UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q | |||||||||||||||||||
OF THE SECURITIES EXCHANGE ACT OF 1934 |
FOR THE QUARTERLY PERIOD ENDED: March 31, 2007 | Commission file number: | 1-14527 | |||||||||||||||||
EVEREST REINSURANCE HOLDINGS, INC. | |||||||||||||||||||
(Exact name of registrant as specified in its charter) | |||||||||||||||||||
Delaware | 22-3263609 | ||||||||||||||||||
(State or other jurisdiction of | |||||||||||||||||||
incorporation or organization) | (I.R.S. Employer Identification No.) | ||||||||||||||||||
477 Martinsville Road | |||||||||||||||||||
| |||||||||||||||||||
Liberty Corner, New Jersey | |||||||||||||||||||
(908) 604-3000 | |||||||||||||||||||
(Address, including zip code, and telephone number, including area code, | |||||||||||||||||||
of | |||||||||||||||||||
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such shorter period that the registrant was required to file suchreports), and (2) has been subject such the filing requirements for the past 90 days.
YES | X | NO | ||||||||||||||
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. | ||||||||||||||||
Large accelerated filer | Accelerated filer | Non-accelerated filer | X | |||||||||||||
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.) | ||||||||||||||||
YES | NO | X | ||||||||||||||
Indicate by check mark whether the registrant is large accelerated filer, an accelerated filer or a non-accelerated filer.See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act.
Large accelerated filer___ Accelerated filer___ Non-accelerated filer X
Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the Exchange Act).
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:
Class | Number of Shares Outstanding | at May 1, 2007 | |||||||
Common Stock, $.01 par value | 1,000 |
| ||||||||||||
Index To Form 10-Q | ||||||||||||
PART I | ||||||||||||
FINANCIAL INFORMATION | ||||||||||||
Page | ||||||||||||
Item 1. | Financial Statements | |||||||||||
Consolidated Balance Sheets at | ||||||||||||
and December 31, | 3 | |||||||||||
Consolidated Statements of Operations and Comprehensive Income | ||||||||||||
for the three | 4 | |||||||||||
Consolidated Statements of Changes in | ||||||||||||
three months ended | 5 | |||||||||||
Consolidated Statements of Cash Flows for the three | ||||||||||||
ended | 6 | |||||||||||
Notes to Consolidated Interim Financial Statements (unaudited) | 7 | |||||||||||
Item 2. | Management’s Discussion and Analysis of Financial Condition | |||||||||||
and Results of Operation | 19 | |||||||||||
Item 3. | Quantitative and Qualitative Disclosures About Market Risk | 33 | ||||||||||
Item 4. | Controls and Procedures | 34 | ||||||||||
PART II | ||||||||||||
OTHER INFORMATION | ||||||||||||
Item 1. | Legal Proceedings | 35 | ||||||||||
Item 1A. | Risk Factors | 35 | ||||||||||
Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds | 35 | ||||||||||
Item 3. | Defaults Upon Senior Securities | 35 | ||||||||||
Item 4. | Submission of Matters to a Vote of Security Holders | 35 | ||||||||||
Item 5. | Other Information | 35 | ||||||||||
Item 6. | Exhibits | 36 | ||||||||||
EVEREST REINSURNCE HOLDINGS, INC. CONSOLIDATED BALANCE SHEETS | ||||||||
---|---|---|---|---|---|---|---|---|
(Dollars in thousands, except par value per share) | September 30, 2006 | December 31, 2005 | ||||||
(unaudited) | ||||||||
ASSETS: | ||||||||
Fixed maturities - available for sale, at market value | ||||||||
(amortized cost: 2006, $5,885,670; 2005, $5,850,541) | $ | 6,060,173 | $ | 6,036,693 | ||||
Equity securities, at market value (cost: 2006, $886,221; 2005, $859,425) | 1,122,202 | 1,023,784 | ||||||
Short-term investments | 701,704 | 513,913 | ||||||
Other invested assets (cost: 2006, $268,073; 2005, $215,364) | 269,784 | 216,791 | ||||||
Cash | 84,842 | 66,194 | ||||||
Total investments and cash | 8,238,705 | 7,857,375 | ||||||
Accrued investment income | 84,543 | 82,561 | ||||||
Premiums receivable | 960,225 | 1,053,994 | ||||||
Reinsurance receivables - unaffiliated | 821,486 | 988,725 | ||||||
Reinsurance receivables - affiliated | 1,566,140 | 1,537,355 | ||||||
Funds held by reinsureds | 133,521 | 130,041 | ||||||
Deferred acquisition costs | 240,041 | 202,226 | ||||||
Prepaid reinsurance premiums | 388,776 | 398,583 | ||||||
Deferred tax asset | 244,625 | 261,216 | ||||||
Current federal income tax receivable | - | 73,256 | ||||||
Other assets | 130,760 | 115,193 | ||||||
TOTAL ASSETS | $ | 12,808,822 | $ | 12,700,525 | ||||
LIABILITIES: | ||||||||
Reserve for losses and loss adjustment expenses | $ | 7,446,648 | $ | 7,729,171 | ||||
Unearned premium reserve | 1,437,631 | 1,387,876 | ||||||
Funds held under reinsurance treaties | 140,584 | 263,165 | ||||||
Contingent commissions | 17,558 | 20,158 | ||||||
Other net payable to reinsurers | 389,112 | 315,676 | ||||||
Current federal income taxes payable | 15,927 | - | ||||||
8.75% Senior notes due 3/15/2010 | 199,531 | 199,446 | ||||||
5.4% Senior notes due 10/15/2014 | 249,643 | 249,617 | ||||||
Junior subordinated debt securities payable | 546,393 | 546,393 | ||||||
Accrued interest on debt and borrowings | 9,041 | 10,041 | ||||||
Other liabilities | 232,707 | 188,280 | ||||||
Total liabilities | 10,684,775 | 10,909,823 | ||||||
Commitments & Contingencies (Note 4) | ||||||||
STOCKHOLDER'S EQUITY: | ||||||||
Common stock, par value: $0.01; 3,000 shares authorized; | ||||||||
1,000 shares issued (2006 and 2005) | - | - | ||||||
Additional paid-in capital | 297,515 | 292,281 | ||||||
Accumulated other comprehensive income, net of deferred income | ||||||||
taxes of $158.6 million at 2006 and $132.6 million at 2005 | 294,578 | 246,285 | ||||||
Retained earnings | 1,531,954 | 1,252,136 | ||||||
Total stockholder's equity | 2,124,047 | 1,790,702 | ||||||
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY | $ | 12,808,822 | $ | 12,700,525 | ||||
The accompanying notes are an integral part of the consolidated financial statements. |
EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED BALANCE SHEETS March 31, December 31, ------------- ------------- (Dollars in thousands, except par value per share) 2007 2006 ------------- ------------- (unaudited) ASSETS: Fixed maturities - available for sale, at market value (amortized cost: 2007, $5,830,203; 2006, $5,959,228) $ 6,004,441 $ 6,137,410 Equity securities - available for sale, at market value (cost: 2007, $16,393; 2006, $874,289) 16,393 1,189,341 Equity securities - available for sale, at fair value 1,167,814 - Short-term investments 732,661 657,674 Other invested assets (cost: 2007, $350,533; 2006, $329,914) 350,920 330,875 Other invested assets, at fair value 201,861 - Cash 77,157 136,535 ------------- ------------- Total investments and cash 8,551,247 8,451,835 Accrued investment income 80,513 85,447 Premiums receivable 909,985 939,625 Reinsurance receivables - unaffiliated 763,209 751,121 Reinsurance receivables - affiliated 1,559,704 1,511,856 Funds held by reinsureds 132,437 133,965 Deferred acquisition costs 238,006 240,346 Prepaid reinsurance premiums 389,393 391,336 Deferred tax asset 233,423 248,214 Other assets 153,346 134,550 ------------- ------------- TOTAL ASSETS $ 13,011,263 $ 12,888,295 ------------- ------------- LIABILITIES: Reserve for losses and adjustment expenses $ 7,268,964 $ 7,397,270 Unearned premium reserve 1,410,018 1,423,677 Funds held under reinsurance treaties 113,501 112,658 Losses in the course of payment 63,051 62,943 Commission reserves 25,986 22,483 Other net payable to reinsurers 453,567 385,926 Current federal income taxes payable 57,343 32,010 8.75% Senior notes due 3/15/2010 199,590 199,560 5.4% Senior notes due 10/15/2014 249,661 249,652 Junior subordinated debt securities payable 546,393 546,393 Accrued interest on debt and borrowings 9,041 10,041 Other liabilities 238,985 227,298 ------------- ------------- Total liabilities 10,636,100 10,669,911 ------------- ------------- Commitments and Contigencies (Note 5) STOCKHOLDER'S EQUITY: Common stock, par value: $0.01; 3,000 shares authorized; 1,000 shares issued and outstanding (2007 and 2006) - - Additional paid-in capital 301,373 300,764 Accumulated other comprehensive income, net of deferred income taxes of $67.1 million at 2007 and $179.1 million at 2006 124,646 332,578 Retained earnings 1,949,144 1,585,042 ------------- ------------- Total stockholder's equity 2,375,163 2,218,384 ------------- ------------- TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $ 13,011,263 $ 12,888,295 ------------- ------------- The accompanying notes are an integral part of the consolidated financial statements.
3
EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS) | ||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
(unaudited) | (unaudited) | |||||||||||||
REVENUES: | ||||||||||||||
Premiums earned | $ | 561,042 | $ | 617,750 | $ | 1,666,208 | $ | 1,905,081 | ||||||
Net investment income | 84,744 | 67,585 | 260,571 | 242,577 | ||||||||||
Net realized capital gains | 9,025 | 18,633 | 20,249 | 38,321 | ||||||||||
Other expense | (17,925 | ) | (14,989 | ) | (23,959 | ) | (13,156 | ) | ||||||
Total revenues | 636,886 | 688,979 | 1,923,069 | 2,172,823 | ||||||||||
CLAIMS AND EXPENSES: | ||||||||||||||
Incurred losses and loss adjustment expenses | 330,026 | 748,550 | 1,102,871 | 1,612,002 | ||||||||||
Commission, brokerage, taxes and fees | 103,039 | 122,092 | 323,085 | 393,276 | ||||||||||
Other underwriting expenses | 25,389 | 25,014 | 70,527 | 74,778 | ||||||||||
Interest expense on senior notes | 7,788 | 7,785 | 23,361 | 27,729 | ||||||||||
Interest expense on junior subordinated debt | 9,362 | 9,362 | 28,086 | 28,086 | ||||||||||
Amortization of bond issue costs | 235 | 234 | 704 | 784 | ||||||||||
Interest and fee expense on credit facility | 39 | 73 | 133 | 167 | ||||||||||
Total claims and expenses | 475,878 | 913,110 | 1,548,767 | 2,136,822 | ||||||||||
INCOME (LOSS) BEFORE TAXES | 161,008 | (224,131 | ) | 374,302 | 36,001 | |||||||||
Income tax expense (benefit) | 46,077 | (50,579 | ) | 94,484 | 3,715 | |||||||||
NET INCOME (LOSS) | $ | 114,931 | $ | (173,552 | ) | $ | 279,818 | $ | 32,286 | |||||
Other comprehensive income (loss), net of tax | 103,407 | (3,135 | ) | 48,293 | 8,975 | |||||||||
COMPREHENSIVE INCOME (LOSS) | $ | 218,338 | $ | (176,687 | ) | $ | 328,111 | $ | 41,261 | |||||
The accompanying notes are an integral part of the consolidated financial statements. |
EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME Three Months Ended March 31, --------------------------- (Dollars in thousands) 2007 2006 --------------------------- (unaudited) REVENUES: Premiums earned $ 569,838 $ 603,678 Net investment income 95,934 83,905 Net realized capital gains 33,874 9,020 Other expense (1,163) (13,047) ------------- ------------- Total revenues 698,483 683,556 ------------- ------------- CLAIMS AND EXPENSES: Incurred losses and loss adjustment expenses 326,015 465,511 Commission, brokerage, taxes and fees 113,975 124,479 Other underwriting expenses 24,747 20,402 Interest expense on senior notes 7,789 7,786 Interest expense on junior subordinated debt 9,362 9,362 Amortization of bond issue costs 235 235 Interest and fee expense on credit facility 27 47 ------------- ------------- Total claims and expenses 482,150 627,822 ------------- ------------- INCOME BEFORE TAXES 216,333 55,734 Income tax expense 57,015 12,229 ------------- ------------- NET INCOME $ 159,318 $ 43,505 ------------- ------------- Other comprehensive (loss) income, net of tax (3,148) 6,800 ------------- ------------- COMPREHENSIVE INCOME $ 156,170 $ 50,305 ------------- ------------- The accompanying notes are an integral part of the consolidated financial statements.
4
EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY | ||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
(Dollars in thousands, except share amounts) | 2006 | 2005 | 2006 | 2005 | ||||||||||
(unaudited) | (unaudited) | |||||||||||||
COMMON STOCK (shares outstanding): | ||||||||||||||
Balance, beginning of period | 1,000 | 1,000 | 1,000 | 1,000 | ||||||||||
Balance, end of period | 1,000 | 1,000 | 1,000 | 1,000 | ||||||||||
ADDITIONAL PAID IN CAPITAL: | ||||||||||||||
Balance, beginning of period | $ | 296,391 | $ | 275,041 | $ | 292,281 | $ | 271,652 | ||||||
Tax benefit from stock options exercised | 1,124 | 1,445 | 5,234 | 4,735 | ||||||||||
Dividend from parent | - | 50 | - | 149 | ||||||||||
Balance, end of period | 297,515 | 276,536 | 297,515 | 276,536 | ||||||||||
ACCUMULATED OTHER COMPREHENSIVE INCOME, | ||||||||||||||
NET OF DEFERRED INCOME TAXES: | ||||||||||||||
Balance, beginning of period | 191,171 | 259,770 | 246,285 | 247,660 | ||||||||||
Net increase (decrease) during the period | 103,407 | (3,135 | ) | 48,293 | 8,975 | |||||||||
Balance, end of period | 294,578 | 256,635 | 294,578 | 256,635 | ||||||||||
RETAINED EARNINGS: | ||||||||||||||
Balance, beginning of period | 1,417,023 | 1,453,268 | 1,252,136 | 1,247,430 | ||||||||||
Net income (loss) | 114,931 | (173,552) | 279,818 | 32,286 | ||||||||||
Balance, end of period | 1,531,954 | 1,279,716 | 1,531,954 | 1,279,716 | ||||||||||
TREASURY SHARES AT COST: | ||||||||||||||
Balance, beginning of period | - | (22,950 | ) | - | (22,950 | ) | ||||||||
Balance, end of period | - | (22,950 | ) | - | (22,950 | ) | ||||||||
TOTAL STOCKHOLDER'S EQUITY, END OF PERIOD | $ | 2,124,047 | $ | 1,789,937 | $ | 2,124,047 | $ | 1,789,937 | ||||||
The accompanying notes are an integral part of the consolidated financial statements. |
EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY Three Months Ended March 31, --------------------------- (Dollars in thousands, except share amounts) 2007 2006 --------------------------- (unaudited) COMMON STOCK (shares outstanding): Balance, beginning of period 1,000 1,000 Issued during the period - - ------------- ------------- Balance, end of period 1,000 1,000 ------------- ------------- ADDITIONAL PAID-IN CAPITAL: Balance, beginning of period $ 300,764 $ 292,281 Share-based compensation plans 609 3,918 ------------- ------------- Balance, end of period 301,373 296,199 ------------- ------------- ACCUMULATED OTHER COMPREHENSIVE INCOME, NET OF DEFERRED INCOME TAXES: Balance, beginning of period 332,578 246,285 Cumulative effect to adopt FAS 159, net of tax (204,784) - Net (decrease) increase during the period (3,148) 6,800 ------------- ------------- Balance, end of period 124,646 253,085 ------------- ------------- RETAINED EARNINGS: Balance, beginning of period 1,585,042 1,252,136 Cumulative effect to adopt FAS 159, net of tax 204,784 - Net income 159,318 43,505 ------------- ------------- Balance, end of period 1,949,144 1,295,641 ------------- ------------- TOTAL STOCKHOLDER'S EQUITY, END OF PERIOD $ 2,375,163 $ 1,844,925 ------------- ------------- The accompanying notes are an integral part of the consolidated financial statements.
