[Scottish Re Group Limited Letterhead]
October 10, 2007
BY EDGAR AND FEDERAL EXPRESS
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Jim B. Rosenberg
Senior Assistant Chief Accountant
Division of Corporation Finance
United States Securities and Exchange Commission
100 F Street, N.E.
Washington, D.C. 20549
Re: Scottish Re Group Limited
Form 10-K for the Fiscal Year Ended December 31, 2006
Filed March 1, 2007
Amended Form 10-K for the Fiscal Year Ended December 31, 2006
Filed April 26, 2007
Form 10-Q for the Quarter Ended June 30, 2007
Filed August 14, 2007
File Number: 001-16855
Dear Mr. Rosenberg:
This letter is being submitted in response to the comments given by the
staff (the "Staff") of the Division of Corporation Finance of the United States
Securities and Exchange Commission (the "Commission") set forth in your letter
dated September 12, 2007 to Duncan Hayward, Chief Accounting Officer of Scottish
Re Group Limited (the "Company"), with respect to the above-referenced Form 10-K
for the fiscal year ended December 31, 2006, as amended (the "Form 10-K"), and
the Form 10-Q for the quarter ended June 30, 2007 (the "Form 10-Q").
For your convenience, we set forth each comment from your comment letter in
bold typeface and include the Company's response below it.
Form 10-K for the year ended December 31, 2006
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Critical Accounting Policies, page 50
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1. In the second quarter of 2006, you made an adjustment to reduce your
premium accruals by approximately $8.0 million related to prior periods.
This change appears to be further discussed on page 56. Please provide us
in disclosure-type format, the facts and circumstances that led to these
offsetting adjustments. Clarify "unusual activity" and to what "number of
revisions to the estimates and
Mr. Jim B. Rosenberg
October 10, 2007
Page 2
underlying assumptions" relates. Also include the impact that these facts
and circumstances may potentially have on future periods.
During the three and six months ended June 30, 2006 we made an adjustment
to revise our premium accrual estimates by $8.0 million in the context of a
total premium accrual of $221.0 million as of December 31, 2005. The impact on
net income of this adjustment was immaterial given that we had offsetting
reserves and allowances against the premium accrual. We consider this revision
of premium accrual to have been within management's expectation of the normal
variability of such an estimate.
Our premium accrual estimation process involves a thorough review process
at the individual treaty level by our actuarial and finance staff. This review
process includes an analysis of actual cash receipts from cedant company
reports, from which certain adjustments are made to eliminate unusual activity
and to establish a best estimate of our premiums. Since we receive cedant
company reporting on a one and two month lag, the premium accrual estimates may
subsequently vary either by over or under accrual as the case may be.
Accordingly, we true up our premium accrual estimates based upon actual cash
received and revise the premium trend estimates to reflect the best available
information.
The adjustment of $8.0 million was comprised of two adjustments of $4.0
million each and related primarily to the newly acquired ING block in December
2004. In respect of the first $4.0 million adjustment, we conducted a review of
the policy administration data provided to us by ING in the first year post
acquisition of the block, which exhibited unusual premium levels as a result of
two policy years of data being received together. This data had been used for
trend purposes for the accrual estimate as of December 31, 2005. Based on actual
cash received and the analysis of the data, we determined a different trend on
which to base our premium accrual and, consequently, reduced our premium accrual
estimate by $4.0 million.
In respect of the second $4.0 million adjustment, we made a revision to our
previous estimation process for a certain group of new issuances from late 2004,
for which our administrative system did not have sufficient historical
information to provide a best estimate at December 31, 2005. During 2006, we
determined the premium estimates for these new issuances based on actual cash
received. We then revised the premium accrual because our updated data from the
administrative system showed clearer historical trends of actual cash received
for our automatic premium estimation process.
Management's Discussion and Analysis in our Form 10-K disclosed a total net
impact of $4.0 million on premium accrual adjustments for the North America
segment for the year ended December 31, 2006. This represented revisions to all
premium accrual estimates recorded in that year, inclusive of the aforementioned
$8.0 million recorded in the three and six months ended June 30, 2006.
