ACE Limited
Selected Financial Data
The following table sets forth selected consolidated financial data of the
Company as of and for the year ended December 31, 1999 and for each of the
years in the four-year period ended September 30, 1998. These selected
financial and other data should be read in conjunction with the consolidated
financial statements and related notes and with "Management's Discussion and
Analysis of Results of Operations and Financial Condition," presented on pages
37 to 79 and 18 to 36 respectively, of this annual report. On July 2, 1999, the
Company changed its fiscal year end from September 30 to December 31. This
change was implemented retroactively to December 31, 1998 so that the 1999
fiscal year is for the twelve-month period ended December 31, 1999.
For the year For the three For the year For the year For the year For the year
ended months ended ended ended ended ended
December 31 December 31 September 30 September 30 September 30 September 30
1999 1998 1998 1997 1996 1995
------------ ------------- ------------ ------------ ------------ ------------
(in thousands of U.S. dollars, except share and per share data and selected
other data)
Operations data:
Net premiums written... $ 2,495,348 $ 154,103 $ 880,973 $ 789,773 $ 781,884 $ 544,880
============ ============ ============ ============ ============ ============
Net premiums earned.... 2,485,737 218,007 894,303 805,372 755,840 473,133
Net investment income.. 493,337 85,095 324,254 253,440 213,701 184,041
Net realized gains on
investments........... 37,916 130,154 188,385 127,702 55,229 50,765
Losses and loss
expenses.............. 1,639,543 111,169 516,892 486,140 520,277 366,322
Policy acquisition
costs and
administrative
expenses.............. 833,312 69,030 271,567 153,486 138,343 81,976
Amortization of
goodwill.............. 45,350 4,435 12,834 7,325 1,507 (437)
Interest expense....... 105,138 4,741 25,459 11,657 10,481 5,036
Income taxes........... 28,684 5,342 20,040 25,181 26,543 7,673
------------ ------------ ------------ ------------ ------------ ------------
Net income............. $ 364,963 $ 238,539 $ 560,151 $ 502,725 $ 327,619 $ 247,369
============ ============ ============ ============ ============ ============
Fully diluted earnings
per share............. $ 1.85 $ 1.21 $ 2.96 $ 2.69 $ 2.00 $ 1.59
============ ============ ============ ============ ============ ============
Balance sheet data (at
end of period)
Total investments and
cash.................. $ 12,875,535 $ 6,214,900 $ 6,201,074 $ 4,787,916 $ 4,342,781 $ 3,225,786
Total assets........... 30,122,888 8,834,305 8,788,753 5,647,596 5,077,780 3,514,946
Net unpaid losses and
loss expenses......... 8,908,817 2,577,805 2,678,341 2,006,873 1,892,302 1,452,299
Total shareholders'
equity................ 4,450,560 3,909,577 3,714,270 2,785,155 2,367,006 1,524,123
Fully diluted book
value per share....... $ 20.28 $ 20.19 $ 19.14 $ 15.40 $ 12.46 $ 9.96
Selected other data
Loss and loss expense
ratio................. 66.0% 51.0% 57.8% 60.4% 68.8% 77.4%
Underwriting and
administrative expense
ratio................. 33.5% 31.7% 30.4% 19.0% 18.3% 17.2%
Combined ratio......... 99.5% 82.7% 88.2% 79.4% 87.1% 94.6%
Loss reserves to
capital and surplus
ratio................. 200.2% 65.9% 72.1% 72.1% 79.9% 95.3%
Ratio of net premiums
written to capital and
surplus............... 0.56:1 0.04:1 0.24:1 0.28:1 0.33:1 0.36:1
Weighted average shares
outstanding--diluted.. 197,626,354 197,349,356 189,281,175 186,809,023 163,768,894 155,505,028
Cash dividends per
share................. $ 0.42 $ 0.09 $ 0.34 $ 0.27 $ 0.21 $ 0.17
F-43
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
The following is a discussion of the Company's results of operations,
financial condition, liquidity and capital resources. This discussion should be
read in conjunction with the consolidated financial statements and related
notes, thereto presented on pages 37 to 79 of this annual report.
Safe Harbor Disclosure
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. Any written or oral statements made by
or on behalf of the Company may include forward-looking statements which
reflect the Company's current views with respect to future events and financial
performance. These forward-looking statements are subject to certain
uncertainties and other factors that could cause actual results to differ
materially from such statements. These uncertainties and other factors (which
are described in more detail elsewhere herein and in documents filed by the
Company with the Securities and Exchange Commission) include, but are not
limited to, (i) uncertainties relating to government and regulatory policies
(such as subjecting the Company to insurance regulation or taxation in
additional jurisdictions or amending or revoking or enacting any laws,
regulations or treaties affecting the Company's current operations), (ii) the
occurrence of catastrophic events or other insured or reinsured events with a
frequency or severity exceeding the Company's estimates, (iii) legal
developments, (iv) the uncertainties of the loss reserving process including
the difficulties associated with assessing environmental and latent injuries,
(v) the actual amount of new and renewal business and market acceptance of
expansion plans, (vi) loss of the services of any of the Company's executive
officers, (vii) changing rates of inflation and other economic conditions,
(viii) losses due to foreign currency exchange rate fluctuations, (ix) ability
to collect reinsurance recoverables, (x) the competitive environment in which
the Company operates, related trends and associated pricing pressures and
developments, (xi) the impact of mergers and acquisitions, including the
ability to successfully integrate acquired businesses and achieve cost savings,
competing demands for ACE's capital and the risk of undisclosed liabilities,
(xii) the impact of Year 2000 related issues, (xiii) developments in global
financial markets which could affect the Company's investment portfolio and
financing plans, and (xiv) risks associated with the introduction of new
products and services. The words "believe", "anticipate", "estimate",
"project", "plan", "expect", "intend", "hope", "will likely result" or "will
continue" and variations thereof and similar expressions identify forward-
looking statements. Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of their dates. The Company
undertakes no obligation to publicly update or revise any forward-looking
statements, whether as a result of new information, future events or otherwise.
General
On July 2, 1999, the Company changed its fiscal year-end from September 30
to December 31. This change was implemented retroactively to December 31, 1998
so that the 1999 fiscal year is the twelve month period ending December 31,
1999. For purposes of the analysis of the Company's results of operations, the
Company's December 31, 1999 fiscal year has been compared to the years ended
September 30, 1998 and 1997, the two most recent audited fiscal years. For the
discussion of financial condition, balance sheet data at December 31, 1999 and
1998 has been used.
ACE Limited ("ACE" or "the Company"), through its various subsidiaries,
provides a broad range of insurance and reinsurance products to insureds in the
United States and almost 50 other countries. In addition, ACE, through ACE
Global Markets, provides funds at Lloyd's, primarily in the form of letters of
credit, to support underwriting capacity for Lloyd's syndicates managed by
Lloyd's managing agencies which are indirect wholly owned subsidiaries of ACE.
ACE operates through six main business segments: ACE Bermuda, ACE Global
Markets, ACE Global Reinsurance, ACE USA, ACE International and ACE Financial
Services. "ACE USA" principally includes the domestic U.S. business of ACE INA
together with the original ACE USA division acquired on January 2, 1998 ("ACE
US Holdings"). These segments are defined in note 17 of the consolidated
financial statements.
1
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
On July 2, 1999, the Company acquired of the international and domestic
property and casualty businesses of CIGNA Corporation ("CIGNA") for $3.45
billion in cash (the "ACE INA Acquisition"). Under the terms of the agreement
the Company, through a newly created U.S. holding company, ACE INA, acquired
CIGNA's domestic property and casualty insurance operations and also its
international property and casualty insurance companies and branches, including
most of the accident and health business written through those companies. In
connection with the ACE INA Acquisition, National Indemnity Company, a
subsidiary of Berkshire Hathaway Inc., is providing $1.25 billion of protection
against adverse development with respect to the loss and loss adjustment
expense reserves acquired on July 2, 1999. The ACE INA acquisition has been
recorded using the purchase method of accounting and, accordingly, the
consolidated financial statements include the results of operations and balance
sheet of ACE INA and its subsidiaries from July 2, 1999, the date of the
acquisition.
On December 30, 1999, the Company completed the acquisition of Capital Re
Corporation ("Capital Re"). Following the acquisition the name of the Company
was changed to ACE Financial Services, Inc. and is referred to herein as
Capital Re or ACE Financial Services. This transaction added significant depth
and expertise to ACE's financial reinsurance capabilities and represents a
strategic complement to the Company's diversified portfolio by establishing ACE
as a key financial guaranty reinsurer. The Capital Re acquisition has been
recorded using the purchase method of accounting and, accordingly, the
consolidated financial statements include the results of operations and balance
sheet of Capital Re and its subsidiaries from December 30, 1999, the date of
the acquisition.
The Company expects to continue evaluating potential new product lines and
other opportunities in the insurance and reinsurance markets. In addition, the
Company evaluates potential acquisitions of other companies and businesses and
holds discussions with potential acquisition candidates. As a general rule, the
Company publicly announces such acquisitions only after a definitive agreement
has been reached.
Results of Operations--Year ending December 31, 1999 and years ending September
30, 1998 and 1997
During 1999 and 1998, the Company made four substantial acquisitions that
were accounted for under the purchase method of accounting, which requires that
income from the acquired company only be included in the results of the Company
from the date of acquisition. This makes it difficult to compare the financial
statements as presented. CAT Limited's ("CAT") results are included from April
1, 1998, ACE US Holding's results are included from January 2, 1998 and ACE
INA's results are included from July 2, 1999. As Capital Re was acquired on
December 30, 1999, its results have no effect on the following analysis. In
addition, each year, the Company has increased its percentage of participation
in the Lloyd's syndicates it manages.
Net Income
Year Ended Year Ended Year Ended
December 31 September 30 September 30
1999 1998 1997
----------- ------------ ------------
(in millions of U.S. dollars)
Income excluding net realized gains
on investments and non-recurring
expenses........................... $330 $418 $381
Non-recurring expenses (net of
taxes)............................. (7) (46) (6)
Net realized gains on investments
(net of taxes)..................... 42 188 128
---- ---- ----
Net income.......................... $365 $560 $503
==== ==== ====
Income excluding net realized gains on investments and non-recurring
expenses was $330 million or $1.67 per share in 1999 compared to $418 million
or $2.21 per share in 1998 and $381 million or $2.04 per share in 1997. Net
income, excluding net realized gains and non-recurring expenses, declined by
$88 million or 21
2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
percent in 1999 primarily due to the impact of property catastrophe losses
which are discussed further in underwriting results.
The decline in net income of $195 million from 1998 to 1999 is due in part
to the $88 million decline in income excluding net realized gains and non-
recurring expenses explained above. In addition, the Company had net realized
gains on investments of $42 million in 1999 compared with $188 million in 1998.
This decrease contributed $146 million to the decline and is explained later in
the discussion of net realized gains (losses) on investments. The Company
incurred non-recurring expenses (net of taxes) of $7 million in 1999 with
respect to the ACE INA Acquisition compared with $46 million in 1998 with
respect to the acquisition of Tarquin, accounting for the remaining difference
between 1999 and 1998.
Income excluding net realized gains on investments and non-recurring
expenses for 1998 increased by $37 million or 9.8 percent compared with 1997.
This increase was predominantly the result of the inclusion of the results of
ACE US Holdings following the acquisition on January 2, 1998 of ACE USA and the
inclusion of the results of CAT following its acquisition on April 1, 1998.
Net income increased by $57 million in 1998 over 1997. This increase is the
result of the increase of $37 million in income excluding net realized gains on
investments and non-recurring expense, together with an increase in net
realized gains of $60 million, offset by non-recurring charges incurred in the
Tarquin acquisition.
Premiums
Year Ended Year Ended Year Ended
December 31 Percentage September 30 Percentage September 30
1999 Change 1998 Change 1997
----------- ---------- ------------ ---------- ------------
(in millions of U.S. dollars)
Gross premiums written:
ACE Bermuda........... $ 553 6.4 % $ 520 (1.3)% $527
ACE Global Markets.... 635 45.0 % 438 38.3 % 316
ACE Global
Reinsurance.......... 182 46.8 % 124 7.2 % 116
ACE USA............... 1,567 877.9 % 160 -- --
ACE International..... 932 -- -- -- --
------- ----- ------ ----- ----
$ 3,869 211.5 % $1,242 29.5 % $959
======= ===== ====== ===== ====
Net premiums written:
ACE Bermuda........... $ 429 8.5 % $ 395 (12.4)% $452
ACE Global Markets.... 439 38.9 % 314 39.2 % 227
ACE Global
Reinsurance.......... 145 55.7 % 94 (16.0)% 111
ACE USA............... 797 914.8 % 78 -- --
ACE International..... 685 -- -- -- --
------- ----- ------ ----- ----
$ 2,495 182.5 % $ 881 11.8 % $790
======= ===== ====== ===== ====
Net premiums earned:
ACE Bermuda........... $ 510 31.2 % $ 389 (18.8)% $479
ACE Global Markets.... 364 29.0 % 279 35.8 % 207
ACE Global
Reinsurance.......... 140 (9.5)% 155 30.6 % 119
ACE USA............... 749 956.7 % 71 -- --
ACE International..... 723 -- -- -- --
------- ----- ------ ----- ----
$ 2,486 178.0 % $ 894 11.0 % $805
======= ===== ====== ===== ====
3
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
During 1999 and 1998, most insurance markets continued to face significant
competitive pressures as a result of excess capital in both the insurance and
reinsurance markets. This has resulted in continuing price pressure in most
insurance and reinsurance lines. However, the Company has continued to make
strategic acquisitions, increase its participation in the Lloyd's syndicates
managed by the Company, and develop new and expand existing product lines while
maintaining its focus on underwriting and pricing discipline. This has resulted
in increases in gross and net premiums written and net premiums earned in each
of the fiscal years ended December 31, 1999 and September 30, 1998.
Gross Premiums Written
Gross premiums written for the year ended December 31, 1999 increased 212
percent to $3.9 billion compared with $1.2 billion for the year ended September
30, 1998. Premiums for the Company increased primarily due to the inclusion of
ACE INA since July 2, 1999. All segments, however, reported increases in gross
premiums written compared with last year. During 1998, gross premiums written
increased to $1.2 billion compared with $959 million in 1997, an increase of
$283 million. The growth in gross premiums written during 1998 was mainly a
result of the inclusion of nine months of premiums from ACE US Holdings and six
months of premiums from CAT, following their acquisitions on January 2, 1998
and April 1, 1998, respectively. The 1998 growth is also due to the increased
participation in the Lloyd's syndicates managed by the Company.
ACE Bermuda: Gross premiums written for the year ended December 31, 1999
increased 6 percent over the year ended September 30, 1998. The increase was
primarily the result of significant increases in business in the tailored risk
solutions division and in new political risk products. This new business was
offset by decreases in the satellite, excess liability, and professional lines
divisions due to continued market pressures. Gross premiums written decreased
by $7 million in 1998 compared with 1997. ACE Bermuda had increases in premium
from tailored risk solutions, the satellite program and the joint ventures in
which ACE Bermuda participates. These increases were offset by declines in the
excess liability and directors and officers lines of business, primarily due to
the competitive pressures in the market.
ACE Global Markets: The increase in gross premiums written in 1999 of $197
million or 45 percent over 1998 is primarily the result of increased
participation over 1998. Throughout 1999 there have been rate reduction
pressures, excess capacity, and industry consolidations which have created
difficult market conditions. Recently, the divisions have all seen some rate
stabilization. It is anticipated that gross premiums written will continue to
increase in the year 2000 as the Company has again increased its capacity at
Lloyd's. The focus for ACE Global Markets in 1999 has been to protect earnings
by restructuring the broad portfolio of specialty business that it writes to
both maximize available profitability and to lessen its exposure to less
profitable lines. Gross premiums written also increased in 1998 over 1997,
again as a result of the Company's increased participation on its syndicates.
ACE Global Reinsurance: Gross premiums written by Tempest Re increased 47
percent to $182 million for the year ended December 31, 1999 compared to the
year ended September 30, 1998. The Company acquired CAT in April 1998 and
therefore 1999 includes a full year of CAT results whereas 1998 only includes
six months of results from the CAT business. Although a few areas of business
continue to see declines due to consolidation among Tempest Re's insureds,
overall the competitive environment is less adverse than it has been in the
last couple of years and Tempest Re is seeing opportunities to write new
business at firmer rates. In 1998, market conditions were very competitive in
the property catastrophe reinsurance business and rates declined in the absence
of major loss activity. While the combined Tempest Re and CAT operations
recorded gross premiums written of $124 million in 1998 compared with $116
million for Tempest Re alone in 1997, each company on an individual basis
showed declines in gross premiums written compared to the 1997 year.
4
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
ACE USA: Gross premiums written for ACE USA in 1999 include premiums from
both ACE US Holdings and the U.S. operations of ACE INA which are included from
July 2, 1999, the date of acquisition. As a result, gross premiums written for
1999 have increased by 878 percent over 1998. Gross premiums written of $160
million in 1998 represents nine months of premiums from ACE US Holdings as it
was acquired by the Company on January 2, 1998. On a comparable basis, gross
premiums written are slightly ahead of 1998 for the combined U.S. operation.
Prior to January 2, 1998, the Company had no U.S. based operations.
ACE International: Gross premiums written were $932 million for the 1999
period since the date of acquisition which, on a comparable basis, are ahead of
1998. All markets for commercial property and casualty insurance remained
highly competitive although ACE International is seeing a slowdown in the rate
erosion that has existed for the past two to three years.
Net Premiums Written
Net premiums written increased by $1.6 billion to $2.5 billion in 1999
compared to 1998. As with gross premiums written, the increase is primarily due
to the inclusion of the results of the ACE INA business although increases were
experienced in all business segments as discussed above. The increases in net
premiums written for ACE Global Reinsurance and ACE Global Markets are
explained above in the gross premiums written discussion.
Net premiums written increased by $91 million to $881 million in 1998
compared with $790 million in 1997. This increase, as with the increase in
gross premiums written, is the result of increases in the Company's
participation in the Lloyd's syndicates managed by ACE Global Markets as well
as the contributions of ACE US Holdings and CAT during the year. Net premiums
written in ACE Bermuda decreased from $452 million in 1997 to $395 million in
1998. This decline was primarily the result of continuing declines in directors
and officers liability and excess liability premiums, as described above in the
discussion of gross premiums written, offset somewhat by growth in net premiums
written from the satellite and tailored risk solutions and in the joint
ventures business written by ACE Bermuda.
Net premiums written were also affected by an increase in the use of
reinsurance during 1998, predominantly in ACE Bermuda where they purchased an
excess liability quota share reinsurance treaty and also put in place excess
liability excess of loss treaty that limits the retained risk on a single
occurrence to $100 million. In addition, during 1998, the satellite division of
ACE Bermuda and Tempest Re each purchased additional reinsurance to cover
catastrophic events.
Net Premiums Earned
Net premiums earned increased by $1.6 billion to $2.5 billion compared to
$894 million at September 30, 1998, an increase of 178 percent. As with gross
premiums written and net premiums written, the increase is due primarily to the
inclusion of the results of the newly acquired ACE INA business. ACE Bermuda,
ACE Global Markets and ACE Global Reinsurance experienced increases in net
premiums earned during the period as well, as discussed for both gross and net
premiums written. The tailored risk solutions division at ACE Bermuda
contributed significantly to the increase due to the commutation of a tailored
risk solutions reinsurance contract and the writing of several significant loss
portfolio transfer contracts in the year which generated immediate premiums
earned of approximately $150 million.
For the year ended September 30, 1998, net premiums earned increased by $89
million to $894 million compared with $805 million for September 30, 1997, an
increase of 11 percent. This increase was a result of the contributions from
ACE US Holdings and CAT during the year following their acquisitions as well as
an increase in net premiums earned resulting from the Company's participation
in the Lloyd's syndicates under management. This increase was partially offset
by declines in net premiums earned in ACE Bermuda as a result of declines in
net premiums written.
5
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
Underwriting Results
The underwriting results of a property and casualty insurer are discussed
frequently by reference to its combined ratio, loss and loss expense ratio and
underwriting and administrative expense ratio. Each ratio is derived by
dividing the relevant expense amounts by net premiums earned. The combined
ratio is the sum of the losses and loss expense ratio and the underwriting and
the administrative expense ratio. A combined ratio under 100 percent indicates
underwriting income and a combined ratio exceeding 100 percent indicates
underwriting losses.
