1. THE CENTER FOR PROFESSIONAL EDUCATION Presentation Global Fronting and Differences in Conditions St. John’s University Thursday, October 15 1

2. THE CENTER FOR PROFESSIONAL EDUCATION Presentation The Big Issues Part 1 Fronting Basics Part 2 Fronting Hub Services Part 3 2

3. THE CENTER FOR PROFESSIONAL EDUCATION The Big Issues Part 1 Central administration Policy issuance Premium collection, movement and reporting Claims reporting, billing and collection Audit and control 3

4. THE CENTER FOR PROFESSIONAL EDUCATION 4 Fronting Basics Part 2 Insurance is arranged with one insurer. Losses are largely covered by reinsurance or other contractual agreement.

5. THE CENTER FOR PROFESSIONAL EDUCATION 5 Fronting Goals Comply with local laws. Meet Local Insurance Needs. Covers Differences in Conditions. Meet Requirements of Counter Parties. Blend Insurance Coverage.

6. THE CENTER FOR PROFESSIONAL EDUCATION #1. Comply with Local Laws  Compulsory Insurance. Required for doing business in the country.  Licensing Rules. For non-compulsory insurance. 6

7. THE CENTER FOR PROFESSIONAL EDUCATION 7 Licensing of Insurers Admitted Insurer. An insurance company that is licensed to offer coverage in a jurisdiction. Non-admitted Insurer. An insurance company that is not licensed to offer one or more lines of insurance in a jurisdiction.

8. THE CENTER FOR PROFESSIONAL EDUCATION Compulsory Insurance Commonly required. Work Injury. For employers and employees. Automobile. Property and injury liability. Industry Hazards. Pharmaceuticals, chemicals, and biological. General Liability. For third parties. Professional Liability. Accounting, medical, legal, and other services. 8

9. THE CENTER FOR PROFESSIONAL EDUCATION Regulated Insurance Commonly regulated: Vehicles. Locally licensed insurers only. Assets. Coverage under local zoning codes and regulations. Liability. Ensure coverage for conflicts, disputes, and negligence. 9

10. THE CENTER FOR PROFESSIONAL EDUCATION Question A country requires chemical companies to carry personal injury liability coverage. No local carrier will cover a chemical factory acquired by a foreign firm. A licensed insurer accepted the risk and reinsured it with a foreign carrier. Does this work? 10

11. THE CENTER FOR PROFESSIONAL EDUCATION Answer (1) Yes: The insured complies with local laws. The local insurance company handles regulatory licenses, claims, and reporting services. The arrangement might help with other needs (See next slide). 11

12. THE CENTER FOR PROFESSIONAL EDUCATION Answer (2) Other needs: Lower premiums. Adequate capacity. Higher limits. Specialized coverage. Tax Considerations. 12

13. THE CENTER FOR PROFESSIONAL EDUCATION Question Is fronting attractive to a locally licensed insurance company? 13

14. THE CENTER FOR PROFESSIONAL EDUCATION Answer Yes. Local insurer: Collects premiums from an insured. Reimburses losses to the insured. Earns profits. 14

15. THE CENTER FOR PROFESSIONAL EDUCATION Question Does the fronting insurer accept any risk? 15

16. THE CENTER FOR PROFESSIONAL EDUCATION Answer Yes. It accepts credit risk. Losses are reinsured or guaranteed by a third party. The reinsurer or third party could fail to pay for losses. 16

17. THE CENTER FOR PROFESSIONAL EDUCATION Question "The reliability of good fronts continues to be a fairly large problem. You can find fronts, but they are very expensive and unpredictable in the quality and level of experience you (receive).” Is this true? 17

18. THE CENTER FOR PROFESSIONAL EDUCATION Answer Worldwide economic conditions have raised caution flags. Sufficient collateral may be an obstacle to creating a captive. Fronting is getting expensive in many areas of the world. 18

19. THE CENTER FOR PROFESSIONAL EDUCATION Question What about problems of accounting with fronting arrangements? 19

20. THE CENTER FOR PROFESSIONAL EDUCATION Answer Let’s take a look. 20

21. THE CENTER FOR PROFESSIONAL EDUCATION Balance Sheet （单位： 10 亿美元） Assets 资产 Debt & Capital 负债 & 资本 Cash 现金 300B Debt 负债 400B Securities 证券 500B Capital 资本 450B Toxic Assets 有毒资产 50B Total 合计 850B 21

22. THE CENTER FOR PROFESSIONAL EDUCATION Repurchase Agreement 回购协议 Sell $50B of toxic assets 出售 500 亿美元有毒资产 Buy back one week later. 一周后回购 Fee: $1B. 费用： 10 亿美元 22

23. THE CENTER FOR PROFESSIONAL EDUCATION Balance Sheet at Closing 成交后资产负债表 （单位： 10 亿美元） Assets 资产 Debt & Capital 负债 & 资本 Cash 现金 350B Debt 负债 400B Securities 证券 500B Capital 资本 450B Toxic Assets 有毒资产 0 Total 合计 850B 23

