macro economy and profitability of insurance … · 2020. 3. 5. · pakistan business review july...

PAKISTAN BUSINESS REVIEW JULY 2015

Research

243

Macro Economy and Profitability of Insurance Companies Research

MACRO ECONOMY AND PROFITABILITYOF INSURANCE COMPANIES A POST

CRISIS SCENARIO IN PAKISTANIjaz Hussain1

AbstractThis paper uses firm level data of 39 companies of insurance

industry of Pakistan for the period 2006-11 The findings of thisstudy suggest that based on overall regression resultsmacroeconomic environment equity market conditions and inflationhave a positive and significant impact on profitability of insurancecompanies in Pakistan This is also true for non-life insurancecompanies However significance and signs of the coefficients offirm-specific characteristics and macroeconomic variables varyacross life non-life and takaful insurance companies on account ofvarying nature of their clientele and coverage of insurance policiesCorporate managers of life insurance companies should especiallyfocus on exploring opportunities for growth and diversification andmanagement of underwriting risk and investment portfolios in viewof changing equity market conditions Financial strength firm sizeand financial leverage cannot be ignored in profitabilitymanagement of life insurance companies The management of non-life insurance companies should also keep in view the macroeconomicenvironment equity market conditions inflation in addition to firmspecific characteristics including financial leverage relative firmsize financial soundness growth opportunities underwriting riskand diversification in particular to manage profitability The takafulbusiness managers should especially focus on underwriting riskdiversification and working capital management to manage theirreturn on assets

Keywords Life Insurance non-life takaful performanceprofitability

JEL Classification E 0201-Department of Economics School of Liberal Arts and Social SciencesBeaconhouse National University Lahore Pakistan


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244

Macro Economy and Profitability of Insurance Companies

Introduction

The insurance sector though relatively smaller in size hasshown a slow but smooth growth in its assetsrsquo base matching withoverall financial sector in Pakistan (Figure 1) However the growthrate of revenue from gross premium of insurance sector exhibits declineover time (Figure 1) Despite slow but smooth growth of assetsrsquo baseprofitability demonstrates significant variation over time and acrossvarious sub-sectors of insurance (Figure 1 amp 2 Annexure A) and alsoappears to remain vulnerable to the risks resulting from macroeconomicand equity market environment in the country (Figure 3) Insurancecompanies in Pakistan have two major sources of revenue ie premiumand investment income Investment in securities and properties aspercentage of the total assets (more than seventy percent) has almostremained stable (Figure 4) while utilization of assets to generaterevenue from premium (asset turnover) has significantly declined overtime during the period 2006-11 Therefore investment income andunderwriting profits have especially been subjected to significantvolatility on account of varying macroeconomic and equity marketconditions in the country (Figure 1 amp 3)Figure 1

Selected Indicators of Financial and Insurance Sector

Source State Bank of Pakistan


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245


Figure 2

Profitability [(Return on Assets (ROA)] by Insurance Sector


Figure 3

Macroeconomic Indicators and Profitability [(Return on Assets(ROA)] of Insurance Sector

Source State Bank of Pakistan Hand Book of Statistics on PakistanEconomy (2011)


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246


Figure 4

Asset Turnover and Investment in Securities and Properties


To the best of my knowledge there have been only twoattempts to explore determinants of profitability of insurancecompanies in Pakistan Both of these ignore macroeconomic andequity market conditions

All previous studies including those in Pakistan and Indiaaccount for only the firm-specific determinants and completely ignorethe impact of macroeconomic and institutional factors which are alsolikely to influence profitability of insurance companies This paperfills up this void in literature and includes macroeconomicenvironment inflation and equity market conditions in the country inaddition to firm-specific determinants of profitability of insurancecompanies in Pakistan

This paper analyzes the determinants of profitability ofinsurance companies in Pakistan at the aggregate level and alsoundertakes the analysis for three various categories of insurancecompanies ie i Life Insurance Companies ii Non-Life Insurance


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247


Companies iii Takaful (Islamic Insurance) Companies This paper usesfirm level data of 39 companies of insurance industry of Pakistan forthe period 2006-11 The findings of this study suggest that significanceand signs of the coefficients of firm-specific characteristics andmacroeconomic variables vary across life non-life and takafulinsurance companies on account of varying nature of their clienteleand coverage of insurance policies The profitability of insurancecompanies is subject to volatility in stock market The positive impactof diversification and equity market conditions on profitability of alltypes of insurance companies has interesting policy implications Thefindings of this study also suggest that there is a strong need forfurther diversification of investment portfolios and macroeconomicvariables are relatively more influential on profitability in case of non-life insurance companies