Year ended Year ended
December 31 September 30 September 30
1999 1998 1997
----------- ------------ ------------
Loss and loss expense ratio
ACE Bermuda........................... 76.5% 75.9% 80.6%
ACE Global Markets.................... 56.6 51.8 43.1
ACE Global Reinsurance................ 69.2 22.0 8.8
ACE USA............................... 71.2 60.4 --
ACE International..................... 57.1 -- --
Consolidated........................ 66.0% 57.8% 60.4%
Underwriting and administrative expense
ratio
ACE Bermuda........................... 10.4% 14.9% 11.3%
ACE Global Markets.................... 40.9 42.8 24.3
ACE Global Reinsurance................ 23.4 17.5 16.9
ACE USA............................... 33.6 33.5 --
ACE International..................... 40.9 -- --
Consolidated........................ 33.5% 30.4% 19.0%
Combined Ratio
ACE Bermuda........................... 86.9% 90.8% 91.9%
ACE Global Markets.................... 97.5 94.6 67.4
ACE Global Reinsurance................ 92.6 39.5 25.7
ACE USA............................... 104.8 93.9 --
ACE International..................... 98.0 -- --
Consolidated........................ 99.5% 88.2% 79.4%
The process of establishing reserves for property and casualty claims
continues to be a complex and uncertain process, requiring the use of informed
estimates and judgments. The Company's estimates and judgments may be revised
as additional experience and other data become available and are reviewed, as
new or improved methodologies are developed or as current laws change. Any such
revisions could result in future changes in estimates of losses or reinsurance
recoverables, and would be reflected in the Company's results of operations in
the period in which the estimates are changed.
In addition, catastrophe losses may have a significant effect on the
insurance and reinsurance industry. ACE Global Reinsurance and other segments
of the group have exposure to windstorm, hail, earthquake and other
catastrophic events, all of which are managed using measures including
underwriting controls, occurrence caps as well as modeling, monitoring and
managing accumulations. The Company uses its retrocessional programs to limit
its net losses from catastrophes. However, property catastrophe loss experience
is generally characterized as low frequency but high severity short-tail claims
which may result in volatility in financial results.
6
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
During 1999, there were a significant number of catastrophes that impacted
the results of the Company including: a hailstorm in New South Wales, Australia
in April 1999; tornadoes in the U.S. midwest in May 1999; from July to
September 1999 there were major earthquakes in Taiwan, Turkey, Greece and
Mexico, a typhoon in Japan and Hurricane Floyd in the U.S.; and in December
1999 there were several severe windstorms in Europe.
Losses and loss expenses increased substantially in the year ended December
31, 1999 to $1.6 billion compared with $517 million in the year ended September
30, 1998. This increase is primarily due to the inclusion of losses and loss
expenses for ACE INA following the acquisition as well as the catastrophes
discussed above. The Company's losses and loss expense ratio also increased
from 57.8 percent in 1998 to 66.0 percent in 1999. This increase is primarily
due to the inclusion of the domestic business of ACE INA as well as an increase
in insured catastrophes during the year
Losses and loss expenses increased for the year ended September 30, 1998 to
$517 million compared with $486 million in 1997 due to the inclusion of losses
and loss expenses from ACE US Holdings and CAT since their acquisitions as well
as the Company's increased participation in the Lloyd's syndicates under
management. However, the losses and loss expense ratio decreased to 57.8
percent in 1998 compared with 60.4 percent in 1997. This decrease is the result
of the changing mix of premiums written and earned by the Company, highlighted
by the inclusion of ACE US Holdings and CAT in the 1998 fiscal year whose loss
ratios were generally lower than the majority of the Company's book of business
in 1997.
ACE Bermuda: The loss ratio for 1999 did not substantially change from 1998.
The loss ratio decreased in 1998 to 75.9 percent from 80.6 percent in 1997
primarily due to a change in the mix of business written.
ACE Global Markets: The loss ratio has increased over the past two years
from 43.1 percent in 1997 to 51.8 percent in 1998 and 56.6 percent in 1999.
This increase is primarily the result of the increasing amount of non-Tarquin
business written in the syndicates managed by the Company. The Company's
participation in the Tarquin syndicate has been relatively flat over the past
two years, while the Company's participation on the other syndicates, which
historically have had higher loss ratios, continues to increase.
ACE Global Reinsurance: The loss ratio for this segment is directly impacted
by the level of insured catastrophes in a year. In 1999, there were a
significant number of insured catastrophes resulting in a loss ratio of 69.2
percent compared with 22.0 percent in 1998 and 8.8 percent in 1997, a year with
very little loss activity. The increase in Tempest Re's loss ratio over last
year accounts for $63 million of the total decline of $88 million in income
including net realized gains and non-recurring expenses.
ACE USA: The loss ratio of ACE USA increased to 71.2 percent in 1999
compared with 60.4 percent in 1998. This increase is primarily because the
domestic business of ACE INA has historically had a loss ratio in excess of ACE
US Holdings. The loss ratio of ACE USA was also impacted by catastrophes during
the year, principally Hurricane Floyd in the third quarter.
ACE International: The loss ratio for ACE International was higher than
anticipated primarily due to catastrophe activity since July 2, 1999, the date
of acquisition. The loss ratio was affected by several earthquakes, a typhoon
in the third quarter and European storms in the fourth quarter.
7
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
Underwriting and administrative expenses are comprised of the amortization
of deferred acquisition costs, which include commissions, premium taxes,
underwriting and other costs that vary with and are primarily related to the
production of premium, and administrative expenses which include all other
operating costs. As with losses and loss expenses, total underwriting and
administrative expenses increased significantly from $272 million in 1998 to
$833 million in 1999 primarily due to the inclusion of ACE INA following the
acquisition. The underwriting and administrative expense ratio increased to
33.5 percent in 1999 from 30.4 percent in 1998. However, underwriting and
administrative expenses include non-recurring expenses of $11 million for 1999
with respect to the acquisition of ACE INA and $58 million for 1998 with
respect to the acquisition of Tarquin. Excluding these non-recurring expenses
in 1999 and 1998, the underwriting and administrative expense ratios would have
been 33.1 percent and 25.0 percent respectively. The increase in the ratio is
primarily due to the change in mix of business. For example, ACE International,
which has an underwriting and administrative expense ratio of 40.9 percent (due
mainly to the higher costs associated with accident and health business)
accounted for 29 percent of total net premium earned in 1999. These increases
were offset by a decline in the underwriting and administrative expense ratio
of ACE Bermuda primarily due to ceding commissions generated on their expanded
reinsurance programs.
Underwriting and administrative expenses increased for the year ended
September 30, 1998 to $272 million compared with $153 million in 1997 primarily
due to the inclusion of the non-recurring expenses with respect to the Tarquin
acquisition as well as the inclusion of underwriting and administrative
expenses due to the ACE US Holdings and CAT acquisitions. The increase is also
partly due to the increased underwriting and administrative expenses generated
by the Company's increased participation in Lloyd's. Excluding the non-
recurring expenses, the underwriting and administrative expense ratio would
have been 25.0 percent compared to 19.0 percent in 1997.
Underwriting results for all segments (except ACE USA in 1999 and ACE
Bermuda in 1998) are consistent with the Company's operating objective of
achieving an underwriting profit despite the increase in catastrophe activity
in 1998 and 1999. Following the acquisition of ACE INA, the Company initiated
several cost reduction initiatives at ACE INA. These included staff reductions
at ACE INA, outsourcing the IT operations at ACE USA and consolidating numerous
ACE USA field offices. ACE believes that these initiatives should assist ACE
USA in achieving a combined ratio under 100 percent.
Net Investment Income
Year ended Year ended Year ended
December 31 Percentage September 30 Percentage September 30
1999 Change 1998 Change 1997
----------- ---------- ------------ ---------- ------------
(in millions of U.S. dollars)
ACE Bermuda............. $174 (17.2)% $211 11.4% $189
ACE Global Markets...... 28 46.1 % 19 20.3% 16
ACE Global Reinsurance.. 60 13.2 % 53 42.3% 37
ACE USA................. 189 368.8 % 40 -- --
ACE International....... 41 -- -- -- --
Other................... 1 -- 1 -- 11
---- ---- ----
Total investment
income................. $493 $324 $253
==== ==== ====
Net investment income increased by $169 million in the year ended December
31, 1999 compared with the year ended September 30, 1998. The primary reason
for this is an increase in the size of investment assets resulting from the ACE
INA acquisition on July 2, 1999. In addition, there was a significant rise in
U.S. interest rates with U.S. Treasury bond yields closing the year between 150
and 200 basis points higher than at September 30, 1998. This had a marginal
impact on the portfolio yield for the year, but as the portfolio is turned over
and new money invested, higher market yields should have a positive impact
going forward. The average yield on the investment portfolio in 1999 was not
significantly different from that generated in 1998.
8
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
Net investment income increased by $71 million or 27.9 percent in 1998
compared with 1997. This increase is primarily due to an increase in the
investable asset base resulting from the inclusion of the ACE US Holdings and
CAT portfolios in 1998 as well as positive cash flows from operations and the
reinvestment of funds generated by the portfolio. Consistent with the overall
decline in U.S. interest rates during 1998, the average yield earned on the
investment portfolio in 1998 was down when compared with the yield generated in
1997.
ACE Bermuda: Net investment income decreased by 17 percent to $174 million
in 1999 compared with $211 million in 1998 primarily due to a decline in the
investable asset base of ACE Bermuda. During 1999, ACE Bermuda paid $650
million in dividends to ACE Limited to partially finance the ACE INA
acquisition and to cover other operating expenses of the holding company. Net
investment income increased by 11 percent to $211 million in 1998 compared with
$189 million in 1997, primarily due to an increase in its investable asset base
during 1998.
ACE Global Markets: Net investment income increased by 46 percent to $28
million compared with $19 million in 1998 and $16 million in 1997. These
increases result from the Company's increased participation on the Lloyd's
syndicates it manages.
ACE Global Reinsurance: Net investment income increased by 13 percent to $60
million compared with $53 million in 1998 and $37 million in 1997. The
investable asset base of Tempest Re declined in 1999 as Tempest Re paid $316
million of dividends to ACE Limited and paid claims related to the 1999
catastrophes. However, 1999 includes a full year of income on the CAT
investment portfolio compared with six months of investment income in 1998,
offsetting the decline in the asset base.
ACE USA: Net investment income increased by 369 percent to $189 million in
1999 compared with $40 million in 1998. Net investment income includes both ACE
US Holdings and the U.S. operations of ACE INA which are included from July 2,
1999. Net investment income for 1998 represents nine months of net investment
income from ACE US Holdings as it was acquired on January 2, 1998. Prior to
January 2, 1998, the Company had no U.S. based operations.
ACE International: Net investment income of $41 million represents the net
investment income of ACE International since July 2, 1999, the date of
acquisition.
Net Realized Gains (Losses) on Investments
Year Ended Year Ended Year Ended
December 31 September 30 September 30
1999 1998 1997
----------- ------------ ------------
(in millions of U.S. dollars)
Fixed maturities and short-term
investments............................ $(82) $ 58 $ 59
Equity securities....................... 47 168 38
Financial futures and option contracts.. 68 (9) 57
Other investments....................... 9 -- --
Currency................................ (4) (29) (26)
---- ---- ----
$ 38 $188 $128
==== ==== ====
The Company's investment strategy takes a long-term view and the portfolio
is actively managed to maximize total return within certain specific
guidelines, which minimize risk. The portfolio is reported at fair value. The
effect of market movements on the investment portfolio will directly impact net
realized gains (losses) on investments when securities are sold. Changes in
unrealized appreciation (depreciation) which
9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
result from the revaluation of securities held, are reported as a separate
component of accumulated other comprehensive income.
The Company uses foreign currency forward and option contracts to minimize
the effect of fluctuating foreign currencies on the value of non-U.S. dollar
holdings currently held in the portfolio not specifically targeted to match the
currency of liabilities. The contracts used are not designated as specific
hedges and therefore, realized and unrealized gains and losses recognized on
these contracts are recorded as a component of net realized gains (losses) in
the period in which the fluctuations occur, together with net foreign currency
gains (losses) recognized when non-U.S. dollar securities are sold.
Sales proceeds for fixed maturity securities were generally lower than their
amortized cost during the year. This resulted in net realized losses of $82
million being recognized on fixed maturities and short-term investments during
the year ended December 31, 1999 compared to net realized gains of $58 million
for the year ended September 30, 1998.
Continued positive returns in the international equity markets and the
liquidation of two domestic stock portfolios contributed to net realized gains
on the sale of equity securities of $47 million in fiscal 1999 and $168 million
in fiscal 1998.
Certain of the Company's external managers of fixed income securities use
fixed income futures contracts to manage duration exposure, and losses of $18
million were recognized on these during the year ended December 31, 1999. Net
realized gains generated by the Company's equity index futures contracts
amounted to $86 million during the period. Total net realized gains
attributable to the financial futures and option contracts amounted to $68
million, compared to losses of $9 million for the year ended September 30,
1998.
Other Expenses
Year Ended Year Ended Year Ended
December 31 Percentage September 30 Percentage September 30
1999 Change 1998 Change 1997
----------- ---------- ------------ ---------- ------------
(in millions of U.S. dollars)
Goodwill........... $ 45 253.4% $13 75.2% $ 7
==== === ===
Interest expense... $105 313.0% $25 118.4% $12
==== === ===
The increase in goodwill amortization in 1999 is primarily the result of the
amortization of goodwill with respect to the ACE INA acquisition on July 2,
1999. The increase in goodwill in 1998 over 1997 is a result of amortization of
goodwill with respect to the acquisition of CAT.
The increase in interest expense in 1999 is a result of the additional debt
taken on by the Company in connection with the acquisition of ACE INA. For
further information on the Company's outstanding debt, see note 8 of the
consolidated financial statements.
CONSOLIDATED FINANCIAL POSITION
At December 31, 1999, total assets were $30.1 billion compared with $8.8
billion at December 31, 1998. The $21.3 billion increase is primarily due to
the acquisition of ACE INA and Capital Re during the year. On July 2, 1999, ACE
INA added $20.7 billion in assets and on December 30, 1999, Capital Re added
$1.5 billion. These additions were offset by the use of $1.1 billion in assets
to complete the ACE INA and Capital Re acquisitions.
10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
At December 31, 1999, total investments and cash amounted to approximately
$12.9 billion, compared to $6.2 billion at December 31, 1998. The increase is
due primarily to the inclusion of ACE INA's cash and investment portfolio of
$7.2 billion acquired by the Company on July 2, 1999 and Capital Re's
investments and cash of $1.1 billion acquired by the Company on December 30,
1999. The Company used $1.0 billion and $110 million of available cash and
investments in the ACE INA and Capital Re acquisitions, respectively. The
Company's investment portfolio is structured to provide a high level of
liquidity to meet insurance related or other obligations. The consolidated
investment portfolio is externally managed by independent professional
investment managers and is invested primarily in high quality investment grade
marketable fixed income and equity securities, the majority of which trade in
active, liquid markets.
The Company maintains loss reserves for the estimated unpaid ultimate
liability for losses and loss expenses under the terms of its policies and
agreements. The reserve for unpaid losses and loss expenses of $16.5 billion at
December 31, 1999 includes $8.9 billion of case and loss expense reserves.
While the Company believes that its reserve for unpaid losses and loss expenses
at December 31, 1999 is adequate, future developments may result in ultimate
losses and loss expenses significantly greater or less than the reserve
provided.
One of the ways the Company manages its loss exposure is through the use of
reinsurance. While reinsurance arrangements are designed to limit losses from
large exposures and to permit recovery of a portion of direct losses,
reinsurance does not relieve the Company of its liability to its insureds.
Accordingly, the Company's loss reserves represent total gross losses and
reinsurance recoverables represent anticipated recoveries of a portion of those
losses as well as amounts recoverable from reinsurers with respect to claims
which have already been paid by the Company. The Company's reinsurance
recoverables were approximately $8.8 billion and $1.2 billion at December 31,
1999 and 1998, net of allowances for unrecoverable reinsurance of $758 million
and $85 million, respectively. The increase is primarily due to the inclusion
of reinsurance recoverables of ACE INA which amounted to $7.1 billion at July
2, 1999, the date of acquisition.
The allowance for unrecoverable reinsurance is required principally due to
the failure of reinsurers to indemnify the Company, primarily because of
disputes under reinsurance contracts and insolvencies. Reinsurance disputes
continue to be significant, particularly on larger and more complex claims,
such as those related to asbestos and environmental pollution (discussed in
more detail below) and London reinsurance market exposures. Allowances have
been established for amounts estimated to be uncollectible.
Included in the Company's liabilities for losses and loss expenses are
liabilities for asbestos environmental and latent injury damage claims and
expenses ("A&E claims"). These claims are principally related to claims arising
from remediation costs associated with hazardous waste sites and bodily injury
claims related to asbestos products and environmental hazards. These amounts
include provision for both reported and IBNR claims. The table below presents
loss reserve details for A&E exposures as of December 31, 1999 and 1998. The
substantial increase year over year is due to the A&E exposures assumed by the
Company as a result of the acquisition of ACE INA.
1999 1998
----------- ----------
Gross Net Gross Net
------ ---- ----- ----
(in millions of U.S.
dollars)
Asbestos................................................ $ 897 $291 $113 $ 41
Environmental and Other................................. 2,197 676 173 110
------ ---- ---- ----
Total................................................... $3,094 $967 $286 $151
====== ==== ==== ====
11
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
The Company continuously estimates its liabilities and related reinsurance
recoverable for A&E claims. While most of these liabilities for such claims
arise from exposures in North America, the Company has also provided for
international A&E exposures. A&E exposures do not lend themselves to
traditional methods of loss development determination and therefore reserves
related to these exposures may be considered less reliable than reserves for
other lines of business.
The liability for A&E claims is management's best estimate of future claims
and claim expense payments and recoveries which are expected to develop over
the next several decades. The Company continuously monitors evolving case law
and its effect on environmental and latent injury claims. Changing governmental
regulations, newly identified toxins, newly reported claims, new theories of
liability, new contract interpretations and other factors could significantly
affect future claim development. While the Company has recorded its current
best estimate of its liabilities for unpaid claims and claim expenses, it is
reasonably possible that these estimated liabilities, net of estimated
reinsurance recoveries, may increase in the future and that the increase may be
material to the Company's results from operations, cash flows and financial
position. It is not possible to estimate reliably the amount of additional net
loss, or the range of net loss, that is reasonably possible.
At December 31, 1999, the total of the Company's short and long-term debt,
including trust preferred securities was $3.1 billion compared with $250
million at December 31, 1998. Of the total increase of $2.8 billion, $175
million relates to debt and trust preferred securities assumed with the
acquisition of Capital Re. The remaining $2.7 billion is short and long-term
debt incurred in connection with the ACE INA acquisition and, at December 31,
1999 includes approximately $1.0 billion of commercial paper, $500 million of
trust preferred securities and $1.2 billion in long-term debt.
The following table analyzes the movements in shareholders' equity for the
year ended December 31, 1999, the three months ended December 31, 1998 and the
year ended September 30, 1998:
Year Ended Three Months Ended Year Ended
December 31 December 31 September 30
1999 1998 1998
----------- ------------------ ------------
(in millions of U.S. dollars)
Balance, beginning of period...... $3,910 $3,714 $2,785
Net income........................ 365 239 560
Change in net unrealized
appreciation (depreciation) on
investments...................... (186) (26) (69)
Repurchase of ordinary shares..... -- -- (108)
Dividends declared................ (84) (17) (60)
Shares issued in respect to
Capital Re transaction........... 367 -- --
Shares issued in ACE INA
transaction...................... 73 -- --
Value of ordinary shares issued in
share offering................... -- -- 606
Other............................. 6 -- --
------ ------ ------
Balance, end of period............ $4,451 $3,910 $3,714
====== ====== ======
Fully diluted book value per share was $20.28 at December 31, 1999, compared
with $20.18 at December 31, 1998.
LIQUIDITY AND CAPITAL RESOURCES
As a holding company, ACE's assets consist primarily of the stock of its
subsidiaries as well as other investments. In addition to investment income,
its cash flows currently depend primarily on dividends or other
12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
statutorily permissible payments from its Bermuda-based operating subsidiaries
(the "Bermuda subsidiaries"). There are currently no legal restrictions on the
payment of dividends from retained earnings by the Bermuda subsidiaries as the
minimum statutory capital and surplus requirements are satisfied by the share
capital and additional paid-in capital of each of the Bermuda subsidiaries.
