It provides a harmonized prudential framework facilitating insurance and reinsurance companies’ activities in Europe and protecting consumers. Thus, in this Directive, the implementation rules and the established standards regulate a risk-based solvency system, moving from a static to a dynamic system. It also promotes transparency, comparability and competitiveness in the sector.
Key objectives of Solvency 2 are:
- To reduce the risk that an insurer would be unable to meet claims;
- To reduce the losses suffered by policyholders in the event that a firm is unable to meet all claims fully;
- To provide early warning to supervisors so that they can intervene promptly if capital falls below the required level; and
- To promote confidence in the financial stability of the insurance sector
Insurance companies must calculate the capital burden in relation to their individual risk profile and comply with certain governance and risk management requirements. As a result, they are obliged to monitor their performance and implement financial measures to comply with these rules, report to supervisory authorities and provide more reliable and transparent financial information.
Pillar 1. Risk-based capital requirements (quantitative)
Solvency II specifies how to derive a dynamic capital burden based on economic capital or value-at-risk. For this purpose, the Finance Department calculates the Minimum Capital Requirement (MCR), the Solvency Capital Requirement (SCR), estimates technical provisions, establishes a specific capital structure and generates ratios based on these figures.
Some challenges for the Finance Department:
- Conversion from an accounting balance sheet to an economic balance sheet:
- Adjustments to market value.
- Establishing flow projection systems for calculating technical provisions for life insurance. And ultimate cost projection models for non-life insurance.
- Automation of SCR calculation and other magnitudes.
Pillar 2. Governance and risk management requirements (qualitative)
This pillar requires the implementation of an adequate and transparent governance system. It also implies periodically carrying out its own risk and solvency needs assessment: Own Risk and Solvency Assessment – ORSA.
Some key challenges:
- Integrating a risk culture starting with management and linking risk management processes with strategy and capital needs.
- Establishing an appetite/tolerance for risk.
- Effectiveness of the processes and tools of the Integral Risk System.
Pillar 3. Qualitative and quantitative information requirements
This pillar establishes a supervisory review and transparency to the market:
- Periodic monitoring report combined with the ORSA.
- Solvency and Financial Condition Report (SFCR) for public disclosure.
Some key challenges:
- Identifying a single true source of data.
- Data availability and quality. Providing a sufficient level of detail. Updating and accessibility of corporate governance data.
- Automating the flow of information.
Financial management software such as the Talentia Financial Suite makes it easier for an insurance company to adapt management, performance control and financial reporting to the regulatory requirements of Solvency II according to the specific risks it assumes. Talentia integrates this in its consolidation and close platform, so that it:
- Simplifies the management of financial information and its analysis.
- Allows managing financial performance in real time, automating reports and easily customizing them, as well as forecasting and simulations.
- Provides accurate information on overall and/or detailed financial performance.
CFOs will ensure solvency margin, risk margin and quality of shareholders’ equity. This will contribute to the Solvency II objective of policyholder protection and financial stability.