Accounting Risk & Insurance

Question: What is Risk Insurance?Explain Financial Statements on Insurers. Answer: Introduction In this assignment risk management will be analysed, the financial statements of the insurers and evaluating policies suitable for business. The course will focus upon Takaful insurance as a means of alternative to conventional insurance policy. In conventional insurance the risk is transferred to the insurance company i.e. insurer from the policy holder i.e. insured in relation to the premium paid. It has uncertainty associated i.e. gharrar as it is impressible by Islam (Yakob et al.). The loss and compensation are uncertain here as it is a form of gambling (maisir) as insurer is paying the amount i.e. premium. The funds are invested as bonds, securities etc. attracting fixed interest. It contains usury ( riba) that is prohibited in Islam. The profit generated belongs to the shareholders and the insured is not getting the payment after the policy period expires. Takaful is not sharing risk but, mutual cooperation is shared by individuals having same pool by having only takaful manager. The elements of gharrar, riba and maisir are eliminated by replacing it with conditional donations (tabarru) done for a good cause. The contribution is towards brotherhood in the spirit of purity (Neea) and investments are made into non-interest funds. At the end the surplus generated is returned proportionality as per the contribution made at the end of the accounting period (Archer, Abdel Karim and Nienhaus). 1. Evaluate Upon Risk Management on Its Importance Risk is a chosen probability action or process that leads to undesirable outcome and traditionally risk was associated with uncertainty of the events taking place in future. As stated by IFSB Chairman and Saudi Arabian Monetary Agency (SAMA) risk is not associated with religion. Risk in Islam in divided into two aspects unique and generic risk whereas, generic risk is having credit, market, oprtational and liquidity risk. Alternatively, unique risk includes shariah non risk, equity investment and commercial risk. In Islamic industry the most close to Takaful industry is unique risk. Risk management in insurance is used in terms of pure risks that may be only restricted to insured risks (Dionne 147-166). So, when an insurer speaks about risk management it deals with finding the ways of improving or reducing the potential loss of risk that is being invited or on the verge of invitation. In terms of management from Islamic perspective the life of human being is organic with no differentiation in religions, secular and matters. They are guided by the principles of shariah as men are not responsible and accountable for their actions. The areas of Takaful insurance cover investment management, human resources and compliance. In Takaful industry it helps in identifying the Takaful operator losses and using the most appropriate for treating it effectively. They are observed by imposing conditions on them regarding outsourcing of the management funds for viewing its effectiveness by managing it effectively within risk management framework (Yusof, Lau and Osman 1). This is done along with Chief Risk Officer (CRO) liable for seeing the risks like operational risk by making it in compliance with Shariah. The role played by CRO is to identify the risk by taking integrated measures for it. The risk management by Shariah is a system to control and monitor the assessment of Shariah and in order to manage the risks various objectives are guiding Takaful insurance. They are: Having a achievable rate of return on investments if it is possible The continuity should be there for their going concern The safety of Takaful fund is necessary by safeguarding it unfortunate conditions To ensure that the fund generated is able to pay as per obligations and claims The risks associated with Takaful operators are of three types- financial, operational and business (Aris and Tapsir). 2. Explain Financial Statements on Insurers A financial statement is a formal record that contains the financial activities and positions in a business, entity or person. The information is presented in a systematic manner that is easy to understand thereby discussing and analyzing it effectively. The various kinds of financial statements in respect to insurers are: Balance Sheet It is also refereed as statement of financial position that contains the information about the organization liabilities, assets and owners equity at a specific time period. It represents the financial position at the end of financial quarters (Fraser and Ormiston). The advantages are: The amount of capital can be known by ascertain it in business The financials are disclosed by showing the assets and payment paid in terms of liabilities The liabilities and assets have to be compared by generating the progress in the business It discloses the property of owner in his interest In order to manage the business effectively various ratios have to be generated that have to be effective in nature The disadvantages are: The assets are not represented in their true form in balance sheet as historical cost is attached to it. This provides inaccurate reflection of the market value (Guthmann) The non-monetary use of assets is not considered such as honesty, skill, loyalty of workers and intelligence. The current assets provided are not on their estimated value so in balance sheet it is not representing its true financial position. Income Statement This is done in respect to specific time period of business that includes income and expenses with a time span. The information is generated on ROI, operating capabilities and financial flexibility. It includes two sections- non-operating and operating whereas, in operation section it contains expenses and revenues. Similarly, non-operating section has gains and revenues for non-primary business activities that consist of interest expense, finance costs and income tax expense. (Damant 10-18) The pros being: For investors it is god as it contains detail information that accounts to operational efficiency, operational, profits etc. It represents the profitability over a period by making the principal equivalent to expenses. It provides details on revenues like COGS, taxes, employee expenses gained from non-operating aspects. It includes accrued interest from various investments that is an ideal source for generating revenue. The cons being: It is including in fraud with earnings management to report intentionally to the managers in financial reporting (Peterson Drake and Fabozzi) It includes judgements are available but are not ,measured by having a subjective component Cash flow Statement It is statement that shows the operation of the organization affecting the cash in a financial year period. It contains the funds flow statement and cash statement. The advantages are: It is working like a filter for investors and analyst by judging on the fact whether the company is making the financial statements error free. The statements turn to be incorrect