Case: Ping An’s Overseas Expansion: Financial Uncertainties and Risk Management

a report submitted to

Prof N R Parasuraman

In partial fulfillment of the requirements of the course

Financial Risk Management

on

12-12-2020

By Group 1 -

Ajeet Kumar (1911012)

Ameya Kamble (1911112)

Arpita Beohar (1911043)

D Mohan Kumar (1911072)

Jaideep Singh Grover (1911105)

Mahima Lohia (1911132)

Mukund Periwal (1911151)

Priyank Aggarwal (1911187)

Vishwanath Kaimal (1911297)

Ping An’s Three Pillar Strategy

Ping An’s three pillar strategy was to provide integrated financial services. Insurance was
already a big business for the organization. Another two businesses they have already invested
were banking and asset management. This diversification was aimed to achieve two business
goals : First growth and expansion into the new market, Second International expansion.

In the insurance industry they became the second largest life insurer in the domestic market. For
further growth they could either invest in new product development, especially when market
penetration of insurance in the domestic market or they could diversify into financial services -
they chose the latter. The diversification proved costly in the case of Fortis when its share
tumbled in the midst of the financial crisis. The company was also looking for international
expansion. Ping An realized that its integrated financial services could provide a greater
possibility of success in the international market.

Business Model
For Ping An, the source of making money was from the underwriting process and the subsequent
investment process of the premiums received. The underwriter chose the specific risks that they
could insure the insurer on and hence charge a suitable premium on them. The subsequent
investments made were in line with the nature of premiums received. The short duration
premiums received were invested in assets like bonds and dividend-paying stocks, while the
other premiums were mostly invested in real estates.
As of 2008, the company had a customer base of 41 million individuals and 2 million companies.
The company had a majority of its premium paying customers from tier 1 cities which assured
them of getting timely payments. The company constantly used innovation to introduce new
products to the market which made them the market leaders in the industry. Ping An had recently
entered into the banking industry and was still a small player compared to the state-owned giants.
The securities business was something that made them profits through innovative products, fees
and commissions. The recently started Asset Management business had not yet provided any
substantial revenue to the company however they had some big plans in place for the division.

Insurance Industry
Global Insurance Industry: -
Insurance in general is divided into two segments – non life and life insurers. Non-life insurance
constitutes home property protection, commercial liability and property protection, auto
protection and individual liability protection. The products in non-life insurance are generally
standardized and the time horizon is much shorter. Life insurance, on the other hand, constitutes
death insurance, group life insurance. The products here are very differentiated and of longer
duration and hence, insured focuses a lot on brand strength and financial viability.
There are certain industry metrics for measuring the performance. In case of non-life insurance,
the underwriting profitability is measured using combined ratio. For life insurance, operating
expense ratio is used to assess the performance. There are certain changes (both regulatory and
operational) that are going on in the industry as a whole.

Insurance Industry in China: -

Back in 1949, People’s Insurance Company of China also known as PICC, laid the foundation of
the insurance industry in China. Initially, PICC was the only player in the insurance industry in
China. Later, some private player entered the market and the first one being Ping An. The first
foreign player to enter the Insurance sector in China is American Insurance Assurance (AIA).
There were certain Regulations that were imposed from time to time to tackle the increasing
competition in the industry and also to protect the interest of smaller players in the market. The
penetration rate in China in both the insurance segments is very low as compared to other
countries.
The major lines of business in the non-life market are motor, cargo, liability, commercial
property and personal-accident injury insurance. The highest gross written premium comes from
third-party liability motor insurance. In the life market, individual life insurance and group life
insurance are the major line of businesses. There are various types of products like unit-linked,
participating and universal life products that are prevalent in the market. The main distribution
channel for the insurance segment were direct sellers, agents and intermediaries.

Competitors
Ping An’s key competitors are China life in life insurance and PICC in non-life insurance.
China Life
China life has 42% market share in the life insurance sector. It underwent restructuring in 2003
to address negative spread issues. China life has total assets of US$233.9 millions in life
insurance and US$103.4 million assets in pension funds.
China life follows a 3 step strategy in which it aspires to become a top financial and insurance
firm by establishing life insurance and asset management business as core insurance business,
followed by P&C and pension business, and extending into banking, mutual fund and securities.
PICC
PICC is the market leader in the non life insurance sector with 43% market share. It’s market
share has been declining over the years.

International Expansion Strategy

Most Chinese financial institutions entered foreign markets by acquiring minority stakes in
companies overseas. This approach enabled the investors in gaining expertise in critical areas
such as technology, risk management and customer service, while safeguarding them from
regulatory or political hurdles.
Ping An adopted the same approach to expand their overseas presence by acquiring 4.99% stake
in Fortis, the Belgo-Dutch financial conglomerate and planned to further acquire 50% stake in
Fortis’ asset management business.

While the primary expectation from this deal was in line with the company’s three-pillar
strategy, this partnership also provided a solution for their Asset-Liability mismatch situation due
to many legacy policies which would be matched with the dividends from the acquired stock in
Fortis.

Setbacks due to the 2008 Financial Crisis

The financial crisis of September 2008 came as a major setback for Ping An as its investment in
Fortis lost 90% of its value within one year. Ping An was forced to bear impairment charges of
US$ 3.3 billion, causing a 99% plunge in the net profits of the company. Ping An went on to
terminate their deal to purchase 50% stake in Fortis Investments.

The Fortis investment was a very large portion (64%) of Ping An’s regulator-approved total
permitted overseas-investment exposure. This lack of diversification in its international
investment portfolio seems like a reckless approach by Ping An as it was subjected to a
concentration of risk related to this investment.

Recommendations

Foreign Exchange Risk Management:

Ping An was trying to expand their business to other countries by buying shares and acquiring
business in other countries to implement their three-pillar business strategy. When a company is
buying stake in another countries, they are exposed to Forex risk on the returns and the dividends
that they get from the invested countries.

If Ping An is trying to open their subsidiary business in other countries as well then they are
exposed to transaction and translation risk as well. To manage the forex risk on investment
returns one can hedge their investment by shorting the futures of the currency pair till they take
out their investment. This will eliminate the forex risk and would let the company to just have
company related risk.

Financial Analysis:
If we observe the financial statements of the Ping An and China Life (exhibit 10 and 11), Ping
An has low solvency margins and higher expense ratio which implies company would be at
major risks if any crisis that would occur. When their balance sheet is strong enough to go for
diversification, Ping An should have focused on improving the company’s balance sheet.

From the cashflow statement of exhibit 10, we can see that company has invested twice the
amount in term and bond deposits from the year 2007 to 2008. But they have taken a wrong
decision to acquire 50% of Fortis asset management subsidiary at a lower valuation making it as
a strategic investment to grow their asset management company. But due to financial crisis of
2008, the company’s eventual profits declined by more than 97% and posted a mere profit of
$70M ($2806M in 2007) during the year 2008 because of impairment loss in acquiring Fortis
and weak balance sheet. Our suggestion would be that Ping An should not have focused on
diversifying without managing their risks properly in their balance sheet.