insurance contracts. However, the conclusion at this stage is that IFRS 17 is not expected to drastically impact an insurer's overall strategic direction and operating model.
- The liability discount rate from supporting assets. One significant difference introduced compared to IFRS 4 is the de-linking of the liability discount rate from supporting assets. This places a greater emphasis on understanding the investment results and the related asset liability management (ALM) implications.
- The Contractual Service Margin (CSM) is a new key concept introduced by IFRS 17. Net income alone does not paint a complete picture, and should be considered together with movement in the CSM.
- IFRS 17 introduced and defined an "onerous" contract. It is important to highlight to management that an onerous contract is not necessarily a loss-making one.
No significant change to KPIs in reporting
Updated key performance indicators (KPIs) were used to highlight business performance under IFRS 17 and help reset stakeholder expectations. The majority of traditional IFRS 4 KPIs continue to be presented in IFRS 17. However, some of the traditional KPIs had to be recalibrated and management will need to view these traditional metrics through the lens of IFRS 17.
New KPIs related to CSM are a major focus as the total CSM is a crucial indicator of future insurance profitability under IFRS 17. CSM sensitivities could offer insights on the potential range of movement, enabling management to assess the impact of the overall stability of future earnings.
New business CSM and the CSM growth factor are other important metrics as they reflect the insurer's performance in generating new sales and new sources of future profits under IFRS 17. Currently, there is a varied approach when it comes to disclosing externally the target on new business and CSM growth. This is one area that insurers will likely continue to monitor as common industry practice emerges.
Considerations to enhance IFRS 17 management reporting
Many insurers used the implementation of IFRS 17 as an opportunity to integrate new dynamic management reporting dashboards within the updated data infrastructure. These dynamic management reporting dashboards offer management the flexibility to explore different views of the business, such as segmenting results by measurement model or toggling results between gross and net of reinsurance. The use of visuals allows management to identify long-term trends and spot anomalies.
As insurers advance in their IFRS 17 reporting journey, the management reporting dashboard will continue to be enhanced. The goal is to be able to provide a comprehensive summary of IFRS 17 results in a streamlined fashion within a controlled environment to enable a more efficient reporting cycle.
Considerations to break down the roll-forward of insurance contract liabilities
A key reconciliation required by IFRS 17 is to show the change in the net carrying amount of liabilities, also referred to as the Analysis of Change (AoC). In comparison to the traditional reserve movement analysis, the IFRS 17 AoC requires a more granular review of each component of the liability change. Below are some considerations when reviewing the AoC to help develop IFRS 17 heuristics and enhance management understanding.
Other general considerations when reviewing AoC include:
- Presentation: management is accustomed to examining the change in net liabilities rather than separating the impact due to contracts issued from that due to reinsurance contracts held. In addition, the reinsurance results are consolidated into one or a few lines under IFRS 17. To facilitate a review, having the option to view results at different levels improves management understanding of results.
- Accruals: unlike under IFRS 4, accrual items such as outstanding premiums and claims payable are now included in the insurance contract liabilities. Analysing this component typically involves delving into finance and data processes that extend beyond actuarial considerations.
- Integration between teams: IFRS 17 enables an insurer to have a single source of truth which aids in identifying data and model-related issues. However, this necessitates increased collaboration among functional teams to conduct a thorough review of liability movements.
Ways to optimize reporting of IFRS 17 "earnings"
Many insurers are adopting a driver of earnings (DoE) approach instead of solely relying on the IFRS 17 reported income. IFRS 17 drivers-of-earnings (DoE) analysis is helping insurer management to obtain better insight into current and future sources of revenues and earnings. For insurance results, it also helps distinguish more stable and sustainable components – such as the release of risk adjustment and the amortization of CSM – from more transitory ones.
Investment results are now more transparent thanks to the separately identified ‘insurance finance income or expense’ (IFIE) item under IFRS 17, but the typical decomposition of that new item between the interest accretion (based on locked-in rates) and the impact of changes in market conditions on insurance contract liabilities ironically does not align well with how investment returns are typically decomposed, and so a recasting of the decomposition of IFIE can be useful. We also note that the sensitivity of the valuation of insurance contracts to changes in market conditions has in many cases changed materially, possibly causing a more pronounced disconnect between asset and liability movements in response to changes in market conditions, at least until the asset portfolio are rebalanced to match the new liability sensitivities.
To provide a comprehensive understanding of economic earnings, CSM movement analysis should be incorporated as looking at IFRS 17 income only no longer provides a full picture. Separating CSM movement components that represent stable growth, such as interest accretion and possibly new business, from those subject to one-time change such as experience adjustments or assumption updates improve understanding of CSM movement.
IFRS 17 management reporting will continue to evolve in the short to medium term. While IFRS 17 implementation was a long and complicated process, it did give most insurers an ability to develop more actionable insights based on a deeper understanding of the drivers of financial results.