However, the payment of dividends or other statutorily permissible
distributions by the Bermuda subsidiaries is subject to the need to maintain
shareholder's equity at a level adequate to support the level of insurance and
reinsurance operations. During the year ended December 31, 1999, ACE Bermuda
and Tempest Re declared dividends of $726 million and $316 million,
respectively. The majority of these funds were used to complete the ACE INA
Acquisition.
The payment of any dividends from ACE Global Markets or its subsidiaries
would be subject to applicable United Kingdom insurance law including those
promulgated by the Society of Lloyd's. No dividends were received from ACE
Global Markets during fiscal 1998 or fiscal 1999 and the Company does not
anticipate receiving dividends from ACE Global Markets during fiscal 2000. ACE
INA has issued debt to provide partial financing for the ACE INA Acquisition
and for other operating needs. Cash flow requirements to service this debt are
expected to be met primarily by upstreaming dividend payments from ACE INA's
insurance subsidiaries. Under various U.S. insurance laws to which ACE INA's
U.S. insurance subsidiaries are subject, ACE INA's U.S. insurance subsidiaries
may pay a dividend only from earned surplus subject to the maintenance of a
minimum capital requirement, without prior regulatory approval. ACE INA's
international subsidiaries are also subject to various insurance laws and are
also subject to regulations in the countries in which they operate. These
regulations include restrictions that limits the amount of dividends that can
be paid without prior approval of the insurance regulatory authorities. No
dividends have been received from ACE INA through December 31, 1999.
The Company's consolidated sources of funds consist primarily of net
premiums written, investment income, and proceeds from sales and maturities of
investments. Funds are used primarily to pay claims, operating expenses and
dividends and for the purchase of investments.
The Company's insurance and reinsurance operations provide liquidity in that
premiums are normally received substantially in advance of the time claims are
paid. For the year ended December 31, 1999, the Company's consolidated net cash
flow from operating activities was $(460) million, compared with $67 million
for the year ended September 30, 1998. Cash flows are affected by claim
payments, which due to the nature of the Company's operations, may comprise
large loss payments on a limited number of claims and therefore can fluctuate
significantly from year to year. The irregular timing of these loss payments,
for which the source of cash can be from operations, available net credit
facilities or routine sales of investments, can create significant variations
in cash flows from operations between periods. For the year ended December 31,
1999 and years ended September 30, 1998 and 1997, net losses and loss expense
payments amounted to $2.4 billion, $584 million and $422 million respectively.
Approximately $140 million for the year ended December 31, 1999; $100 million
for the three months ended December 31, 1998; $120 million and $250 million for
the years ended September 30, 1998 and 1997, respectively, related to breast
implant payments.
The majority of markets in which the Company currently operates are
experiencing softness in pricing and expanding coverage terms. This may result
in reduced premium volumes and to some extent increases in the combined ratios.
The Company continues to maintain its underwriting discipline in these markets
and focus on profitable underwriting. This underwriting discipline together
with the Company's increased use of reinsurance may result in lower
underwriting and operating income for the Company's current books of business
if the current insurance market environment remains unchanged. The Company
anticipates that the impact of this situation, if unchanged, will be lower
operating income than the level otherwise expected from our current books of
business for fiscal 2000. In addition, the use of $1.025 billion of available
cash from the Bermuda companies' investment portfolios on July 2, 1999 to
partially fund the ACE INA Acquisition has resulted in reduced investment
income from the Bermuda operations.
13
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
As previously noted, on July 2, 1999, the Company completed the ACE INA
Acquisition for $3.45 billion in cash. The Company financed the transaction as
follows:
(a) $1.025 billion of available cash;
(b) $400 million from a hybrid trust preferred security. The interest rate on
this security is LIBOR plus 125 basis points. ACE simultaneously entered
into an agreement relating to the future issuance of $400 million of ACE
ordinary shares in a public offering prior to June 30, 2002;
(c) and the remainder with commercial paper issuance with a current annualized
cost in the range of 5.3 to 6.2 percent. The commercial paper offerings are
backed by line of credit facilities, which were arranged in connection with
the ACE INA Acquisition.
In August 1999, commercial paper outstanding in (c) above was reduced by
$794 million using the net proceeds from a senior debt issuance. In December
1999, the commercial paper outstanding was reduced further, by an additional
$400 million, using the proceeds from the issuance of $300 million in aggregate
principal amount of unsecured subordinated notes maturing in December 2009, and
the proceeds of the trust preferred securities amounting to $100 million. These
trust preferred securities mature on December 31, 2029, but the due date may be
extended through December 31, 2048. Distributions on the preferred securities
are payable quarterly at a rate of 8.875 percent. The preferred securities are
backed by subordinated debentures of ACE INA. The Company has guaranteed the
payment obligations with respect to the trust preferred securities and
underlying subordinated indenture. The interest payments on the senior debt,
the unsecured subordinated notes and the trust preferred securities, which were
all issued by ACE INA, are tax deductible.
Ultimately, it is anticipated that the balance of the commercial paper noted
in (c) above will be replaced with a combination of newly issued ACE ordinary
shares, trust preferred securities and or mandatorily convertible securities at
the time when ACE considers market conditions to be suitable for issuance. The
Company and certain of its subsidiaries and related trusts have an effective
shelf registration statement covering up to $3.2 billion of equity and debt
securities that may be issued from time to time.
On December 30, 1999, the Company completed the acquisition of Capital Re
for aggregate consideration of $110 million in cash and approximately 20.8
million ACE ordinary shares. The cash used to finance the acquisition was
generated from internal sources.
On October 16, 1998, January 15, 1999, and April 16, 1999, the Company paid
quarterly dividends of 9 cents per share to shareholders of record on September
30, 1998, December 15, 1998 and March 31, 1999. On July 16, 1999, October 15,
1999 and January 14, 2000, the Company paid quarterly dividends of 11 cents per
share to shareholders of record on June 30, 1999, September 30, 1999 and
December 31, 1999. The declaration and payment of future dividends is at the
discretion of the Board of Directors and will be dependent upon the profits and
financial requirements of the Company and other factors, including legal
restrictions on the payment of dividends and such other factors as the Board of
Directors deems relevant.
The Company's financial condition, results of operations and cash flows are
influenced by both internal and external forces. Claim settlements, premium
levels and investment returns may be impacted by changing rates of inflation
and other economic conditions. In many cases, significant periods of time,
ranging up to several years or more, may elapse between the occurrence of an
insured loss, the reporting of the loss to the Company and the settlement of
the Company's liability for that loss. The Company believes that its cash
balances, cash flow from operations, routine sales of investments and the
liquidity provided by its credit facilities (discussed below) are adequate to
meet the Company's expected cash requirements.
14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
Credit facilities
In June 1999, the Company arranged certain syndicated credit facilities.
Each facility requires that the Company and/or certain of its subsidiaries
maintain specific covenants, including a consolidated tangible net worth
covenant and a maximum leverage covenant. At December 31, 1999, the Company and
its relevant subsidiaries were in compliance with all convenants. The
facilities provide:
. A $750 million, 364-day revolving credit facility with ACE, ACE Bermuda,
Tempest Re and ACE INA as borrowers and guarantors. The initial purpose
of this facility was to provide interim financing for the ACE INA
Acquisition, however, after certain conditions were met, up to $500
million of this facility could remain in place for general corporate
purposes. These conditions have been met and a $500 million facility
remains in place.
. A $250 million, five-year revolving credit facility with ACE, ACE
Bermuda, Tempest Re and ACE INA as borrowers and guarantors. This
facility is for general corporate purposes and has a letter of credit
sub-limit of $250 million.
. A $2.05 billion, 364-day revolving credit facility with a one-year term
out option with ACE INA as borrower and ACE Ltd., ACE Bermuda and Tempest
Re as guarantors. This facility was arranged to provide interim financing
for the ACE INA Acquisition and availability is decreased as permanent
financing is raised and is applied to borrowings and/or commercial paper.
As of December 31, 1999, $618 million remains available under this
facility.
Each of the above facilities may be used as commercial paper recourse
facilities.
Tempest Re also maintains an uncollateralized, syndicated revolving credit
facility in the amount of $72.5 million. At December 31, 1999, no amounts have
been drawn down under this facility. The facility requires that Tempest Re
comply with specific covenants. The Company added its guarantee to this
facility in June 1999.
Capital Re is party to a credit facility with and a syndicate of banks
pursuant to which the syndicate provides up to $100 million specifically
designed to provide rating agency qualified capital to further support Capital
Re's claims-paying resources. This agreement expires in January 2006. Capital
Re has not borrowed under this credit facility. Capital Re also maintains a $5
million revolving credit facility which was guaranteed by the Company in
December 1999.
In August 1996, Capital Re entered into a credit agreement for the provision
of a $25 million credit facility. As of December 31, 1999, $25 million remains
outstanding under this facility. The Company expects to refinance this facility
in conjuction with the ultimate renewal of its revolving credit facilities.
In June 1999, the Company arranged certain commercial paper programs. The
programs use revolving credit facilities (as discussed above) as recourse
facilities and provide for up to $2.8 billion in commercial paper issuance
(subject to the availability of recourse facilities) for ACE and for ACE INA.
At December 31, 1999, short-term debt consisted of $425 million and $625
million of commercial paper issued by ACE and ACE INA respectively. The
commercial paper rates are currently in the 5.6 to 6.2 percent range, depending
on maturity. On July 2, 1999, $425 million and $1.65 billion were drawn down
under these programs by ACE and ACE INA respectively to partially finance the
ACE INA Acquisition.
In June 1999, the Company and ACE INA arranged a short-term money market
facility in the amount of $225 million for general corporate purposes. In July
1999, a portion of the facility was used to finance certain liabilities of an
ACE INA subsidiary. In November 1999, this facility was cancelled and repaid
with proceeds from the commercial paper programs described above.
15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
In November 1998, the Company arranged a syndicated, partially
collateralized, five-year LOC facility in the amount of (Pounds)270 million
(approximately $437 million) to fulfill the requirements of Lloyd's for the
1999 year of account. This LOC facility requires that the Company and/or
certain of its subsidiaries continue to maintain certain covenants, including a
minimum consolidated tangible net worth covenant and a maximum leverage
covenant. On June 30, 1999, certain terms of this LOC facility were
renegotiated and the facility is now uncollateralized. The facility was renewed
in November 1999 in the amount of (Pounds)290 million (approximately $470
million) to fulfill the requirements of Lloyd's for the 2000 year of account.
MARKET SENSITIVE INSTRUMENTS AND RISK MANAGEMENT
Market Sensitive Instruments and Risk Management
In accordance with the Securities and Exchange Commission's Financial
Reporting Release No. 48, the following analysis presents hypothetical losses
in cash flows, earnings and fair values of derivative instruments and other
market sensitive instruments used in the Company's portfolio as at December 31,
1999. The Company uses investment derivative instruments such as futures,
options and foreign currency forward and option contracts for duration
management and management of foreign currency exposures. These instruments are
sensitive to changes in interest rates and foreign currency exchange rates. The
portfolio includes other market sensitive instruments which are subject to
changes in market values, with changes in interest rates.
Duration Management and Market Exposure Management
The Company uses financial futures and option contracts for the purpose of
managing certain investment portfolio exposures. Futures contracts are not
recognized in the financial statements as assets or liabilities and any changes
in fair value of these instruments due to changes in market interest rates
would be recognized in the statement of operations as realized gains or losses
in accordance with the Company's accounting policy. Option contracts are
utilized in the portfolio for the purposes of duration management and to
provide protection against any unexpected shifts in interest rates. At December
31, 1999, the fair value of the option contracts held and written was $728,000
and $(461,000) respectively, compared with $3,673,000 and $(715,000) at
December 31, 1998. The market value of mortgage-backed securities, another
category of market sensitive instruments, was $2.1 billion, or approximately 16
percent of the total investment portfolio, compared with $1.6 billion or 28
percent at December 31, 1998. Mortgage-backed securities include pass through
mortgage bonds and collateralized mortgage obligations.
The aggregate hypothetical loss generated by the fixed income portfolio from
an adverse parallel shift in the treasury yield curve of 100 basis points would
be a decrease in total return of 4.3 percent. This equates to a decrease in
market value of approximately $490 million on a fixed income portfolio valued
at $11 billion at December 31, 1999. An immediate time horizon was used as this
presents the worse case scenario.
IMPACT OF THE YEAR 2000 ISSUE
General
The management of ACE Limited recognized that the Year 2000 issue, if left
untreated, could have had a material adverse effect on the Company's business,
results of operations or financial condition and instituted a project to
address this issue.
16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
The Year 2000 issue stems from the inability, in some cases, of computer
programs and embedded microchips to correctly process certain data. The issue
might be experienced because dates that fall in the range of years from 2000-
2099 might not be properly distinguished from those in corresponding years
which fell in the range of years from 1900-1999.
Although all ACE Group companies had individually taken steps earlier
towards alleviating the Year 2000 issue, a formal group-wide project was
established in March 1998. At that time, a "Group Year 2000 coordinator" was
appointed for the ACE Group and an executive steering committee was formed to
oversee the project. This committee met on a monthly basis to review progress
and took corrective action when necessary. In each of the ACE subsidiary
companies, a senior member of the management was appointed as Year 2000
coordinator. Each Year 2000 coordinator had responsibility for that part of the
Year 2000 plan relevant to its company. Detailed quarterly reports on the
status of the Year 2000 project have been delivered to the audit committee of
the Board of Directors.
A consultant who is an experienced project manager was retained to assist
the Year 2000 coordinator. In addition, certain subsidiaries engaged external
consultants to assist in monitoring their plans.
The Company's Year 2000 project was divided into four sections:
Underwriting; Information Technology; Trading Partners; and Physical Plant. The
project is complete except for (a) a small residual number of known corrections
to a few items of hardware and software, none of which is critical to the
business, (b) response to possible future issues with hardware, software
physical plant or suppliers which have not yet manifested themselves, (c)
response to Year 2000 claims. ACE's management believes that this project was
successful in reducing the impact of the Year 2000 issue to an immaterial
level.
The Year 2000 projects of those parts of CIGNA acquired by ACE on July 2,
1999 were incorporated into ACE's Year 2000 project as were those of Capital Re
which was acquired on December 30, 1999.
Underwriting
Underwriting teams within each ACE Group subsidiary considered the risks
with respect to the Year 2000 issue that might be associated with underwriting
their various lines of business and developed internal guidelines which sought
to minimize these risks. Compliance with these guidelines was the subject of
internal audits and/or peer reviews. These guidelines were regularly reviewed.
In some cases, exclusionary language was added to policies and in all cases
there was a requirement for underwriters to consider information about ACE's
clients and potential clients that was relevant to the Year 2000 issue and,
based on that, risks were prudently underwritten or declined.
Information Technology
Each ACE subsidiary developed a plan intended to ensure that all information
technology components such as hardware, software and network equipment that
would be in use in the Year 2000 (and beyond) by any business-critical function
would not suffer from the Year 2000 issue. Inventories were prepared of all
such components, and appropriate action was decided. Apart from a very small
number of "clean-up" items to non-critical components these are complete.
All business-critical applications in the ACE Group are Year 2000 compliant
and are running routinely and without errors.
Testing of hardware and network components was completed before the end of
1999 with a few minor items remaining outstanding. Testing of other software,
such as operating systems and PC desktop applications was completed on
schedule, though in a few cases the Company relied on assurances from
established software manufacturers that their systems would operate correctly.
17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION--(Continued)
Very few problems have been experienced on or since January 1, 2000 with any
of ACE's IT components and all of the problems have been dealt with easily and
expeditiously. ACE continues to be vigilant for possible problems in the
future.
Trading Partners and Physical Plant
The trading partners' section of the project focused on Year 2000 issues
relating to the Company's trading partners. Examples of the Company's trading
partners are: insurance brokers, banks, reinsurance companies, vendors and
service providers in information technology and general suppliers.
The physical plant section of the project focused on items such as
elevators, fire suppression systems, security systems and building management
systems (which may control air-conditioning, heating and lighting systems)
which may be controlled by software programs or embedded chips, and might thus
fail or act unpredictably in, or after the year 2000. Furthermore, supply of
electrical power and telecommunications services were considered here.
All material trading partners and those vendors and service providers
connected with physical plant were inventoried and questionnaires were sent to
them soliciting information about their Year 2000 readiness. Responses were
provided in almost all cases. ACE assessed those responses that were
forthcoming. Most of these responses appeared to give evidence of satisfactory
progress and a few did not. In those cases where additional follow-up failed to
provide satisfactory responses, contingency plans were developed to minimize
the effect of potential failure of a trading partner.
ACE has not experienced any significant problems with trading partners or
physical plant on or since January 1, 2000, nor had any need to execute
contingency plans.
Costs
The total cost of the Year 2000 project is not expected to be material to
the Company's financial position. The total estimated cost was approximately
$6.55 million. Total expenditure to date on the whole project was $3.5 million.
Although some of the unused budget will be used for settling expected expenses
for making IT systems Year 2000 compliant, and some might still be used for
execution of actions in contingency plans, it now appears that the project will
be completed well under its originally estimated cost.
Risks
Although it is premature to dismiss the possibility that problems could
occur, there now appears to be little remaining risk to ACE associated with the
Year 2000 issue.
18
ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
F-1
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS
Management is responsible for the preparation, integrity and objectivity of
the consolidated financial statements and other financial information presented
in this annual report. The accompanying consolidated financial statements were
prepared in accordance with accounting principles generally accepted in the
United States, applying certain estimates and judgments as required.
The Company's internal controls are designed to provide reasonable assurance
as to the integrity and reliability of the financial statements and to
adequately safeguard, verify and maintain accountability of assets. Such
controls are based on established policies and procedures and are implemented
by trained, skilled personnel with an appropriate segregation of duties. The
Company's internal audit department performs independent audits on the
Company's internal controls. The Company's policies and procedures prescribe
that the Company and all its employees are to maintain the highest ethical
standards and that its business practices are to be conducted in a manner,
which is above reproach.
PricewaterhouseCoopers LLP, independent accountants, are retained to audit
the Company's financial statements. Their accompanying report is based on
audits conducted in accordance with auditing standards, generally accepted in
the United States which includes the consideration of the Company's internal
controls to establish a basis for reliance thereon in determining the nature,
timing and extent of audit tests to be applied.
The Board of Directors exercises its responsibility for these financial
statements through its Audit Committee, which consists entirely of independent
non-management Board members. The Audit Committee meets periodically with the
independent accountants, both privately and with management present, to review
accounting, auditing, internal controls and financial reporting matters.
/s/ Brian Duperreault
__________________________________ /s/ Christopher Z. Marshall
__________________________________
Brian Duperreault Christopher Z. Marshall
Chairman and Chief Executive Officer Chief Financial Officer
F-2
REPORT OF INDEPENDENT ACCOUNTANTS
To The Board of Directors and Shareholders of ACE Limited
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, comprehensive income, shareholders'
equity and cash flows present fairly, in all material respects, the financial
position of ACE Limited and its subsidiaries at December 31, 1999 and 1998, and
the results of their operations and their cash flows for the year ended
December 31, 1999, the three months ended December 31, 1998 and the years ended
September 30, 1998 and 1997 in conformity with accounting principles generally
accepted in the United States. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with auditing standards generally
accepted in the United States, which require that we plan and perform the
audits to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for the
opinion expressed above.