On page 49 of the Form 10-K under "Critical Accounting Policies," we
highlight our estimation processes and the likelihood that actual results could
differ from these estimates. We continue to enhance the automation of both our
assumed premium accruals and retrocession
Mr. Jim B. Rosenberg
October 10, 2007
Page 3
premium estimates. We consider the enhancements made in 2006 to have been
effective; however, under Item IA `Risk Factors' of our Form 10-Q, we highlight
our continuing process improvement program under which, among other things, we
intend to enhance further the automation of our reporting, valuation and
administrative tools. As disclosed, the results of this program may require
adjustments to our previous financial estimates, which could adversely affect
our results of operations as and when they occur. We continue to believe these
disclosures adequately describe our accounting policy and the risks inherent in
the determination of estimates on which our financial reports are based.
2. Please provide us, in disclosure-type format, the impact that reasonably
likely changes in the key assumptions identified in determining the
expected gross profit margins (i.e. mortality, persistency, maintenance
expense and interest) may have on results of operations and financial
position in terms of the effect of these changes on amortization of
deferred policy acquisition costs and your present value of in-force
business. Explain why management believes the scenarios quantified are
reasonably likely.
Please see below the following amended disclosure addressing your comment,
which we propose to update in this same format and include in our Form 10-K for
the year ended December 31, 2007.
Liabilities for Future Policy benefits for long term insurance products are
computed based on expected investment yields, mortality and lapse rates, and
other assumptions, including provisions for adverse deviation in claims and
investment yields in accordance with the provisions of FAS 60. These assumptions
are primarily based on historical experience and information provided by ceding
companies and are locked in at issue with periodic review against experience.
During the periodic review process, the Company, using loss recognition testing,
determines whether actual and anticipated experience indicates that the existing
policy reserve together with the present value of future gross premiums are
sufficient to cover the present value of future benefits, maintenance expenses
and to recover unamortized acquisition costs. Loss recognition testing conducted
in the last several years has indicated that no unlocking of assumptions on the
FAS 60 liabilities is necessary. Because of the many assumptions and the long
term nature of the business, the reserving process is inherently uncertain and
actual results could differ materially from expected.
The Company incurs significant costs in connection with acquiring new and
renewal reinsurance business. The costs that relate to the production of new
reinsurance business are deferred and are reported as Deferred Acquisition Costs
("DAC"). DAC amounts reflect the Company's expectations about the future costs
of policy issuance and underwriting. Some of the factors that can affect the
carrying value of DAC include mortality assumptions, interest spreads and policy
lapse rates.
DAC for FAS 60 traditional life reinsurance business is amortized over the
entire premium paying period in proportion to the present value of expected
future gross premiums. The present value of expected future gross premiums is
based upon the premium requirement of each policy and assumptions for mortality,
persistency and investment return at treaty issuance.
Mr. Jim B. Rosenberg
October 10, 2007
Page 4
The assumptions are not revised after treaty issuance unless the DAC balance is
deemed unrecoverable by the loss recognition testing process. Absent a premium
deficiency, variability in amortization after policy issuance or acquisition is
caused only by variability in premium volumes. Loss recognition testing
conducted over the last several years has indicated that no unlocking of
assumptions on the FAS 60 DAC was necessary nor is it expected to be necessary
in the near future.
DAC related to interest-sensitive life and investment-type contracts is
amortized over the lives of the contracts, in relation to the present value of
estimated gross profits ("EGP") from mortality, investment income, and expense
margins. The EGP for asset-intensive products includes the following components:
(1) estimates of fees charged to policyholders to cover mortality, surrenders
and maintenance costs; (2) expected interest rate spreads between income earned
and amounts credited to policyholder accounts; and (3) estimated costs of
administration. EGP is reduced by the Company's estimate of future losses due to
defaults in fixed maturity securities. DAC is sensitive to changes in
assumptions regarding these EGP components and any change in such an assumption
could have an effect on the Company's profitability. The Company periodically
reviews the EGP valuation model and assumptions so that the assumptions reflect
management's best estimate. Consequently, the level of DAC reported by the
Company reflects the current best estimate regarding the projection of future
EGP.
The Company, as a reinsurer of interest-sensitive life and investment-type
contracts, assumes treaties with a unique set of product characteristics. These
unique product characteristics, combined with the age of the treaty, either
increase or decrease the impact changes in spreads, lapses or mortality have on
the projected EGP. Since each treaty has different characteristics and is in a
different stage in its treaty life cycle, it is difficult to make general
statements as to the level and likelihood of changes in amortization due to
changes in assumptions.
