Overview of the agricultural insurance sector in Ukraine
Agricultural insurance and subsidy programs in Ukraine(Analytical report. Section A)
According to the State Commission for Regulation of Financial Services Markets, there were 426 insurance companies in Ukraine registered by December 31, 2005. Most of these companies are small and operate either in several regions or work with selected types of insurance products. Approximately 180 companies received licenses for agricultural insurance though most of them keep licenses as an option for working with the agricultural risks in the future.
Agricultural insurance system in Ukraine is underdeveloped and represents a modest segment of the general insurance system in the country. About 30 companies regularly underwrite agricultural risks and 10 companies out of TOP-50 list dominate the segment. Most of these companies operate nationwide with regional offices established in most administrative regions (oblasts). The number of insurers servicing agricultural sector remains relatively stable during the last four years. The list of dominating companies includes Oranta, ASKA, Etalon, Veksel, Credo-Classic, TAS, etc. These companies tried to develop agricultural insurance products since 2001 when the Government of Ukraine declared its interest in establishing the national agricultural risk mitigation system. It should be indicated that the overall efforts had limited success until the government introduced agricultural insurance subsidy program in late 2005.
Agricultural sector profile and potential market volume for insurance
Ukraine is one of the biggest world producers of sugar beet, grain and oilseeds crops. The agricultural sector accounts for approximately 15% of country’s GDP with annual production volume of 50 billion UAH or 10 billion USD. There are about 40,000 private and 16,000 commercial farms. Private households produce approximately 60% of fruits, vegetables, milk and meat per annum. Ukrainian agrarian sector supplies annually about 40 million ton of grain, 16 million ton of sugar beet, 5 million ton of oilseeds and 27 million ton of fruits and vegetables. (This data is the average figures of agricultural production per year for the last 3-5 years. The volumes of production have a tendency for growths in the future. The data is based on statistics of the Ministry of Agrarian Policy and the State Committee for Statistics of Ukraine).
Assuming experience of other countries where agricultural insurance is in the development stage, it is estimated that about 20% of Ukrainian producers might insure 25-30% of the annual crop production volumes. This means that the insured sum (Value at Risk) might be approximately 3 billion USD that can make Ukraine an attractive market for international reinsurance community. The potential annual premium sum might be around 250-300 million USD being equal to the current Ukrainian government support budget for agricultural sector per year.
Risk management strategies and producers’ attitude to insurance
Ukrainian farms and agribusiness have limited choice of risk management instruments. The major risks, as the farmers indicate, are weather, price and marketing risks and changes in government regulation and legislation. Producers try to manage weather risks by using insurance, diversification (seasonal, crop types, crop rotation and combination of crop production with animal husbandry) and seasonal finance. Most farms have no finance reserves or liquid assets which can be employed in case of getting critical losses due to unfavorable weather events.
According to the farmers’ surveys producers consider drought (34%), natural calamities (56%), low prices (39%), winterkill (22%) and pests (21%) to be the most considerable risks for their farming activities (Farming and Agribusiness Development in Ukraine survey, Agribusiness Development Project, International Finance Corporation (IFC), 2005.). It is necessary to indicate that the overall risk comprehension for natural calamities and low prices has a tendency for growth, meaning that producers adjust their production practices to mitigate the impact of particular risk events (drought, winterkill and hail). At the same time, the farmers tend to purchase less Multi-Peril Crop Insurance (MPCI) and more of named peril coverage.
About 90-95% of insurance contracts in 2002-2005 were purchased by the farmers on demand of the commercial banks to be able to obtain seasonal and mid-term credits. According to Ukrainian legislation (The Law on Collateral), all pledged property (collateral) should be insured and the banks strictly follow this requirement. The farmers treat this requirement as an additional tax and tend to choose the cheapest insurance coverage to minimize their costs associated with credit provision. The situation is changing during the last two years however the overall agricultural insurance volumes grow slowly.