PricewaterhouseCoopers LLP
New York, New York
February 16, 2000
F-3
ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1999 and 1998
1999 1998
----------- ----------
(in thousands of U.S.
dollars)
(except share and per
share data)
Assets
Investments and cash
Fixed maturities available for sale, at fair value
(amortized cost--$10,080,402 and $4,784,412)....... $ 9,849,803 $4,866,366
Equity securities, at fair value (cost--$780,558 and
$196,375).......................................... 933,314 220,843
Short-term investments, at fair value (amortized
cost--$1,194,956 and $757,788)..................... 1,192,875 757,804
Other investments, at fair value (cost--$303,714 and
$128,119).......................................... 300,311 129,331
Cash................................................ 599,232 240,556
----------- ----------
Total investments and cash......................... 12,875,535 6,214,900
Accrued investment income........................... 170,755 54,491
Insurance and reinsurance balances receivable....... 2,018,788 347,810
Accounts and notes receivable....................... 533,863 --
Reinsurance recoverable............................. 8,840,081 1,159,270
Deferred policy acquisition costs................... 514,425 67,502
Prepaid reinsurance premiums........................ 580,244 201,529
Goodwill............................................ 2,822,718 535,920
Deferred tax assets................................. 916,184 42,796
Other assets........................................ 850,295 210,087
----------- ----------
Total assets....................................... $30,122,888 $8,834,305
=========== ==========
Liabilities
Unpaid losses and loss expenses....................... $16,460,247 $3,678,269
Unearned premiums..................................... 2,428,828 705,712
Premiums received in advance.......................... 63,759 62,671
Insurance and reinsurance balances payable............ 1,735,956 72,993
Contract holder deposit funds......................... 201,079 --
Accounts payable, accrued expenses and other
liabilities.......................................... 1,684,725 137,383
Dividend payable...................................... 23,921 17,700
Short-term debt....................................... 1,074,585 --
Long-term debt........................................ 1,424,228 250,000
Trust preferred securities............................ 575,000 --
----------- ----------
Total liabilities.................................. 25,672,328 4,924,728
----------- ----------
Commitments and contingencies
Shareholders' equity
Ordinary Shares ($0.041666667 par value, 300,000,000
shares authorized; 217,460,515 and 193,687,126 shares
issued and outstanding).............................. 9,061 8,070
Additional paid-in capital............................ 2,214,989 1,767,188
Unearned stock grant compensation..................... (28,908) (15,087)
Retained earnings..................................... 2,321,570 2,040,664
Accumulated other comprehensive (loss) income......... (66,152) 108,742
----------- ----------
Total shareholders' equity......................... 4,450,560 3,909,577
----------- ----------
Total liabilities and shareholders' equity......... $30,122,888 $8,834,305
=========== ==========
See accompanying notes to consolidated financial statements
F-4
ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the year ended December 31, 1999, the three months ended December 31, 1998
and the years ended September 30, 1998 and 1997
Three Months
Year Ended Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------ ------------ ------------
(in thousands of U.S. dollars, except per share
data)
Revenues
Gross premiums written... $ 3,869,157 $254,068 $1,242,159 $ 959,349
Reinsurance premiums
ceded................... (1,373,809) (99,965) (361,186) (169,576)
----------- -------- ---------- ----------
Net premiums written..... 2,495,348 154,103 880,973 789,773
Change in unearned
premiums................ (9,611) 63,904 13,330 15,599
----------- -------- ---------- ----------
Net premiums earned...... 2,485,737 218,007 894,303 805,372
Net investment income.... 493,337 85,095 324,254 253,440
Net realized gains on
investments............. 37,916 130,154 188,385 127,702
----------- -------- ---------- ----------
Total revenues......... 3,016,990 433,256 1,406,942 1,186,514
----------- -------- ---------- ----------
Expenses
Losses and loss
expenses................ 1,639,543 111,169 516,892 486,140
Policy acquisition
costs................... 338,076 27,812 105,654 85,762
Administrative expenses.. 495,236 41,218 165,912 67,724
Amortization of
goodwill................ 45,350 4,435 12,834 7,325
Interest expense......... 105,138 4,741 25,459 11,657
----------- -------- ---------- ----------
Total expenses......... 2,623,343 189,375 826,751 658,608
----------- -------- ---------- ----------
Income before income
taxes..................... 393,647 243,881 580,191 527,906
Income tax expense......... 28,684 5,342 20,040 25,181
----------- -------- ---------- ----------
Net income................. $ 364,963 $238,539 $ 560,151 $ 502,725
=========== ======== ========== ==========
Basic earnings per share... $ 1.88 $ 1.23 $ 3.03 $ 2.73
=========== ======== ========== ==========
Diluted earnings per
share..................... $ 1.85 $ 1.21 $ 2.96 $ 2.69
=========== ======== ========== ==========
See accompanying notes to consolidated financial statements
F-5
ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
For the year ended December 31, 1999, the three months ended December 31, 1998,
and the years ended September 30, 1998 and 1997
Year Ended Three Months Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------------ ------------ ------------
(in thousands of U.S. dollars)
Ordinary Shares
Balance--beginning of
period.............. $ 8,070 $ 8,066 $ 7,508 $ 7,868
Shares issued in
Capital Re
transaction......... 867 -- -- --
Shares issued in ACE
INA transaction..... 108 -- -- --
Exercise of stock
options............. 15 4 16 8
Issued under Employee
Stock Purchase Plan
(ESPP).............. 1 -- 1 1
Shares issued........ -- -- 688 --
Issued under Stock
Appreciation Right
(SAR) Plan.......... -- -- -- 9
Repurchase of
Shares.............. -- -- (147) (378)
----------- ----------- ----------- -----------
Balance--end of
period............ 9,061 8,070 8,066 7,508
----------- ----------- ----------- -----------
Additional paid-in
capital
Balance--beginning of
period.............. 1,767,188 1,765,261 1,177,954 1,231,324
Ordinary Shares
issued in Capital Re
transaction......... 366,009 -- -- --
Ordinary Shares
issued in ACE INA
transaction......... 72,484 -- -- --
Options issued in
Capital Re
transaction......... 2,500 -- -- --
Exercise of stock
options............. 5,658 1,927 4,225 2,182
Ordinary Shares
issued under ESPP... 1,150 -- 954 228
Ordinary Shares
issued.............. -- -- 605,211 --
Cancellation of
restricted stock
awards.............. -- -- -- (87)
Ordinary Shares
issued under SAR
Plan................ -- -- -- 3,919
Repurchase of
Ordinary Shares..... -- -- (23,083) (59,612)
----------- ----------- ----------- -----------
Balance--end of
period............ 2,214,989 1,767,188 1,765,261 1,177,954
----------- ----------- ----------- -----------
Unearned stock grant
compensation
Balance--beginning of
period.............. (15,087) (6,181) (1,993) (1,299)
Stock grants
awarded............. (21,706) (9,924) (8,551) (3,244)
Stock grants
forfeited........... 312 -- -- 79
Amortization......... 7,573 1,018 4,363 2,471
----------- ----------- ----------- -----------
Balance--end of
period............ (28,908) (15,087) (6,181) (1,993)
----------- ----------- ----------- -----------
Retained earnings
Balance--beginning of
period.............. 2,040,664 1,819,554 1,403,463 1,068,389
Net income........... 364,963 238,539 560,151 502,725
Dividends declared... (84,057) (17,429) (59,646) (44,993)
Repurchase of
Ordinary Shares..... -- -- (84,414) (122,658)
----------- ----------- ----------- -----------
Balance--end of
period............ 2,321,570 2,040,664 1,819,554 1,403,463
----------- ----------- ----------- -----------
Accumulated other
comprehensive income
Net unrealized
appreciation
(depreciation) on
investments
Balance--beginning of
period.............. 102,271 127,845 196,655 61,281
Change in period, net
of tax.............. (185,598) (25,574) (68,810) 135,374
----------- ----------- ----------- -----------
Balance--end of
period............ (83,327) 102,271 127,845 196,655
----------- ----------- ----------- -----------
Cumulative
translation
adjustments
Balance--beginning of
period.............. 6,471 (275) 1,568 (560)
Net adjustment for
period, net of tax.. 10,704 6,746 (1,843) 2,128
----------- ----------- ----------- -----------
Balance--end of
period............ 17,175 6,471 (275) 1,568
----------- ----------- ----------- -----------
Accumulated other
comprehensive income.. (66,152) 108,742 127,570 198,223
----------- ----------- ----------- -----------
Total
shareholders'
equity.......... $ 4,450,560 $ 3,909,577 $ 3,714,270 $ 2,785,155
=========== =========== =========== ===========
See accompanying notes to consolidated financial statements
F-6
ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
For the year ended December 31, 1999, the three months ended December 31, 1998
and the years ended September 30, 1998 and 1997
Year Ended Three Months Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------------ ------------ ------------
(in thousands of U.S. dollars)
Net income.............. $ 364,963 $ 238,539 $ 560,151 $ 502,725
Other comprehensive
income (loss)
Net unrealized
appreciation
(depreciation) on
investments
Unrealized
appreciation
(depreciation) on
investments.......... (130,832) (4,158) 257,292 135,374
Less: reclassification
adjustment for net
realized gains
included in net
income............... (60,145) (25,319) (316,820) --
--------- --------- --------- ---------
(190,977) (29,477) (59,528) 135,374
Cumulative translation
adjustments.......... 18,008 6,746 (1,843) 2,128
--------- --------- --------- ---------
Other comprehensive
income (loss), before
income taxes........... (172,969) (22,731) (61,371) 137,502
Income tax recovery
(expense) related to
other comprehensive
income items........... (1,925) 3,903 (9,282) --
--------- --------- --------- ---------
Other comprehensive
income................. (174,894) (18,828) (70,653) 137,502
--------- --------- --------- ---------
--------- --------- --------- ---------
Comprehensive income.... $ 190,069 $ 219,711 $ 489,498 $ 640,227
========= ========= ========= =========
See accompanying notes to consolidated financial statements
F-7
ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the year ended December 31, 1999, the three months ended December 31, 1998,
and the years ended September 30, 1998 and 1997
Year Ended Year Ended Year Ended
December 31 Three Months Ended September 30 September 30
1999 December 31 1998 1998 1997
------------ ------------------ ------------ ------------
(in thousands of U.S. dollars)
Cash flows from
operating activities
Net income............. $ 364,963 $ 238,539 $ 560,151 $ 502,725
Adjustments to
reconcile net income to
net cash provided by
operating activities:
Unearned premiums..... 71,658 (67,990) 18,168 (5,731)
Unpaid losses and loss
expenses, net of
reinsurance
recoverables......... (1,098,795) (102,117) (96,361) 114,571
Prepaid reinsurance
premiums............. (65,068) 3,493 (111,188) (2,881)
Deferred income
taxes................ (46,853) (17,532) 52,240 17,494
Net realized gains on
investments.......... (37,916) (130,154) (188,385) (127,702)
Amortization of
premium/discounts on
fixed maturities..... (8,712) (1,958) (22,530) (6,104)
Amortization of
goodwill............. 45,350 4,435 12,834 7,325
Deferred policy
acquisition costs.... (7,282) 8,943 (8,025) 5,122
Insurance and
reinsurance balances
receivable........... (41,199) 29,497 (52,709) (49,977)
Premiums received in
advance.............. 1,088 8,877 28,823 6,366
Insurance and
reinsurance balances
payable.............. 440,607 (2,905) 62,153 11,245
Accounts payable,
accrued expenses and
other liabilities.... (89,171) (28,144) (145,872) (42,078)
Net change in contract
holder deposit
funds................ (3,814) -- -- --
Other................. 14,292 (14,375) (42,529) (6,892)
------------ ----------- ----------- -----------
Net cash flows from
(used for) operating
activities.......... $ (460,852) $ (71,391) $ 66,770 $ 423,483
------------ ----------- ----------- -----------
Cash flows from
investing activities
Purchases of fixed
maturities........... (17,853,323) (3,169,088) (7,865,794) (6,796,843)
Purchases of equity
securities........... (368,923) (29,015) (221,952) (603,598)
Sales of fixed
maturities........... 18,553,593 3,032,461 7,625,861 6,817,944
Sales of equity
securities........... 421,365 25,338 688,261 385,552
Maturities of fixed
maturities........... 437,665 4,310 147,093 5,000
Net realized gains
(losses) on financial
future contracts..... 68,311 121,542 (9,287) 57,076
Other investments..... (139,034) 26,103 (60,735) (52,080)
Acquisitions of
subsidiaries, net of
cash acquired........ (2,679,216) -- (967,758) (27,098)
------------ ----------- ----------- -----------
Net cash from (used
for) investing
activities.......... $ (1,559,562) $ 11,651 $ (664,311) $ (214,047)
------------ ----------- ----------- -----------
Cash flows from
financing activities
Dividends paid........ $ (77,836) $ (17,422) $ (54,389) $ (43,028)
Repayment of bank
debt................. (198,816) (250,000) (385,000) --
Proceeds from long-
term debt............ 1,099,334 250,000 250,000 --
Proceeds from short-
term debt............ 1,049,585 -- 385,000 --
Proceeds from issuance
of trust preferred
securities........... 500,000 -- -- --
Proceeds from exercise
of options for
ordinary shares...... 5,672 4 4,243 2,191
Proceeds from shares
issued under Employee
Stock Purchase Plan.. 1,151 -- 955 --
Proceeds from shares
issued under Stock
Appreciation Rights
Plan................. -- -- -- 4,156
Net proceeds from
issuance of ordinary
shares............... -- -- 605,899 --
Repurchase of ordinary
shares............... -- -- (107,644) (182,648)
------------ ----------- ----------- -----------
Net cash from (used
for) financing
activities.......... $ 2,379,090 $ (17,418) $ 699,064 $ (219,329)
------------ ----------- ----------- -----------
Net increase (decrease)
in cash............... 358,676 (77,158) 101,523 (9,893)
Cash--beginning of
period................ 240,556 317,714 216,191 226,084
------------ ----------- ----------- -----------
Cash--end of period.... $ 599,232 $ 240,556 $ 317,714 $ 216,191
============ =========== =========== ===========
Supplemental cash flow
information
Taxes paid (received).. $ 29,532 $ 168 $ (48,848) $ 3,975
Interest paid.......... $ 73,021 $ 3,073 $ 41,513 $ 5,700
See accompanying notes to consolidated financial statements
F-8
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. General
ACE Limited ("ACE" or the "the Company") is a holding company incorporated
with limited liability under the Cayman Islands Companies Law and maintains its
business office in Bermuda. The Company provides property and casualty
insurance and reinsurance for a diverse group of customers world wide. ACE
International also provides accident and health insurance products that are
designed to meet the insurance needs of individuals and groups outside of the
U.S. insurance markets. In addition, through ACE Global Markets, the Company
provides funds at Lloyd's to support underwriting by Lloyd's syndicates managed
by Lloyd's managing agencies, which are indirect wholly owned subsidiaries of
ACE. ACE operates through six business segments: ACE Bermuda, ACE Global
Markets, ACE Global Reinsurance, ACE USA, ACE International and ACE Financial
Services. ACE USA principally includes the domestic U.S. business of ACE INA
which was acquired on July 2, 1999 and ACE US Holdings which was acquired on
January 2, 1998 ("ACE US Holdings"). These segments are described in note 17.
On July 2, 1999, the Company changed its fiscal year-end from September 30
to December 31. This change has been implemented retroactively to December 31,
1998.
2. Significant accounting policies
a) Basis of presentation
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States
of America ("GAAP") and include the accounts of the Company and its
subsidiaries. The Company records its proportionate share of the results of the
Lloyd's syndicates in which it participates. All significant intercompany
accounts and transactions have been eliminated. Certain items in the prior year
financial statements have been reclassified to conform with the current year
presentation. It is impractical to calculate the information required for the
"reclassification adjustment for net realized gains included in net income" in
the statement of comprehensive income for the year ended September 30, 1997 and
therefore, the reclassification from "net unrealized appreciation
(depreciation) on investments" in 1997 has not been presented.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. The Company's principal estimates include property
and casualty loss and loss expense reserves and estimated premiums for
situations where the Company has not received ceding company reports. Actual
results may differ from these estimates.
b) Investments
The Company's investments are considered to be "available for sale" under
the definition included in the Financial Accounting Standard Board's ("FASB")
Statement of Financial Accounting Standards No. 115 "Accounting for Certain
Investments in Debt and Equity Securities". Except for certain "other
investments" where there is no quoted market value, the Company's investment
portfolio is reported at fair value, being the quoted market price of these
securities provided by either independent pricing services, or when such prices
are not available, by reference to broker or underwriter bid indications.
Realized gains or losses on sales of investments are determined on a first-in,
first-out basis and include adjustments to the net realizable value of
investments for declines in value that are considered to be other than
temporary. Unrealized appreciation (depreciation) on investments are included
as other comprehensive income in shareholders' equity.
F-9
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Short-term investments comprise securities due to mature within one year of
date of issue. Short-term investments include certain cash and cash equivalents
which are part of investment portfolios under the management of external
investment managers.
A portion of the other investments comprise investments in entities for
which there is no quoted market value. In such cases, the investments are
carried at estimated fair value which does not exceed original cost.
The Company utilizes financial futures and option contracts and foreign
currency forward and option contracts for the purpose of managing certain
investment portfolio exposures (see note 7(a) for additional discussion of the
objectives and strategies employed). Futures contracts are not recognized as
assets or liabilities in the accompanying consolidated financial statements.
Changes in the market value of futures contracts produce daily cash flows,
which are included in net realized gains or losses on investments in the
consolidated statements of operations.
Collateral held by brokers equal to a percentage of the total value of open
futures contracts is included in short-term investments.
Option contracts that are designated as hedges of securities are marked-to-
market. Unrealized appreciation (depreciation) on forward currency and option
contracts which are designated as specific hedges are recognized in the
financial statements as comprehensive income and accumulated as a separate
component of shareholders' equity. Gains and losses resulting from currency
fluctuations on transactions which are not designated as specific hedges
against any single security or group of securities are recognized as a
component of income in the period in which the fluctuations occur. Premiums
paid or received on option contracts that have expired, been closed out or
exercised, are recognized as realized gains and losses on investments in the
consolidated statements of operations.
Net investment income includes interest and dividend income together with
amortization of market premiums and discounts and is net of investment
management and custody fees. For mortgage-backed securities, and any other
holdings for which there is a prepayment risk, prepayment assumptions are
evaluated and revised as necessary. Any adjustments required due to the
resultant change in effective yields and maturities are recognized in current
income.
c) Premiums
Premiums are generally recognized as written upon inception of the policy.
For multi-year policies written which are payable in annual installments, due
to the ability of the insured/reinsured to commute or cancel coverage within
the term of the policy, only the annual premium is included as written at
policy inception. The remaining annual premiums are included as written at each
successive anniversary date within the multi-year term.
Premiums written are primarily earned on a daily pro rata basis over the
terms of the policies to which they relate. Accordingly, unearned premiums
represent the portion of premiums written which is applicable to the unexpired
portion of the policies in force. Premium estimates for retrospectively rated
policies are recognized within the periods in which the related losses are
incurred.
Reinsurance premiums assumed are estimated based on information provided by
ceding companies. The information used in establishing these estimates is
reviewed and subsequent adjustments are recorded in the period in which they
are determined. These premiums are earned over the terms of the related
reinsurance contracts.
F-10
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
d) Earnings per share
Basic earnings per share is calculated utilizing the weighted average shares
outstanding. All potentially dilutive securities including stock options,
warrants and convertible securities are excluded from the basic earnings per
share calculation. In calculating diluted earnings per share, the weighted
average shares outstanding is increased to include all potentially dilutive
securities. Basic and diluted earnings per share are calculated by dividing net
income by the applicable weighted average number of shares outstanding during
the year.
e) Policy acquisition costs
Policy acquisition costs consist of commissions, premium taxes, underwriting
and other costs that vary with and are primarily related to the production of
premium. Acquisition costs are deferred and amortized over the period in which
the related premiums are earned. Deferred policy acquisition costs are reviewed
to determine if they are recoverable from future income, including investment
income. If such costs are estimated to be unrecoverable, they are expensed.
f) Unpaid losses and loss expenses
A liability is established for the estimated unpaid losses and loss expenses
of the Company under the terms of, and with respect to, its policies and
agreements. The methods of determining such estimates and establishing the
resulting reserve are reviewed continuously and any adjustments are reflected
in operations in the period in which they become known. Future developments may
result in losses and loss expenses significantly greater or less than the
reserve provided.
In accordance with industry standards, the financial guaranty unpaid losses
and loss expenses have been discounted using an average rate of 6 percent in
1999.
g) Contract holder deposit funds
Contract holder deposit funds represents a liability for an investment
contract sold that does not meet the definition of an insurance contract under
FAS 97. The investment contracts are sold with a guaranteed rate of return. The
proceeds are then invested with the intent of realizing a greater return than
is called for in the investment contract.
h) Goodwill
Goodwill represents the excess of the cost of acquisitions over the tangible
net assets acquired. The Company amortizes goodwill recorded in connection with
its business combinations on a straight-line basis over the estimated useful
lives which range from twenty-five to forty years.
i) Reinsurance
In the ordinary course of business, the Company's insurance subsidiaries
assume and cede reinsurance with other insurance companies. These arrangements
provide greater diversification of business and minimize the net loss potential
arising from large risks. Ceded reinsurance contracts do not relieve the
Company of its obligation to its insureds.
