SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________________to _______________
Commission File Number 1-15259
PXRE GROUP LTD.
(Exact name of registrant as specified in its charter)
Bermuda 98-0214719
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
99 Front Street Suite 231
Hamilton HM 12 12 Church Street
Bermuda Hamilton HM 11
(Address, including zip code, Bermuda
of principal executive offices) (Mailing address)
(441) 296-5858
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
--- ---
As of August 5, 2002 11,968,537 common shares, $1.00 par value per
share, of the Registrant were outstanding.
- --------------------------------------------------------------------------------
PXRE GROUP LTD.
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Consolidated Balance Sheets at June 30, 2002 and December 31, 2001 3
Consolidated Statements of Income and Comprehensive Income
for the three and six months ended June 30, 2002 and 2001 4
Consolidated Statements of Stockholders' Equity for the three
and six months ended June 30, 2002 and 2001 5
Consolidated Statements of Cash Flows for the three and
six months ended June 30, 2002 and 2001 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations. 16
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 34
PART II. OTHER INFORMATION 35
Item 1. Legal Proceedings.
Item 2. Changes in Securities and Use of Proceeds.
Item 3. Defaults Upon Senior Securities.
Item 4. Submission of Matters to a Vote of Security Holders.
Item 5. Other Information.
Item 6. Exhibits and Reports on Form 8-K.
PXRE Consolidated Balance Sheets
Group Ltd. (Dollars in thousands, except par value per share)
- --------------------------------------------------------------------------------
June 30, December 31,
2002 2001
---- ----
(Unaudited)
Assets Investments:
Available for sale:
Fixed maturities, available-for-sale, at fair value (amortized
cost $451,391 and $218,635, respectively) $ 458,539 $ 219,482
Equity securities, at fair value (cost $252 and $650, respectively) 252 650
Short-term investments
Hedge funds 17,422 16,737
Non-hedge funds 101,122 153,503
Trading securities at fair value (cost $18,508 and $20,250,
respectively) 20,110 25,764
Limited partnerships, at equity
Hedge funds (cost $68,760 and $48,760, respectively) 94,384 73,068
Non-hedge funds (cost $9,376 and $16,430, respectively) 14,083 19,141
------------ ------------
Total investments 705,912 508,345
Cash 22,589 22,888
Accrued investment income 7,164 4,149
Receivables:
Unreported premiums 73,092 82,455
Balances due from intermediaries and brokers, net 25,657 11,148
Other receivables 23,639 20,176
Reinsurance recoverable 262,526 262,115
Ceded unearned premiums 22,146 18,163
Deferred acquisition costs 13,725 7,312
Current income tax asset 13,308 4,081
Deferred tax asset 2,246 21,037
Other assets 43,871 44,069
------------ ------------
Total assets $ 1,215,875 $ 1,005,938
============ ============
Liabilities Losses and loss expenses $ 425,167 $ 453,705
Unearned premiums 69,748 46,335
Debt payable 35,000 55,000
Reinsurance balances payable 98,259 78,178
Other liabilities 69,426 33,410
------------ ------------
Total liabilities 697,600 666,628
------------ ------------
Minority interest in consolidated subsidiary:
Company-obligated mandatorily redeemable capital trust
pass-through securities of subsidiary trust holding solely a
company-guaranteed related subordinated debt 95,333 99,530
------------ ------------
Stockholders' Serial convertible preferred stock, $1.00 par value, $10,000 stated
Equity value -- 10 million shares authorized, 0.02 million and 0 shares
issued and outstanding, respectively 152,900 0
Common stock, $1.00 par value -- 50 million shares
authorized, 12.0 million and 11.9 million shares
issued and outstanding, respectively 11,966 11,873
Additional paid-in capital 168,034 175,405
Accumulated other comprehensive income (loss) net of deferred income
tax (expense) benefit of $(1,982) and $37, respectively 4,272 (299)
Retained earnings 88,414 55,473
Restricted stock at cost (0.2 million and 0.2 million shares,
respectively) (2,644) (2,672)
------------ ------------
Total stockholders' equity 422,942 239,780
------------ ------------
Total liabilities and stockholders' equity $ 1,215,875 $ 1,005,938
============ ============
The accompanying notes are an integral part of these statements.
PXRE Consolidated Statements of Income and Comprehensive Income
Group Ltd. (Dollars in thousands, except per share amounts)
- --------------------------------------------------------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
---- ---- ---- ----
(Unaudited)
Revenues Net premiums earned $ 45,763 $ 43,326 $ 104,919 $ 91,266
Net investment income 8,445 8,238 12,532 18,121
Net realized investment gains 514 429 1,003 815
Management fees 586 772 1,839 2,733
--------- --------- --------- ---------
55,308 52,765 120,293 112,935
--------- --------- --------- ---------
Losses and Losses and loss expenses incurred 18,863 28,207 36,086 57,640
Expenses Commissions and brokerage 5,276 9,562 17,719 23,030
Other operating expenses 6,223 7,496 15,094 16,384
Interest expense 754 767 1,499 2,739
Minority interest in consolidated subsidiary 2,199 2,219 4,423 4,438
--------- --------- --------- ---------
33,315 48,251 74,821 104,231
--------- --------- --------- ---------
Income before income taxes and cumulative
effect of accounting change 21,993 4,514 45,472 8,704
Income tax provision 2,949 792 8,196 1,486
--------- --------- --------- ---------
Income before cumulative effect of
accounting change 19,044 3,722 37,276 7,218
Cumulative effect of accounting change, net of
$172 tax expense 0 0 0 319
--------- --------- --------- ---------
Net income before preferred stock dividends $ 19,044 $ 3,722 $ 37,276 $ 7,537
Preferred stock dividends 2,900 0 2,900 0
--------- --------- --------- ---------
Net income available to common stockholders $ 16,144 $ 3,722 $ 34,376 $ 7,537
========= ========= ========= =========
Comprehensive Net unrealized appreciation (depreciation) on investments 5,923 (651) 4,508 15
Income, Net Net unrealized (depreciation) appreciation on cash flow hedge (140) 0 62 0
of Tax --------- --------- --------- ---------
Comprehensive income $ 24,827 $ 3,071 $ 41,846 $ 7,552
========= ========= ========= =========
Per Share Basic:
Net income before cumulative effect of
accounting change and preferred stock dividends $ 1.62 $ 0.32 $ 3.18 $ 0.63
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
Preferred stock dividends (0.25) 0.00 (0.25) 0.00
--------- --------- --------- ---------
Net income available to common stockholders $ 1.37 $ 0.32 $ 2.93 $ 0.66
========= ========= ========= =========
Average shares outstanding (000's) 11,768 11,470 11,752 11,503
========= ========= ========= =========
Diluted:
Net income before cumulative effect of
accounting change $ 0.88 $ 0.31 $ 2.21 $ 0.60
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
--------- --------- --------- ---------
Net income $ 0.88 $ 0.31 $ 2.21 $ 0.63
========= ========= ========= =========
Average shares outstanding (000's) 21,655 11,878 16,863 11,934
========= ========= ========= =========
The accompanying notes are an integral part of these statements.
4
PXRE Consolidated Statements of Stockholders' Equity
Group Ltd. (Dollars in thousands)
- --------------------------------------------------------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
---- ---- ---- ----
(Unaudited)
Preferred Stock Balance at beginning of period $ 0 $ 0 $ 0 $ 0
Issuance of shares, net 150,000 0 150,000 0
Dividends to preferred stockholders 2,900 0 2,900 0
---------- ---------- ---------- ----------
Balance at end of period $ 152,900 $ 0 $ 152,900 $ 0
========== ========== ========== ==========
Common Stock Balance at beginning of period $ 11,944 $ 11,899 $ 11,873 $ 11,820
Issuance of shares, net 22 4 93 83
---------- ---------- ---------- ----------
Balance at end of period $ 11,966 $ 11,903 $ 11,966 $ 11,903
========== ========== ========== ==========
Additional Balance at beginning of period $ 176,694 $ 176,633 $ 175,405 $ 175,014
Paid-in Capital Issuance of shares (8,643) 606 (7,336) 2,920
Other (17) (609) (35) (1,304)
---------- ---------- ---------- ----------
Balance at end of period $ 168,034 $ 176,630 $ 168,034 $ 176,630
========== ========== ========== ==========
Accumulated Balance at beginning of period $ (1,512) $ 596 $ (299) $ (69)
Other Change in unrealized gains (losses) for the period 5,924 (650) 4,509 15
Comprehensive Change in cash flow hedge for the period (140) 0 62 0
Income ---------- ---------- ---------- ----------
Balance at end of period $ 4,272 $ (54) $ 4,272 $ (54)
========== ========== ========== ==========
Retained Balance at beginning of period $ 72,989 $ 79,403 $ 55,473 $ 76,302
Earnings Net income 19,044 3,722 37,276 7,537
Dividends to preferred stockholders (2,900) 0 (2,900) 0
Dividends paid to common stockholders (719) (716) (1,435) (1,429)
---------- ---------- ---------- ----------
Balance at end of period $ 88,414 $ 82,409 $ 88,414 $ 82,410
========== ========== ========== ==========
Restricted Stock Balance at beginning of period $ (2,798) $ (4,808) $ (2,672) $ (3,681)
Issuance of restricted stock (237) (418) (1,040) (2,449)
Amortization of restricted stock 391 701 1,068 1,358
Other 0 0 0 246
---------- ---------- ---------- ----------
Balance at end of period $ (2,644) $ (4,525) $ (2,644) $ (4,526)
========== ========== ========== ==========
Total Balance at beginning of period $ 257,317 $ 263,723 $ 239,780 $ 259,386
Stockholders' Issuance of preferred shares 150,000 0 150,000 0
Equity Issuance of shares (8,621) 610 (7,243) 3,003
Restricted stock, net 154 283 28 (1,091)
Unrealized appreciation (depreciation) on
investments, net of deferred income tax 5,924 (650) 4,509 15
Unrealized (depreciation) appreciation on
cash flow hedge, net of deferred income tax (140) 0 62 0
Net income 19,044 3,722 37,276 7,537
Dividends (719) (716) (1,435) (1,429)
Other (17) (609) (35) (1,058)
---------- ---------- ---------- ----------
Balance at end of period $ 422,942 $ 266,363 $ 422,942 $ 266,363
========== ========== ========== ==========
The accompanying notes are an integral part of these statements.
