Company Valuation Under IFRS : Interpreting and Forecasting ...

Company valuation under IFRS
Exhibit 6.13: Calculation of net earned premiums
Calculation of net earned premiums €
Gross written premiums 250
- Reinsured premiums (120)
= Net written premiums 130
- Change in provision for unearned premiums (30)
Net earned premiums 100
Gross written premiums are the actual funds received from policy holders in the
period. Much of the risk that will have to be covered as a consequence of these
receipts will relate to future periods. Therefore quite obviously it does not qualify
for recognition under the earned basis.
In order to manage this risk the ceding company will often offload or pass on
some of the risk to other insurance entities. As a result of this some of the
premium is also passed onto other insurance companies. Naturally this has not
been earned so must be deducted from gross written business to calculate the net
written premiums.
Net written premiums represent the revenues for the net retained level of risk.
The duration of insurance policies differs depending on their source. For example
non-life insurance policies normally average about 2-3 years. Even if all the net
written premiums lasted for one year only the premiums written on 1st January
could actually be recognised.
Unearned premiums are similar in nature to deferred income – monies received
from customers that have not yet been earned. These are a liability as the
insurance company ‘owes’ the coverage to the customer. This liability will sit on
the balance sheet as part of technical reserves. Therefore when premiums are
received and the year end financials are being prepared the insurance company
must decide what proportion related to the future and what amount has been
earned. For example a premium of €2,400 received on 1 October (assume
calendar year end) would be divided up into a recognised portion (3/12 X 2,400)
€600 and an unrecognised portion €1,800. This €1,800 would be included in
provisions called ‘provision for unearned premiums’. Each year the movement in
the provision is netted against the written premiums to calculate those earned.
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