October 2007

Driving the rapid growth of China's emerging insurance industry and providing a powerful enticement for domestic and foreign insurers, banks and financial conglomerates, is the fact a certain percentage of the Chinese population is taking their own security into their own hands. With around 70% of 1.3 billion people living in rural areas and already struggling with low incomes and growing worries for the future, the country's safety net is stretched to a breaking point. Time is running out for China as it is busily modernizing its insurance industry with a rapidly aging population.

In the first six months of 2007, China's insurance industry witnessed a 20.7 percent rise in premiums to RMB 371.8 billion (USD 49.2 billion). Three types of insurances contributed to the premium increase; property insurance, life insurance and accident insurance.

China's Insurance Sectors

Similar to other worldwide insurance markets, China's insurance market is divided into two sectors: life insurance and non-life insurance.

The life insurance sector is divided into several segments: life assurance, health insurance, pension systems and other related products. China's life insurance sector is one of the fastest growing in China. In the first half of this year, it grew by 16.7 percent to RMB 235 billion (USD 30.5 billion). It is expected by 2008 to surpass Korea to become the second largest insurance market in Asia and the fourth biggest in the world, after USA, Japan and the UK. Life insurance premium revenues account for approximately 75 percent of all insurance premium revenues in China.

The non-life insurance sector is divided into the following segments: property insurance, accident insurance, liability insurance and motor vehicle insurance. The non-life insurance sector has been dominated by the mandatory motor vehicle insurance required by car owners. In 2006 motor vehicle insurance made up 65% of the non-life insurance sector. Property Insurance increased by 37.1 percent to RMB 108.4 billion (USD 14 billion) and accident insurance jumped by 17.7 percent to RMB 9.5 billion (USD 1.2 billion).

Investment Regulations for Foreign and Domestic Insurers

The regulations regarding insurance in China are implemented by the China Insurance Regulatory Commission (CIRC). This institution was established in 1998 and is authorized by the State Council to conduct administration, supervision and regulation of the Chinese insurance market.

Investment by Foreign Insurers

The regulations for foreign insurance companies differ depending on the sector of the company, such as life or non-life insurer. Life insurers are not permitted to establish Wholly Foreign Owned Enterprises (WFOE). They can only establish Joint Ventures with a maximum stake of 50 percent of the shares. Non-life insurers are limited to a maximum of 51 percent of the shares in a Joint Venture; however they are permitted to establish WFOEs.

The CIRC has clarified the criteria for foreign investors seeking to buy shares under 25 percent in domestic insurance companies. A single investor is not allowed to hold more then 20 percent of a domestic insurance company.

The requirements for this type of investment are the following:

• Foreign investor must have assets of more than USD 2 billion
• Foreign investor must have made profits for three straight accounting years and gained a credit rating of more than A level from international rating firms over three years
• Foreign investor is not permitted to sell their stakes within three years of delivering the capital
• Foreign investor is banned from financing their acquisitions by loans and must pay hard currency
• Domestic insurer must gain approval from the regulator to sell shares to foreign investors

Once the foreign investor raises the shares over 25 percent in a domestic insurance firm, the entity will be classified as a foreign company and therefore has another set of regulations.

The requirements for the investment by a foreign insurer to establish a Joint Venture or WFOE are as follows:

• Foreign insurer must have assets of more than USD 5 billion
• Operational for more than 30 years and operated in China for more than two years

The minimum registered capital to establish a branch company as a life or non life insurer is RMB 200 million (USD 25.9 million) while re-insurers must inject a minimum of RMB 300 million (USD 38.9 million).

Prior to 2004 foreign insurers were limited to establishing their presence in 15 cities in China, whereas now they are able to establish all across the country.

In the first six months of 2007, five domestic and three foreign funded insurance companies were approved by the CIRC. At the end of June there were 56 Chinese insurance companies, eight insurance group and holding companies, nine insurance assets management companies and 128 insurance operation outlets for 45 foreign insurers from 15 countries and regions.

Investment Overseas by Chinese Insurers

By mid-July 2007 the CIRC raised the limit for overseas investments by Chinese insurance companies to 5 percent of total assets. Chinese insurers have a combined asset value of RMB 2,500 billion (USD 325 billion); a total growing at 25-30 percent a year.

Since 2004, some insurers have been allowed to invest foreign exchange earned by overseas share sales in offshore fixed income securities. In 2006 the government allowed some firms to buy limited amounts of foreign exchange to invest in the Hong Kong public offerings of some mainland Chinese companies.

The further loosening of China's tight capital controls forms a route for Chinese money to enter global capital markets, adding to the momentum of the country's transition from a huge net importer of capital to net exporter.

Competition between foreign and domestic insurers

Life Insurance Sector

Currently local insurance companies dominate the domestic market. In the life insurance sector China's domestic life insurers have 97 percent of the market share, with the top three companies being China Life, Ping An and China Pacific Life, which together own over 90 percent of the market share.

A reason for their dominance in this sector was the geographic restrictions placed on foreign insurers, who were prior to 2004 only permitted to operate in the 15 major cities in China. Although this rule was repealed foreign insurers are still lagging behind. The cities of Guangzhou and Shanghai were opened to foreign insurers earlier than other cities, allowing these investors to gain a market share, albeit a small one, as these are also the areas where people already have insurance, making access difficult.

As a consequence, foreign insurers have been surveying China's second and third tier cities, although consumers tend to have less disposable income than the first tier cities. However with growth expected to increase faster than the first tier cities, foreign insurers are making this their long-term goal.