The rest of the paper is organized as follows Section 1 reviewsliterature Section 2 describes data sources variables research designand methodology Section 3 presents results and discussion whileSection 4 presents conclusion Section 5 lists references

Review of the literature

Boadi et al (2013) discover a positive impact of leverageliquidity and report negative impact of tangibility of assets onprofitability of insurance firms in Ghana for the period 2005-10 Zhu(2013) applies structural equation modeling we investigate therelations among solvency operation ability and profitability in year1994 1995 and 1996 The findings of this study suggest that operatingability has a positive effect on the size and income of life insurers andhas a negative impact on the return on capital during these yearswhile the effect of solvency asset risk and product risk on return oncapital is not significant

Ayele (2012) examines the firm specific determinants of thenine of the listed insurance companies in Ethiopia for the period 2003-


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248


11 The findings of this study show insignificant impact of age ofcompany and tangibility of assets positive and significant impact ofgrowth leverage volume of capital size and negative impact ofliquidity and leverage ratio on profitability Ethiopian insurancecompanies

Ćurak et al (2011) investigates key determinants of thefinancial performance of composite insurance companies in Croatiaduring the period 2004 to 2009 and report that size underwriting riskinflation and equity returns have significant impact on the insurersrsquoreturn on equity Regression results in Kozak (2011) show positiveimpact of growth in gross premiums the GDP growth and foreignownership of companies and negative impact of operating expensesratio for a panel of 25 non-life insurance companies of Poland for theperiod of 2002ndash2009

Using a panel data set for the period 1986 to 1999 Shiu(2004) identifies the determinants of the performance of UnitedKingdom general insurance companies Findings of this study suggestthat liquidity unexpected inflation interest rate level and underwritingprofits are statistically significant determinants of the performance ofUK general insurersChen and Wong (2004) identify size investmentperformance liquidity ratio surplus growth and operating margin asthe major factors that significantly affect general insurersrsquo financialhealth in Asian economies Greene amp Segal (2004) use stochasticfrontier method to estimate cost inefficiency in US insurance industryand explore that cost inefficiency relative to earnings is substantialand is negatively associated with profitability Beck amp Webb (2003)use panel with data for 68 countries over the period 1961-2000findings of this study suggest that income per capita inflation andbanking sector development as well as religious and institutionalindicators are the most robust predictors of the use of life insurancewhile education young dependency ratio life expectancy and size ofsocial security do not appear to be robustly associated with lifeinsurance consumption These findings also suggest that profitability


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249


of the insurance companies is also likely to be influenced bymacroeconomic and institutional environment Wright (1992) reportsthat profitability depends on the scale of policy holderrsquos dividendcapital gain or losses and federalstate taxes for insurer in USA

Agiobenebo and Ezirim (2002) examined the impact of financialintermediation on the profitability of insurance companies in NigeriaTheir results indicate that asset turnover (premium relative to totalassets) has positive and significant impact on profitability of insurancecompanies financial leverage investments though positively relatedbut are statistically insignificant at conventional levels In additionthe study also concludes that past profitability significantly accountfor profitability in current periods on account of information contentconfidence in the organization and goodwill

Adams and Buckle (2003) conclude that highly levered andlow liquid insurance companies of Bermuda relatively have betterprofitability They also identify positive relation of underwriting riskwith profitability McShane et al (2010) find that the profitability iereturn on equity of US life insurance companies is positively relatedto regulatory competition Ikonic et al (2011) use the CARMEL methodto identify the level of capital as the key determinant of profitability ofthe insurance companies in Serbia

Charumathi (2012) uses a sample of twenty three Indian lifeinsurance companies for the period 2008-11 and examines the impactof firm specific characteristics such as leverage size premium growthliquidity underwriting risk and equity capital on Return on AssetsThis study leads to the conclusion that profitability of life insurers ispositively and significantly influenced by the size (as explained bylogarithm of net premium) and liquidity The leverage premium growthand logarithm of equity capital have negatively and significantlyinfluenced the profitability of Indian life insurers This study does notfind any evidence for the relationship between underwriting risk andprofitability