For the block as a whole, management considers two assumptions to be most
significant for the interest sensitive business on the Company's balance sheet:
(1) estimated interest spread, and (2) estimated future policy lapses. In the
event that estimated interest spreads increase or decrease 25 basis points on a
permanent basis or if estimated future lapse rates increase or decrease 20% on a
permanent basis for every policy in every treaty, the DAC balance of $82.3
million at December 31, 2006 would be expected to change by the following
percentages:
One-Time One-Time
Quantitative Change in Significant Assumptions: Increase in DAC Decrease in DAC
Estimated interest spread increasing (decreasing) 7.61% (8.23%)
25 basis points from the current spread on a permanent
basis
Estimated future policy lapse rates (decreasing) 8.03% (8.30%)
increasing 20% on a permanent basis (including
surrender charges)
Mr. Jim B. Rosenberg
October 10, 2007
Page 5
The likelihood of the exact scenarios presented above occurring for all
policies for all treaties in the same direction on a permanent basis is low.
Nevertheless, the impact on DAC for the last eight quarters has ranged from
0.75% favorable to a 6.90% unfavorable unlocking.
In general, a change in assumption that improves the Company's expectations
regarding EGP is going to have the effect of deferring the amortization of DAC
into the future, thus increasing earnings and the current DAC balance.
Conversely, a change in assumption that decreases EGP will have the effect of
speeding up the amortization of DAC, thus reducing earnings and lowering the DAC
balance.
Present value of in-force business (PVIF) is established upon the
acquisition of the block of business and is amortized over the expected life of
the business at the time of acquisition. The amortization each year will be a
function of gross profits or revenues each year in relation to the total gross
profits or revenues over the life of the business discounted at the assumed net
credited rate. The determination of the initial value and the subsequent
amortization require management to make estimates and assumptions regarding the
future business results and such estimates could differ materially from actual
results. Estimates and assumptions involved in the PVIF and subsequent
amortization are similar to those necessary in the establishment of reserves and
amortization of DAC. Currently, all PVIF relates to our traditional life
reinsurance business, or FAS 60 business. As a result, these assumptions are not
revised after acquisition unless the PVIF balance is deemed unrecoverable by the
loss recognition testing process. Absent a premium deficiency which could be
caused by unfavorable mortality experience, variability in amortization after
policy issuance or acquisition is caused only by variability in premium volumes.
Loss recognition testing over the last several years has indicated that no
unlocking of assumptions on the PVIF was necessary nor is it expected to be
necessary in the near future.
Contractual Obligations and Commitments, page 80
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3. Please provide us in disclosure type format a revised table that includes
all of your insurance obligations. Include any applicable footnote
disclosure that will help a user understand the differences between these
amounts and the amount recorded in your balance sheet.
Please see below the following amended disclosure addressing your comment
which we propose to update in this same format and include in our Form 10-K for
the year ended December 31, 2007.
Contractual Obligations and Commitments:
The following table shows our contractual obligations and commitments as of
December 31, 2006, including obligations arising from our reinsurance business
and payments due by period:
Mr. Jim B. Rosenberg
October 10, 2007
Page 6
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Payments due by period
($ millions)
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Less Than 1 More Than 5
Year 1-3 Years 4-5 Years Years Total
- ------------------------- ---------------- --------------- ---------------- ---------------- ---------------
Long-term debt.......... $ - $ - $ - $ 129,500 $ 129,500
- ------------------------- ---------------- --------------- ---------------- ---------------- ---------------
Operating leases........ 5,615 10,536 9,021 28,373 53,545
- ------------------------- ---------------- --------------- ---------------- ---------------- ---------------
Funding agreements...... 331 100,000 - 265,000 365,331
- ------------------------- ---------------- --------------- ---------------- ---------------- ---------------
Collateral financing
facility liabilities.... 2,189,480 717,955 850,000 - 3,757,435
- ------------------------- ---------------- --------------- ---------------- ---------------- ---------------
Interest sensitive
contract liabilities.... 593,111 748,776 616,726 2,012,595 3,971,208
- ------------------------- ---------------- --------------- ---------------- ---------------- ---------------
Reserve for future
policy benefits......... 852,390 229,156 491,807 3,059,861 4,633,214
- ------------------------- ---------------- --------------- ---------------- ---------------- ---------------
$ 3,640,927 $ 1,806,423 $ 1,967,554 $ 5,495,329 $ 12,910,233
- ------------------------- ================ =============== ================ ================ ===============
Our long-term debt is described in Note 9 to the Consolidated Financial
Statements. Long-term debt includes capital securities with various maturities
from December 4, 2032 through December 15, 2034. They are, however, redeemable
at various dates from December 4, 2007 through December 15, 2009. They have been
included in the above table based on their maturity date.
