An Empirical Analysis of Mutual Life Insurance Company Surplus

Abstract

The study of the appropriate level of surplus for life insurers has received little attention on the part of researchers. This is probably due to the fact that life company surplus levels are limited by law at a low level relative to company assets. It is clear, however, that a great deal of money is represented by this component of the balance sheet and that more attention should be devoted to the level of surplus held by such companies in relation to the need for surplus. This study analyzes the surplus levels of the five largest mutual life insurers in relation to the historical need for surplus for the period 1925 to 1969. At a time when consumers are evidencing increasing interest in life insurance, particularly the cost of the product, it is incumbent upon the life insurance industry to develop a more definitive rationale regarding the level of surplus required to keep a mutual life company viable, rather than basing the amount of surplus on rules of thumb, tradition, or maximum limits established by law. A determination of the appropriate level of surplus has direct implications for policyholder dividends, since dividends represent the most immediate control mutual life companies have over surplus levels. The development of any rationale for what might be considered an appropriate level of surplus for a life insurer has Howard E. Winklevoss, D.B.A., is Assistant Professor of Insurance in the Wharton School of the University of Pennsylvania. Robert A. Zelten, Ph.D., is Assistant Professor of Insurance in the Wharton School of the University of Pennsylvania. This paper was submitted in August, 1972. The authors would like to acknowledge the assistance of N. F. Jones, Alan Lauer, Charles L. Trowbridge and their colleagues in the Wharton School who made comments on an earlier draft. The contents of the final article, however, remain the sole responsibility of the authors. received scant attention in the literature. Most of the published research in the area of life company surplus has dealt with the method of distributing divisible surplus to policyholders rather than with the matter of how divisible surplus should be ascertained in the first place. One article, however, addresses the question of how large surplus should be for a mutual life insurance firm.' The author discusses several sources and uses of surplus and develops a very general model for determining a proper surplus level. The article, however, contains no empirical analyses of the historical levels of surplus among mutual life insurance companies in relation to the various risks that surplus is designed to meet. The purpose of this article is to delineate the needs for surplus and to analyze empirically how these needs compare to the funds held as surplus by the five largest mutual life insurers for the period 1925 to 1969. In addition, the pattern of surplus accumulation is examined from 'Charles L. Trowbridge, Theory of Surplus in a Mutual Insurance Organization, Transactions of the Society of Actuaries, Vol. XIX, Pt. I, 1967, pp. 216-32.