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250


Malik (2011) uses a panel of thirty five life and non-lifeinsurance firms for the period 2005-09 and examines the impact offirm-specific factors including age size volume of capital claims topremium ratio and financial leverage on profitability (return on assets)She reports positive and significant impact of size and volume ofcapital negative and significant impact of financial leverage and claimsto premium ratio on profitability and insignificant impact of age onprofitability Ahmed et al (2011) also examines the impact of firm-specific factors including size leverage tangibility risk growthliquidity and age on performance (return on assets) of listed lifeinsurance companies of Pakistan for the period 2001-07 Their resultsindicate that size and financial leverage are the only statisticallysignificant determinants of the performance of life insurancecompanies of Pakistan Size has positive while financial leverage hasnegative coefficient while coefficients with growth age and liquidityare statistically insignificant

All these studies including those in Pakistan and Indiaaccount for only the firm-specific determinants and completely ignorethe impact of macroeconomic and institutional factors which are alsolikely to influence profitability of insurance companies My paperfills up this void in literature and includes macroeconomic environmentand equity market conditions in the country in addition to firm-specificdeterminants of profitability of insurance companies in Pakistan Thispaper analyzes the determinants of profitability of insurancecompanies in Pakistan at aggregate level and also undertakes analysisfor three various categories of insurance companies ie i LifeInsurance Companies ii Non-Life Insurance Companies iii Takaful(Islamic Insurance) Companies

MethodologyResearch design

This study uses highly popular statistical model of paneldata analysis that combines cross section and time series data and


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251


estimates panel least squares regression of a standard model in thefollowing form

+ mdashmdashmdashmdashmdashmdashmdashmdashmdashmdash(1)

where denotes return on assets of firm i while t specifies timedimension and are unknown constants represents theset of firm-specific explanatory variables which vary across firms aswell as over time is the set of macroeconomic or institutionalexplanatory variables that are common for all banks and vary overtime only is white noise error term

Choice and Discussion of variables

Profitability is dependent variable in this study We use Returnon assets [ROA] as proxy for profitability because it is widely used inliterature ROA is calculated as follows

100mdashmdashmdashmdashmdashmdashmdashmdashmdashmdash(2)

Where is net profit after tax denotes book valueof total assets and and are subscripts for cross section (firm) andtime dimension respectivelyReturn on assets [ROA] serves as a nice proxy for profitability becauseit captures both efficiency and profitability in the sense that it is aproduct of asset turnover [ATO] and net profit margin [NPM]

mdashmdash-mdashmdashmdashmdashmdashmdashmdashmdash(3)

As discussed in Agiobenebo and Ezirim (2002) pastprofitability significantly accounts for profitability in current periodson account of information content confidence in the organization


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252


and goodwill therefore expected coefficient with past profitability ispositive

Whittington (1980) notes and attributes the positiverelationship between size and profitability to the facts that the largerfirm size contributes to the high degree of concentration and monopolypower and also to efficient cost structure due to scale economiesAmmar et al (2003) note that small medium and large firms differsignificantly from one other in terms of their profit rate and profitabilitydrops as firms grow beyond USD 50 million in sales Treacy (1980)points out a strong negative correlation between firm size and returnon equity We express the book value of the assets of a firm aspercentage of the book value of the assets of the insurance industryto measure relative firm size [RFS] as follows

100mdashmdashmdashmdashmdashmdashmdashmdashmdash-(4)

Where denotes book value of the total assets of firm at timewhile denotes book value of the total assets of insurance industrycomprising if n number of firms

Amjed (2007) reports the negative relationship between long-term debt and profitability and the positive relationship betweenshort-term debt and profitability Therefore we expect negativecoefficient with financial leverage measured by debt-equity ratiocalculated as follows

Where denotes debt-equity ratio denotes total liabilities and denotestotal stockholdersrsquo equity of firm at time respectivelyThis study uses Return on Assets as a measure of profitabilitycalculated as follows

Ali (2011) confirms a significant economic impact of workingcapital (average days in inventory average days receivable andaverage days payable) on return on assets Chhapra and Naqvi (2010)show a strong positive and significant relationship between workingcapital management and firm profitability in Pakistanrsquos textile sector

퐷퐸푅푖 푡 = 푇퐿푖 푡푇퐸푖 푡

--------------------(5)

푅푂퐴푖 푡 = 푁푃퐴푇 푖 푡푇퐴푖 푡

lowast 100-------------------------(6)


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253


We use current ratio as measure of liquidity or working capitalmanagement calculated as follows