We lease office space in the countries in which we operate. These leases
expire at various dates through 2023.
Amounts due under funding agreements are reported in interest sensitive
contract liabilities in the consolidated balance sheets. These are agreements in
which we earn a spread over LIBOR. The contractual repayment terms are detailed
in the table above.
Collateral finance facilities as of December 31, 2006 include HSBC I and
HSBC II, and securitization obligations with Orkney Re, Orkney Re II plc and
Ballantyne Re plc. These transactions are described in the previous section.
These obligations are fully secured by fixed maturity investments and cash and
cash equivalents included in our Consolidated Balance Sheet. The liabilities
have been included in the table above at the earliest redemption date.
Interest sensitive contract liabilities (excluding amounts due under
funding agreements) include amounts primarily related to deferred annuities.
These are generally comprised of policies or contracts that do not have
contractual maturity dates and may not result in any future payment obligation.
For these policies and contracts (i) we are not currently making payments and
will not make payments in the future until the occurrence of an insurable event,
such as death or disability or (ii) the occurrence of a payment triggering
event, such as a surrender of a policy or contract, which is outside of our
control. We have made significant assumptions to determine the estimated
undiscounted cash flows of these policies and contracts which include mortality,
morbidity, persistency, future lapse rates and interest crediting rates. Due to
the significance of the assumptions used, the amounts presented could materially
differ from actual results. The sum of the obligations shown for all years in
the table of $4.0 billion exceeds the liability amount of $3.0 billion included
on the consolidated balance sheet (which excludes amounts due from funding
agreements) principally due to the fact that amounts presented above are on an
undiscounted basis.
Mr. Jim B. Rosenberg
October 10, 2007
Page 7
Reserves for future policy benefits include liabilities related primarily
to the Company's reinsurance of traditional life insurance and related policies.
These are generally comprised of policies or contracts that do not have
contractual maturity dates and may not result in any future payment obligation.
For these policies and contracts (i) we are not currently making payments and
will not make payments in the future until the occurrence of an insurable event,
such as death or disability or (ii) the occurrence of a payment triggering
event, such as a surrender of a policy or contract, which is outside of our
control. We have made significant assumptions to determine the estimated
undiscounted cash flows of these policies and contracts which include mortality,
morbidity, persistency, future lapse rates and interest crediting rates. Due to
the significance of the assumptions used, the amounts presented could materially
differ from actual results. The sum of the obligations shown for all years in
the table of $4.6 billion exceeds the liability amount of $3.9 billion included
on the consolidated balance sheet principally due to the fact that amounts
presented above are on an undiscounted basis.
Consolidated Statements of Comprehensive income, page 101
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4. These statements do not appear to include an adjustment to initially apply
SFAS 158. Please explain to us why it appears that you included the entire
cumulative adjustment related to the adoption of SFAS 158 within the
current period operations. Refer to paragraph A7 of SFAS 158.
We have considered the guidance and now consider that the adoption of SFAS
158 should not have resulted in the entire cumulative adjustment being reflected
in Other Comprehensive Income (Loss) for the period ended June 30, 2007. We
intend to include the following disclosure in the Quarterly Report on Form 10-Q
for the period ending September 30, 2007 and will reflect the revised
presentation in our Form 10-K for the year ending December 31, 2007:
On December 31, 2006, we adopted Financial Accounting Standards SFAS 158,
Employers' Accounting for Defined Benefit Pension and other Postretirement
Plans. Upon adoption we recorded a $2.9 million reduction in comprehensive
income/(loss) for the year ended December 31, 2006. However, the cumulative
effect of the change in accounting, net of tax should have been recorded as a
separate component of accumulated other comprehensive income/(loss). As of
December 31, 2006, we reported comprehensive income/(loss) of ($356.4) million
for the year. With this revised presentation, comprehensive income/(loss) for
the year ended December 31, 2006 would have been ($353.5) million. This revised
presentation will be reflected in our Form 10-K for the year ending December 31,
2007, since we consider the adjustment to be not material in the context of
comprehensive income/(loss) for the year ended December 31, 2006.
Mr. Jim B. Rosenberg
October 10, 2007
Page 8
Goodwill, page 111
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5. Please provide us, in disclosure-type format, the disclosures required by
paragraph 47 of SFAS 142 regarding the $34 million write-off of goodwill.