There is lack of trust to insurance sector from the farmers’ side. The insurance companies just recently started to publicize their payouts results and this information mostly does not reach farmers. The producers suffered big crop losses in 2003 due to winterkill and severe drought in May-June but the insured farms had problems with getting payouts because of tricky contract wording and unclear terms definitions. Insurance companies deferred payouts as long as six months or refused to compensate farmers’ losses even under the threat of going to the court for disputes’ resolution. Negative experience of year 2003 is remembered by the farmers and many of them tend to treat insurance companies as unreliable partners till now.
Questioning of farmers provides that most farm directors and owners lack understanding of insurance principles. Many of them consider that insurance policy should cover any crop losses as it was practiced during the old USSR times. The farmers do not read contracts thoroughly and are unfamiliar with most of insurance terms and specific provisions. There are many cases when producers ask for the cheap price of the insurance coverage neglecting the level of deductible and coverage as well as the definition of risks and description of loss adjustment procedures. Such practice results in misunderstanding of the coverage amount and leads to confusion when the risks take place.
Historical background of agricultural insurance in Ukraine
Since 1991, when Ukraine obtained independence, and until 2000, most of agricultural insurance services were delivered by Oranta insurance company. This company originated from ex-USSR state insurer Gosstrakh which was previously the only provider of insurance services in the country. Oranta inherited the regional network, methodology and the strategy of consolidated insurance system as established in USSR. This system targeted insuring of all farms at averaged premium rates. This insurance was formal but mandatory for all producers of agricultural commodities. Gosstrakh made payouts to the farms which suffered from risk events out of the overall pool of collected premiums. Wide geographical diversification of insurance portfolio helped to leverage losses and to keep program going. In cases of severe catastrophic losses the company could ask for government assistance that was usually authorized by Moscow. Such system was very different from those established in other countries which had smaller territories and had to use actuarially sound premium rates. Big number of participating farms in USSR and operation in many climatic zones allowed establishment of approximate premium rates for big regions. Later, when Oranta continued to use old Gosstrakh agricultural insurance programs, the system appeared not to be working for Ukraine and the company had to reduce agricultural portfolio considerably. Economic transformations and crisis in Ukrainian agriculture deteriorated farms’ finance resources and the sector reduced demand for insurance services in mid 90s.
Since 2000 Ukrainian private insurance companies tried to replicate Oranta’s agricultural insurance products but they were no longer working and all of them, including Oranta, had to look for new solutions.The government of Ukraine intended to introduce the mandatory crop and animal Multi-Peril Insurance programs in cooperation with insurance companies in 2002. (There are no successful mandatory crop insurance programs in the world. The USA tried to introduce such a system in mid 90s but abandoned this initiative the very next year under strong farmers’ and political pressure. Most countries, that use MPCI programs, prefer to subsidize them however there is no successful examples of MPCI programs internationally and all of them require considerable government assistance to keep programs actuarially sound. Sources: see Annex 2. Resources and Documents used for report). For this purpose they adopted the regulations on mandatory agricultural insurance but the programs resulted in no tangible achievements due to poor legislative and implementation design. The regulation #1000 from July 11, 2002 obliged all farms to insure their crops under Multi-Peril Crop Insurance Program (MPCI) but the farms bore no liability for not following that regulatory requirement. Besides, the Government of Ukraine favored the ad hoc catastrophic payments to farmers based on crop hectarage and animal population. Unfortunately, such political decisions had been made often during the last 10 years. The insurers are right to declare that such government initiatives undermine the basics of agricultural insurance in Ukraine and limit farmers’ demand for sound risk mitigation instruments. (Ukrainian government provided subsidies per hectare for major field crops in 2003 and 2006 after severe winters to compensate farmers for winter crops loss. The similar subsidy is also occasionally provided for spring crops. In 2006 the government adopted regulation # 239, dated March 2, 2006 allocating 529 mln UAH of subsidy per hectare of major winter and spring crops. This decision was made in spite of allocation of 5,8 mln UAH as a subsidy on winter crops insurance program at the end of year 2005 and plans to subsidize MPCI insurance of spring crops in 2006 (10 mln UAH allocated in the State budget for crop insurance subsidy).
