FutureTrendsBermuda
William R. Storie
Index
Copyright October 2001

1.    "The Switzerland of the Western Hemisphere"

Some years ago I first heard that statement about Bermuda. I didn't truly understand it then and I probably still don't. However, as I researched this report, I slowly began to build a hypothesis, which suggests that Bermuda is trending towards the statement.

Many years ago, Switzerland decided to service the international community - both corporate and personal. It consciously decided to maintain a position of tax neutrality, confidentiality, efficiency and innovation - all handled by quality service providers. It never held itself out to be a cheap place to do business - it didn't have self-sufficiency in indigenous GDP, so it had to sell itself outside its own borders - profitably. Switzerland has always had a stable and sensible government, which, through controlled immigration and real estate laws, created sustainable development long before the phrase became fashionable.

Over the last 40 years, Bermuda has built an impressive array of innovation and profitable business practices. It has stable and sensible government and controlling legislation in immigration, real estate and corporate ownership. It has talented people, experienced in the international business world. So does all of that make Bermuda the Switzerland of the Western Hemisphere????
....... No.

Switzerland said, "We will develop a product wanted by the business world and we'll become damned good at it." But Switzerland had an extra ingredient. It said, "... and then we'll distance ourselves from our competitors so that they will never catch us." I will argue that Bermuda has the opportunity now to do precisely the same. I will argue that Bermuda, through its own efforts over many years, possesses the product and the expertise, but that as a result of two external, and recent, phenomena, Bermuda has been given the chance to take hold of the same extra ingredient itself, and by grasping it, Bermuda will open a window of opportunity to indeed become the Switzerland of the Western Hemisphere and catapult itself out of reach of its competitors.

2. The event that shook the world

The horrific attacks in the United States on September 11th, 2001 will be heard around the world for years to come. While the human tragedy can only be spoken about in unspeakable terms, the ripples of the economic fallout will be felt in every corner of the world - be that the onshore world or the offshore world. Some economies may never fully recover - especially the tourist based domiciles. However, the gulf between the "good" offshore domiciles and the "bad" ones will widen. Those offshore governments that baulked at the force thrust upon them by the Organisation for Economic Cooperation and Development ("OECD") "ain't seen nothing yet". If economies are based on shaky tourism but bolstered by international business, those domiciles will come under microscopic attention - overtly and no doubt covertly. The September 11th fallout will become an offshore shakeout.
3.    Catalytic phenomena affecting Bermuda

Prior to September 11th, the first phenomenon has been the endorsement of Bermuda by such organisations as the Organisation for Economic Co-operation and Development ("OECD") and ancillary bodies such as the Financial Action Task Force ("FATF") and so forth. Sensibly, Bermuda recognised that if it wanted to be accepted by the G7 forces, then it had to play by their rules. Sensibly, Bermuda said "We have well-established laws, regulations and practices which will stand any scrutiny, but we will listen to the changes OECD and others would like us to adopt - we will not roll over and play dead, but we're willing to rationally co-operate." Smart move.

Yet if Bermuda had to implement or amend certain laws or regulations to comply, it did not have to implement or amend its code of practice. Its conservative and quality business mantra was self-evident. Bermuda's business leaders always have exuded propriety and integrity (and always will) - a surprise to find that in an offshore domicile?.??..not at all, certainly to those with first-hand experience of the Bermuda culture and ethic. The flight to quality. And thanks to the "OECD catalytic effect", Bermuda has its certificate of air worthiness.

The second phenomenon is technology, especially in its application to business. Bermuda does not possess large amounts of land or vast pools of labour, and has serious concerns over its ability to sustain its development (infrastructure, education, jobs, economics etc.). In many respects its own success has caught up with it. Many of these concerns are being addressed through changes to fiscal policy, but the advent of superior on-island technological infrastructure allied to efficient technical applications will assist that process immensely.