5
PXRE Consolidated Statements of Cash Flows
Group Ltd. (Dollars in thousands)
- --------------------------------------------------------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
---- ---- ---- ----
(Unaudited)
Cash Flow Net income $ 19,044 $ 3,722 $ 37,276 $ 7,537
from Operating Adjustments to reconcile net income to net cash
Activities provided by operating activities:
Losses and loss expenses (17,078) 14,388 (28,538) 16,904
Unearned premiums (25,039) (6,354) 19,430 1,878
Deferred acquisition costs (1,228) 981 (6,413) (198)
Receivables 18,063 (10,931) (6,820) (23,722)
Reinsurance balances payable 5,394 2,479 20,081 18,243
Reinsurance recoverable 2,719 7,785 (411) 14,340
Current income tax asset (1,190) 2,033 (9,084) (1)
Deferred tax asset 1,125 (4,041) 16,772 (532)
Equity in earnings of limited partnerships (3,706) (3,043) (5,407) (6,235)
Other 15,136 16,563 16,375 12,404
--------- --------- --------- ---------
Net cash provided by operating activities 13,240 23,582 53,261 40,618
--------- --------- --------- ---------
Cash Flow Cost of fixed maturity investments (244,910) (97,922) (245,113) (122,632)
from Investing Fixed maturity investments matured/disposed 9,494 95,874 11,713 122,374
Activities Payable for securities 14,385 7,467 14,292 10,029
Cost of equity securities 0 (2,034) 0 (3,026)
Equity securities disposed 0 1,845 275 14,105
Net change in short-term investments 108,805 (15,330) 52,381 (25,313)
Other invested assets and trading portfolio disposed 6,621 8,608 40,594 15,731
Other invested assets and trading portfolio purchased (44,874) (5,441) (44,874) (20,968)
--------- --------- --------- ---------
Net cash used by investing activities (150,479) (6,933) (170,732) (9,700)
--------- --------- --------- ---------
Cash Flow Proceeds from issuance of preferred stock 140,938 0 140,938 0
from Financing Proceeds from issuance of common stock 308 229 1,194 616
Activities Cash dividends paid to common stockholders (719) (715) (1,435) (1,429)
Repayment of debt (10,000) 0 (20,000) (10,000)
Repurchase of minority interest in consolidated subsidiary (2,187) 0 (2,967) 0
Cost of stock repurchased (105) (649) (558) (1,173)
--------- --------- --------- ---------
Net cash provided (used) by financing activities 128,235 (1,135) 117,172 (11,986)
--------- --------- --------- ---------
Net change in cash (9,004) 15,514 (299) 18,932
Cash, beginning of period 31,593 22,427 22,888 19,009
--------- --------- --------- ---------
Cash, end of period $ 22,589 $ 37,941 $ 22,589 $ 37,941
========= ========= ========= =========
The accompanying notes are an integral part of these statements.
6
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
1. Significant Accounting Policies
Basis of Presentation and Consolidation
The consolidated financial statements have been prepared in U.S.
dollars in conformity with accounting principles generally accepted ("GAAP") in
the United States of America. These statements reflect the consolidated
operations of PXRE Group Ltd. (the "Company" or collectively with its various
subsidiaries, "PXRE") and its wholly-owned subsidiaries, including PXRE
Corporation ("PXRE Delaware"), PXRE Reinsurance Company ("PXRE Reinsurance"),
PXRE Reinsurance Ltd. ("PXRE Bermuda"), PXRE Reinsurance (Barbados) Ltd. ("PXRE
Barbados"), PXRE Solutions Inc. ("PXRE Solutions"), PXRE Direct Underwriting
Managers, Inc., PXRE Trading Corporation, TREX Trading Corporation, Cat Fund
L.P., PXRE Capital Trust I and PXRE Limited. All material intercompany
transactions have been eliminated in preparing these consolidated financial
statements.
The Company was formed in 1999 as part of the reorganization of PXRE
Delaware, a Delaware corporation. Prior to the reorganization, PXRE Delaware was
the ultimate parent holding company of the various PXRE companies and its common
shares were publicly traded on the New York Stock Exchange. As a result of the
reorganization, the Company became the ultimate parent holding company of PXRE
Delaware and the holders of PXRE Delaware common stock automatically became
holders of the same number of the Company's common shares. The reorganization
was consummated at the close of business on October 5, 1999 and, on October 6,
1999, the Company's common shares began to trade on the New York Stock Exchange
under the symbol PXT. The reorganization also involved the establishment of a
Bermuda-based reinsurance subsidiary, PXRE Bermuda, operations in Barbados
through PXRE Barbados and the formation of a reinsurance intermediary, PXRE
Solutions.
GAAP requires management to make current estimates and assumptions that
affect the reported amount 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.
Actual results could differ from those current estimates.
The interim consolidated financial statements are unaudited; however,
in the opinion of management, the foregoing consolidated financial statements
include all adjustments, consisting only of normal recurring adjustments,
necessary for a fair statement of the results for the interim periods. These
interim statements should be read in conjunction with the 2001 audited
consolidated financial statements and related notes. The preparation of interim
consolidated financial statements relies significantly upon estimates. Use of
such estimates, and the seasonal nature of a portion of the reinsurance
business, necessitates caution in drawing specific conclusions from interim
results.
7
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standard ("SFAS") No. 145, "Rescission of FASB Statements Nos. 4 and
64, Amendment of FASB Statement No. 13, and Technical Corrections", on April 30,
2002, which rescinds the requirement to present gains and losses from
extinguishment of debt as an extraordinary item. The Company has adopted the new
standard effective January 1, 2002. As a result, a gain of $1.2 million on the
repurchase of $4.2 million of Minority Interest in Consolidated Subsidiary was
classified with net realized investment gains during the first six months of
2002.
Certain amounts in 2001 were reclassified to be consistent with the
2002 presentation.
2. Reinsurance
PXRE purchases catastrophe retrocessional coverage for its own
protection, depending on market conditions. In the event that retrocessionaires
are unable to meet their contractual obligations, PXRE would be liable for such
defaulted amounts. The effects of such retrocessional coverage on premiums
written and earned are as follows:
Three Months Ended Increase Six Months Ended Increase
June 30, (Decrease) June 30, (Decrease)
----------------------- -----------------------
2002 2001 % 2002 2001 %
---- ---- - ---- ---- -
($000's)
Premiums written
Gross premiums written $41,791 $48,473 $167,147 $126,530
Ceded premiums written (21,068) (11,502) (42,763) (33,386)
------- ------- -------- --------
Net premiums written $20,723 $36,971 (44) $124,384 $ 93,144 34
======= ======= ======== ========
Premiums earned
Gross premiums earned $65,693 $60,750 $143,700 $126,788
Ceded premiums earned (19,930) (17,424) (38,781) (35,522)
------- ------- -------- --------
Net premiums earned $45,763 $43,326 6 $104,919 $ 91,266 15
======= ======= ======== ========
8
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
3. Earnings Per Share
The table below presents the computation of basic and diluted earnings
per share:
Three Months Ended Six Months Ended
June 30, June 30,
---------------------- ----------------------
2002 2001 2002 2001
---- ---- ---- ----
($000's, except per share data)
Net income available to common stockholders:
Income before cumulative effect of accounting change
and preferred dividends $ 19,044 $ 3,722 $37,276 $ 7,218
Cumulative effect of accounting change 0 0 0 319
Preferred dividends (2,900) 0 (2,900) 0
-------- ------- ------- -------
Net income available to common stockholders $ 16,144 $ 3,722 $34,376 $ 7,537
======== ======= ======= =======
Weighted average shares of common stock outstanding:
Weighted average shares of common shares
outstanding (basic) 11,768 11,470 11,752 11,503
Equivalent shares of stock options 415 166 319 170
Equivalent shares of restricted stock 136 242 124 261
Equivalent shares of convertible preferred stock 9,336 0 4,668 0
-------- ------- ------- -------
Weighted average common equivalent shares (diluted) 21,655 11,878 16,863 11,934
======== ======= ======= =======
Per share amounts:
Basic
Income before cumulative effect of accounting change
and preferred dividends $ 1.62 $ 0.32 $3.18 $ 0.63
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
Preferred dividends (0.25) 0.00 (0.25) 0.00
-------- ------- ------- -------
Net income $ 1.37 $ 0.32 $2.93 $ 0.66
======== ======= ======= =======
Diluted
Income before cumulative effect of accounting change $ 0.88 $ 0.31 $2.21 $ 0.60
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
-------- ------- ------- -------
Net income $ 0.88 $ 0.31 $2.21 $ 0.63
======== ======= ======= =======
9
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
4. Income Taxes
The Company is incorporated under the laws of Bermuda and, under
current Bermuda law, is not obligated to pay any taxes in Bermuda based upon
income or capital gains. The Company has received an undertaking from the
Minister of Finance in Bermuda pursuant to the provisions of the Exempted
Undertakings Tax Protection Act, 1966, which exempts the Company from any
Bermuda taxes computed on profits, income or any capital asset, gain or
appreciation, or any tax in the nature of estate duty or inheritance tax, at
least until the year 2016.
The Company does not consider itself to be engaged in a trade or
business in the United States and accordingly does not expect to be subject to
direct United States income taxation.
The United States subsidiaries of PXRE file a consolidated U.S. federal
income tax return.
5. Losses and Loss Expense Liabilities
In 2000, PXRE Bermuda assumed a finite reinsurance contract that
involved long tail casualty risks. This contract was recorded on a discounted
basis, and was commuted during the second quarter of 2002 resulting in a net
loss of $0.4 million. All reserves for PXRE Bermuda are now recorded on an
undiscounted basis.
