DEFINITION OF ‘POLICYHOLDER DIVIDEND RATIO’
The ratio of dividends to policyholders to net premiums earned. The policyholder dividend ratio is a measurement of the profitability of an insurance company or the overall insurance industry, and is examined alongside the operating ratio.
INVESTOPEDIA EXPLAINS ‘POLICYHOLDER DIVIDEND RATIO’
The policyholder dividend ratio measures the money flowing out of an insurance company in the form of dividends. Dividends are generated from the premiums generated from the insurer’s underwriting activities, and in the case of the dividend ratio only premiums earned are taken into account. This is because premiums that an insurer obtains through underwriting activities are treated as a liability until part of the contract’s duration has elapsed. As the contract approaches its end date, more and more of the premium is considered earned.
The policyholder dividend ratio is used to calculate the combined ratio, which measures the underwriting profitability of the insurer. The combined ratio is the sum of the loss ratio (loss and loss-adjustment ratio divided by net premiums earned), expense ratio (underwriting expenses divided by net premiums written), and policyholder dividend ratio. The ratio is typically expressed as a percentage. If the combined ratio is under 100%, the insurer is said to be profitable from its underwriting activities. This is because the ratio represents the costs associated with generating an insurer’s business. A ratio of over 100% indicates an operating loss.
The policyholder dividend ratio, like the combined ratio, does not take into account investment income. This is an important item to note, since a portion of dividends will be invested in equities, bonds, and other securities. The investment income ratio i.e. investment income divided by net premiums earned, takes investment income into account, and is used in the calculation of the overall operating ratio. When analyzing an insurer’s overall operating ratio it is important to understand which components affect the resulting value.