Recent initiatives in agricultural insurance in Ukraine
Insurance companies tried to change the situation with agricultural insurance since 2001 when they lobbied the mandatory insurance legislation. They expected that the farms would purchase insurance policies as it was prescribed by the law. It is worth noting that the insurers themselves were not prepared for massive marketing campaign as only one insurer, Oranta, had representative offices in all regions of Ukraine. It happened that the insurance companies came unprepared to work with the clients and in most cases the client had to wait for product description and terms of insurance to be supplied from the central offices of insurance companies. It is fare to state that most regional offices still have no agricultural insurance specialists and all contract and loss adjustment activities have been coordinated from the central offices. Such administration requires more time for contracts supervision comparing to the situation when the offices could have some authority and regional risk volumes’ limits.
During 2001-2004 the insurers offered several insurance products to producers including named-perils, MPCI, yield index, hail and hail-and-fire coverage. These products were mostly offered for strategic field crops under expectation that the agricultural insurance would reach some tangible volumes. Insurance of fruits and vegetables was basically not offered due to various reasons (complexity of survey and loss adjustment, lack of yield data and differences in technology among farms). Some processors (McCaine) insured themselves against business interruption due to low crop yields but such programs went directly to the international reinsurance markets through brokers and were minor in quantity.
Several insurance companies tried to launch animal insurance programs but they were not successful because of methodological issues and lack of clients’ supervision. The vivid example was the case of Oranta company, which insured cows at the households and small family farms. In 2001-2002 meat prices went down and many insured clients slaughtered their herd under the reasons of poisoning and deceases or reported accidents trying to get compensation from the insurer that was exceeding meat market prices. The clients provided certificates and supporting documents from the veterinarian inspections and the company had no formal reasons to refuse payments. After 2002, Oranta insurance company decreased the volume of animal insurance which was never picked up by other companies.
The insurance companies tried to improve the agricultural insurance practices in Ukraine, understanding that the quality of insurance services and products did not meet farmers demand. For this purpose they created two insurance pools that included a total of 20 insurance companies. One pool was leaded by Credo-Classic and included four companies while the other was coordinated by ASKA and numbered sixteen companies. Both pools worked with Agro-Risk consulting company that designed new products and provided surveying and loss adjustment services. (Agro-Risk company was founded by foreign (Swiss and German) and Ukrainian insurance professionals in 2002. At the present time there is no public information about company activities. According to the market players the company is providing technical services to insurers and maintains no informational campaign for farmers.) Agro-Risk also assisted to transfer risks to the international reinsurance markets. There’s been some opposition between two insurance pools and small insurers migrated from ASKA pool to Credo-Classic however ASKA managed to attract some new members to its pool (eg. Status entered ASKA pool in 2005). The pools did not agree on the membership and service fees that the insurers had to pay to Agro-Risk. According to the insurers, each company paid monthly membership fee disregarding if they underwrote risks or not, and deducted 20% of the premiums collected in favor of Agro-Risk as risk portfolio management payment. ASKA pool strategically decided to keep only 20% of the risk transferring the bigger risk portion to the international reinsurance markets. Credo-Classic pool considered it was worth keeping more risk in the country leveraging potential losses through the regional and product diversification. (It is common international insurance practice to keep most risks in the company or country portfolio, transferring mostly catastrophic risks to the reinsurance markets. International experts propose to transfer risks and losses that have severe nature and happen once in 30-50 or even 100 years. Examples – severe drought in Canada in 2002, winterkill and drought in Ukraine in 2003, severe drought in Europe in 2003.)
In spite of insurers’ efforts during 2001- first half of 2005, the number of commercial insurance policies sold by both pools was approximately 100 contracts per year with the premium sum collected of 150,000 USD. It should be fair to indicate that ASKA pool delivered more than 80% of the contracts and insurance premiums to the consolidated agricultural insurance portfolio of two pools. Oranta did not enter any of the insurance pool under the reason that they alone collected about 300,000 USD premiums per year and saw no use in sharing their portfolio with other companies or pools.