6. Stockholders' Equity
On April 4, 2002, the Company raised $150 million of additional capital
through the issuance of 15,000 Convertible Voting Preferred Shares (the
"Preferred Share Investment"). The Preferred Share Investment occurred pursuant
to a Share Purchase Agreement, dated as of December 10, 2001, between the
Company and Capital Z Financial Services Fund II, L.P., Capital Z Financial
Services Private Fund II, L.P., Reservoir Capital Master Fund, L.P., Reservoir
Capital Partners, L.P. and Richard E. Rainwater. The capital infusion from the
Preferred Share Investment is enabling PXRE to increase underwriting capacity
and therefore maximize participation in the hardening reinsurance market
following the September 11th terrorist attacks. On February 12, 2002, the
stockholders approved the sale and issuance of three series of convertible
preferred shares pursuant to the Share Purchase Agreement, including 7,500
Series A Convertible Preferred Shares, 5,000 Series B Convertible Preferred
Shares, and 2,500 Series C Convertible Preferred Shares. These shares will
accrue cumulative dividends per share at the rate per annum of 8% of the sum of
the stated value of each share plus any accrued and unpaid dividend thereon,
payable on a quarterly basis. The stockholders also voted to approve the
division of 20 million of PXRE's 50 million authorized common shares into three
new classes of convertible common shares including 10 million Class A
Convertible Voting Common Shares ("Class A Common Shares"), 6,666.667 Class B
Convertible Voting Common Shares ("Class B Common Shares"), and 3,333.333 Class
C Convertible Voting Common Shares ("Class C Common Shares"). Preferred shares
will be convertible into convertible common shares at the option of the holder
at any time equal to the original purchase cost plus accrued but unpaid
dividends at a conversion price equal to $15.69 provided that such conversion
price is subject to adjustment if the Company experiences adverse loss
development in excess of a $7 million after-tax threshold. Preferred shares
mandatorily convert at the third anniversary of the issuance for two thirds of
the shares issued, and the balance at the sixth anniversary. Preferred shares
will vote on a fully converted basis on all matters other than the election of
directors.
10
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
On March 28, 2002, the Insurance Commissioner of the State of
Connecticut approved the Preferred Share Investment, which closed on April 4,
2002. Proceeds, net of offering expenses of $9.1 million, amounted to $140.9
million.
7. Segment Information
PXRE operates in four reportable property and casualty segments -
catastrophe and risk excess, finite business, other lines and exited lines -
based on PXRE's approach to managing the business. Commencing with the 2002
underwriting renewal season, PXRE is returning its core focus to catastrophe and
risk excess and finite business. Businesses that will not be renewed are
reported as exited lines. The Company's segments for 2001 were reclassified to
be comparable to the 2002 segments used for PXRE's method of managing the
business. In addition, PXRE operates in two geographic segments - North American
representing North American based risks written by North American based
reinsureds and International (principally the United Kingdom, Continental
Europe, Latin America, Caribbean, Australia and Asia) representing all other
premiums written.
There are no significant differences among the accounting policies of
the segments as compared to PXRE's consolidated financial statements.
PXRE does not maintain separate balance sheet data for each of its
operating segments. Accordingly, PXRE does not review and evaluate the financial
results of its operating segments based upon balance sheet data.
11
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
The following tables summarize the net written and earned premium by
PXRE's business segments:
Net Premiums Written
($000's)
Three Months Ended June 30, Six Months Ended June 30,
2002 2001 2002 2001
----------------------------------------------- ---------------------------------------------
Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ -------
Catastrophe and Risk
Excess
North American $ 9,269 $ 4,136 $22,029 $10,572
International 19,766 13,263 75,604 40,202
Excess of loss
cessions (6,474) (3,444) (10,904) (9,646)
------- ------- ------- -------
22,561 109% 13,955 38% 86,729 70% 41,128 44%
------- ------- ------- -------
Finite Business
North American (669) 8,431 29,692 22,996
International 0 0 0 0
------- ------- ------- -------
(669) (3) 8,431 23 29,692 24 22,996 25
------- ------- ------- -------
Other Lines
North American 1,032 864 2,935 1,870
International 1 (65) 42 (3)
------- ------- ------- -------
1,033 5 799 2 2,977 2 1,867 2
------- ------- ------- -------
Exited Lines
North American 485 10,491 8,178 14,541
International (2,687) 3,295 (3,192) 12,612
------- ------- ------- -------
(2,202) (11) 13,786 37 4,986 4 27,153 29
------- ---- ------- ---- -------- ---- ------- ----
Total $20,723 100% $36,971 100% $124,384 100% $93,144 100%
======= ==== ======= ==== ======== ==== ======= ====
12
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
Net Premiums Earned
($000's)
Three Months Ended June 30, Six Months Ended June 30,
2002 2001 2002 2001
Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ -------
Catastrophe and Risk
Excess
North American $11,509 $ 5,548 $21,312 $10,889
International 32,722 17,708 64,897 38,840
Excess of loss
cessions (6,193) (4,629) (10,904) (9,616)
------- ------- ------- -------
38,038 83% 18,627 43% 75,305 72% 40,113 44%
------- ------- ------- -------
Finite Business
North American (260) 9,416 8,314 24,141
International 0 0 0 0
------- ------- ------- -------
(260) (1) 9,416 22 8,314 8 24,141 26
------- ------- ------- -------
Other Lines
North American 1,349 985 3,866 1,625
International 3 (20) 102 44
------- ------- ------- -------
1,352 3 965 2 3,968 4 1,669 2
------- ------- ------- -------
Exited Lines
North American 3,940 6,930 11,911 11,768
International 2,693 7,388 5,421 13,575
------- ------- ------- -------
6,633 15 14,318 33 17,332 16 25,343 28
------- ---- ------- ---- -------- ---- ------- ----
Total $45,763 100% $43,326 100% $104,919 100% $91,266 100%
======= ==== ======= ==== ======== ==== ======= ====
13
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
The following table summarizes the underwriting profit (loss) by
segment:
Underwriting Operations
(000's)
Three Months Ended June 30, Six Months Ended June 30,
2002 2001 2002 2001
---------------------------------------------------------------------------------------------
Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ -------
Catastrophe and Risk
Excess
North American $ 10,756 $ (784) $22,133 $ 1,039
International 19,815 10,928 41,567 20,138
Excess of loss
cessions (2,736) (6,301) (4,405) (9,842)
------- ------- ------- ------
27,835 121% 3,843 61% 59,295 111% 11,335 100%
------- ------- ------- -------
Finite Business
North American (698) 1,053 2,167 1,788
International 0 0 0 0
------- ------- ------- -------
(698) (3) 1,053 17 2,167 4 1,788 16
------- ------- ------- -------
Other Lines
North American 2,107 1,401 2,364 1,185
International (73) 329 243 (1,057)
------- ------ ------- --------
2,034 9 1,730 28 2,607 5 128 1
------- ------ ------- -------
Exited Lines
North American (5,133) 469 (8,900) 515
International (1,018) (864) (1,736) (2,436)
------- ------- ------- -------
(6,151) (27) (395) (6) (10,636) (20) (1,921) (17)
------- ---- ------- ---- ------- ---- ------ ----
Total $23,020 100% $ 6,231 100% $53,433 100% $11,330 100%
======= ==== ======= ==== ======= ==== ======= ====
14
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- -------------------------------------------------------------------------------
The following table reconciles the underwriting operations for the
operating segments to income before income taxes and cumulative effect of
accounting change as reported in the consolidated statements of income and
comprehensive income:
Three Months Six Months
Ended June 30, Ended June 30,
---------------------------------------------------------------------------
2002 2001 2002 2001
--------------- --------------- --------------- ---------------
($000's)
Net underwriting profit $ 23,020 $ 6,231 $ 53,433 $ 11,330
Net investment income 8,445 8,238 12,532 18,121
Net realized investment gains 514 429 1,003 815
Interest expense (754) (767) (1,499) (2,739)
Minority interest in consolidated subsidiary (2,199) (2,219) (4,423) (4,438)
Operating expenses (6,223) (7,496) (15,094) (16,384)
Unrealized foreign exchange (losses) gains on
losses incurred (787) 165 (422) 2,181
Other expense (23) (67) (58) (182)
--------------- --------------- --------------- ---------------
Income before income taxes $ 21,993 $ 4,514 $ 45,472 $ 8,704
=============== =============== =============== ===============
8. Contingencies
In May 1999, PXRE Delaware entered into weather option agreements with
two counterparties. In April 2000, these counterparties submitted invoices to
PXRE Delaware in the aggregate sum of $8.25 million seeking payment under the
weather option agreements, which invoices have been paid. PXRE Delaware insured
its obligations under these weather option agreements through two Commercial
Inland Marine Weather Insurance Policies issued by Terra Nova Insurance Company
Limited ("Terra Nova"). PXRE Delaware submitted claims under these policies to
Terra Nova in April 2000. Terra Nova had denied coverage, contending that its
Managing General Agent had no authority to issue these policies.
PXRE Delaware disagreed with Terra Nova's denial and filed suit against
Terra Nova in the United States District Court for the District of New Jersey.
On June 10, 2002, PXRE Delaware was awarded a verdict of $8.25 million plus
accumulated interest of $1.5 million by a jury at the conclusion of the trial of
this dispute. The aggregate sum of $9.75 million is included in Other Assets.
Terra Nova is expected to appeal the verdict, but management has concluded that
it is realizable and that no valuation allowance is necessary.
15
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
Unless the context otherwise requires, references in this Form 10-Q to
"PXRE" or "we" include PXRE Group Ltd. (the "Company") and its subsidiaries,
which principally include PXRE Reinsurance Company ("PXRE Reinsurance"), PXRE
Corporation ("PXRE Delaware"), PXRE Reinsurance Ltd. ("PXRE Bermuda"), PXRE
Reinsurance (Barbados) Ltd. ("PXRE Barbados") and PXRE Solutions Inc. ("PXRE
Solutions"). References to U.S. GAAP refer to accounting principles generally
accepted in the United States ("U.S. GAAP"). References to SAP refer to
statutory accounting principles ("SAP") in either the State of Connecticut where
PXRE Reinsurance is domiciled or Bermuda where PXRE Bermuda is domiciled.
The following is a discussion of the Company's results of operations
for the three and six months ended June 30, 2002 and 2001 and financial
condition as of June 30, 2002. This discussion and analysis should be read in
conjunction with the attached unaudited consolidated financial statements and
notes thereto and the Company's Annual Report on Form 10-K for the year ended
December 31, 2001 (the "10-K"), including the audited consolidated financial
statements and notes thereto and the discussion of Certain Risks and
Uncertainties (including the discussion of Critical Accounting Policies)
contained in the 10-K.
We provide reinsurance products and services to a worldwide marketplace
through subsidiary operations in the United States, Europe, Bermuda and
Barbados. Our primary focus is providing property catastrophe reinsurance and
retrocessional coverage to a worldwide group of clients, where we have been
among the leading franchises for two decades. Property catastrophe reinsurance
generally covers claims arising from large catastrophes such as hurricanes,
windstorms, hailstorms, earthquakes, volcanic eruptions, fires, industrial
explosions, freezes, riots, floods and other man-made or natural disasters.