Please see below the following amended disclosure addressing your comment,
which we would propose to include in our Form 10-K for the year ending December
31, 2007 under `Summary of significant accounting policies'.
We account for goodwill pursuant to the provisions of Statement of
Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets."
Goodwill is established upon the acquisition of a subsidiary and is calculated
as the difference between the price paid and the value of individual assets and
liabilities on the date of acquisition. Goodwill is not amortized into results
of operations, but instead is reviewed for impairment annually. Goodwill was
tested for impairment in 2004 and 2005 and no impairment resulted.
During 2006, the Company suffered significant financial deterioration and
credit downgrades, which created a potential impairment in the value of
goodwill. The impairment review was based on a present value earnings analysis
on the International Segment and validated with an actuarial appraisal of the
business.
As a result of this impairment review, we determined that the implied fair
value of our goodwill was less than its carrying value and accordingly, the full
$34.1 million goodwill balance was written off.
Amended Form 10-K for the year ended December 31, 2006
- ------------------------------------------------------
6. Please amend your filing to provide the required Section 302 certifications
of Sarbanes-Oxley. Refer to Release No. 33-8124: Certification of
Disclosure in Companies' Quarterly and Annual Reports.
The Company inadvertently omitted from its Amended Form 10-K for the year
ended December 31, 2006 (which was comprised solely of Part III information) the
Section 302 Certifications required by the Sarbanes-Oxley Act of 2002. The
Company respectfully proposes to re-file the certifications in a new Form 10-K/A
without re-filing the entire Form 10-K/A previously filed.
Form 10-Q for the period ended June 30, 2007
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7. Mezzanine equity, page 15
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Convertible cumulative participating preferred shares, page 15
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7. Please explain to us why you did not appear to reflect a "deemed dividend"
in your earnings per share calculation as a result of the beneficial
conversion feature that
Mr. Jim B. Rosenberg
October 10, 2007
Page 9
you recorded in connection with this financing. Refer to paragraph 18 of
EITF Topic D-98.
We have reviewed the guidance material within EITF Topic D-98 and concur
that the deemed dividend arising from the beneficial conversion feature of the
cumulative participating preference shares should have been deducted in arriving
at net loss applicable to ordinary shareholders for the purposes of calculating
earnings per share.
On September 28, 2007 we filed via EDGAR a Form 8-K describing the
Company's intent to restate basic earnings per ordinary share and diluted
earnings per ordinary share for the three months at six months ended June 30,
2007. In the Form 8-K, we also disclosed the revised earnings per share
calculations. The company intends to file an amended Form 10-Q for the quarter
ended June 30, 2007 at the completion of the comment letter process in which the
current "Note 5 Earnings per ordinary Share" will be removed and replaced with
the "Note 5 Earnings per ordinary share" included in the Form 8-K.
The Company has also considered and discussed with its Audit Committee the
implication of the earnings per share misstatement on its statements regarding
disclosure controls and procedures (as defined in Rules 13a - 15 (e) and 15d -
15 (e) under the Securities Exchange Act of 1934) at June 30, 2007. In respect
of this item we have concluded that there was a material weakness affecting our
internal control over financial reporting, and as a result of those material
weaknesses the Company's disclosure controls and procedures were not effective
as of June 30, 2007. We will accordingly disclose this in item 4 of our amended
Form 10-Q for the second quarter of 2007. We have taken steps to remediate this
material weakness by strengthening review controls.
*****
In providing the foregoing responses to your comments, the Company
acknowledges that:
o the Company is responsible for the adequacy and accuracy of the
disclosure in the filings;
o staff comments or changes to disclosure in response to staff comments
do not foreclose the Commission from taking any action with respect to
the filing; and
o the Company may not assert staff comments as a defense in any
proceeding initiated by the Commission or any person under the federal
securities laws of the United States.
*****
Mr. Jim B. Rosenberg
October 10, 2007
Page 10
Thank you for your consideration. If you have further questions or
comments, please contact me at +44 (0)20 7709 1910.
Sincerely,
/s/ Duncan Hayward
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Duncan Hayward
Sasha Parikh
Securities and Exchange Commission
James Atkinson
Securities and Exchange Commission
George Zippel
Scottish Re Group Limited
Paul Goldean
Scottish Re Group Limited
Charles Anderson
Scottish Re Group Limited
Amy Baker
Ernst & Young LLP
Andy Betts
Ernst & Young LLP
Stephen G. Rooney
Dewey & LeBoeuf LLP