24. THE CENTER FOR PROFESSIONAL EDUCATION Balance Sheet after One Week 一周后资产负债表 （单位： 10 亿美元） Assets 资产 Debt & Capital 负债 & 资本 Cash 现金 299B Debt 负债 400B Securities 证券 500B Capital 资本 449B Toxic Assets 有毒资产 50B Total 合计 849B 24

25. THE CENTER FOR PROFESSIONAL EDUCATION Question (3) What happened to this company? 25

26. THE CENTER FOR PROFESSIONAL EDUCATION #2. Meet Local Insurance Needs. Fronting helps achieve the following: Reduce Cost of Insurance Improve Carrier Terms or Service. Cover Hard-to-place Risks. Covers differences in conditions. 26

27. THE CENTER FOR PROFESSIONAL EDUCATION 27 Local Captive Insurer Captive. An insurance company owned or controlled by one or more companies to provide insurance coverage to the owning entities. Retention. A captive is a form of partial retention.

28. THE CENTER FOR PROFESSIONAL EDUCATION High-tariff Insurance Market A jurisdiction where insurance rates are set by law at high levels. Standardized Approved Coverage. No competition based on pricing. Little innovation. 28

29. THE CENTER FOR PROFESSIONAL EDUCATION Question How can fronting help reduce cost of insurance in a high-tariff insurance market? 29

30. THE CENTER FOR PROFESSIONAL EDUCATION Captive Fronting and High Tariffs Local captive accepts premiums. Reinsures losses outside jurisdiction. Reinsurer adjusts premiums to parent. 30

31. THE CENTER FOR PROFESSIONAL EDUCATION Question How can fronting help improve carrier terms or service and cover hard-to-place risks? 31

32. THE CENTER FOR PROFESSIONAL EDUCATION Answer Reinsurer or guarantee partner has capabilities not available locally. Funds transfer. Investigation. Statistics and data. 32

33. THE CENTER FOR PROFESSIONAL EDUCATION Answer (1) Question A country has mandatory liability and optional collision insurance required on heavy construction equipment. It is encouraged by the government to place coverage with a licensed domestic insurance company. The local country does not have a convertible currency. 33

34. THE CENTER FOR PROFESSIONAL EDUCATION Answer (2) Question It purchased customized, heavy construction equipment from Germany. It insured it locally with a payment of $30,000 in premiums. It sent $270,000 to an insurer in its home country. 34

35. THE CENTER FOR PROFESSIONAL EDUCATION Answer (3) Question The licensed insurer agreed to pay for only 5% of any loss. The foreign insurer agreed to reimburse 95% of any loss with a Euro currency deposit in a German bank. Does this arrangement work? 35

36. THE CENTER FOR PROFESSIONAL EDUCATION Answer (4) Question Change in Terms. The licensed insurer agreed to pay zero percent of any loss. The foreign insurer agreed to reimburse 100% of any loss with a Euro currency deposit in a German bank. Does this arrangement work? 36

37. THE CENTER FOR PROFESSIONAL EDUCATION Question (1) A Spanish company sold a $50 million computer to a manufacturer in Brazil. The equipment was sent to a subsidiary in South Africa. The subsidiary: o Paid a $18 million invoice to the Spanish firm. o Insured the computer locally for $12 million. 37

38. THE CENTER FOR PROFESSIONAL EDUCATION Question (2) The Brazilian company: o Paid a $32 million invoice to the Spanish firm. o Insured it in London for $38 million using an excess policy with an attachment point of $12 million. Does this arrangement work? 38

39. THE CENTER FOR PROFESSIONAL EDUCATION Diagram Headquarters Brazil 39 Subsidiary South Africa Manufacturer Spain Insurer London Insurer South Africa $12m $32m Asset $18m

40. THE CENTER FOR PROFESSIONAL EDUCATION #3. Differences in Conditions Policy Separate Insurance Policy Additional limits of coverage. Special perils. Exclusions. 40

41. THE CENTER FOR PROFESSIONAL EDUCATION Foreign Property DIC Policy All risk coverage. Fills the gaps between master insurance policy and local policies. Provides uniformity of coverage in all locales. 41

42. THE CENTER FOR PROFESSIONAL EDUCATION Question A company bought fire insurance to cover a factory. It also purchased earthquake insurance to cover structural damage from seismic tremors. An earthquake caused a fire that burned down the facility. Which policy covers the loss? 42

43. THE CENTER FOR PROFESSIONAL EDUCATION Answer In one case, neither policy. The fire policy excluded fires started by earthquakes. The earth movement policy excluded fires caused by earthquakes. 43

44. THE CENTER FOR PROFESSIONAL EDUCATION #3. Meet Requirements of Counterparties A counterparty is the other entity in a financial transaction or negotiated agreement. It may require a company to have locally admitted insurance protecting the agreement. Examples are clients, banks, and trading partners. 44