Substantially all of our non-finite reinsurance products have been, and will
continue to be, offered on an excess-of-loss basis with aggregate limits on our
exposure to losses. This means that we do not begin to pay our client's claims
until their claims exceed a certain specified amount and our obligation to pay
those claims is limited to a specified aggregate amount.
We also offer our clients property-per-risk and marine and aviation
reinsurance and retrocessional products. Unlike property catastrophe
reinsurance, which protects against the accumulation of a large number of
related losses arising out of one catastrophe, per-risk excess of loss
reinsurance protects our clients against a large loss arising from a single risk
or location. Substantially all of our property-per-risk and marine and aviation
business is also written on an excess-of-loss basis with aggregate limits on our
exposure to losses.
We also provide our clients with finite reinsurance products. Finite
reinsurance contracts are highly customized for each transaction. If the loss
experience with respect to the risks assumed by us is as expected or better than
expected, our finite clients will share in the profitability of the underlying
business through premium adjustments or profit commissions. If the loss
experience is worse than expected, our finite clients generally participate in
this negative outcome to a certain extent. In addition, we offer finite
reinsurance products where investment returns on the funds transferred to us
over a period of years affect the profitability of the contract and the
magnitude of any premium or commission adjustments.
16
Cautionary Statement Regarding Forward-Looking Statements
This report contains various forward-looking statements and includes
assumptions concerning our operations, future results and prospects. Statements
included herein, as well as statements made by or on our behalf in press
releases, written statements or other documents filed with the Securities and
Exchange Commission, or in our communications and discussions with investors and
analysts in the normal course of business through meetings, phone calls and
conference calls, which are not historical in nature are intended to be, and are
hereby identified as, "forward-looking statements" for purposes of the safe
harbor provided by Section 21E of the Securities Exchange Act of 1934 as
amended. These forward-looking statements, identified by words such as "intend,"
"believe," "anticipate," or "expects" or variations of such words or similar
expressions are based on current expectations and are subject to risk and
uncertainties. In light of the risks and uncertainties inherent in all future
projections, the inclusion of forward-looking statements in this report should
not be considered as a representation by us or any other person that our
objectives or plans will be achieved. We caution investors and analysts that
actual results or events could differ materially from those set forth or implied
by the forward-looking statements and related assumptions, depending on the
outcome of certain important factors including, but not limited to, the
following:
(i) significant catastrophe losses or losses under other coverages,
the timing and extent of which are difficult to predict;
(ii) changes in the level of competition in the reinsurance or
primary insurance markets that impact the volume or
profitability of business (these changes include, but are not
limited to, the intensification of price competition, the entry
of new competitors, existing competitors exiting the market and
competitors' development of new products);
(iii) the lowering or loss of one of the financial or claims paying
ratings of ours or one or more of our subsidiaries;
(iv) changes in the demand for reinsurance, including changes in the
amount of risk that our clients elect to maintain for their own
account;
(v) risks associated with the termination and run-off of our
diversification initiatives;
(vi) adverse development on loss reserves related to business written
in current and prior years;
(vii) lower than estimated retrocessional recoveries on unpaid losses,
including the effects of losses due to a decline in the
creditworthiness of our retrocessionaires;
17
(viii) increases in interest rates, which cause a reduction in the
market value of our interest rate sensitive investments,
including our fixed income investment portfolio and potential
underperformance in our finite coverages;
(ix) decreases in interest rates causing a reduction of income
earned on net cash flow from operations and the reinvestment of
the proceeds from sales, calls or maturities of existing
investments and shortfalls in cash flows necessary to pay fixed
rate amounts due to finite contract counterparties;
(x) market fluctuations in equity securities and with respect to
our portfolio of hedge funds and other privately held
securities: leverage, concentration of investments, lack of
liquidity, market fluctuations and direction (including as a
result of interest rate fluctuations and direction, with
respect to price levels and volatility thereof), currency
fluctuations, credit risk, yield curve risk, spread risk
between two or more similar securities, political risk,
counterparty risk and risks relating to settlements on foreign
exchanges;
(xi) foreign currency fluctuations resulting in exchange gains or
losses;
(xii) changes in the composition of our investment portfolio;
(xiii) a contention by the United States Internal Revenue Service that
the Company or our offshore subsidiaries are subject to U.S.
taxation;
(xiv) changes in tax laws, tax treaties, tax rules and
interpretations; and
(xv) changes in management's evaluation of potential Year 2000
exposures emanating from our reinsurance business.
In addition to the factors outlined above that are directly related to
our business, we are also subject to general business risks, including, but not
limited to, adverse state, federal or foreign legislation and regulation,
adverse publicity or news coverage, changes in general economic factors and the
loss of key employees. The factors listed above should not be construed as
exhaustive.
We undertake no obligation to release publicly the results of any
future revisions we may make to forward-looking statements to reflect events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
Comparison of Second Quarter Results for 2002 with 2001
For the quarter ended June 30, 2002, net income was $19.0 million
versus net income of $3.7 million for the comparable period of 2001. The diluted
net income per common share was $0.88 for the second quarter of 2002 compared to
a diluted net income per share of $0.31 for the second quarter of 2001, based on
diluted average shares outstanding of approximately 21.7 million in the second
quarter of 2002 and 11.9 million in the second quarter of 2001.
18
Gross and net written premiums for the second quarter of 2002 and 2001
were as follows:
Three Months Ended June 30,
------------------------------------------
Increase
2002 2001 (Decrease)
---- ---- ----------
($000's) %
Gross premiums written $41,791 $48,473 (14)
Reinsurance premiums ceded 21,068 11,502 83
------- -------
Net premiums written $20,723 $36,971 (44)
======= =======
The decrease in gross and net premiums written primarily reflects the
significant decline in the Exited Lines segment. The Finite segment also
decreased 108% during the second quarter of 2002 versus the prior comparable
quarter on a net written basis. However, improved pricing, increased
participation with long-standing clients and substantial amounts of new business
in our core Catastrophe and Risk Excess segment resulted in a 62% increase in
net premiums written for the quarter in this key segment as compared to the
prior year period. Given our decision to re-focus on our core Catastrophe and
Risk Excess segment and to discontinue the businesses we have classified as
Exited Lines, we expect to continue to see significant decreases in the premiums
written and earned in the Exited Lines segment as this business is run off. With
respect to our Finite segment, we take an opportunistic approach to this
business and do not believe this business is best measured by premiums written
or earned from quarter to quarter. Compared to our other lines of business, our
finite business involves a relatively small number of large reinsurance
contracts. We therefore expect that the Finite segment premiums written and
earned will vary widely from quarter to quarter reflecting this strategy. In the
second quarter of 2002, we elected to partially terminate one finite transaction
in order to remove the underwriting risk associated with that portion of the
transaction. As a result, we returned premiums to the cedent that exceeded the
premiums written and earned on other finite transactions during the quarter.
Net premiums earned for the second quarter of 2002 increased 6% to
$45.8 million from $43.3 million for the corresponding period of 2001. The
Catastrophe and Risk Excess segment increased 104%, while the Finite segment
decreased 103% on an earned basis. The Exited Lines segment experienced a
decline of 54% on an earned basis.
Management fee income from all sources for the three months ended June
30, 2002 decreased 25% to $0.6 million from $0.8 million for the corresponding
period of 2001, reflecting the reduction in the share of business ceded to quota
share reinsurers.
19
The following table summarizes the loss and loss expense ratio, expense
ratio and combined ratio (sum of loss and loss expense ratio, plus expense
ratio) for the quarters ended June 30, 2002 and 2001, respectively:
(%) Three Months Ended June 30,
------------------------------------
2002 2001
---- ----
Loss and loss expense ratio 41.2 65.1
Expense ratio 23.9 37.6
---- -----
Combined ratio 65.1 102.7
==== =====
The loss and loss expense ratio of 41.2% for the second quarter of 2002
reflected reduced loss activity and no significant catastrophes, while the
second quarter of 2001 was impacted by the sinking of the Petrobras Oil Rig and
Tropical Storm Allison.
During the second quarter of 2002, we experienced adverse development
of $10.5 million net for prior-year loss and loss expenses mainly due to loss
development on our discontinued casualty reinsurance operations. This adverse
development was caused by larger than expected reported claims under our
casualty reinsurance contracts. The loss ratio for the comparable period of 2001
was affected by adverse development of $2.1 million net.
As of June 30, 2002, our overall estimated net loss after tax arising
from the September 11th terrorist attacks was $32.4 million. This is virtually
unchanged from our overall estimated loss after tax of $32.6 million at December
31, 2001 although we have experienced movement in the component losses
between lines of business on a gross basis.
The expense ratio declined to 23.9% in the second quarter of 2002
compared to 37.6% during the comparable year earlier period due to lower finite
commissions and a reduction in operating expenses attributable to our decision
to discontinue our exited lines of business.
Other operating expenses decreased to $6.2 million for the second
quarter of 2002 from $7.5 million for the comparable period of 2001. The
decrease primarily relates to the expense savings associated with the
termination of our direct underwriting and PXRE Lloyd's operations.
Interest expense was $0.8 million for both the three months ended June
30, 2002 and 2001. As of June 30, 2002, $35 million was outstanding under PXRE
Delaware's Credit Agreement with a syndicate of lenders (as described under
"Liquidity and Capital Resources"). The fixed interest rate on the $30.0 million
portion was 7.34% while the variable interest rate on the remaining $5.0 million
outstanding during the second quarter of 2002 was 4.0%. The Company incurred
minority interest expense amounting to $2.2 million related to PXRE's $100
million of 8.85% Capital Trust Pass-through Securities ('sm') ("TRUPS") (as
described below under "Liquidity and Capital Resources") during both three month
periods ending June 30, 2002 and 2001.
20
Net investment income for the quarter rose 2% to $8.4 million from $8.2
million in the second quarter of 2001. The increase was attributable to a
special distribution by one of our alternative investments resulting in income
of $3.0 million, $1.5 million in interest related to the judgment entered in our
favor in our lawsuit against Terra Nova, as well as higher fixed maturity income
as a result of the previously mentioned capital infusion, reduced by lower
yields from a year ago (4.2% compared to 6.1% in the second quarter of 2001).
During the quarter we added $138.7 million to our fixed income portfolio
primarily from the proceeds of the Preferred Share Investment (See Liquidity and
Capital Resources). Hedge funds produced an annualized return of 3.1% for the
quarter compared with 9.2% in the prior year period.
