Ernst & Young Capital and Solvency Review: Free Asset Ratio (FAR)
The following is taken from the 2009 Capital and Solvency Review, published in September 2010:
The most widely used measure of financial strength, particularly for with-profit companies, is the free asset ratio (FAR). This is often used to compare the financial strength and future bonus prospects of life companies.
The FAR has been calculated as the free assets expressed as a percentage of the regulatory liabilities. The free assets are calculated as the capital resources of the company less the capital resource requirement (CRR). The capital resources are broadly the total assets (including those outside the long-term fund) plus any adjustments for alternative sources of capital (such as implicit items, subordinated debt, financial reinsurance, contingent loans and other charges on future profits), less liabilities. Liabilities are calculated as the sum of the mathematical reserves and other long-term insurance liabilities, based on the existing Prudential Sourcebook (GENPRU and INSPRU) regulations.
Care is needed when comparing FARs, as companies will have a different mix of business, and may have adopted different levels of prudence in their valuations. Trends in FARs are therefore a more reliable indicator than the absolute level. Generally, companies that write business with significant guarantees, large volumes of annuity business or large volumes of with-profit business will need more free assets. Companies writing mainly unit-linked and other non-profit business, provided they adopt an appropriate matching strategy, have historically held less free assets and will therefore operate at a lower FAR.
The graph below shows the 40 companies with the highest FAR in our review. The FAR decreased for 31 out of the 40 companies. The average shown is a weighted average across all companies, which has decreased from 3% at end 2007 to 3.5% at end 2009.
Note: While the FAR for Liverpool Victoria Life Company Ltd is about 140%, the FAR for the Liverpool Victoria group is about 17%
The information above has been extracted from the Ernst & Young "2009 Capital and Solvency Review". Information in that publication is intended to provide only a general outline of the subjects covered. It should neither be regarded as comprehensive nor sufficient for making decisions, nor should it be used in place of professional advice. Ernst & Young LLP and Scottish Widows accept no responsibility for any loss arising from any action taken or not taken by anyone using this material.
