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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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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 September 30, 2002
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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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.)
Swan Building P.O. Box HM 1282
26 Victoria Street Hamilton HM FX
Hamilton HM 12 Bermuda
Bermuda
(Address, including zip code,
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 November 6, 2002 12,030,562 common shares, $1.00 par value per
share, of the Registrant were outstanding.
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PXRE GROUP LTD.
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Consolidated Balance Sheets as of September 30, 2002 and December 31, 2001 3
Consolidated Statements of Income and Comprehensive Income
for the three and nine months ended September 30, 2002 and 2001 4
Consolidated Statements of Stockholders' Equity for the three
and nine months ended September 30, 2002 and 2001 5
Consolidated Statements of Cash Flows for the three and
nine months ended September 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. 36
Item 4. Controls and Procedures 36
PART II. OTHER INFORMATION 37
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)
- --------------------------------------------------------------------------------
September 30, December 31,
2002 2001
---- ----
(Unaudited)
Assets Investments:
Available for sale:
Fixed maturities, available-for-sale, at fair value (amortized
cost $458,701 and $218,635, respectively) $ 475,011 $ 219,482
Equity securities, at fair value (cost $252 and $650, respectively) 252 650
Short-term investments
Hedge funds 17,470 16,737
Non-hedge funds 118,788 153,503
Trading securities, at fair value
Hedge funds (cost $0 and $20,250, respectively) -- 25,764
Non-hedge funds (cost $19,499 and $0, respectively) 20,792 --
Limited partnerships, at equity
Hedge funds (cost $65,142 and $48,760, respectively) 91,214 73,068
Non-hedge funds (cost $8,993 and $16,430, respectively) 13,875 19,141
----------- -----------
Total investments 737,402 508,345
Cash 15,016 22,888
Accrued investment income 5,352 4,149
Receivables:
Unreported premiums 69,360 82,455
Balances due from intermediaries and brokers, net 16,232 11,148
Other receivables 43,428 20,176
Reinsurance recoverable 246,397 262,115
Ceded unearned premiums 52,145 18,163
Deferred acquisition costs 12,820 7,312
Current income tax asset 11,345 4,081
Deferred tax asset - 21,037
Other assets 46,077 44,069
----------- -----------
Total assets $ 1,255,574 $ 1,005,938
=========== ===========
Liabilities Losses and loss expenses $ 436,896 $ 453,705
Unearned premiums 90,814 46,335
Debt payable 30,000 55,000
Reinsurance balances payable 100,095 78,178
Deferred tax liability 1,433 --
Other liabilities 60,501 33,410
----------- -----------
Total liabilities 719,739 666,628
----------- -----------
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 95,334 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 155,958 --
Common stock, $1.00 par value -- 50 million shares
authorized, 12.0 million and 11.9 million shares
issued and outstanding, respectively 12,031 11,873
Additional paid-in capital 168,932 175,405
Accumulated other comprehensive income (loss) net of deferred income
tax (expense) benefit of $(4,554) and $37, respectively 10,188 (299)
Retained earnings 95,644 55,473
Restricted stock at cost (0.2 million and 0.2 million shares, respectively) (2,252) (2,672)
----------- -----------
Total stockholders' equity 440,501 239,780
----------- -----------
Total liabilities and stockholders' equity $ 1,255,574 $ 1,005,938
=========== ===========
The accompanying notes are an integral part of these statements.