Investment income was also affected by various finite and other
reinsurance contracts where premiums payable under such contracts were retained
on a funds withheld basis. In order to reduce credit risk or to comply with
regulatory credit for reinsurance requirements, a portion of premiums paid under
such reinsurance contracts are retained by the cedent pending payment of losses
or commutation of the contract. Investment income on such withheld funds is
typically for the benefit of the reinsurer and the cedent may provide an
investment return on such funds. We have both ceded and assumed reinsurance
contracts that involve the withholding of premiums by the cedent. On assumed
reinsurance contracts, cedents held premiums and accrued investment income due
to us of $25.9 million as of June 30, 2002, for which we have recognized $0.4
million of investment income for the second quarter of 2002. On ceded
reinsurance contracts, we held premiums and accrued investment income of $130.0
million due to reinsurers as of June 30, 2002, for which we recognized a charge
to investment income of $0.6 million for the second quarter of 2002,
representing the difference between the stated investment return under such
contracts and the overall yield achieved on our total investment portfolio for
the quarter. The weighted average contractual investment return on the funds
held by PXRE is 7.8% and we expect to be obligated for this contractual
investment return for the life of the underlying liabilities, which is expected
to be 7 years on a weighted average basis.
PXRE recognized a tax expense of $2.9 million in the second quarter of
2002 compared to a tax expense of $0.8 million in the prior-year period. The tax
expense in the second quarter of 2002 differed from the statutory rate primarily
due to the mix of business in the U.S. and Bermuda, as well as tax exempt income
and the dividends received deduction.
Comparison of Year-to-Date Results for 2002 and 2001
For the six months ended June 30, 2002, net income was $37.3 million
versus net income of $7.5 million for the comparable period of 2001. The diluted
net income per common share was $2.21 for the first six months of 2002 compared
to a diluted net income per share of $0.63 for the first six months of 2001,
based on diluted average shares outstanding of approximately 16.9 million in
first six months of 2002 and 11.9 million in 2001.
21
Gross and net written premiums for the first six months of 2002 and
2001 were as follows:
Six Months Ended June 30,
-----------------------------------------
Increase
2002 2001 (Decrease)
---- ---- ----------
($000's) %
Gross premiums written $167,147 $126,530 32
Reinsurance premiums ceded 42,763 33,386 28
-------- --------
Net premiums written $124,384 $ 93,144 34
======== ========
The increase in gross and net premiums written primarily reflected
growth in the Catastrophe and Risk Excess segment resulting from improved
pricing, increased participation with long-standing clients and substantial
amounts of new business. The Finite segment also experienced significant growth
for the six month period on a net written basis.
Given our decision to re-focus on our core Catastrophe and Risk Excess
segment and to discontinue the businesses we have classified as Exited Lines, we
expect to continue to see significant decreases in the premiums written and
earned in the Exited Lines segment as this business is run off. With respect to
our Finite business, we take an opportunistic approach to this business and do
not believe this business is best measured by premiums written or earned. We
therefore expect that the premiums written and earned by our Finite segment will
vary widely reflecting this strategy. In the first six months of 2002, we
elected to partially terminate one finite transaction in order to remove the
underwriting risk associated with that portion of the transaction, resulting in
the return of premiums to the cedent. This caused a significant decrease in net
premiums earned by our Finite segment during the first six months of 2002 as
compared to the prior year period.
Net premiums earned for the first six months of 2002 increased 15% to
$104.9 million from $91.3 million for the corresponding period of 2001. The
Catastrophe and Risk Excess segment increased 88% on an earned basis, while the
Finite segment decreased 66% on an earned basis versus the prior comparable six
month period. The Exited Lines segment experienced a decrease of 32% on an
earned basis.
Management fee income from all sources for the six months ended June
30, 2002 decreased 33% to $1.8 million from $2.7 million for the corresponding
period of 2001, reflecting the reduction in the share of business ceded to quota
share reinsurers.
22
The following table summarizes the loss and loss expense ratio, expense
ratio and combined ratio (sum of loss and loss expense ratio, plus expense
ratio) for the six months ended June 30, 2002 and 2001, respectively:
(%) Six Months Ended June 30,
----------------------------------------
2002 2001
---- ----
Loss and loss expense ratio 34.4 63.2
Expense ratio 29.5 40.2
---- ----
Combined ratio 63.9 103.4
==== =====
The loss and loss expense ratio of 34.4% for the first six months of
2002 reflected reduced loss activity and no significant catastrophes, while the
first six months of 2001 was impacted by the sinking of the Petrobras Oil Rig
and Tropical Storm Allison.
During the first six months of 2002, we experienced adverse development
of $14.8 million net for prior-year loss and loss expenses mainly due to loss
development on our discontinued casualty reinsurance operations. The loss ratio
for the comparable period of 2001 was affected by adverse development of $7.1
million net largely due to casualty, marine and risk excess loss development.
The expense ratio declined to 29.5% in the first six months of 2002
compared to 40.2% during the comparable year earlier period primarily as a
result of an increase in earned premium and reduced operating expenses
associated with operations for Exited Lines.
Other operating expenses decreased to $15.1 million for the six months
ended June 30, 2002 from $16.4 million for the comparable prior year period. The
decrease primarily relates to the expense savings associated with the
termination of our direct underwriting and PXRE Lloyd's operations.
During the first six months of 2002, interest expense decreased to $1.5
million compared to $2.7 million in the corresponding period of 2001. The
decrease in interest expense primarily relates to repayment of $20.0 million
under PXRE Delaware's Credit Agreement with a syndicate of lenders (as described
under "Liquidity and Capital Resources") since December 31, 2001, reducing the
outstanding amount from $55 million on December 31, 2001 to $35 million on June
30, 2002. The fixed interest rate on the $30.0 million portion of the borrowing
under PXRE Delaware's Credit Agreement was 7.34% while the variable interest
rate on the remaining $5.0 million outstanding under this facility was 3.48%
during the first six months of 2002. The Company incurred minority interest
expense amounting to $4.4 million related to PXRE's $100 million of 8.85%
Capital Trust Pass-through Securities (SM) ("TRUPS") (as described below under
"Liquidity and Capital Resources") during both six month periods ending June 30,
2002 and 2001.
Net investment income for the six months ended June 30, 2002 declined
31% to $12.5 million from $18.1 million for the comparable period in 2001. This
decline was due to generally lower yield, and lower returns on hedge funds.
These decreases were offset, in part, by a special distribution by one of our
alternative investments resulting in income of $3.0 million, $1.5 million in
interest related to the judgment entered in our favor in our lawsuit against
Terra Nova and the impact of our previously mentioned capital infusion. Hedge
funds for the first half of 2002 produced an annualized return of 6.3% compared
with an annualized return of 11.6% in the prior year period. Net realized
investment gains for the first half of 2002 were $1.0 million compared to gains
of $0.8 million in the first six months of 2001, resulting principally from the
repurchase of $4.2 million of TRUPS (sm).
23
Investment income was also affected by various finite and other
reinsurance contracts where premiums payable under such contracts were retained
on a funds withheld basis. In order to reduce credit risk or to comply with
regulatory credit for reinsurance requirements, a portion of premiums paid under
such reinsurance contracts are retained by the cedent pending payment of losses
or commutation of the contract. Investment income on such withheld funds is
typically for the benefit of the reinsurer and the cedent may provide an
investment return on such funds. We have both ceded and assumed reinsurance
contracts that involve the withholding of premiums by the cedent. On assumed
reinsurance contracts, cedents held premiums and accrued investment income due
to us of $25.9 million as of June 30, 2002, for which we have recognized $0.8
million of investment income for the first six months of 2002. On ceded
reinsurance contracts, we held premiums and accrued investment income of $130.0
million due to reinsurers as of June 30, 2002, for which we recognized a charge
to investment income of $1.4 million during the first six months of 2002,
representing the difference between the stated investment return under the
contracts and the overall yield achieved on our total investment portfolio for
such six month period. The weighted average contractual investment return on the
funds held by PXRE is 7.8% and we expect to be obligated for this contractual
investment return for the life of the underlying liabilities, which is expected
to be 7 years on a weighted average basis.
PXRE recognized a tax expense of $8.2 million in the first six months
of 2002 compared to an expense of $1.7 million in the prior-year period. The tax
expense for the first six months of 2002 differed from the statutory rate
primarily due to the mix of business in the U.S. and Bermuda, as well as tax
exempt income and the dividends received deduction.
Update on Critical Accounting Policies
The Company's Annual Report on Form 10-K for the year ended December
31, 2001 discloses certain risks and uncertainties relating to critical
accounting policies (See Item 7 - Management's Discussion and Analysis of
Financial Condition and Results of Operations - Certain Risks and Uncertainties
Relating to Critical Accounting Policies contained in the Company's Annual
Report on Form 10-K for the year ended December 31, 2001). This included
disclosure concerning our estimation of losses and loss expense, the assumptions
used in making such estimation and the various factors that contribute to
uncertainty in those estimates.
In this regard, we noted as a catastrophe reinsurer, our estimations of
losses are inherently less reliable than for reinsurers of risks that have an
established historical pattern of losses such as casualty risks. In addition,
with respect to insured events which occur near the end of a reporting period,
as well as with respect to our retrocessional book of business, the significant
delay in losses being reported to insurance carriers, reinsurers and finally
retrocessionaires require us to make estimates of losses based on limited
information from our clients, industry loss estimates and our own underwriting
data. Because of the uncertainty in the process of estimating our losses from
insured events, there is a risk that our liabilities for losses and loss
expenses could prove to be inadequate, with a consequent adverse impact on our
future earnings and stockholders' equity.
24
In reserving for non-catastrophe losses from recent years, we are
required to make assumptions concerning the expected loss ratio usually for
broad lines of business but sometimes by contract. We consider historical loss
ratios for each line of business and estimates provided by underwriters and
actuaries concerning the impact of pricing and coverage changes. We also utilize
information provided by our clients when we reserve heterogeneous lines by
selecting expected loss ratios based upon loss ratio projections from pricing
analyses. As experience emerges, we revise our prior beliefs concerning pricing
adequacy and non-catastrophe loss potential for our coverages and we will
eventually rely solely on our estimated development pattern in projecting
ultimate losses.
In addition, the potential for uncertainty for recent underwriting
years is greater than in past years because of the increased casualty exposures
assumed by us through our casualty and finite business. Unlike property losses
that tend to be reported more promptly and usually are settled within a shorter
time period, casualty losses are frequently slower to be reported and may be
determined only through the lengthy, unpredictable process of litigation.
