Many ceding companies are taking advantage of the buyer's market in reinsurance to place their risks with the biggest and most financially secure reinsurers.
In a market with plentiful capacity, cedents are seeking reinsurers with several hundreds of millions of dollars in capital and surplus, whereas just a few years ago they would have been content to place the same business with reinsurers that had less than $100 million in capital.
To stay in this competitive game, reinsurers are merging, issuing additional shares or reinvesting their profits to achieve higher capital levels.
But capital and surplus is not the only measure of financial security, agree market observers, some of whom also point to rating agency assessments.
In addition, some smaller reinsurers are attracting business by avoiding accumulations of exposure and writing more varied books of business than some of their larger counterparts.
One of the reasons why Chartwell Reinsurance Co. has increased its capital and surplus in recent years was the demand for highly capitalized reinsurers by cedents, said Steven J. Bensinger, president of the Stamford, Conn.-based reinsurer.
"We recognized that the benchmark for acceptability from a size standpoint was increasing," he said.
Chartwell increased its capital and surplus to $238.3 million in 1996 from $188 million in 1995. About $20 million of the increase was derived from a stock issue in 1996. The reinsurer's capital and surplus will likely increase to more than $250 million before the end of the year, Mr. Bensinger said.
That will provide Chartwell with a comfortable cushion above the $200 million it thinks it needs to attract business from its target market of specialty and regional insurers, he said. In the early 1990s, reinsurers would have been able to attract that business with only $100 million in capital, he added.
But even reinsurers with adequate capital need to ensure they have a good rating agency marks, Mr. Bensinger said.
"Rating agencies are the de facto regulators of the industry," he said.
Ratings are an increasingly important consideration for reinsurance buyers, agreed R. Max Williamson, president of Scottsdale Insurance Co. in Scottsdale, Ariz. Insurers have been burned too often in past by poorly rated reinsurers that ran into problems, he said.
But capital and surplus levels also are extremely important, and today Scottsdale would rarely look at a reinsurer with less than $100 million in capital and surplus, he said.
For long-tail liability business, insurers will likely look for reinsurers with more than $100 million, Mr. Williamson said.
The current financial strength benchmarks contrast sharply with the early 1990s, when reinsurers with between $25 million and $50 million of capital still could attract business, he said.
"Market conditions have a lot to do with it. When there is plenty of capacity available, you tend to gravitate toward the healthier reinsurers," Mr. Williamson said.
In a market where capacity is plentiful, cedents tend to buy reinsurance from well-capitalized reinsurers, agreed Jacobus Van de Graaf, managing director and chief executive officer of intermediary Towers Perrin Reinsurance in Stamford, Conn.
Brokers and cedents do not look only at a reinsurance company's capital and surplus or financial strength ratings, he added.
"We look at how long they've been in business, their spread of business, the adequacy of their loss reserves and other things," he said.
In terms of size, though, for a broad book of property and casualty business, cedents tend to look for a lead reinsurer to have at least $250 million in capital and surplus, Mr. Van de Graaf said.
"There is no question that smaller reinsurers don't get a good showing, and even reinsurers that might be marginal tend to get shown less-than-desirable business," he said.
In addition, the minimum capital and surplus benchmark is rising rapidly as more reinsurers grow in size, Mr. Van de Graaf said.
"I would not be surprised if the minimum acceptable surplus moves up to $500 million by the year 2000," he said.
The $500 million mark already is becoming the minimum for top reinsurers of casualty business, said Mark W. Hinkley, executive vp at TIG Reinsurance Co. in Stamford, Conn.
TIG increased its capital to $515.1 million in 1996 from $440 million in 1995. The increase was made possible due to the profitability of the business it had written over the years, he said.
"There are good companies out there that do well without that, but the top five to 10 broker markets know that they need that level of capital and surplus along with an A rating to deal with most situations," Mr. Hinkley said.
For the reinsurance buyer, the cost of added security is not too high, some observers say.
The difference in reinsurance pricing between highly capitalized reinsurers and smaller reinsurers is narrowing in the competitive market, said Craig Elkind, a vp at Standard & Poor's Corp. in New York.
"The price that is paid for additional security is very thin. There really isn't that much difference in the price paid for reinsurance" from a reinsurer rated A or AAA, he said.
The fact that the larger companies are getting the business is helping drive up the capital of mainstream reinsurers, Mr. Elkind said.
Most casualty reinsurers in the United States aim to have capital and surplus of $300 million or more, he said.
"But if you just want to be a property reinsurer, you can still do that with $100 million or $200 million," Mr. Elkind said.
Another trend is that, generally, ceding companies are trying to place more business with fewer reinsurers and therefore are looking to the larger reinsurers to satisfy their requirements, he said.
"If the larger companies have the expertise, there is no need to spread your business around 25 companies," Mr. Elkind said.
Folksamerica Reinsurance Co. will have nearly $300 million in capital and surplus by the end of 1997, said Michael E. Tyburski, chief financial officer and executive vp at the New York-based reinsurer.
"We are finding that that level is more than adequate for general acceptance in the market," he said.
Reinsurers need to consider three main factors when deciding how much capital and surplus they should accrue, according to Mr. Tyburski.
Enough to ensure that the reinsurer is accepted by the market.
A realistic amount to support the reinsurer's business and growth plans.
A level at which it can be deployed successfully to generate acceptable returns to shareholders, he said.
"It's a delicate balancing act and an equation we work on continuously," Mr. Tyburski said.
Reinsurers can achieve a higher premium-to-capital ratio by writing a broader spread of business, said John T. Grush, president and chief operating officer at USF Re Insurance Co. in Costa Mesa, Calif.
USF Re's book of business is about 60% medical-related reinsurance and 40% low-layer property and casualty reinsurance, he said. The reinsurer had capital and surplus of $109.9 million in 1996.
USF Re's premium-to-surplus ratio is about 1.1-to-1, compared with an industry average of about 0.7-to-1, Mr. Grush said.
The diversity in its business should allow USF Re to withstand a large loss in its medical or its property and casualty business, as it is unlikely to suffer large losses in both lines in the same year, he said.
"A catastrophe situation will have proportionally less impact on our bottom line because of our spread of business," Mr. Grush said.
Regardless of the spread of business, most reinsurers would find it difficult to write business with capital and surplus of less than $100 million, he acknowledged.
PartnerRe Ltd., with a capital and surplus of $1.8 billion, is way above any measure of critical mass for a reinsurer.
But, capital and surplus should not be assessed in isolation or only in relation to premiums as a measure of a reinsurer's security, said Herbert Haag, president and CEO of the Bermuda-based reinsurer.
Instead, a reinsurer's capital and surplus should be measured against its exposures to loss events, he said. Most reinsurers do not have such exposure information.
For example, a reinsurer of automobile business might be exposed to single maximum loss events of maybe $2 million, so it need not necessarily be heavily capitalized, but a catastrophe reinsurer could face losses of several hundred million dollars from a single hurricane, Mr. Haag said.
"This is why event exposure is so important, but it is not revealed by most reinsurers," he said.
PartnerRe's worst-case loss scenario would be a $700 million hurricane or earthquake loss in North America, Mr. Haag said.