3
PXRE Consolidated Statements of Income and Comprehensive Income
Group Ltd. (Dollars in thousands, except per share amounts)
- --------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
---- ---- ---- ----
(Unaudited)
Revenues Net premiums earned $ 75,741 $ 17,543 $ 180,661 $ 108,809
Net investment income 5,011 5,767 17,543 23,888
Net realized investment gains 4,782 3,426 5,785 4,241
Management fees 928 2,335 2,766 5,069
--------- --------- --------- ---------
86,462 29,071 206,755 142,007
--------- --------- --------- ---------
Losses and Losses and loss expenses incurred 48,264 64,134 84,350 121,774
Expenses Commissions and brokerage 13,489 (3,958) 31,208 19,073
Other operating expenses 6,696 7,005 21,790 23,389
Interest expense 698 855 2,197 3,593
Minority interest in consolidated subsidiary 2,127 2,219 6,550 6,658
--------- --------- --------- ---------
71,274 70,255 146,095 174,487
--------- --------- --------- ---------
Income (loss) before income taxes, cumulative
effect of accounting change and preferred stock dividends 15,188 (41,184) 60,660 (32,480)
Income tax provision (benefit) 4,179 (7,338) 12,375 (5,852)
--------- --------- --------- ---------
Income (loss) before cumulative effect of
accounting change and preferred stock dividends 11,009 (33,846) 48,285 (26,628)
Cumulative effect of accounting change, net of
$172 tax expense -- -- -- 319
--------- --------- --------- ---------
Net income (loss) before preferred stock dividends $ 11,009 $ (33,846) $ 48,285 $ (26,309)
Preferred stock dividends 3,058 0 5,958 0
--------- --------- --------- ---------
Net income (loss) available to common stockholders $ 7,951 $ (33,846) $ 42,327 $ (26,309)
========= ========= ========= =========
Comprehensive Net unrealized appreciation on investments 6,262 2,192 10,771 2,206
Income, Net Net unrealized depreciation on cash flow hedge (346) (864) (284) (864)
of Tax --------- --------- --------- ---------
Comprehensive income (loss) $ 16,925 $ (32,518) $ 58,772 $ (24,967)
========= ========= ========= =========
Per Share Basic:
Net income (loss) before cumulative effect of
accounting change and preferred stock dividends $ 0.93 $ (2.94) $ 4.10 $ (2.31)
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
Preferred stock dividends (0.26) 0.00 (0.51) 0.00
--------- --------- --------- ---------
Net income (loss) available to common stockholders $ 0.67 $ (2.94) $ 3.59 $ (2.28)
========= ========= ========= =========
Average shares outstanding (000's) 11,817 11,501 11,778 11,504
========= ========= ========= =========
Diluted:
Net income (loss) before cumulative effect of
accounting change $ 0.50 $ (2.94) $ 2.59 $ (2.31)
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
--------- --------- --------- ---------
Net income (loss) $ 0.50 $ (2.94) $ 2.59 $ (2.28)
========= ========= ========= =========
Average shares outstanding (000's) 22,137 11,501 18,630 11,504
========= ========= ========= =========
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 Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
---- ---- ---- ----
(Unaudited)
Preferred Stock Balance at beginning of period $ 152,900 $ -- $ -- $ --
Issuance of shares, net -- -- 150,000 --
Dividends to preferred stockholders 3,058 -- 5,958 --
--------- --------- --------- ---------
Balance at end of period $ 155,958 $ -- $ 155,958 $ --
========= ========= ========= =========
Common Stock Balance at beginning of period $ 11,966 $ 11,903 $ 11,873 $ 11,820
Issuance of shares, net 65 25 158 108
--------- --------- --------- ---------
Balance at end of period $ 12,031 $ 11,928 $ 12,031 $ 11,928
========= ========= ========= =========
Additional Balance at beginning of period $ 168,034 $ 176,631 $ 175,405 $ 175,014
Paid-in Capital Issuance of shares 916 274 (6,420) 3,195
Other (18) (18) (53) (1,322)
--------- --------- --------- ---------
Balance at end of period $ 168,932 $ 176,887 $ 168,932 $ 176,887
========= ========= ========= =========
Accumulated Balance at beginning of period $ 4,272 $ (54) $ (299) $ (69)
Other Change in unrealized gains 6,262 2,191 10,771 2,206
Comprehensive Change in cash flow hedge (346) (864) (284) (864)
Income --------- --------- --------- ---------
Balance at end of period $ 10,188 $ 1,273 $ 10,188 $ 1,273
========= ========= ========= =========