Moreover, given our recent expansion of casualty and finite business, we do not
have established historical loss development patterns that can be used to
establish casualty loss liabilities. We must therefore rely on the inherently
less reliable historical loss development patterns reported by our clients and
industry loss development data in calculating our liabilities.
During the second quarter of 2002, we experienced adverse development
of $10.5 million net for prior-year loss and loss expenses, $8.1 million of
which was due to loss development in our Exited Lines segment. This adverse
development was primarily caused by larger than expected reported claims under
our direct casualty reinsurance contracts. Our current estimate of loss and loss
expense liabilities for our Exited Lines segment is $94.0 million, which
represents our best estimate from a range of estimates provided by alternative
actuarial assumptions and methods. The low and high end of a range of reasonable
loss reserves for our Exited Lines is $7.7 million below and $9.4 million above
our current loss and loss expense estimate.
FINANCIAL CONDITION
Liquidity and Capital Resources
The Company relies primarily on dividend payments and net tax
allocation payments from its subsidiaries, including PXRE Reinsurance and PXRE
Bermuda, to pay its operating expenses and income taxes, to meet its debt
service obligations and to pay dividends. The payment of dividends by PXRE
Reinsurance is subject to limits imposed under the insurance laws and
regulations of Connecticut, the state of incorporation and domicile of PXRE
Reinsurance, as well as certain restrictions arising in connection with our
indebtedness discussed below. The maximum amount of dividends or distributions
that PXRE Reinsurance may declare and pay during 2002, without regulatory
approval, is $33.2 million. During the first six months of 2002, $15.6 million
in dividends were paid by PXRE Reinsurance.
25
The payment of dividends by PXRE Bermuda is limited under Bermuda
insurance laws, which requires PXRE Bermuda to maintain certain measures of
solvency and liquidity. As at June 30, 2002, the statutory capital and surplus
of PXRE Bermuda was estimated to be $64.1 million and the amount required to be
maintained was estimated to be $8.3 million.
Under Barbados law, PXRE Barbados may only pay a dividend out of the
realized profits of the company. PXRE Barbados may not pay a dividend unless (a)
it is able to pay its liabilities as they become due after payment of the
dividend, and (b) the realizable value of its assets is greater than the
aggregate value of its liabilities, and (c) the stated capital accounts are
maintained in respect of all classes of shares.
On April 4, 2002, the Company raised $150 million of additional capital
through the issuance of 15,000 Convertible Voting Preferred Shares (the
"Preferred Share Investment"). The Preferred Share Investment occurred pursuant
to a Share Purchase Agreement, dated as of December 10, 2001, between the
Company and Capital Z Financial Services Fund II, L.P., Capital Z Financial
Services Private Fund II, L.P. (together with Capital Z Financial Services Fund
II, L.P., "Capital Z"), Reservoir Capital Master Fund, L.P., Reservoir Capital
Partners, L.P. (together with Reservoir Capital Master Fund, L.P., "Reservoir")
and Richard E. Rainwater ("Rainwater") (each of Capital Z, Reservoir and
Rainwater, a "Purchaser", and together, the "Purchasers"). The Preferred Share
Investment involved the issuance of 7,500 shares of Series A Preferred Shares,
allocated to two sub-series of shares, 5,000 shares allocated to sub-series A1
(A1 Preferred Shares) and 2,500 shares allocated to sub-series A2 (A2 Preferred
Shares); the purchase of 5,000 shares of Series B Preferred Shares, allocated to
two sub-series of shares, 3,333.333 shares allocated to Series B1 (B1 Preferred
Shares) and 1,666.667 shares allocated to Series B2 (B2 Preferred Shares); and
2,500 shares of Series C Preferred Shares, allocated to two sub-series of
shares, 1,666.667 shares allocated to Series C1 (C1 Preferred Shares) and
833.333 shares allocated to Series C2 (C2 Preferred Shares). The Company's
common shareholders approved the transaction on February 12, 2002.
The issuance of the Preferred Shares is not expected to have a material
effect on our liquidity during the three-year period following their issuance.
In this regard, the Preferred Shares will be entitled to receive, when, as and
if declared by our Board of Directors and to the extent of funds legally
available for the payment of dividends, cumulative dividends per share at the
rate per annum of 8% of the sum of the stated value on each share plus any
accrued and unpaid dividends thereon, payable on a quarterly basis. To the
extent such dividends are not paid when due, dividends shall be payable and
accrue at the rate of 10% per annum compounded quarterly until paid. Such
dividends, if declared by our Board of Directors, shall be payable in additional
Preferred Shares prior to the third anniversary of the closing and cash
thereafter. We, at our sole election, may decide, in substitution in whole or in
part for dividends payable in shares, to pay dividends in cash to the extent of
any dividends that, if paid in additional shares of Preferred Shares, would
otherwise cause the Purchasers and their affiliates to own more than 49.9% of
the capital stock of the Company on a fully-diluted and fully-converted basis.
26
The A1 Preferred Shares, B1 Preferred Shares and C1 Preferred Shares
will be mandatorily convertible into Class A Common Shares, Class B Common
Shares and Class C Common Shares, respectively, on the third anniversary of the
date of issuance, and all remaining Preferred Shares will be mandatorily
convertible into Convertible Common Shares on the sixth anniversary of the date
of issuance. Notwithstanding the foregoing, on any conversion date, to the
extent necessary to prevent the initial Purchasers of Preferred Shares and their
affiliates from owning more than 49.9% of the capital shares of the Company
following conversion, we shall have the right (but not the obligation) to make a
cash payment in lieu of Convertible Common Shares equal to the fair market value
of the Convertible Common Shares that would have been received in excess of the
49.9% limitation in connection with any conversion, plus an additional tax gross
up amount to take into account in appropriate circumstances the difference
between the federal income tax rate on long-term capital gains and the federal
ordinary income tax rate that might apply to the recipient on the receipt of a
cash payment in lieu of Convertible Common Shares. If the A2 Preferred Shares,
B2 Preferred Shares and C2 Preferred Shares are not voluntarily converted on or
prior to the third anniversary of their issuance, an annual 8% dividend, payable
in cash, will accrue until these Preferred Shares are converted.
PXRE Delaware entered into a Credit Agreement dated as of December 30,
1998 (as amended and restated in connection with the reorganization of PXRE
Delaware, the "Credit Agreement") with First Union National Bank ("First Union")
as Agent and as a Lender, pursuant to which First Union agreed to make available
to PXRE Delaware a $75 million revolving credit facility. On May 18, 1999,
pursuant to various Joinder Agreements and Assignment and Acceptance Agreements,
First Union syndicated the revolving credit facility, joining Fleet National
Bank, Credit Lyonnais New York Branch and Bank One (formerly, The First National
Bank of Chicago) as additional lenders (collectively with First Union, the
"Lenders"). As at March 31, 1998, PXRE Delaware had outstanding borrowings under
the Credit Agreement of $50 million, and in October 1999, the remaining $25
million was borrowed. On each of March 31, 2000, 2001, 2002 and April 4, 2002
PXRE Delaware fulfilled its commitment and made principal payments of $10
million, reducing the outstanding loan to $35 million, at June 30, 2002.
The Preferred Share Investment would have triggered an event of default
under the Credit Agreement if the transaction were consummated without the
consent of the Lenders. As a condition to the Lenders' consent to the Preferred
Share Investment, the Credit Agreement was amended pursuant to the Restated
Second Amendment to the First Amended and Restated Credit Agreement, dated April
4, 2002, between PXRE Delaware and the Lenders (the "Second Amendment" and
together with the Credit Agreement, as amended by the Second Amendment, the
"Amended Credit Agreement"). The Second Amendment was effective upon the closing
of the Preferred Share Investment on April 4, 2002.
27
In connection with the Credit Agreement, PXRE Delaware and First Union
entered into a cash flow hedge interest rate swap which has the intended effect
of converting the $30.0 million borrowings by PXRE Delaware into a fixed rate
borrowing at an annual interest rate of 7.34%. The remaining $5 million
outstanding on June 30, 2002, after paying down $10 million on each of April 4,
2002, March 31, 2002, March 31, 2001 and March 31, 2000, incurred an interest
rate of 4.0% at June 30, 2002. Commitments under the Credit Agreement terminate
on March 31, 2004 and are subject to annual reductions and, unless due or paid
sooner, the aggregate principal of the loans are due and payable in full on
March 31, 2004. Under the Second Amendment to the First Amendment and Restated
Credit Agreement, the reduction of the outstanding commitments under the Credit
Agreement has been accelerated. As amended, the outstanding commitment was
reduced by $10 million on April 4, 2002 and an additional reduction of $5
million was made on July 1, 2002. The remaining commitment will be reduced by
$20 million on March 31, 2003 and by $10 million on March 31, 2004. In addition,
commencing on June 30, 2003, 50% of Excess Cash Flow (as defined in the Second
Amendment) shall be used to reduce the outstanding commitment. Effective April
4, 2002, the variable interest rate under the Amended Credit Agreement was
increased by 100 basis points.
The Amended Credit Agreement contains covenants that, among other
things, limit the ability of the Company and its subsidiaries and affiliates to
undertake certain activities and require compliance with Leverage Ratio, Fixed
Charge Coverage Ratio, Risk-Based Capital Ratio and Combined Statutory Surplus
requirements. Under the Amended Credit Agreement, the definition of Fixed Charge
Coverage Ratio has been amended to provide credit for the capital infusion
resulting from the Preferred Share Investment and the Fixed Charge Coverage
Ratio is reduced from 1.5 to 1, to 1.25 to 1 at March 31, 2002 and June 30, 2002
and 1.3 to 1 at September 30, 2002 and December 31, 2002.
As of June 30, 2002, PXRE Reinsurance held an investment the value of
which exceeded the applicable limit under the Credit Agreement, which absent a
waiver, would have resulted in an Event of Default under the Credit Agreement.
In the Second Amendment, the Lenders agreed to waive this violation until May 1,
2002 in order to allow PXRE Reinsurance an opportunity to cure this violation.
This limited waiver was extended on May 6, 2002 through to September 30, 2002 at
which time we expected to be in compliance with the terms of the Credit
Agreement.
