“The Standard Formula” host Rob Chaplin is joined by Chiara Iorizzo to delve into the crucial, yet complex, public reporting component of Solvency II. This episode explores the Solvency and Financial Condition Report requirements, external audit obligations and the role of the European Insurance and Occupational Pensions Authority in information disclosure.
Episode Summary
In this installment of The Standard Formula’s series on Solvency II, host Robert Chaplin and Chiara Iorizzo unpack the regime’s public reporting element. As Rob explains, public reporting “bolsters transparency and market discipline across the insurance industry.”
Rob and Chiara cover requirements of the Solvency and Financial Condition Report (SFCR) and discuss some proposed changes to these reporting requirements. They also explore external audit requirements and review the role of the European Insurance and Occupational Pensions Authority (EIOPA) in information disclosure.
Key Points
- The SFCR: Rob and Chiara explain the purpose of this mandatory report and detail the five categories of information that it requires of insurers.
- Non-Disclosures: There are situations where an insurer does not have to disclose certain information. Chiara breaks down when and how an undertaking might not need to make a disclosure.
- External Audits: Solvency II does not require external audits of SFCRs, but many supervisory authorities do.
- Regulatory Reforms: On December 31, 2024, updates to several supervisory statements in PRA PS3/24 on reporting and disclosure rules are expected to take effect. Chiara reviews notable changes.
- EIOPA’s Duty to Disclose: EU member states must disclose information relating to capital add-ons and limitations or exemptions from reporting. EIOPA then publicly discloses that information to authorities, including the European Parliament.
Voiceover (00:01):
From Skadden, The Standard Formula is a Solvency II podcast for UK and European insurance professionals. Join us as Skadden partner Robert Chaplin leads conversations with industry practitioners and explores Solvency II developments that matter to you.
Rob Chaplin (00:18):
Welcome back to The Standard Formula Podcast. I’m Rob Chaplin, and today we’re diving into one of the cornerstones of the Solvency II regime, public reporting. Public reporting is a crucial element of Solvency II. Its application bolsters transparency and market discipline across the insurance industry. Joining me to unpack this complex but essential topic is my colleague, Chiara Iorizzo. Chiara, welcome to the podcast.
Chiara Iorizzo (00:49):
Thanks, Rob. It’s great to be here.
Rob Chaplin (00:52):
In this episode, we’ll be focusing on several key aspects of public reporting under Solvency II. We’ll dive into the requirements of the Solvency and Financial Condition Report, or SFCR, discuss some of the recent proposed changes to these reporting requirements, explore external audit requirements, and lastly, look at the role of the European Insurance and Occupational Pensions Authority, or EIOPA, in information disclosure. So there’s a lot of important information to cover. To start us off, Chiara, please explain what the SFCR is and what type of information it should include.
Chiara Iorizzo (01:33):
Certainly. For those who might be less familiar with it, the Solvency and Financial Condition Report, or SFCR, is a mandatory annual report that every insurance and reinsurance undertaking within the scope of Solvency II is required to produce. The purpose of the SFCR is to provide stakeholders, like policyholders and regulators, with a comprehensive overview of the insurer’s solvency and financial condition. Disclosure of the SFCR as part of Pillar 3 of the Solvency II regime is mandated by Article 51 of the Solvency II Directive, which has been transported into Chapter 3 of the PRA Rulebook in the UK.
(02:19):
Apart from a clear and concise executive summary, the SFCR must include at least the following five broad descriptive categories of information covering number one, the business and performance of the undertaking. Number two, the undertaking’s system of governance and assessment of the system’s adequacy for the undertaking’s risk profile. Number three, the risks incurred by the undertaking. Number four, a description of the basis and methods used by the undertaking for valuation of its assets, technical provisions and liabilities, including additional information in relation to any matching adjustment applied, and a description of the undertakings capital management. The EU Level 2 delegated regulation as adopted in the UK provides some additional colour to the five categories of information required in the SFCR. Rob, do you want to let us know what the uninsured UK regulation entails exactly?