Rather than be forced into importing greater and greater numbers of overseas workers, the use of technology allows Bermuda companies to be set up as holding companies (parent companies) on-island, with limited labour needs, then venturing outside of Bermuda through acquisition, merger, sub-contracting etc. to "run the factory" in less congested locations - be that offshore, be that onshore. The possibility of Bermuda and say Dublin (with larger pools of trained people) forming some sort of business alliance, at the macro, as well as the micro-level, is a real possibility worthy of investigation. Interdependence and co-operation, rather than competition, will prevail between quality domiciles, allowing reliable technology to provide the foundation of the relationship. Bermuda working with Dublin, Singapore, South Africa, Nova Scotia, British Columbia or Brazil all come to mind.

4.  Internationalisation

The main geo-economic areas of the world are the U.S., E.U and Japan, inside of which the Multi-National Enterprise ("MNE") sector continues to dominate world trade and as such, still needs support products and services - insurance, banking, stock exchanges, trade financing, international legal services and so forth. While indigenous companies will predominantly require indigenous products and services, the MNE market increasingly needs global infrastructure to conduct its business. Moreover, while companies in one country conduct business with companies in other countries and seek respective support services, the need for, in some cases a neutral jurisdiction, is essential. The offshore domicile provides that. As world trade grows and cross-border activity expands, the need for such offshore support will grow in tandem. Consequently, the offshore service industries will grow geometrically, based on :-

(a) Lack of regulation in the offshore domiciles was always the "whipping boy" touted by the traditional markets for not doing business offshore. These days are rapidly diminishing - but only as it relates to certain, quality domiciles. Not because the offshore domiciles have built large bureaucracies of regulators all of a sudden, but because the offshore companies themselves, especially in the global reinsurance business, subject themselves to the most stringent standards of practice, financial (and underwriting) scrutiny and have succeeded to grow with stability. However this will lead to the large companies in the quality domiciles getting bigger and bigger, faster and faster, leaving competitors behind. Stand up Bermuda.

(b) Economies of scale will increasingly attract the MNEs to Bermuda. If through bringing the corporate ownership and executive managements under one (offshore) roof and ensuring superior communication with satellite offices around the world, the cost containment (both in real money and in efficiency of operation) of the offshore formation will make sense. In many cases, especially of course with the new company being formed offshore, it does not bring vast amounts of legacy problems, information, databases, practices, relationships etc. with it - this merely increases the benefit.

(c) Market magnetism is an increasing trend. If the business infrastructure of Bermuda continues to expand, Bermuda will see more international companies seeking a presence on the island, or new groups of shareholders forming a new company in Bermuda from the outset. Because the combination of innovation, expertise, capital, existing markets (reinsurance for example) and an openness to welcome new business exist - as they indeed do - then likes will attract more likes.

(d) The issue of tax benefit has always been a complicated one. In the majority of cases, companies, especially with U.S. ownership, gain little, if any tax benefit from being incorporated offshore, as the tax authorities in those countries tend to follow their citizens (corporate or individuals). Nonetheless, where tax advantage can be established, then corporate taxation policies of global companies will seek to maximise their financial operations through the use of tax beneficial domiciles. That has been the practice for decades, and where appropriate, will continue.

However, a new breed of offshore company will develop - the "Offshore Nationality" company (akin to British Nationality or US Nationality). The "ordinary residence for tax purposes" of its shareholders determines taxation of the offshore company, in general terms. However in certain situations, those rules can be avoided - e.g. where there is a significant number of individual shareholders from a given country, some tax advantage can still apply. However, we will see brand new companies being formed offshore where their shareholders (especially corporate shareholders) are from a variety of countries, such that no one country will be able to claim that the Offshore Nationality company is within its reach for tax purposes. Clearly in this day and age of mega-mergers involving MNEs with varying products and services in varying countries around the world, the trend will be not for those companies to simply merge, but before so doing, to strip out their (combined) functions which are global in nature (rather than being only sold in the major tax nations of the world) and place those functions into a new company with shareholders of different nationalities and/or public shareholders from countries around the world. The "Offshore Nationality" company will therefore have no direct taxable tie to any one country and while it will be incorporated in Bermuda (and be subject to the laws and regulations of Bermuda), it will not be classified as a purely Bermuda company either. Such companies will however be free to list on international stock exchanges and to upstream dividends to their respective shareholders, who, at that level, will handle their indigenous taxation issues on the dividends.