5
EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS | ||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
(unaudited) | (unaudited) | |||||||||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||||||||||
Net income (loss) | $ | 114,931 | $ | (173,552 | ) | $ | 279,818 | $ | 32,286 | |||||
Adjustments to reconcile net income to net cash provided by | ||||||||||||||
operating activities: | ||||||||||||||
Decrease (increase) in premiums receivable | 14,948 | 36,759 | 97,231 | (33,132 | ) | |||||||||
Increase in funds held by reinsureds, net | (40,229 | ) | (8,857 | ) | (127,313 | ) | (71,649 | ) | ||||||
Decrease (increase) in reinsurance receivables | 143,200 | (254,000 | ) | 147,015 | (72,919 | ) | ||||||||
Increase in deferred tax asset | (6,125 | ) | (32,179 | ) | (9,408 | ) | (44,310 | ) | ||||||
(Decrease) increase in reserve for losses and loss adjustment expenses | (141,404 | ) | 599,349 | (307,753 | ) | 786,232 | ||||||||
Increase in unearned premiums | 54,924 | 23,022 | 46,185 | 41,862 | ||||||||||
(Decrease) increase in other assets and liabilities, net | (33,326 | ) | 1,168 | 143,039 | (118,544 | ) | ||||||||
Amortization of bond premium | 3,292 | 2,469 | 9,044 | 1,561 | ||||||||||
Amortization of underwriting discount on senior notes | 38 | 36 | 111 | 127 | ||||||||||
Realized capital gains | (9,025 | ) | (18,633 | ) | (20,249 | ) | (38,321 | ) | ||||||
Net cash provided by operating activities | 101,224 | 175,582 | 257,720 | 483,193 | ||||||||||
CASH FLOWS FROM INVESTING ACTIVITIES: | ||||||||||||||
Proceeds from fixed maturities matured/called - available for sale | 122,430 | 83,136 | 331,003 | 219,731 | ||||||||||
Proceeds from fixed maturities sold - available for sale | 121 | 81,473 | 40,983 | 807,159 | ||||||||||
Proceeds from equity securities sold | 54,889 | 97,319 | 148,471 | 106,729 | ||||||||||
Proceeds from other invested assets sold | 13,774 | 8,374 | 37,861 | 30,016 | ||||||||||
Cost of fixed maturities acquired - available for sale | (37,147 | ) | (181,580 | ) | (386,766 | ) | (909,402 | ) | ||||||
Cost of equity securities acquired | (21,132 | ) | (116,763 | ) | (141,177 | ) | (476,270 | ) | ||||||
Cost of other invested assets acquired | (35,284 | ) | (25,716 | ) | (87,360 | ) | (98,867 | ) | ||||||
Net (purchases) sales of short-term securities | (193,231 | ) | (104,055 | ) | (185,566 | ) | 120,502 | |||||||
Net decrease in unsettled securities transactions | (7,977 | ) | (19,906 | ) | (9,233 | ) | (25,832 | ) | ||||||
Net cash used in investing activities | (103,557 | ) | (177,718 | ) | (251,784 | ) | (226,234 | ) | ||||||
CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||||||||||
Tax benefit from stock options exercised | 1,124 | 1,445 | 5,234 | 4,735 | ||||||||||
Dividend from parent | - | 50 | - | 149 | ||||||||||
Repayment of senior notes | - | - | - | (250,000 | ) | |||||||||
Net cash provided by (used in) financing activities | 1,124 | 1,495 | 5,234 | (245,116 | ) | |||||||||
EFFECT OF EXCHANGE RATE CHANGES ON CASH | 1,335 | (1,251 | ) | 7,478 | (5,120 | ) | ||||||||
Net increase (decrease) in cash | 126 | (1,892 | ) | 18,648 | 6,723 | |||||||||
Cash, beginning of period | 84,716 | 62,502 | 66,194 | 53,887 | ||||||||||
Cash, end of period | $ | 84,842 | $ | 60,610 | $ | 84,842 | $ | 60,610 | ||||||
SUPPLEMENTAL CASH FLOW INFORMATION: | ||||||||||||||
Cash transactions: | ||||||||||||||
Income taxes paid, net | $ | 34,119 | $ | 2,446 | $ | 6,320 | $ | 108,383 | ||||||
Interest paid | $ | 18,151 | $ | 18,185 | $ | 52,470 | $ | 63,241 | ||||||
Non-cash financing transaction: | ||||||||||||||
Non-cash tax benefit from stock options exercised | $ | 1,124 | $ | 1,445 | $ | 5,234 | $ | 4,735 | ||||||
The accompanying notes are an integral part of the consolidated financial statements. |
EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS Three Months Ended March 31, --------------------------- (Dollars in thousands) 2007 2006 --------------------------- (unaudited) CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 159,318 $ 43,505 Adjustments to reconcile net income to net cash provided by operating activities: Decrease (increase) in premiums receivable 29,495 (3,993) Decrease (increase) in funds held by reinsureds, net 2,422 (67,498) (Increase) decrease in reinsurance receivables (59,250) 2,263 Decrease (increase) in deferred tax asset 16,486 (7,246) (Decrease) increase in reserve for losses and loss adjustment expenses (126,977) 9,627 (Decrease) increase in unearned premiums (13,358) 10,380 Increase in other assets and liabilities 69,627 97,720 Amortization of bond premium (80) 3,122 Amortization of underwriting discount on senior notes 39 36 Realized capital gains (33,874) (9,020) ------------- ------------- Net cash provided by operating activities 43,848 78,896 ------------- ------------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from fixed maturities matured/called - available for sale 164,883 100,108 Proceeds from fixed maturities sold - available for sale 5,125 40,476 Proceeds from equity securities sold 166,059 26,985 Proceeds from other invested assets sold 19,799 3,266 Cost of fixed maturities acquired - available for sale (42,026) (323,296) Cost of equity securities acquired (129,459) (25,069) Cost of other invested assets acquired (32,089) (28,434) Cost of other invested assets acquired, at fair market value (200,080) - Net (purchases) sales of short-term securities (74,781) 123,063 Net decrease (increase) in unsettled securities transactions 17,960 (9,627) ------------- ------------- Net cash used in investing activities (104,609) (92,528) ------------- ------------- CASH FLOWS FROM FINANCING ACTIVITIES: Tax benefit from share-based compensation 609 3,918 ------------- ------------- Net cash provided by financing activities 609 3,918 ------------- ------------- EFFECT OF EXCHANGE RATE CHANGES ON CASH 774 5,345 ------------- ------------- Net decrease in cash (59,378) (4,369) Cash, beginning of period 136,535 66,194 ------------- ------------- Cash, end of period $ 77,157 $ 61,825 ------------- ------------- SUPPLEMENTAL CASH FLOW INFORMATION: Cash transactions: Income taxes paid (recovered) $ 13,829 $ (52,439) Interest paid $ 18,139 $ 18,159 Non-cash financing transaction: Non-cash tax benefit from share-based compensation $ 609 $ 3,918 The accompanying notes are an integral part of the consolidated financial statements.
6
As used in this document, “Holdings” means Everest Reinsurance Holdings, Inc.; “Group” means Everest Re Group, Ltd. (Holdings’ parent); “Bermuda Re” means Everest Reinsurance (Bermuda), Ltd., a subsidiary of Group; “Everest Re” means Everest Reinsurance Company, a subsidiary of Holdings, and its subsidiaries (unless the context otherwise requires); and the “Company” means Holdings and its subsidiaries.
The unaudited consolidated financial statements of the Company for the three and nine months ended September 30,March 31, 2007 and 2006 and 2005 include all adjustments, consisting of normal recurring accruals, which, in the opinion of management, are necessary for a fair statement of the results on an interim basis. Certain financial information, which is normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”), has been omitted since it is not required for interim reporting purposes. The year end consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP. The results for the three and nine months ended September 30,March 31, 2007 and 2006 and 2005 are not necessarily indicative of the results for a full year. These financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the years ended December 31, 2006, 2005 2004 and 20032004 included in the Company’s most recent Form 10-K filing.
In November 2005,July 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Staff Position (“FSP”) FAS 115-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” (“FAS 115-1”), which is effective for reporting periods beginning after December 15, 2005. FAS 115-1 addresses the determination as to when an investment is considered impaired, whether the impairment is other than temporary and the measurement of an impairment loss. FAS 115-1 also includes accounting considerations subsequent to the recognition of an other-than-temporary impairment and requires certain disclosures about unrealized losses not recognized as other-than-temporary impairments. The Company adopted FAS 115-1 prospectively effective January 1, 2006. The Company believes that the unrealized losses in its investment portfolio are temporary in nature.
In July 2006, the FASB released FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109” (“FIN 48”), which is effective for fiscal years beginning after December 15, 2006. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes” (“FAS 109”). FIN 48 prescribes the recognition and measurement criteria for the financial statements for tax positions taken or expected to be taken in a tax return. Further, FIN 48 expands the required disclosures associated with uncertain tax positions. The Company will adoptadopted FIN 48 on January 1, 2007. The Company is unable to determine2007 and the resulting impact on itsthe Company’s financial statements at this time, although it does not believe the impact willis deemed to be material.immaterial.
In September 2006, the FASB issued Statement of Financial Accounting Standards (“FAS”) No. 157 “Fair Value Measurements” (“FAS 157”), which is effective for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. FAS 157 defines fair value, establishes a framework for measuring fair value consistently in GAAP and expands disclosures about fair value measurements. TheAs early adoption is an option, the Company will adoptadopted FAS 157 onas of January 1, 2008. The Company does not believe the impact on its financial statements will be material.2007.
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In September 2006, the FASB issued Statement of Financial Accounting StandardsFAS No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans” (“FAS 158”), which is effective for employers with publicly traded equity securities as of the end of the fiscal year ending after December 15, 2006. FAS 158 requires an employer to (a) recognize in its financial statements an asset for a plan’s over funded status or a liability for a plan’s under funded status, (b) measure a plan’s assets and its obligations that determine its funded status as of the end of the employer’s fiscal year and (c) recognize changes in the funded status of a defined benefit postretirement plan in the year in which the changes occur as other comprehensive income. The Company will adoptadopted FAS 158 for the reporting period ended December 31, 2006. As
In February 2007, the FASB issued FAS No. 159 “The Fair Value Option for Financial Assets and Financial Liabilities — including an amendment to FASB statement No. 115” (“FAS 159”), which is effective for employers with publicly traded equity securities as of September 30, 2006, the impact on the Company’s financial statements at December 31, 2006 is estimated to be a $27.5 million pre-tax or $17.9 million after-tax reduction to other comprehensive income. This amount will differ based on the end of the fiscal year weighted average discount rate usedending after November 15, 2007. FAS 159 permits entities to determinechoose to measure many financial instruments and certain other items at fair value. The
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objective is to improve financial reporting by providing entities with the actuarial present valueopportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. The Company adopted FAS 159 as of projected benefit obligations and the expected long-term annualized rate of return on plan assets at December 31, 2006.January 1, 2007.
Effective January 1, 2007, the Company adopted and implemented FAS 159 and FAS 157 for its equity securities available for sale and other invested assets, which are publicly traded equity securities. In conjunction with the Company implementing a more active management strategy for these specific investments, FAS 159 and FAS 157 provided an appropriate accounting and presentation of these investments in the Company’s consolidated financial statements. The Company did not elect FAS 159 for those equity investments in affiliated non-consolidated special purpose vehicles and non-publicly traded limited partnership investments. The Company recognized a $204.8 million cumulative-effect adjustment to retained earnings, net of $110.3 million of tax. The Company recorded a $2.3 million realized gain in the consolidated statements of operations and comprehensive income due to fair value measurement.
The following table presents the equity securities fair value measurements as of March 31, 2007:
Fair Value Measurement Using ---------------------------------------------------- Quoted Prices in Active Significant Markets for Other Significant Identical Observable Unobservable Assets Inputs Inputs (Dollars in thousands) March 31, 2007 (Level 1) (Level 2) (Level 3) ---------------------------------------------------- Equity securities $ 1,167,814 $ 1,167,814 $ - $ - Other invested assets $ 201,861 $ 201,861 $ - $ -
On December 1, 2005, Group and Holdings under the new registration and offering revisions to the Securities Act of 1933, filed a shelf registration statement on Form S-3S-3ASR with the Securities and Exchange Commission (“SEC”), as a Well Known Seasoned Issuer.Issuer under the new registration and offering revisions to the Securities Act of 1933. Generally, under this shelf registration statement, Group is authorized to issue common shares, preferred shares, debt securities, warrants and hybrid securities, Holdings is authorized to issue debt securities and Everest Re Capital Trust III (“Capital Trust III”) is authorized to issue trust preferred securities.
On June 27, 2003, Group and Holdings filed a shelf registration statement on Form S-3 with the SEC, providing for the issuance of up to $975.0 million of securities. Generally, under this shelf registration statement, Group was authorized to issue common shares, preferred shares, debt securities, warrants and hybrid securities, Holdings was authorized to issue debt securities and Everest Re Capital Trust II (“Capital Trust II”) and Capital Trust III were authorized to issue trust preferred securities. This shelf registration statement became effective on December 22, 2003 and was exhausted with the October 6, 2005 transaction described below. The following securities were issued pursuant to that registration statement.
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In the ordinary course of business, the Company is involved in lawsuits, arbitrations and other formal and informal dispute resolution procedures, the outcomes of which will determine the Company’s rights and obligations under insurance, reinsurance and other contractual agreements. In some disputes, the Company seeks to enforce its rights under an agreement or to collect funds owing to it. In other matters, the Company is resisting attempts by others to collect funds or enforce alleged rights. These disputes arise from time to time and as they arise are addressed, and ultimately resolved through both informal and formal means, including negotiated resolution, arbitration and litigation. In all such matters, the Company believes that its positions are legally and commercially reasonable. While the final outcome of these matters cannot be predicted with certainty, the Company does not believe that any of these matters, when finally resolved, will have a material adverse effect on the Company’s financial position or liquidity. However, an adverse resolution of one or more of these items in any one quarter or fiscal year could have a material adverse effect on the Company’s results of operations in that period.
The Company does not believe that there are any material pending legal proceedings to which it or any of its subsidiaries is a party or of which any of their properties are the subject.
The Company continues to receive claims under expired contracts, both insurance and reinsurance, asserting alleged injuries and/or damages relating to or resulting from environmental pollution and hazardous substances, including asbestos (i.e. asbestos and environmental (“A&E”)). The Company’s asbestos claims typically involve potential liability for bodily injury from exposure to asbestos or for property damage resulting from asbestos or products containing asbestos. The Company’s environmental claims typically involve potential liability for (a) the mitigation or remediation of environmental contamination or (b) bodily injury or property damages caused by the release of hazardous substances into the land, air or water.
As of September 30, 2006,March 31, 2007, approximately 9% of the Company’s gross reserves are an estimate of the Company’s ultimate liability for A&E claims. This estimate is made based on judgmental assessment of the underlying exposures as the result of (1) long and variable reporting delays, both from insureds to insurance companies and from ceding companies to reinsurers; (2) historical data, which is more limited and variable on A&E losses than historical information on other types of casualty claims; and (3) unique aspects of A&E exposures for which ultimate value cannot be estimated using traditional reserving techniques. There are significant uncertainties in estimating the amount of the Company’s potential losses from A&E claims. Among the uncertainties are: (a) potentially long waiting periods between exposure and manifestation of any bodily injury or property damage; (b) difficulty in identifying sources of asbestos or environmental contamination; (c) difficulty in properly allocating responsibility and/or liability for asbestos or environmental damage; (d) changes in underlying laws and judicial interpretation of those laws; (e) the potential for an asbestos or environmental claim to involve many insurance providers over many policy periods; (f) questions concerning interpretation and application of insurance and
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reinsurance coverage; and (g) uncertainty regarding the number and identity of insureds with potential asbestos or environmental exposure.
With respect to asbestos claims in particular, several additional factors have emerged in recent years that further compound the difficulty in estimating the Company’s liability. These developments include: (a) continued growth in the number of claims filed, in part reflecting a much more aggressive plaintiff’splaintiff bar and including claims against defendants who may only have a “peripheral” condition to asbestos; (b) a disproportionate percentage of claims filed by individuals with no functional injury, which should have little to no financial value but that have increasingly been considered in jury verdicts and settlements; (c) the growth in the number and significance of bankruptcy filings by companies as a result of asbestos claims (including, more recently, bankruptcy filings in which companies attempt to resolve their asbestos liabilities in a manner that is prejudicial to insurers and forecloses insurers from the negotiation of asbestos related bankruptcy reorganization plans); (d) the concentration of claims in a small number of states that favor plaintiffs; (e) the growth in the number of claims that might impact
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the general liability portion of insurance policies rather than the product liability portion; (f) measures adopted by specific courts to ameliorate the worst procedural abuses; (g) an increase in settlement values being paid to asbestos claimants, especially those with cancer or functional impairment; (h) legislation in some states to address asbestos litigation issues; and (i) the potential that other states or the U.S. Congress may adopt legislation on asbestos litigation. Anecdotal evidence suggests that new claims filing rates have decreased, that new filings of asbestos-driven bankruptcies have decreased and that various procedural and legislative reforms are beginning to diminish the potential ultimate liability for asbestos losses.
Management believes that these uncertainties and factors continue to render reserves for A&E and particularly asbestos losses significantly less subject to traditional actuarial analysis than reserves for other types of losses. Given these uncertainties, management believes that no meaningful range for such ultimate losses can be established particularly for asbestos. Further, A&E reserves may be subject to more variability than non-A&E reserves and such variation could have a material adverse effect on the Company’s financial condition, results of operations and/or cash flows. The Company establishes reserves to the extent that, in the judgment of management, the facts and prevailing law reflect an exposure for the Company or its ceding companies.
The following table summarizes incurred losses with respect to A&E on both a gross and net of retrocessional basis for the periods indicated:
Three Months Ended | Nine Months Ended | |||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross basis: | ||||||||||||||
Beginning of period reserves | $ | 619,879 | $ | 701,756 | $ | 649,460 | $ | 728,325 | ||||||
Incurred losses | 47,000 | 49,550 | 63,400 | 67,550 | ||||||||||
(Paid) recoverable losses | (23,783 | ) | (16,224 | ) | (69,764 | ) | (60,793 | ) | ||||||
End of period reserves | $ | 643,096 | $ | 735,082 | $ | 643,096 | $ | 735,082 | ||||||
Net basis: | ||||||||||||||
Beginning of period reserves | $ | 298,261 | $ | 298,131 | $ | 311,552 | $ | 303,335 | ||||||
Incurred losses | 6,746 | 4,779 | 7,992 | 10,681 | ||||||||||
Recoverable (paid) losses | 2,518 | 16,858 | (12,019 | ) | 5,752 | |||||||||
End of period reserves | $ | 307,525 | $ | 319,768 | $ | 307,525 | $ | 319,768 | ||||||
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Threeand NineMonths EndedSeptember 30,(Dollars in thousands) March 31, Gross basis 2007 2006and 2005
The Company’s gross A&E liabilities stem from Mt. McKinley Insurance Company’s (“Mt. McKinley”) direct excess insurance business and Everest Re’s assumed business. At September 30, 2006,March 31, 2007, the gross reserves for A&E losses were comprised of $144.2$141.2 million representing case reserves reported by ceding companies, $143.5$135.4 million representing additional case reserves established by the Company on assumed reinsurance claims, $210.3$208.4 million representing case reserves established by the Company on direct excess insurance claims, including Mt. McKinley, and $145.1$147.2 million representing incurred but not reported reserves (“IBNR”). Approximately 89.0%89%, or $572.6$563.7 million, of gross A&E reserves relate to asbestos, of which $312.5$309.8 million was for assumed business and $260.1$253.9 million was for direct excess business.
