Gautam Datta

Takaful or practicing the concept of Takaful has been around for centuries. Scriptures tell us that Prophet Mohammed (PBUH) encouraged the practice of Takaful to provide a form of protection in the community. As a business however Takaful’s entry to the insurance market has been more recent. I got involved with Takaful in 1999-2000 working on a project with Kuwait Finance House. The objective was that the conventional company I worked for would provide technical expertise to the KFH Takaful entity and some reinsurance capacity as well. The study turned out to be so attractive that KFH decided to go the whole way without our technical partnership proposal. Since then lot of water has flown under the bridge but the results that we had forecasted in our spreadsheet is yet to be realized. The million dollar or dirham or dinar question that I am often asked – is takaful viable? I will hold my answer till the end of my article – but let me use this to segue into the exciting topic of future of takaful! We will look at opportunities, challenges and attempt a glimpse into the future.

There has been excellent data research done by Ernst & Young in their Global Takaful Insight Report of 2014. In their report they make a very pertinent remark that in spite of acquisition of market share the business has not translated into profitability for Takaful companies. The average ROE for Takaful companies in GCC has been less than 1%.

This forms the basis of my article. Growth does not always translate into profitability. And in the absence of profitability there is little chance of sustainability.

Between 2009 and 2014 takaful contributions have grown from $7bn to $14bn. If we look at GCC then contributions have grown from $5bn to $9bn. And if we take out KSA from the GCC numbers then contribution has grown from $1bn to $2bn.

This translates into CAGR of 15% globally, 18% if we exclude KSA from the global numbers and in the context of GCC 13% with KSA and 15% without KSA. When we look at the ASEAN numbers then CAGR is 23%.

The question that I have for the readers – wouldn’t it be better if we exclude KSA from our Takaful numbers? It would take a huge bias out of the data analysis. It would also put things in perspective where the business model of Takaful is concerned. The reason for this suggestion is that KSA follows a cooperative model where rest of Takaful world follows some form of hybrid model so including KSA is like comparing apples to pears or oranges – you can pick your fruit! Just some food for thought!

Focusing on GCC let us take a quick look at what is in store for us on the economic and population front. I know that some of these numbers will have to be reviewed in light of current oil price shakeup but let us take the side of the optimists who believe that all will be well by 3rd quarter of 2015.

It is estimated that 6 states in GCC will invest in excess of $132bn in Power sector, $700bn investment in energy and exploration, $1.8tn in construction, $79bn in healthcare and that the population will grow from 41 million to 50 million by 2016. All of translates into two words – economic boom! (data source – Alpen Capital GCC insurance segment report).

Some of this may change due to oil prices, there may be cutbacks in many areas but in relative terms compared to emerging markets GCC will hold its own and have growth. There is no denying that fact.

The industry forecast of growing from $14bn in 2014 to $18.5bn in 2016 looks quite feasible in light of these huge investments.

These forecasts translate into CAGR of 13.3% for global takaful business, 14% for GCC and 23% for ASEAN countries.

Looking at these numbers, if I were an investor I would be looking at ASEAN countries more closely considering that ROE in ASEAN countries have been much higher when compared to GCC.

Takaful business is growing, so why do we have concerns about the industry. Is it because the challenges seem insurmountable? Let us take a quick look at some of the key challenges –

Competition – In context of GCC where Takaful companies compete for business in the same space as conventional companies there is no doubt that the market is fragmented and there is an over supply of capacity.

Regulation – In most states Takaful regulation is evolving and that leads to uncertainties in the business model.

Retakaful shortage – Falling back on conventional capacity in light of inadequate retakaful capacity leads to confusions in the business model.

Human Resource – this is an industry wide issue that is not restricted to Takaful segment but being new kid on the block the impact is greater on this segment

Awareness and Penetration – While it is an industry wide shortcoming, be it conventional or takaful but it is more for takaful as the business model is different and needs greater level of understanding.

Critical Mass – all of this leads to lack of critical mass that is so important for any business to break even and become profitable.

Along with these challenges we also have our shortcomings. And they are:

Takaful industry has not been able to segment its customers properly and thus carry an effective brand message. A major misconception is that Takaful is a different wrapper for conventional. And it may very well be so if one were to analyse the way business is conducted in many companies.

Takaful industry by and large has tried to replicate the business model of conventional companies. This undifferentiated business strategy has also led to the weakness in the business model.

As long as the business model is based on deployment of capital in the same way as the conventional the KPIs will also be the same which are, ROE and Operational profitability. The top two factors leads to poor ROE which is a combination of poor COR and Investment return.

But its not all doom and gloom. There are a few success stories in the form of Qatar Islamic Insurance and Abu Dhabi National Takaful. These two companies have generated consistent underwriting profits and investment income ensuring competitive ROE when compared with conventional segment.

So what does the future look like? Well crystal ball gazers are like dinosaurs – almost extinct and those few that are there continue to get their prediction mixed up. And I am not surprised why! All predictions require the variables, at least most of the variables to behave in a predictable manner. But look at the world today. There are way more variables than we have ever had and we have some but not a very good understanding of how change in one will impact the others.

We heard of black swan in 2008. It is supposed to be a random event, something that is extremely rare. Somehow, thanks to technology the pace of change makes me feel that black swans are not black anymore – climate change, environment pollution, falling oil price, Arab spring, Ukraine unrest, Shale oil and Tar sand, soft market, excessive reinsurance capacity… some how makes me think that only thing certain is uncertainty! There are too many things happening at the same time, which could be clouding the crystal ball!

In a situation like this we in Takaful industry stick to well tried and tested methods of insurance which in this case happens to be the conventional experience and that does not seem to be working for Takaful in the GCC space and in this situation I am reminded of Einstein’s definition of insanity – doing the same thing over and over again and expecting different result!

If I were to sum it up and share my thoughts on future of takaful then it would be:

I believe in the future of Takaful but it has to run as a business model that complements conventional and not competes with it. No doubt there will be overlaps but on a holistic level they need to coexist for Takaful to be meaningful in the industry space.

I believe that current regulations were made from conventional template and that forces Takaful to look more like conventional. This is not helping further the message or the model of takaful.

In conclusion I would like to emphasize what has been said in many forums and reports that there is a dearth of leadership in Takaful segment. Takaful industry needs a regional champion that will bring all the Takaful Operators together and create a platform that will address each of these challenges in an effective manner. This also happens to be the essence of Takaful… acting in Solidarity!