Formal insurance practices
As it was mentioned in the previous subsections, commercial banks offered seasonal and mid-term credits only if collateral property was insured. Till now, most banks treated this requirement formally and preferred to take excessive collateral (about 150-300%) when the value of property is much higher than the sum of credit. The banks started to use standing crops as collateral after 2001 but used it as a supplementary provision. Both the banks and producers do not consider insurance as a reliable risk management instrument. The producers purchase the cheapest coverage choosing high levels of deductible (there were cases when deductible was as high as 90%!!!) and insuring crops against non-important and sometimes even ridiculous risks. There were lots of policies purchased by farmers during 2001-2004 insuring crops or animals against loss caused by 20 mm hail or by non-piloted flying objects. It is necessary to indicate that most banks had their own captive insurance companies and the producers had no choice of insurance services provider. In many cases such formal insurance contracts were signed automatically when the credit application was considered by the banks.
Credit unions and other seasonal finance providers (input suppliers, processors and traders) do not refer to insurance at all. They usually rely on client monitoring, contract harvesting and pricing strategies to compensate possible losses in case if producer’s commodities (crops or animals) would not be sufficient to return the credit and interest sum.
There was no reliable statistics on the quantity of formal agricultural insurance contracts as these contracts were not reported separately being the part of general property insurance database. The insurance market itself did not treat formal insurance contracts seriously so the data was not included in the agricultural insurance surveys and reports, even by the insurers themselves. Still, it is necessary to indicate, that the number of formal insurance contracts is reducing recently which can be attributed to the market development and growing demand for quality risk management strategies for agriculture.
Winter crop insurance campaign in 2005-2006
The government of Ukraine initiated the first crop insurance support program in late 2005 when the state budget allocated 54 million UAH for crop insurance subsidy. Although the terms of the program and instructive documents were drafted and disseminated in the second half of the year, the insurers managed to sell over 1300 contracts to 910 farms which were much more than they managed to sell during the previous years. The recommended insurance contract wording and other documents were finalized only in October and the insurers could probably sell more coverage if the program was announced earlier and the farmers got timely information about it. The program provided 50% compensation of the premium paid by the producers insuring such winter crops as wheat, rye, barley and rape-seed. By the end of the year, the Ministry of Agrarian Policy approved 5,8 million UAH for compensation of 50% of premiums paid under crop insurance policies.
The winter insurance program was implemented by 28 insurance companies. Seven insurers managed to capture about 60% of the insured area providing service in 4 to 18 oblasts. Three insurance companies – TAS, Oranta and ASKA – attributed approximately to 40% of winter crop coverage while they collected about 30% of total premium portfolio. The statistical data provides that the regional companies were also active insuring crops in their operating areas (Ukrainska Miska Company in Odessa oblast, Oranta-Luhan in Luhansk and Standart company in Poltava oblast).
The insurers insured approximately 6,4% of the winter crop area and the average premium rate was 31,24 UAH per hectare, or 3,41%, that was lower that the actuarially sound premium rate should be. Different oblasts of Ukraine had various risk profile where winterkill risks supply approximately 4,5% – 6% from the overall premium rate of 6-11% for the whole winter crop vegetation cycle. The insurance companies widely used high deductible that in many cases was as high as 50% and sometimes even 60%. It is considered that insurance product with deductible does not reflect the efficient premium rate when the premium rate is applied to the premium sum. There is basically no practice to use coverage as the basis of premium rate application however it is expected that the market will switch from “deductible” products to the “coverage” ones under the pressure of the producers. The tables below (oblast and insurance companies’ profiles) provide analytical data on 2005-2006 winter crop campaign with the basic performance indicators being constructed based on the information from the oblast departments of agriculture as kindly provided by the Ministry of Agricultural Policy. There is difference in figures between the tables constructed and Ministry of Agrarian Policy (MAP) reports. MAP representatives informed that some oblast registries have been recently updated so the figures might slightly deviate. The difference of insured area of 2000 ha and premiums collected of approximately 1800 UAH constitute less than 1% deviation so it is considered that the analytical findings would represent the objective tendencies and trustworthy performance indicators for the subsidized winter crop insurance campaign.
