$456m Fine: A Costly Mistake for Great-West Lifeco

Posted on October 5, 2010 and updated January 29, 2011 in Great-West Life Assurance Company, Life Insurance Canada News, RBC Insurance
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“C$456 million fine;” that was the sentence that Great-West Lifeco Inc. heard from judge Morissette on Monday, October 1st. But what happened that resulted in such an unprecedented fine to one of the leading life insurers in Canada?

This gargantuan success is a result of a 13-year-long class-action lawsuit initiated by policyholders. But first things first: Three companies were involved in a takeover transaction. London Life Insurance Co. was being fought for by Great-West Lifeco Inc. (competing with bids from Royal Bank of Canada). The third company was Great-West Life Assurance Co. Affected were policyholders of Great-West Life Assurance and London Life Insurance – more specifically one category of policyholders. “Participating accounts” are special accounts through which policyholders can participate in the profits of the insurance company, albeit for the price of considerably larger premiums, as explained by the Financial Post. There are, however, clear rules as to how the money stored in those accounts may be used, as it is effectively the money of the policyholders.

And there comes the problem which has been so vaguely explained everywhere else: the money from the participating accounts was used in a way which was inconsistent with both the law and with the agreement between policyholders and their respective insurers. Great-West Lifeco needed extra funds to top their bid for London Life Insurance in 1997 in order to outplay RBC. And so Great-West Lifeco took the cash from the participating accounts of London Life Insurance itself (to buy out the remaining shareholders) and of Great-West Life Assurance, replacing it with a “prepaid expense” asset item. This effectively categorized the transaction as an unrecognized expense paid for by policyholders, which, as the court found, was not correct as it happened neither in the best interest of policyholders, nor with their consent. Not only did the transaction deprive policyholders of their funds, but they also lost any interest which would otherwise be earned on the deposited funds.

Great-West Lifeco argues that the transaction, having succeeded thanks to the extra funds, was going to create synergies from which the entire company would and did profit. That implies that participating accounts, due to their nature, would also get a slice of the cake in turn. Unfortunately, despite the intention, it was not proper business conduct from the very beginning, and that prompted the court to rule in favour of the policyholders.

The designated fine entails the entire value of the “borrowed” funds as well as the estimated lost interest. The exact terms of payment (in case Great-West Lifeco does not submit an appeal) are yet to be determined, but it seems that affected policyholders will receive an extraordinary dividend in an amount relative to the value of their participating account at the time of the takeover. According to the sources of Winnipeg Free Press, the average payout will be about C$300 per account, ranging roughly from $50 to $6,000.

For investors, it is expected that the news will have minimal impact on the share price of either London Life Insurance or Great-West Life Assurance. Also, any price shift is expected to be temporary, based more on market emotions than actual valuation.

What makes the entire case special and noteworthy is its magnitude and its message which indicates that Canadian courts are willing to get involved with complaints against improper corporate conduct.

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