IAG Re Limited, in the matter of IAG Re Limited [2007] FCA 981

Federal Court of Australia|2007-06-18|Before: Lindgren J

INTRODUCTION 1 On 18 June 2007 I confirmed a scheme for the transfer of the insurance business of the first applicant, IAG Re Limited (IAG Re), to the second applicant, IAG Re Australia Limited (IAG Re Australia) (the Scheme). (Until 28 March 2007, IAG Re Australia was called "NZI Insurance Australia Limited".) 2 The confirmation was pursuant to s 17F(1) of the Insurance Act 1973 (Cth) (the Act). That section occurs within Div 3A in Pt III of the Act which is headed "Transfer and amalgamation of insurance business". I confirmed the Scheme for the reasons that appear below.

The Insurance Australia Group 3 Insurance Australia Group (the Group), in which Insurance Australia Group Limited (IAG Limited) is the ultimate parent company, is the largest insurer in Australia and New Zealand and has an annual gross written premium of more than $7 billion. It employs 14,000 people across Australia, New Zealand, the United Kingdom and Asia. The Group comprises well-known insurance "brands" including NRMA Insurance, CGU, SGIO, SGIC and Swann Insurance in Australia, and State Insurance and NZI in New Zealand. Group interests in Asia include two businesses in Thailand (NZI Thailand and Safety Insurance), a 30% stake in Malaysia's AmAssurance, Alba (a Lloyd's syndicate based in Singapore) and the China Automobile Association in Beijing. More recently, IAG Limited has acquired the United Kingdom insurance businesses of Hastings, Advantage and Equity Insurance Group. 4 The Group maintains two "captive" reinsurance operations. They are IAG Re, located in Ireland, which primarily writes the Group's Australian current reinsurance business, and IAG Re Labuan (L) Berhad, located in Labuan, Malaysia, which writes the Group's international reinsurance business. 5 It has been found that the location of IAG Re's business in Ireland provides no administrative benefits and involves a level of outsourcing and complexity which would not occur if the business were wholly administered and located in Sydney. The original benefits associated with an Ireland location have now largely disappeared, and there are disadvantages in dealing with two regulatory, accounting and legal regimes, especially given the geographic separation and time zone differences between Australia and Ireland. 6 IAG Re Australia already holds an authorisation under the Act to carry on insurance business in Australia. The utilisation of IAG Re Australia avoids the need to create an additional licensed insurer within the Group. 7 Both IAG Re and IAG Re Australia are wholly-owned subsidiaries of IAG Limited. IAG Re is a direct subsidiary of IAG Limited. IAG Re Australia is a subsidiary of CGU Insurance Limited which is a subsidiary of CGU Insurance Australia Limited, which is a subsidiary of Insurance Australia Limited, which is a direct subsidiary of IAG Limited.

The Scheme 8 The "Transfer Date" is defined in the Scheme as 28 June 2007 or any other date it has agreed between IAG Re and IAG Re Australia. 9 The Scheme is generally to the following effect. IAG Re will transfer the reinsurance contracts (contracts in which IAG Re is the reinsurer) and any incidental business to IAG Re Australia. The transfer will involve a transfer to IAG Re Australia of IAG Re's rights, liabilities and obligations as reinsurer under the reinsurance contracts. In fact, there are seven insurance companies within the Group for which IAG Re has provided reinsurance. 10 In addition, IAG Re will transfer to IAG Re Australia the assets, rights, liabilities and obligations of IAG Re as a reinsured itself under retrocession contracts. The evidence shows that there are 114 retrocessionaires (all companies outside the Group) and 2,013 retrocession treaties or contracts. 11 IAG Re will pay or transfer to IAG Re Australia cash and securities for an amount necessary to provide a capital base on the transferred business equal to a multiple of 1.6 times the Minimum Capital Requirement (MCR) for IAG Re as at the Transfer Date. The MCR for a general insurer is established by the Australian Prudential Regulation Authority (APRA) in GPS 110 (Capital Adequacy) at para 5. The preferred level for the Group is 1.6 times MCR. 12 IAG Re and IAG Re Australia will, before the Transfer Date, set a final purchase price equal to a "roll-forward estimate of 1.6 times the MCR of IAG Re as at the Transfer Date". On the Transfer Date, IAG Re must transfer to IAG Re Australia all of IAG Re's assets, liabilities, rights and obligations incidental to IAG Re's insurance business, excluding the amount of any investment assets equal in value to the excess of IAG Re's Capital Base over 1.6 MCR. Also on the Transfer Date, IAG Re must pay IAG Re Australia an amount equal to 1.6 times the MCR of IAG Re as at the Transfer Date, and IAG Re Australia must pay IAG Re the purchase price in consideration for the transfer of the IAG Re assets, liabilities, rights and obligations.