Reinsurance recoverables include the balances due from reinsurance companies
for paid and unpaid losses and loss expenses that will be recovered from
reinsurers, based on contracts in force. A reserve for uncollectible
reinsurance has been determined based upon a review of the financial condition
of the reinsurers and an assessment of other available information.
F-11
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Prepaid reinsurance premiums represent the portion of premiums ceded to
reinsurers applicable to the unexpired terms of the reinsurance contracts in
force.
j) Translation of foreign currencies
Financial statements of subsidiaries expressed in foreign currencies are
translated into U.S. dollars in accordance with Statement of Financial
Accounting Standards No. 52 "Foreign Currency Translation" ("SFAS 52"). Under
SFAS 52, functional currency assets and liabilities are translated into U.S.
dollars generally using period end rates of exchange and the related
translation adjustments are recorded as a separate component of accumulated
other comprehensive income. Functional currencies are generally the currencies
of the local operating environment. Statement of operations amounts expressed
in functional currencies are translated using average exchange rates. Gains and
losses resulting from foreign currency transactions are recorded in current
income.
k) Income taxes
Income taxes have been provided in accordance with the provisions of SFAS
No. 109, "Accounting for Income Taxes" on those operations which are subject to
income taxes (see note 12). Deferred tax assets and liabilities result from
temporary differences between the amounts recorded in the consolidated
financial statements and the tax basis of the Company's assets and liabilities.
Such temporary differences are primarily due to the tax basis discount on
unpaid losses, adjustment for unearned premiums, uncollectible reinsurance, and
tax benefits of net operating loss carryforwards. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date. A valuation allowance against deferred
tax assets is recorded if it is more likely than not, that all or some portion
of the benefits related to deferred tax assets will not be realized.
l) Stock split
On March 2, 1998, the Company effected a three for one split of the
Company's Ordinary Shares. The par value of the Company's Ordinary Shares and
all per share data presented in the consolidated financial statements and the
notes thereto have been retroactively adjusted to reflect the effects of the
stock split.
m) Cash flow information
Purchases and sales or maturities of short-term investments are recorded net
for purposes of the statements of cash flows and are included with fixed
maturities.
n) Segment reporting
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 131, ("SFAS 131") "Disclosures
about Segments of an Enterprise and Related Information." SFAS 131 established
new standards for defining operating segments and requires more comprehensive
disclosures about the Company's reportable operating segments. The Company's
segment information is reported in note 17.
o) New accounting pronouncements
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS
133"). SFAS 133 establishes accounting and
F-12
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and hedging activities. It requires
that an entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value.
SFAS 133 is effective beginning in the first quarter of fiscal 2001. The
Company is currently assessing the effect of adopting this statement on its
financial position and operating results, which as yet, has not been
determined.
In 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-7 ("SOP 98-7"), "Deposit Accounting: Accounting for
Insurance and Reinsurance Contracts That Do Not Transfer Insurance Risk." SOP
98-7 provides guidance on the deposit method of accounting for insurance and
reinsurance contracts that do not transfer insurance risk. Implementation is
required by the first quarter of 2000, with the cumulative effect of adopting
the SOP reflected in net income in the year of adoption. The Company has
evaluated the impact of SOP 98-7 and feels that it currently complies with all
aspects of the SOP.
3. Acquisitions
On January 2, 1998, the Company acquired ACE USA, through a U.S. holding
company, ACE US Holdings, Inc ("ACE US"). Under the terms of the agreement, the
Company purchased all of the outstanding capital stock of ACE USA for aggregate
cash consideration of $338 million. No goodwill was generated in the
transaction. In connection with the acquisition, National Indemnity Company, a
subsidiary of Berkshire Hathaway Inc., has provided $750 million (75 percent
quota share of $1 billion) of reinsurance protection to ACE USA with respect to
its loss reserves for the 1996 and prior accident years. The Company financed
the acquisition with $250 million of bank debt (see note 8e Debt) and the
remainder with available cash. The acquisition was recorded using the purchase
method of accounting. Accordingly, the consolidated financial statements of the
company include the results of ACE USA and its subsidiaries from January 2,
1998, the date of acquisition (see note 16 for pro forma financial information
with respect to the ACE USA acquisition).
On April 1, 1998, the Company acquired CAT Limited ("CAT"), a privately
held, Bermuda-based property catastrophe reinsurer, for aggregate cash
consideration of approximately $641 million. The acquisition was financed with
$385 million of short-term bank debt and the remainder from available cash. The
acquisition was recorded using the purchase method of accounting. Accordingly,
the consolidated financial statements of the Company include the results of CAT
from April 1, 1998, the date of acquisition (see note 16 for pro forma
financial information with respect to the CAT acquisition). Approximately $224
million of goodwill was generated as a result of the acquisition.
On July 9, 1998, the Company acquired Tarquin Limited ("Tarquin"), a UK-
based holding company which owns Lloyd's managing agency Charman Underwriting
Ltd. ("Charman") and Tarquin Underwriting Limited, its corporate capital
provider. The Charman managed syndicates, 488 and 2488, are leading
international underwriters of short-tail marine, aviation, political risk and
specialty property-casualty insurance and reinsurance. Under the terms of the
acquisition, the Company issued approximately 14.3 million Ordinary Shares to
the shareholders of Tarquin. The acquisition was accounted for on a pooling-of-
interests basis. Accordingly, in 1998, all prior period consolidated financial
statements presented was restated to include the combined results of
operations, financial position and cash flows of Tarquin as though it had
always been a part of the Company.
On July 2, 1999, the Company acquired the international and domestic
property and casualty businesses of CIGNA Corporation ("CIGNA") for $3.45
billion in cash (the "ACE INA Acquisition"). Under the terms of the agreement
the Company, through a U.S. holding company, ACE INA Holdings, Inc. ("ACE
INA"), acquired CIGNA's domestic property and casualty insurance operations
including its run-off business and also
F-13
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
its international property and casualty insurance companies and branches,
including most of the accident and health business written through those
companies. The ACE INA Acquisition has been recorded using the purchase method
of accounting and accordingly, the consolidated financial statements include
the results of ACE INA and its subsidiaries from July 2, 1999, the date of
acquisition. Approximately $1.75 billion of goodwill was generated as a result
of the acquisition.
Under the terms of the ACE INA Acquisition agreement, CIGNA agreed to
provide a guarantee to ACE to indemnify against unanticipated increases in
recorded reserves for losses and loss adjustment expenses of certain
subsidiaries being acquired by ACE. CIGNA had the option to replace its
guarantee with reinsurance obtained from a mutually agreed upon third party
reinsurer. Contemporaneous with the consummation of the ACE INA Acquisition,
CIGNA exercised its option and replaced its guarantee with reinsurance by
directing certain subsidiaries being acquired to transfer $1.25 billion of
investments to National Indemnity Company, a subsidiary of Berkshire Hathaway
Inc., for aggregate coverage of $2.5 billion. This coverage attaches at an
amount equal to the net recorded reserves of the certain subsidiaries
acquired, on the closing date, minus $1.25 billion.
On December 30, 1999, ACE completed the acquisition of Capital Re which is
engaged in the financial guaranty reinsurance business. Following the
acquisition the name of the Company was changed to ACE Financial Services,
Inc. and is referred to herein as Capital Re or ACE Financial Services. Under
the terms of the acquisition, the Company paid aggregate consideration of
$110.3 million in cash and issued approximately 20.8 million ACE ordinary
shares. These shares were capitalized at a value of $17.625 per share, which
was determined in accordance with the EITF 95-19 consensus that deals with the
value of equity securities issued to effect a purchase combination. The total
value of the acquisition amounted to $588 million, which includes the value of
stock options and restricted stock of Capital Re that were converted into
stock options and restricted stock of ACE and transaction costs. The Capital
Re acquisition has been recorded using the purchase method of accounting and
accordingly, the consolidated financial statements include the results of
Capital Re and its subsidiaries from December 30, 1999, the date of
acquisition. As Capital Re was acquired on December 30, 1999, the Company has
not reflected any operations from this segment during 1999. Approximately $105
million of goodwill was generated as a result of the acquisition.
The Company expects to continue evaluating potential new product lines and
other opportunities in the insurance and reinsurance markets. In addition, the
Company evaluates potential acquisitions of other companies and businesses and
holds discussions with potential acquisition candidates. As a general rule,
the Company publicly announces such acquisitions only after a definitive
agreement has been reached.
4. Investments
a) Fixed maturities
The fair values and amortized costs of fixed maturities at December 31,
1999 and 1998 are as follows:
1999 1998
------------------------ -----------------------
Amortized Amortized
Fair Value Cost Fair Value Cost
----------- ------------ ----------- -----------
(in thousands of U.S. dollars)
U.S. Treasury and agency..... $ 982,417 $ 1,007,797 $ 880,542 $ 868,906
Non-U.S. governments......... 681,770 682,679 97,662 94,716
Corporate securities......... 4,688,341 4,829,052 2,241,954 2,198,181
Mortgage-backed securities... 2,067,137 2,107,397 1,611,589 1,588,999
States, municipalities and
political subdivisions...... 1,430,138 1,453,477 34,619 33,610
----------- ------------ ----------- -----------
Fixed maturities........... $ 9,849,803 $ 10,080,402 $ 4,866,366 $ 4,784,412
=========== ============ =========== ===========
F-14
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The gross unrealized appreciation (depreciation) related to fixed maturities
at December 31, 1999 and 1998 is as follows:
1999 1998
------------------------- -------------------------
Gross Gross Gross Gross
Unrealized Unrealized Unrealized Unrealized
Appreciation Depreciation Appreciation Depreciation
------------ ------------ ------------ ------------
(in thousands of U.S. dollars)
U.S. Treasury and agency.. $ 4,725 $ (30,156) $15,897 $ (3,675)
Non-U.S. governments...... 9,940 (10,849) 3,430 (484)
Corporate securities...... 27,041 (167,634) 51,361 (7,630)
Mortgage-backed
securities............... 8,999 (49,325) 25,486 (3,525)
States, municipalities and
political subdivisions... 6,270 (29,610) 1,279 (185)
------- --------- ------- --------
$56,975 $(287,574) $97,453 $(15,499)
======= ========= ======= ========
Mortgage-backed securities issued by U.S. government agencies are combined
with all other mortgage derivatives held and are included in the category
"mortgage-backed securities". Approximately 69 percent of the total mortgage
holdings at December 31,1999 and 85 percent at December 31, 1998 are
represented by investments in GNMA, FNMA and FHLMC bonds. The remainder of the
mortgage exposure consists of CMO's (Collaterialized Mortgage Obligations) and
non-government mortgage-backed securities, the majority of which provide a
planned structure for principal and interest payments and carry a "AAA" rating
by the major credit rating agencies. Fixed maturities at December 31, 1999, by
contractual maturity, are shown below. Expected maturities could differ from
contractual maturities because borrowers may have the right to call or prepay
obligations, with or without call or prepayment penalties.
Fair Value Amortized Cost
---------- --------------
(in thousands of U.S.
dollars)
Maturity period
Less than 1 year...................................... $ 681,686 $ 684,193
1--5 years............................................ 2,654,807 2,685,408
5--10 years........................................... 2,613,372 2,705,165
Greater than 10 years................................. 1,832,801 1,898,239
---------- -----------
7,782,666 7,973,005
Mortgage-backed securities............................ 2,067,137 2,107,397
---------- -----------
Total fixed maturities.............................. $9,849,803 $10,080,402
========== ===========
b) Equity securities
The gross unrealized appreciation (depreciation) on equity securities at
December 31, 1999 and 1998 is as follows:
1999 1998
-------- --------
(in thousands of
U.S. dollars)
Equity securities--cost..................................... $780,558 $196,375
Gross unrealized appreciation............................... 224,232 48,202
Gross unrealized depreciation............................... (71,476) (23,734)
-------- --------
Equity securities--fair value............................... $933,314 $220,843
======== ========
F-15
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
c) Net realized gains (losses) and change in net unrealized appreciation
(depreciation) on investments
The analysis of net realized gains on investments and the change in net
unrealized appreciation (depreciation) on investments for the year ended
December 31, 1999, the three months ended December 31, 1998 and the years ended
September 30, 1998 and 1997 is as follows:
Three Months
Year Ended Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------ ------------ ------------
(in thousands of U.S. dollars)
Fixed Maturities
Gross realized gains...... $ 113,129 $ 21,822 $ 78,825 $ 83,957
Gross realized losses..... (195,496) (7,274) (20,512) (25,200)
--------- -------- -------- --------
(82,367) 14,548 58,313 58,757
Equity securities
Gross realized gains...... 59,384 4,705 210,512 70,453
Gross realized losses..... (12,149) (2,658) (42,037) (32,379)
--------- -------- -------- --------
47,235 2,047 168,475 38,074
Other investments........... 8,696 (7,374) -- --
Currency losses............. (3,959) (363) (29,116) (26,204)
Financial futures and option
contract-net realized
(losses) gains............. 68,311 121,296 (9,287) 57,075
--------- -------- -------- --------
Net realized gains on
investments............ 37,916 130,154 188,385 127,702
--------- -------- -------- --------
Change in net unrealized
appreciation (depreciation)
on investments
Fixed maturities.......... (311,614) (64,062) 81,944 68,397
Equity securities......... 127,350 33,198 (141,434) 67,097
Short-term investments.... (2,442) 62 74 (120)
Other investments......... (4,271) 1,325 (112) --
Deferred income taxes..... 5,379 3,903 (9,282) --
--------- -------- -------- --------
Change in net unrealized
appreciation
(depreciation) on
investments.............. (185,598) (25,574) (68,810) 135,374
--------- -------- -------- --------
Total net realized gains
(losses) and change in net
unrealized appreciation
(depreciation) on
investments................ $(147,682) $104,580 $119,575 $263,076
========= ======== ======== ========
F-16
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
d) Net investment income
Net investment income for the year ended December 31, 1999, the three months
ended December 31, 1998 and the years ended September 30, 1998 and 1997 was
derived from the following sources:
Three Months
Year Ended Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------ ------------ ------------
(in thousands of U.S. dollars)
Fixed maturities and short-
term investments.......... $495,078 $82,778 $325,308 $251,570
Equity securities.......... 8,731 1,231 5,920 7,385
Other investments.......... 22,481 4,027 2,954 2,300
Other...................... -- -- 1,853 2,364
-------- ------- -------- --------
Gross investment income.. 526,290 88,036 336,035 263,619
Investment expenses........ (32,953) (2,941) (11,781) (10,179)
-------- ------- -------- --------
Net investment income.... $493,337 $85,095 $324,254 $253,440
======== ======= ======== ========
e) Securities on deposit
Fixed maturity securities carried at fair value and cash totalling $1.6
billion at December 31, 1999 was on deposit with various regulatory authorities
to comply with various state (U.S.), Lloyd's (UK) and other international
requirements.
5. Unpaid losses and loss expenses
The Company establishes reserves for unpaid losses and loss expenses, which
are estimates of future payments of reported and unreported claims for losses
and related expenses, with respect to insured events that have occurred. The
process of establishing reserves for property and casualty claims continues to
be a complex and uncertain process, requiring the use of informed estimates and
judgments. The Company's estimates and judgments may be revised as additional
experience and other data become available and are reviewed, as new or improved
methodologies are developed or as current laws change. Any such revisions could
result in future changes in estimates of losses or reinsurance recoverables,
and would be reflected in the Company's results of operations in the period in
which the estimates are changed.
F-17
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The reconciliation of unpaid losses and loss expenses for the year ended
December 31, 1999, the three months ended December 31, 1998 and the years ended
September 30, 1998 and 1997 is as follows:
Three Months
Year Ended Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------ ------------ ------------
(in thousands of U.S. dollars)
Gross unpaid losses and
loss expenses at
beginning of period...... $ 3,678,269 $3,737,869 $2,111,670 $1,977,680
Reinsurance recoverable... (1,100,464) (1,059,528) (104,797) (85,378)
----------- ---------- ---------- ----------
Net unpaid losses and loss
expenses at beginning of
period................... 2,577,805 2,678,341 2,006,873 1,892,302
Unpaid losses and loss
expenses assumed in
respect of acquired
companies (net of
reinsurance recoverables
of $6,345,679 in 1999 and
$761,618 in 1998)........ 6,940,593 -- 731,949 --
Unpaid losses and loss
expenses assumed in
respect of reinsurance
business acquired........ 183,774 -- 6,403 50,326
----------- ---------- ---------- ----------
Total................... 9,702,172 2,678,341 2,745,225 1,942,628
=========== ========== ========== ==========
Net losses and loss
expenses incurred in
respect of losses
occurring in:
Current period.......... 1,601,278 126,139 534,021 486,140
Prior periods........... 38,265 (14,970) (17,129) --
----------- ---------- ---------- ----------
Total................. 1,639,543 111,169 516,892 486,140
----------- ---------- ---------- ----------
Net losses and loss
expenses paid in respect
of losses occurring in:
Current period.......... 916,848 24,977 246,354 63,182
Prior periods........... 1,516,050 186,728 337,422 358,713
----------- ---------- ---------- ----------
Total................. 2,432,898 211,705 583,776 421,895
----------- ---------- ---------- ----------
Net unpaid losses and loss
expenses at end of
period................... 8,908,817 2,577,805 2,678,341 2,006,873
Reinsurance recoverable on
unpaid losses............ 7,551,430 1,100,464 1,059,528 104,797
----------- ---------- ---------- ----------
Gross unpaid losses and
loss expenses at end of
period................... $16,460,247 $3,678,269 $3,737,869 $2,111,670
----------- ---------- ---------- ----------
Losses and loss expenses for 1999 include incurred losses for ACE INA from
July 2, 1999, the date of acquisition. With respect to the analysis of incurred
and paid losses for ACE INA for the 1999 period, all losses incurred and paid,
on losses occurring in the period January 1, 1999 through December 31, 1999
have been included as current period activity.
Incurred losses for the 15 month period ended December 31, 1999 were
affected by adverse development on property catastrophe losses occurring prior
to September 30, 1998 resulting from additional information with respect to the
total value of certain losses becoming available to the market. In addition,
ACE Bermuda had adverse development on certain excess liability and satellite
claims. This development was somewhat offset by favorable development in the
tailored risk solutions division, primarily the result of earnings generated by
a large multi-year contract that expired and was not renewed during the period.
Incurred losses during the period were also impacted by favorable development
on ACE INA's prior period loss reserves.
The Company has considered asbestos and environmental claims and claims
expenses in establishing the liability for unpaid losses and loss expenses. The
estimation of ultimate losses arising from asbestos and
F-18
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
environmental exposures has presented a challenge because traditional actuarial
reserving methods, which primarily rely on historical experience, are
inadequate for such estimation. The problem of estimating reserves for asbestos
and environmental exposures resulted in the development of reserving methods
which incorporate new sources of data with historical experience. The Company
believes that the reserves carried for these claims are adequate based on known
facts and current law.
The following table presents selected data on the unpaid losses and loss
expenses for asbestos and environmental and other latent exposures as at
December 31, 1999 and 1998.
1999 1998
----------- ----------
Gross Net Gross Net
------ ---- ----- ----
(in millions of U.S.
dollars)
Asbestos................................................ $ 897 $291 $113 $ 41
Environmental and other latent exposures................ 2,197 676 173 110
------ ---- ---- ----
$3,094 $967 $286 $151
====== ==== ==== ====
During the year ended December 31, 1999 and the three months ended December
31, 1998, the Company made payments of $186.4 million and $2.6 million
respectively with respect to latent claims. During the nine month period to
September 30, 1998 the Company made payments of $11.2 million, which is
comprised entirely of ACE US Holdings business.
At December 31, 1999, the Company's reinsured financial guaranty portfolio
was broadly diversified by bond type, geographic location and maturity
schedule, with no single risk representing more than 1.9 percent of Company's
net par in force. The Company limits its exposure to losses from reinsured
financial guarantees by underwriting primarily investment grade obligations and
retroceding a portion of its risks to other insurance companies.