Rob Chaplin (03:25):
Well, as a starting point, Chapter 12 of the delegated regulation contains additional prescription on the content of SFCRs, which must contain narrative information on the five broad categories you mentioned in a quantitative and qualitative form, supplemented with quantitative reporting templates, which are templates for the public disclosure of quantitative data by insurance and reinsurance undertakings. In order to get a stronger feel for the regulation, it may be useful to walk through the five categories in turn.
(04:00):
As you noted, the first category is business and performance. The SFCR must contain qualitative and quantitative information in relation to at least the underwriting performance, performance of investments, other material income and expenses, and any other material information on business and performance.
(04:22):
The second category is system of governance. The SFCR is expected to contain information that covers the structure and responsibilities of the undertakings of administrative management or supervisory body, or AMSB. The undertakings fit in proper policy, the undertakings risk management system, including strategies, processes, and reporting procedures, and how these systems are implemented. And the undertaking’s own risk and solvency assessment are also processes. This second category mandates that the SFCR should also cover the implementation of the undertaking’s internal control system, internal audit function and its actuarial function, a description of the outsourcing policy and lastly, an assessment of the adequacy of the undertaking’s system of governance. What about the remaining categories? What requirements do these entail, Chiara?
Chiara Iorizzo (05:23):
Yes. The third category is risk profile. SFCRs should cover at least underwriting risk, market risk, credit risk, liquidity risk, operational risk, and other material risks. Reporting under this category should also detail information regarding the risk exposure of the undertaking, including the transfer of risk to SBVs and other risk-related areas like material risk, concentrations, stress testing and sensitivity analysis.
(05:58):
The fourth category is valuation. SFCRs should cover at least the valuation of each material class of assets, the valuation of technical provisions, including the effect of any application of the matching adjustment, the volatility adjustment or transitional measures, and the value of other liabilities. Importantly, for these three items, the basis, methods and assumptions used for their calculation and any other material information should be disclosed.
(06:31):
The fifth and final category is capital management. This SFCR should cover the management of owned funds and the eligible amount of owned funds to cover the solvency capital requirement, or SCR, and the minimal capital requirement, or MCR. As distinct from the other amount of owned funds needed to cover the SCR and MCR, the actual SCR and MCR that the undertaking must meet should also be disclosed alongside any material changes to the SCR and MCR over the reporting period and the reasons for such changes, and lastly, any non-compliance with the MCR or significant non-compliance with the SCR.
Rob Chaplin (07:20):
Thanks, Chiara. It’s also important to note that for each of these categories, an SFCR should also include any material information. That’s any information which if omitted or misstated, would influence the judgment of any SFCR users, including the supervisory authority and any other stakeholders. Articles 292 to 297 of Chapter 12 of the delegated regulation set out a comprehensive checklist of information required. We’ve now discussed what’s required to be disclosed in SFCRs. Chiara, is there anything that doesn’t need to be disclosed?
Chiara Iorizzo (07:59):
Yes. At times not disclosing certain information may be permitted, in particular, where disclosure would have given the undertaking’s competitors a significant undue advantage, or where the undertaking is bound by secrecy or confidentiality obligations to policy holders or other counterparties. However, the undertaking must make a statement in its SFCR explaining the reasons for non-disclosure, and where non-disclosure is permitted by a supervisory authority, that permission will only remain valid for as long as the reason for non-disclosure persists. And when the reason ceases to exist, the undertaking must notify the authority as soon as possible.
(08:44):
I should note that naturally enough insurers are prohibited from setting up confidentiality obligations to get around the duty to disclose. Rob, let’s look deeper into when an undertaking might not need to make a disclosure. What happens when an insurance or reinsurance undertaking has made previous public disclosures under the legal or regulatory requirements and some of the information that they’re required to disclose under the SFCR has already been disclosed elsewhere? Also, how do SFCR’s requirements apply to insurance groups as opposed to individual undertakings?