Where stands for liquidity denotes current assets anddenotes current liabilities of firm by the end of year respectively Wemeasure financial soundness [FS] of insurance companies by the ratioof the book value of capital to that of assets Calculated as follows

Where denote financial soundness capital stock and totalassets of firm by the end of year respectively Financially soundfirms are likely to charge higher premiums which in turn can influencefirmsrsquo profitability

We measure growth opportunities [log (TA)] as logarithm ofthe book value of assets Growth in firmsrsquo assets may signal aboutbetter investment opportunities and future profitability of the firmsand hence the firms with higher growth prospects are likely to be moreprofitable

Insurance companies derive their income from two keysources of revenue ie premium and investment income Sinceinvestment income is significant proportion in total income and ismainly from investments in stocks and property therefore equitymarket conditions [KSMI] are also likely to positively influence theprofitability of the insurance firms We use Karachi Stock Market Indexas a proxy of equity market conditions In addition we measurediversification [DIV] of insurance companies as ratio between non-premium incomes to premium income Such diversification is also likelyto influence profitability Hussain (2013) reports negative impact ofdiversification (measured as ratio of non-interest revenue to totalrevenue) on net interest margins of commercial banks of Pakistan forthe period 2001-10

퐿푖푡 = 퐶퐴푖 푡퐶퐿푖푡

----------------------------(7)

퐹푆푖푡 = 퐶푆푖 푡푇퐴푖 푡

-------------------------(8)


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254


During the period 2001-2011 there have been significantdamages due to the incidents like earthquake floods and terrorismleading to increase in claims by insurance policyholders thereforecoefficient with underwriting risk is expected to have negative signWe measure underwriting risk [UR] as ratio between gross insuranceclaims and gross premium as follows

and denote underwriting risk net insurance claims and net premiumof insurance company by the end of year respectively

Inflation [INF] is likely to raise consumption expenditure ofhouseholds and consequently reduced savings can reduce demandfor life insurance companies Therefore inflation is likely to havenegative impact on profitability of life insurance companies The impactof inflation may be different for life or non-life insurance companies ifhouseholds and businesses prefer to insure against inflation Hussain(2012) identifies negative impact of inflation on profitability of textilefirms in Pakistan for the period 2006-09 Macroeconomic environment[GDPG] captured by growth rate of GDP is indicative of overallbusiness conditions and hence capacity to insure and therefore isexpected to have positive impact on profitability

Data set

This paper uses secondary data from ldquoBalance Sheet Analysis(2006-11) of Financial Sector published by Statistics Department ofState Bank Of Pakistanrdquo The sample of this study covers 39 firms ofinsurance industry comprising of three sub-sectors ie life insurancenon-life insurance and takaful (Islamic Insurance) Choice of the timespan for this study based on following justification (i) Baltagi (2008)identifies two types of the panel data ie miro-panels where the numberof cross-sections is large and time can vary from a minimum of twoyears and macro-panels where time span is large Micro-panels also

푈푅푖푡 = 퐺퐶푖 푡퐺푃푖 푡

----------------------(9)


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255


have an advantage because sampled cross-sections are not likely tobe correlated (ii) Data for insurance companies especially for takafulcompanies is not available prior to 2006

Data on macroeconomic indicators has been derived fromthe Hand Book of Statistics on Pakistan Economy (2010) and StatisticalBulletin (2012) published by State Bank Of Pakistan

Results and Discussion

Regression results have been presented in Table 1 Consistentwith the findings in Agiobenebo and Ezirim (2002) positive coefficientwith past profitability indicates that past profitability of the companiesof non-life insurance and takaful significantly accounts for profitabilityin current periods on account of information content confidence inthe organization and goodwill However the effect of past profitabilityfor life insurance companies is insignificant

Size effects though are negative for all three insurancesubsectors yet these effects are significant only for life insurancecompanies Negative coefficient with size is consistent with the findingsin Ammar et al (2003) and Treacy (1980) However it negates theproposition of higher degree of concentration and efficient coststructure of bigger firms as noted in Whittington (1980)

Consistent with the findings in Amjed (2007) financialleverage has significant and negative influence on profitability of bothlife and non-life insurance companies However the coefficient withfinancial leverage is positive and insignificant for takaful companiesPositive coefficient with financial soundness of both life and non-lifeinsurance companies confirms that firms charge additional premiumfrom policy holders for their trust on account of financial soundnessof these companies