Retained Balance at beginning of period $ 88,414 $ 82,409 $ 55,473 $ 76,301
Earnings Net income (loss) before
preferred stock dividends 11,009 (33,846) 48,285 (26,309)
Dividends to preferred stockholders (3,058) -- (5,958) --
Dividends to common stockholders (721) (715) (2,156) (2,144)
--------- --------- --------- ---------
Balance at end of period $ 95,644 $ 47,848 $ 95,644 $ 47,848
========= ========= ========= =========
Restricted Stock Balance at beginning of period $ (2,644) $ (4,526) $ (2,672) $ (3,680)
Issuance of restricted stock (9) -- (1,049) (2,449)
Amortization of restricted stock 401 523 1,469 1,880
Other -- -- -- 246
--------- --------- --------- ---------
Balance at end of period $ (2,252) $ (4,003) $ (2,252) $ (4,003)
========= ========= ========= =========
Total Balance at beginning of period $ 422,942 $ 266,363 $ 239,780 $ 259,386
Stockholders' Issuance of preferred shares -- -- 150,000 --
Equity Issuance of shares 981 299 (6,262) 3,303
Restricted stock, net 392 523 420 (569)
Unrealized appreciation on investments,
net of deferred income tax 6,262 2,191 10,771 2,206
Unrealized depreciation on cash flow hedge,
net of deferred income tax (346) (864) (284) (864)
Net income (loss) before preferred stock
dividends 11,009 (33,846) 48,285 (26,309)
Dividends to common stockholders (721) (715) (2,156) (2,144)
Other (18) (18) (53) (1,076)
--------- --------- --------- ---------
Balance at end of period $ 440,501 $ 233,933 $ 440,501 $ 233,933
========= ========= ========= =========
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 Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
---- ---- ---- ----
(Unaudited)
Cash Flow Net income (loss) before preferred stock dividends $ 11,009 $ (33,846) $ 48,285 $ (26,309)
from Operating Adjustments to reconcile net income to net cash
Activities provided by operating activities:
Losses and loss expenses 11,729 185,189 (16,809) 202,093
Unearned premiums (8,932) 1,533 10,498 3,411
Deferred acquisition costs 904 1,568 (5,508) 1,369
Receivables (9,331) (6,660) (16,150) (30,382)
Reinsurance balances payable 1,835 35,270 21,917 53,513
Reinsurance recoverable 16,128 (157,530) 15,717 (143,190)
Current income tax asset 2,135 (5,214) (6,949) (5,215)
Deferred tax asset 1,107 (532) 17,879 (2,584)
Equity in earnings of limited partnerships (671) (653) (6,077) (6,888)
Other (1,783) (28,762) 14,587 (14,838)
--------- --------- --------- ---------
Net cash provided (used) by operating activities 24,130 (9,637) 77,390 30,980
--------- --------- --------- ---------
Cash Flow Cost of fixed maturity investments (102,767) (37,670) (347,880) (160,301)
from Investing Fixed maturity investments matured or disposed 100,245 110,785 111,958 233,159
Activities Payable for securities (10,590) (10,011) 3,702 18
Cost of equity securities -- (455) -- (3,481)
Equity securities disposed -- 1,530 275 15,634
Net change in short-term investments (17,666) (76,635) 34,716 (101,948)
Other invested assets and trading portfolio disposed 16,655 14,539 57,249 30,271
Other invested assets and trading portfolio purchased (12,661) (4,000) (57,535) (24,968)
--------- --------- --------- ---------
Net cash used by investing activities (26,784) (1,917) (197,515) (11,616)
--------- --------- --------- ---------
Cash Flow Proceeds from issuance of preferred stock (46) -- 140,892 --
from Financing Proceeds from issuance of common stock 880 299 2,073 915
Activities Cash dividends paid to common stockholders (722) (715) (2,156) (2,144)
Repayment of debt (5,000) -- (25,000) (10,000)
Repurchase of minority interest in consolidated subsidiary -- -- (2,967) --
Cost of stock repurchased (31) -- (589) (1,173)
--------- --------- --------- ---------
Net cash (used) provided by financing activities (4,919) (416) 112,253 (12,402)
--------- --------- --------- ---------
Net change in cash (7,573) (11,970) (7,872) 6,962
Cash, beginning of period 22,589 37,941 22,888 19,009
--------- --------- --------- ---------
Cash, end of period $ 15,016 $ 25,971 $ 15,016 $ 25,971
========= ========= ========= =========
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, such 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 nine 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 Nine Months Ended Increase