45. THE CENTER FOR PROFESSIONAL EDUCATION Question A coal-mining company purchases heavy- equipment machinery from a manufacturer in another country. The buyer wants a local jurisdiction guarantee of payment if the equipment does not meet operation or service life specifications. No local insurer will offer such a guarantee. Can fronting help? 45

46. THE CENTER FOR PROFESSIONAL EDUCATION Answer Yes. A licensed insurer issues an insurance policy. The policy losses are covered by a guarantee from the foreign manufacturer or a reinsurer. 46

47. THE CENTER FOR PROFESSIONAL EDUCATION Question A manufacturer has expensive machinery: It must be purchased in country A. It is installed for use in country B. The company wants replacement cost insurance denominated in currency A. Can fronting help? 47

48. THE CENTER FOR PROFESSIONAL EDUCATION Answer (1) The manufacturer purchases insurance in country B. It is reinsured with a company that will reimburse in country A currency. The company wants replacement cost insurance denominated in currency A. 48

49. THE CENTER FOR PROFESSIONAL EDUCATION Answer (2) What happens if country B has currency restrictions? 49

50. THE CENTER FOR PROFESSIONAL EDUCATION 50 Question A company operates a $30 million factory with a bank mortgage. All property insurance must be purchased from a locally licensed insurer. The local insurer agreed to provide coverage with reinsurance of 90% backing it up. The bank proposed buying $1 million of local insurance and secretly buying $29 million outside the country. Is this a good strategy?

51. THE CENTER FOR PROFESSIONAL EDUCATION 51 Answer Issues. The recommendation does not comply with local laws. If the local insurer gets in trouble, the insured has no direct access to the reinsurance money.

52. THE CENTER FOR PROFESSIONAL EDUCATION #4. Create a Blended Program. Blended programs: Profit and Loss. Combines profit-sharing of finite insurance with transfer of risk (also “integrated program.”) Loss Only. Combines different coverages with retention and transfer. 52

53. THE CENTER FOR PROFESSIONAL EDUCATION Blended Profit and Loss Finance profit and insurance loss: Investment. Hedge fund transfers $50 million to trust account offering 7% interest. Transfer of Risk. Trust account guarantees to reimburse primary insurer losses above $200 million in specified occurrence of loss. Return of Capital. After fixed time period, balance in trust account is returned to hedge fund. 53

54. THE CENTER FOR PROFESSIONAL EDUCATION Blended Loss (1) A risk transfer program is sought for a refinery. It has an accounting value of $11 million. It has a replacement cost of $34 million. Local laws require licensed coverage for property losses. 54

55. THE CENTER FOR PROFESSIONAL EDUCATION Blended Loss (2) The foreign parent wants: Retention of $1 million. No local transfer of loss. Retention of $3 million in loss above the book value. Transfer of remaining loss to Bermuda market. Can fronting help achieve this goal? 55

56. THE CENTER FOR PROFESSIONAL EDUCATION Answer Yes. Parent purchases primary insurance of $11 million with fronting licensed insurer. Policy deductible is $1 million. Fronting company reinsures losses at $1 million attachment point to $11 million policy limit. Parent purchases excess insurance with $14 million attachment point and $34 million policy limit from Bermuda carrier. 56

57. THE CENTER FOR PROFESSIONAL EDUCATION 57 Layered with Fronting Insurance 34m Bermuda Excess 14m Retained 11m Fronting Company 1m Retained

58. THE CENTER FOR PROFESSIONAL EDUCATION Claims Processing (1) A company has losses insured with a licensed fronting insurance company. A loss occurs. Who handles claims processing and settlement? 58

59. THE CENTER FOR PROFESSIONAL EDUCATION Claims Processing (2) Product Product Incident Lawsuit Covering Made it Sold in In in Policy USUSUSUSUS USUSForeignForeignForeign ForeignUSUSUSUS ForeignForeignForeignForeignForeign ForeignForeignUSUSUS USForeignForeignUS? 59

60. THE CENTER FOR PROFESSIONAL EDUCATION Presentation Fronting Hub Services Part 3 60

61. THE CENTER FOR PROFESSIONAL EDUCATION Fronting Issues (1) A strong and deep partnership between the client and the fronting administration carrier. Trust. Excellent communications. Efficient flow of information. 61

62. THE CENTER FOR PROFESSIONAL EDUCATION Fronting Issues (2) A multinational client expects its insurance carrier to have a globally coordinated network that issues policies, reports on claims and provides cash flow services. 62

63. THE CENTER FOR PROFESSIONAL EDUCATION Fronting Issues (3) The network needs superior technology and experienced staff. Customized coverage. Premium collection, movement and reportingLoss Reports. Claims reporting, billing and collection 63

64. THE CENTER FOR PROFESSIONAL EDUCATION Fronting Issues (4) Sophisticated technology. Experienced teams to centralize and coordinate fronting programs. Single fronting company or a worldwide network. 64

65. THE CENTER FOR PROFESSIONAL EDUCATION Fronting Issues (5) Policy Issuance. Coverage. Coordination. Claims. 65