CHAPTER ONE
INTRODUCTION
Background of the study
Insurance companies play an important role in the financial services sector of most countries by lowering total risk, contributing to economic growth and efficient resource allocation, reducing transaction costs, creating liquidity, facilitating economies of scale and spreading financial losses (Duompos, Gaganis, and Pasiouras, 2012). They do this through underwriting of risks inherent in most sectors of the economy and provide a sense of peace to most economic entities. Consequently, the financial performance of insurers is of major importance to various stakeholders such as shareholders, policyholders, agents and policymakers (Charumathi, 2012).
Due to globalization and intense competition, risks are increasing and risk management is becoming an integral part for the success of almost every organization, especially for the insurance sector because of their high-risk businesses, as the risks are associated with every client in the business and their own risk. Insurance companies are in the core business of managing risk (Gupta, 2011). The companies manage the risks of both their clients and their own risks. This requires an integration of risk management into the companies’ systems, processes and culture (Eric, 2005).
The risk management process consists of a series of steps, which are establishing the context, identifying, analyzing, assessing, treating, monitoring and communicating risks, which allow continuous improvement of decision making (Ross et al., 2009). By implementing risk management insurance organization can reduce unexpected and costly surprises and effective allocation of resources could be more effective. It improves communication and provides senior management a concise summary of threats, which can be faced by the organization, thus ultimately helping them in better decision making.
Financial performance is a measure of a firm’s overall financial health over a given period of time. It can be measured from various perspectives including: solvency, profitability, and liquidity. Solvency measures the amount of borrowed capital used by the business relative to the amount of owner’ equity capital invested in the business. For insurers, profitability is the excess of revenues from underwriting activities over the costs incurred in generating them (Almajali et al., 2012). The financial performance of an insurance company depends on many other factors, some of which are difficult to quantify, including the quality of its management, organizational structure and systems and controls in place. An assessment of financial soundness thus needs to take into account both quantitative and qualitative indicators to achieve an acceptable degree of reliability (Udaibir et al., 2003).
