MALAYSIAN ISLAMIC FINANCE Issuers and Investors Forum 2006

Takaful Review:
Evolving Trends, Opportunities and Challenges

By Sohail Jaffer

The Islamic insurance or Takaful industry is relatively young compared with its more mature banking counterpart, but it is also in a phase of rapid expansion. According to a report from the Salama Islamic Arab Insurance Company in Dubai:

“Takaful has become one of the leading segments of the financial sector across the Asian, Arab and African regions with growth rates of 10% to 30% over the last couple of years. There are currently around 60 Takaful operations in 30 countries worldwide. Total direct Takaful premiums are estimated at approximately US$1.7 billion [RM6.24 billion] in 2003. The Arab countries provide around 63% of the global Takaful business, followed by Malaysia with 27% and other Asia-Pacific countries some 9%, with Europe and USA contributing only 1% to Takaful revenues.

The global Takaful market is expected to grow at between 15% and 20% per annum. Total worldwide direct Takaful premiums covering both non-life and life are expected to reach US$7.4 billion [RM27.27 billion] by 2015. Of this estimated amount, nearly US$2 billion [RM7.34 billion] in annual premiums would be written in GCC markets, US$3.1 billion [RM11.38 billion] written in the Asia-Pacific region and an additional US$2.6 billion [RM9.54 billion] in Europe, Turkey, China, India and the USA. Approximately 52% of the projected total annual Takaful premiums would be non-life with an impressive gain with life/family Takaful segment increasing to US$4.9 billion [RM17.99 billion]. Malaysia and Indonesia will continue to be at the forefront of the Takaful business with over US$1.4 billion [RM5.14 billion] in premiums.”

Takaful industry growth
The Takaful industry has grown significantly as the Islamic alternative to conventional insurance and has evolved from being a regional business to a global one. The renaissance in Socially Responsible Investing (SRI) and customer demand for Shariah compliant solutions has enhanced the community banking appeal of Takaful-related products. Major markets currently include Malaysia, Iran, Pakistan, Saudi Arabia and other GCC countries. Annual average individual market growth rates range between 15% and 30%. The Takaful product family spans across general, life, health and pensions business lines.

The two main business models used in the Takaful industry are the Mudharabah and the Wakalah models. The Mudharabah model is commonly used in Malaysia and involves the Takaful operator managing the operation in return for a share of the surplus on underwriting and a share of profit from investments. The Wakalah model is more prevalent in the Middle East region. In this model, the Takaful operator acts as an agent (Wakeel) for the participants, and manages the Takaful/re-Takaful fund in return for a defined fee.

The global Takaful industry is relatively small in comparison to its conventional insurance counterpart and the current Takaful market size is estimated between US$2.5 billion (RM9.18 billion) to US$3.5 billion (RM12.85 billion) of annual premium. It needs to gain critical mass, build worldwide brand recognition and exceed performance standards set by the conventional insurance industry. There are only a few international Takaful suppliers. The major challenges faced by the national and cross-border Takaful suppliers include raising customer awareness and education; expanding product innovation, creative product design and marketing; gaining brand recognition; offering attractive investment choices for customers in family Takaful linked investment plans; intelligently deploying technology to enhance customer experience and overall consumer satisfaction levels; finding an AAA-rated international reinsurance company willing to accept a re-Takaful solution, offer individual risk-bearing capacity; and widening penetration of bank and alternative distribution channels.

The Takaful industry has been successful in distributing products through its agency sales force, direct channel, e-commerce and, to a limited extent, via certain retail banks. Product customization for the different bank channels (retail, mass affluent, private banking), customer referrals and gaining brand loyalty are important critical success factors. Product packaging, customer convenience, customer care and transparency of product terms, conditions and pricing are also important catalysts to increase the share of the Takaful business across multiple distribution channels. For family Takaful linked investment plans, an open investment architecture platform is important for the retail banking channel. Clearly the ability to tailor suitably diversified risk reward investment portfolios, select top quartile performing funds from major international brands and control defined portfolio risk levels are powerful drivers for the retail value proposition. Furthermore, the product certification by an independent Shariah board of experts and ongoing compliance monitoring with high ethical standards has favorably impacted transparency, disclosure of different terms and conditions, charges and frequency of reporting.

Several enterprising banks have included bancassurance in their product offerings, and some of the new Takaful operators are offering certain general Takaful products online. The distribution of Takaful life and savings products through bank channels is relatively new, but the sales process through the branch banking network has been facilitated by the advent of web-based point of sale and online administration systems. In addition to the benefits of customer convenience, the “white label” advantage of using own brand equity, transparency of product terms and conditions, open investment architecture and efficient online processing has all proved attractive to major bank distribution partners.

Takaful industry highlights
In Malaysia, the current market penetration for Takaful is relatively low. According to Islamic Finance news of the 5th December 2005: “Takaful is expected to constitute 20% of the total insurance market by 2010 (currently 6.5%). At that time, Takaful’s share of the Malaysian insurance industry is estimated to be worth US$1.85 billion (RM7 billion).”