September 30, (Decrease) September 30, (Decrease)
------------------------- -------------------------
2002 2001 % 2002 2001 %
($000's)
Premiums written
Gross premiums written $ 120,734 $ 97,092 $ 287,881 $ 223,622
Ceded premiums written (53,925) (78,016) (96,688) (111,402)
--------- --------- --------- ---------
Net premiums written $ 66,809 $ 19,076 250 $ 191,193 $ 112,220 70
========= ========= ========= =========
Premiums earned
Gross premiums earned $ 99,667 $ 92,794 $ 243,367 $ 219,582
Ceded premiums earned (23,926) (75,251) (62,706) (110,773)
--------- --------- --------- ---------
Net premiums earned $ 75,741 $ 17,543 332 $ 180,661 $ 108,809 66
========= ========= ========= =========
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 Nine Months Ended
September 30, September 30,
------------------------- ---------------------------
2002 2001 2002 2001
------- -------- -------- --------
(000's, except per share data)
Net income available to common stockholders:
Income (loss) before cumulative effect of accounting
change and preferred dividends $11,009 $(33,846) $ 48,285 $(26,628)
Cumulative effect of accounting change 0 0 0 319
Preferred dividends (3,058) 0 (5,958) 0
------- -------- -------- --------
Net income (loss) available to common stockholders $ 7,951 $(33,846) $ 42,327 $(26,309)
======= ======== ======== ========
Weighted average shares of common stock outstanding:
Weighted average shares of common shares outstanding 11,817 11,501 11,778 11,504
Equivalent shares of stock options 337 138 325 163
Equivalent shares of restricted stock 141 253 132 280
Equivalent shares of convertible preferred stock 9,842 0 6,395 0
------- -------- -------- --------
Weighted average common equivalent shares (diluted) 22,137 11,892 18,630 11,947
======= ======== ======== ========
Per share amounts:
Basic
Income (loss) before cumulative effect of accounting
change and preferred dividends $0.93 $(2.94) $4.10 $(2.31)
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
Preferred dividends (0.26) 0.00 (0.51) 0.00
------- -------- -------- --------
Net income (loss) $0.67 $(2.94) $3.59 $(2.28)
======= ======== ======== ========
Diluted
Income (loss) before cumulative effect of accounting
change $0.50 $(2.94) $2.59 $(2.31)
Cumulative effect of accounting change 0.00 0.00 0.00 0.03
------- -------- -------- --------
Net income (loss) $0.50 $(2.94) $2.59 $(2.28)
======= ======== ======== ========
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. As of September 30,
2002, the Company has incurred $5.1 of net adverse development that accrues
towards this 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 September 30, Nine Months Ended September 30,
2002 2001 2002 2001
----------------------- ------------------------ ----------------------- ---------------------
Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ -------
Catastrophe and Risk
Excess
North American $ 17,050 $ 11,806 $ 39,080 $ 22,378
International 51,110 37,069 126,714 77,271
Excess of loss
cessions (18,730) (52,868) (29,634) (62,513)
-------- -------- -------- --------
49,430 74% (3,993) (21)% 136,160 71% 37,136 33%
-------- -------- -------- --------
Finite Business
North American 12,754 3,090 42,446 26,086
International 0 0 0 0
-------- -------- -------- --------
12,754 19 3,090 16 42,446 22 26,086 23
-------- -------- -------- --------
Other Lines
North American 3,214 3,618 6,014 5,406
International 4 365 45 361
-------- -------- -------- --------
3,218 5 3,983 21 6,059 3 5,767 5
-------- -------- -------- --------
Exited Lines
North American (224) 9,252 8,090 23,875
International 1,631 6,744 (1,562) 19,356
-------- -------- -------- --------
1,407 2 15,996 84 6,528 4 43,231 39
-------- --- -------- --- -------- --- -------- ---
Total $ 66,809 100% $ 19,076 100% $191,193 100% $112,220 100%
======== === ======== === ======== === ======== ===
12
PXRE
Group Ltd. Notes to Consolidated Financial Statements (Unaudited)
- --------------------------------------------------------------------------------
Net Premiums Earned
($000's)
Three Months Ended September 30, Nine Months Ended September 30,
2002 2001 2002 2001
----------------------- ------------------------ ------------------------ -------------------
Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ -------