Bermuda is ideally suited for the Offshore Nationality Company, based on its laws and regulations, but also its reputation for good corporate governance.

5.  Limiting factors and their resolution

As previously mentioned, Bermuda carries some heavy burdens in the overall management of its international business economy. The first step in solving such concerns is to recognise they exist - Bermuda does. The second step is to measure the impact of such concerns - Bermuda is doing that. The third step is to take commentary and suggestions from business leaders and government officials - Bermuda is doing that. The fourth step is to fix them.

(a) Labour pool - size and cost

There is no question that Bermuda is an expensive place to live in and to conduct business.

Yet thousands of individuals and companies have accepted that already. Nonetheless, the trend of new business coming to Bermuda will simply exacerbate the situation. Bermuda needs the overseas worker to augment the indigenous population in running its international business sector. That trend will increase.

However if the infrastructure is already bursting at the seams, it can only get worse. Hence we will see tighter immigration controls (limitations on work permits is already a new policy of Government) but we will also see a trend towards single persons being attracted (rather than married couples with families). We will also see a trend towards more one-person accommodation being built - not only in and around the main city, Hamilton - but in the outlying areas of the island (such as the Baselands area), which will involve persuading the corporate offices to be situated there as well (cutting down on commuter traffic for example), through cost and socio-economic benefits being offered by Government. The notion of building a large office complex in the Baselands area with accommodation buildings alongside may seem unusual in today's culture, but as the advantages of such developments filtrate through the business decision makers around the world, given the other attractions of Bermuda, such a "hardship" (or some might say "silliness") will slowly become an accepted practice.

As a consequence of September 11th, there will be a flight to quality, or shake-out, of senior personnel with experience and maturity - who can develop strategy, arrange its financing, staff it and implement it.

The turnaround in thinking and acceptance will take no more than five years from the time a decision to implement such developments occurs. The creation of a Corporate Park in the Baselands area will be a major part of those developments.

(b) Capital

While capital flows (in large quantities) to the offshore domiciles may have been patchy in years gone by, that is not the case nowadays.

In fact, in recent years there has been an influx of serious investment capital for new companies - either from the private sector (corporates or individuals) or through the IPO/public company approach. In almost every case of a Bermuda company seeking large amounts of capital in the financial centres of the world, the uptake has been solid - almost totally due to the reputation of the domicile and the stringent management and reputations of the principals involved. That trend will not disappear, notwithstanding meltdown in certain sectors of the global financial markets. A well-structured and well-managed deal will always attract quality capital. Bermuda will especially see new large capital formations in the insurance and reinsurance sector in the wake of September 11th. Estimates of up to $5 Billion in fresh capital would seem reasonable.

If the Offshore Nationality Company needs funding or the Baselands development needs funding or existing companies needing to fund more global acquisitions etc., then the capital markets of the world will agreeably respond.

(c) Face-to-face business

In the late 70s, early 80s, Bermuda would see throngs of insurance managers, brokers, investment managers and the like visiting their Bermuda clients. The theory was that business had to be conducted in person - the practice was that a few days in the sunshine never hurt anyone. As the 90s rolled along, there were considerably less trips, due in large part to constrained travel budgets. Yet there is still, in some quarters, a "must-go-see' mentality.

Yet, mainly through technology, Bermuda's business community (although it still travels far and often itself) has integrated technology into their daily operations, causing the overseas executive to re-evaluate the must-go-see need. As a result of e-mail, e-mail attachments on common platforms, websites, bandwidth, and video conferencing (although still pricey) the situation is much improved. Thus the need to spend money on travel and hotel costs, which in many corporate accounting offices has been frowned upon of late, but was nonetheless essential, became a constraint on conducting business - hence this constraint has substantially been removed due to technology. As more technological advances take place and communication becomes faster, better and cheaper, this will improve significantly - those improvements are well in hand already.