The Company’s net A&E liabilities reflect credit for reinsurance from Mt. McKinley as an affiliate reinsurer of Everest Re. Under a series of transactions dating to 1986, Mt. McKinley reinsured several components of Everest Re’s business. In particular, Mt. McKinley provided stop loss protection, in connection with the Company’s October 5, 1995 initial public offering, for any adverse loss development on Everest Re’s June 30, 1995 (December 31, 1994 for catastrophe losses) reserves, with $375.0 million in limits. At September 30, 2006, the stop loss limits have been exhausted (the “Stop Loss Agreement”). The Stop Loss Agreement and other reinsurance contracts between Mt. McKinley and Everest Re remained in effect following the Company’s acquisition of Mt. McKinley. However, these contracts became transactions with affiliates effective on the date of the Mt. McKinley acquisition. Effective September 19, 2000, Mt. McKinley and Bermuda Re entered into a loss portfolio transfer reinsurance agreement, whereby Mt. McKinley transferred, for what management believes to be arm’s-length consideration, all of its net reinsurance exposures and reserves to Bermuda Re.
In connection with the acquisition of Mt. McKinley, which has significant exposure to A&E claims, LM Property and Casualty Insurance Company (“LM”) provided reinsurance to Mt. McKinley covering 80% ($160.0 million) of the first $200.0 million of any adverse development of Mt. McKinley’s reserves as of September 19, 2000 and The Prudential Insurance Company of America (“The Prudential”) guaranteed LM’s obligations to Mt. McKinley. Cessions under this reinsurance agreement exhausted the limit available under the contract at December 31, 2003.
With respect to Mt. McKinley, where the Company has a direct relationship with policyholders, the Company’s aggressive litigation posture and the uncertainties inherent in the asbestos coverage and bankruptcy litigation have
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provided an opportunity to actively engage in settlement negotiations with a number of those policyholders who have potentially significant asbestos liabilities. Those discussions are oriented toward achieving reasonable negotiated settlements that limit Mt. McKinley’s liability to a given policyholder to a sum certain. InSince 2004 and 2005 and thus far in 2006, the Company concluded such settlements or reached agreement in principle with 14some of its high profile policyholders. The Company has currently identified 9 policyholders based on their past claim activity and/or potential future liabilities as “High Profile Policyholders” and its settlement efforts are generally directed at such policyholders, in part because their exposures have developed to the point where both the policyholder and the Company have sufficient information to be motivated to settle. The Company believes that this active approach will ultimately result in a more cost-effective liquidation of Mt. McKinley’s liabilities than a passive approach, although it may also introduce additional variability in Mt. McKinley’s losses and cash flows as reserves are adjusted to reflect the development of negotiations and, ultimately, potentially accelerated settlements.
There is less potential for similar settlements with respect to the Company’s reinsurance asbestos claims. Ceding companies, with their direct obligation to insureds and overall responsibility for claim settlements, are not consistently aggressive in developing claim settlement information and conveying this information to reinsurers, which can introduce significant and perhaps inappropriate delays in the reporting of asbestos claims/exposures to
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reinsurers. These delays not only extend the timing of reinsurance claim settlements, but also restrict the information available to estimate the reinsurers’ ultimate exposure.
Due to the uncertainties discussed above, the ultimate losses may vary materially from current loss reserves and, depending on coverage under the Company’s various reinsurance arrangements, could have a material adverse effect on the Company’s future financial condition, results of operations and/or cash flows.
In 1993 and prior, the Company had a business arrangement with The Prudential wherein, for a fee, the Company accepted settled claim payment obligations of certain property and casualty insurers, and, concurrently, became the owner of the annuity or assignee of the annuity proceeds funded by the property and casualty insurers specifically to fulfill these fully settled obligations. In these circumstances, the Company would be liable if The Prudential, which has an A+ (Superior) financial strength rating from A.M. Best Company (“A.M. Best”), were unable to make the annuity payments. The estimated cost to replace all such annuities for which the Company was contingently liable at September 30, 2006March 31, 2007 was $153.1$83.2 million.
Prior to its 1995 initial public offering, the Company purchased annuities from an unaffiliated life insurance company with an A+ (Superior) financial strength rating from A.M. Best to settle certain claim liabilities of the company. Should the life insurance company become unable to make the annuity payments, the company would be liable for those claim liabilities. The estimated cost to replace such annuities at September 30, 2006March 31, 2007 was $19.8$20.4 million.
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The following table presents the components of other comprehensive income (loss) for the periods indicated:
Three Months Ended | Nine Months Ended | |||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Net unrealized appreciation | ||||||||||||||
(depreciation) of investments, | ||||||||||||||
net of deferred income taxes | $ | 102,267 | $ | (6,642 | ) | $ | 39,166 | $ | 10,619 | |||||
Currency translation adjustments, | ||||||||||||||
net of deferred income taxes | 1,140 | 3,507 | 9,127 | 509 | ||||||||||
Additional minimum pension liability | - | - | - | (2,153 | ) | |||||||||
Other comprehensive income (loss), | ||||||||||||||
net of deferred income taxes | $ | 103,407 | $ | (3,135 | ) | $ | 48,293 | $ | 8,975 | |||||
Three Months Ended March 31, (Dollars in thousands) 2007 2006 ------------------------- Net unrealized (depreciation) appreciation of investments, net of deferred income taxes $ (2,936) $ 3,529 Currency translation adjustments, net of deferred income taxes (212) 3,271 ------------------------- Other comprehensive (loss) income, net of deferred income taxes $ (3,148) $ 6,800 -------------------------
A subsidiary of the Company, Everest Re, has established a trust agreement as security for assumed losses payable forto a non-affiliated ceding company, which effectively uses Everest Re’s investments as collateral. At September 30, 2006,March 31, 2007, the total amount on deposit in the trust account was $22.9$23.7 million.
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On October 12, 2004, Holdings completed a public offering of $250.0 million principal amount of 5.40% senior notes due October 15, 2014. On March 14, 2000, Holdings completed a public offeringsoffering of $200.0 million principal amount of 8.75% senior notes due March 15, 2010 and $250.0 million principal amount of 8.50% senior notes due and retired on March 15, 2005.2010.
Interest expense incurred in connection with these senior notes was $7.8 million each for the three months ended September 30, 2006March 31, 2007 and 2005 and $23.4 million and $27.7 million for the nine months ended September 30, 2006 and 2005, respectively.2006. Market value, which is based on quoted market price at September 30, 2006March 31, 2007 and December 31, 2005,2006, was $245.4$247.3 million and $250.9$248.1 million, respectively, for the 5.40% senior notes and $219.3$218.9 million and $226.2$219.8 million, respectively, for the 8.75% senior notes.
On March 29, 2004, Holdings issued $329.9 million of 6.20% junior subordinated debt securities due March 29, 2034 to Everest Re Capital Trust II.II (“Capital Trust II”). Holdings can redeem the junior subordinated debt securities before their maturity at 100% of their principal amount plus accrued interest as of the date of redemption, in whole or in part, on one or more occasions at any time on or after March 30, 2009; or at any time, in whole, but not in part, within 90 days of the occurrence and continuation of specific events.a determination that the Trust may become subject to tax or the Investment Company Act.
On November 14, 2002, Holdings issued $216.5 million of 7.85% junior subordinated debt securities due November 15, 2032 to Everest Re Capital Trust (“Capital Trust”). Holdings can redeem the junior subordinated debt securities before their maturity at 100% of their principal amount plus accrued interest as of the date of redemption, in whole or in part, on one or more occasions at any time on or after November 14, 2007; or at any time, in whole, but not in part, within 90 days of the occurrence and continuation of specific events.a determination that the Trust may become subject to tax or the Investment Company Act.
Fair value, which is primarily based on quoted market price of the related trust preferred securities at September 30, 2006March 31, 2007 and December 31, 2005,2006, was $295.1$317.1 million and $293.5$316.3 million, respectively, for the 6.20% junior
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subordinated debt securities and $222.7$221.0 million and $220.5$221.2 million, respectively, for the 7.85% junior subordinated debt securities.
Interest expense incurred in connection with these junior subordinated notes was $9.4 million for the three months ended September 30, 2006March 31, 2007 and 2005 and $28.1 million for the nine months ended September 30, 2006 and 2005.2006.
Capital Trust and Capital Trust II are wholly owned finance subsidiaries of the Company.
Holdings considers that the mechanisms and obligations relating to the trust preferred securities, taken together, constitute a full and unconditional guarantee by Holdings of Capital Trust and Capital Trust II’s payment obligations with respect to their respective trust preferred securities.
Capital Trust and Capital Trust II will redeem all of the outstanding trust preferred securities when the junior subordinated debt securities are paid at maturity on November 15, 2032 and March 29, 2034, respectively. The Company may elect to redeem the junior subordinated debt securities, in whole or in part, at any time on or after November 14, 2007 and March 30, 2009, respectively. If such an early redemption occurs, the outstanding trust preferred securities would also be proportionately redeemed.
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There are certain regulatory and contractual restrictions on the ability of the Company’s operating subsidiaries to transfer funds to the Company in the form of cash dividends, loans or advances. The insurance laws of the State of Delaware, where the Company’s direct insurance subsidiaries are domiciled, require regulatory approval before those subsidiaries can pay dividends or make loans or advances to the Company that exceed certain statutory thresholds. In addition, the terms of Holdings Credit Facility (discussed in Note 9)10) require Everest Re, the Company’s principal insurance subsidiary, to maintain a certain statutory surplus level as measured at the end of each fiscal year. At December 31, 2005, $2,112.02006, $2,451.4 million of the $2,724.9$3,102.6 million in net assets of the Company’s consolidated subsidiaries were subject to the foregoing regulatory restrictions.
Effective August 23, 2006, Holdings entered into a new five year, $150.0 million senior revolving credit facility with a syndicate of lenders, replacing the October 10, 2003 three year senior revolving credit facility, which expired on October 10, 2006. Both the August 23, 2006 and October 10, 2003 senior revolving credit agreements, which have similar terms, are referred to as the “Holdings Credit Facility”. Citibank N.A. is the administrative agent for the Holdings Credit Facility. The Holdings Credit Facility is used for liquidity and general corporate purposes. The Holdings Credit Facility provides for the borrowing of up to $150.0 million with interest at a rate selected by Holdings equal to either, (1) the Base Rate (as defined below) or (2) a periodic fixed rate equal to the Eurodollar Rate plus an applicable margin. The Base Rate means a fluctuating interest rate per annum in effect from time to time to be equal to the higher of (a) the rate of interest publicly announced by Citibank as its prime rate or 0.5% per annum above the Federal Funds Rate, in each case plus the applicable margin. The amount of margin and the fees payable for the Holdings Credit Facility depends upon Holdings’ senior unsecured debt rating.
The Holdings Credit Facility requires Holdings to maintain a debt to capital ratio of not greater than 0.35 to 1 and Everest Re to maintain its statutory surplus at $1.5 billion plus 25% of future aggregate net income and 25% of future aggregate capital contributions after December 31, 2005. As of September 30, 2006,March 31, 2007, Holdings was in compliance with these covenants.
For the three and nine months ended September 30, 2006 and 2005,March 31, 2007, there were no outstanding borrowings under the Holdings Credit Facility.
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Interest expense and fees incurred in connection with the Holdings Credit Facility were $0.04$0.03 million and $0.07$0.05 million for the three months ended September 30, 2006 and 2005, respectively, and $0.1 million and $0.2 million for nine months ended September 30, 2006 and 2005, respectively.March 31, 2007.
The Company, through its subsidiaries, operates in four segments: U.S. Reinsurance, U.S. Insurance, Specialty Underwriting and International. The U.S. Reinsurance operation writes property and casualty reinsurance, on both a treaty and facultative basis, through reinsurance brokers, as well as directly with ceding companies within the U.S. The U.S. Insurance operation writes property and casualty insurance primarily through general agent relationshipsagents and surplus lines brokers within the U.S. The Specialty Underwriting operation writes accident and health (“A&H”), marine, aviation and surety business within the U.S. and worldwide through brokers and directly with ceding companies. The International operation writes property and casualty reinsurance through Everest Re’s branches in Canada and Singapore, in addition to foreign business written through Everest Re’s Miami and New Jersey offices.
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These segments are managed in a carefully coordinated fashion with strong elements of central control with respect to pricing, risk management, monitoringcontrol of aggregate exposures to catastrophe events, capital, investments and support operations. Management generally monitors and evaluates the financial performance of these operating segments based upon their underwriting results. Underwriting results include earned premium less losses and loss adjustment expenses (“LAE”) incurred, commission and brokerage expenses and other underwriting expenses and are analyzed using ratios, in particular loss, commission and brokerage and other underwriting expense ratios, which, respectively, divide incurred losses, commission and brokerage and other underwriting expenses by earned premium.
The Company does not maintain separate balance sheet data for its operating segments. Accordingly, the Company does not review and evaluate the financial results of its operating segments based upon balance sheet data.
The following tables present the relevant underwriting results for the operating segments for the periods indicated:
U.S. Reinsurance | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 332,923 | $ | 374,309 | $ | 989,337 | $ | 1,100,677 | ||||||
Net written premiums | 251,754 | 283,598 | 740,969 | 835,535 | ||||||||||
Premiums earned | $ | 234,502 | $ | 263,059 | $ | 730,819 | $ | 855,213 | ||||||
Incurred losses and loss adjustment expenses | 159,535 | 499,648 | 514,892 | 920,017 | ||||||||||
Commission and brokerage | 44,882 | 52,130 | 159,220 | 191,633 | ||||||||||
Other underwriting expenses | 6,443 | 5,649 | 17,585 | 17,713 | ||||||||||
Underwriting gain (loss) | $ | 23,642 | $ | (294,368 | ) | $ | 39,122 | $ | (274,150 | ) | ||||
U.S. Insurance | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 249,346 | $ | 210,768 | $ | 662,742 | $ | 755,876 | ||||||
Net written premiums | 182,097 | 179,336 | 454,342 | 560,563 | ||||||||||
Premiums earned | $ | 148,002 | $ | 194,828 | $ | 416,865 | $ | 502,957 | ||||||
Incurred losses and loss adjustment expenses | 97,639 | 113,763 | 291,348 | 336,369 | ||||||||||
Commission and brokerage | 18,909 | 33,106 | 47,836 | 79,311 | ||||||||||
Other underwriting expenses | 12,715 | 13,583 | 34,809 | 38,396 | ||||||||||
Underwriting gain | $ | 18,739 | $ | 34,376 | $ | 42,872 | $ | 48,881 | ||||||
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U.S. Reinsurance Threeand NineMonths EndedSeptember 30,March 31, (Dollars in thousands) 2007 2006 --------------------------- Gross written premiums $ 354,352 $ 394,397 Net written premiums 260,981 295,686 Premiums earned $ 263,185 $ 289,717 Incurred losses and2005
Specialty Underwriting | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 77,844 | $ | 51,891 | $ | 194,958 | $ | 247,868 | ||||||
Net written premiums | 53,500 | 35,028 | 137,406 | 175,187 | ||||||||||
Premiums earned | $ | 49,180 | $ | 38,219 | $ | 136,534 | $ | 178,021 | ||||||
Incurred losses and loss adjustment expenses | 25,106 | 49,504 | 90,228 | 138,382 | ||||||||||
Commission and brokerage | 9,924 | 7,630 | 32,315 | 41,124 | ||||||||||
Other underwriting expenses | 1,713 | 1,635 | 4,655 | 4,990 | ||||||||||
Underwriting gain (loss) | $ | 12,437 | $ | (20,550 | ) | $ | 9,336 | $ | (6,475 | ) | ||||
International | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 186,063 | $ | 188,296 | $ | 541,420 | $ | 540,466 | ||||||
Net written premiums | 134,516 | 132,078 | 391,622 | 382,986 | ||||||||||
Premiums earned | $ | 129,358 | $ | 121,644 | $ | 381,990 | $ | 368,890 | ||||||
Incurred losses and loss adjustment expenses | 47,746 | 85,635 | 206,403 | 217,234 | ||||||||||
Commission and brokerage | 29,324 | 29,226 | 83,714 | 81,208 | ||||||||||
Other underwriting expenses | 3,441 | 3,057 | 9,804 | 9,074 | ||||||||||
Underwriting gain | $ | 48,847 | $ | 3,726 | $ | 82,069 | $ | 61,374 | ||||||
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U.S. Insurance Three Months Ended March 31, (Dollars in thousands) 2007 2006 --------------------------- Gross written premiums $ 217,373 $ 218,006 Net written premiums 139,583 156,322 Premiums earned $ 140,565 $ 140,977 Incurred losses and loss adjustment expenses 141,029 105,983 Commission and brokerage 21,173 18,537 Other underwriting expenses 12,365 10,705 --------------------------- Underwriting (loss) gain $ (34,002) $ 5,752 --------------------------- Specialty Underwriting Three Months Ended March 31, (Dollars in thousands) 2007 2006 --------------------------- Gross written premiums $ 54,681 $ 64,026 Net written premiums 36,450 48,327 Premiums earned $ 38,614 $ 51,734 Incurred losses and loss adjustment expenses 29,843 57,058 Commission and brokerage 9,304 14,114 Other underwriting expenses 1,589 1,305 --------------------------- Underwriting loss $ (2,122) $ (20,743) --------------------------- International Three Months Ended March 31, (Dollars in thousands) 2007 2006 --------------------------- Gross written premiums $ 173,344 $ 175,522 Net written premiums 121,272 125,916 Premiums earned $ 127,474 $ 121,250 Incurred losses and loss adjustment expenses 68,261 83,982 Commission and brokerage 28,851 24,431 Other underwriting expenses 3,718 2,678 --------------------------- Underwriting gain $ 26,644 $ 10,159 ---------------------------
The following table reconciles the underwriting results for the operating segments to income before tax as reported in the consolidated statements of operations and comprehensive income for the periods indicated:
Three Months Ended | Nine Months Ended | |||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Underwriting gain (loss) | $ | 103,665 | $ | (276,816 | ) | $ | 173,399 | $ | (170,370 | ) | ||||
Net investment income | 84,744 | 67,585 | 260,571 | 242,577 | ||||||||||
Net realized capital gains | 9,025 | 18,633 | 20,249 | 38,321 | ||||||||||
Corporate expense | (1,077 | ) | (1,090 | ) | (3,674 | ) | (4,605 | ) | ||||||
Interest, fee and bond issue cost amortization expense | (17,424 | ) | (17,454 | ) | (52,284 | ) | (56,766 | ) | ||||||
Other expense | (17,925 | ) | (14,989 | ) | (23,959 | ) | (13,156 | ) | ||||||
Income (loss) before taxes | $ | 161,008 | $ | (224,131 | ) | $ | 374,302 | $ | 36,001 | |||||
Three Months Ended March 31, (Dollars in thousands) 2007 2006 --------------------------- Underwriting gain (loss) $ 105,685 $ (5,776) Net investment income 95,934 83,905 Net realized capital gain 33,874 9,020 Corporate expense (584) (938) Interest, fee and bond issue cost amortization expense (17,413) (17,430) Other expense (1,163) (13,047) --------------------------- Income before taxes $ 216,333 $ 55,734 ---------------------------
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The Company produces business in its U.S. and international operations. The net income and assets of the individual foreign countries in which the Company writes business are not identifiable in the Company’s financial records. Other than the U.S., no other country represented more than 5% of the Company’s revenues.
