is competitive) has changed sufficiently in recent years to make it desirable for an insurance company to be involved through a subsidiary in what may be deemed ancillary undertakings. An insurance company, whether a life or a property-liability company, should be permitted to engage in such ancillary undertakings through the vehicle of a subsidiary as long as funds are available for the purpose and there is the disclosure, compliance with laws and regulations, and scrutiny mentioned above in connection with subsidiaries engaged in the insurance business. Businesses which may be regarded as related or complementary to, as well as supportive of and subordinate to the insurance business, under proper circumstances, include the following: 1. management of mutual funds (including related sales and services); 2. investment advice rendered to governments, government agencies, corporations, or other organizations or groups; 3. other services related to insurance operations, such as actuarial, loss prevention, safety engineering, data processing, accounting, claims, appraisal and collection services; 4. ownership of assets which the insurance company could itself own; 5. acting as administrative agent for a government instrumentality which is performing an insurance function; and 6. such other activities as the Superintendent of Insurance may approve as being, in fact, ancillary. An ancillary subsidiary should be able to make its services or facilities available to others than its parent or affiliates to the extent they are not needed by its parent or affiliates. We are also satisfied that when activities which are ancillary to the insurance business are performed for others, they should, unless they are de minimis in character, be conducted through subsidiaries rather than by the insurance company itself at the risk of the insurance assets. In any event ancillary activities should be separately accounted for on the books of the enterprise. This freedom to form subsidiaries for the conduct of either an insurance or an ancillary business should enable domestic insurance companies to respond to opportunities presented by changing economic or competitive conditions or by new technological advances. This recommended freedom should not, however, be extended to permit subsidiaries to be engaged in an enterprise which is neither insurance nor an activity ancillary to insurance. In this York statute in accom ection the Insurance Department may wish to re-examine the New rovisions relating to tie-in sales in order to determine their adequacy an increased volume of sales of mutual funds. We are convinced that it is unwise for insurance company managements to become involved in the control of enterprises which are not importantly related to, or supportive of, their paramount concern for insurance. Such non-insurance subsidiaries would tend significantly to dilute the attention, talent and resources available to the insurance enterprise. They would also tend to accelerate the elimination from available insurance coverage of those lines that are less profitable and thus tend to blur the social purpose which should never be far removed from the concerns of insurance management. Further, whatever may be said for conglomerates in other contexts, we think that such extension of economic power and such diversity of responsibility is less acceptable when conducted through subsidiaries of an insurance enterprise. We also believe that subsidiaries in which there are minority interests can vastly complicate the responsibilities of insurance company management. Moreover, if layer on layer of such subsidiaries, cach with minority interests, were to be permitted, then the fiduciary burdens of management toward the minority would correspondingly multiply and they would be accompanied by the increased dangers inherent in pyramiding. Thus, we recommend that subsidiaries of insurance companies be required, with limited exceptions, to be wholly-owned by their parents if such subsidiaries are to have subsidiaries of their own. Conversely, when the subsidiary has no subsidiaries of its own, we think some flexibility can be permitted provided that the parent owns at least a majority of such subsidiary's stock.1 Our suggestion of wholly-owned subsidiaries except where the subsidiary is not, itself, a parent seems to be a pragmatic compromise and one which will permit all the flexibility of organization that management might reasonably require to serve its corporate purposes. Some exceptions to the requirement that subsidiaries of domestic insurance companies be wholly-owned will of course be necessary. Exceptions should be authorized, with the specific concurrence of the Superintendent of Insurance, when for example: 1. a group of insurance companies agrees to pool resources, available for the purpose, for the joint ownership of a separately managed The position we have taken would require that existing powers of non-life companies be revised to preclude the control of another corporation through the ownership by the insurer of less than a majority of the subsidiary's stock. The policies applicable to the control of subsidiaries (as distinguished from restrictions on investments as such) should, we believe, be made uniform for life insurers and non-life insurers. We recognize, however, that, with respect to this recommendation as well as others in this report, there may be considerations beyond the purview of our inquiry, which the Insurance Department must evaluate in determining the timing and methods for implementing our conclusions. subsidiary, provided that such a pooling is neither potentially nor actually anti-competitive, will not tend to frustrate regulation, and will not otherwise be contrary to public policy; 2. the ownership of the remainder of the voting stock of a subsidiary is in affiliated subsidiaries of the insurance company parent-as, for example, when 80 