It is important to note that two oblasts had no insurance contracts sighed at all. While that may be not important for Zakarpatska oblast (36,000 ha or 0,59% from the total area under winter crops in Ukraine), attention should be paid to the practice in Crimea where no winter crops insurance contracts were signed though this oblast is one of the major producers of winter crops in Ukraine (6,59% of the total are) staying in the list of top 9 oblasts producing grain crops.
There is considerable deviation of premium rates and premium per hectare values. While in 4 oblasts premiums per hectare were higher than 50 UAH, the premium sums per hectare in other oblasts were in the range of 20-30 UAH while it is not possible to attribute such difference to oblasts risk or historical crop loss profile.
Ukrainian authorities should pay attention to the insurance service providers’ presence and activities. Two oblasts had as many as 10 insurance companies selling crop insurance while in 10 oblasts there were only 1 to 3 insurance companies operating.
Winter of 2005-2006 was a difficult one so there would be necessary to appraise insurance companies’ performance according to the crop loss and loss adjustment indicators. According to the reports of independent consulting agencies and Ukrainian meteorological service, approximately 25-30% of the winter crops could be damaged or killed by severe frosts during the last winter. It is not clear how and when the Ministry of Agrarian Policy or other government institutions would appraise the loss adjustment and payouts activities.
Notes on analytical data
The tables on winter crop insurance subsidy program provide information that helps to analyze 2005-2006 winter campaign. Some oblasts reported insurance premiums much higher than the average for Ukraine (highlighted yellow). This can be explained by better insurance terms and real protection offered. At the same time the premium rates were much lower than the average values (highlighted blue) which can be attributed to higher deductibles applied or to other reasons. There is no correlation between the number of insured farms and the insured premium sum or premium rate. This difference can be explained by the specifics of regional insurers’ programs but this issue needs further analysis of the contracts terms.
Considering the table 2 with insurance companies’ performance indicators, it is clear that while the top three insurance companies insured approximately 38% of the total insured area under winter crops, they managed to collect only 30% of the premiums (highlighted blue). It is interesting that the next group of two companies (Veksel and Etalon, marked red) which are affiliated with big commercial banks (Prominvestbank and Aval), collected very modest premium portfolio of 5,5% from the total volume, while insuring approximately 22,5% of the total insured area under winter crops. Moreover, these two companies underwrote the lowest real premium sums per insured hectare.
Additional attention should be paid to the group of the regional insurance companies (highlighted green) which reported very high insured values that do not correspond to the average market performance indicators. These companies collected very high premiums per hectare and underwrote unexpectedly high insurance sums per area unit. The regional companies applied higher than average premium rates which were equal or exceeding 5% of the internal premium rate (real cost of insurance = insurance premium/insurance sum * 100%). It is possible that these companies had better relations with the producers in their regions and so far having higher level of trust that lead to better contract terms offered to the producers. However it might be possible that these companies tried to utilize government subsidies. Further analysis of the payouts should provide additional information for consideration as most of these companies worked in the oblasts where winter crop damage was reported to be the most considerable (Luhansk, Donetsk, Sumy, Odessa) in Ukraine.
There is another reason to reevaluate the analytical data in the tables. Ten companies out of the top-15 list regularly participated in the discussions of the future winter crop insurance campaign when the government considered premium subsidies. The working group meetings were conducted during September-November 2005 at the Ministry of Agrarian Policy and the League of Insurance Organizations (insurers’ professional association). The regional small insurance companies did not participate in those events. It is recognized that small insurance companies fall under easier supervision from the side of the insurance regulator (The State Commission for Supervision of Non-Banking Finance Markets) so further analysis of the insurers’ activities would be necessary and crop insurance contracts should be revised to provide qualified statements about the results of 2005-2006 winter crop insurance campaign.
The overview of the agricultural insurance system in Ukraine is the section of the analytical report prepared for USAID project in Ukraine “Agricultural policy, legal and regulatory reform” This document provides analysis of the development and current state of the agricultural insurance system. The paper contains analytical results of 2005-2006 winter crop insurance campaign that was subsidized by Ukrainian government and analysis of insurance companies performance.
Overview of the agricultural insurance system in Ukraine