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Russian insurers and Moscow-based international insurance analysts are critical of a recent report by Moscow-based United Financial Group (UFG) suggesting that fiction is larger than fact in the share valuations, balance-sheets and premium revenue reports of the leading Russian insurance companies.

UFG is one of a handful of Russian investment banks and brokerages with an established reputation in the capital. Its 40-page report by Ilan Rubin is the first attempt to survey the domestic insurance industry.

By projecting premium data and sales margins of 10 major Russian insurers, applying a 20 percent discount and a conservative share price to sales ratio, Rubin estimated a value of $159 million for Moscow-based Rosno. Accordingly, he reports that the $30 million price paid by Allianz in 2000 to acquire a 45 percent stake in the company was “very low” – less than half the $72 million valuation estimated by UFG.

The report also suggests that Rosgosstrakh, the big state insurer that is in the process of privatization, was undervalued before a consortium of still undisclosed buyers led by the Troika Dialog bank of Moscow, which acquired a 49 percent stake for $40 million at the end of last year. UFG values the stake at $83 million. The government-ordered valuation of Rosgosstrakh was done in 2001 by the Moscow office of KPMG, which recommended a price of $78 million.

According to an advisor to an international insurance group, “it is no accident that most deals value insurance companies less than they do. The moment someone who knows what they are talking about looks at a Russian insurance company, the price goes down, or the deal gets called off.”

Igor Ivanov, deputy general director of Reso-Garantiya, disagreed. He said the value of Russian insurance companies was underestimated. “By definition, companies on a growing market are underestimated as the market constantly grows. It is very profitable to buy companies in such a situation, and not very profitable to sell. Any investment into Russian insurance companies is very promising, as next year there will be a boom of insurance in Russia because of the law on third-party liability for car owners,” he added.

The UFG report forecasts a jump in motorists’ third-party liability premiums from $66 million this year to $600 million in 2003.

Tom Manson, a British insurance expert who has headed a European Union-funded TACIS program to advise the Russian insurance industry, said: “The author of the UFG report is underestimating both the impact of the growth of automobile [insurance] and its problems.

“Automobile insurance is by far the largest non-life sector in Eastern Europe, and I think it is today in Russia as well. At the same time, it is a dangerous class and has nearly bankrupted many companies in the region.”

According to Manson, at present, income from automobile insurance in Russia (physical damage and liability) stands at approximately $700 million, based on market penetration of 5 percent to 7 percent, with physical damage much more important than liability for the time being.

“The compulsory scheme should bring in the amount UFG predicts,” Manson notes, “but it will also increase the market penetration for physical-damage cover. I believe that this cross-selling will happen, and could increase physical-damage penetration from 10 percent to 15 percent. Premiums are higher for physical damage, so I foresee the possibility that physical-damage-insurance income could be about $1 billion, while liability cover could reach $600 million to $800 million.”

He warned that the introduction of liability cover would vastly increase the volume of claims in Russia and lead to an “unpredictable effect” in the already erratic Russian court system. This, said Manson, will lead Russian insurance companies into “new areas of long-tail liability, where they have no experience. “I see, therefore, [automobile] premiums increasing rapidly, but at the same time posing huge difficulties. Nobody would provide reinsurance at a low level, as everyone has seen what happened in Eastern Europe. Most Western-managed companies that I talk to are not interested in participating in the compulsory scheme.”

Concerning the UFG valuation of Russian insurers, Manson said the problem of using just one discount rate is “that it assumes all companies are the same, and this is wrong. A company with a large automobile-insurance portfolio will be very different from a company without it. This simply reflects the fact that valuing insurance companies is very difficult indeed, anywhere, because so much of the value depends on how good the reserves are. I feel that UFG’s valuation is too high. At present, Russia is mainly profitable, but, actually, for the valuation reasons, I am not certain that companies are really as profitable as they look, especially if their high expense ratios are taken into account.”

According to the calculations made by UFG’s Rubin, published balance-sheet data for Russian insurers identifies only about 63 percent of their assets. The remainder, Rubin claimed, “may not be invested in stable, low-risk assets that insurance companies require in order to ensure they can protect their customers from default.” He said Russian insurers are either placing their funds in high-risk investments that could trigger defaults, or the missing money does not exist at all, because “large sums of premiums ‘paid’ do not really exist, being no more than paper figures used in salary and captive schemes.”

According to Ivanov, it is wrong to say that up to one-third of balance-sheet assets are unaccounted for. “There are no financial instruments in this country that are more reliable than the rating of the country itself. That is why there are very few instruments in which insurance companies can invest their financial reserves. Most of the reserves are invested into hard-currency bank deposits in different banks. Fortunately, we have survived the financial crisis of 1998 and managed to preserve these reserves. Besides hard-currency deposits in banks, there is also investment into real estate, which is more secure. There are some investments in blue chips, but they are very small in size.”

Yevgeny Reshetin of the Expert Rating Agency said: “There is a problem that a large part of balance-sheets is unaccounted for, but at the same time this is primarily an attempt on the part of insurance companies to comply with the regulations of the Department of Insurance Control.”

Regarding company valuations, Reshetin said: “There is no common tendency. Some companies were probably underestimated; some were overestimated. Probably in the case of Allianz buying Rosno a very thorough valuation was done, so I don’t think that the company was over- or underestimated. The only example of overestimation that comes to mind is the sale of St. Petersburg-based Rus company [owned by Vladislav Reznik, Duma deputy and former head of Rosgosstrakh]. There were claims that Reso was overestimated, but it’s hard to say. Rosgosstrakh and Industrial Insurance Co. were sold at prices which are about the same as previous estimates.

“In the case of Ingosstrakh, it is hard to say whether the price was too low because [the seller Andrei] Andreyev claims he didn’t get anything at all,” Reshetin added. “The lawyers who looked into the case say that legally the deal was clean, but the final answer must be given by the authorities. If Ingosstrakh were offered for sale [to foreigners], it would get the maximum price of all the Russian companies.”

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