Tag Archives: dac

Culture Side of Digital Transformation

Technology is changing at an exponential pace, and so are consumers’ expectations of having products and services that come with a digital experience. Perfect example: Our Benekiva team recently rented office space and were shocked by the request of our future landlord to mail two signed copies of the contract. As we were discussing this crazy request and wondering why technology wasn’t used to solve this simple problem, another startup complained to me about the same issue. Did we get the space? Yes. Did we have a bad taste in our mouth about the process?  Yes.

One of the most memorable projects that I led earlier in my career was when I automated cash processing. Previously, a team of 15 took turns printing mainframe screens. Afterward, they had a searchable database with the data at their fingertips.

Before I started digging into this issue, I was advised: “You are working with legacy technology; data is not accessible.” and, “The mainframe replacement project is almost approved. Wait another year.” (Yeah, right. ?)

If I hadn’t rolled up my sleeves to dig into available data feeds, this problem would have continued until the mainframe replacement project was finished, which actually occurred 3 1/2 years later. This project yielded immediate benefits of one full-time employee, not including the money and trees we saved by not printing paper every morning.

Years later, when I came across the Center for Creative Leadership’s direction, alignment, commitment (DAC) model, the reasons for the project’s success became clear.

See also: 3 Ways to an Easier Digital Transformation

Here is a synopsis of the organization I was working for at the time:

  • Innovation was encouraged at the very top of the organization, and it didn’t stay at the senior level. Employees across all salary grades were invited to participate.
  • There was a culture of celebration. If employees found a better way of work, they won awards and were recognized.
  • Technologists were embedded throughout the business. I was one of the first hires of this kind, and we paved the way for others. My role was to learn the business and find ways to improve processes and automation.
  • Data drove decisions. Tasks, people, managers, etc. were measured, which allowed bottlenecks to be seen quickly and a course of action determined.
  • Most importantly, there was a strong sense of DAC. Direction was articulated and communicated to ALL levels of the organization by the senior-most person. This individual would make his mission to get out of his office and walk the floors – get to know people and share the vision. There was clear alignment of goals and initiatives. If something didn’t meet our key objectives or targets, it wasn’t a priority. No sneaking in projects. Finally, there was a strong sense of commitment at all levels of the organization.

Here is how the DAC approach turned into success at that organization:

  • Relationships. You don’t have to be best friends or go out for drinks, but having a good working relationship can make or break initiatives. I was new in the organization but already had started to form a peer group. I was also involved at all levels of the organization – from the cash processor to leadership. After discussing the manual processing with my IT peers, I was introduced to a mainframe analyst who started looking through data feeds that were already being created. She eventually found one that I could use to build a tool that made the data accessible to the cash processing team. Whether you are a startup working with an organization or an employee, learning the organization and the key players (not every key player is a C-Suite executive) is critical to your success. Don’t get fooled into thinking that, if you have upper-level buy-in, you get the golden ticket. Success is involving essential stakeholders at all levels of the organization.
  • Culture. This organization took risks, tried new things and explored possibilities. Technology is often the easy part. Where most failures occur is on the “soft” side of project management. Is your team equipped with the right people to navigate beyond the tech? Digital transformation initiatives are hard. If you are a tech startup working with organizations on their digital transformation initiatives, ensure you have people on the team who can handle the change management side of the house.
  • Questions. When you hear a no, take the attitude that the “yes” is around the corner. Ask questions various ways to collect data and information. Don’t be afraid to poke around – what is the worst that can happen? I’ve never seen anyone get fired for asking questions. If you have, then you were working for the wrong organization.
  • Collaboration. I involved various teams and departments to solve the cash problem. Soup to nuts, we implemented this solution in less than two months – from discovery to implementation. We had so much buy-in and excitement that we won a teamwork award for this project. It was fun to get to know others, and collaboration allowed other problems to surface that some of this team solved quickly.

See also: Innovation Imperatives in the Digital Age

If you are an employee of an organization managing digital transformation initiatives or a startup going in as a vendor, don’t ignore the culture side of your projects. Go in with an open and collaborative mind. As Covey states, “seek first to understand, then to be understood.” Keep building relationships and asking questions. Finally, seek to build DAC. Without direction, alignment and commitment, no matter how much money or resources you throw at the problem, your car is stuck in mud. The wheels are turning, but you aren’t going forward.

