Unusual Captive Utilizations – Case Studies & Trends

Dan Richards, Global Rescue – Panelist

Brad Schock, GMAC Insurance – Panelist

Todd Williams, Willis Global Solutions Consulting Practice – Panelist

Anne Marie Towle, Willis Global Captive Practice - Moderator

Tuesday, March 12, 2013

Agenda

• Framework

• Global Rescue Case Study

• GMAC Case Study

• Unusual Transactions

• Questions & Answers

Global Rescue Case Study Dan Richards

Company Overview

• Global Rescue founded in 2004

• Crisis Services Company (CSC) founded in 2010

• Provides critical services to individuals, corporations & governments

• By integrating operational capabilities and insurance, Global Rescue & CSC increase enterprise resiliency

“In my personal military judgment, we are living in the most dangerous time in my lifetime, right now.”

General Martin Dempsey, Chairman, Joint Chiefs of Staff

February 15, 2012

Source: Goddard Institute for

Space Studies – NASA. “NASA

finds 2011 Ninth Warmest year on

Record” January, 2012.

Duty of Care is the legal

obligation an organization has to

provide its employees with the

necessary information,

resources, and reasonable care

to ensure their health, safety,

and security.

Failure to meet Duty of Care

obligations can result in:

• Significant corporate liability

• Expensive evacuations and

service requests

• Devastating public relations

• Fines and potential criminal

charges

Integrated capabilities are critical for success

Information &

Intelligence

Capabilities

Medical

Services Security

Services

Financial Risk

Management

Result: a complete Risk and Crisis

Management Response Program

Hezbollah – Israeli Conflict: Beirut, Lebanon 2006 Russian Invasion: South Ossetia, Georgia 2008 Terror Attacks: Mumbai, India 2008 Earthquake: Port au Prince, Haiti 2010

Earthquake: Santiago, Chile 2010 Arab Spring: North Africa / Middle East 2011 Tsunami and Nuclear Disaster: Sendai, Japan 2011

Thousands of individual missions worldwide.

Active in every major global incident since 2004

• Crisis Services Company’s role

• Provides underwriting solutions to:

• Global Rescue directly

• Global Rescue clients through a front

• Global Rescue client captives

• Employee benefits

• Client’s run their benefits through their captives; share and pool risk with CSC; integrate services

• Positive benefits: tax, control, efficiency/integration, transparency

GMAC Insurance Case Study Brad Schock

Company Overview

• GMAC Insurance is a Top 20 U.S. writer of automobile insurance

• Over $1.3 billion of written premium in 2012

• Provide coverage for private passenger auto, recreational vehicles, and motor cycles

• Policies issued through several channels: – Agency

– Online and Broad market Direct to Customer

– Affinity

Utilization of Captive Insurance

GMAC Insurance utilizes captive insurance vehicles to achieve a number of business objectives:

1.Agency development and retention

2.Market expansion

3.Effective capital deployment

Agency Development and Retention

• Created a Bermuda domiciled Protected Cell Company to provide producer owned reinsurance programs to agents.

• The PCC achieves a number of objectives for GMAC Insurance: – Retention of our best performing agents

– Effective incentive for agents to write preferred business

– Ability for agents to increase compensation

Market Expansion

• In 2012, acquired several associations and a related Delaware PCC

• Associations administer self-insured medical plans to its members, who in turn purchase medical stop-loss coverage from the Delaware PCC

• The acquisition provided a number of benefits: – Cost effective entrance into a new line of business (medical stop loss)

– Ability to cross-sell our core lines of coverage through the acquired associations

Effective Capital Deployment

• A core objective of the company is to effectively manage our capital base

• Utilization of off shore captive reinsurance companies allows GMAC to deploy its U.S. capital base more effectively

Bermuda Reinsurance Co.

• Formed a Bermuda based reinsurance company in 2012 with a 953(d) election

• Reinsure blocks of business to Bermuda, taking advantage of beneficial surplus ratios

Effective Capital Deployment Cont’d

Luxembourg Captive Insurance Company

• Luxembourg captive law allows for technical reserves over and above case and IBNR reserves.

• Technical reserves are formulaic, based on written premiums

• Effect is to create no underwriting income and a 0% tax rate in Luxembourg

• Companies wanting to run off captives face 30% Luxembourg tax on the unwinding of accumulated technical reserves

Effective Capital Deployment Cont’d

Luxembourg Captive Insurance Company

• GMAC purchased a Luxembourg captive in run-off in 2012

• Purchase price was equal to capital plus discounted technical reserves.