The Australian Prudential Regulation Authority 13 APRA has determined, under s 32 of the Act, a prudential standard relating to the "Transfer and Amalgamation of Insurance Business for General Insurers", namely, Prudential Standard GPS 410. General insurers must comply with prudential standards: s 35 of the Act. The present application for confirmation had to be considered in the light of the requirements of the Act and of GPS 410. 14 APRA appeared and was heard on the application (see s 17E(3) of the Act) and raised no objection to the Court's confirmation of the Scheme. 15 The applicants gave to APRA a copy of the Scheme and the actuarial reports on which it is based in accordance with GPS 410 and as required by s 17C(2)(a) of the Act. The applicants published notice of their intention to make the present application for confirmation, in accordance with GPS 410 and as required by s 17C(2)(b) of the Act. In addition, a summary of the Scheme approved by APRA was given to every affected policy holder, in accordance with GPS 410 and as required by s 17C(2)(c) of the Act. As required by s 17C(3), the approved summary included, in relation to each body corporate affected by the Scheme, details of the places (in Sydney and Melbourne) and times at which an affected policy holder might obtain a copy of the Scheme. There is evidence that copies of the Scheme were available at the places and times advertised, but, perhaps predictably, none of the affected policy holders sought to obtain a copy of the Scheme. 16 APRA did not arrange for an independent actuary to make a written report on the Scheme, as it might have done under s 17D of the Act, but the applicants themselves arranged for independent actuaries, PricewaterhouseCoopers, to provide such a report, a copy of which was, of course, provided to APRA.

Retrocession contracts not governed by Australian law 17 Two matters call for special mention. All seven insurers and the intermediaries for all 114 retrocessionaires have been notified of the proposed Scheme and given the opportunity to raise objections, and none of them has done so. Of the 2,013 retrocession contracts, all but 32 were governed by Australian law. Those 32 have now been brought under Australian law by reason of endorsements on the policies. The affidavit of Julie Kirsteen Batch, Chief Underwriting Manager (Australia), Reinsurance, employed by the Group gives details of the retrocession treaties.

Actuarial evidence and a recent catastrophic event 18 The other matter concerns the actuarial evidence. There is in evidence an actuarial report of independent actuaries, Conor O'Dowd and Lisa Simpson of PricewaterhouseCoopers dated 5 April 2007 which concluded: We have considered the Scheme and its likely effect on the policyholders of IAG Re and [IAG Re Australia]. We have concluded that no policyholders (or third party claimants who rely on their policies) would be adversely affected by the proposed transfer. 19 Since that report was prepared, however, widespread flooding has occurred in the Hunter Valley Region. The report did refer to the possibility of further "catastrophe losses". It stated that the maximum "event retention" for IAG Re was estimated by the "Approved Actuary" at $118 million, and that it was possible that a loss of that order of magnitude could "impact" the portfolio in the period prior to the transfer taking place. The report stated that the impact of such an event would be to reduce the solvency capital available by approximately $83 million, being the net of tax impact of such an event. IAG Re would continue to meet its minimum solvency capital requirements but would require recapitalisation in order to provide a suitable buffer above the minimum level. The report stated that the Group MCR coverage was at a strong level and thus able to support the recapitalisation in such a scenario. Interestingly, the report stated "the likelihood of such a significant catastrophe event occurring in the period prior to the transfer is extremely remote". However, just such a significant catastrophic event has occurred in the Hunter Valley flooding referred to. 20 This recent event has now been addressed in further affidavits of Lisa Simpson (independent actuary) and Bruce Lambert (the Approved Actuary), both sworn on 15 June 2007. Ms Simpson states that over the period 12 June 2007 to 15 June 2007 she prepared a supplementary actuarial report. It is in evidence. She states that it "does not materially change the substance or conclusion" of the earlier report. Ms Simpson notes in section 3 of her supplementary actuarial report, IAG Re's estimate that "IAG Re would retain approximately A$116m on a net of retrocession basis, if the total group maximum exposure of A$169m is reached". 21 Earlier, IAG Re had been proposing to repay excess capital. This would have reduced the net assets of IAG Re by $100 million. In the light of the significant potential impact of the recent event, IAG has decided not to implement that transaction. In those circumstances it is unlikely, according to Ms Simpson, that IAG Re will require recapitalisation. 22 On the basis that the capital management transaction does not take place prior to the implementation of the Scheme, the MCR ratio is likely to be in the range of 1.8 to 2.1 times the MCR. 23 Ms Simpson expresses the following conclusions: If IAG Re do not go ahead with the Capital Management transactions prior to the transfer, then the MCR coverage ratio for IAG Re is highly likely to be above the 1.6 target level. This opinion assumes that there are no significant differences between the treatment of flood losses for the inwards and outwards reinsurance treaties of IAG Re. In addition, the capital of both IAG Re and [IAG Re Australia] is supported by the capital of the Group. Therefore, the opinions expressed in the Actuarial Report are not changed by the impact of the storm event, on the condition that the Capital Management transactions do not proceed. In other words, the security of IAG Re and [IAG Re Australia] policyholders will not be adversely impacted by the proposed insurance scheme of transfer. 24 Mr Lambert, the Approved Actuary, agrees with Ms Simpson's conclusion.

Other matters 25 In SGIC General Insurance Ltd [2004] FCA 1639 Jacobson J identified (at [18]) the steps to be taken in a scheme for the transfer of an insurance business from one general insurer to another, as in the present case. Some requirements appear in the Act and some in GPS 410. In his submissions, senior counsel for the applicants has helpfully listed the steps accompanied by references to the evidence before the Court demonstrating that the respective steps have been taken. I will not repeat his list in these reasons. I am satisfied that all procedural requirements have been complied with.

CONCLUSION 26 For the above reasons, on 18 June 2007 I made the orders referred to earlier. I certify that the preceding twenty-six (26) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Lindgren.

Counsel for the First and Second Applicants: Mr M B Oakes SC

Solicitor for the First and Second First and Second Applicants: Blake Dawson Waldron

Solicitor for the Australian Mr D Sullivan Prudential Regulation Authority:

Date of Hearing: 18 June 2007

Date of Judgment: 18 June 2007

Date of Publication of Reasons: 2 July 2007

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