The Indian insurance market is in an exciting phase of development. The market has always been considerably under-insured and this has always made India strategically important for international investors, but three key developments are driving further change. First, regulatory and market developments are facilitating greater M&A activity. Second, the emergence of new distribution channels is encouraging new opportunities. Third, the advent of disruptive technologies and the emergence of ‘insurance tech’ is also influencing the development of the insurance landscape. The main trends are summarised below.
M&A opportunities
A number of developments are influencing M&A and investment opportunities in this sector.
First, the foreign direct investment (FDI) cap has been increased from 49% to 74% and the previous restrictions on ‘Indian ownership and control’, which affected board composition and affirmative voting rights, have been removed. These are facilitating greater strategic investment in this sector from the large international insurers, both in relation to greenfield investments as well as increase of stakes in existing joint ventures. The Insurance Regulatory and Development Authority of India (IRDAI) has imposed certain requirements that accompany the higher FDI cap, including residency requirements for directors and key managerial personnel, the requirement for a higher retention of net profits for insurers with low solvency margins (where foreign investment exceeds 49%) and enhanced corporate governance requirements in relation to independent directors, but these have not been seen to be problematic by the market.
Second, there is significant interest in the insurance sector from financial investors and the amount of ‘dry powder’ which can be invested in this sector and is generating new transaction opportunities. Apart from traditional private equity funds, certain prominent family offices have also been active in the insurance sector. Private equity funds have invested not only in the shares of listed insurers, but also in certain unlisted insurers as well. The IRDAI does have private equity guidelines which impose a five-year lock-in requirement where the funds are ‘promoters’ (ie, they hold a stake of at least 10% in the relevant insurer), restrict leverage and require undertakings from the relevant funds to subscribe for securities issued by the insurer in any rights issue. This means that such investments are perhaps less liquid than traditional private equity investments and require the commitment of incremental capital. Private equity investors also need to be open to contractual provisions in the shareholders’ agreements that they would perhaps be less inclined to accept in other contexts, as they are effectively financial investors in strategic joint ventures. However, despite these considerations, the opportunity has led to certain high-profile financial investments by private equity and family offices.
Third, the approach of the Reserve Bank of India (RBI) is likely to shape M&A activity in this sector. The RBI has become increasingly focussed on the capital adequacy of banks and has been encouraging banks to limit their holdings in insurers as the insurance sector layers on its own incremental capital requirements. Investment by banks in the insurance sector has always been regulated. The Banking Regulation Act 1949 limits investments by banks in the shares of other companies (a cap of the lesser of 30% of the paid-up share capital and reserves of the target company or 30% of the paid-up capital and reserves of the bank applies). In 2021, press reports indicated that the RBI was considering a lower limit of 20%. The RBI has not yet formally notified a change of position in this regard but given the fact that several insurers have significant investments from banks, any changes have the potential to affect the deal landscape. The RBI’s approach has also affected certain recent transactions. For instance, Axis Bank’s investment in Max Life was only approved after the direct investment percentage was reduced to below 10%.
Fourth, the distress of certain large Indian conglomerates with insurers has generated opportunities for new entrants to acquire the insurers held by distressed groups. This may be a temporary phenomenon, but it a feature of the current deal landscape nevertheless.
Distribution channels
It is often said that distribution is everything in the insurance business. However, certain features of the Indian regulatory landscape have influenced the way in which the market has evolved.
The IRDAI (Registration of Corporate Agents) Regulations 2015 state that an insurer cannot require an agent to insure every client with it. Also, agents are required to have a policy on open architecture. These fall short of restricting exclusivity, but the IRDAI does interpret these requirements restrictively in practice. There are also caps on commission payments to insurers and the IRDAI closely monitors payment for other services to agents.
This does restrict some of the contractual comfort that both insurers and agents seek in their distribution agreements, and incentive alignment has therefore sometimes been achieved by banks investing in insurers. Particularly in life insurance, where bancassurance is the main distribution channel, this has been one way of aligning interests. However, this is becoming increasingly difficult as the RBI increasingly views banks’ investment in insurers as being capital inefficient. This is discussed further below.
Partly because of these restrictions and partly because mobile connectivity has created a large online customer base, insurers are increasingly looking to digital distribution channels. This is perhaps more the case in general and health insurance, but the trend is distinct as discussed further below.
Digital disruption
As in other sectors, digital technologies are influencing the insurance landscape in a variety of ways. Traditional insurers are looking at ways to improve the ‘user experience’ and offer greater individualisation through digital means as a competitive differentiator. Also, various technology investors and the family offices of the founders of technology companies have started expanding their investment footprint to cover insurance.
As a result, the market has seen the advent of online insurers, web aggregators and various new distribution models. As in the case of other sectors, the law is playing catch-up with technological advances and some of the business models that are evolving, challenge the existing regulatory constructs and so legal creativity may be needed to move transactions forward.
Also, the IRDAI is open to innovative insurance-tech products and has a ‘regulatory sandbox’ scheme. Interested parties are able to put forward proposals to the IRDAI in relation to innovative products. The IRDAI may approve these, for an initial period of six months, extendable by a further six months. If an approval is considered successful by the IRDAI, it can then be formalised in longer term regulations. This presents an opportunity for investment in innovations in this sector in India.
Takeaway
These are exciting times in the insurance market in India. The change in the FDI cap may result in structural changes, as international investors increase their stakes in joint ventures in India and as new participants enter the market. Technology may also influence distribution strategies and may lead to new entrants with a strong digital footprint being more active in the insurance sector. Lawyers will need to be nimble and the law will need to evolve to keep pace with technological developments. In addition, the RBI’s approach to banks’ investments in insurers is a key development which could drive M&A. With so many drivers of change, international insurers, financial investors and other market participants will all be watching this space with great interest.