if the balance sheet with cash flow statement is incorrect. The original cash position for two balance sheet with dates with profit and loss and funds flow is not able to show so it is crucial to make cash flow report by knowing the liquidity status of the organization (Fridson and Alvarez) The projections formed are accurate in nature in respect to liquidity of position by arranging the shortfalls in money in form of arrangements in advance. Any extra amount on part of the organization it helps in earning additional amount. The disadvantages are: When isolated it is of no use but requires other financial statements help like profit and loss (PL account), balance sheet etc. This presents only cash portions so it is not possible to judge by only viewing PL account 3. Critical Assessment of Policies Applicable to Business The policies of insurance have to be governed by insurance agreement that is inclusive of conditions, definitions and exclusions. It is a declaration that contains the information about the risk that insurance companies have to abide by (Rejda). The declaration contains the information risk that is limited to activity, insured property of the insured, name of policyholder etc. The insurance agreement covers the indemnity loss taking into account all risks and perils based name. In the first page of the insurance the terms and information included are: Policy limits Insurance company Premium Name insured The kind of insurance Policy period Deductibles The conditions contain the clauses that are specific to the condition as per set standard with some exclusion like narrowing of responsibility in case of loss. Any changing taking place in the document at original risk has can be changed i.e. delete or additions can be made further in the form of endorsements (Merkin and McGee). The validity of the contract is dependent on both parties that can be for long period, short period or one year. It includes payment terms of the policy, cancellation etc. In some cases deductibles are mentioned by paying the amount that is dependent on lower the premium amount bigger is the deduction. The policies that govern a business are discussed below: Indemnity This provides financial compensation to the insured to be in the same place as before the loss occurred to gain the same financial position. The value of the insurance paid should be agreed beforehand as the insured does not make any profit (Gephart). The money provided is on the basis of valuation on the basis of two aspects: Replacement value is paying for the damages without deducting the depreciation that is serving restriction by maximum dollar amount as declared on the policy form. Original cash value is paying the same value that is equivalent to replacement cost of the damaged property but, deducting the depreciation Insurable Interest In insurance term interest represents financial relationship with an individual and as per insurable interest it is forming a legal relationship. It is a matter of insurance that provides them with the right by being in the relationship legally. In this policy various terms like leased by, care, owned by, control or custody, rented by is used for the effectiveness (Mehr and Cammack). It is applicable in varied case some of them being tour operator or auto loan. This is applicable in various insurance such as: Life insurance at the time of inception but is not needed in time of claim In property does not exists in claiming nut at the time of inception it is necessary Marine insurance at the time of claim or loss but is not applicable in time of inception Subrogation In insurance two parties are involved in the process insurer and insured whereas, in this the insurer is serving the right to recover the amount paid by i.e. indemnity. It includes recovering the money from third party who is involved in the damage. The process begins even before the claim is paid that is applicable only in case of a clause in being inserted (Rejda). It is done to insure ones own benefit against the third party and action taken by the insurers subrogation should be performed in the name of insured. Proximity Cause This principle of insurance states that insurers are liable to pay the claims that is causing losses due to insured perils and not by uninsured perils or expected losses. A loss that has occurred may be due to number of causes or a combined effect taking place. In claiming the insurance one dominant cause has to reflect for paying money as all cases might not attract compensation. Utmost Goof Faith When an individual is opting for the insurance policy it is the duty of the insurer to disclose all accurate and voluntary materials associated with it. It is done before signing by keeping good faith wherever needed and in order to be efficient physical risk assessment is undertaken (Merkin and McGee). This procedure appoints assessor who judge the risk better by understanding it for example- UAE motor of data sharing. The insurance contract may be breached if any misrepresentation and any non-disclosure of information take place. It includes hiding personal details like fever from childhood, intentional motive etc. Contribution This is related to the claim that applies between the insurers of double events where two or more policies are getting affected on behalf of the insurer getting the same interest by agreeing in sums of the agreed amount that is exceeds the indemnity allowed legally. The interest of both the parties should be same having the same problem by having a loss. The policies undertaken should cover the same matter and for this as proportionate amount needs to be paid by insurer occurring at the time of loss (Gephart). Conclusion From the above discussion it can be concluded that insurance and contract is dependent on both the parties entering into contract. The risk of the insurance companies on Takaful insurance has to be insured in response to the market. The insurance companies have to analyse the risk in relation to Takaful by checking the financial statement of the insurers. The insurance contract formed has some rules and regulations upon which it is set that is profitable to business. Thus, Takaful insurance used by the people have to be within the regulatory measures. References Archer, Simon, Rifaat Ahmed Abdel Karim, and Volker Nienhaus. Takaful Islamic Insurance. Singapore: John Wiley Sons (Asia) Ltd., 2009. Print. Aris, Nooraslinda Abdul and Roszana Tapsir. "RISK AND RISK MANAGEMENT OF TAKAFUL INDUSTRY". JOURNAL OF GLOBAL BUSINESS AND ECONOMICS 4.1 (2012): n. pag. Web. 21 May 2016. Damant, David. "The Revolution Ahead In Financial Reporting: A New World What The Income Statement Means To Financial Reporting". Balance Sheet 11.4 (2003): 10-18. Web. Dionne, Georges. "Risk Management: History, Definition, And Critique". Risk Management and Insurance Review 16.2 (2013): 147-166. Web. Fraser, Lyn M and Aileen Ormiston. Understanding Financial Statements. 3rd ed. Upper Saddle River, N.J.: Prentice Hall, 2004. Print. 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