28
On January 29, 1997, PXRE Capital Trust I ("PXRE Capital Trust"), a
Delaware statutory business trust and a wholly-owned subsidiary of PXRE
Delaware, issued $100 million principal amount of its 8.85% TRUPS (SM) due
February 1, 2027 in an institutional private placement. Proceeds from the sale
of these securities were used to purchase PXRE Delaware's 8.85% Junior
Subordinated Deferrable Interest Debentures due February 1, 2027 (the
"Subordinated Debt Securities"). On April 23, 1997, PXRE Delaware and PXRE
Capital Trust completed the registration with the Securities and Exchange
Commission of an exchange offer for these securities and the securities were
exchanged for substantially similar securities (the "Capital Securities").
Distributions on the Capital Securities (and interest on the related
Subordinated Debt Securities) are payable semi-annually, in arrears, on February
1 and August 1 of each year, commencing August 1, 1997. Minority interest
expense, including amortization of debt offering costs, for the six months ended
June 30, 2002 and 2001 in respect of the Capital Securities (and related
Subordinated Debt Securities) amounted to $4.4 million.
Our TRUPS have periodically traded at attractive prices. If such an
opportunity arises in the future, we may cause one or more of our subsidiaries
to purchase some of the outstanding TRUPS and hold them for investment purposes.
If consummated, such a purchase is not expected to be treated as a redemption as
our current intention is to hold the security in the operating company until
maturity. During the first six months of 2002, we purchased TRUPS in the
principal amount of $4.2 million, which are being held in our investment
portfolio. As a result of these purchases, we realized a $1.2 million gain
during such six month period. For GAAP purposes, the investment is eliminated
against the outstanding TRUPS balance in consolidation.
PXRE Delaware files U.S. income tax returns for itself and all of its
direct or indirect subsidiaries that satisfy the stock ownership requirements
for consolidation (collectively, the "Subsidiaries"). PXRE Delaware is party to
an Agreement Concerning Filing of Consolidated Federal Income Tax Returns (the
"Tax Allocation Agreement") pursuant to which each U.S. Subsidiary makes tax
payments to PXRE Delaware in an amount equal to the federal income tax payment
that would have been payable by such Subsidiary for such year if it had filed a
separate income tax return for such year. PXRE Delaware is required to provide
for payment of the consolidated federal income tax liability for the entire
group. If the aggregate amount of tax payments made in any tax year by a U.S.
Subsidiary is less than (or greater than) the annual tax liability for such
Subsidiary on a stand-alone basis for such year, such Subsidiary will be
required to make up such deficiency to PXRE Delaware (or will be entitled to
receive a credit if payments exceed the separate return tax liability of the
Subsidiary).
Investments
As of June 30, 2002, our investment portfolio, at fair value, consisted
of 82% in bonds and short-term investments with fixed maturities, 16% in hedge
funds and 2% in other investments.
29
The following table summarizes our investments at June 30, 2002 and
2001 at fair value:
Analysis of Investments
-----------------------
June 2002 June 2001
--------- ---------
Amount Percent Amount Percent
------ ------- ------ -------
(in thousands, except percentages)
Long-term fixed maturity securities:
U.S. treasury securities $49,595 7.0 $11,505 2.3
Foreign denominated trading securities 20,110 2.9 0 0.0
Foreign government securities 5,252 0.7 5,151 1.0
U.S. government sponsored agency and agency
mortgage-backed securities 119,772 17.0 93,449 18.2
Other mortgage and asset-backed securities 74,357 10.5 70,216 13.7
Municipal securities 53,774 7.6 46,694 9.1
Corporate securities 155,789 22.1 55,488 10.8
-------- ------ -------- ------
Total long-term fixed maturity securities 478,649 67.8 282,503 55.1
Short-term fixed maturity securities 101,122 14.3 73,416 14.3
-------- ------ -------- ------
Total fixed maturity securities 579,771 82.1 355,919 69.4
Hedge funds 111,806 15.8 124,783 24.4
Other investments 14,083 2.0 26,696 5.2
Equity securities 252 0.1 4,732 1.0
-------- ------ -------- ------
Total investment portfolio $705,912 100.0% $512,130 100.0%
======== ====== ======== ======
At June 30, 2002, 97% of the fair value of our fixed maturity portfolio
was in obligations rated "A1" or "A" or better by Moody's or S&P, respectively.
Mortgage and asset-backed securities accounted for 25% of fixed maturities based
on fair value at June 30, 2002. The average yield on our fixed maturity
portfolio at June 30, 2002 and 2001, was 4.2% and 6.1%, respectively.
In April 2002, the $140.9 million Preferred Share Investment net
proceeds were received, with $10 million repaid under the Amended Credit
Agreement, and the remainder was primarily invested in our fixed maturity
portfolio.
Long-term fixed maturity and equity investments are reported at fair
value, with the net unrealized gain or loss, net of tax, reported as a separate
component of stockholders' equity. At June 30, 2002, an after-tax unrealized
gain of $4.9 million (gain of 23 cents per share), after considering convertible
preferred shares, was included in stockholders' equity.
Short-term fixed maturities are carried at amortized cost, which
approximates fair value. Our short-term fixed maturities, principally term
deposits, short-term agencies and short-term treasuries were $101.1 million at
June 30, 2002, compared to $73.4 million at June 30, 2001. The proportion of the
investment portfolio invested in short-term fixed maturities was increased in
preparation for paying claims related to the September 11th terrorist attacks.
A principal component of our investment strategy is investing a
significant portion of our invested assets in a diversified portfolio of hedge
funds. At June 30, 2002, total hedge fund investments amounted to $111.8
million, representing 15.8% of the June 30, 2002 total investment portfolio. For
the six months ended June 30, 2002, our hedge funds yielded an annualized 6.3%
as compared to 11.6% in the six months ended June 30, 2001. As at June 30, 2002,
hedge fund investments with fair values ranging from $1.9 to $17.4 million were
administered by nineteen managers.
30
Our hedge fund managers invest in a variety of markets utilizing a
variety of strategies, generally through the medium of private investment
companies or other entities. Criteria for the selection of hedge fund managers
include, among other factors, the historical performance and/or recognizable
prospects of the particular manager and a substantial personal investment by the
manager in the investment program. However, managers without past trading
histories or substantial personal investment may also be considered. Generally,
our hedge fund managers may be compensated or receive profit participations on
terms that may include fixed and/or performance-based fees or profit
participations.
Through our hedge fund managers, we may invest or trade in any
securities or instruments including, but not limited to, U.S. and non-U.S.
equities and equity-related instruments, currencies, commodities and
fixed-income and other debt-related instruments and derivative instruments.
Hedge fund managers may use both over-the-counter and exchange traded
instruments (including derivative instruments such as swaps, futures and forward
agreements), trade on margin and engage in short sales. Substantially all
strategies hedge fund managers are expected to employ leverage, to varying
degrees, which magnifies both the potential for gain and the exposure to loss,
which may be substantial. Leverage may be obtained through margin arrangements,
as well as repurchase, reverse repurchase, securities lending and other
techniques. Trades may be on or off exchanges and may be in thinly traded
securities or instruments, which creates the risk that attempted purchases or
sales may adversely affect the price of a particular investment or its
liquidation and may increase the difficulty of valuing particular positions.
While we seek capital appreciation with respect to our hedge fund
investments, we are also concerned with preservation of capital. For that
reason, our hedge fund portfolio is designed to take advantage of broad market
opportunities and diversify risk. Nevertheless, our investment policies with
respect to our hedge fund investments generally do not restrict us from
participating in particular markets, strategies or investments. In fact, our
hedge fund investments may generally be deployed and redeployed in whatever
investment strategies are deemed appropriate under prevailing economic and
market conditions in an attempt to achieve capital appreciation, including, if
appropriate, a concentration of investments in a relatively small group of
strategies or hedge fund managers. Accordingly, the identity and number of hedge
fund managers is likely to change over time.
As at June 30, 2002, our investment portfolio also included $14.1
million of mezzanine bond and equity limited partnership investments at fair
values, with values ranging from $0.5 million to $7.3 million and remaining
aggregate cash call commitments in respect of such investments of $1.9 million.
31
Hedge funds and other limited partnership investments are accounted for
under the equity method or as part of a trading portfolio. Total investment
income for the six months ended June 30, 2002, included $5.4 million
attributable to hedge funds and other limited partnership investments.
Our hedge fund and other privately held securities program should be
viewed as exposing us to the risk of substantial losses, which we seek to reduce
through our multi-asset and multi-management strategy. There can be no
assurance, however, that this strategy will prove to be successful.
Liquidity
The primary sources of liquidity for our principal operating
subsidiaries are net cash flow from operating activities (including interest
income from investments), the maturity or sale of investments, borrowings,
capital contributions and advances. Funds are applied primarily to the payment
of claims, operating expenses, income taxes and to the purchase of investments.
Premiums are typically received in advance of related claim payments.
Net cash flow provided by operations was $13.2 million in the second
quarter of 2002 compared to $23.6 million provided by operations in the second
quarter of 2001 due to the effects of timing of collection of receivables and
reinsurance recoverables and payments of losses. Because of the nature of the
coverages we provide, which typically can produce infrequent losses of high
severity, it is not possible to accurately predict our future cash flows from
operating activities. As a consequence, cash flows from operating activities may
fluctuate, perhaps significantly, between individual quarters and years.
In connection with the capitalization of PXRE Lloyd's Syndicate 1224,
PXRE Reinsurance has placed on deposit $48.6 million par value of US Treasury
and municipal securities as collateral for Lloyd's. In July 2002, $13 million
par value of these securities was released. Cash and invested assets held by
PXRE Lloyd's Syndicate 1224 amounting to $15.2 million at June 30, 2002, are
restricted from being paid as a dividend through June 2003.
Other commitments and pledged assets include (a) letters of credit
amounting to $14.8 million which are secured by securities amounting to $15.4
million, (b) securities with a par value of $9.1 million on deposit with various
state insurance departments in order to comply with insurance laws, (c)
securities with a par value of $30.8 million deposited in a trust for the
benefit of a cedent in connection with a finite reinsurance transaction, (d)
funding commitments to certain limited partnerships of $1.9 million, (e) a
commitment to lend up to $7 million to finance the construction of an office
building that we intend to use as our headquarters in Bermuda, and (f)
commitments under the credit agreement discussed above.