Rob Chaplin (09:26):
Those are good questions, Chiara. On your first question, insurers are allowed to refer to other public disclosures they have made in the SFCR rather than repeating those disclosures in full, so long as those disclosures are equivalent to the information required in the SFCR in nature and scope. However, any such references must lead directly to the information itself and not just to a document. This may be achieved by providing the page references to the relevant sections and linking the full document, including annual reports.
(10:00):
On your second question, the answer is that individual undertakings can agree with the supervisory authority to provide a single group SFCR rather than providing an SFCR for both the group and each insurer within the group. Although this may sound administratively simpler, the group SFCR will be subject to all requirements applicable to individual SFCRs and must include all required information at both the level of the group and for each of the individual insurers within the group.
(10:32):
Moving on now from the substantive SFCR requirements, let’s discuss the actual logistics of publishing reports. Please walk us through those, Chiara.
Chiara Iorizzo (10:41):
Sure. Thanks, Rob. Solo insurers and single SFCR groups must publish an SFCR no later than 14 weeks after their financial year. If a group is choosing to disclose a group SFCR and individual SFCRs in respect of each group undertaking, the deadline is no later than 20 weeks after the group’s financial year. The SFCR must be published on the relevant undertaking or group’s website, or if it doesn’t have one, on the website of the trade association of which the undertaking or group is a member. The SFCR must be available for at least five years after disclosure, and if the website hosting the SFCR no longer subsists or a website isn’t available to begin with, the undertaking or group must send an electronic copy of the SFCR to any person who requests a copy within the five-year period. The period for mandatory provision of a printed copy upon request is two years, but if something major happens after the SFCR is published, does that need to be reflected in the SFCR? And if so, how?
Rob Chaplin (11:59):
It does, Chiara. In addition to the annual SFCRs, an undertaking must disclose publicly on an ongoing basis the nature and effects of any major developments that significantly affect its prior disclosures. A major development can be any non-compliance with the MCR where the supervisory authority either considers that the undertaking will not be able to submit a realistic short-term finance scheme or where the authority doesn’t receive any such finance scheme within a month of the date where the non-compliance is observed.
(12:34):
Another example of a major development is where there is a significant non-compliance with the SCR and the supervisory authority does not obtain a realistic recovery plan within two months of the date on which the non-compliance is observed. After a major development has taken place, the affected undertaking must publish either an updated version of the SFCR or amendments supplementing it as soon as possible. I think that covers the existing public reporting requirements in the UK. So Chiara, can you run us through the recent regulatory developments in the UK?
Chiara Iorizzo (13:10):
Delighted to, Rob. On 31st December 2021, the PRA implemented the first phase of reforms to ensure supervisory reporting requirements by amending the Uninsured Solvency II Technical Standards on reporting. In PS 2921 this streamlined reporting requirements by removing a few reporting templates including deleting summary asset and own funds variation reporting for all firms, deleting financial stability reporting for larger firms, and expanding the quarterly reporting waiver to the PRA’s Category 3 firms.
(13:51):
The most relevant upcoming regulatory changes on reporting and disclosure are reflected in the PRA’s PS 324 policy statement published in February of 2024, which reviews the feedback received from two consultation papers, CP 14/22 published on 7 November 2022 and CP 12/23 published on 29 June 2023. The PS 3/24 contains near final rules on reporting and disclosure with updates to several supervisory statements as appendices, which are expected to take effect on 31st December 2024.
(14:34):
CP 14/22 proposes a few changes to streamline and simplify reporting and disclosure templates. Some of the notable changes include deleting several Solvency II Quantitative Reporting Templates, known as QRTs, associated disclosure templates and the relevant PRA National Specific Templates, or NSTs, and additionally reducing the reporting frequency of certain templates from quarterly to semi-annually or annually. Some new templates were also introduced on excess capital generation, cyber risk, underwriting, and non-life product obligations.