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256


Positive and significant coefficient with growth opportunitiesof both life and non-life insurance companies is indicative of the factthat companies with higher growth opportunities are more profitable

Table 1 Regression Results

Life Non-Life

Dependent Variable ROA Dependent Variable ROA Method Panel EGLS (Cross-section weights) Method Panel EGLS (Cross-section weights) Sample (adjusted) 2007 2011 Sample (adjusted) 2007 2011 Periods included 5 Periods included 5 Cross-sections included 6 Cross-sections included 29 Total panel (unbalanced) observations 27 Total panel (unbalanced) observations 133 Linear estimation after one-step weighting matrix Linear estimation after one-step weighting matrix White cross-section standard errors amp covariance (no df correction) White cross-section standard errors amp covariance (no df correction) Variable Coefficient Std Error t-Statistic Prob Variable Coefficient Std Error t-Statistic Prob C Constant -01057 00975 -10839 02955 C Constant -09364 01796 -52153 00000 ROA(-1) Past Profitability 00320 00367 08721 03969 ROA(-1) Past Profitability 02032 00612 33191 00012 RFS Relative Firm Size -00001 00000 -23851 00307 RFS Relative Firm Size -00005 00006 -07809 04364 DER Financial Leverage -01144 00169 -67867 00000 DER Financial Leverage -00420 00195 -21505 00335 D(FS) Financial Soundness 00910 00268 33921 00040 D(FS) Financial Soundness 01885 00557 33840 00010 DLOG(TA) Growth Opportunities 00574 00109 52762 00001 DLOG(TA) Growth Opportunities 01455 00242 60060 00000 IIGP Diversification 00000 00000 195161 00000 IIGP Diversification 00000 00000 51381 00000 GCGP Underwriting Risk -00001 00001 -14429 01696 GCGP Underwriting Risk -00005 00001 -60770 00000 L Working Capital Management 00133 00036 36923 00022 L Working Capital Management -00579 00362 -15982 01126 LOG(KSMI(-1)) Equity Market Conditions

00223 00113 19716 00674 LOG(KSMI(-1)) Equity Market Conditions

01057 00200 52906 00000

D(GDPG) Macroeconomic Environment

00012 00020 06016 05564 D(GDPG) Macroeconomic Environment

00245 00023 106029 00000

INF Inflation -00004 00004 -08752 03953 INF Inflation 00023 00008 28497 00051 Weighted Statistics Weighted Statistics R-squared 09674 Mean dependent var 00307 R-squared 06738 Mean dependent var 00920

Adjusted R-squared 09434 SD dependent var 00491 Adjusted R-squared 06442 SD dependent var 02326 SE of regression 00118 Sum squared resid 00021 SE of regression 01267 Sum squared resid 19435 F-statistic 404089 Durbin-Watson stat 16930 F-statistic 227252 Durbin-Watson stat 17738 Prob(F-statistic) 00000 Prob(F-statistic) 00000 Un-weighted Statistics Un-weighted Statistics R-squared 09182 Mean dependent var 00240 R-squared 03767 Mean dependent var 00244

Sum squared resid 00037 Durbin-Watson stat 14151 Sum squared resid 32963 Durbin-Watson stat 12409

Takaful Overall

Dependent Variable ROA Dependent Variable ROA

Method Panel EGLS (Cross-section weights) Method Panel EGLS (Cross-section weights) Sample (adjusted) 2007 2011 Sample (adjusted) 2007 2011 Periods included 5 Periods included 5 Cross-sections included 4 Cross-sections included 35

Total panel (unbalanced) observations 17 Total panel (unbalanced) observations 160

Linear estimation after one-step weighting matrix Linear estimation after one-step weighting matrix White cross-section standard errors amp covariance (no df correction) White cross-section standard errors amp covariance (no df correction)

Variable Coefficient Std Error

t-Statistic

Prob Variable Coefficient

Std Error

t-Statistic

Prob

C Constant 00359 02796 01284 09028 C Constant -07824 01242 -62991 00000 ROA(-1) Past Profitability -01568 00134 -117416 00001 ROA(-1) Past Profitability 01892 00747 25338 00123 RFS Relative Firm Size -00142 00095 -14881 01969 RFS Relative Firm Size 00000 00001 -05369 05922 DER Financial Leverage 00177 00155 11403 03058 DER Financial Leverage -00586 00163 -35888 00005