Net financial guaranty par in force was approximately $59.3 billion at
December 31, 1999. The composition at December 31, 1999, by type of issue and
the range of final maturities, was as follows:
Range of
Net par final
Type of Issue in force maturities
- ------------- -------- ----------
(in billions
of U.S. dollars)
Tax-backed.................................................. $16.3 1-40 years
Utility..................................................... 15.2 1-40 years
Non-municipal............................................... 13.9 1-35 years
Special revenue............................................. 6.3 1-40 years
Health care................................................. 6.9 1-40 years
Housing..................................................... 0.7 1-40 years
-----
Total..................................................... $59.3
=====
As part of its financial guaranty business, the Company participates in
credit default swap transactions whereby one counterparty pays a periodic fee
in fixed basis points on a notional amount in return for a contingent payment
by the other counterparty in the event one or more defined credit events occurs
with respect to one or more third party reference securities or loans. A credit
event is defined as a failure to pay, bankruptcy, cross acceleration (generally
accompanied by a failure to pay), repudiation, restructuring or similar
nonpayment event. The total notional amount of credit default swaps outstanding
at December 31, 1999, and included in the Company's financial guaranty exposure
above was $7.8 billion.
F-19
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
At December 31, 1999, the Company's net mortgage guaranty insurance in force
(representing the current principal balance of all mortgage loans that are
currently reinsured) and direct primary net risk in force was approximately
$7.7 billion and $2.6 billion, respectively.
6. Reinsurance
The Company purchases reinsurance to manage various exposures including
catastrophic risks. Although reinsurance agreements contractually obligate the
Company's reinsurers to reimburse it for the agreed upon portion of its gross
paid losses, they do not discharge the primary liability of the Company. The
amounts for net premiums written and net premiums earned in the statements of
operations are net of reinsurance. Direct, assumed and ceded amounts for these
items for the year ended December 31, 1999, the three months ended December 31,
1998 and the years ended September 30, 1998 and 1997 are as follows:
Year Ended Three Months Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------------ ------------ ------------
(in thousands of U.S. dollars)
Premiums written
Direct............. $ 3,015,176 $ 208,501 $ 864,529 $ 849,328
Assumed............ 853,981 45,567 377,630 110,021
Ceded.............. (1,373,809) (99,965) (361,186) (169,576)
----------- --------- --------- ---------
Net................ $ 2,495,348 $ 154,103 $ 880,973 $ 789,773
=========== ========= ========= =========
Premiums earned
Direct............. $ 2,917,301 $ 233,567 $ 875,154 $ 754,577
Assumed............ 835,966 97,850 303,586 121,842
Ceded.............. (1,267,530) (113,410) (284,437) (71,047)
----------- --------- --------- ---------
Net................ $ 2,485,737 $ 218,007 $ 894,303 $ 805,372
=========== ========= ========= =========
The Company's provision for reinsurance recoverables at December 31, 1999
and 1998 is as follows:
1999 1998
---------- ----------
(in thousands of U.S.
dollars)
Reinsurance recoverable on paid losses and loss
expenses............................................. $1,288,651 $ 58,806
Reinsurance recoverable on unpaid losses and loss
expenses............................................. 8,309,014 1,184,978
Provision for uncollectible balances on reinsurance
recoverable on unpaid losses and loss expenses....... (757,584) (84,514)
---------- ----------
Reinsurance recoverable............................. $8,840,081 $1,159,270
========== ==========
7. Commitments and contingencies
a) Financial instruments with off-balance sheet risk
The Company's investment guidelines permit, subject to specific approval,
investments in derivative instruments such as futures, options and foreign
currency forward contracts for purposes other than trading. Their use is
limited to yield enhancement, duration management, foreign currency exposure
management or to obtain an exposure to a particular financial market.
(i) Foreign currency exposure management
The Company uses foreign currency forward and option contracts to minimize
the effect of fluctuating foreign currencies on the value of non-U.S. dollar
securities currently held in the portfolio for those securities that are not
specifically targeted to match the currency of liabilities. Approximately $244
million is invested in non-U.S. dollar fixed maturity and equity securities
falling into this category. The forward currency contracts
F-20
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
purchased are not specifically identifiable against any single security or
group of securities denominated in those currencies and therefore do not
qualify as hedges for financial reporting purposes. All contract gains and
losses, realized and unrealized, are reflected in the statements of operations.
At December 31, 1999, no foreign currency forward contract had a maturity of
more than six months. The table below summarizes the notional amounts, the
current fair values and the unrealized gain or loss of the Company's foreign
currency forward contracts as at December 31, 1999.
Contractual/Notional Fair Unrealized
Amount Value Gain
-------------------- ----- ----------
(in thousands of U.S. dollars)
Forward contracts...................... $ 59 $ 466 $ 407
The fair value of the forward contracts represents the estimated cost to the
Company at December 31, 1999, of obtaining the specified currency to meet the
obligation of the contracts. The unrealized gain is a measure of the net
exposure to the Company of its use of forward contracts after any netting
agreements given current rates of exchange.
The credit risk associated with the above derivative financial instruments
relates to the potential for non-performance by counterparties. Non-performance
is not anticipated; however, in order to minimize the risk of loss, management
monitors the creditworthiness of its counterparties. For forward contracts, the
counterparties are principally banks which must meet certain criteria according
to the Company's investment guidelines.
(ii) Duration management and market exposure
Futures
A portion of the Company's investment portfolio is managed as synthetic
equity funds, whereby equity index futures contracts are held in an amount
equal to the market value of an underlying portfolio comprised of short-term
investments and fixed maturities. This creates an equity market exposure equal
in value to the total amount of funds invested in this strategy. Each index
futures contract held by the Company is rolled over quarterly into a new
contract with a later maturity, thereby maintaining a constant equity market
exposure. The value of the funds invested in this strategy was $371 million and
$804 million at December 31, 1999 and 1998, respectively.
Exchange traded bond and note futures contracts may be used in fixed
maturity portfolios as substitutes for ownership of the physical bonds and
notes without significantly increasing the risk in the portfolio. Investments
in financial futures contracts may be made only to the extent that there are
assets under management, not otherwise committed.
Futures contracts give the holder the right and obligation to participate in
market movements, determined by the index or underlying security on which the
futures contract is based. Settlement is made daily in cash by an amount equal
to the change in value of the futures contract times a multiplier that scales
the size of the contract. The contract amounts of $475 million and $1,152
million reflect the net extent of involvement the Company had in these
financial instruments at December 31, 1999 and 1998, respectively.
Options
Option contracts may be used in the portfolio as protection against
unexpected shifts in interest rates, which would thereby affect the duration of
the fixed maturity portfolio. By using options in the portfolio, the overall
interest rate sensitivity of the account can be reduced. An option contract
conveys to the holder the right, but not the obligation, to purchase or sell a
specified amount or value of an underlying security at a fixed
F-21
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
price. The price of an option is influenced by the underlying security,
expected volatility, time to expiration and supply and demand.
For long option positions, the maximum loss is the premium paid for the
option. To minimize the risk of non-performance, all brokers and dealers used
as counterparties must be approved. Additional performance assurance is
required where deemed necessary. The maximum credit exposure is represented by
the fair value of the options held. For short option positions, the potential
loss is the same as having taken a position in the underlying security. Short
call options are backed in the portfolio with the underlying, or highly
correlated, securities and short put options are to be backed by uncommitted
cash for the in-the-money portion.
Summarized below are the notional amounts, the current fair values and the
unrealized gains of the options in the portfolio as at December 31, 1999.
Contractual/Notional Unrealized
Amount Fair Value Gain/(Loss)
-------------------- ---------- -----------
(in thousands of U.S. dollars)
Options held..................... $ 800 $ 728 $(72)
Options written.................. (506) (461) 45
The fair value of the options represents the market price of the options at
December 31, 1999. The unrealized gain or loss represents the difference
between the fair value and the premium paid (received). The notional amounts
summarized in the above tables are not representative of amounts exchanged by
parties and, therefore, do not measure the exposure to the Company of its use
of derivatives.
b) Concentrations of credit risk
The investment portfolio is managed following prudent standards of
diversification. Specific provisions limit the allowable holdings of a single
issue and issuers. The Company believes that there are no significant
concentrations of credit risk associated with its investments.
c) Credit facilities
In June 1999, the Company arranged certain syndicated credit facilities.
Each facility requires that the Company and/or certain of its subsidiaries
maintain specific covenants, including a consolidated tangible net worth
covenant and a maximum leverage covenant. The facilities provide:
. A $750 million, 364-day revolving credit facility with ACE Limited, ACE
Bermuda, Tempest Re and ACE INA as borrowers and guarantors. The initial
purpose of this facility was to provide interim financing for the ACE INA
Acquisition, however, after certain conditions were met, up to $500
million of this facility could remain in place for general corporate
purposes. These conditions have been met and a $500 million facility
remains in place.
. A $250 million, five-year revolving credit facility with ACE Limited, ACE
Bermuda, Tempest Re and ACE INA as borrowers and guarantors. This
facility is for general corporate purposes and has a letter of credit
sub-limit of $250 million.
. A $2.05 billion, 364-day revolving credit facility with a one-year term
out option with ACE INA as borrower and ACE Limited, ACE Bermuda and
Tempest Re as guarantors. This facility was arranged to provide interim
financing for the ACE INA Acquisition and availability is decreased as
permanent financing is raised and is applied to borrowings and/or
commercial paper. As of December 31, 1999, $618 million remains available
under this facility.
F-22
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Each of the above facilities may be used as commercial paper recourse
facilities (see note 8 for a further description).
Tempest Re also maintains an uncollateralized, syndicated revolving credit
facility in the amount of $72.5 million. At December 31, 1999, no amounts have
been drawn down under this facility. The facility requires that Tempest Re
comply with specific covenants. The Company added its guarantee to this
facility in June 1999.
Capital Re is party to a credit facility with a syndicate of banks pursuant
to which the syndicate provides up to $100.0 million specifically designed to
provide rating agency qualified capital to further support Capital Re claims-
paying resources. This agreement expires in January 2006. Capital Re has not
borrowed under this credit facility. Capital Re also maintains a $5 million
revolving credit facility which was guaranteed by the Company in December 1999.
In August 1996, Capital Re entered into a credit agreement for the provision
of a $25 million credit facility which is available for general corporate
purposes. As of December 31, 1999, $25 million remains outstanding under this
facility. The Company expects to refinance this facility in conjunction with
the ultimate renewal of its revolving credit facilities. Interest on the
facility is payable quarterly in arrears.
In December 1997, the Company had arranged certain syndicated credit
facilities totaling approximately $912 million of which $262 million was
secured. During fiscal 1998/99 each of the facilities under this arrangement
have been cancelled and replaced by the above noted facilities.
d. Letters of Credit
In November 1998, the Company arranged a syndicated, partially
collateralized, five-year LOC facility in the amount of (Pounds)270 million
(approximately $437 million) to fulfill the requirements of Lloyd's for the
1999 year of account. This LOC facility requires that the Company and/or
certain of its subsidiaries continue to maintain certain covenants, including a
minimum consolidated tangible net worth covenant and a maximum leverage
covenant. On June 30, 1999, certain terms of this LOC facility were
renegotiated and the facility is now uncollateralized. The facility was renewed
in November 1999 at an increased amount of (Pounds)290 million (approximately
$470 million) to fulfill the requirements of Lloyd's for the 2000 year of
account.
In September 1999, the Company along with ACE Bermuda and Tempest Re as
Account Parties and Guarantors arranged a syndicated, one-year LOC facility in
the amount of $430 million for general business purposes, including the
issuance of (re)insurance letters of credit. This LOC facility requires that
the Company and/or certain of its subsidiaries continue to maintain certain
covenants, including a minimum consolidated tangible net worth covenant and a
maximum leverage covenant. Letters of Credit under this Facility may be issued
on a collateralized or an uncollateralized basis. As of December 31, 1999
letter of credit issuance under this facility was approximately $160 million.
Capital Re maintains a (Pounds)48 million (approximately $78 million)
unsecured letter of credit facility with a bank to fulfill the requirements of
Lloyd's for 1998/99 years of account.
The Company maintains various bilateral letter of credit facilities, both
secured and unsecured, for general business purposes. At December 31, 1999, the
aggregate exposure under these facilities was approximately $280 million.
F-23
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
e) Lease commitments
The Company and its subsidiaries lease office space in the countries in
which they operate under operating leases which expire at various dates through
January 2017. The Company renews and enters into new leases in the ordinary
course of business as required. Total rent expense with respect to these
operating leases for the year ended December 31, 1999 and the years ended
September 30, 1998 and 1997 were approximately $63 million, $5 million and $5
million respectively.
Future minimum lease payments under the leases are expected to be as follows
(in thousands of U.S. dollars):
Year ending
December 31,
------------
2000......................................................... $ 69,500
2001......................................................... 64,400
2002......................................................... 55,400
2003......................................................... 51,500
2004......................................................... 48,100
Later years.................................................. 141,000
---------
Total minimum future lease commitments..................... $ 429,900
=========
8. Debt
December 31, December 31,
1999 1998
------------ ------------
(in millions of U.S.
dollars)
Short-term debt
ACE Limited commercial paper........................ $ 425 $ --
ACE INA commercial paper............................ 625 --
Capital Re Note..................................... 25 --
------- -----
$ 1,075 $ --
======= =====
Long-term debt
Capital Re Debentures due 2002...................... 75 --
ACE INA Notes due 2004.............................. 400 --
ACE INA Notes due 2006.............................. 299 --
ACE US Holdings Senior Notes due 2008............... 250 250
ACE INA Subordinated Notes due 2009................. 300 --
ACE INA Debentures due 2029......................... 100 --
------- -----
$ 1,424 $ 250
======= =====
a) Commercial paper and money market facilities
In June 1999, the Company arranged certain commercial paper programs. The
programs use revolving credit facilities as recourse facilities and provide for
up to $2.8 billion in commercial paper issuance (subject to the availability of
recourse facilities as outlined in Note 7) for ACE and for ACE INA. At December
31, 1999, short-term debt consisted of $425 million and $625 million of
commercial paper issued by ACE and ACE INA respectively. On July 2, 1999, $425
million and $1.65 billion were drawn down under these programs by ACE and ACE
INA, respectively to partially finance the ACE INA Acquisition. The commercial
paper rates during 1999 were in the 5.6-6.2 percent range, depending on
maturity.
F-24
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In June 1999, ACE and ACE INA arranged a short-term money market facility in
the amount of $225 million for general corporate purposes. In July 1999, a
portion of the facility was used to finance certain liabilities of an ACE INA
subsidiary. In November 1999, this facility was cancelled and repaid with
proceeds from the commercial paper programs described above.
b) ACE INA senior debt
As part of the permanent financing plan for the ACE INA Acquisition, in
August 1999, ACE INA issued $400 million of 8.2 percent notes due August 15,
2004, $300 million of 8.3 percent notes due August 15, 2006 and $100 million of
8.875 percent debentures due August 15, 2029. Proceeds of the senior debt issue
were used to repay commercial paper. Interest on the notes and debentures is
payable on February 15 and August 15 of each year beginning February 15, 2000.
The notes and debentures are not redeemable before maturity and do not have the
benefit of any sinking fund. These unsecured notes and debentures are
guaranteed on a senior basis by the Company and they rank equally with all of
ACE INA's other senior indebtedness.
c) ACE INA RHINO Trust Preferred Securities
As part of the permanent financing plan for the ACE INA Acquisition, on June
30, 1999 ACE RHINOS Trust, a Delaware statutory business trust (the "Trust"),
sold in a private placement $400 million of Auction Rate Reset Preferred
Securities (the "Rhino Preferred Securities"). All of the common securities of
the Trust are owned by ACE INA.
The Rhino Preferred Securities mature on September 30, 2002. Distributions
on the Rhino Preferred Securities are payable quarterly at LIBOR plus 125 basis
points, adjusted quarterly, provided that the Trust may defer such payments
(but no later than September 30, 2002, or, if there is a remarketing, the
maturity date of the remarketed securities), with such deferred payments
accruing interest compounded quarterly, if ACE INA defers interest on the
Subordinated Notes (as defined below). If the trading price of ACE's Ordinary
Shares declines to 66-2/3 percent of the closing price of the Ordinary Shares
on June 30, 1999, or approximately $18.83 per Ordinary Share, the holders of a
majority of the Rhino Preferred Securities will have the option to require Banc
of America Securities LLC as the Remarketing Agent to remarket the Rhino
Preferred Securities. If remarketed, the maturity of the remarketed securities
will be reset as the later of September 30, 2001 or one year from the date on
which the remarketed securities are issued. The coupon will be reset pursuant
to a bid process to value the remarketed securities at 100.25 percent of the
face amount thereof. If Banc of America were unable to remarket the securities,
the holders of a majority of the Rhino Preferred Securities would have the
right to require ACE INA to repurchase them at a purchase price equal to the
face amount of the securities plus accrued and unpaid distributions, which
obligations would be guaranteed by ACE Limited. ACE's Ordinary Shares have
traded below the trigger price described above during and after the quarter
ended December 31, 1999, although the holders of the Rhino Preferred Securities
did not exercise their remarketing rights at that time.
The sole assets of the Trust consist of $412,372,000 principal amount of
Auction Rate Reset Subordinated Notes Series A (the "Subordinated Notes")
issued by ACE INA. The Subordinated Notes mature on September 30, 2002.
Interest on the Subordinated Notes is payable quarterly at LIBOR plus 125 basis
points, adjusted quarterly, provided that ACE INA may defer such interest
payments (but no later than September 30, 2002, or, if there is a remarketing,
the maturity date of the remarketed securities), with such deferred payments
accruing interest compounded quarterly. If under certain circumstances the
Trust is dissolved and the holders of the Rhino Preferred Securities directly
hold the Subordinated Notes, then the remarketing provisions described above
will be applicable to the Subordinated Notes.
F-25
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In connection with the issuance of the Rhino Preferred Securities, the
Company has agreed with Banc of America Securities to use its reasonable best
efforts to complete one or more firm commitment underwritings with an aggregate
public offering price of $400 million on or before June 30, 2002. The Company
has agreed to maintain an effective shelf registration statement with
availability for the issuance of up to $400 million Ordinary Shares.
d) ACE INA trust preferred securities
On December 20, 1999, ACE Capital Trust I, a Delaware statutory business
trust ("ACE Capital Trust I") issued and sold in a public offering $100 million
of 8.875 percent Trust Originated Preferred Securities (the "Trust Preferred
Securities"). All of the common securities of ACE Capital Trust I (the "ACE
Capital Trust I Common Securities") are owned by ACE INA.
The Trust Preferred Securities mature on December 31, 2029. This may be
extended for one or more periods but not later than December 31, 2048.
Distributions on the Trust Preferred Securities are payable quarterly at a rate
of 8.875 percent, however, ACE Capital Trust I may defer these payments for up
to 20 consecutive quarters (but no later than December 31, 2029, unless the
maturity date is extended). Any deferred payments would accrue interest
quarterly in a compounded basis if ACE INA defers interest on the Subordinated
Debentures (as defined below).
The sole assets of ACE Capital Trust I consist of $103,092,800 principal
amount of 8.875 percent Junior Subordinated Deferrable Interest Debentures (the
"Subordinated Debentures") issued by ACE INA. The Subordinated Debentures
mature on December 31, 2029. Interest on the Subordinated Debentures is payable
quarterly at a rate of 8.875 percent, however, ACE INA may defer such interest
payments (but no later than December 31, 2029, unless the maturity date is
extended), with such deferred payments accruing interest compounded quarterly.
ACE INA may redeem the Subordinated Debentures at 100 percent of the principal
amount thereof, plus accrued and unpaid interest to the redemption date, in
whole or in part at any time on or after December 31, 2004, and in whole but
not in part prior to December 31, 2004 in the event certain changes in tax or
investment company law occur. The Trust Preferred Securities and the ACE
Capital Trust I Common Securities will be redeemed upon repayment of the
Subordinated Debentures.