Modernizing Insurance Accounting — Finally!

Modernization of insurance accounting is finally here. The FASB issued its final guidance on enhanced disclosures for short duration contracts in May 2015 and published an exposure draft in September 2016 on targeted improvements to the accounting for long-duration contracts.

After literally decades of deliberations, the IASB has completed its most recent exposure draft and plans to issue a final comprehensive accounting standard in the first half of 2017. Moreover, additional changes in the statutory accounting for most life insurance contracts are coming into effect; a company can elect to have Principles Based Reserving (PBR) effective on new business as early as Jan. 1, 2017. Companies have three years to prepare for PBR, with all new business issued in 2020 required to be valued using PBR.

The impact of these regulatory changes is likely to be significant to financial reporting, operations and the business overall. Instead of approaching accounting modernization as a compliance exercise, companies instead should view the changes holistically, with an understanding that there will be impacts to systems, processes, profit profiles, capital, pricing and risk. Planning effectively and building a case for change can create efficiencies and enhanced capabilities that benefit the business more broadly.

Financial reporting modernization will affect the entire organization, not just the finance and actuarial functions. Operations and systems; risk management; product development, marketing and distribution; and even HR will need to change.

FASB’s Targeted Changes

In May 2015, the FASB issued Accounting Standards Update (ASU) 2015-09, Disclosures about Short-Duration Contracts.

Rather than changing the existing recognition and measurement guidance in U.S. GAAP for short-duration contracts, the FASB responded to views from financial statement users by requiring enhanced disclosures for the liability for unpaid claims and claims adjustment expenses. The disclosures include annual disaggregated incurred and paid claims development tables that need not exceed ten years, claims counts and incurred but not reported claim liabilities for each accident year included within the incurred claim development tables, and interim (as well as year-end) roll forwards of claim liabilities.

The enhanced disclosures will be effective for public business entities for annual reporting periods beginning after Dec. 15, 2015 (i.e., 2016 for calendar year end entities) and interim reporting periods thereafter. The new disclosures may require the accumulation and reporting of new and different groupings of claims data by insurers from what is currently captured for U.S. statutory and other reporting purposes. Public companies are currently preparing now by making changes to existing processes and systems and performing dry runs of their processes to produce these disclosures. Non-public business entities will have a one-year deferral to allow additional time for preparation.

See also: Who Is Innovating in Financial Services?  

In September 2016, the FASB issued a proposed ASU on targeted improvements to the accounting for long-duration contracts. Proposed revisions include requiring the updating of cash flow assumptions and use of a high-quality fixed-income discount rate that maximizes the use of market observable inputs in calculating various insurance liabilities, simplifying the deferred acquisition costs amortization model and requiring certain insurance guarantees with capital market risk to be reported at fair value. The FASB also proposed enhanced disclosures, which include disaggregated roll forwards of certain asset and liability balances, additional information about risk management and significant estimates, input, judgments and assumptions used to measure various liabilities and to amortize deferred acquisition costs (“DAC”). No effective date was proposed, and transition approaches were provided with the recognition that full retrospective application may be impracticable.

IASB to issue a new comprehensive standard

The IASB’s journey to a final, comprehensive insurance contracts standard is nearly complete. After reviewing feedback from field testing by selected companies in targeted areas, the IASB completed its deliberations in November 2016.

The IASB staff is proceeding with drafting IFRS 17 (previously referred to as IFRS 4 Phase II) with a proposed effective date of Jan. 1, 2021. Three measurement models are provided for in the standard: 1) Building Block Approach (“BBA”); 2) Premium Allocation Approach (“PAA”); and 3) the Variable Fee Approach (“VFA”).

The default model for all insurance contracts is the BBA and is based on a discounted cash flow model with a risk adjustment and deferral of up-front profits through the Contractual Service Margin (CSM). This is a current value model in which changes in the initial building blocks are treated in different ways in the P&L. Changes in the cash flows and risk adjustment related to future services are recognized by adjusting the CSM, whereas those related to past and current services flow to the P&L. The CSM amortization pattern is based on the passage of time and drives the profit recognition profile. The effect of changes in discount rates can either be recognized in other comprehensive income (OCI) or P&L.

