Why higher FDI threshold could deepen, widen market for insurance products

Budget 2021 raised the FDI limit in the insurance sector from 49 to 74 per cent

The Budget announcement raising the foreign direct investment (FDI) limit in the insurance sector from 49 to 74 per cent is bound to be welcomed by the White House. President Joe Biden gets a high approval rating from the US insurance universe which appreciates his strong support for a pan-national health cover, quite the opposite of former President Trump’s policies. Naturally, he had got much more campaign finance from the industry. So it was obvious that at some stage he was going to back US insurers’ quest for a larger space in the Indian insurance market.

For years, the US insurance companies have struggled to get New Delhi to allow them more FDI leeway. Last year, the Indian commerce ministry mandarins made no secret of the fact that trade talks between the two nations have suffered because of the relatively closed door for insurance companies from abroad. India had allowed 49 per cent FDI in the sector but the foreign insurance companies wanted to retain control with their capital. It was possible only if the FDI bar went up above 51 per cent and preferably to 74 per cent. The influential US-India Strategic Partnership Forum had made its disappointment clear in its statement after Budget FY20 made no move in this direction.

That Prime Minister Narendra Modi has handed Biden such a major gift in less than a month of stepping into the White House will reckon as a major triumph for the latter. It could also lead to more progress at the US-India trade talks.

For the 24 life insurance companies and 34 non-life companies in India, this could, therefore, be the year of major shakeouts. The sector is too crowded. Despite the presence of so many companies the insurance penetration in the country has risen by only one percentage point in 16 years. It was 2.7 per cent in 2001 and 3.7 per cent in 2017. The global average is 7.33.

This has created a cozy club. Incumbents chase a few well-defined portfolios and are happy with the profits they generate. Unlike banks, where a loan can be made on the basis of the leverage of the deposits held, each policy written by an insurance company needs additional capital. This makes expansion of business for an insurance company costly and companies with deep pockets have an edge in the sector. It should follow that insurance companies will draw upon every available source of capital to expand their business. But, surprisingly, the headroom for additional foreign capital remains unused (see table). Of the 23 private companies in the sector, 12 have space for more investment. This includes leaders like Bajaj Allianz Life, HDFC Life, and ICICI Prudential.

The utilisation rate of FDI is worse for the non-life business, reinsurance, and standalone health insurance companies. The aggregate foreign investment has gone down. A perusal of the list of the 28 private sector companies shows that only six have used up their limit of 49 per cent. These are Max Bupa, Cigna, and Aditya Birla among health insurers and Bharti Axa, Iffco-Tokio and Raheja QBE.

Clearly, those companies for which the limit has been reached will be the first off the block to secure more forei­gn capital. The biggest beneficiary, for instance, could be companies such as Raheja QBE, which specialises in high-risk products. In the life sector, expect the number of firms to be halv­ed, with the likes of HDFC Life, SBI Life and ICICI Prudential lording it over a thin field. The forthcoming init­ial public offering of LIC could be the tr­igger for the shuffle in the pack (see box).

It will be a change Indian consumers at all levels will welcome. They have been the losers so far. The Fasal Bima Yojana agri-insurance scheme has flailed just as badly as new-age products such as climate insurance. States with weak finances do not want to run insurance cover for health or crops. They depend instead on models that do not draw out money from their budget. Domestic insurance companies are not eager to entice them and therefore grab the business.

Neither do the companies wish to lay out capital to secure risks of a pan­d­emic or for covering opportunities such as artificial intelligence. The lack of capital is the chief reason the Indian state-run companies are nowhere in these businesses. Cyber insurance or specialised cover for company directors need a lot of capital to be offered sin­ce the payouts for a claim could be massive. It is one of the reasons Indian firms buy these covers mostly ab­road where the premium rates are lower.

An SBI Research note estimates the increase in FDI could draw in over Rs 5,000 crore of foreign investment in the sector in the next one to two years and a further Rs 15,000 crore in the next five years, generating “deeper product expertise and better underwriting skills”. There has been plenty of lobbying by the domestic leaders to stop competition from abroad in the past, but now the tables have turned.

The LIC juggernaut

Life Insurance Corporation’s upcoming IPO is a key reason the government is confident about touching its disinvestment target in FY22. The evaluation of the enterprise value of India’s largest life insurance company is almost complete, say those involved with the exercise. At the end of it the government finds that it cannot possibly offer a 10 per cent share in LIC to the market at one go. A March 2020 media report had valued LIC at over Rs 11 trillion. But this excluded LIC’s investments in unlisted equities and subsidiaries, joint ventures and associates, which have been valued at book value. Ascribing market value to them could raise LIC’s valuation far higher. The finance ministry has approval from the market regulator, Securities and Exchange Board of India, to make the offer lower than the minimum threshold of 10 per cent. Even then, the sum at close to Rs 1 trillion will be more than half the estimated disinvestment receipts for FY22.