(d) Offshore perception

Over the years, Bermuda has worked very hard to convince the major business nations of the world and their citizens that doing business offshore is good business. Yet, thanks to several offshore domiciles, mainly through inferior regulation and practices, some of the offshore stigma continues to linger and regrettably, can contaminate places such as Bermuda.

The impact of September 11th will cause an even more tight adherence to the "know your customer" rules of doing business with new business formations in the offshore world. While some domiciles may be hesitant to respond to such pressures, Bermuda will not. "Bad" money will always find a home - there's no reason to believe that will change regardless of how difficult major banking networks block inter-bank transactions with rogue nations. Bermuda will increase its protective shielding of its reputation and will be widely acknowledged as being part of the financial league of nations.

However, in large part thanks to the good housekeeping seal of approval from such respected organisations as OECD et al, Bermuda has weathered the storm, especially in the large corporate world. That trend will continue unabated. Bermuda will continue to protect itself and its worldwide customers from mal-intentioned operations coming to the island. The legal, accounting, banking and management fraternity, through a policy of "self-policing" has shown time over time that it can, and will, turn away deals of the more unsavoury nature. Evidence the turnaround in the "ownership" of entities at Lloyds of London - where a few years ago, the Lloyds culture looked scathingly at this young upstart called Bermuda, yet today the tables have been turned, such that around 30% "of Lloyds" is owned by Bermuda entities. Changed days indeed.

6.  Insurance and Reinsurance

Bermuda's international insurance and reinsurance sector is thriving. However, what we've seen thus far will look pale by comparison to what we will see over the next 5 years (and more). The blend of capital, entrepreneurial spirit, expertise and integrity of management of existing Bermuda insurance and reinsurance companies, will act as a springboard to significant global expansionism.

Swiss companies such as Zurich Re and Swiss Re, established policies of overseas acquisition and merger many years ago - and have been hugely successful in doing so - the Bermuda giants will follow the same flight path. Indigenous insurance companies in countries all over the world will come under the control of those Bermuda companies that have made the decision to expand internationally - they have done so thus far and will continue to do even more. The principle of a Bermuda headquarters (holding company/parent company) will become more and more attractive. They have the capital and the drive and the innovation to prosper. The strength of the Bermuda Insurance Market will be evidenced in the claim payouts relating to September 11th (estimated at $2 Billion) and will act as a springboard for new companies.

The following trends will emerge :-

(a)  Merging insurance expertise with asset management capability.

Over the years, especially in the reinsurance industry, Bermuda has built up an impressive ability of quality underwriting and due diligence on risk - controlled risk management within pre-determined and acceptable risk parameters. Apart from a few examples, the mantra was, "We are in the insurance business, not in the asset management business per se". As such, they hired outside fund managers to look after their investment portfolios, usually within a fixed income culture and under fairly conservative guidelines. In their core business, that has not changed too much over the years, and while more funds will be managed in-house rather than being out-sourced, the fundamental principle of asset preservation will continue.

However, there is growing interest by certain Bermuda companies either establishing new subsidiaries or at least investing in new entities seeking to optimise the asset portfolios of the new company. Moreover, executives from some of those companies have spun out from the mother ship to go it alone - finding major institutional backers and forming companies within the financial insurance and reinsurance categories of business (finite risk for example) and implementing a more aggressive approach to their asset management. Use of hedge funds is perhaps the clearest example of such aggression. Given the gigantic size of investment vehicles (pension funds for example) around the world and their ongoing quest to provide better returns for their stakeholders (spurred on recently by the down-turn in global markets, principally the technology sector), we will see many more offshore entities (the Offshore Nationality types) formed to surround the asset base with an insurance product (catastrophe, life, accident and health et al). Not only does that allow asset management of the initial capital invested, but also generates cash inflows from insurance premiums.