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The Company from time to time invests in interest only strips of mortgage-backed securities (“interest only strips”) in response to movement in, and levels of, capital market interest rates. These securities give the holder the right to receive interest payments at a stated coupon rate on an underlying pool of mortgages. The interest payments on the outstanding mortgages are guaranteed by entities generally rated AAA. The ultimate cash flow from these investments is primarily dependent upon the average life of the mortgage pool. Generally, as market interest rates and, more specifically, market mortgage rates decline, mortgagees tend to refinance which will decrease the average life of a mortgage pool and decrease expected cash flows. Conversely, as market interest rates and, more specifically, mortgage rates rise, repayments will slow and the ultimate cash flows will tend to rise. Accordingly, the market value of these investments tends to increase as general interest rates rise and decline as general interest rates fall. These movements are generally counter to the impact of interest rate movements on the Company’s other fixed income investments. The Company held no interest only strips investments at September 30, 2006. The market value of the interest only strips at September 30, 2005 was $51.1 million.
The Company accounts for its investment in interest only strips in accordance with Emerging Issues Task Force Issue No. 99-20, “Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets” (“EITF 99-20”). EITF 99-20 sets forth the rules for recognizing interest income on all credit-sensitive mortgage and asset-backed securities and certain prepayment-sensitive securities, including agency interest only strips, whether purchased or retained in securitization, as well as the rules for determining when these securities must be written down to fair value because of impairment. EITF 99-20 requires decreases in the valuation of residual interests in securitizations to be recorded as a reduction to the carrying value of the residual interests through a charge to earnings, rather than an unrealized loss in stockholders’ equity, when any portion of the decline in fair value is attributable to, as defined by EITF 99-20, an impairment loss. The Company had no realized capital loss due to impairment for the three and nine months ended September 30, 2006 and for the three months ended September 30, 2005. The Company recorded a pre-tax and after-tax realized capital loss due to impairments of $4.1 million and $2.7 million, respectively, for the nine months ended September 30, 2005.
During the normal course of business, the Company, through its affiliates, engages in reinsurance and brokerage and commission business transactions, which management believes to be at arm’s length, with companies controlled by or affiliated with certain of its outside directors. Such transactions, individually and in the aggregate, are not material to the Company’s financial condition, results of operationsoperation and cash flows.flow.
The Company engages in reinsurance transactions with Bermuda Re and Everest International Reinsurance, Ltd. (“Everest International”), affiliates, primarily driven by capital management considerations under which business is ceded for what management believes to be arm’s length consideration. These transactions include:
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cedes 31.5% and 3.5% of its casualty business to Bermuda Re and Everest International, respectively, and Everest Re cedes |
18
The following table summarizes the premiums and losses ceded by the Company to Bermuda Re and Everest International, respectively, for the periods indicated:
Bermuda Re | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Ceded written premiums | $ | 177,663 | $ | 151,285 | $ | 522,818 | $ | 530,932 | ||||||
Ceded earned premiums | 171,919 | 139,881 | 514,036 | 536,654 | ||||||||||
Ceded losses and LAE (a) | 114,365 | 248,001 | 309,876 | 483,140 |
Everest International | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Ceded written premiums | $ | 22,018 | $ | 14,824 | $ | 54,453 | $ | 59,275 | ||||||
Ceded earned premiums | 21,366 | 12,625 | 51,816 | 53,544 | ||||||||||
Ceded losses and LAE | 13,496 | 20,862 | 32,021 | 44,304 |
Bermuda Re Three Months Ended March 31, ------------------------- (Dollars in thousands) 2007 2006 ------------------------- Ceded written premiums $ 194,050 $ 175,170 Ceded earned premiums 190,942 184,889 Ceded losses and LAE (a) 102,292 101,110 Everest International Three Months Ended March 31, ------------------------- (Dollars in thousands) 2007 2006 ------------------------- Ceded written premiums $ 20,577 $ 18,786 Ceded earned premiums 20,390 19,060 Ceded losses and LAE 10,870 11,425
(a) Ceded losses and LAE include the Mt. McKinley loss portfolio transfer that constitutes losses ceded under retroactive reinsurance and therefore, in accordance with FAS 113, “Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts,” a deferred gain on retroactive reinsurance is reflected in other expenses on the consolidated statement of operations and comprehensive income.
Effective January 1, 2004, Everest Re sold the net assets of its UK branch to Bermuda Re. In connection with the sale, Everest Re and provided Bermuda Re with a reserve indemnity agreement allowing for indemnity payments of up to 90% of £25.0 million in the event December 31, 2002 losses and LAE reserves develop adversely. The limit available under this agreement was fully exhausted at December 31, 2004.
The Company uses a projected annual effective tax rate in accordance with FAS 109 to calculate its quarterly tax expense. Under this methodology, when an interim quarter’s pre-tax income (loss) varies significantly from a full year’s income (loss) projection, the tax impact resulting from the income (loss) variance is effectively spread between the impacted quarter and the remaining quarters of the year, except for discreet items impacting an individual quarter.
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The Company adopted the provisions of FIN 48 as of January 1, 2007. As a result of the implementation of FIN 48, the Company recorded no adjustment in the liability for unrecognized income tax benefits and no adjustment to beginning retained earnings.
The Company recognizes interest and penalties related to uncertain tax positions in income tax expense. At the date of adoption, January 1, 2007, the Company has $1.3 million of accrued interest related to uncertain tax positions.
Tax years 2003-2006 remain open to examination by the major taxing jurisdictions to which the Company is subject.
On April 26, 2007, the Company announced that Holdings completed a public offering of $400.0 million of fixed to floating rate long term subordinated notes with a scheduled maturity of May 15, 2037 and a final maturity of May 1, 2067. The net proceeds from the offering are expected to be used to redeem all of the outstanding 7.85% junior subordinated debt securities as soon as possible after November 14, 2007 and for general corporate purposes.
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The worldwide reinsurance and insurance businesses are highly competitive, yetas well as cyclical by product and market. As a result, financial results tend to fluctuate with periods of constrained availability, high rates and strong profits followed by periods of abundant capacity, low rates and constrained profitability. Competition in the types of reinsurance and insurance business that the Company underwrites is based on many factors, including the perceived overall financial strength of the reinsurer or insurer, ratings of the reinsurer or insurer by A.M. Best Company (“A.M. Best”) and/or Standard & Poor’s Rating Services (“S&P”Standard & Poor’s”), underwriting expertise, the jurisdictions where the reinsurer or insurer is licensed or otherwise authorized, capacity and coverages offered, premiums charged, other terms and conditions of the reinsurance and insurance business offered, services offered, speed of claims payment and reputation and experience in lines written. TheseFurthermore, the market impact from these competitive factors operate at the individual market participant levelrelated to varying degrees, as applicable to the specific participant’s circumstances. They also operate in aggregatereinsurance and insurance is generally not consistent across the reinsurance industry more generally, contributing, in combination with background economic conditionslines of business, domestic and variations in the reinsurance buying practices of insurance companies (by participantinternational geographical areas and in the aggregate), to cyclical movements in reinsurance rates, terms and conditions and ultimately reinsurance industry aggregate financial results.distribution channels.
The Company competes in the U.S. and international reinsurance and insurance markets with numerous global competitors. The Company’s competitors include independent reinsurance and insurance companies, subsidiaries or affiliates of established worldwide insurance companies, reinsurance departments of certain insurance companies and domestic and international underwriting operations, including underwriting syndicates at Lloyd’s. Some of these competitors have greater financial resources than the Company and have established long-term and continuing business relationships, throughout the industry, which can be a significant competitive advantage. In addition, the lack of strong barriers to entry into the reinsurance business and the potential for securitization of reinsurance and insurance risks through capital markets provide additional sources of potential reinsurance and insurance capacity and competition.
During muchthe first quarter of 2005, global reinsurance2007, the Company observed increased competition with slightly reduced premiums, higher commissions and insurance pricing was generally flat to down principally as a resultdemands by cedants for improved terms and conditions. The extent of the relatively strong profitabilityincreased competition and capital generation achievedits affect on rates, terms and conditions varied widely by many reinsurersmarket and insurers followingcoverage types. One of the favorable market conditions that had persisted from 2001-2004. However, unprecedented catastrophic industry losseslesser impacted markets was retrocession catastrophe property coverage in the second half of 2005, principally driven by Hurricanes Katrina, Rita and Wilma, adversely impacted the 2005 financial results of most industry participants.
Thus far in 2006, the Company has observed strong price increases and more restricted limits in those property lines and regions that were most affected by the catastrophe events of 2005.2005, principally Hurricanes Katrina, Rita and Wilma. Reinsurance capacity in these areas was and continues to be, constrained, particularly for catastrophe reinsurance, which includesincluding southeastern U.S. exposures and energy lines continued to be constrained. In January 2007, the state of Florida passed legislation that increased coverage provided by the Florida Hurricane Catastrophe Fund, thus potentially reducing the amount of reinsurance that Florida companies will purchase from the private reinsurance market. In addition, the legislature broadened the mandate of the state sponsored homeowners’ insurance company to render it a fully competitive market participant. Although the Company is unable to predict the impact on future market conditions from the increased competition and legislative developments, the Company believes that its clients continue to write profitable business in Florida and will continue to purchase both quota share and catastrophe coverage, although at likely lower volumes. The balance of the retrocessionU.S. and energy lines. The record catastrophe losses of 2005 have also generally led to modest strengthening for U.S.international property lines that have little or no substantive catastrophe exposure andexperienced mostly modest price stabilization in most casualty insurance and reinsurance markets atdeclines but still exhibit adequate premium rates thus far in 2006. However, certain of thepricing levels.
The Company’s U.S. and international casualty lines continue to exhibitexperienced weaker market conditions led by the medical stop loss and directors & officers (“D&O”)&O reinsurance classes, as well as the California workers’ compensation insurance line. The Company believes that U.S. casualty reinsurance generally remains adequately priced; however,priced. The Company also
19
believes that increased primary price competition at the insurance company level and cedants’ increased appetite for retaining more profitable business net following several strong years of hard-market conditions, may
20
influence these markets toward modest softening.has resulted in modestly softer, but profitable, reinsurance pricing. The Company’s U.S. insurance operation iswas also affected, although somewhat less affectedso, by these standardprimary casualty insurance market conditions given the specialty nature of its specialty insurance program orientation. Finally,orientated business.
The Company is unable to predict the Company continues to observe generally stable property and casualty reinsuranceimpact on future market conditions in most countries outside of the U.S., except for hardening property market conditions in Mexico following Hurricane Wilma.
Focusing on U.S. property reinsurance, market conditions have tightened, particularly within peak catastrophe zones, during 2006. This market hardening was particularly pronounced in third quarter renewals with incrementally higher rate changes and even more restrictive coverages than earlier in 2006. As a result, many reinsurance buyers have not been able to fully place their reinsurance program and have been forced to raise retention levels and/or reduce catastrophe limit purchases. In turn, insurance companies continue to adjust limits and coverages and increase the premium rates they charge their customers. Together, these trends have generally resulted in insurance companies retaining more property risk exposure and being more prone to potential future earnings volatility than they would prefer. This market dynamic, both at the individual company and industry level, is reflective of a fundamental imbalance between reinsurance supply and demand. The Company believes that this disequilibrium may continue through 2007 despite the relatively benign loss experience from the 2006 U.S. hurricane season. Reinsurersincreased competition and legislative initiatives. In addition to these market forces, reinsurers continue to reassess their risk appetites and rebalance their property portfolios so as to reflect improved price to exposure metrics against the backdrop of: (i) recent revisions to the industry’s catastrophe loss projection models, which are indicating significantly higher loss potentials and consequently higher pricing requirements and (ii) elevated rating agency scrutiny and capital requirements for many catastrophe exposed companies.
In light of its 2005 catastrophe experience, the Company reexaminedhas re-examined its risk management practices and concluded that its control framework operated generally as intended and made appropriate portfolio adjustments tointended. The Company rebalanced its property reinsurance operations during the first nine months of 2006. This portfolio, repositioning, particularly within peak catastrophe zones, including the Southeast USA,U.S., Mexico and Gulf of Mexico,Mexico. This effort has enabled the Company to take advantage of these dislocated markets in abenefit from market dislocations by carefully managed fashion by: (i) shifting the mix of its writings toward the most profitable classes, lines, customers and territories (ii) reducing aggregate catastrophe exposed limits and (iii)by enhancing its portfolio balance and diversification.
Overall, the Company believes that current marketplace conditions continue to offer solid opportunities for the Company given its strong ratings, distribution system, reputation and expertise. The Company continues to employ its opportunistic strategy of targeting those segments offeringbusiness that offers the bestgreatest profit potential, while maintaining balance and diversification in its overall portfolio.
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The Company’s management monitors and evaluates overall Company performance based upon financial results. The following table displays a summary of the consolidated net income, (loss), ratios and stockholder’s equity for the periods indicated:
Three Months Ended September 30, | Percentage Increase/ | Nine Months Ended September 30, | Percentage Increase/ | |||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in thousands) | 2006 | 2005 | (Decrease) | 2006 | 2005 | (Decrease) | ||||||||||||||
Gross written premiums | $ | 846,176 | $ | 825,264 | 2.5% | $ | 2,388,457 | $ | 2,644,887 | -9.7% | ||||||||||
Net written premiums | 621,867 | 630,040 | -1.3% | 1,724,339 | 1,954,271 | -11.8% | ||||||||||||||
REVENUES: | ||||||||||||||||||||
Premiums earned | $ | 561,042 | $ | 617,750 | -9.2% | $ | 1,666,208 | $ | 1,905,081 | -12.5% | ||||||||||
Net investment income | 84,744 | 67,585 | 25.4% | 260,571 | 242,577 | 7.4% | ||||||||||||||
Net realized capital gains | 9,025 | 18,633 | -51.6% | 20,249 | 38,321 | -47.2% | ||||||||||||||
Other expense | (17,925 | ) | (14,989 | ) | -19.6% | (23,959 | ) | (13,156 | ) | -82.1% | ||||||||||
Total revenues | 636,886 | 688,979 | -7.6% | 1,923,069 | 2,172,823 | -11.5% | ||||||||||||||
CLAIMS AND EXPENSES: | ||||||||||||||||||||
Incurred losses and loss adjustment expenses | 330,026 | 748,550 | -55.9% | 1,102,871 | 1,612,002 | -31.6% | ||||||||||||||
Commission, brokerage, taxes and fees | 103,039 | 122,092 | -15.6% | 323,085 | 393,276 | -17.8% | ||||||||||||||
Other underwriting expenses | 25,389 | 25,014 | 1.5% | 70,527 | 74,778 | -5.7% | ||||||||||||||
Interest, fee and bond issue | ||||||||||||||||||||
cost amortization expense | 17,424 | 17,454 | -0.2% | 52,284 | 56,766 | -7.9% | ||||||||||||||
Total claims and expenses | 475,878 | 913,110 | -47.9% | 1,548,767 | 2,136,822 | -27.5% | ||||||||||||||
INCOME (LOSS) BEFORE TAXES | 161,008 | (224,131 | ) | 171.8% | 374,302 | 36,001 | NM | |||||||||||||
Income tax expense (benefit) | 46,077 | (50,579 | ) | 191.1% | 94,484 | 3,715 | NM | |||||||||||||
NET INCOME (LOSS) | $ | 114,931 | $ | (173,552 | ) | 166.2% | $ | 279,818 | $ | 32,286 | NM | |||||||||
RATIOS: | Point Change | Point Change | ||||||||||||||||||
Loss ratio | 58.8% | 121.2% | (62.4 | ) | 66.2% | 84.6% | (18.4 | ) | ||||||||||||
Commission and brokerage ratio | 18.4% | 19.8% | (1.4 | ) | 19.4% | 20.6% | (1.2 | ) | ||||||||||||
Other underwriting expense ratio | 4.5% | 4.0% | 0.5 | 4.2% | 4.0% | 0.2 | ||||||||||||||
Combined ratio | 81.7% | 145.0% | (63.3 | ) | 89.8% | 109.2% | (19.4 | ) | ||||||||||||
(Dollar in millions) | As of, September 30, 2006 | As of, December 31, 2005 | ||||||||||||||||||
Shareholders' equity | $ | 2,124.0 | $ | 1,790.7 | 18.6% | |||||||||||||||
(NM, not meaningful) |
Three Months Ended March 31, Percentage ---------------------------------------- Increase/ (Dollars in thousands) 2007 2006 (Decrease) ---------------------------------------- ------------- Gross written premiums $ 799,750 $ 851,951 -6.1% Net written premiums 558,286 626,251 -10.9% REVENUES: Premiums earned $ 569,838 $ 603,678 -5.6% Net investment income 95,934 83,905 14.3% Net realized capital gains 33,874 9,020 275.5% Other expense (1,163) (13,047) -91.1% ------------------- ------------------- Total revenues 698,483 683,556 2.2% ------------------- ------------------- CLAIMS AND EXPENSES: Incurred losses and loss adjustment expenses 326,015 465,511 -30.0% Commission, brokerage, taxes and fees 113,975 124,479 -8.4% Other underwriting expenses 24,747 20,402 21.3% Interest, fee and bond issue cost amortization expense 17,413 17,430 -0.1% ------------------- ------------------- Total claims and expenses 482,150 627,822 -23.2% ------------------- ------------------- INCOME BEFORE TAXES 216,333 55,734 288.2% Income tax expense 57,015 12,229 366.2% ------------------- ------------------- NET INCOME $ 159,318 $ 43,505 266.2% ------------------- ------------------- RATIOS: Point Change ------------- Loss ratio 57.2% 77.1% (19.9) Commission and brokerage ratio 20.0% 20.6% (0.6) Other underwriting expense ratio 4.4% 3.4% 1.0 ------------------- ------------------- -------------- Combined ratio 81.6% 101.1% (19.5) ------------------- ------------------- -------------- As of As of (Dollars in millions) March 31, 2007 December 31, 2006 ------------------- ------------------- Stockholder's equity $ 2,375.2 $ 2,218.4 7.1% ------------------- -------------------
Overall,Revenues. Gross and net written premiums declined 6.1% and 10.9%, respectively, for the Company’s third quarter and ninethree months of 2006 results were very strong with net income of $115 million and $280 million, respectively. Premium volume increased during the third quarter of 2006ended March 31, 2007 as compared to the same period of 2005, while it declined over the ninethree months ofended March 31, 2006 compared to the same period of 2005, as the Companyresult of continued its disciplined underwriting and risk management approaches. In particular,practices. Net earned premium declined by 5.6% for the
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Company re-engineered its U.S. property reinsurance portfolio resulting in improved pricing, but lower premium volume. The year to date premium volume decline also reflects the Company’s discontinued insurance credit program and the Company’s prudent response to market softening in many U.S. casualty reinsurance classes. The premium volume increased in the third quarter in comparison with the second quarter of 2006, reflecting strong premium rate growth in the U.S. property reinsurance market as the Company capitalized on much improved market conditions, as well as growth of new programs in the insurance operation.