Catastrophe and Risk
Excess
North American $ 14,639 $ 10,186 $ 35,951 $ 21,075
International 39,999 33,903 104,896 72,743
Excess of loss
cessions (6,774) (51,018) (17,677) (60,633)
-------- -------- -------- --------
47,864 63% (6,929) (40)% 123,170 68% 33,185 31%
-------- -------- -------- --------
Finite Business
North American 18,024 3,321 26,338 27,461
International 0 0 0 0
-------- -------- -------- --------
18,024 24 3,321 19 26,338 15 27,461 25
-------- -------- -------- --------
Other Lines
North American 2,031 1,132 5,756 2,669
International 4 383 106 427
-------- -------- -------- --------
2,035 3 1,515 9 5,862 3 3,096 3
-------- -------- -------- --------
Exited Lines
North American 5,419 9,256 17,471 21,113
International 2,399 10,380 7,820 23,954
-------- -------- -------- --------
7,818 10 19,636 112 25,291 14 45,067 41
-------- --- -------- --- -------- --- -------- ---
Total $ 75,741 100% $ 17,543 100% $180,661 100% $108,809 100%
======== === ======== === ======== === ======== ===
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 September 30, Nine Months Ended September 30,
2002 2001 2002 2001
------------------- ----------------------- ------------------- -------------------
Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ -------
Catastrophe and Risk
Excess
North American $9,810 $(38,234) $31,944 $(37,197)
International 14,790 (48,627) 56,358 (28,490)
Excess of loss
cessions (4,652) 49,509 (9,055) 39,671
------- -------- ------- --------
19,948 139% (37,352) 97% 79,247 117% (26,016) 96%
------- -------- ------- --------
Finite Business
North American 469 5 2,635 1,791
International 0 0 0 0
------- -------- ------- --------
469 3 5 0 2,635 4 1,791 (7)
------- -------- ------- --------
Other Lines
North American 70 (751) 2,329 383
International (123) 288 119 (768)
------- -------- ------- --------
(53) 0 (463) 1 2,448 4 (385) 1
------- -------- ------- --------
Exited Lines
North American (5,247) 235 (14,043) 801
International (803) (949) (2,538) (3,385)
------- -------- ------- --------
(6,050) (42) (714) 2 (16,581) (25) (2,584) 10
------- --- -------- --- ------- --- -------- ---
Total $14,314 100% $(38,524) 100% $67,749 100% $(27,194) 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 Nine Months
Ended September 30, Ended September 30,
---------------------------------------------------
2002 2001 2002 2001
---- ---- ---- ----
($000's)
Net underwriting profit (loss) $14,314 $(38,524) $67,749 $(27,194)
Net investment income 5,011 5,767 17,543 23,888
Net realized investment gains 4,782 3,426 5,785 4,241
Interest expense (698) (855) (2,197) (3,593)
Minority interest in
consolidated subsidiary (2,127) (2,219) (6,550) (6,658)
Other operating expenses (6,696) (7,005) (21,790) (23,389)
Unrealized foreign exchange
gains (losses)
on losses incurred 616 (1,673) 194 509
Other expense (14) (101) (74) (284)
------- -------- ------- --------
Income (loss) before income
taxes and cumulative effect of
accounting change $15,188 $(41,184) $60,660 $(32,480)
======= ======== ======= ========
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 has appealed this verdict to the United States Court of Appeals for
the Third Circuit, 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 nine months ended September 30, 2002 and 2001 and financial
condition as of September 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.
16
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
affect the profitability of the contract and the magnitude of any premium or
commission adjustments.
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 amount 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;
(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;
17
(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 Third Quarter Results for 2002 with 2001
For the quarter ended September 30, 2002, net income was $11.0 million
versus a net loss of $33.8 million for the comparable period of 2001. The
diluted net income per common share was $0.50 for the third quarter of 2002
compared to a diluted net loss per share of $2.94 for the third quarter of 2001,
based on diluted average shares outstanding of approximately 22.1 million in the
third quarter of 2002 and 11.5 million in the third quarter of 2001.
