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LONDON-Lloyd's of London soon will strengthen its capital base by demanding that unlimited liability members put up more assets to back their underwriting exposures.
At the same time, underwriters will have the option of limited liability participation on the syndicates they represent.
In a move to improve policyholder confidence and equalize the funding requirements for individual names, unlimited liability members by the year 2000 will need to hold at Lloyd's at least 50% of the overall premium limits they write each year-and more if their underwriting is of a particularly risky nature.
In addition, Lloyd's has ruled that the minimum total means-the personal wealth investors must show to join Lloyd's-will rise in increments to (British pounds) 350,000 ($571,620) as of 2002, compared with the current level of (British pounds) 250,000 ($408,300).
"The whole purpose of the exercise is to strengthen Lloyd's chain of security," said Andrew Duguid, director of strategic planning and secretary to the Council of Lloyd's. Mr. Duguid spoke last week at the release of a working party report on Lloyd's security.
The report took into account "what constitutes strong security for policyholders" and fairness between different categories of members, he added.
The changes will be implemented gradually. Whereas now names must hold funds at Lloyd's equal to between 20% and 30% of the total business they back, next year that will increase to 32.5% of their overall premium limit plus 7.5% in other personal wealth they must demonstrate, bringing the total to 40%. In 1999, the levels rise to 35% of underwriting commitment and 10% in other personal wealth, and in 2000, 40% of underwriting commitment and 10% in other wealth.
"The 50% margin stands us in very good stead with our competitors," increasing the security of Lloyd's policies, explained Mr. Duguid.
At the same time, requirements for both the minimum total means to back underwriting commitments and other demonstrated wealth will increase incrementally. Because there currently are a number of starting levels for minimum means, depending on a member's type of underwriting, the first three years will eliminate most of those differences.
Next year, most unlimited liability members must post at Lloyd's a minimum funding of (British pounds) 150,000 ($244,980). An additional (British pounds) 50,000 ($81,660) will be added to the equation in 1999 and again in 2000, bringing most forms of members into line. The next two years after that will see (British pounds) 50,000 increases so that the final level of (British pounds) 350,000 in minimum funds will be in effect as of 2002.
Certain categories of members, particularly those working at Lloyd's, will be allowed to show nominal means if they continue to post assets representing at least 50% of their underwriting commitments with the market.
Currently, unlimited liability members fall into several categories:
Members underwriting on a bespoke, or traditional, basis. These members must hold 30% of their underwriting commitments at Lloyd's and have a minimum means of (British pounds) 250,000.
Members underwriting through members' agents pooling arrangements, known as MAPAs. Because the spread nature of a MAPA distributes members' risk exposure, the minimum means is (British pounds) 100,000 and members have to hold just 25% of their underwriting commitment with Lloyd's.
Lloyd's introduced the concept of MAPAs three years ago, when it was expecting a marked fall in its capacity.
Members whose funds had been eroded by large losses or falls in asset values were encouraged to keep underwriting by the less stringent demands.
High-liquidity members. These members underwrite at least (British pounds) 1 million ($1.6 million) and in recognition of their high commitments need to post just 20% as their funds at Lloyd's.
Members who work at Lloyd's need only show nominal means. However, if they are writing through a MAPA, they must hold 40% of their underwriting commitments with the market, 50% if they are traditional members.
Corporate capital members, also introduced three years ago when the Lloyd's authorities anticipated a capacity squeeze, from the outset have been required to hold at least 50% of their overall premium limit with Lloyd's. Also, they have been scrutinized through risk assessments and asked to lodge more funds if warranted by their spread of risk and exposures. In 1997, the ratio of corporate members' funds at Lloyd's to their overall premium limits, on average, is just under 60%. The risk profile of four of the 100 corporate members means they have to lodge 100% or more of their underwriting commitments.
This risk-based approach to assessing the levels of funds lodged with the market is to be extended to all members from the beginning of next year and will prevent a return to "the dark days of 1989 and 1990" when many members ended up on all the high-risk-and high-loss-syndicates, Mr. Duguid said. "This method of risk assessment will detect that pattern of underwriting," he explained.
Lloyd's has introduced these changes in light of responses made to a consultative document issued in April (BI, April 21). Lloyd's has backed off original proposals that membership requirements reach parity over two years, particularly after hearing complaints from the Assn. of Lloyd's Members and the High Premium Group, which represents high-liquidity members.
The Council of Lloyd's also let fall its proposal that bank letters of credit raised on members' main residences no longer be accepted as assets backing underwriting. Although Lloyd's has always banned the use of main residences as collateral for underwriting exposures, there has been no similar exclusion of bank guarantees or letters of credit raised on the properties. In recent years, as the mega-losses worked through the market, many members faced the prospect of losing their homes as Lloyd's called on the guarantees and banks in turn demanded the properties be sold to recoup their funds.
Letters of credit and guarantees issued on principal residences before the end of 1994 will continue to be accepted to back underwriting commitments. If unlimited liability members with letters of credit or guarantees wish to convert to limited liability status, they will have to replace them with other assets by the end of next year.
With regard to the changes, Mr. Duguid said, "Overall, we don't expect this to have an adverse effect on capacity."
Another feature of the changes is that underwriters no longer will be required to have unlimited liability participation on the syndicates. Already, underwriters are not necessarily able to be unlimited liability members of the syndicates they represent because the capital base is exclusively made up of corporate members.
Further reform was called for by a Market Interests Group last week, as it published a report commissioned from Mercer Consulting Management looking at the role of the unlimited liability member in the future.
Sir Adam Ridley, deputy chairman of the ALMp, said the report showed Lloyd's "successes over very many years," which were the result of its unique capital structure.
But reform in certain areas was needed, according to the report. The report cited consolidation in the administration and servicing of members' business in members agents, rather than spread between both members and managing agents as it is now. It also suggested that the premium trust funds, which hold the premiums paid to syndicates, should be consolidated and invested collectively to get better returns.
The report also proposed giving underwriters a choice of supplying capital annually, as they do now, or over a longer term.