The Company’s net income increased dramatically by $288 million and $248 million in the third quarter and nine three months ended September 30, 2006, respectively,March 31, 2007, compared to the same periods for 2005. This significant earnings improvement reflects the favorable effect of a benign hurricane season relativethree months ended March 31, 2006, primarily due to unprecedented Company and industry hurricane losses experienced in 2005, as well as continued strong underlying underwriting fundamentals and increased investment income from an expanded invested asset base. These improvements were partially offset by a decline in net realized capital gains.
The Company’s stockholders’ equity increased by $333.3 million from year end 2005 to $2,124.0 million at September 30, 2006, principally attributable to the net income generated during the nine months of 2006.
Revenues. Netlower gross written premiums, declined 1% and 12% for the third quarter and nine months ended September 30, 2006, respectively, compared to the same periods for 2005.particularly in treaty casualty. Net premiums earned declined 9% and 13% for the third quarter and nine months ended September 30, 2006, respectively, compared to the same periods of 2005. The year to date net premiums earned decrease was primarily due to a decline7.2% in the U.S. insurance segment of 17% reflective of: i) a reduction in credit business from an auto loan program which is in runoff; and ii) continued declines in the California workers’ compensation writings due to competitive market conditions. In addition, net premiums earned for the worldwide reinsurance segments, primarily due to the decrease in treaty casualty gross written premiums, partially offset by an increase in treaty property gross written premiums. Net premiums earned during the aggregate decreased by 11%three months ended March 31, 2007 over the same period in 2006 for the nine months ended September 30, 2006, reflecting multipleU.S. Insurance segment level factors, including a significant return premium for a Florida property quota share contract cancelled in 2006, the absence of sizable reinstatement premiums triggered in 2005 from severe catastrophic events, as well as a disciplined underwriting approach within both property and casualty lines emphasizing potential profitability rather than volume growth.were relatively flat.
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Net investment income increased 25% and 7%14.3% for the third quarter and ninethree months of 2006, respectively, asended March 31, 2007 compared to the same periods for 2005, reflecting continued year over yearthree months ended March 31, 2006, due primarily to the growth in invested assets from positive cash flow from operations, despite significant catastrophe loss payouts related to the 2005 and 2004 hurricanes.operations. The average investment portfolio yields through September 30, 2006for the three months ended March 31, 2007 were 4.6% pre-tax and 3.7%3.6% after-tax, and were slightly higher comparedsimilar to the prior year.three months ended March 31, 2006.
Net realized capital gains were modest in relation to$33.9 million and $9.0 million for the Company’s invested asset base, with variabilitythree months ended March 31, 2007 and 2006, respectively, mainly reflecting normal portfolio management activities.activities in response to changes in interest rates and credit spreads and movement in the equity markets. The 2007 net realized capital gains include $2.3 million of realized gain due to fair value remeasurement on the publicly traded equity portfolio.
Expenses. The Company’s incurred losses and loss adjustment expenses (“LAE”) decreased 56% and 32%30.0% for the third quarter and ninethree months of 2006, respectively,ended March 31, 2007 compared to the same periods for 2005, primarilythree months ended March 31, 2006, principally due to a decrease in attritional losses from the absence of current yearchange in business mix and a decrease in prior years catastrophe losses and lower earned premiums.loss development.
The Company’s loss ratio improvements of 62 and 18improved by 20 points for the third quarterthree months ended March 31, 2007 compared to the three months ended March 31, 2006, primarily reflective of a 12 point improvement of current and nine months of 2006, respectively, year over year, were primarily the result of reduced catastrophe losses. Included in the Company’s third quarter 2006 loss ratio was 7 points of favorable prior years reserve development, comprisedattritional losses coupled with an 8 point improvement of a 14 point decrease in prior year attritional reserves, due to favorable claims emergence trends, primarily within property and other short-tailed lines, partially offset by a 6 point increase in prior years catastrophe reserve development and a 1 point increase in prior years asbestos and environmental (“A&E”) reserves. The Company’s loss ratio for the nine months ended September 30, 2006 was 66.2% representing an 18 point improvement from the prior
23
year, reflecting the absence of current year catastrophes and strong premium rate increases in property classes of business, partially offset by higher prior years reserve development, particularly related to catastrophes.losses.
Commission, brokerage, and tax expenses for the third quarter and nine months of 2006 decreased by 16% and 18%, respectively,8.4% in the three months ended March 31, 2007 compared to the same periodthree months ended March 31, 2006. The decline in 2005. Overall changesnet earned premiums and the change in the business mix and premium volume during the nine months of 2006 compared to 2005 were the primary reasons forprincipal drivers of the decrease in commissionthis directly variable expense. Other underwriting expenses for the third quarter and ninethree months of 2006ended March 31, 2007 increased by 2% and decreased by 6%, respectively, compared to the same periods for 2005. These expenses include infrastructure coststhree months ended March 31, 2006, primarily due to an increase in salaries and various assessments by state insurance departments, which fluctuate period over period.benefits.
The Company’s effective income tax rate for the third quarter and ninethree months of 2006ended March 31, 2007 was 29% and 25%, respectively. The Company’s26.4% compared with an effective tax rate for the three months ended March 31, 2006 of 21.9%. The increase is a functionreflective of increased taxable capital gains and operating income, which mitigated the statutory rate, coupledimpact of tax-preferenced investments on the effective tax rate.
Net Income.The Company’s net income for the three months ended March 31, 2007 was $159.3 million, which was significantly higher compared with the impactnet income for the three months ended March 31, 2006 of $43.5 million. This significant improvement in net earnings reflects higher realized gains, improved net prior years reserve development, as well as more favorable results from tax-preferenced investmentunderlying underwriting fundamentals.
Stockholder’s Equity.The Company’s stockholder’s equity increased by $0.2 billion to $2.4 billion for the three months ended March 31, 2007, due to the $159.3 million of net income and discreet items impacting individual quarters.generated for the period.
The Company, through its subsidiaries, operates in four segments: U.S. Reinsurance, U.S. Insurance, Specialty Underwriting and International. The U.S. Reinsurance operation writes property and casualty reinsurance, on both a treaty and facultative basis, through reinsurance brokers, as well as directly with ceding companies within the U.S. The U.S. Insurance operation writes property and casualty insurance primarily through general agent relationshipsagents and surplus lines brokers within the U.S. The Specialty Underwriting operation writes accident and health (“A&H”), marine, aviation and surety business within the U.S. and worldwide through brokers and directly with ceding companies. The International operation writes property and casualty reinsurance through Everest Re’s branches in Canada and Singapore, in addition to foreign business written through Everest Re’s Miami and New Jersey offices.
22
These segments are managed in a carefully coordinated fashion with strong elements of central control with respect to pricing, risk management, monitoringcontrol of aggregate exposures to catastrophiccatastrophe events, capital, investments and support operations. Management generally monitors and evaluates the financial performance of these operating segments based upon their underwriting results. Underwriting results include earned premium less losses and LAE incurred, commission and brokerage expenses and other underwriting expenses and are analyzed using ratios, in particular loss, commission and brokerage and other underwriting expense ratios, which, respectively, divide incurred losses, commissionscommission and brokerage and other underwriting expenses by earned premium.
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The following tables present the relevant underwriting results for the operating segments for the periods indicated:
U.S. Reinsurance | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 332,923 | $ | 374,309 | $ | 989,337 | $ | 1,100,677 | ||||||
Net written premiums | 251,754 | 283,598 | 740,969 | 835,535 | ||||||||||
Premiums earned | $ | 234,502 | $ | 263,059 | $ | 730,819 | $ | 855,213 | ||||||
Incurred losses and loss adjustment expenses | 159,535 | 499,648 | 514,892 | 920,017 | ||||||||||
Commission and brokerage | 44,882 | 52,130 | 159,220 | 191,633 | ||||||||||
Other underwriting expenses | 6,443 | 5,649 | 17,585 | 17,713 | ||||||||||
Underwriting gain (loss) | $ | 23,642 | $ | (294,368 | ) | $ | 39,122 | $ | (274,150 | ) | ||||
U.S. Insurance | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 249,346 | $ | 210,768 | $ | 662,742 | $ | 755,876 | ||||||
Net written premiums | 182,097 | 179,336 | 454,342 | 560,563 | ||||||||||
Premiums earned | $ | 148,002 | $ | 194,828 | $ | 416,865 | $ | 502,957 | ||||||
Incurred losses and loss adjustment expenses | 97,639 | 113,763 | 291,348 | 336,369 | ||||||||||
Commission and brokerage | 18,909 | 33,106 | 47,836 | 79,311 | ||||||||||
Other underwriting expenses | 12,715 | 13,583 | 34,809 | 38,396 | ||||||||||
Underwriting gain | $ | 18,739 | $ | 34,376 | $ | 42,872 | $ | 48,881 | ||||||
Specialty Underwriting | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 77,844 | $ | 51,891 | $ | 194,958 | $ | 247,868 | ||||||
Net written premiums | 53,500 | 35,028 | 137,406 | 175,187 | ||||||||||
Premiums earned | $ | 49,180 | $ | 38,219 | $ | 136,534 | $ | 178,021 | ||||||
Incurred losses and loss adjustment expenses | 25,106 | 49,504 | 90,228 | 138,382 | ||||||||||
Commission and brokerage | 9,924 | 7,630 | 32,315 | 41,124 | ||||||||||
Other underwriting expenses | 1,713 | 1,635 | 4,655 | 4,990 | ||||||||||
Underwriting gain (loss) | $ | 12,437 | $ | (20,550 | ) | $ | 9,336 | $ | (6,475 | ) | ||||
U.S. Reinsurance Three Months Ended March 31, (Dollars in thousands) 2007 2006 -------------------------- Gross written premiums $ 354,352 $ 394,397 Net written premiums 260,981 295,686 Premiums earned $ 263,185 $ 289,717 Incurred losses and loss adjustment expenses 86,882 218,488 Commission and brokerage 54,647 67,397 Other underwriting expenses 6,491 4,776 -------------------------- Underwriting gain (loss) $ 115,165 $ (944) -------------------------- U.S. Insurance Three Months Ended March 31, (Dollars in thousands) 2007 2006 -------------------------- Gross written premiums $ 217,373 $ 218,006 Net written premiums 139,583 156,322 Premiums earned $ 140,565 $ 140,977 Incurred losses and loss adjustment expenses 141,029 105,983 Commission and brokerage 21,173 18,537 Other underwriting expenses 12,365 10,705 -------------------------- Underwriting (loss) gain $ (34,002) $ 5,752 -------------------------- Specialty Underwriting Three Months Ended March 31, (Dollars in thousands) 2007 2006 -------------------------- Gross written premiums $ 54,681 $ 64,026 Net written premiums 36,450 48,327 Premiums earned $ 38,614 $ 51,734 Incurred losses and loss adjustment expenses 29,843 57,058 Commission and brokerage 9,304 14,114 Other underwriting expenses 1,589 1,305 -------------------------- Underwriting loss $ (2,122) $ (20,743) --------------------------
2523
International | Three Months Ended | Nine Months Ended | ||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Gross written premiums | $ | 186,063 | $ | 188,296 | $ | 541,420 | $ | 540,466 | ||||||
Net written premiums | 134,516 | 132,078 | 391,622 | 382,986 | ||||||||||
Premiums earned | $ | 129,358 | $ | 121,644 | $ | 381,990 | $ | 368,890 | ||||||
Incurred losses and loss adjustment expenses | 47,746 | 85,635 | 206,403 | 217,234 | ||||||||||
Commission and brokerage | 29,324 | 29,226 | 83,714 | 81,208 | ||||||||||
Other underwriting expenses | 3,441 | 3,057 | 9,804 | 9,074 | ||||||||||
Underwriting gain | $ | 48,847 | $ | 3,726 | $ | 82,069 | $ | 61,374 | ||||||
International Three Months Ended March 31, (Dollars in thousands) 2007 2006 -------------------------- Gross written premiums $ 173,344 $ 175,522 Net written premiums 121,272 125,916 Premiums earned $ 127,474 $ 121,250 Incurred losses and loss adjustment expenses 68,261 83,982 Commission and brokerage 28,851 24,431 Other underwriting expenses 3,718 2,678 -------------------------- Underwriting gain $ 26,644 $ 10,159 --------------------------
The following table reconciles the underwriting results for the operating segments to income before tax as reported in the consolidated statements of operations and comprehensive income (loss) for the periods indicated:
Three Months Ended | Nine Months Ended | |||||||||||||
September 30, | September 30, | |||||||||||||
(Dollars in thousands) | 2006 | 2005 | 2006 | 2005 | ||||||||||
Underwriting gain (loss) | $ | 103,665 | $ | (276,816 | ) | $ | 173,399 | $ | (170,370 | ) | ||||
Net investment income | 84,744 | 67,585 | 260,571 | 242,577 | ||||||||||
Net realized capital gains | 9,025 | 18,633 | 20,249 | 38,321 | ||||||||||
Corporate expense | (1,077 | ) | (1,090 | ) | (3,674 | ) | (4,605 | ) | ||||||
Interest, fee and bond issue cost amortization expense | (17,424 | ) | (17,454 | ) | (52,284 | ) | (56,766 | ) | ||||||
Other expense | (17,925 | ) | (14,989 | ) | (23,959 | ) | (13,156 | ) | ||||||
Income (loss) before taxes | $ | 161,008 | $ | (224,131 | ) | $ | 374,302 | $ | 36,001 | |||||
Three Months Ended March 31, (Dollars in thousands) 2007 2006 -------------------------- Underwriting gain (loss) $ 105,685 $ (5,776) Net investment income 95,934 83,905 Net realized capital gain 33,874 9,020 Corporate expense (584) (938) Interest, fee and bond issue cost amortization expense (17,413) (17,430) Other expense (1,163) (13,047) -------------------------- Income before taxes $ 216,333 $ 55,734 --------------------------
Premiums Written.Written Premiums.Gross written premiums increased 2.5%decreased 6.1% to $846.2$799.8 million for the three months ended September 30, 2006March 31, 2007 from $825.3$852.0 million for the three months ended September 30, 2005.March 31, 2006. The increase in gross written premiums was, in part, due to an increase in the Specialty Underwriting operations of 50.0%operation decreased 14.6% ($26.09.3 million), primarily due to driven by a $20.4$9.9 million increasereduction in surety business,premiums and a $4.7$1.7 million increasedecrease in marine and aviation business andpremiums, partially offset by a $0.9$2.3 million increase in A&H business. Also, the U.S. Insurance operation increased 18.3% ($38.6 million), reflecting an increase in the non-workers’ compensation business, partially offset by the continued retrenchment in the California workers’ compensation business and run-off of the credit business. Partially offsetting these increases was an 11.1% ($41.4 million) decrease in thepremiums. The U.S. Reinsurance operation decreased 10.2% ($40.0 million), principally reflecting a $24.4 million decrease in treaty property business, a $13.2$66.5 million decrease in treaty casualty business andin addition to a $4.6$7.0 million decreasedecline in facultative writings, partially offset by a $33.4 million increase in treaty property business. Also, theThe International operation decreased 1.2% ($2.2 million), primarily due to a $29.6$5.9 million decrease in Asian business, largelypartially offset by both a $25.6 million increase in international business written through the Miami and New Jersey offices, representing primarily Latin American business and a $1.9$4.8 million increase in Canadian business. The U.S. Insurance operation remained relatively flat year over year. The Company endeavors to write only business that meets its profit criteria; generally, increases and decreases in a line of business or region are the result of changing perceptions of the profit opportunities in the various markets.