18
Premiums, losses and commission and brokerage in the third quarter of
2001 were significantly affected by losses related to the terrorist attack on
September 11, 2001. The following table more fully details the impact of the
September 11th event on our underwriting results in the third quarter of 2001:
Results Results
as WTC Excluding
($000's) Reported Event WTC Event
- -------- -------- ----- ---------
Gross premiums written $97,092 $30,030 $67,062
Net premiums written 19,076 (29,020) 48,096
Net premiums earned 17,543 (29,020) 46,563
Management fees 2,335 613 1,722
Net losses incurred 64,134 27,190 36,944
Commission and brokerage (3,958) (11,432) 7,474
-------- -------- ---------
Underwriting results before taxes $(40,298) $(44,165) $ 3,867
======== ======== =========
Gross and net written premiums for the third quarter of 2002 and 2001
were as follows:
Three Months Ended September 30,
------------- ------------- --------------
Increase
2002 2001 (Decrease)
---- ---- ----------
($000's) %
Gross premiums written $120,734 $97,092 24
Reinsurance premiums ceded 53,925 78,016 (31)
-------- -------
Net premiums written $ 66,809 $19,076 250
======== =======
The increase in gross and net premiums written primarily reflected
growth in the Catastrophe and Risk Excess and Finite segments. 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 39%
increase in net premiums written for the quarter, before the effects of excess
of loss reinsurance ceded, in this key segment as compared to the prior year
period. The Finite segment increased 313% during the third quarter of 2002
versus the prior comparable quarter on a net written basis primarily due to one
large finite reinsurance contract. 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. The Exited Lines segment decreased 91% on a net
written basis 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.
19
Net premiums earned for the third quarter of 2002 increased 332% to
$75.7 million from $17.5 million for the corresponding period of 2001. The
Catastrophe and Risk Excess segment increased 24%, before the effects of excess
of loss reinsurance ceded, while the Finite segment increased 443% on an earned
basis compared to the prior year period. The Exited Lines segment experienced a
decline of 60% on an earned basis as compared to the third quarter of 2001.
Management fee income from all sources for the three months ended
September 30, 2002 decreased 61% to $0.9 million from $2.3 million for the
corresponding period of 2001, reflecting the reduction in the share of business
ceded to quota share reinsurers.
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 September 30, 2002 and 2001, respectively:
(%) Three Months Ended September 30,
- --- ------------------------------------
2002 2001
---- ----
Loss and loss expense ratio 63.7 365.6
Expense ratio 25.4 4.0
---- -----
Combined ratio 89.1 369.6
==== =====
The loss and loss expense ratio of 63.7% for the third quarter of 2002
reflected a $15.7 million loss incurred due to the 2002 European Floods, while
the third quarter of 2001 was impacted by the terrorist attacks on September 11,
2001, which resulted in a net loss after tax of $35.3 million. As of September
30, 2002, our overall estimated net loss after tax arising from the September
11th terrorist attacks was $32.0 million.
During the third quarter of 2002, we experienced adverse development of
$5.6 million net for prior-year loss and loss expenses primarily arising from
loss development on our discontinued casualty reinsurance operations and the
Toulouse Fertilizer Plant risk loss. 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 $8.8 million net due to reserve strengthening in casualty, marine
and aerospace lines of business, unrealized foreign exchange losses, and
development on a number of significant catastrophes.
During the third quarter of 2002, we experienced a net loss of
approximately $3.3 million on a financial guarantee insurance contract that
guaranteed the performance of a minority portion of the debt of an unrelated
company, Mariner Structured Products Sub-2, Ltd. ("MSP") for the benefit of a
syndicate of lenders led by Bank of America, N.A. This contract was written in
January, 2000, prior to our decision to re-focus on our core property
catastrophe business. This insurance contract has been settled in full. The
owner of MSP is a hedge fund managed by Mariner Investment Group, Inc. Select
Reinsurance Ltd. guaranteed the portion of MSP's debt not guaranteed by us.
