INSURANCE GIANT: A PICC Property and Casualty Co. Ltd.'s booth at the 2012 China International Finance Expo, held in Haikou, capital of Hainan Province, on September 21-23 (CFP)

When Beijing-based Jiahe Life Insurance Co. released its financial report for 2011 in May, it grabbed the attention of insurance industry professionals because its solvency ratio for 2011 was minus 86.21 percent, far less than the country's 100-percent minimum requirement for the solvency of insurance companies.

Solvency ratio, also the capital adequacy ratio of insurance companies, is a key indicator of China's insurance regulation. The China Insurance Regulatory Commission (CIRC) requires unlisted insurance companies to submit annual financial reports in order to monitor their performance. Among the 101 unlisted insurance companies that submitted their 2011 reports to the CIRC, only three—Tianan Insurance, Dubon Insurance and Jiahe—failed to meet the solvency requirement.

Jiahe's solvency ratio in 2011 represented a sharp drop of 157.47 percentage points from the previous year, which was affected by the company's business development and capital market fluctuations, its report stated.

Luckily for Jiahe, the Agricultural Bank of China, one of the country's "big four" state-owned commercial banks, in February 2011 agreed to pay 2.59 billion yuan ($411 million) for a 51-percent stake in the life insurance company. Jiahe's report said that when the capital increase is finished, its solvency ratio is expected to exceed 150 percent.

To improve their solvency, Tianan and Dubon applied to the CIRC for capital increases, and both were approved in July.

According to the current solvency regime, most insurers are solvent. CIRC statistics showed that 96.15 percent of insurance companies met the minimum requirement of 100 percent at the end of March 2012. But a lack of capital and lackluster investment return have prevailed in the insurance industry in recent years, and many insurers, including some listed giants, saw declines in their solvency ratio last year, which can harm the development of the industry.

The CIRC said it realizes that it is a pressing task to impose stricter requirements than the sheer quantitative measurement of capital on insurance companies. The quality of their assets and the risks they face will be included in future solvency regulation.

China's second generation of solvency regulation, similar to the EU's Solvency II, will come out in the coming three to five years and will adopt a three-pillar framework: having requirements on insurance companies' capital adequacy, risk management and information disclosure. Building a risk-based system is a guiding principle of the new regulation, which will also meet national and international standards, according to the CIRC's plan.

"A company's capital requirement should be related to the underlying risks that the company is taking," Zhuo Shihao, CFO of the Sino-U.S. United MetLife Insurance Co. Ltd. "Companies taking high risks and having more volatile businesses should be required to have higher capital than those taking less risks and having more stable businesses."

"The new regulatory system will measure different categories of risks precisely to improve the accuracy and efficiency of solvency regulation, which will be conducive for the industry to fending off risks and for insurers to strengthening their inner control and risk management," said Chen Donghui, chief actuary of PICC Property and Casualty Co. Ltd.

Potential impact

"The standards of the new regulatory system are still in the making. We can't evaluate the specific impact on insurance companies, but overall it's of great significance to the whole industry," said Chen.

The new system underlines the establishment of insurers' inner risk management, which can propel insurance companies to use modern tools to further systemize and standardize their risk management, he said.

Under the new risk-based system, companies with different business structures and different risk-diversifying abilities will face different solvency requirements. Chen said his company, PICC Property and Casualty, is more capable of preventing and diversifying risks, but this hasn't been fully reflected in the current solvency regime. He expects the new system to more accurately classify insurance companies according to their risk-averting abilities.

For insurers with poor risk management, higher capital requirements should be imposed to enhance their ability to fend off risks, he said.