The Company has guaranteed, on a subordinated basis, ACE INA's obligations
under the Subordinated Debentures and distributions and other payments due on
the Trust Preferred Securities (the "Guarantees"). The Guarantees, when taken
together with the Company's obligations under an expense agreement entered into
with ACE Capital Trust I, provide a full and unconditional guarantee of amounts
due on the Trust Preferred Securities.
e) ACE US Holdings senior notes
On October 27, 1998, ACE US Holdings refinanced an outstanding $250 million
bank term loan with the proceeds from the issuance of $250 million in aggregate
principal amount of unsecured senior notes maturing in October 2008. Interest
payments, based on the initial fixed rate coupon on these notes of 8.63
percent, are due semi-annually in arrears. The indenture related to these notes
includes certain events of default for ACE US Holdings. The senior notes are
callable subject to certain call premiums, however, ACE US Holdings has no
current intention of calling the debt. Simultaneously, the Company entered into
a notional $250 million swap transaction that has the economic effect of
reducing the cost of debt to the consolidated group, excluding fees and
expenses, to 6.47 percent for 10 years. Certain assets totaling approximately
$90 million are pledged as collateral in connection with the swap transaction.
In the event that the Company terminates the swap prematurely, the Company
would be liable for certain transaction costs. However, the Company has no
current
F-26
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
intention of terminating the swap. The swap counter-party is a highly rated
major financial institution and the Company does not anticipate non-
performance.
f) ACE INA subordinated notes
On December 6, 1999, ACE INA issued $300 million in aggregate principal
amount of unsecured subordinated notes maturing in December 2009. Interest
payments, based on the fixed rate coupon on these notes of 11.2 percent, are
due semi-annually in arrears. The indenture related to these notes includes
certain events of default for ACE INA. The subordinated notes are callable
subject to certain call premiums, however, ACE INA has no current intention of
calling the debt. Simultaneously, the Company entered into a notional $300
million swap transaction that has the economic effect of reducing the cost of
debt to the consolidated group, excluding fees and expenses, to 8.41 percent
for 10 years. Certain assets totaling approximately $105 million are pledged as
collateral in connection with the swap transaction. In the event that the
Company terminates the swap prematurely, the Company would be liable for
certain transaction costs. However, the Company has no current intention of
terminating the swap. The swap counter-party is a highly rated major financial
institution and the Company does not anticipate non-performance.
g) Capital Re debentures
In November 1992, Capital Re issued $75 million in 10 year debentures
maturing in November 2002. The 7.75 percent coupon on these debentures is
payable in arrears on May 1 and November 1 of each year.
h) Capital Re LLC monthly income preferred securities
In January 1994, Capital Re formed and capitalized, through the purchase of
common shares, Capital Re LLC. Capital Re LLC exists solely for the purpose of
issuing preferred and common shares and lending the proceeds of such issuance
to the Company to fund its business operations. In January 1994, Capital Re LLC
issued $75 million of company obligated mandatorily redeemable preferred
securities, the proceeds of which were loaned to the Company. The Company has,
among other undertakings, unconditionally guaranteed all legally declared and
unpaid dividends of Capital Re LLC. The company obligated mandatorily
redeemable preferred securities were issued at $25 par value per share, pay
monthly dividends at a rate of 7.65 percent per annum, are callable as of
January 1999 at par and are mandatorily redeemable in January 2044.
F-27
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
9. Shareholders' equity
a) Shares issued and outstanding
Following is a table of changes in Ordinary Shares issued and outstanding
for the year ended December 31, 1999, the three months ended December 31, 1998
and the years ended September 30, 1998 and 1997:
Year Ended Year Ended
Year Ended Three Months Ended September September
December 31 December 31 30 30
1999 1998 1998 1997
----------- ------------------ ----------- -----------
Opening balance......... 193,687,126 193,592,519 180,207,664 188,840,275
Shares issued in
Capital Re
acquisition.......... 20,815,677 -- -- --
Shares issued in ACE
INA acquisition...... 2,581,043 -- -- --
Shares issued under
employee stock
purchase plan........ 25,697 20,753 27,517 29,403
Exercise of stock
options.............. 356,472 73,854 378,438 254,394
Cancellation of non-
vested restricted
stock................ (5,500) -- -- (7,500)
Shares issued under
SAR Replacement
plan................. -- -- -- 184,092
Repurchase of shares.. -- -- (3,521,100) (9,093,000)
Shares issued......... -- -- 16,500,000 --
----------- ----------- ----------- -----------
217,460,515 193,687,126 193,592,519 180,207,664
=========== =========== =========== ===========
On April 14, 1998, the Company sold 16.5 million Ordinary Shares for net
proceeds of approximately $606 million.
b) Share repurchases
The Board of Directors had authorized the repurchase from time to time of
the Company's Ordinary Shares in open market and private purchase transactions.
On July 6, 1998 the Executive Committee of the Board of Directors rescinded all
existing authorizations for the repurchase of the Company's Ordinary Shares.
During the first two quarters of fiscal 1998, the Company repurchased 3,521,100
Ordinary Shares under the share repurchase program for an aggregate cost of
$107.6 million. No shares were repurchased after March 31, 1998. During 1997,
the Company repurchased 9,093,000 Ordinary Shares under share repurchase
programs for an aggregate cost of $182.6 million.
c) General restrictions
The holders of the Ordinary Shares are entitled to receive dividends and are
allowed one vote per share provided that, if the controlled shares of any
shareholder constitute 10 percent or more of the outstanding Ordinary Shares of
the Company, only a fraction of the vote will be allowed so as not to exceed 10
percent. Generally, the Company's directors have absolute discretion to decline
to register any transfer of shares. All transfers are subject to the
restriction that they may not increase to 10 percent or higher the proportion
of issued Ordinary Shares owned by any shareholder.
d) Dividends declared
Dividends declared amounted to $0.42, $0.09, $0.34 and $0.27 per Ordinary
Share for the year ended December 31, 1999, the three months ended December 31,
1998 and the years ended September 30, 1998 and 1997.
F-28
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
10. Employee benefit plans
(a) Pension plans
The Company provides pension benefits to eligible employees and agents,
spouses and other eligible dependents through various plans sponsored by the
Company. Pension benefits are provided through plans sponsored by ACE covering
most U.S. and Bermuda based employees and by separate pension plans for various
non-U.S. subsidiaries and employees. Pension expenses totaled $11 million, $5
million and $2.2 million for the year ended December 31, 1999 and the years
ended September 30, 1998 and 1997.
(b) Capital accumulation plans
ACE sponsors a capital accumulation plan in the U.S. in which employee
contributions on a pre-tax basis (401(k)) are supplemented by ACE matching
contributions. These contributions are invested, at the election of the
employee, in one or more of several investment portfolios. In addition, ACE may
provide additional matching contributions, depending on its annual financial
performance. Expenses for the plan totaled $19 million for the year ended
December 31, 1999.
(c) Options and stock appreciation rights
In February 1996 and November 1998, shareholders of the Company approved the
ACE Limited 1995 Long-Term Incentive Plan and the ACE Limited 1998 Long-Term
Incentive Plan, respectively (the "Incentive Plans") which incorporates stock
options, stock appreciation rights, restricted stock awards and stock purchase
programs. There are 7,800,000 Ordinary Shares of the Company available for
award under these Incentive Plans. Prior to the adoption of the Incentive
Plans, the Company adopted the Equity Linked Incentive Plan, which incorporated
both a Stock Appreciation Rights Plan ("SAR Plan") and a Stock Option Plan
("Option Plan") which will continue to run off. Under the Option Plan,
generally, options expire ten years after the award date and are subject to a
vesting period of four years. Stock options granted under the Incentive Plan
may be exercised for Ordinary Shares of the Company upon vesting. Under the
Incentive Plans, generally, options expire ten years after the award date and
vest in equal portions over three years.
During 1999, the Company established the ACE Limited 1999 Replacement Stock
Plan. This plan was established to replace existing Capital Re employee
benefits in connection with the Capital Re acquisition, as well as to permit
additional grants to employees of the Company. At December 31, 1999, 4,770,555
shares were available for grant under this plan.
(d) Options
(i) Options outstanding
Following is a summary of options issued and outstanding for the year ended
December 31, 1999, the three months ended December 31, 1998 and the years ended
September 30, 1998 and 1997:
F-29
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Options
Average for
Year of Exercise Ordinary
Expiration Price Shares
---------- -------- ----------
Balance at September 30, 1996................... 4,514,367
Options granted............................... 2006-2007 $19.74 2,231,550
Options issued under SAR Plan................. 2002-2003 $21.33 950,400
Options exercised............................. 2003-2004 $ 9.33 (254,394)
Options forfeited............................. 2003-2007 $10.09 (307,500)
----------
Balance at September 30, 1997................... 7,134,423
Options granted............................... 2007-2008 $31.64 2,489,900
Options exercised............................. 2003-2007 $11.21 (378,438)
Options forfeited............................. 2006-2008 $27.51 (261,155)
----------
Balance at September 30, 1998................... 8,984,730
Options granted............................... 2008 $29.62 2,012,200
Options exercised............................. 2004-2007 $17.11 (73,854)
Options forfeited............................. 2006-2008 $29.58 (115,150)
----------
Balance at December 31, 1998.................... 10,807,926
Options granted............................... 2009 $27.86 4,058,190
Options exercised............................. 2005-2007 $15.91 (356,472)
Options forfeited............................. 2005-2008 $29.02 (544,884)
----------
Balance at December 31, 1999.................... 13,964,760
==========
The following table summarizes the range of exercise prices for outstanding
options at December 31, 1999:
Weighted
Average Weighted Weighted
Range of Remaining Average Average
Exercise Options Contractual Exercise Options Exercise
Prices Outstanding Life Price Exercisable Price
-------- ----------- ----------- -------- ----------- --------
$ 7.45--$15.00 3,508,653 5.55 years $ 9.02 3,508,653 $ 9.02
$15.00--$30.00 8,506,757 8.77 years $ 22.20 2,785,173 $ 22.01
$30.00--$41.00 1,949,350 7.97 years $ 31.27 1,137,433 $ 30.98
---------- ---------
13,964,760 7,431,259
========== =========
(ii) SFAS 123 pro forma disclosures
In October 1995, FASB issued Statement of Financial Accounting Standards No.
123 "Accounting for Stock-Based Compensation" ("SFAS 123"). SFAS 123
establishes accounting and reporting standards for stock-based employee
compensation plans which include stock option and stock purchase plans. SFAS
123 provides employers a choice: adopt SFAS 123 accounting standards for all
stock compensation arrangements which requires the recognition of compensation
expense for the fair value of virtually all stock compensation awards; or
continue to account for stock options and other forms of stock compensation
under Accounting Principles Board Opinion No. 25 ("APB 25"), while also
providing the disclosure required under SFAS 123. The Company continues to
account for stock-based compensation plans under APB 25.
The following table outlines the Company's net income and earnings per share
had the compensation cost been determined in accordance with the fair value
method recommended in SFAS 123.
December 31 September 30
1999 1998
----------- ------------
(in thousands of U.S.
dollars, except per
share data)
Net Income
As reported......................................... $ 364,963 $ 560,151
Pro Forma........................................... $ 351,067 $ 550,894
Diluted earnings per share
As reported......................................... $ 1.85 $ 2.96
Pro Forma........................................... $ 1.78 $ 2.91
F-30
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The fair value of the options issued is estimated on the date of grant using
the Black-Scholes option-pricing model, with the following weighted-average
assumptions used for grants in 1999 and 1998, respectively: dividend yield of
1.47 percent and 1.41 percent; expected volatility of 38.7 percent and 24.9
percent; risk free interest rate of 5.11 percent and 5.61 percent and an
expected life of 4.0 years for both 1999 and 1998.
With respect to the SAR plan, certain stock appreciation rights were
forfeited in return for cash during 1997. All remaining stock appreciation
rights were exercised in return for options and cash and/or shares of the
Company under the terms of the Replacement Plan which was implemented in 1997
pursuant to the Equity Linked Incentive Plan. Total expenses incurred during
1997 relating to the SAR plan, including those incurred under the Replacement
Plan, amounted to $5,500,000.
e) Employee stock purchase plan
The Company maintains an employee stock purchase plan. Participation in the
plan is available to all eligible employees. Maximum annual purchases by
participants are limited to the number of whole shares that can be purchased by
an amount equal to 10 percent of the participant's compensation or $25,000,
whichever is less. Participants may purchase shares at a purchase price equal
to 85 percent of the closing market price of the Company's shares on the last
day of each subscription period. Subscription periods run for six months. With
respect to the year ending December 31, 1999, the three months ended December
31, 1998 and the year ended September 30, 1998 , the Company incurred expenses
of $156,000, $93,000 and $143,000 respectively.
f) Restricted stock awards
Under the Company's long-term incentive plans, 1,084,175 restricted Ordinary
Shares were awarded during the year ended December 31, 1999, to officers of the
Company and its subsidiaries. These shares vest at various dates through
November 2003. In addition, during the period, 23,618 restricted Ordinary
Shares were awarded to outside directors under the terms of the 1995 Outside
Directors Plan. These shares vest at various dates through June 2000.
During the three months ended December 31, 1998, 335,000 restricted Ordinary
Shares were awarded to officers of the Company and its subsidiaries. These
shares vest at various dates through November 2003. During 1998, 264,000
restricted Ordinary Shares were awarded to officers of the Company and its
subsidiaries. These shares vest at various dates through November 2002. In
addition, 14,952 restricted Ordinary Shares were awarded to outside directors
of the Company under the terms of the 1995 Outside Directors Plan ("the Plan").
These shares vested in February 1999.
During fiscal 1997, 149,175 restricted Ordinary Shares were awarded to
officers of the Company and its subsidiaries. These shares vested at various
dates through November 1999. Also, during fiscal 1997, 15,084 restricted
Ordinary Shares were awarded to outside directors of the Company under the
terms of the Plan. These shares vested in February 1998. Also during 1997,
7,500 restricted Ordinary Shares were forfeited due to resignations by officers
of the Company and its subsidiaries.
At the time of grant the market value of the shares awarded under these
grants is recorded as unearned stock grant compensation and is presented as a
separate component of shareholders' equity. The unearned compensation is
charged to operations over the vesting period.
g) Shares issued in ACE INA acquisition
During 1999, the ACE Limited 1999 Replacement Long-Term Incentive Plan
("Replacement Plan") was established to award substitute restricted stock
awards and substitute restricted stock unit awards in satisfaction of the
Company's obligations under the ACE INA Acquisition Agreement and to provide
selected individuals substitute restricted stock awards and substitute
restricted stock unit awards in replacement of certain equity-based awards
which terminated or expired in connection with the closing of the ACE INA
transaction. During 1999, 2,581,043 restricted Ordinary Shares were granted in
connection with the 1999 Replacement Plan. The costs associated with issuing
these awards were included as a cost of the ACE INA acquisition.
F-31
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
11. Earnings per share
The following table sets forth the computation of basic and diluted earnings
per share for the year ended December 31, 1999, the three months ended December
31, 1998 and the years ended September 30, 1998 and 1997.
Year Ended Three Months Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
------------ ------------------ ------------ ------------
(in thousands of U.S. dollars, except share and per share
data)
Numerator:
Net Income............ $ 364,963 $ 238,539 $ 560,151 $ 502,725
Denominator:
Denominator for basic
earnings per share--
Weighted average
share outstanding.... 194,028,374 193,642,270 185,130,479 184,148,641
Effect of dilutive
securities........... 3,597,980 3,707,086 4,150,696 2,660,382
------------ ------------ ------------ ------------
Denominator for
diluted earnings per
share--Adjusted
weighted average
shares outstanding
and assumed
conversions.......... 197,626,354 197,349,356 189,281,175 186,809,023
============ ============ ============ ============
Basic earnings per
share.................. $ 1.88 $ 1.23 $ 3.03 $ 2.73
============ ============ ============ ============
Diluted earnings per
share.................. $ 1.85 $ 1.21 $ 2.96 $ 2.69
============ ============ ============ ============
12. Taxation
Under current Cayman Islands law, the Company is not required to pay any
taxes in the Cayman Islands on its income or capital gains. The Company has
received an undertaking that, in the event of any taxes being imposed, the
Company will be exempted from taxation in the Cayman Islands until the year
2013. Under current Bermuda law, the Company and its Bermuda subsidiaries are
not required to pay any taxes in Bermuda on its income or capital gains. The
Company has received an undertaking from the Minister of Finance in Bermuda
that, in the event of any taxes being imposed, the Company will be exempt from
taxation in Bermuda until March 2016.
Income from the Company's operations at Lloyd's are subject to United
Kingdom corporation taxes. Lloyd's is required to pay U.S. income tax on U.S.
connected income ("U.S. income") written by Lloyd's syndicates. Lloyd's has a
closing agreement with the IRS whereby the amount of tax due on this business
is calculated by Lloyd's and remitted directly to the IRS. These amounts are
then charged to the personal accounts of the Names/Corporate Members in
proportion to their participation in the relevant syndicates. The Company's
Corporate Members are subject to this arrangement but, as UK domiciled
companies, will receive UK corporation tax credits for any U.S. income tax
incurred up to the value of the equivalent UK corporation income tax charge on
the U.S. income.
ACE INA, ACE US Holdings and ACE Financial Services are subject to income
taxes imposed by U.S. authorities and will file U.S. tax returns. Certain
international operations of the Company are also subject to income taxes
imposed by the jurisdictions in which they operate.
F-32
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The Company is not subject to taxation other than as stated above. There can
be no assurance that there will not be changes in applicable laws, regulations
or treaties which might require the Company to change the way it operates or
become subject to taxation.
The income tax provision for the year ended December 31, 1999, the three
months ended December 31, 1998 and the years ended September 30, 1998 and 1997
is as follows:
Year Ended Three Months Ended Year Ended Year Ended
December 31 December 31 September 30 September 30
1999 1998 1998 1997
----------- ------------------ ------------ ------------
(in thousands of U.S. dollars)
Current tax expense
(benefit).............. $ 8,439 $ (476) $ 3,265 $ 8,451
Deferred tax expense.... 20,245 5,818 16,775 16,730
-------- ------- -------- --------
Provision for income
taxes.................. $ 28,684 $ 5,342 $ 20,040 $ 25,181
======== ======= ======== ========
The weighted average expected tax provision has been calculated using pre-
tax accounting income (loss) in each jurisdiction multiplied by that
jurisdiction's applicable statutory tax rate. A reconciliation of the
difference between the provision for income taxes and the expected tax
provision at the weighted average tax rate for the year ended December 31, 1999
is provided below. The provision for income taxes with respect to the three
months ended December 31, 1998 and the years ended September 30, 1998 and 1997
is calculated at rates equal to the statutory income tax rate in each
jurisdiction.
Year Ended
December 31,
1999
----------------
(in thousands of
U.S. dollars)
Expected tax provision at weighted average rate.......... $ 19,721
Permanent differences
Tax-exempt interest.................................... (9,017)
Goodwill............................................... 9,805
Other.................................................. 602
Net withholding taxes.................................... 7,573
--------
Total provision for income taxes......................... $ 28,684
========
F-33
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The components of the net deferred tax asset as of December 31, 1999 and
1998 is as follows:
1999 1998
---------- --------
(in thousands
of U.S. dollars)
Deferred tax assets
Loss reserve discount.................................... $ 677,459 $ 47,649
Foreign tax credits...................................... 116,829 --
Uncollectible reinsurance................................ 24,413 6,685
Net operating loss carry forward......................... 164,993 33,849
Other.................................................... 305,647 36,626
Unrealized appreciation on investments................... 12,557 --
---------- --------
Total deferred tax assets.............................. 1,301,898 124,809
---------- --------
Deferred tax liabilities
Deferred policy acquisition costs........................ 87,691 3,753
Unrealized appreciation on investments................... -- 5,379
Other.................................................... 164,699 46,247
---------- --------
Total deferred tax liabilities......................... 252,390 55,379
---------- --------
Valuation allowance........................................ 133,324 26,634
---------- --------
Net deferred tax asset..................................... $ 916,184 $ 42,796
========== ========
13. Statutory financial information
The Company's insurance and reinsurance subsidiaries are subject to
insurance laws and regulations in the jurisdictions in which they operate.
These regulations include restrictions that limit the amount of dividends or
other distributions, such as loans or cash advances, available to shareholders
without prior approval of the insurance regulatory authorities. Statutory
capital and surplus of the Bermuda subsidiaries was $2.2 billion, $2.8 billion
and $2.3 billion at December 31, 1999, September 30, 1998 and 1997 and
statutory net income was $373 million, $592 million and $489 million for the
years ended December 31, 1999, September 30, 1998 and 1997 respectively.
There are no statutory restrictions on the payment of dividends from
retained earnings by any of the Bermuda subsidiaries as the minimum statutory
capital and surplus requirements are satisfied by the share capital and
additional paid-in capital of each of the Bermuda subsidiaries.
