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Chapter 4 Features and operation of proportional reinsurance treaties 4/5

• With a large insurance group operating on a worldwide basis, the ‘sharing’ of business by subsidiary
companies within the group organisation can be a way of diluting the effects of losses in any one part
of the organisation without losing the overall benefits of the premium income from the business
concerned.
• It is often overlooked that the sharing of each and every risk on a proportional basis provides an
insurer with a certain amount of natural perils or catastrophe reinsurance capacity.
Be aware
For a property account, a quota share treaty may be used to provide specific protection, such as earthquake,
particularly in areas where the incidence of such losses is potentially high. Such arrangements may be placed with
reinsurers as a package in conjunction with other pure fire treaties. This provides a better spread of risk for both the
insurer and reinsurer, and reduces the amount of pure catastrophe protection required.

• Where the company is in need of financial assistance in order to cover the costs associated with an
increase in volumes of business written. Such costs would include boosting reserves for unexpired
risks. Consider the case of an insurer that has launched a new insurance offering directors’ and
officers’ cover. It is proving extremely successful and the capital backing allocated for it is quickly Chapter
becoming exhausted. The insurer could allocate more capital but that would take capital away from
other areas of the company. However, if they added, say, a 40% quota share, this would allow them to 4
write an equivalent amount of additional business using the same existing capital base.
• Insurers are encouraged to create small quota share reinsurance treaties in which the reinsurer can
participate, particularly if it writes the insurer’s surplus reinsurance treaties. In this way, reinsurers
receive a more balanced book of business, but this dilutes the net retention of the insurer. Usually,
this approach is used when an insurer has had a bad set of accounts in a particular area which cannot
be corrected immediately without affecting its ongoing client relationships.
• To reduce net retained income in order to improve or protect solvency requirements.
• Quota share could be used to protect accounts with moderate sums insured which are subject to
abrupt variations in the loss ratio from one year to the next, such as agricultural crops damaged by
hail, to even out the occasional adverse result.
• There may be elements within the account to be reinsured that have a greater level of risk than the Reference copy for CII Face to Face Training
remaining lines and do not appeal to the risk appetite of the quota share reinsurer. In this case a
facultative carve-out may be appropriate. A loose definition of such an arrangement is that there is an
exception to a general rule leading to severance of one part of a unit leading to a parallel or secondary
agreement based upon a primary agreement.

Example 4.3
Reinsurer M is keen to participate in the quota share arrangement proposed by insurer L. However, reinsurer M is
concerned that specific parts of the account to be reinsured contains heavy catastrophe exposed risks. As this part
of the account requires separate consideration and rating it is carved-out of the main account and facultative terms
applied.

Question 4.2
We have stated that quota share treaties carry the highest percentages of ceding commission. Why is this?

A1C Advantages of quota share treaties
The advantages of quota share treaties are:
• The relationship between insurer and reinsurer is absolute – in such a context the reinsurer follows
the fortunes of the insurer almost identically.
• The accounting and reporting of business is simple.
• Flexibility exists in increasing or decreasing the amount of quota share ceded at each anniversary.
• Unlimited cover is generally provided for aggregation of risk losses in a single loss event.