D(FS) Financial Soundness -00306 00072 -42377 00082 D(FS) Financial Soundness 01228 00368 33350 00011

DLOG(TA) Growth Opportunities -00066 00020 -33341 00207 DLOG(TA) Growth Opportunities 01107 00210 52790 00000 IIGP Diversification 00000 00000 234238 00000 IIGP Diversification 00000 00000 67353 00000 GCGP Underwriting Risk -00324 00036 -90669 00003 GCGP Underwriting Risk -00003 00001 -45390 00000 L Working Capital Management 00300 00112 26938 00431 L Working Capital Management -00067 00123 -05468 05854

LOG(KSMI(-1)) Equity Market Conditions


00885 00143 61967 00000

D(GDPG) Macroeconomic Environment -00015 00038 -03949 07092 D(GDPG) Macroeconomic Environment 00173 00018 96580 00000

INF Inflation 00006 00004 12496 02668 INF Inflation 00016 00007 21456 00335

Weighted Statistics Weighted Statistics R-squared 09864 Mean dependent var -00240 R-squared 06866 Mean dependent var 00851 Adjusted R-squared 09566 SD dependent var 00605 Adjusted R-squared 06633 SD dependent var 02108 SE of regression 00129 Sum squared resid 00008 SE of regression 01167 Sum squared resid 20160

F-statistic 330362 Durbin-Watson stat 23560 F-statistic 294740 Durbin-Watson stat 17971 Prob(F-statistic) 00006 Prob(F-statistic) 00000

Un-weighted Statistics Un-weighted Statistics R-squared 09852 Mean dependent var -00272 R-squared 03712 Mean dependent var 00243



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257


Positive coefficient with diversification also indicates thatinsurance companies engaged in diverse set of activities and withrelatively higher proportion of non-insurance business is moreprofitable however this is contrary to the findings in Hussain (2013)for commercial banks Underwriting risk has highly significant andnegative impact on profitability of all types of insurance companiesOur results are consistent with those in Malik (2011)

Our results indicate that working capital management orliquidity of life and takaful insurance companies has significant andpositive impact on profits This is consistent with the results in Ali(2011) and Chhapra and Naqvi (2010) However the coefficient withliquidity of non-life insurance companies is negative and insignificant

Among macroeconomic variables the coefficient with equitymarket conditions is positive and significant for both life and non-lifeinsurance companies the coefficient with inflation is positive andsignificant for non-life insurance companies but negative andinsignificant for life insurance companies the coefficient withmacroeconomic environment is positive though insignificant for lifeinsurance companies but positive and significant for non-lifeinsurance companies All macroeconomic variables are insignificantfor takaful companies In short impact of macroeconomic variables onprofitability of insurance companies varies across various types ofinsurance companies

Conclusion and Policy Implications

Regression results indicate that relative firm size financialleverage underwriting r isk financial soundness growthopportunities diversification working capital management and equitymarket conditions are statistically significant determinants of theprofitability of insurance companies Relative firm size financialleverage and underwriting risk have negative impact while rest of thevariables have positive impact on profitability of life insurance


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258


companies However the impact of past profitability underwritingrisk inflation and macroeconomic environment is insignificant Fornon-life insurance companies on the other hand financial leverageunderwriting risk and working capital management have negativeand significant impact while past profitability financial soundnessgrowth opportunities diversification equity market conditionsmacroeconomic environment and inflation have significant andpositive impact However the impact of relative firm size and workingcapital management is insignificant

For takaful companies past profitability relative firm sizefinancial soundness growth opportunities and under writing riskhave significant and negative impact while financial leveragediversification and working capital management have positive andsignificant impact on profitability However the impact of allmacroeconomic variables and relative firm size is insignificantmacroeconomic environment All macroeconomic variables arestatistically significant and positive impact on profitability ofespecially non-life insurance companies while only equity marketconditions have significant and positive coefficient for life insurancecompanies On the other hand profitability of takaful companies isnot influenced at all by macroeconomic variables

In view of the finds of this study it is interesting to note thepositive impact of diversification and equity market conditions onprofitability of all types of insurance companies Since investment instocks and properties as a percentage of total assets and consequentlyinvestment income as percentage of total income constitutessignificant fraction therefore profitability of insurance companies issubject to volatility in stock market Therefore it is not advisable forinsurance companies to put all eggs in one basket and hence thereexists strong need for further diversification of investment portfolios

It is also noteworthy that macroeconomic variables arerelatively more influential in case of non-life insurance companies