In addition, we may be subject to gains and losses resulting from
currency fluctuations because substantially all of our investments are
denominated in U.S. dollars, while some of our net liability exposure is in
currencies other than U.S. dollars. We hold, and expect to continue to hold,
currency positions and have made, and expect to continue to make, investments
denominated in foreign currencies to mitigate, in part, the effects of currency
fluctuations on our results of operations. Currency holdings and investments
denominated in foreign currencies do not constitute a material portion of our
investment portfolio and, in the opinion of our management, are sufficiently
liquid for our needs.
32
Dividends declared to common shareholders in the second quarter of 2002
and 2001 were $0.7 million. The expected annual dividend based on common shares
outstanding at June 30, 2002 is approximately $2.9 million.
Book value per common share, on a fully converted basis, was $19.48 at
June 30, 2002.
All amounts classified as reinsurance recoverable at June 30, 2002 are
considered by our management to be collectible in all material respects.
Certain Transactions
PXRE Reinsurance is a party to a retrocessional agreement (as amended
from time to time, the "Select Re Quota Share Agreement") with Select
Reinsurance Ltd. ("Select Re"), pursuant to which we offer to cede a
proportional share of our non-casualty reinsurance business. In 2001, the
proportional share of our non-casualty business ceded to Select Re under that
agreement was 16.5%. This proportional share has been reduced to 8.0% for 2002.
As a complement to the Select Re Quota Share Agreement, we cede an additional
proportional share to Select Re on certain agreed risks under a variable quota
share agreement. In connection with the Select Re Quota Share Agreement, we have
entered into an undertaking to present Select Re with aggregate annual premiums
equal to a minimum of 20% of Select Re's shareholders' equity. In return, Select
Re is obligated to pay us a management fee based on the gross premiums ceded to
them under these quota share agreements. During the first six months of 2002, we
ceded reinsurance premiums of $24.5 million to Select Re and earned management
fees and ceding commissions of $3.0 million.
As of June 30, 2002, net assets of $96.9 million were due in the
aggregate from Select Re, of which $83.7 million was fully secured by way of
reinsurance trusts, or funds withheld by us. In addition to the
collateralization requirements, we have various additional protections to ensure
Select Re's performance of its obligations to us. In this regard, pursuant to
the Select Re Quota Share Agreement, among other rights, we have the right to
designate one member of Select Re's board of directors and we have the right to
limit the amount of non-PXRE reinsurance business assumed by Select Re.
Select Re is a Class 3 Bermuda reinsurance company that was formed in
1997. As of March 31, 2002, it had shareholders' equity of approximately $177
million and is privately owned by approximately 120 shareholders. In accordance
with our contractual rights under the Select Re Quota Share Agreement, we had
designated Gerald L. Radke, our Chairman and Chief Executive Officer, to serve
on Select Re's board of directors. In addition, Jeffrey L. Radke, our President
and Chief Operating Officer, also sits on Select Re's board. Prior to joining us
in 1999, Jeffrey Radke had served as the President of Select Re and had been
appointed to Select Re's board while he served in that capacity. Mr. Gerald
Radke resigned from Select Re's board in March 2002 and Mr. Jeffrey Radke is now
acting as our designee on their board of directors. Neither individual received
any remuneration for serving on Select Re's board.
33
As of December 31, 2001, Select Re held 1,112,200 of the Company's
Common Shares, but subsequently liquidated its position in the open market
during February 2002. Gerald Radke, Jeffrey Radke and Halbert Lindquist, one of
our directors, each individually holds Select Re shares, but each such person
holds less than 1% of Select Re's outstanding shares. Mr. William Michaelcheck
is the Chairman of the Board of Select Re and also one of its founding
shareholders. Mr. Michaelcheck is also the President and sole shareholder of
Mariner Investment Group, Inc. ("Mariner"). Mariner acts as the investment
manager for our hedge fund and alternative investment portfolio.
The Company's Board of Directors reviews the various transactions with
Select Re at each of its meetings. In addition, the Board has required that the
Company cannot enter into any transaction with Select Re without the prior
approval of the Company's Chief Financial Officer.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
We have reviewed our exposure to market risks at June 30, 2002 and the
changes in exposure since December 31, 2001. Interest rate and credit risk
remain the principal market risks we are exposed to. The additional risks
associated with our hedge fund investments are described earlier.
The composition of our fixed maturity portfolio did not materially
change during the second quarter of 2002, other than the increase from the
proceeds of the Preferred Share Issuance. There was no material change in our
exposure to market risks or our risk management strategy during the second
quarter. The fair value of our hedge fund investments increased by $25.8
million, following the reinvestment of the hedge fund sale proceeds from the
first quarter, returning their value to near the December 31, 2001 year end
position.
34
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.
In May 1999, PXRE Delaware entered into weather option agreements with
two counterparties. In April 2000, these counterparties submitted invoices to
PXRE Delaware in the aggregate sum of $8.25 million seeking payment under the
weather option agreements, which invoices have been paid. PXRE Delaware insured
its obligations under these weather option agreements through two Commercial
Inland Marine Weather Insurance Policies issued by Terra Nova Insurance Company
Limited ("Terra Nova"). PXRE Delaware submitted claims under these policies to
Terra Nova in April 2000. Terra Nova had denied coverage, contending that its
Managing General Agent had no authority to issue these policies.
PXRE Delaware disagreed with Terra Nova's denial and filed suit against
Terra Nova in the United States District Court for the District of New Jersey.
On June 10, 2002, PXRE Delaware was awarded a verdict of $8.25 million plus
accumulated interest of $1.5 million by a jury at the conclusion of the trial of
this dispute. The aggregate sum of $9.75 million is included in Other Assets.
Terra Nova is expected to appeal the verdict, but management has concluded that
it is realizable and that no valuation allowance is necessary.
Item 2. Changes in Securities and Use of Proceeds.
During the quarter ended June 30, 2002, the Company issued the
following securities in transactions that were not registered under the
Securities Act of 1933, as amended (the "Act"):
(a) Securities sold. On April 4, 2002, the Company issued 15,000
Convertible Voting Preferred Shares consisting of:
i. 7,500 shares of Series A Convertible Voting Preferred Shares,
allocated to two sub-series of shares, 5,000 shares allocated to
sub-series Al and 2,500 shares allocated to sub-series A2;
ii. 5,000 shares of Series B Convertible Voting Preferred Shares,
allocated to two sub-series of shares, 3,333.333 shares
allocated to Series B1 and 1,666.667 shares allocated to Series
B2; and
iii. 2,500 shares of Series C Convertible Voting Preferred Shares,
allocated to two sub-series of shares. 1,666.667 shares
allocated to Series Cl and 833.333 shares allocated to Series
C2.
(b) Underwriters and other purchasers. No underwriter participated. The
Convertible Voting Preferred Shares were sold to the following
purchasers: Capital Z Financial Services Fund II, L.P., Capital Z
Financial Services Private Fund II, L.P., Reservoir Capital Partners,
L.P., Reservoir Capital Master Fund, L.P., R.E.R. Reinsurance Holdings,
L.P. and Robert Stavis.
35
(c) Consideration. The Convertible Voting Preferred Shares were sold at a
purchase price of $10,000 per share.
(d) Exemption from registration claimed. Exemption from registration under
the Act was claimed based upon Section 4(2) of the Act as a sale by an
issuer not involving a public offering.
(e) Terms of conversion and exercise. The description of the terms of the
Preferred Shares contained in Part II, Item 5 of the Company's Annual
Report on Form 10-K for the year ended December 31, 2001 is
incorporated herein by reference.
(f) Use of proceeds. Net proceeds of $140.9 were realized as a result of
the issuance of the Preferred Shares. $10 million of the proceeds were
used to reduce the principal outstanding under the Company's Amended
Credit Agreement. The remainder was primarily contributed to the
Company's reinsurance subsidiaries to support underwriting operations.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
At the Company's Annual General Meeting of Shareholders held on May 30, 2002,
the Company's shareholders approved the following:
(i) The election of three Class I directors to serve until the 2005
Annual Meeting of Shareholders and until their successors have
been elected and have qualified:
Nominee Votes For Votes Withheld
Gerald L. Radke 10,792,289 219,927
Wendy Luscombe 10,792,289 219,927
Franklin D. Haftl 10,792,289 219,927
(ii) The appointment of KPMG as PXRE's independent auditors for the
fiscal year ending December 31, 2002, and referral to the Board of
the determination of their remuneration by the vote of 19,140,751
votes for, 40,700 votes against;
(iii) The adoption of the PXRE 2002 Officer Incentive Plan (the "2002
Officer Incentive Plan") under which 1,000,000 of our Common
Shares will be reserved for issuance pursuant to grants of
restricted stock or upon the exercise of options granted under the
2002 Officer Incentive Plan by the vote of 11,259,298 votes for,
2,929,319 votes against; and
36
(iv) The adoption of an amendment to the PXRE Employee Stock Purchase
Plan to increase the number of shares of Common Shares authorized
thereunder by 100,000 by the vote of 12,699,747 votes for,
1,498,470 against.
Item 5. Other Information.
None.
Item 6. Exhibits and Reports on Form 8-K.
a. Exhibits
NEAM Investment Management Agreement, dated April 8, 2002, between
GENERAL RE- NEW ENGLAND ASSET MANAGENT, INC. ("NEAM"), and PXRE
REINSURANCE COMPANY; Investment Management Agreement, dated April
8, 2002, between NEAM and PXRE GROUP LTD; Investment Management
Agreement, dated April 8, 2002, between NEAM and PXRE REINSURANCE
LTD.
99.1 Certification by the Chief Executive Officer and Chief
Financial Officer Relating to a Periodic Report Containing Financial Statements
b. Current Reports on Form 8-K
Current Reports on Form 8-K filed with the Securities and Exchange
Commission on April 8, 2002, April 15, 2002 and June 12, 2002.
EXHIBIT INDEX
-------------
Exhibit Number Description
- -------------- -----------
10.1 NEAM Investment Management Agreement, dated April 8, 2002,
between GENERAL RE-NEW ENGLAND ASSET MANAGEMENT, INC.
("NEAM") and PXRE REINSURANCE COMPANY; Investment Management
Agreement, dated April 8, 2002, between NEAM and PXRE GROUP
LTD; Investment Management Agreement, dated April 8, 2002,
between NEAM and PXRE REINSURANCE LTD.
37
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report or amendment thereto to be signed on
its behalf by the undersigned thereunto duly authorized.
PXRE GROUP LTD.
August 8, 2002 By: \s\ James F. Dore
--------------------------------
James F. Dore
Executive Vice President
and Chief Financial Officer
38