(15:19):
Meanwhile, notable proposals in CP 12/23 include removing the requirement to submit the Regulatory Supervisory Report, or RSR, for all Solvency II firms including third-country branches, consolidating the report of SCR by standard formula and full and partial internal models into one template, introducing new reporting requirements on the change of internally-modeled SCR through the year, simplifying reporting requirements in the transitional measure on technical provisions, and amending the quarterly model change reporting requirements.
(16:04):
Specifically, in relation to reporting on third-country branches, the PRA seeks to remove expectations of reporting on a number of templates, introduce new reporting requirements on the solvency and financial position of the legal entity and existing NSTs, and transfer the expectation to submit certain information from the RSR to standalone narrative report.
(16:34):
Finally, PS 3/24 includes some tweaks to the draft rules proposed in the consultation papers based on industry feedback. We won’t go into the nitty-gritties here, as most of them have to do with specific rules such as removing or simplifying specific reporting templates or reversing certain proposals. Rob, we haven’t covered yet to what extent external audit plays any role in the preparation of SFCRs. Please give us a brief overview of that.
Rob Chaplin (17:07):
Absolutely. Though the Solvency II Directive has no requirements on the external audit of SFCRs for insurance and reinsurance undertakings, many supervisory authorities, including the PRA, require a full or partial audit. The external audit part of the PRA Rulebook, along with SS 11/16, requires firms to obtain an external auditor’s report on relevant elements of the SFCR, including the balance sheet, that there is an exemption that may apply to smaller firms. Chiara, let’s now discuss EIOPA’s duty to disclose information. Why don’t you give us an overview of what type of information they require from EU member states, what they’re required to disclose and to whom?
Chiara Iorizzo (17:54):
As you alluded to, Rob, it’s not only firms that have disclosure duties. The Solvency II Directive also contains provisions aiming to facilitate the disclosure by IEOPA of information relating to capital add-ons and certain information on limitations or exemptions from reporting.
(18:14):
As a starting point, member states should require supervisory authorities to provide some information to IEOPA annually. This includes the average capital add-on per undertaking and the distribution of capital add-on imposed by the supervisory authority as a percentage to the SCR. Furthermore, the proportion of capital add-on imposed and the number of insurance and reinsurance undertaking in groups. The benefit from the limitation from regular supervisory reporting or exemptions provided on an item-by-item basis with supporting information should also be provided to IEOPA.
(18:57):
After all the information is collected, EIOPA will then make an annual public disclosure to the European Parliament, the European Council, and the European Commission with a report outlining the degree of supervisory convergence in the use of capital add-on in different member states. The report should cover the total distribution of capital add-ons as a percentage of the SCR for each member state in respect of the various types of undertakings, the distribution of capital add-ons as a percentage of the SCR for each member state, and the total number of undertakings and groups benefiting from the limitation from regulatory supervisory reporting and reporting exemptions respectively on an item-to-item basis.
Rob Chaplin (19:50):
That sounds great. Thank you. Now, before we wrap up, please tell us what SFCR liability directors are potentially exposed to. What are the potential consequences if the SFCR is found to be inaccurate or misleading?
Chiara Iorizzo (20:05):
The short answer is that there is a gap in the regulatory space in this area, but rightly or wrongly, people haven’t regarded this as a significant risk. There is currently no express provision in the PRA Rulebook that gives individuals any actionable right against directors for FCRs that contain misleading or inaccurate information. And while individuals might try to rely on the tort of negligence, it may be difficult to establish the necessary element of duty of care.
Rob Chaplin (20:37):
That’s a great note to end on and brings us to the end of what we have to say today. Thank you for joining us. We hope that you will continue to tune in for future episodes. If you have any questions or comments on any of the topics we spoke about today or Solvency II in general, do please feel free to contact us. Thank you, and we hope you’ll join us next time.
Voiceover (21:01):
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