This type of business will flourish in Bermuda due to the combination of risk management (insurance and asset) and experienced people who know how to do this successfully i.e. those with a proven track record within an offshore environment.

(b)  Securitisation of risk.

There is a growing trend to strip out the expected parts of a given (commercial) risk i.e. those parts where the track record indicates a high probability that the claims associated with the risk can be identified, measured and expected to fall within a small band of loss - then place those parts into a securitised investment instrument with an attractive rate of return based on claims mitigation if possible and the timing of actual cash payouts of the losses (the longer the payout, the more time there is to build up investment return). As the financial markets become more familiar with this mechanism, the more deals of this nature will occur.

Bermuda, while it may play a part in the investment side of such transactions, will however see more demand for its services to manage the unexpected parts of the risk - i.e. those parts with more underwriting demands and more susceptible to loss "spikes". The aggregation of those risks into one (or more) new entities, not carrying old claims on the books, will head for places where the risks can be protected by insurance capital and intellectual capital. Therefore the need by some of the large investment houses for Bermuda companies to take the insurance parts "off their hands" will rise significantly.

(c)  Life business.

Some of the large Bermuda insurance and reinsurance companies will go on the acquisition trail around the world to either buy indigenous life insurance companies or to separate out the international business of those indigenous companies and buy that portion of their business. Regulators around the world will find it hard to stop such acquisitions in the most part, simply because the acquirer has the money, has the expertise, has the reputation and whose principal place of business is in an acceptable and respected jurisdiction.

Over the past year or so, Bermuda has also seen a considerable increase in the life reinsurance business. Bermuda has not traditionally been involved with life insurance at the primary level but has always had a handful of companies writing life reinsurance. Now it seems, the life reinsurance business is on the upswing. As the life reinsurance business is fairly predictable from an actuarial perspective, once again, when combined to a sensible asset management programme, Bermuda seems to be flavour of the month. As more life reinsurance business is attracted here, inevitably, even more business will be attracted here. Trend continues.

7.  eCommerce

The phrase "ECommerce" itself is a self-defeating and confusing word. It has created befuddled business plans, leaving principals not sure where they are going, how to get there, or what to do if they ever do get there. Is it any wonder most failed. Integrating the offshore factor into the equation merely exacerbated the situation.

Bermuda was one of the first countries to enact specific legislation to address ECommerce through the Electronic Transactions Act 1999. It also introduced legislation to allow "e-suites" structures to be established in Bermuda, without having to go through the, at times, lengthy and expensive process of full incorporation.

It was intended that the Act and the e-suites structure would act as the catalyst to attract ECommerce business from around the world. It hasn't quite worked out as well as some would wish it had. In fairness, the dotcom crash in the onshore markets has had a knock-on effect in the offshore markets, but the lack of a strategic development plan and policies thereon have hindered the development considerably. Bermuda was quick to embrace ECommerce as a new sector of its international business community, but perhaps opened its arms too wide - being open to virtually any and all proposals and suggestions about Internet-related business, especially in the business-to-consumer ("B2C") category. Attracting new ECommerce companies away from a taxable jurisdiction for example proved unsuccessful, not least due to the tax-loss carry-forward provisions available to those companies in their home countries.

Bermuda did not open its arms to any and all types of insurance business in the early days - it chose to be choosy. It chose to do its homework and identify the sectors of the insurance business, which, through adaptation to an offshore environment, could be attracted to Bermuda. It was a long arduous process, but was driven by insurance professionals with contacts and knowledge and reputation in the global insurance business. People who would be listened to, and if the case proved itself, would be followed. The same has not happened with ECommerce. That is however beginning to change.

New initiatives by the private sector have begun to address the need for a more solid business plan approach based on common sense and reasonable projections with sensible capital needs. Also, recognise that while Bermuda does have a tax neutral status, which must be factored into the business development plans, companies will (thankfully) not be attracted to the offshore domicile just because it is tax-neutral.