The IASB has also allowed for the use of the PAA for qualifying short-term contracts, or those typically written by property and casualty insurers. This approach is similar to an unearned premium accounting for unexpired risks with certain differences such as deferred acquisition costs offsetting the liability for remaining coverage rather than being reflected as an asset. The claims liability, or liability for incurred claims, is measured using the BBA without a CSM.

Discounting of this liability for incurred claims would be required, except where a practical expedient applies for contracts in which claims are settled in one year or less from the incurred date. Similar to the BBA model, the effect of changes in discount rates can either be recognized in other comprehensive income (“OCI”) or the P&L.

The VFA is intended to be applied to qualifying participating contracts. This model was subject to extensive deliberations, considering the prevalence of such features in business issued by European insurers. This model recognizes a linkage of the insurer’s liability to underlying items where the policyholders are paid a substantial share of the returns, and a substantial proportion of the cash flows vary with underlying items. The VFA is the BBA model but with notable differences in treatment including the changes in the insurer’s share of assets being recognized in the CSM, accretion of interest on CSM at current rates, and P&L movements in liabilities mirroring the treatment on underlying assets with differences in OCI, if such an option is elected.

The income statement will be transformed significantly. Rather than being based on premium due or received, insurance contract revenue will be derived based on expected benefits and expenses, allocation of DAC and release of the CSM and risk adjustment. The insurance contracts standard also requires substantial disclosures, including disaggregated roll forwards of certain insurance contract assets and liability balances.

Forming a holistic strategy and plan to address accounting changes will promote effective compliance, reduce cost and disruption, and increase operational efficiency, as well as help insurers create more timely, relevant, and reliable management information.

Statutory accounting: The move to principles-based reserving

The recently adopted Principles-Based Reserving (“PBR”) is a major shift in the calculation of statutory life insurance policy reserves and will have far-reaching business implications. The former formulaic approach to determining policy reserves is being replaced by an approach that more closely reflects the risks of products. Adoption is permitted as early as 2017 with a three-year transition window. Management must indicate to their regulator if they plan on adopting PBR before 2020.

PBR’s primary objective is to have reserves that properly reflect the financial risks, benefits and guarantees associated with policies and also reflect a company’s own experience for assumptions such as mortality, lapses and expenses. The reserves would also be determined assessing the impact under a variety of future economic scenarios.

PBR reserves can require as many as three different calculations based on the risk profile of the products and supporting assets. Companies will hold the highest of the reserve using a formula-based net premium reserve and two principle-based reserves – a Stochastic Reserve (SR) based on many scenarios and a Deterministic Reserve (DR) based on a single baseline scenario. The assumptions underlying principles-based reserves will be updated for changes in the economic environment, for changes in company experience and for changes in margins to reflect the changing nature of the risks. A provision called the “Exclusion Tests” allows companies the option of not calculating the stochastic or deterministic reserves if the appropriate exclusion test is passed. Reserves under PBR may increase or decrease depending on the risks inherent in the products.

PBR requirements call for explicit governance over the processes for experience studies, model inputs and outputs and model development, changes and validation. In addition, regulators will be looking to perform a more holistic review of the reserves. Therefore, and as we noted in the 2015 edition of this publication, it is critical that:

  • The PBR reserve process is auditable, including the setting of margins and assumptions, performing exclusion tests, sensitivity testing, computation of the reserves and disclosures;
  • Controls and governance are in place and documented, including assumption oversight, model validation and model risk controls; and
  • Experience studies are conducted with appropriate frequency and a structure for sharing results with regulators is developed.

PBR will introduce volatility to life statutory reserving, causing additional volatility in statutory earnings. Planning functions will be stressed to be able to forecast the impact of PBR over their planning horizons because three different reserve calculations will need to be forecast.

There is no “one size fits all” approach to addressing the FASB’s and IASB’s changes. Each company will likely be starting from a different place and may have different goals for a future state.


A company’s approach to addressing these changes can vary depending on a variety of factors, such as the current maturity level of its IT architecture and structure, potential impact of proposed changes on earnings emergence and regulatory capital and current and planned IT and actuarial modernization initiatives. In other words, there is no “one size fits all” approach to addressing these changes.