26
Ceded premiums increased to $224.3$241.5 million for the three months ended September 30, 2006March 31, 2007 from $195.2$225.7 million for the three months ended September 30, 2005.March 31, 2006. Ceded premiums relate primarily to quota share reinsurance agreements between Everest Re and Bermuda Re and Everest International.International Reinsurance, Ltd. (“Everest International”).
Net written premiums decreased by 1.3%10.9% to $621.9$558.3 million for the three months ended September 30, 2006 from $630.0March 31, 2007 compared to $626.3 million for the three months ended September 30, 2005,March 31, 2006, reflecting the $20.9$52.2 million increasedecrease in gross written premiums combined withand the $29.1$15.8 million increase in ceded premiums.
24
Premium Revenues.Premiums Earned.Net premiums earned decreased by 9.2%5.6% to $561.0$569.8 million in the three months ended March 31, 2007 from $603.7 million for the three months ended September 30, 2006 from $617.8 million for the three months ended September 30, 2005.March 31, 2006. Contributing to this decrease was a 24.0%25.4% ($46.813.1 million) decrease in the Specialty Underwriting operation, a 9.2% ($26.5 million) decrease in the U.S. Reinsurance operation and a 0.3% ($0.4 million) decrease in the U.S. Insurance operation, and a 10.9% ($28.6 million) decrease in the U.S. Reinsurance operation, partially offset by a 28.7%5.1% ($11.0 million) increase in the Specialty Underwriting operation and a 6.3% ($7.76.2 million) increase in the International operation. AllAdditional premiums, related to catastrophe business, included in net earned premiums contributed $4.8 million for the three months ended March 31, 2007 compared to a reduction to net earned premiums of these$1.0 million for the three months ended March 31, 2006. The changes reflect period to period changes in net written premiums and business mix, together with normal variability in earning patterns. Business mix changes occur not only as the Company shifts emphasis between products, lines of business, distribution channels and markets, but alsoand as individual contracts renew or non-renew, almost alwaysoften with changes in coverage, structure, prices and/or terms and as new contracts are accepted with coverages, structures, prices and/or terms different from those of expiring contracts.accepted. As premium reporting, earnings, loss and commission characteristics derive from the provisions of individual contracts, the continuous turnover of individual contracts, arising from both strategic shifts and day to daydaily underwriting decisions, can and does introduce appreciable background variability in various underwriting line items. Changes in estimates related toof the reporting patterns of ceding companies also affect premiums earned.
Expenses
Incurred Losses and LAE. Incurred losses and LAE represent the Company’s estimates, which are subject to considerable uncertainty due to the timing, complexity and nature of the underlying ceding company exposures. These estimates reflect management’s best judgment based on all available information, but ultimate losses could differ, perhaps materially. The change in incurred losses and LAE, period over period also reflects variability in premiums earned and changes in the loss expectation assumptions for business written, net prior period reserve development, as well as catastrophe losses. Incurred losses and LAE are also impacted by changes in the pricing of the underlying business, as well as variability relating to changes in the mix of business by class and type.
The Company’s loss and LAE reserves reflect estimates of ultimate claim liability. Such estimates are re-evaluated on an ongoing basis, including re-estimates of prior period reserves, taking into consideration all available information and, in particular, newlyrecently reported loss and claim experience.experience related to prior periods. The effect of such re-evaluations impactsis recorded in incurred losses for the current period. The Company notes that its analytical methods and processes operate at multiple levels, including individual contracts, groupings of like contracts, classes and lines of business, internal business units, segments, legal entities, and in the aggregate. The complexities of the Company’s business and operations require analyses and adjustments, both qualitative and quantitative, at these various levels. Additionally, the attribution of reserves, changes in reserves and incurred losses between accident year and underwriting year requires adjustments and allocations, both qualitative and quantitative, at these various levels. All of these processes, methods and practices appropriately balance actuarial science, business expertise and management judgment in a manner intended to assure the accuracy, precision and consistency of the Company’s reserving practices, which are fundamental to the Company’s operation. The Company notes, however, that the underlying reserves remain estimates, which are subject to variation, and that the relative degree of variability is generally least when reserves are considered in the aggregate and generally increases as the focus shifts to more granular data levels.
27
The following table shows the components of the Company’s incurred losses and LAE for the three months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
All Segments | |||||||||||||||||||||||
Attritional (a) | $ | 367.0 | $ | (79.4 | ) | $ | 287.6 | $ | 352.1 | $ | (74.6 | ) | $ | 277.5 | |||||||||
Catastrophes | 0.4 | 35.3 | 35.7 | 448.2 | 18.1 | 466.2 | |||||||||||||||||
A&E | - | 6.7 | 6.7 | - | 4.8 | 4.8 | |||||||||||||||||
Total All segments | $ | 367.4 | $ | (37.4 | ) | $ | 330.0 | $ | 800.3 | $ | (51.8 | ) | $ | 748.6 | |||||||||
Loss Ratio | 65.5 | % | -6.7 | % | 58.8 | % | 129.6 | % | -8.4 | % | 121.2 | % | |||||||||||
(a) Attritional losses exclude catastrophe and A&E losses. (Some amounts may not reconcile due to rounding.) |
March 31, 2007 March 31, 2006 Current Prior Total Current Prior Total (Dollars in millions) Year Years Incurred Year Years Incurred ------------------------------ ------------------------------ All Segments Attritional (a) $ 305.0 $ 16.6 $ 321.6 $ 410.9 $ 4.1 $ 415.0 Catastrophes 4.2 0.2 4.4 - 49.9 49.9 A&E - - - - 0.6 0.6 ------------------------------ ------------------------------ Total All segments $ 309.2 $ 16.8 $ 326.0 $ 410.9 $ 54.6 $ 465.5 ------------------------------ ------------------------------ Loss Ratio 54.3% 2.9% 57.2% 68.1% 9.0% 77.1% (a) Attritional losses exclude catastrophe and A&E losses. (Some amounts may not reconcile due to rounding.)
The Company’s incurred losses and LAE decreased 55.9%30.0% to $330.0$326.0 million for the three months ended September 30, 2006March 31, 2007 from $748.6$465.5 million for the three months ended September 30, 2005,March 31, 2006, primarily reflective of improved prior years catastrophe losses, lower attritional losses due to lower earned premiums, a significant reductionlower accident year loss ratio in the current quarter and mix of current year catastrophe losses,business, partially offset by ana slight increase in prior years reserve strengthening, principally forcurrent year catastrophe losses.
The Company’s loss ratio, which is calculated by dividing incurred losses and LAE by current year net premiums earned, improved by 62.419.9 points to 58.8% over the comparable 2005 period, principally due to a 72.5 point improvement of current year catastrophe losses, partially offset by 8.4 points related to more current year attritional losses. The 6.7 points of prior years reserve adjustments57.2% for the three months ended September 30,March 31, 2007 over the comparable 2006 reflected 14.2 pointsperiod, principally due to an 8.3 point improvement of favorableprior years catastrophe losses, coupled with a 12.3 point improvement of current and prior years attritional reserve development due to favorable claims emergence trends, primarily within property and other short-tailed lines of business,losses, partially offset by 6.30.7 points of unfavorable prior yearscurrent year catastrophe reserve development, principally from the 2005 hurricanes and 1.2 points of unfavorable A&E reserve development.losses.
25
The following table shows the U.S. Reinsurance segment components of incurred losses and LAE for the three months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 161.0 | $ | (35.3 | ) | $ | 125.7 | $ | 117.9 | $ | (18.0 | ) | $ | 99.9 | |||||||||
Catastrophes | - | 27.1 | 27.1 | 381.8 | 13.2 | 395.0 | |||||||||||||||||
A&E | - | 6.7 | 6.7 | - | 4.8 | 4.8 | |||||||||||||||||
Total segment | $ | 161.0 | $ | (1.5 | ) | $ | 159.5 | $ | 499.6 | $ | 0.0 | $ | 499.6 | ||||||||||
Loss Ratio | 68.7 | % | -0.6 | % | 68.0 | % | 189.9 | % | 0.0 | % | 189.9 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
28
March 31, 2007 March 31, 2006 Current Prior Total Current Prior Total (Dollars in millions) Year Years Incurred Year Years Incurred ------------------------------ ------------------------------ Attritional $ 114.0 $ (19.5) $ 94.5 $ 176.6 $ 25.8 $ 202.4 Catastrophes - (7.6) (7.6) - 15.5 15.5 A&E - - - - 0.6 0.6 ------------------------------ ------------------------------ Total segment $ 114.0 $ (27.1) $ 86.9 $ 176.6 $ 41.9 $ 218.5 ------------------------------ ------------------------------ Loss Ratio 43.3% -10.3% 33.0% 61.0% 14.5% 75.4% (Some amounts may not reconcile due to rounding.)
The U.S. Reinsurance segment’s incurred losses and LAE decreased 68.1%60.2%, or $340.1$131.6 million, for the three months ended September 30, 2006March 31, 2007 as compared to the same period in 2005.2006, principally due to the reduction in current and prior years attritional losses within treaty property. The segment’s loss ratio improvement of 121.9for the three months ended March 31, 2007 improved by 42.4 points over the comparable 2005 period was primarily due tofirst quarter of 2006, reflecting a significant decrease17.7 point improvement in current year catastropheattritional losses within the treaty property unit, partially offset by an increase in the current year attritional losses. Favorable prior years loss development on attritional reserves was basically offset by an increaseand 24.7 point improvement in prior years catastrophe loss development as well as an increase to A&E reserves.losses.
The following table shows the U.S. Insurance segment components of incurred losses and LAE for the three months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 101.9 | $ | (4.1 | ) | $ | 97.8 | $ | 139.4 | $ | (25.6 | ) | $ | 113.8 | |||||||||
Catastrophes | - | (0.2 | ) | (0.2 | ) | - | - | - | |||||||||||||||
Total segment | $ | 101.9 | $ | (4.3 | ) | $ | 97.6 | $ | 139.4 | $ | (25.6 | ) | $ | 113.8 | |||||||||
Loss Ratio | 68.9 | % | -2.9 | % | 66.0 | % | 71.5 | % | -13.1 | % | 58.4 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
March 31, 2007 March 31, 2006 Current Prior Total Current Prior Total (Dollars in millions) Year Years Incurred Year Years Incurred ------------------------------ ------------------------------ Attritional $ 97.4 $ 43.7 $ 141.1 $ 127.2 $ (21.5) $ 105.7 Catastrophes - (0.1) (0.1) - 0.3 0.3 ------------------------------ ------------------------------ Total segment $ 97.4 $ 43.6 $ 141.0 $ 127.2 $ (21.2) $ 106.0 ------------------------------ ------------------------------ Loss Ratio 69.3% 31.0% 100.3% 90.2% -15.0% 75.2% (Some amounts may not reconcile due to rounding.)
The U.S. Insurance segment’s incurred losses and LAE decreased 14.2%increased 33.1%, or $16.1$35.0 million, for the three months ended September 30, 2006March 31, 2007 as compared to the same period in 2005, primarily2006, mainly reflecting favorable prior years attritional reserve adjustments, principallystrengthening for the California workers’ compensation businessrun-off of a credit insurance program. The Company was able to better analyze historical experience and an improvement in current year reserves on attritional losses.project it to ultimate as a result of the program manager eliminating its claim backlog. Analysis of the additional data led the Company to conclude that ultimate experience would be more adverse than previously expected.
26
The following table shows the Specialty Underwriting segment components of incurred losses and LAE for the three months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 28.3 | $ | (10.6 | ) | $ | 17.7 | $ | 32.2 | $ | (26.1 | ) | $ | 6.1 | |||||||||
Catastrophes | - | 7.4 | 7.4 | 39.4 | 4.0 | 43.4 | |||||||||||||||||
Total segment | $ | 28.3 | $ | (3.1 | ) | $ | 25.1 | $ | 71.5 | $ | (22.0 | ) | $ | 49.5 | |||||||||
Loss Ratio | 57.4 | % | -6.4 | % | 51.0 | % | 187.2 | % | -57.7 | % | 129.5 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
March 31, 2007 March 31, 2006 Current Prior Total Current Prior Total (Dollars in millions) Year Years Incurred Year Years Incurred ------------------------------ ------------------------------ Attritional $ 23.2 $ - $ 23.2 $ 37.2 $ (3.5) $ 33.7 Catastrophes - 6.6 6.6 - 23.3 23.3 ------------------------------ ------------------------------ Total segment $ 23.2 $ 6.6 $ 29.8 $ 37.2 $ 19.8 $ 57.1 ------------------------------ ------------------------------ Loss Ratio 60.2% 17.1% 77.3% 72.0% 38.3% 110.3% (Some amounts may not reconcile due to rounding.)
The Specialty Underwriting segment’s incurred losses and LAE decreased 49.3%47.7%, or $24.4$27.2 million, for the three months ended September 30, 2006March 31, 2007 as compared to the same period in 2005. The segment’s loss ratio improvement of 78.5 points over the comparable 2005 period was primarily due to2006, reflecting reduced current yearprior years catastrophe losses principally for the marine linesline of business, partially offset by less favorable prior years reserve adjustments.
29coupled with a lower current year attritional loss ratio.
The following table shows the International segment components of incurred losses and LAE for the three months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 75.9 | $ | (29.5 | ) | $ | 46.4 | $ | 62.8 | $ | (5.0 | ) | $ | 57.8 | |||||||||
Catastrophes | 0.4 | 1.0 | 1.4 | 27.0 | 0.8 | 27.9 | |||||||||||||||||
Total segment | $ | 76.3 | $ | (28.5 | ) | $ | 47.7 | $ | 89.8 | $ | (4.2 | ) | $ | 85.6 | |||||||||
Loss Ratio | 59.0 | % | -22.0 | % | 36.9 | % | 73.8 | % | -3.4 | % | 70.4 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
March 31, 2007 March 31, 2006 Current Prior Total Current Prior Total (Dollars in millions) Year Years Incurred Year Years Incurred ------------------------------ ------------------------------ Attritional $ 70.3 $ (7.6) $ 62.7 $ 69.9 $ 3.3 $ 73.2 Catastrophes 4.2 1.3 5.5 - 10.8 10.8 ------------------------------ ------------------------------ Total segment $ 74.5 $ (6.3) $ 68.3 $ 69.9 $ 14.1 $ 84.0 ------------------------------ ------------------------------ Loss Ratio 58.5% -4.9% 53.5% 57.6% 11.6% 69.3% (Some amounts may not reconcile due to rounding.)
The International segment’s incurred losses and LAE decreased 44.2%18.7%, or $37.9$15.7 million, for the three months ended September 30, 2006March 31, 2007 as compared to the same period in 2005.2006. The segment’s loss ratio improvement of 33.5improved by 15.8 points over the comparable 20052006 period, was primarily due to the decrease in current year catastrophe losses and more favorable loss development on16.5 point improvement of prior years attritional reserves.losses.
Underwriting Expenses. Underwriting expenses are comprised of commission, brokerage, taxes and fees as well as other underwriting expenses, the latter being the direct expenses of the Company. Total underwriting expenses were $138.7 million and $144.9 million for the three months ended March 31, 2007 and 2006, respectively. The Company’s expense ratio, which is calculated by dividing underwriting expenses by net premiums earned, was 22.9%24.4% and 24.0% for the three months ended September 30,March 31, 2007 and 2006, compared to 23.8% for the three months ended September 30, 2005.respectively.
27
The following table shows the expense ratios for each of the Company’s operating segments for the three months ended September 30,March 31, 2007 and 2006.
Segment Expense Ratios - ----------------------------------------------------------------------------------- Segment 2007 2006and 2005.- ----------------------------------------------------------------------------------- U.S. Reinsurance 23.2% 24.9% U.S. Insurance 23.9% 20.7% Specialty Underwriting 28.2% 29.8% International 25.6% 22.3%
Segment Expense Ratios Segment 2006 2005 U.S. Reinsurance 21.9 % 22.0 % U.S. Insurance 21.4 % 24.0 % Specialty Underwriting 23.7 % 24.2 % International 25.3 % 26.5 %
Segment underwriting expenses decreased by 12.8%4.0% to $127.4$138.1 million infor the three months ended September 30, 2006March 31, 2007 from $146.0$143.9 million infor the three months ended September 30, 2005.March 31, 2006. Commission, brokerage, taxes and fees decreased by $19.1$10.5 million, principally reflecting decreases indue to decreased premium volume and changes in the mix and distribution channels of business. Segment other underwriting expenses increased 1.6%, reflecting normal infrastructure growth.for the three months ended March 31, 2007 were $24.2 million compared to $19.5 million for the three months ended March 31, 2006, primarily due to an increase in compensation and benefit costs. Contributing to the segment underwriting expense decrease waswere a 32.3%29.4% ($15.14.5 million) decrease in the U.S. InsuranceSpecialty Underwriting operation and an 11.2%a 15.3% ($6.511.0 million) decrease in the U.S. Reinsurance operation, partially offset by a 25.6%20.1% ($2.45.5 million) increase in the Specialty UnderwritingInternational operation and a 1.5%14.7% ($0.54.3 million) increase in the InternationalU.S. Insurance operation. The changes for each operation’s expenses principally resulted from changes in commission expenses relateddue to changes in premium volume and business mix by class and type and in some cases, changes in the use of specific reinsurance.type.
The Company’s combined ratio, which is the sum of the loss and expense ratios, improveddecreased by 63.319.5 points to 81.7%81.6% in the three months ended September 30, 2006March 31, 2007 compared to 145.0% in101.1% for the three months ended September 30, 2005,March 31, 2006, primarily resulting from reducedas a result of lower prior years’ catastrophe and attritional losses.
30
The following table shows the combined ratios for each of the Company’s operating segments for the three months ended September 30, 2006March 31, 2007 and 2005.2006. The combined ratios for all operations were impacted by the loss and expense ratio variability noted above.