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259


Significance and signs of the coefficients of firm-specificcharacteristics and macroeconomic varies across various types ofinsurance companies on account of varying nature of their clienteleand coverage of insurance policies

Corporate managers of life insurance companies shouldespecially focus on exploring opportunities for growth anddiversification and management of investment portfolios in view ofchanging equity market conditions Financial strength firm size andfinancial leverage also cannot be ignored in profitability managementof life insurance companies The management of non-life insurancecompanies should also keep in view the macroeconomic environmentequity market conditions inflation in addition to firm specificcharacteristics including financial leverage relative firm size financialsoundness growth opportunities and diversification in particular tomanage profitability The takaful business managers should especiallyfocus on underwriting risk diversification and working capitalmanagement to manage their return on assets


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260


ReferencesAdams M and Buckle M (2003) The determinants of corporate

financial performance in the Bermuda insurance marketApplied Financial Economics Routledge 13133-143

AgiobeneboTJ and Ezirim C B 2002 ldquoImpact of FinancialIntermediation on the Profitability of Insurance Companiesin Nigeriardquo First Bank of Nigeria Quarterly Review 2(1) 20-31

Ahmed N Ahmed Z and Usman A 2011 Determinants ofPerformance A Case of Life Insurance Sector of PakistanInternational Research Journal of Finance and Economics61 123-128

Ali S (2011) Working capital management and the profitability ofthe manufacturing sector A case study of Pakistanrsquos textileindustry The Lahore Journal of Economics 16 (2) 141ndash178

Amjed S (2007) The impact of financial structure on profitabilityStudy of Pakistanrsquos textile sector Poster session presentedat the Management of International Business and EconomicSystems Conference Larissa Greece Retrieved from (httpmibesteilargrproceedings2007posterAmjedpdf)

Ammar A Hanna A S Nordheim E V and Russell J S 2003Indicator variables model of firmrsquos size-profitabilityrelationship of electrical contractors using financial andeconomic data Journal of Construction Engineering andManagement 129(2) 192ndash197

Ayele A G (2012) Factors Affecting Profitability of InsuranceCompanies in Ethiopia Panel Evidence (Doctoraldissertation Addis Ababa University) httpetdaaueduetdspacebitstream12345678943261(cited Dec 23 2014)

Baltagi B H (2008)1 Econometric Analysis of Panel Data 4th EditionJohn Wiley amp Son p1

Beck T amp Webb I (2003) Economic demographic and institutionaldeterminants of life insurance consumption acrosscountries The World Bank Economic Review 17(1) 51-88


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httpwwwtilburguniversityeduwebwijsfilescenterbeckpublicationsotherconsumptionpdf (Cited Dec 24 2014)

Boadi E K Antwi S amp Lartey V C (2013) Determinants ofProfitability of Insurance Firms in Ghana InternationalJournal of Business and Social Research 3(3) 43-50 httpwwwthejournalofbusinessorgindexphpsitearticleview231231 (cited Dec 24 2014)

Charumathi B 2012 On the Determinants of Profitability of Indian LifeInsurers ndash An Empirical Study In Proceedings of the WorldCongress on Engineering 2012 Vol I WCE 2012 July 4 - 62012 London UK httpwwwiaengorgpublicationWCE2012WCE2012_pp505-510pdf [cited January 05 2013]

Chhapra I U amp Naqvi N A (2010) Relationship between efficiencylevel of working capital management and profitability of firmsin the textile sector of Pakistan httpmpraubuni-muenchende510571MPRA_paper_51057pdf (CitedJanuary 05 2013)

Chen R amp Wong K A (2004) The determinants of financial healthof Asian insurance companies Journal of Risk andInsurance 71(3) 469-499 httponlinelibrarywileycomdoi101111j0022-4367200400099xpdf (cited Dec 23 2014)

Ćurak M Pepur S amp Poposki K (2011) Firm and economic factorsand performance Croatian composite insurers The BusinessReview Cambridge19(1) 136-142 httpbibirbhrprikazi-radlang=enamprad=553926 (Cited Dec 24 2014)

Financial Statements Analysis of Financial Sector (2006-201)Statistics and DWH Department State Bank of PakistanKarachi

Greene W H amp Segal D (2004) Profitability and efficiency in the USlife insurance industry Journal of ProductivityAnalysis 21(3) 229-247 httplinkspringercomarticle101023BPROD000002209270204fapage-2 (cited Dec 242014)

