The sage of Omaha, Warren Buffett’s, reinsurance firm Berkshire Hathaway Inc. has renewed a health reinsurance agreement with Ireland’s state health insurer VHI and extended the contract to cover four years, providing much needed certainty for VHI.
Almost a year ago VHI entered into a one-year reinsurance agreement with Berkshire Hathaway covering half of the claims on VHI’s book of health insurance business.
At the time of writing our article covering last year’s transaction we highlighted the fact that VHI would be better served by a longer, multi-year, reinsurance contract as one of the issues the health insurer faces is an aging portfolio of customers as younger Irish citizens opt for private cover. In fact VHI covered approximately 56% of the Irish health insurance market in 2012 but paid but 67% of the markets claims, according to this Bloomberg piece, as a result of its aged customer base.
That exposes VHI to a form of longevity risk, the increased level of health insurance claims that an aging customer base are likely to make. At the same time as its overall customer base was shrinking, this made the reinsurance deal with Berkshire Hathaway particularly important for the firm.
In an announcement published early this morning, VHI revealed a four-year reinsurance renewal with Berkshire Hathaway, providing it with additional certainty regarding its ability to pay its health insurance claims.
Regarding the new reinsurance agreement, John O’Dwyer CEO at VHI Healthcare, commented; “We are delighted to build on the initial agreement we had in place with Berkshire Hathaway and value their support. We feel this is a vote of confidence from a highly respected company and look forward to continuing our partnership over the next 4 years.”
VHI needed to reduce its balance sheet risk as it seeks to avoid a taxpayer-funded bailout. The health insurer is in the process of making an application to the Central Bank of Ireland for authorisation, which will enable the Bank to assess what solvency levels it believes VHI needs to maintain. VHI wants to fund its own regulatory capital, if at all possible, rather than relying on the Government for a bailout.
O’Dwyer continued; “Putting in place a longer–term reinsurance arrangement and demonstrating that the business was sustainable in the long term was critical in making our submission to the Central Bank. The Central Bank will ultimately determine what solvency levels are required. However, it is our view that because of our improved financial performance and the longer term reinsurance agreement that is now in place with Berkshire Hathaway that we can achieve the solvency levels required without recourse to Government.”
For VHI this multi-year reinsurance agreement is both a solvency measure and a protection against spiraling claims costs caused by an aging customer demographic, so a form of longevity risk transfer. Warren Buffett’s Berkshire Hathaway regularly provides risk capital for these sorts of life and health bets, hoping that the claim experience remains below expectation to allow it to profit from, and invest, the premiums earned.
Berkshire Hathaway has such a large capital base that the longevity risk associated with the life and health reinsurance transactions it undertakes do not bother it, with the float based investment model also providing it with some insulation against claims inflation.