Segment Combined Ratios | ||||||||
---|---|---|---|---|---|---|---|---|
Segment | 2006 | 2005 | ||||||
U.S. Reinsurance | 89.9 | % | 211.9 | % | ||||
U.S. Insurance | 87.3 | % | 82.4 | % | ||||
Specialty Underwriting | 74.7 | % | 153.8 | % | ||||
International | 62.2 | % | 96.9 | % |
Segment Combined Ratios - ----------------------------------------------------------------------------------- Segment 2007 2006 - ----------------------------------------------------------------------------------- U.S. Reinsurance 56.2% 100.3% U.S. Insurance 124.2% 95.9% Specialty Underwriting 105.5% 140.1% International 79.1% 91.6%
Investment Results.Net investment income increased 25.4%14.3% to $84.7$95.9 million for the three months ended September 30, 2006March 31, 2007 from $67.6$83.9 million for the three months ended September 30, 2005, primarilyMarch 31, 2006, reflecting the growth in invested assets to $8.2$8.6 billion at September 30, 2006 as compared to $7.8March 31, 2007 from $8.5 billion at September 30, 2005.March 31, 2006; additional other investment income from limited partnerships, which income tends to fluctuate period over period and a reduction in interest credited on funds held. Period to period changes in investment income are impacted by changes in the level and mix of invested assets and prevailing interest rates and the results from equity investments in limited partnerships included in other investment income (expense), which tend to fluctuate period to period.rates.
28
The following table shows the components of net investment income for the three months ended March 31, 2007 as indicated:
(Dollars in thousands) | 2006 | 2005 | ||||||
---|---|---|---|---|---|---|---|---|
Fixed maturities | $ | 73,585 | $ | 73,653 | ||||
Equity securities | 3,009 | 3,295 | ||||||
Short-term investments | 7,127 | 2,884 | ||||||
Other investment income (expense) | 4,740 | (7,920 | ) | |||||
Total gross investment income | 88,461 | 71,912 | ||||||
Interest credited and other expense | (3,717 | ) | (4,327 | ) | ||||
Total investment expenses | $ | 84,744 | $ | 67,585 | ||||
(Dollars in thousands) 2007 2006 --------- --------- Fixed maturities $ 75,144 $ 74,904 Equity securities 2,840 2,805 Short-term investments 8,473 4,082 Other investment income 11,138 6,736 --------- --------- Total gross investment income 97,595 88,527 Interest credited and other expense (1,661) (4,622) --------- --------- Total investment expenses $ 95,934 $ 83,905 --------- ---------
The following table shows a comparison of various investment yields for the periods indicated:
2006 | 2005 | |||||||
---|---|---|---|---|---|---|---|---|
Imbedded pre-tax yield of cash and invested assets at | ||||||||
September 30 and December 31 | 4.6 | % | 4.5 | % | ||||
Imbedded after-tax yield of cash and invested assets at | ||||||||
September 30 and December 31 | 3.7 | % | 3.6 | % | ||||
Annualized pre-tax yield on average cash and invested | ||||||||
assets for the three months ended September 30 | 4.4 | % | 3.7 | % | ||||
Annualized after-tax yield on average cash and invested | ||||||||
assets for the three months ended September 30 | 3.5 | % | 3.1 | % |
2007 2006 - -------------------------------------------------------------------------------------- Imbedded pre-tax yield of cash and invested assets at March 31 and December 31 4.8% 4.6% Imbedded after-tax yield of cash and invested assets at March 31 and December 31 3.8% 3.7% Annualized pre-tax yield on average cash and invested assets for the three months ended March 31 4.6% 4.4% Annualized after-tax yield on average cash and invested assets for the three months ended March 31 3.6% 3.6%
Net realized capital gains wereof $33.9 million for the three months ended March 31, 2007 reflected realized capital gains on the Company’s investments of $31.7 million, resulting principally from gains on the sale of equity securities of $31.0 million, gains on the sale of fixed maturities of $0.6 million and a $2.3 million fair value adjustment on equity and other invested asset securities, partially offset by $0.1 million of realized capital losses primarily on the sale of equity securities. Net realized capital gains of $9.0 million for the three months ended September 30,March 31, 2006 reflecting realized capital gains on the Company’s equity securities. Net realized capital gains were $18.6 million for the three months ended September 30, 2005, reflecting $19.5reflected $4.8 million of realized capital gains on the Company’s investments, resulting principally from $13.0 million of gains for the partial sale of the interest only strips of
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mortgage-backed securities (“interest only strips”) portfolio and $6.5 million of gains from equity securities partially offset by $0.9and $4.2 million from the sale of realized capital losses on equity securities.fixed maturities.
Corporate, Non-allocated Expenses. Corporate underwriting expenses not allocated to segments were $1.1$0.6 million and $0.9 million for the three months ended September 30,March 31, 2007 and 2006, and September 30, 2005.respectively.
Interest, fees and bond issue cost amortization expense for the three months ended September 30,March 31, 2007 and 2006 and 2005 were $17.4 million and $17.5 million, respectively. Interest, fees and bond issue cost amortization expense formillion. For the three months ended September 30,March 31, 2007 and 2006 and 2005 includedthis expense was comprised of $7.8 million related to the senior notes, $9.4 million related to the junior subordinated debt securities, $0.2 million related to the bond issue cost amortization and $0.04less than $0.05 million and $0.07 million, respectively, related to the credit line under the Company’s revolving credit facility.
Other expense for the three months ended September 30, 2006March 31, 2007 was $17.9$1.2 million compared to $15.0$13.0 million for the three months ended September 30, 2005.March 31, 2006. The change in other expense for the three months ended September 30, 2006March 31, 2007 was primarily due to an increase in deferred gains on a retroactive reinsurance agreement with a non-consolidating affiliate, partially offset by a decreasefluctuations in foreign exchange losses.currency exchange.
Income Taxes.The Company’s income tax expense is primarily a function of its statutory tax rate, coupled with the impact from tax-preferenced investment income. The Company recognized income tax expense of $46.1 million for the three months ended September 30, 2006 compared to a $50.6 million tax benefit for the three months ended September 30, 2005 primarily due to $161.0 million of pre-tax income in 2006 as compared to a catastrophe impacted $224.1 million pre-tax loss in 2005.
Net Income (Loss).Net income was $114.9 million for the three months ended September 30, 2006 compared to a net loss of $173.6 million for the three months ended September 30, 2005, essentially reflecting the differential in catastrophe losses between periods.
Premiums Written. Gross written premiums decreased 9.7% to $2,388.5 million for the nine months ended September 30, 2006 from $2,644.9 million for the nine months ended September 30, 2005. The decrease in gross written premiums was primarily due to segment level variability. The Specialty Underwriting operation decreased 21.3% ($52.9 million), reflecting a $48.0 million decrease in A&H business, as pricing for this business continues to be difficult and a $14.6 million decrease in marine and aviation business, partially offset by a $9.7 million increase in surety business. The U.S. Insurance operation decreased 12.3% ($93.1 million), mainly reflecting continued retrenchment in the California workers’ compensation business and run-off of the credit business. The U.S. Reinsurance operation decreased 10.1% ($111.3 million), principally reflecting an $85.0 million decrease in treaty casualty business and $25.8 million decrease in treaty property business, partially offset by a $4.8 million increase in facultative business. Partially offsetting these declines was a 0.2% ($1.0 million) increase in the International operation, primarily due to a $30.4 million increase in international business written through the Miami and New Jersey offices, representing primarily Latin American business and a $14.3 million increase in Canadian business, offset by a $42.8 million decrease in Asian business.
Ceded premiums decreased to $664.1 million for the nine months ended September 30, 2006 from $690.6 million for the nine months ended September 30, 2005. Ceded premiums relate primarily to quota share reinsurance agreements between Everest Re, Bermuda Re and Everest International.
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Net written premiums decreased by 11.8% to $1,724.3 million for the nine months ended September 30, 2006 from $1,954.3 million for the nine months ended September 30, 2005, reflecting a $256.4 million decrease in gross written premiums combined with a $26.5 million decrease in ceded premiums.
Premium Revenues.Net premiums earned decreased by 12.5% to $1,666.2 million in the nine months ended September 30, 2006 from $1,905.1 million in the nine months ended September 30, 2005. Contributing to this decrease was a 23.3% ($41.5 million) decrease in the Specialty Underwriting operation, a 17.1% ($86.1 million) decrease in the U.S. Insurance operation and a 14.5% ($124.4 million) decrease in the U.S. Reinsurance operation, partially offset by a 3.6% ($13.1 million) increase in the International operation. Reinstatement premiums, related to catastrophe business included in net earned premiums, were $1.0 million and $38.9 million for the nine months ended September 30, 2006 and 2005, respectively. All of these changes reflect period to period changes in net written premiums and business mix, together with normal variability in earnings patterns. Business mix changes occur not only as the Company shifts emphasis between products, lines of business, distribution channels and markets, but also as individual contracts renew or non-renew, almost always with changes in coverage, structure, prices and/or terms, and as new contracts are accepted with coverages, structures, prices and/or terms different from those of expiring contracts. As premium reporting, earnings, loss and commission characteristics derive from the provisions of individual contracts, the continuous turnover of individual contracts, arising from both strategic shifts and day to day underwriting, can and does introduce appreciable background variability in various underwriting line items. Changes in estimates related to the reporting patterns of ceding companies also affect premiums earned.
ExpensesIncurred Losses and LAE. Incurred losses and LAE represent the Company’s estimates, which are subject to considerable uncertainty due to the timing, complexity and nature of the underlying ceding company exposures. These estimates reflect management’s best judgment based on all available information, but ultimate losses could differ, perhaps materially. The change in incurred losses and LAE, period over period also reflects variability in premiums earned and changes in the loss expectation assumptions for business written, net prior period reserve development, as well as catastrophe losses. Incurred losses and LAE are also impacted by changes in the pricing of the underlying business, as well as variability relating to changes in the mix of business by class and type.
The Company’s losses and LAE reserves reflect estimates of ultimate claim liability. Such estimates are re-evaluated on an ongoing basis, including re-estimates of prior period reserves, taking into consideration all available information and, in particular, newly reported loss and claim experience. The effect of such re-evaluations impacts incurred losses for the current period. The Company notes that its analytical methods and processes operate at multiple levels, including individual contracts, groupings of like contracts, classes and lines of business, internal business units, segments, legal entities, and in the aggregate. The complexities of the Company’s business and operations require analyses and adjustments, both qualitative and quantitative, at these various levels. Additionally, the attribution of reserves, changes in reserves and incurred losses between accident year and underwriting year requires adjustments and allocations, both qualitative and quantitative, at these various levels. All of these processes, methods and practices appropriately balance actuarial science, business expertise and management judgment in a manner intended to assure the accuracy, precision and consistency of the Company’s reserving practices, which are fundamental to the Company’s operation. The Company notes, however, that the underlying reserves remain estimates, which are subject to variation and that the relative degree of variability is generally least when reserves are considered in the aggregate and generally increases as the focus shifts to more granular data levels.
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The following table shows the components of the Company’s incurred losses and LAE for the nine months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
All Segments | |||||||||||||||||||||||
Attritional (a) | $ | 1,004.8 | $ | (70.6 | ) | $ | 934.2 | $ | 1,173.8 | $ | (73.1 | ) | $ | 1,100.7 | |||||||||
Catastrophes | 4.7 | 155.9 | 160.7 | 448.2 | 52.5 | 500.6 | |||||||||||||||||
A&E | - | 8.0 | 8.0 | - | 10.7 | 10.7 | |||||||||||||||||
Total All Segments | $ | 1,009.6 | $ | 93.3 | $ | 1,102.9 | $ | 1,621.9 | $ | (9.9 | ) | $ | 1,612.0 | ||||||||||
Loss Ratio | 60.6 | % | 5.6 | % | 66.2 | % | 85.1 | % | -0.5 | % | 84.6 | % | |||||||||||
(a) Attritional losses exclude catastrophe and A&E losses. (Some amounts may not reconcile due to rounding.) |
The Company’s incurred losses and LAE decreased by 31.6% to $1,102.9 million for the nine months ended September 30, 2006 from $1,612.0 million for the nine months ended September 30, 2005, reflecting significantly reduced current year catastrophe losses and a reduction in current year attritional losses, partially offset by increased prior years reserve development on catastrophe losses and lower earned premiums.
The Company’s loss ratio, which is calculated by dividing incurred losses and LAE by current year net premiums earned, improved by 18.4 points to 66.2% over the comparable 2005 period, principally due to a 23.3 point improvement on current year catastrophe losses, partially offset by 6.1 points of increased prior years reserve strengthening. Included in the 5.6 points of prior years reserve strengthening for the nine months ended September 30, 2006 was 9.4 points of unfavorable prior years catastrophe reserve development, principally from the 2005 hurricanes, and 0.5 points of unfavorable A&E reserve development, partially offset by 4.2 points of favorable attritional reserve development due to favorable claims emergence trends, primarily within property and other short-tailed lines of business.
The following table shows the U.S. Reinsurance segment components of incurred losses and LAE for the nine months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 410.9 | $ | (13.3 | ) | $ | 397.6 | $ | 495.7 | $ | 0.3 | $ | 495.9 | ||||||||||
Catastrophes | - | 109.3 | 109.3 | 381.8 | 31.7 | 413.4 | |||||||||||||||||
A&E | - | 8.0 | 8.0 | - | 10.7 | 10.7 | |||||||||||||||||
Total segment | $ | 410.9 | $ | 104.0 | $ | 514.9 | $ | 877.4 | $ | 42.6 | $ | 920.0 | |||||||||||
Loss Ratio | 56.2 | % | 14.2 | % | 70.5 | % | 102.6 | % | 5.0 | % | 107.6 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
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The U.S. Reinsurance segment’s incurred losses and LAE decreased 44.0%, or $405.1 million, for the nine months ended September 30, 2006 as compared to the same period in 2005. The segment’s loss ratio improvement of 37.1 points over the comparable 2005 period was primarily due to a decrease in the current year catastrophe losses, principally within the treaty property unit, coupled with an improvement in the overall attritional loss ratio, reflecting more favorable current year pricing, principally on property business, partially offset by an increase in prior years catastrophe losses.
The following table shows the U.S. Insurance segment components of incurred losses and LAE for the nine months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 307.2 | $ | (16.2 | ) | $ | 291.1 | $ | 359.5 | $ | (23.1 | ) | $ | 336.4 | |||||||||
Catastrophes | - | 0.3 | 0.3 | - | - | - | |||||||||||||||||
Total segment | $ | 307.2 | $ | (15.9 | ) | $ | 291.3 | $ | 359.5 | $ | (23.1 | ) | $ | 336.4 | |||||||||
Loss Ratio | 73.7 | % | -3.8 | % | 69.9 | % | 71.5 | % | -4.6 | % | 66.9 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
The U.S. Insurance segment’s incurred losses and LAE decreased 13.4%, or $45.1 million, for the nine months ended September 30, 2006 as compared to the same period in 2005, primarily reflecting reduced earned premiums, which related to the continued reduction in the California workers’ compensation business and run-off of the credit program. The segment’s loss ratio increased 3.0 points from the comparable 2005 period primarily due to increased current year reserves for attritional losses, reflecting higher loss ratios established for new programs.
The following table shows the Specialty Underwriting segment components of incurred losses and LAE for the nine months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 81.9 | $ | (23.8 | ) | $ | 58.2 | $ | 113.7 | $ | (25.3 | ) | $ | 88.4 | |||||||||
Catastrophes | - | 32.1 | 32.1 | 39.4 | 10.6 | 50.0 | |||||||||||||||||
Total segment | $ | 81.9 | $ | 8.3 | $ | 90.2 | $ | 153.1 | $ | (14.7 | ) | $ | 138.4 | ||||||||||
Loss Ratio | 60.0 | % | 6.1 | % | 66.1 | % | 86.0 | % | -8.3 | % | 77.7 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
The Specialty Underwriting segment’s incurred losses and LAE decreased 34.8%, or $48.2 million, for the nine months ended September 30, 2006 as compared to the same period in 2005, reflecting a reduction in earned premiums across all classes of business and decreased catastrophe losses.
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The following table shows the International segment components of incurred losses and LAE for the nine months ended as indicated:
September 30, 2006 | September 30, 2005 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
(Dollars in millions) | Current Year | Prior Years | Total Incurred | Current Year | Prior Years | Total Incurred | |||||||||||||||||
Attritional | $ | 204.7 | $ | (17.3 | ) | $ | 187.4 | $ | 204.9 | $ | (24.9 | ) | $ | 180.0 | |||||||||
Catastrophes | 4.7 | 14.3 | 19.0 | 27.0 | 10.2 | 37.2 | |||||||||||||||||
Total segment | $ | 209.4 | $ | (3.0 | ) | $ | 206.4 | $ | 231.9 | $ | (14.7 | ) | $ | 217.2 | |||||||||
Loss Ratio | 54.8 | % | -0.8 | % | 54.0 | % | 62.9 | % | -4.0 | % | 58.9 | % | |||||||||||
(Some amounts may not reconcile due to rounding.) |
The International segment’s incurred losses and LAE decreased 5.0%, or $10.8 million, for the nine months ended September 30, 2006 as compared to the same period in 2005. The segment’s loss ratio improved by 4.9 points over the comparable 2005 period, primarily reflecting reduced current year catastrophe losses in Canada, Asia and international.
Underwriting Expenses. The Company’s expense ratio, which is calculated by dividing underwriting expenses by net premiums earned, was 23.6% for the nine months ended September 30, 2006 compared to 24.6% for the nine months ended September 30, 2005.
The following table shows the expense ratios for each of the Company’s operating segments for the nine months ended September 30, 2006 and 2005.