Hand Book of Statistics on Pakistan Economy (2011) Statistics andDWH Department State Bank of Pakistan Karachi


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Hussain I 2012 The Consequences of Easy Credit Policy HighGearing and Firmsrsquo Profitability in Pakistanrsquos Textile SectorA Panel Data Analysis The Lahore Journal of Economics17(1) 33ndash44

Hussain I 2013 Banking Industry Concentration and Net InterestMargins (NIMs) in Pakistan Journal of Business Economicsand Management DOI103846161116992012732105

Ikonic D Arsic N and Miloševic S 2011 Growth Potential andProfitability Analysis of Insurance Companies in the Republicof Serbia Chinese Business Review 10 (11) 998-1008

Kozak S (2011) Determinants of profitability of non-life insurancecompanies in Poland during integration with the Europeanfinancial system Electronic Journal of Polish AgriculturalUniversities 14(1) httpwwwejpaumediaplarticlesvolume14issue1art-01pdf (cited Dec 23 2014)

Malik H 2011 Determinants of Insurance Companies ProfitabilityAn Analysis of Insurance Sector Of Pakistan AcademicResearch International 1(3) 314-320 httpwwwsavaporgpkjournalsARIntVol1(3)2011(13-32)pdf[cited January 05 2013]

Michael K McShane Larry A Cox and Richard J Butler (2010)Regulatory competition and forbearance Evidence from thelife insurance industry Journal of Banking amp Finance 34522-532

Shiu Y (2004) Determinants of United Kingdom general insurancecompany performance British Actuarial Journal 10(05)1079-1110 doi101017S1357321700002968 (Cited Dec 242014)

Treacy M (1980) Profitability patterns and firm size Working PaperNo 1109-80 Cambridge MA Massachusetts Institute ofTechnology Alfred P Sloan School of Management

Whittington G (1980) The profitability and size of United Kingdomcompanies 1960ndash74 Journal of Industrial Economics 28(4)335ndash352


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Wright K M (1992) The life insurance industry in the United Statesan analysis of economic and regulatory issues (Vol 857)World Bank Publications

Zhu S (2013) A structural equation modeling analysis on solvencyoperation and profitability of life insurers httprepositorieslibutexasedubitstreamhandle215222568ZHU-MASTERSREPORT-2013pdfsequence=1 (Cited Dec24 2014)


Research

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Introduction

The insurance sector though relatively smaller in size hasshown a slow but smooth growth in its assetsrsquo base matching withoverall financial sector in Pakistan (Figure 1) However the growthrate of revenue from gross premium of insurance sector exhibits declineover time (Figure 1) Despite slow but smooth growth of assetsrsquo baseprofitability demonstrates significant variation over time and acrossvarious sub-sectors of insurance (Figure 1 amp 2 Annexure A) and alsoappears to remain vulnerable to the risks resulting from macroeconomicand equity market environment in the country (Figure 3) Insurancecompanies in Pakistan have two major sources of revenue ie premiumand investment income Investment in securities and properties aspercentage of the total assets (more than seventy percent) has almostremained stable (Figure 4) while utilization of assets to generaterevenue from premium (asset turnover) has significantly declined overtime during the period 2006-11 Therefore investment income andunderwriting profits have especially been subjected to significantvolatility on account of varying macroeconomic and equity marketconditions in the country (Figure 1 amp 3)Figure 1

Selected Indicators of Financial and Insurance Sector



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Figure 2



Figure 3




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Figure 4







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01057 00200 52906 00000



00245 00023 106029 00000




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Prob






00885 00143 61967 00000








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Figure 2



Figure 3




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Figure 4







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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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Figure 4







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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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01057 00200 52906 00000



00245 00023 106029 00000




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Prob






00885 00143 61967 00000








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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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01057 00200 52906 00000



00245 00023 106029 00000




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00885 00143 61967 00000








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Life Non-Life



01057 00200 52906 00000



00245 00023 106029 00000




Takaful Overall






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Prob






00885 00143 61967 00000








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Life Non-Life



01057 00200 52906 00000



00245 00023 106029 00000




Takaful Overall






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Prob






00885 00143 61967 00000








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Life Non-Life



01057 00200 52906 00000



00245 00023 106029 00000




Takaful Overall






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Prob






00885 00143 61967 00000








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macro economy and profitability of insurance … · 2020. 3. 5. · pakistan business review july...

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