There are however many specific, or perhaps niche, businesses which sit well within the offshore ECommerce arena. The trend in the use of Offshore ECommerce centres will be :-

(a) The online sale or delivery of "soft" goods and services, especially within the offshore financial services arena. In other words, companies which have already made the decision to be offshore themselves and whose clients are offshore already. To persuade a company to go into online financial services is difficult enough without trying to persuade it to go offshore as well. Asset management, pension fund management, private wealth management, mutual funds, stock trading, specialised banking services, life insurance, software sales etc. Integrating ECommerce functionality into an existing organisation aimed at the offshore corporate or individual. Once again though, Bermuda will concentrate on products and services, which it already provides (offline, traditional) and not be coerced into new product lines based on whizz-bang technology. The people are here, the experience is here and the reputation exists - harness all of those and take the business online.

(b) Online offshore digital storage of global information owned by the MNE markets and/or governments, regulatory bodies, world organisations (profit and not-for-profit). Not attracted here for tax reasons, but because of high quality technology, security and service. Sadly, many corporations in the WTC found that their disaster recovery plans were inadequate. Back-up sites (online, real-time) allowed companies to be back up and running within hours - not the least of which was the amazing turnaround of the 2 offsite locations of the New York Stock Exchange, which displayed disaster planning at its very, very best. Bermuda will be hard pressed to attract online, real-time storage (geographic distance and staff deployment issues) - but if handled properly, Bermuda could easily offer offline (or near-line) time-delay recovery storage facilities to MNEs, NGOs, even foreign governments - not the primary storage site, but a cost-effective second-tier safe haven.

(c) Offshore settlement processing of credit card transactions, e-cash transactions and big-ticket trade payments. For example, the multi-national company having several websites in various countries (different languages, different currencies) will centralise their settlement systems in one location offshore - in some cases driven by tax matters, in some cases driven by economies of scale, in some cases driven by common sense and financial efficiency.

(d)    Combining the strengths and expertise of the Bermuda investment community with the world of technology. Using the name, reputation and abilities of Bermuda to structure funding deals or investment funds for the development of global technology projects. The knowledge and innovation of Bermuda's financial industries - the "old" world - allied with the need for solid financing in the international technology industries - the "new" world.

(e)    Utilising the innovation and capital base of Bermuda's insurance markets to create new products for the world of ecommerce, technology and telecommunications.

8.  Summary

Bermuda in the new world order :-

1.   Bermuda should pause and catch its breath in light of September 11th.

2.   Bermuda needs to let maturity, experience and common sense prevail and allow the
        "old heads" to help stabilise turbulent waters.

3.   Bermuda's good housekeeping seal of approval from OECD etc should act as the
        foundation going forwards and be prepared to adopt additional standards.

4.   Bermuda's insurance and reinsurance industry will be at the vanguard of a restructured
        global industry.

5.   Bermuda's financial, legal and accounting service sector will stick to its existing code of
        practice and will be ready to adapt to even higher and stricter regulations thrust upon them.

6.   Bermuda's banking sector will be under increasing pressure to know their client and will
        require a robust blend of technology systems and staff quality to run their business.

7.   Bermuda Government's relationship with the business sector (local and international) will
        have to reach new levels of understanding and working together.

9.  Conclusion

The Bermuda international business scene is very much alive and well. In fact, without wishing to appear cold-hearted, the tragedy of September 11th, will boost the attractions, cleanliness and effectiveness of Bermuda. With concentrated, focused effort in certain specific sectors, explanation and examples given by experts in those sectors, additional socio-economic adjustments within fiscal policy and an aggressive marketing plan, based on sound business principles, Bermuda will show a clean pair of heels to the chasing pack of offshore domiciles, making it not just the Switzerland of the Western Hemisphere - but in fact, "La Nouvelle Suisse."

Published by
William R. Storie & Co Ltd, Bermuda
www.wrsl.com
wrsl@ibl.bm