Segment Expense Ratios | ||||||||
---|---|---|---|---|---|---|---|---|
Segment | 2006 | 2005 | ||||||
U.S. Reinsurance | 24.2 | % | 24.5 | % | ||||
U.S. Insurance | 19.8 | % | 23.4 | % | ||||
Specialty Underwriting | 27.1 | % | 25.9 | % | ||||
International | 24.5 | % | 24.5 | % |
Segment underwriting expenses decreased by 15.9% to $389.9 million for the nine months ended September 30, 2006 compared to $463.4 million for the nine months ended September 30, 2005. Commission, brokerage, taxes and fees decreased by $70.2 million, principally reflecting changes in premium volume and changes in the mix and distribution channel of business. Segment other underwriting expenses decreased by $3.3 million. Contributing to the segment underwriting expense decreases was a 29.8% ($35.1 million) decrease in the U.S. Insurance operation, a 19.8% ($9.1 million) decrease in the Specialty Underwriting operation and a 15.5% ($32.5 million) decrease in the U.S. Reinsurance operation, partially offset by a 3.6% ($3.2 million) increase in the International operation. The changes for each operation’s expenses principally resulted from changes in commission expenses related to changes in premium volume and business mix by class and type and, in some cases, changes in the use of specific reinsurance.
The Company’s combined ratio, which is the sum of the loss and expense ratios, decreased by 19.4 points to 89.8% for the nine months ended September 30, 2006 compared to 109.2% for the nine months ended September 30, 2005, principally as a result of lower catastrophe and attritional losses.
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The following table shows the combined ratios for each of the Company’s operating segments for the nine months ended September 30, 2006 and 2005. The combined ratios for all operations were impacted by the loss and expense ratio variability noted above.
Segment Combined Ratios | ||||||||
---|---|---|---|---|---|---|---|---|
Segment | 2006 | 2005 | ||||||
U.S. Reinsurance | 94.6 | % | 132.1 | % | ||||
U.S. Insurance | 89.7 | % | 90.3 | % | ||||
Specialty Underwriting | 93.2 | % | 103.6 | % | ||||
International | 78.5 | % | 83.4 | % |
Investment Results.Net investment income increased 7.4% to $260.6 million for the nine months ended September 30, 2006 from $242.6 million for the nine months ended September 30, 2005, principally reflecting growth in invested assets to $8.2 billion at September 30, 2006 as compared to $7.8 billion at September 30, 2005. Period to period changes in investment income are impacted by changes in the level and mix of invested assets, prevailing interest rates and the results from equity investments in limited partnerships included in other investment income, which tend to fluctuate period to period.
The following table shows the components of net investment income for the nine months ended as indicated:
(Dollars in thousands) | 2006 | 2005 | ||||||
---|---|---|---|---|---|---|---|---|
Fixed maturities | $ | 224,936 | $ | 234,574 | ||||
Equity securities | 8,718 | 7,795 | ||||||
Short-term investments | 17,105 | 7,260 | ||||||
Other investment income | 22,825 | 10,261 | ||||||
Total gross investment income | 273,584 | 259,890 | ||||||
Interest credited and other expense | (13,013 | ) | (17,313 | ) | ||||
Total net investment income | $ | 260,571 | $ | 242,577 | ||||
The following table shows a comparison of various investment yields for the periods indicated:
2006 | 2005 | |||||||
---|---|---|---|---|---|---|---|---|
Imbedded pre-tax yield of cash and invested assets at | ||||||||
September 30 and December 31 | 4.6 | % | 4.5 | % | ||||
Imbedded after-tax yield of cash and invested assets at | ||||||||
September 30 and December 31 | 3.7 | % | 3.6 | % | ||||
Annualized pre-tax yield on average cash and invested | ||||||||
assets for the nine months ended September 30 | 4.5 | % | 4.5 | % | ||||
Annualized after-tax yield on average cash and invested | ||||||||
assets for the nine months ended September 30 | 3.7 | % | 3.6 | % |
Net realized capital gains were $20.2 million for the nine months ended September 30, 2006, reflecting realized capital gains on the Company’s investments of $23.1 million, resulting principally from gains on equity securities of $18.8 million and fixed maturities of $4.3 million, partially offset by $2.8 million of realized capital losses on equity securities. Net realized capital gains were $38.3 million for the nine months ended September
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30, 2005, reflecting realized capital gains on the Company’s investments of $48.1 million, resulting principally from gains on fixed maturities of $28.6 million and equity securities of $6.5 million, coupled with $13.0 million of gains from the partial sale of the Company’s interest only strip portfolio, partially offset by $9.8 million of realized capital losses, which included $4.4 million on fixed maturities, $1.2 million on equity securities and $4.1 million related to write-downs in the value of interest only strips deemed to be impaired on an other than temporary basis in accordance with Emerging Issues Task Force Issue No. 99-20, “Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets” (“EITF 99-20”).
Corporate, Non-allocated Expenses. Corporate underwriting expenses not allocated to segments for the nine months ended September 30, 2006 and September 30, 2005 were $3.7 million and $4.6 million, respectively.
Interest, fees and bond issue cost amortization expense for the nine months ended September 30, 2006 and 2005 were $52.3 million and $56.8 million, respectively. Interest, fees and bond issue cost amortization expense for the nine months ended September 30, 2006 included $23.4 million related to the senior notes, $28.1 million related to the junior subordinated debt securities, $0.7 million related to the bond issue cost amortization and $0.1 million relating to the credit line under the Company’s revolving credit facility. Interest, fees and bond issue cost amortization expense for the nine months ended September 30, 2005 included $27.7 million related to the senior notes, $28.1 million related to the junior subordinated debt securities, $0.8 million related to the bond issue cost amortization and $0.2 million related to credit line under the Company’s revolving credit facility. Interest expense on senior notes decreased due to the retirement on March 15, 2005, of the 8.5% senior notes issued on March 14, 2000.
Other expense for the nine months ended September 30, 2006 was $23.9 million compared to $13.2 million for the nine months ended September 30, 2005. This change was primarily due to an increase in deferred gains on a retroactive reinsurance agreement with an unconsolidated affiliate.
Income Taxes.The Company’s income tax expense is primarily a function of its statutory tax rates, coupled with the impact from tax-preferencedtax preferenced investment income. The Company recognizedrecorded income tax expense of $94.5 million and $3.7$57.0 million for the ninethree months ended September 30, 2006March 31, 2007 compared to $12.2 million for the three months ended
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March 31, 2006. The increase in tax expense and September 30, 2005, respectively,effective tax rate was primarily due to $374.3 million ofthe increase in pre-tax income, in 2006 as compared to $36.0 millionwhich mitigated the impact of pre-tax income fortax preferenced investments on the same period in 2005.effective tax rate.
Net Income.Net income for the three months ended March 31, 2007 was $279.8$159.3 million compared to $43.5 million for the ninethree months ended September 30,March 31, 2006 comparedincreased primarily due to net income of $32.3 million for the nine months ended September 30, 2005, essentially reflecting the differential in catastrophe losses between periods.improved underwriting results and increased realized capital gains.
Market Sensitive Instruments.Instruments. The Securities and Exchange CommissionCommission’s Financial Reporting Release #48 requires registrants to clarify and expand upon the existing financial statement disclosure requirements for derivative financial instruments, derivative commodity instruments and other financial instruments (collectively, “market sensitive instruments”). The Company does not generally enter into market sensitive instruments for trading purposes.
The Company’s current investment strategy seeks to maximize after-tax income through a high quality, diversified, taxable and tax-preferenced fixed maturity portfolio, while maintaining an adequate level of liquidity. The Company’s mix of taxable and tax preferencedtax-preferenced investments is adjusted continuously, consistent with its current and projected operating results, market conditions and the Company’s tax position. The fixed maturities in the investment portfolio are comprised of non-trading available for sale securities. Additionally,
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the Company invests in equity securities, which it believes will enhance the risk-adjusted total return of the investment portfolio.
The overall investment strategy considers the scope of present and anticipated Company operations. In particular, estimates of the financial impact resulting from non-investment asset and liability transactions, together with the Company’s capital structure and other factors, are used to develop a net liability analysis. This analysis includes estimated payout characteristics for which the investments of the Company provide liquidity. This analysis is considered in the development of specific investment strategies for asset allocation, duration and credit quality. The change in overall market sensitive risk exposure principally reflects the asset changes that took place during the period.
Interest Rate Risk.The Company’s $8.2$8.6 billion investment portfolio at September 30, 2006March 31, 2007 is principally comprised of fixed maturity securities, which are subject to interest rate risk and foreign currency rate risk, and equity securities, which are subject to equity price risk.fluctuations. The impact of thesethe foreign exchange risks on the investment portfolio is generally mitigated by changes in the dollar value of operating assets andforeign currency denominated liabilities and their associated income statement impact.
Interest rate risk is the potential change in value of the fixed maturity portfolio, including short-term investments, due tofrom a change in market interest rates. In a declining interest rate environment, it includes prepayment risk on the $478.4$207.0 million of mortgage-backed securities in the $6,060.2 million fixed maturity portfolio.securities. Prepayment risk results from potential accelerated principal payments that shorten the average life and thus the expected yield of the security.
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The table below displays the potential impact of market value fluctuations and after-tax unrealized appreciation on the Company’s fixed maturity portfolio (including $701.7$732.7 million of short-term investments) as of September 30, 2006March 31, 2007 based on upward and downward parallel and immediate 100 and 200 basis point shifts in interest rates up and down in 100 basis point increments.rates. For legal entities with a U.S. dollar functional currency, this modeling was performed on each security individually. To generate appropriate price estimates on mortgage-backed securities, changes in prepayment expectations under different interest rate environments were taken into account. For legal entities with a non-U.S. dollar functional currency, the effective duration of the involved portfolio of securities was used as a proxy for the market value change under the various interest rate change scenarios. All amounts are in U.S. dollars and are presented in millions.
As of September 30, 2006 Interest Rate Shift in Basis Points | |||||||||||||||||
-200 | -100 | 0 | 100 | 200 | |||||||||||||
Total Market Value | $ | 7,424.1 | $ | 7,096.7 | $ | 6,761.9 | $ | 6,383.6 | $ | 5,981.9 | |||||||
Market Value Change from Base (%) | 9.8 | % | 5.0 | % | 0.0 | % | -5.6 | % | -11.5 | % | |||||||
Change in Unrealized Appreciation | |||||||||||||||||
After-tax from Base ($) | $ | 430.5 | $ | 217.6 | $ | - | $ | (245.9 | ) | $ | (507.0 | ) |
As of March 31, 2007 Interest Rate Shift in Basis Points - -------------------------------------------------------------------------------------------------------- -200 -100 0 100 200 - -------------------------------------------------------------------------------------------------------- Total Market Value $ 7,343.9 $ 7,042.7 $ 6,737.1 $ 6,391.4 $ 6,020.9 Market Value Change from Base (%) 9.0% 4.5% 0.0% -5.1% -10.6% Change in Unrealized Appreciation After-tax from Base ($) $ 394.5 $ 198.7 $ - $ (224.7) $ (465.5)
The Company had $7,446.6$7,269.0 million and $7,729.2$7,397.3 million of reserves for losslosses and LAE as of September 30, 2006March 31, 2007 and December 31, 2005,2006, respectively. These amounts are recorded at their nominal or estimated ultimate payment amount,value as opposed to fair value, which would reflect a discount adjustment to reflect the time value of money. Since losses are paid out over a period of time, the fair value of the reserves is less than the nominal value. As interest rates rise, the fair value of the reserves decreases and, conversely, ifas interest rates decline, the fair value will increase.increases. These movements are the opposite of the interest rate impacts on the fair value of investments since reserves are future obligations.investments. While the difference between fair value and nominal value is not reflected in the Company’s financial statements, the Company’s financial results will include investment
39
income over time from the investment portfolio until the claims are paid. The Company’s loss and loss reserve obligations have an expected duration that is reasonably consistent with the duration of the Company’s fixed maturitiesincome portfolio. The existence of such obligations and the variable differential between ultimate and fair value, which in theory applies equally to invested assets and insurance liability, provides substantial mitigation of the economic effects of interest rate variability even though such mitigation is not reflected in the Company’s financial statements.
Equity Risk.Equity risk is the potential change in market value of the common stock and preferred stock portfolios arising from changing equity prices. The Company’s equity investments are mainly exchange traded and mutual funds, which invest principally in high quality common and preferred stocks that are traded on the major exchanges in the U.S. The primary investment objective in managingof the equity portfolio is to provide long-term capital growthobtain greater total return relative to bonds over time through market appreciation and income.
The table below displays the impact on market value and after-tax unrealized appreciationchange in fair value of a 10% and 20% change in equity prices up and down in 10% increments for the period indicated. The growth in exposure is primarily due to the growth in the equity portfolio. All amounts are in U.S. dollars and are presented in millions.
As of September 30, 2006 Change in Equity Values in Percent | |||||||||||||||||
-20% | -10% | 0% | 10% | 20% | |||||||||||||
Market Value of the Equity Portfolio | $ | 897.8 | $ | 1,010.0 | $ | 1,122.2 | $ | 1,234.4 | $ | 1,346.6 | |||||||
After-tax Change in Unrealized Appreciation | $ | (145.9 | ) | $ | (72.9 | ) | $ | - | $ | 72.9 | $ | 145.9 |
As of March 31, 2007 Change in Equity Values in Percent - -------------------------------------------------------------------------------------------------------- -20% -10% 0% 10% 20% - -------------------------------------------------------------------------------------------------------- Fair Value of the Equity Portfolio $ 934.3 $ 1,051.0 $ 1,167.8 $ 1,284.6 $ 1,401.4 After-tax Change in Fair Value $ (151.8) $ (75.9) $ - $ 75.9 $ 151.8
Foreign Exchange Risk.Foreign currency rate risk is the potential change in value, income and cash flow arising from adverse changes in foreign currency exchange rates. Each of the Company’s non-U.S. (“foreign”) operations maintains capital in the currency of the country of its geographic location consistent with local regulatory guidelines. Generally, the Company prefers to maintain the capital of its foreign operations in U.S. dollar assets, although this varies by regulatory jurisdiction in accordance with market needs. Each foreign
31
operation may conduct business in its local currency, as well as the currency of other countries in which it operates. The primary foreign currency exposures for these foreign operations are the Canadian Dollar, the British Pound Sterling and the Euro. The Company mitigates foreign exchange exposure by a generalgenerally matching of the currency and duration of its assets to its corresponding operating liabilities. In accordance with Financial Accounting Standards Board Statement No. 52 “Foreign Currency Translation”, the Company translates the assets, liabilities and income of non-U.S. dollar functional currency legal entities to the U.S. dollar. This translation amount is reported as a component of other comprehensive income (loss). As of September 30, 2006March 31, 2007 there has been no material change in exposure to foreign exchange rates as compared to December 31, 2005.2006.
Safe Harbor Disclosure.This report contains forward-looking statements within the meaning of the U.S. federal securities laws. The Company intends these forward-looking statements to be covered by the safe harbor provisions for forward-looking statements in the federal securities laws. In some cases, these statements can be identified by the use of forward-looking words such as “may”, “will”, “should”, “could”, “anticipate”, “estimate”, “expect”, “plan”, “believe”, “predict”, “potential” and “intend”. Forward-looking statements contained in this report include information regarding the Company’s reserves for losses and LAE, the adequacy of the Company’s provision for uncollectible balances, estimates of the Company’s catastrophe exposure, and the effects of catastrophic events including the most recent hurricanes, on the Company’s financial statements and the ability of the Company’s subsidiaries to pay dividends. Forward-looking statements only reflect the Company’s expectations and are not guarantees of performance. These statements involve risks, uncertainties and assumptions. Actual events or results may differ materially from the Company’s expectations. Important
40
factors that could cause the Company’s actual events or results to be materially different from the Company’s expectations include the uncertainties that surround the estimating of reserves for losses and LAE, those discussed in Note 45 of Notes to Consolidated Financial Statements (unaudited) included in this report and the risks described under the caption “Risk Factors” in the Company’s most recent Annual Report on Form 10-K, Part I, Item 1A. The Company undertakes no obligation to update or revise publicly any forward looking statements, whether as a result of new information, future events or otherwise.
4132
Market Risk Instruments. See "Market Sensitive Instruments" in PART I - Item 2.
4233
As of the end of the period covered by this report, the Company’s management carried out an evaluation, with the participation of the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)). Based on their evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission’s rules and forms. The Company’s management, with the participation of the Chief Executive Officer and Chief Financial Officer, also conducted an evaluation of the Company’s internal control over financial reporting to determine whether any changes occurred during the quarter covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. Based on that evaluation, there has been no such change during the quarter covered by this report.
4334
In the ordinary course of business, the Company is involved in lawsuits, arbitrations and other formal and informal dispute resolution procedures, the outcomes of which will determine the Company’s rights and obligations under insurance, reinsurance and other contractual agreements. In some disputes, the Company seeks to enforce its rights under an agreement or to collect funds owing to it. In other matters, the Company is resisting attempts by others to collect funds or enforce alleged rights. These disputes arise from time to time and as they arise are addressed, and ultimately resolved through both informal and formal means, including negotiated resolution, arbitration and litigation. In all such matters, the Company believes that its positions are legally and commercially reasonable. While the final outcome of these matters cannot be predicted with certainty, the Company does not believe that any of these matters, when finally resolved, will have a material adverse effect on the Company’s financial position or liquidity. However, an adverse resolution of one or more of these items in any one quarter or fiscal year could have a material adverse effect on the Company’s results of operations in that period.
In May 2005, the Company received and responded to a subpoena from the SEC seeking information regarding certain loss mitigation insurance products. Group, the Company’s parent, has stated that the Company will fully cooperate with this and any future inquiries and that the Company does not believe that it has engaged in any improper business practices with respect to loss mitigation insurance products.
The Company’s insurance subsidiaries have also received and have responded to broadly distributed information requests by state regulators including among others, from Delaware and Georgia.
No material changes.
None.
None.
None.
None.
4435
Exhibit Index: |
Exhibit No. | Description |
31.1 | Section 302 Certification of Joseph V. Taranto |
31.2 | Section 302 Certification of |
32.1 | Section 906 Certification of Joseph V. Taranto and |
4536
Everest Reinsurance Holdings, Inc.
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to
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(Duly Authorized Officer and Principal Financial Officer) | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
Dated: May 15, 2007 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
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