Smart money: Are you betting on insurance firms after FDI hike?

By P Saravanan and S Jayaprakash
In India, insurance penetration as a percentage of GDP is just 3.71% as compared with the world average of 7.23%. In the recently presented Budget 2021-22, the limit on the foreign direct investment (FDI) in Indian insurance companies was proposed to be increased up to 74% from the current 49%. Let us discuss the impact of the hike in FDI limit in the insurance sector and whether it will provide any opportunity for investors.

Rationale for the hike
Insurance is a capital-intensive nature business. As per the law of the land, insurance companies are mandated to maintain certain solvency margins. But many of the Indian partners could not infuse further capital into their companies and find it difficult to maintain the requisite solvency margins. So, the FDI hike from 49% to 79% will ease the flow of capital into these firms and have comply with mandatory margins, etc., thus making the insurance companies across the board financially healthier. The Covid-19 pandemic has shown that further penetration of insurance in India is needed and for that capital infusion is required which in turn helps the insurers to build trust if they are funded strongly.

Better technical know-how
Apart from the infusion of funds by the foreign direct investment, it also enables the Indian insurance companies to use better know-how. As per the current laws, insurance companies in India are Indian owned and controlled. This means that the Indian partner has the right to appoint a majority of directors or control the management of affairs of the company. The proposed FDI hike will allow foreign ownership in insurance with requisite safeguards.

Caveat
Increasing the FDI limit up to 74% alone cannot assure growth in this segment. For instance, the government has tried to keep some clauses such as the majority of directors on the board and key managerial personnel would be resident Indians, with at least 50% of directors being independent directors, and specified percentage of profits being retained as general reserve which are in the interest of the country as it will ensure that the profits will not be taken out by the foreign companies to their home country. We have to wait and see how foreign insurers react to this and see how many new insurer groups express their interest in entering the Indian market. With the existing 49% FDI limit, not all foreign partner companies were happy and some foreign insurers had quit their joint ventures completely while some others went for mergers and acquisitions, etc.

Stock markets gave a thumbs up to the proposal with an increase in the share price of the insurance companies, on the day of the announcement by the finance minister. However, investors need to wait to see the final notification before making any long-term investment plan in insurance firms.

P Saravanan is a professor of finance & accounting, IIM Tiruchirappalli and S.Jayaprakash holds a doctorate in insurance domain

GOOD TIMES FOR INSURANCE FIRMS
FDI hike will ease the flow of capital into insurance firms and help them comply with mandatory margins
FDI enables Indian firms to use better know-how of foreign insurance partners
Not all foreign partners were happy with the 49% FDI limit. Many exited JVs
Reaction of foreign firms to clauses requiring majority of directors on the board and key managerial personnel to be resident Indians, and specified percentage of profits being retained as general reserve still awaited