Each company likely will be starting from a different place and may have different goals for a future state. A company should invest the time to develop a strategic plan to address these changes with a solid understanding of the relevant factors, including similarities and differences between the changes. In doing so, companies should keep in mind the following potential implications:

Accounting & Financial Reporting

  • Where accounting options or interpretations exist, companies should thoroughly evaluate the implications of such decisions from a financial, operational and business perspective. Modeling can be particularly useful in making informed decisions, identifying pros and cons and facilitating decisions.
  • Financial statement presentation, particularly in IFRS 17, could change significantly. Proper planning and evaluation of requirements, presentation options, granularity of financial statement line items and industry views will be essential in building a new view of an insurer’s financial statements.
  • Financial statement disclosures could increase significantly. Requirements such as disaggregated roll forwards could result in companies reflecting financial statement disclosures, investor supplements and other external communications at lower levels than previously provided.
  • Change is not limited to insurance accounting. Other areas of accounting change include financial instruments, leasing and revenue recognition. For example, the impact of changes in financial instruments accounting will be important in evaluating decisions made for the liability side of the balance sheet.

See also: The Defining Issue for Financial Markets  


  • Inherent in each of these accounting changes is a company’s ability to produce cash flow models and use data that is well-controlled. Companies should consider performing a current state assessment of their capabilities and leverage, to the extent possible, infrastructure developed to comply with other regulatory changes such as Solvency II and ORSA and identify where enhancements or new technology is needed.
  • Given the increased demands on technology, computing and data resources that will be required, legacy processes and systems will not likely be sufficient to address pending regulatory and reporting changes. However, this creates an opportunity for these accounting changes to possibly be a catalyst for finance and actuarial modernization initiatives that did not historically have sufficient business cases and appetite internally for support.
  • As these accounting changes are generally based on the use of current assumptions, there will be an increased emphasis on the ability to efficiently and effectively evaluate historical experience on products by establishing new or enhancing existing processes. Strong governance over experience studies, inputs, models, outputs and processes will be essential.
  • As complexity increases with the implementation of these accounting changes, the impact on human resources could be significant. Depending on how many bases of accounting a company is required to produce, separate teams with the requisite skill sets may be necessary to produce, analyze and report the results. Even where separate teams are not needed, the close process will place additional demands on existing staff given the complexity of the new requirements and impact to existing processes. Companies may want to consider a re-design of their close process, depending on the extent of the impacts.


  • Product pricing could be affected as companies consider the financial impacts of these accounting changes on profit emergence, capital and other internal pricing metrics. For instance, the disconnect of asset yields from discounting used in liabilities under U.S. GAAP and IFRS could result in a different profit emergence or potentially create scenarios where losses exist at issuance.
  • Companies may make different decisions on asset and liability matching or choose to hedge risk on products differently. Analysis should be performed to understand changes in the measurement approach with respect to discount rates and financial impacts of guarantees such that an appropriate strategy can be developed.
  • The move to accounting models where both policyholder behavior and market-based assumptions are updated more frequently will likely result in greater volatility in earnings. Management reporting, key performance indicators, non- GAAP measures, financial statement presentation and disclosure and investor materials will need to be revisited such that an appropriate management and financial statement user view can be developed.
  • The impact from a human resources perspective should not be underestimated. Performance-based employee compensation plans that are tied to financial metrics will likely need to change. Employees will also need to receive effective training on the new accounting standards, processes and systems that will be put in place.

Forming a holistic strategy and plan to address these changes will promote effective compliance, reduce cost and disruption and increase operational efficiency, as well as help insurers create more timely, relevant and reliable management information. Given the pervasive impact of these changes, it is important that companies put in place an effective governance structure to help them manage change and set guiding principles for projects. For example, this involves the development of steering committees, work streams and a project management office at the corporate and business group level that can effectively communicate information, navigate difficult decisions, resolve issues and ensure progress is on track.

Each company has a unique culture and structure, therefore governance will need to be developed with that in mind to ensure it works for your organization. Companies that do not plan effectively and establish effective governance structures are likely to struggle with subpar operating models, higher capital costs, compliance challenges and overall lack of competitiveness.