Further distribution channels for foreign insurers are via the bancassurance market, which is the provision of insurance products by a bank. The usage of the word picked up as banks and insurance companies merged and banks sought to provide insurance, especially in markets that are becoming more liberalized. In China this has become significant as banks are now a major distribution channel for foreign insurers, and insurance sales have become a significant source of profits for banks. The latter partly because banks can often sell insurance at better prices (i.e. higher premiums) than many other channels, and they have low costs as they use their existing infrastructure. Overseas life insurers generated RMB 4.28 million (USD 565.4 million) in premiums in the first half of 2007, an increase of 38.8 percent from a year ago. The rise has been attributed to a huge jump in bancassurance revenue, which rose 87.1 percent to RMB 2.07 billion.

Foreign insurers have an advantage by using this channel because they are able to follow the capital market quickly. Also most of the products they sell through bancassurance are investment unit products. Their returns are linked to the stock market in addition to providing a basic protection function and are therefore more attractive for customers then the products provided by Chinese insurers.

Although Chinese financial institutions have agents stationed across China, their output is very low. The sales force has a productivity rate of only a fraction of the output generated by foreign insurance sales forces. Another cause of instability amongst companies and customers is that agents are not loyal to their companies and therefore remain for a very short time at one company.

A mistake made by many foreign insurers is that although China has a population of 1.3 billion people, it does not mean the number of potential customers is equivalent. With approximately 870 million people living in the rural areas, with no savings and no income, insurance is not a viable purchase. For this population cluster, live stock is of up most importance. Domestic insurers have therefore forged ahead with new products and in August 2007, farmers are now able to insure their cattle, who are capable of giving birth, allowing farmers more security and compensation in case of any losses. The premium for such insurance is RMB 60 and in Western and Central China RMB 48 of the total is subsidized from the government.

Non-Life Insurance Sector

Although the focus has been on the life insurance market, the country's rapid industrial and commercial growth is creating significant opportunities in the non-life sector. In 2005 foreign non-life insurers controlled 1.3 percent of the non-life insurance market in China. This seemed to be a surprise at the time as it had been forecasted that non-life insurance premiums would grow 25 percent annually and also because non-life insurers have more freedom in their market entry strategy. However an important aspect is that foreign non-life insurers are banned from providing products considered part of the compulsory insurance market which includes motor vehicle insurance. With the automobile industry growing, the motor vehicle insurance makes up 65 percent of the non-life insurance sector.

In order to obtain a lucrative foothold in this compulsory sector, foreign insurers have bought stakes under 25 percent into the domestic insurance companies with options of purchasing more shares when the industry opens even further, allowing the companies a better entry point into this segment.

Although expansion is important for foreign insurers, executives of the non-life sector prefer to focus on the first tier cities in China, such as Shanghai, Beijing, Guangzhou and Shenzhen. These firms are more frustrated by the lack of international brokerage companies that can act as intermediaries. Selling insurance through intermediaries is another distribution channel. However in order to establish a brokerage firm, the registered capital is now RMB 5 million (USD 604,200).

An advantage for foreign non-life insurers is that their global clientele are foreign multinational corporations (MNC's) who prefer to keep working alongside their existing insurance providers in China. Domestic companies are therefore also looking to establish Joint Ventures with the foreign insurers in order to gain access into this crucial and increasing market.

Compulsory Insurance Sector

Compulsory insurance can only be bought from domestic insurers. There are different requirements for certain industry sectors but generally compulsory insurance is limited to the following items:

• Motor Third Party Liability Insurance
• Social Security Scheme
• Work Related Injury Insurance
• Construction Worker Insurance

Motor Third Party Liability Insurance

Owners of China's 130 million motor vehicles, including cars, motorcycles and tractors have to buy compulsory motor vehicle insurance. Currently only 35 percent of all vehicles are insured. The law does not specify a minimum insurance sum and insurers are unwilling to provide an unlimited liability cover. The majority of local motor policies provide a limit of RMB 100,000 (USD 13,000) or less. Recent liability cases indicate that courts consider the individual's career, income and dependants when deciding awards. Commonly an insurance sum of RMB 500,000 (USD 64,000) is awarded.

Social Security Scheme (SSS)

The scheme is for the benefit of employees and should cover medical treatments, unemployment, pension, maternity and housing funds for home purchasing. The scheme is administered by the state where the employer and employee register with the local Labor Bureau or an employment agency as is the case with Representative Offices and contribute a specified monthly sum to a fund. The level of contributions and entitlements differ by city and province.

Non - Chinese residents are not eligible for SSS. The company is responsible for the SSS contribution and as it is owed to the state, it is advisable for foreign companies to discuss and implement with their local labor agencies as soon as local staff are employed.

Work Related Injury Insurance

Since 2004 work injury is a compulsory insurance in China. The level of contributions vary depending on the industry and nature of work undertaken. Although it is compulsory it does not take away employer's liability towards employees under the civil law.

Construction Worker Insurance

The Chinese Construction Law requires employers to provide bodily injury insurance for employees engaged in "dangerous" work on a construction site. This could either be in the form of employer's liability or personal accident insurance. The law however does not state a specific type of insurance or minimum amount of indemnity.

Conclusion

With domestic insurers in the lead and with the government being progressively more lenient with them, it remains to be seen how foreign insurers can gain market share in China. There are many distribution channels available and new markets to enter, but foreign insurers must be quick to gain access. Luckily for the population of China, with the competition between foreign and domestic insurers generating more products and assistance, the insurance industry has been opening up in a positive way that they can be protected for their very own future.

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All information in this report is verified to the best of our ability and is assumed to be correct at time of release; however, Klako Group does not accept responsibility for any losses arising from reliance on the information provided within.