20
The expense ratio increased to 25.4% in the third quarter of 2002
compared to 4.0% during the comparable year earlier period. If the effects of
the September 11th terrorist event on the third quarter of 2001 are excluded,
the expense ratio decreased to 25.4% in the third quarter of 2002 compared to
27.4% in the third quarter of 2001. This decrease is due to an increase in
premiums earned and a reduction in operating expenses to $6.7 million for the
third quarter of 2002 from $7.0 million for the comparable period of 2001. This
decrease primarily relates to the expense savings attributable to our decision
to discontinue our exited lines of business, offset by the accrual of variable
compensation expenses expected to be paid under the Company's Restated Employee
Annual Incentive Bonus Plan if we achieve expected levels of profitability.
Interest expense was $0.7 million for the three months ended September
30, 2002 compared to $0.9 for the three months ended September 30, 2001. As of
September 30, 2002, $30 million was outstanding under PXRE Delaware's Credit
Agreement with a syndicate of lenders (as described under "Liquidity and Capital
Resources"). The interest rate on such loan was 7.34% per annum after giving
effect to a related interest rate swap. The Company incurred minority interest
expense amounting to $2.1 million and $2.2 million related to PXRE's $100
million of 8.85% Capital Trust Pass-through Securities 'sm' ("TRUPS") (as
described under "Liquidity and Capital Resources") during the three month
periods ended September 30, 2002 and 2001, respectively.
Net investment income for the quarter declined 14% to $5.0 million from
$5.8 million in the third quarter of 2001 primarily as a result of an increase
in interest expense related to funds held in connection with certain finite
reinsurance transactions as compared to the prior year period. Investment income
related to the fixed maturity and non-hedge short term investment portfolios
increased from $4.6 million during the third quarter of 2001 to $7.2 million
this quarter primarily due to an increase in invested assets attributable to the
proceeds of the Preferred Share Investment as well as cash flow from operations.
The fixed maturity portfolio book yield on an annualized basis was approximately
5.0% during the third quarter of 2002 compared to 5.2% during the prior period.
Investment income related to our hedge fund portfolio also increased slightly
from $0.4 million in the third quarter of 2001 to $0.5 million in the current
year period. Investment in hedge funds produced an annualized return of 1.8% for
the quarter compared with 1.3% in the prior year period. Net realized investment
gains for the third quarter of 2002 were $4.8 million compared to $3.4 million
in the third quarter of 2001. The reinvestment of the proceeds of the
investments sold contributed to the reduction of the overall fixed maturity and
short-term investment portfolio's duration to 3.1 years at September 30, 2002
from 3.5 years at June 30, 2002.
As noted above, investment income for the quarter was 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 $25.6 million as of September 30, 2002, for which we have
recognized $0.4 million of investment income for the third quarter of 2002. On
ceded reinsurance contracts, we held premiums and accrued investment income of
$135.1 million due to reinsurers as of September 30, 2002, for which we
recognized a charge to investment income of $2.9 million for the third quarter
of 2002. On a net basis, this charge to investment income was only $1.1 million,
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.
21
PXRE recognized a tax expense of $4.2 million in the third quarter of
2002 compared to a tax benefit of $7.3 million in the prior-year period. The tax
expense in the third 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.
Comparison of Year-to-Date Results for 2002 and 2001
For the nine months ended September 30, 2002, net income was $48.3
million versus a net loss of $26.3 million for the comparable period of 2001.
The diluted net income per common share was $2.59 for the first nine months of
2002 compared to a diluted net loss per share of $2.28 for the first nine months
of 2001, based on diluted average shares outstanding of approximately 18.6
million in the first nine months of 2002 and 11.5 million in the first nine
months of 2001.