percent of the voting stock of a subsidiary is held by the parent and the rest is lawfully held as investments in the portfolios of its subsidiary companies; 3. the ownership of less than all of the voting stock of the subsidiary is temporary and is pursuant to a plan looking to ownership either of all the voting stock, or of only that percentage permitted as an investment, within a fixed and limited time span; or 4. when the voting control is taken by holders of senior securities, in whole or part, from the holders of the voting stock upon the happening of some event of default, and is intended to be temporary (i.e., there is a realistic plan for the disposition of the subsidiary or for the early resumption of 100 percent voting power by the parent). There is one further comment which we deem of importance. Subsidiaries, whether insurance subsidiaries or ancillary subsidiaries, should be separately managed. By this we do not, however, intend to preclude all cooperative uses of personnel or conventional arrangements for the common management of insurers associated together for underwriting purposes. The business operations, corporate proceedings, fiscal and accounting records, and the like, of subsidiaries should be separately conducted or maintained so as to assure the separate legal identities of the parent and subsidiary, so as to simplify regulation, and so as to support the efficiency and responsibility of the subsidiary's management. Further, as is referred to more specifically later in Part V of this report, with particular reference to non-insurance parents, all intercorporate relationships between insurance parents and their subsidiaries, and between subsidiaries and their affiliates, should be reported to the Superintendent of Insurance in such manner as he may prescribe, whether relating to services performed, dividends paid, agreements entered into, or otherwise. Indeed, certain intercorporate relationships should be prohibited unless the prior approval of the Superintendent of Insurance is obtained. In this category, for example, would fall a material transaction not in the normal course of business such as one involving a significant part of the total assets of one of the companies participating in the The amount of an insurer's assets that should be permitted to be invested in subsidiaries is discussed in Part III of this report. transaction; or transactions involving any potential material liability on the part of the insurance parent or of any insurance assets. In concluding this discussion of subsidiaries, we should state our view that it is appropriate and sound for both insurance subsidiaries and ancillary subsidiaries to raise capital for corporate purposes through borrowing and through the issuance of either debt (subordinated to policyholders' claims in the case of insurance subsidiaries!) or non-voting equity securities. Subject to the scrutiny of the Superintendent of Insurance, an insurance company parent should also be permitted to make loans to, or acquire the debt or non-voting securities of, a subsidiary if it so desires and if the funds are available for the purpose either under the applicable investment restrictions or are "surplus surplus" funds.2 1See Part IV of this report. PART III INVESTMENT RESTRICTIONS A revised approach to insurance investment principles, and particularly to those applicable to investment in common stocks, is another indicated response to the economic realities facing the insurance industry. It is, moreover, a response which holds significant potential, particularly for life insurance companies. While the major obstacle to a new investment approach probably lies in existing legal restrictions, the traditions of the insurance business, at least for life insurance, have not been unimportant. It is a fact that many companies have not taken full advantage of the flexibility that the law already allows. Both the law and these traditional attitudes merit. re-thinking. The investment restrictions applicable to New York insurance companies, although liberalized over the years, are fundamentally the same as they were when the insurance laws were last revised in 1939. At that time they were strongly influenced by the most severe and prolonged period of economic distress in the nation's history. In consequence, it is hardly surprising that for life insurers investment in common stock was treated as improper by the 1939 law. Indeed it was not until 1951 that a limited amount of common stock investment was explicitly permitted to such companies. These early limits were then increased in 1957 to the present figures. Investment in common stocks is now permitted up to an aggregate of five percent of admitted assets, or one-half of surplus to policyholders, whichever is less. However, the holdings of the shares of any one corporation may not exceed two percent of the total issued and outstanding shares of that corporation, or one-fifth of one percent of the admitted assets of the insurer. The freedom accorded property-liability insurers is much greater. Assets corresponding to half the company's reserves, including minimum capital, must satisfy the same stringent tests as do life insurance assets. Beyond that, and thus for a major share of their assets, property-liability insurers may invest not only within far less confining legal restrictions, but, in particular, may invest in common stocks. Several considerations are especially important in any review of life insurance company investment policy. First, there is the speeding up of natural tendencies toward inflation and the continuing decline in the real value of money. Second, basic structural changes have taken place in the American economy since the investment restrictions were originally put into effect. These changes have greatly reduced the likelihood of a business depression of the scale and duration of that experienced in the 1930's. |