The Company's U.S. subsidiaries file financial statements prepared in
accordance with statutory accounting practices prescribed or permitted by
insurance regulators. Statutory accounting differs from generally accepted
accounting policies in the reporting of certain reinsurance contracts,
investments, subsidiaries, acquisition expenses, fixed assets, deferred income
taxes and certain other items. Combined statutory surplus of the Company's U.S.
subsidiaries was $2.2 billion and $252 million at December 31, 1999 and
September 30, 1998, respectively. The combined statutory net loss of these
operations was $277 million, and $98 million for the year ended December 31,
1999 and the nine months ended September 30, 1998, respectively.
The Company's international subsidiaries prepare statutory financial
statements based on local laws and regulations. Some jurisdictions impose
complex regulatory requirements on insurance companies while other
jurisdictions impose fewer requirements. In some countries, the Company must
obtain licenses issued by governmental authorities to conduct local insurance
business. These licenses may be subject to reserves and minimum capital and
solvency tests. Jurisdictions may impose fines, censure, and/or criminal
sanctions for violation of regulatory requirements.
F-34
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
14. Condensed unaudited quarterly financial data
Quarter Ended Quarter Ended Quarter Ended Quarter Ended
March 31, 1999 June 30, 1999 September 30, 1999 December 31, 1999
-------------- ------------- ------------------ -----------------
(in thousands of U.S. dollars, except per share data)
1999
Net premiums earned..... $285,267 $300,271 $ 952,951 $ 947,248
Net investment income... 86,484 84,794 163,060 158,999
Net realized gains
(losses) on
investments............ 17,254 25,307 (58,493) 53,848
-------- -------- ---------- ----------
Total revenues........ $389,005 $410,372 $1,057,518 $1,160,095
======== ======== ========== ==========
Losses and loss
expenses............... $156,881 $255,471 $ 632,910 $ 594,281
======== ======== ========== ==========
Net income.............. $129,019 $ 69,122 $ 14,793 $ 152,029
======== ======== ========== ==========
Basic earnings per
share.................. $ 0.67 $ 0.36 $ 0.08 $ 0.78
======== ======== ========== ==========
Diluted Earnings per
share.................. $ 0.65 $ 0.35 $ 0.08 $ 0.78
======== ======== ========== ==========
Quarter Ended Quarter Ended Quarter Ended Quarter Ended Quarter Ended
December 31, 1997 March 31, 1998 June 30, 1998 September 30, 1998 December 31, 1998
----------------- -------------- ------------- ------------------ -----------------
(in thousands of U.S. dollars, except per share data)
1998
Net premiums earned..... $205,330 $221,475 $246,350 $221,148 $218,007
Net invested income..... 63,672 78,283 93,011 89,288 85,095
Net realized gains
(losses) on
investments............ 27,493 145,616 69,448 (54,172) 130,154
-------- -------- -------- -------- --------
Total revenues........ $296,495 $445,374 $408,809 $256,264 $433,256
======== ======== ======== ======== ========
Losses and loss
expenses............... $122,255 $129,780 $146,233 $118,624 $111,169
======== ======== ======== ======== ========
Net income.............. $122,210 $247,901 $176,528 $ 13,512 $238,539
======== ======== ======== ======== ========
Basic earnings per
share.................. $ 0.68 $ 1.40 $ 0.92 $ 0.07 $ 1.23
======== ======== ======== ======== ========
Diluted Earnings per
share.................. $ 0.67 $ 1.37 $ 0.90 $ 0.07 $ 1.21
======== ======== ======== ======== ========
F-35
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
15. Summarized financial information
The following is consolidated summarized financial information for ACE INA
and Capital Re, both wholly owned subsidiaries of the Company.
Selected Financial Data
ACE INA
December 31, 1999
(in thousands of U.S. dollars)
Selected Statement of Operation Data (since date of acquisition)
Total revenues................................................... $ 1,629,369
Net income....................................................... 24,426
Selected Balance Sheet Data
Total investments and cash....................................... $ 7,710,202
Total assets..................................................... 22,553,446
Unpaid losses and loss expenses.................................. 13,762,062
Total shareholders' equity....................................... $ 1,142,520
Selected Financial Data
Capital Re
December 31, 1999
(in thousands of U.S. dollars)
Selected Balance Sheet Data
Total investments and cash..................................... $1,158,243
Total assets................................................... 1,483,781
Unpaid losses and loss expenses................................ 168,698
Total shareholders' equity..................................... $ 588,389
Separate financial statements of ACE INA and Capital Re have not been
presented as management has determined that such information is not material to
holders of ACE INA's or Capital Re's debt securities.
16. Condensed unaudited pro forma information relating to the acquisitions of
Capital Re, ACE INA, CAT and ACE USA.
The following pro forma information assumes the acquisitions occurred at the
beginning of each year presented. The pro forma financial information is
presented for informational purposes only and is not necessarily indicative of
the operating results that would have occurred had the acquisition been
consummated at the beginning of each year presented, nor is it necessarily
indicative of future operating results.
December 31 September 30
1999 1998
----------- ------------
(in millions of U.S.
dollars, except per
share data)
Pro forma:
Net premiums earned.............................. $4,054 $4,114
Net investment income............................ 753 846
Net income....................................... 10 562
Diluted earnings per share....................... $ 0.05 $ 2.64
F-36
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
17. Segment information
a) ACE's operations are organized into the following segments: ACE Bermuda;
ACE Global Markets; ACE Global Reinsurance; ACE USA; ACE International; ACE
Financial Services and other. Each of these segments operates as an autonomous
unit and is managed by a Chief Executive Officer ("CEO") who reports to the CEO
of ACE, the chief operating decision maker in the group.
ACE Bermuda, which primarily encompasses the ACE Bermuda Insurance group of
companies, primarily provides property and casualty insurance coverage,
including excess liability insurance, directors and officers liability
insurance, satellite insurance, aviation insurance, excess property insurance
and financial lines products, to a diverse group of industrial, commercial and
other enterprises.
ACE Global Markets primarily encompasses the Company's operations in the
Lloyds market. ACE Global Markets provides funds at Lloyd's to support
underwriting by Lloyd's syndicates managed by four Lloyd's managing agencies
which are owned by the Company. These managing agencies receive fees and profit
commissions in respect of the underwriting and administrative services they
provide to the syndicates they manage.
ACE Global Reinsurance, which primarily comprises the operations of Tempest
Re, provides catastrophe reinsurance worldwide to insurers of commercial and
personal property. Tempest Re's property catastrophe reinsurance contracts
cover unpredictable natural or man-made disasters, such as hurricanes,
windstorms, hail storms, earthquakes, volcanic eruptions, conflagrations,
freezes, floods, fires and explosions. The predominant exposure under such
coverage is property damage.
ACE USA primarily comprises the domestic U.S. operations of ACE INA which
was acquired on July 2, 1999 and the operations of ACE US Holdings which were
acquired on January 2, 1998. These operations provide specialty property and
casualty products and services including: aerospace, diversified products,
marine, professional risk services, property, special risk, U.S. International,
warranty, Westchester Specialty, Brandywine and "other" operations.
ACE International primarily comprises the international operations of ACE
INA which were acquired on July 2, 1999. ACE International provides property
and casualty insurance to individuals, mid-sized firms and large commercial
clients. In addition, ACE International provides customized and comprehensive
insurance policies and services to multinational firms and their cross-boarder
subsidiaries. Major lines of business underwritten by ACE International include
accident and health, fire, marine, casualty, auto, energy and technology
insurance. ACE International operates in almost 50 countries and is organized
into four geographic locations: ACE Europe, ACE Far East, ACE Asia Pacific, and
ACE Latin America. Each region reports to the CEO of ACE International.
ACE Financial Services is primarily comprised of the Capital Re companies
acquired on December 30, 1999. ACE Financial Services provides value-added
reinsurance products in several specialty insurance markets. ACE Financial
Services has two principal divisions: financial guaranty and financial risks.
The financial guaranty division is composed of municipal and non-municipal
financial guaranty reinsurance and credit default swaps. Financial guaranty
insurance is a type of credit enhancement in the form of a surety or insurance
which is regulated under the insurance laws of various jurisdictions. The
insurance provides an unconditional and irrevocable guaranty which indemnifies
the insured debt obligation. The financial risks division is composed of
mortgage guaranty reinsurance, trade credit reinsurance, title reinsurance and
financial solutions. As ACE Financial Services was acquired on December 30,
1999, the Company has not reflected any operations from this segment during
1999.
F-37
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The "other" segment includes the operations of ACE Limited, certain
unallocated amounts in ACE INA Holdings including interest income, interest
expense and amortization of goodwill, and certain eliminations required to
reconcile the segment data to the consolidated statement of operations.
a) The following table summarizes the operations by segment for the year
ended December 31, 1999, the three months ended December 31, 1998, and the
years ended September 30, 1998 and 1997.
b) For segment reporting purposes, certain items have been presented in a
different manner than in the consolidated financial statements. For segment
reporting purposes, items considered non-recurring in nature have been
aggregated and shown separately net of related taxes, and net realized gains
(losses) have been presented net of related taxes.
ACE Limited
Supplemental Information by Segment
For the year ended December 31, 1999
(in thousands of U.S. Dollars)
ACE ACE Global ACE Global ACE ACE
Bermuda Markets Reinsurance ACE USA International Other(1) Consolidated
---------- ---------- ----------- ----------- ------------- ----------- ------------
Operations Data:
Gross premiums written.. $ 553,365 $ 634,689 $ 182,267 $ 1,566,584 $ 932,252 $ -- $ 3,869,157
Net premiums written.... 428,953 438,769 145,673 796,892 685,061 -- 2,495,348
Net premiums earned..... 510,013 363,887 140,094 748,635 723,108 -- 2,485,737
Losses and loss
expenses............... 390,385 205,811 96,935 533,275 413,137 -- 1,639,543
Policy acquisition
costs.................. 14,862 94,419 20,809 68,993 138,993 -- 338,076
Administrative
expenses............... 38,233 54,636 11,927 176,524 152,165 51,071 484,556
---------- ---------- ---------- ----------- ---------- ----------- -----------
Underwriting income
(loss)................. 66,533 9,021 10,423 (30,157) 18,813 (51,071) 23,562
Net investment income... 174,647 28,489 60,015 188,688 40,664 834 493,337
Amortization of
goodwill............... (834) 4,204 14,011 469 -- 27,500 45,350
Interest expense ....... 4,705 3,944 -- 34,563 -- 61,926 105,138
Income tax expense
(benefit).............. 2,129 6,006 -- 34,693 20,199 (26,403) 36,624
---------- ---------- ---------- ----------- ---------- ----------- -----------
Income (loss) excluding
net realized gains
(losses) and non
recurring expenses .... 235,180 23,356 56,427 88,806 39,278 (113,260) 329,787
Non-recurring expenses
(net of income tax).... -- -- -- (3,900) (3,042) -- (6,942)
---------- ---------- ---------- ----------- ---------- ----------- -----------
Income (loss) excluding
net realized gains
(losses)............... 235,180 23,356 56,427 84,906 36,236 (113,260) 322,845
Net realized gains
(losses)(net of income
tax)................... 63,752 (4,373) (3,771) (3,529) (608) (9,353) 42,118
---------- ---------- ---------- ----------- ---------- ----------- -----------
Net income (loss)....... $ 298,932 $ 18,983 $ 52,656 $ 81,377 $ 35,628 $ (122,613) $ 364,963
========== ========== ========== =========== ========== =========== ===========
Total Assets........... $2,867,138 $1,521,535 $1,328,687 $16,240,045 $3,904,755 $4,260,728 (2) $30,122,888
========== ========== ========== =========== ========== =========== ===========
- --------
(1) Includes ACE Limited, ACE INA Holdings and intercompany eliminations
(2) Includes ACE Financial Services assets of $1,483,781
F-38
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
ACE Limited
Supplemental Information by Segment
For the three months ended December 31, 1998
(in thousands of U.S. Dollars)
ACE ACE Global ACE Global ACE(1) ACE
Bermuda Markets Reinsurance USA Other(2) Consolidated
---------- ---------- ----------- ---------- -------- ------------
Operations Data:
Gross premiums written.. $ 124,836 $ 87,891 $ 6,425 $ 34,916 $ -- $ 254,068
Net premiums written.... 89,525 39,723 3,318 21,537 -- 154,103
Net premiums earned..... 84,337 65,059 46,676 21,935 -- 218,007
Losses and loss
expenses............... 24,401 36,131 36,967 13,670 -- 111,169
Policy acquisition
costs.................. 4,462 18,266 5,549 (465) -- 27,812
Administrative
expenses............... 9,228 8,509 3,299 8,994 11,188 41,218
---------- ---------- ---------- ---------- -------- ----------
Underwriting income
(loss)................. 46,246 2,153 861 (264) (11,188) 37,808
Net investment income... 47,920 7,291 15,762 13,270 852 85,095
Amortization of
goodwill............... (209) 1,048 3,528 68 -- 4,435
Interest expense
(income)............... 107 1,301 -- 6,178 (2,845) 4,741
Income tax expense...... 307 2,530 -- 2,505 -- 5,342
---------- ---------- ---------- ---------- -------- ----------
Income (loss) excluding
net realized gains
(losses) .............. 93,961 4,565 13,095 4,255 (7,491) 108,385
Net realized gains
(losses) (net of income
tax)................... 130,483 432 (1,246) 489 (4) 130,154
---------- ---------- ---------- ---------- -------- ----------
Net income (loss)....... $ 224,444 $ 4,997 $ 11,849 $ 4,744 $ (7,495) $ 238,539
========== ========== ========== ========== ======== ==========
Total Assets.......... $3,828,757 $1,144,402 $1,634,776 $1,822,439 $403,931 $8,834,305
========== ========== ========== ========== ======== ==========
- --------
(1) Prior to acquisition of ACE INA
(2) Includes ACE Limited and intercompany eliminations
F-39
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
ACE Limited
Supplemental Information by Segment
For the year ended September 30, 1998
(in thousands of U.S. Dollars)
ACE ACE Global ACE Global ACE(1) ACE
Bermuda Markets Reinsurance USA Other(2) Consolidated
---------- ---------- ----------- ---------- -------- ------------
Operations Data:
Gross premiums written... $ 520,018 $ 437,809 $ 124,129 $ 160,203 $ -- $1,242,159
Net premiums written..... 395,331 315,832 93,583 78,529 -- 883,275
Net premiums earned...... 388,812 282,076 154,871 70,846 -- 896,605
Losses and loss
expenses................ 294,963 144,991 34,146 42,792 -- 516,892
Policy acquisition
costs................... 26,676 62,540 16,154 284 -- 105,654
Administrative
expenses................ 31,263 24,043 11,012 23,419 28,603 118,340
---------- ---------- ---------- ---------- -------- ----------
Underwriting income
(loss).................. 35,910 50,502 93,559 4,351 (28,603) 155,719
Net investment income.... 210,936 19,502 53,029 40,245 542 324,254
Amortization of
goodwill................ (834) 4,042 9,538 88 -- 12,834
Interest expense......... 1,021 4,782 -- 11,536 -- 17,339
Income tax expense....... 794 19,007 -- 11,555 -- 31,356
---------- ---------- ---------- ---------- -------- ----------
Income (loss) excluding
net realized gains and
non-recurring expenses.. 245,865 42,173 137,050 21,417 (28,061) 418,444
Non-recurring expenses
(net of income tax)..... -- (32,166) -- -- (14,512) (46,678)
---------- ---------- ---------- ---------- -------- ----------
Income (loss) excluding
net realized gains...... 245,865 10,007 137,050 21,417 (42,573) 371,766
Net realized gains (net
of income tax).......... 183,745 1,302 3,224 114 -- 188,385
---------- ---------- ---------- ---------- -------- ----------
Net income (loss)........ $ 429,610 $ 11,309 $ 140,274 $ 21,531 $(42,573) $ 560,151
========== ========== ========== ========== ======== ==========
Total Assets........... $4,041,442 $1,142,758 $1,671,874 $1,833,407 $ 99,272 $8,788,753
========== ========== ========== ========== ======== ==========
- --------
(1) Prior to acquisition of ACE INA
(2) Includes ACE Limited and intercompany eliminations
F-40
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
ACE Limited
Supplemental Information by Segment
For the year ended September 30, 1997
(in thousands of U.S. Dollars)
ACE
ACE Global ACE Global ACE
Bermuda Markets Reinsurance Other(1) Consolidated
---------- -------- ----------- -------- ------------
Operations Data:
Gross premiums written.. $ 527,030 $316,524 $115,795 $ -- $ 959,349
Net premiums written.... 451,495 226,858 111,420 -- 789,773
Net premiums earned..... 479,047 207,723 118,602 -- 805,372
Losses and loss
expenses............... 386,127 89,582 10,431 -- 486,140
Policy acquisition
costs.................. 34,027 39,180 12,555 -- 85,762
Administrative
expenses............... 20,169 11,216 7,488 28,851 67,724
---------- -------- -------- -------- ----------
Underwriting income
(loss)................. 38,724 67,745 88,128 (28,851) 165,746
Net investment income... 189,364 16,205 37,263 10,608 253,440
Amortization of
goodwill............... -- 1,703 5,622 -- 7,325
Interest expense........ -- 5,602 -- -- 5,602
Income tax expense...... -- 25,181 -- -- 25,181
---------- -------- -------- -------- ----------
Income (loss) excluding
net realized gains
(losses) and non-
recurring expenses .... 228,088 51,464 119,769 (18,243) 381,078
Non-recurring expenses
(net of income tax).... -- (6,055) -- -- (6,055)
---------- -------- -------- -------- ----------
Income (loss) excluding
net realized gains
(losses)............... 228,088 45,409 119,769 (18,243) 375,023
Net realized gains
(losses) (net of income
tax)................... 127,079 (280) 919 (16) 127,702
---------- -------- -------- -------- ----------
Net income (loss)....... $ 355,167 $ 45,129 $120,688 $(18,259) $ 502,725
========== ======== ======== ======== ==========
Total Assets.......... $3,921,806 $771,579 $875,902 $ 78,309 $5,647,596
========== ======== ======== ======== ==========
- --------
(1) Includes ACE Limited and intercompany eliminations
c. The following table summarizes the Company's gross premiums written by
geographic region. Allocations have been made on the basis of location of risk.
Australia
North & New Asia Latin
America Europe Zealand Pacific America Other
- ------- ------ --------- ------- ------- -----
59.4% 17.6% 7.6% 5.0% 2.7% 7.7%
F-41
ACE LIMITED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
18. Discontinued Operations
In accordance with Emerging Issues Task Force ("EITF") 87-11 "Allocation of
Purchase Price to Assets to Be Sold," and ("EITF") 90-6, "Accounting for
Certain Events Not Addressed in Issue No. 87-11 Relating to an Acquired
Operating Unit to Be Sold", the Company has presented Commercial Insurance
Services ("CIS"), a division of ACE INA, as a discontinued operation. The
Company planned, as part of its July 2, 1999 acquisition of the CIGNA P&C
business, to dispose of the CIS operations. Following the July 2, 1999 ACE INA
acquisition, the company sold the renewal rights for all of its CIS business
going forward. The Company still owns the assets and liabilities pertaining to
the historical book of business as well as the in-force book of business. This
portion of CIS is still for sale.
In accordance with EITF 87-11, the Company recorded a net liability as of
July 2, 1999 of approximately $170 million which was recorded in accounts
payable, accrued expenses and other liabilities. At that time the Company
reduced the consolidated balance sheet for the following items that pertained
specifically to CIS: $900 million in investments and cash, $100 million in
insurance balances receivable, $30 million of net assets comprised of various
assets and liabilities, $1.1 billion in net loss reserves, and $100 million in
unearned premiums. The historical and in force business, including the
estimated proceeds on sale and estimated operating results over the twelve
months from July 2, 1999, was represented by the net liability of approximately
$170 million. Any income items pertaining to CIS through July 1, 2000 will not
appear in the consolidated income of the Company, but will be posted against
the $170 million net liability. When the CIS business is sold, any gain or loss
on sale would reduce or increase goodwill accordingly.
If the remaining CIS business is not sold prior to July 2, 2000, the Company
will be required to expand the net liability into each of its constituent parts
in the balance sheet and any resulting income or loss from that book of
business from that point forward would be included in income.
F-42