Best’s Capital Adequacy Relativity (BCAR) is a method used to evaluate the health of insurance companies. Through BCAR, a specific company’s capital status is compared with that of the entire industry. Moreover, it analyzes an insurer's leverage, underwriting activities, and financial performance to determine how different scenarios will impact the insurer's balance sheet. Banks have similar capital adequacy ratios to ensure there are enough reserves to meet customer demand for deposits.
The model was developed by AM Best, a well-known agency that specializes in rating insurance companies.
Adjusted Policyholders’ Surplus (APHS) / Net Required Capital (NRC) = Best’s Capital Adequacy Relativity (BCAR)
The BCAR is calculated by dividing a company’s adjusted policyholder’s surplus (APHS) by its net required capital (NRC). The APHS are the assets of a policyholder-owned insurance company minus its liabilities. The NRC determines the sum of the required capital for various risk components such as equities, interest rates, credit, loss, and off-balance sheet elements.
Insurance companies deal with a delicate business that can place them in a volatile financial position. After all, their policies guarantee that they will pay for certain damages that their policyholders may experience. Several regulations and tests are required to ensure they are financially capable of maintaining these payments.
BCAR uses the balance sheet to determine whether or not an insurer will be able to meet its policy obligations. It will also analyze underwriting practices, including underwriting leverage, to establish that the insurance company is underwriting properly and minimizing financial risks.
Although BCAR can be used as an important tool to examine the strength of insurance company policies, it should be noted that it comes with several limitations and should not be used as the sole method of insurance analysis. BCAR alone does not determine balance sheet strength assessment, which can be impacted by numerous factors such as the quality of capital, stress tests, asset/liability matching, and reserve adequacy.
While the concept may be complex, understanding a company’s BCAR is critical when it comes to legal issues regarding insurance and malpractice. Companies should aim to be mindful of their BCAR and make sure they are operating within its regulations. It is crucial to properly evaluate risks to prevent insurers from taking on more than they are able to cover with their reserves. If you need help determining BCAR, please reach out to an attorney with vast experience in insurance policies who should be able to point you in the right direction.