– Recognize gain on the purchase of the company

– Utilize acquired technical reserves to assume business from related entities under preferential terms

– Must closely manage reinsurance terms to maintain technical reserves

Unusual Transactions Todd Williams

• IBM 1992 and 1993 Technical obsolescence; management changes

• Amgen Inc. 1993 Market worries on biotech companies

• Starbucks 1999 Uncontrolled costs rises in non-core business

• McDonald's 2000 Failed strategy and senior executives changed

• Procter & Gamble 2000 Failed strategy and CEO resigned

• Nike 2000 Failure in distribution channels plus unfavourable currency translations

• Costco 2000 Uncontrolled increasing in costs on adding offices and expenses

• Microsoft 2000 Estimated cuts in sales and profits combined with the influence of DotCom bubble

• Adidas 2000 Allegation to the abuse of labour

• Intel 2000 Market demand decreased sharply in European market

• Disney 2001 Terrorism fears reduce revenues at theme parks

• Boeing 2001 Airline industry crisis due to the terrorist attacks

• France Telecom 2002 Heavy leverage caused liquidity problem; government bailout and CEO resigned

• Monsanto 2002 Counter party default in emerging markets

• Vivendi 2002 Debt stress lead to liquidity problem; Chairman resigned

• Merck 2004 Withdrawal of Vioxx, largest drug recall to date

• Ford 2008 Recall of “Ford Explorer” due to tire failure

• Toyota 2010 Engineering issues trigger product recalls

• BP 2010 Well blows out triggering huge liability commitments; CEO change

• And many more... Nearly 2000 crisis events from our 600 companies sample

Notable Reversals of Fortune

© Willis, 2013

23

BP Liquidity Crisis

© Willis, 2013

24

TEPCO Liquidity Crisis

© Willis, 2013

Alcoa

© Willis, 2013

US Steel Corporation

© Willis, 2013

Goodyear Tire

© Willis, 2013

Best Buy Co

© Willis, 2013

Motorola Solutions

© Willis, 2013

Tyson Foods

© Willis, 2013

Ford

© Willis, 2013

Threat of Shock Reversals of Fortune Demands Protection That…

• Pays immediately without dispute

• Has no/ few caveats/exclusions

• Is priced significantly below cost of capital

• Injects substantial capital

© Willis, 2013

Comparison of Black Swan Protection Instruments (1 of 2)

Availability is uncertain if a borrower’s credit quality deteriorates significantly under severe shocks

Further debt must be taken on during a time of crisis

Repayment at unfavourable interest rates in difficult circumstances

Cash sitting on the balance sheet incurs a huge opportunity cost

Reluctance to draw on strategic cash reserves

If drawn, replenishment is needed

Lines of Credit

Insurance

Cash on balance sheet

Typical payment delay of 6 ~ 36 months, while claim is disputed

Narrow coverage - claims only made for specific pre-agreed perils, e.g. strategic failure would not be covered

For large corporations, using insurers’ balance sheets for risk transfer is not capital efficient

© Willis, 2013

Comparison of Black Swan Protection Instruments (2 of 2)

High limits are unavailable because market is not significantly liquid

Legal issues of buying put options on own stock

Mark to market accounting could increase balance sheet volatility

Products that do exist are well into the double digits in terms of rates on line

Peril-focussed and so offers narrow coverage for broad-based risk

Delays in claim payments due to litigation

High margins, often due to Reinsurers’ concentrations of risk to which an individual company is not so exposed (e.g. Natural Catastrophes)

Typical margins of 300% (loss ratio of 25%)

Typically over 10% ROL and covers only a single peril

Premium is usually at least 4 or 5 times higher than mean risk being transferred

Limited Capacity

Traditional Equity Derivatives

Excess Insurance

Catastrophe Bonds / Insurance-linked Securities

© Willis, 2013

Efficient Risk Retention and/or Efficient Risk Transfer

1. Transfer the risk by buying a derivative designed for the purpose

2. Retain the risk by issuing a policy from the captive to the parent

3. Hedge the risk by issuing a policy from the captive and having the captive buy a the product in derivative form

Product can be introduced that would protect you from these risks by more effectively using your captive and/or transferring the risk to capital markets

* Please see appendix for the analysis in detail

© Willis, 2013

Risk Transfer Option: Derivative Product

• Up to $ 1 billion annual limit and $ 500 million EEL

• Indicative price is 2%-5% of the annual limit, depending on underwriting results, for companies who qualify

Product Protection

Company

Single-Trigger Derivative

Product

© Willis, 2013

Risk Retention Option: Product Issued as Insurance Through a Captive

• The parent company buys a DIC/DIL* policy underwritten by the captive, with two triggers – the derivative trigger and an insurance trigger

• Annual policy

• Limits set by Captive

Captive Parent

Company

Single Trigger

Second Indemnity

Trigger

* Different-in-Conditions / Different-in-Limits © Willis, 2013

Risk Hedge Option: Back-to-Back Approach

• The corporate captive can be the entity buying derivative product

• The parent company buys a DIC/DIL* policy underwritten by the captive, with two triggers – the derivative trigger and the insurance trigger

• The Captive is always over-hedged

Product Protection

Captive Parent

Company Derivative

Product Only

Derivative Trigger

Second Indemnity

Trigger

• Captive buys 4Ć on behalf of the parent Company

• Captive issues an insurance policy to the parent Company

* Different-in-Conditions / Different-in-Limits

© Willis, 2013

To Summarize:

• Black Swans are not rare for the largest corporations

• These crises cause lingering damage to management and corporate reputations

• The insurance sector has not had much to offer in the past

• Protection solutions are possible

© Willis, 2013

Question & Answer

© Willis, 2013