Bank Negara Malaysia issued new Takaful licenses to the following four consortiums in January 2006.

• HSBC Insurance (Asia-Pacific) Holdings, with Jerneh Asia and Kumpulan Wang Simpanan Pekerja;
• Hong Leong Bank, Millea Asia, Japan, and Hong Leong Assurance;
• Bank Simpanan Nasional and Prudential Holdings; and
• MAA Holdings and Solidarity, Bahrain.

This announcement formed part of Bank Negara Malaysia’s strategy of accelerating the development of Islamic insurance and developing market players to compete effectively. The new Takaful operators were permitted to have foreign equity interest of up to 49% to encourage a liberalization of the financial services industry.

Product innovation
Due to the ethical guidelines underpinning Islamic banking, investment and finance products; the increasing transparency of customer terms and conditions; the pricing structure; regular monitoring for compliance by the relevant Shariah boards; and adequate disclosure of material aspects, such offerings have tended to attract both Muslim and non-Muslim customers. Acceptance of Islamic savings, education, marriage and retirement plans is gradually growing among the affluent customer base, but significant investment in customer education and training of financial planners and investment advisors is needed. A successful distribution model needs to develop a thorough understanding of customer needs, deliver on its promises, offer product and process innovation, eliminate flaws in product terms and cost structures and enhance customer service delivery.

Against this backdrop, major Takaful providers need to enhance their capacity to innovate, carefully review and understand evolving customer and market specific needs, carefully reengineer their product design and customer benefits packages, strengthen customer interaction and communications and expand customer reach across multiple distribution channels.

Consumer banking growth potential
The Islamic retail financial services industry has grown significantly. Important developments include the creation of dedicated Islamic banking subsidiaries in Malaysia, new Islamic banks such as the Emirates Islamic Bank, nascent Islamic banks in Pakistan, many new Takaful companies in Saudi Arabia, Kuwait, Pakistan and Malaysia and the recent establishment of the Islamic Bank of Britain in the UK. Several of these new Islamic retail banks are employing call centers, a direct sales force and interactive technology to enhance the quality of service provided to individual customers.

According to McKinsey’s 2005/06 World Islamic Banking Conference (WIBC) Competitiveness report: “Islamic banks will need to make substantial efforts to meet expectations. To capture the growth thrust in consumer banking, Islamic banks will have to:

• Focus the offering and develop wider product range.
• Expand network and use branch channels.
• Step up service quality and knowledge.
• Ensure competitive pricing.”

Current retail banking product offerings include Islamic mutual funds, commodities, real estate investments, local IPOs and individual stock portfolios, structured products, and private equity and venture capital funds. The wealth management divisions of banks are now increasingly starting to include a suite of family Takaful linked lump sum investment programs for their private customer base. Hence, Islamic savings, education, marriage and retirement plans that combine investments with protection benefits are starting to become attractive.

Use of IT to enhance customer service
The skilful design and manufacture of Shariah compliant investment and financial planning programs is, however, just the beginning. Packaging and delivering such programs into customers’ hands by providing an efficient and positive experience is one of the keys to initial and longer term customer satisfaction. The traditional techniques, involving high levels of face-to-face customer contact, are still valid, but are now able to be supported by and complemented with modern distribution IT-based methods.

Many financial institutions in the Islamic world have made significant investments in 24/7 “virtual channels,” often called “alternative distribution,” but have primarily viewed these as methods to reduce transaction and enquiry costs, thereby hoping for improved utilization of customer contact staff. The winners of the future, however, will wish to further capitalize on their investments by enabling value creation in all areas of sales support and customer care through thoughtful use of these new channels. Successful models in a number of Islamic countries have rapidly identified that call centers, internet and mobile phone services can offer distinct advantages to elements of the sales process relative to a personal contact only strategy.

Global opportunities
The Takaful industry needs to cater to the growing needs of Muslim and non-Muslim customers around the world. Interestingly, several global insurance brands are currently reviewing their entry into the Takaful shelf space.

There is also scope for players to package premier products and services for their middle income and affluent customers and process these through major bank distribution and other financial intermediaries. Business skills and successful distribution models need to be crafted and redeployed intelligently in the development of new markets. Islamic centers of product excellence include Malaysia, Bahrain and the UAE, but Indonesia, Saudi Arabia and Pakistan are fast-evolving and building their product expertise in this important business segment. The major regional and international players are well positioned to export and adapt their distribution capabilities and customer-centric value proposition to the mature regulatory, tax and accounting regimes of the major OECD jurisdictions.

The author is a partner at FWU Group (s.jaffer@fwugroup.com). He is a regular contributor to The Banker Middle East, Islamic Finance news and is Editor of Islamic Retail Banking and Finance: Global Challenges and Opportunities and Islamic Asset Management: Forming the Future for Shariah Compliant Investment Strategies, both published by Euromoney Books, available at www.euromoneybooks.com.