Premiums, losses and commission and brokerage in the first nine months
of 2001 were significantly affected by losses related to the terrorist attack on
September 11, 2001. The following table more fully details the impact of the
September 11th event on our underwriting results in the first nine months of
2001:
Results Results
as WTC Excluding
($000's) Reported Event WTC Event
- -------- -------- ----- ---------
Gross premiums written $223,622 $30,030 $193,592
Net premiums written 112,220 (29,020) 141,240
Net premiums earned 108,809 (29,020) 137,829
Management fees 5,069 613 4,456
Net losses incurred 121,774 27,190 94,584
Commission and brokerage 19,072 (11,432) 30,504
-------- -------- --------
Underwriting results before taxes $(26,968) $(44,165) $ 17,197
======== ======== ========
22
Gross and net written premiums for the first nine months of 2002 and
2001 were as follows:
Nine Months Ended September 30,
-------------- -------------- --------------
Increase
2002 2001 (Decrease)
---- ---- ----------
($000's) %
Gross premiums written $287,881 $223,622 29
Reinsurance premiums ceded 96,688 111,402 (13)
-------- --------
Net premiums written $191,193 $112,220 70
======== ========
The increase in gross and net premiums written primarily reflected
growth in the Catastrophe and Risk Excess segment. 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 66% increase in
net premiums written for the period, before the effects of excess of loss
reinsurance ceded, in this key segment as compared to the prior year period. The
Finite segment increased 63% during the first nine months of 2002 versus the
prior comparable period on a net written basis primarily due to one large finite
reinsurance contract. 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 period to period. 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 period to period reflecting
this strategy. The Exited Lines segment decreased 85% on a net written basis
compared to the prior year period. Due to 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.
Net premiums earned for the first nine months of 2002 increased 66% to
$180.7 million from $108.8 million for the corresponding period of 2001. The
Catastrophe and Risk Excess segment increased 50% on an earned basis, before the
effects of excess of loss reinsurance ceded, while the Finite segment decreased
4% on an earned basis versus the prior comparable nine month period. In the
first nine 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 decrease in net premiums earned by our Finite segment during the
first nine months of 2002 as compared to the prior year period. The Exited Lines
segment experienced a decrease of 44% on an earned basis during the period as
compared to the prior year period.
Management fee income from all sources for the nine months ended
September 30, 2002 decreased 45% to $2.8 million from $5.1 million for the
corresponding period of 2001, reflecting the reduction in the share of business
ceded to quota share reinsurers.
23
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 nine months ended September 30, 2002 and 2001, respectively:
(%) Nine Months Ended September 30,
- --- ------------------------------------------------------------
2002 2001
---- ----
Loss and loss expense ratio 46.7 111.9
Expense ratio 27.8 34.4
---- -----
Combined ratio 74.5 146.3
==== =====
The loss and loss expense ratio of 46.7% for the first nine months of
2002 reflected reduced loss activity and no significant catastrophes other than
the $15.7 million loss arising from the 2002 European floods. The first nine
months of 2001 was impacted by the September 11th terrorist attack, sinking of
the Petrobras Oil Rig and Tropical Storm Allison.
During the first nine months of 2002, we experienced adverse
development of $20.4 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 $16.0 million net largely due to reserve strengthening in casualty, marine
and aerospace lines of business.
During the third quarter of 2002, we experienced a net loss of
approximately $3.3 million on a financial guarantee insurance contract that
guaranteed the performance of a minority portion of the debt of MSP for the
benefit of a syndicate of lenders led by Bank of America, N.A. This contract was
written in January, 2000, prior to our decision to re-focus on our core property
catastrophe business. This insurance contract has been settled in full.
The expense ratio declined to 27.8% in the first nine months of 2002
compared to 34.4% during the comparable year earlier period. This decrease is
due to an increase in premiums earned and a reduction in operating expenses to
$21.8 million for the nine months ended September 30, 2002 from $23.4 million
for the comparable prior year period. The decrease in operating expenses
primarily relates to the expense savings attributable to our decision to
discontinue our exited lines of business, offset by the accrual of variable
compensation expenses expected to be paid under the Company's Restated Employee
Annual Incentive Bonus Plan if we achieve expected levels of profitability.
During the first nine months of 2002, interest expense decreased to
$2.2 million compared to $3.6 million in the corresponding period of 2001. The
decrease in interest expense primarily relates to repayment of $25.0 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 $30 million on
September 30, 2002. The interest rate on such loan was 7.34% per annum after
giving effect to a related interest rate swap. The Company incurred minority
interest expense amounting to $6.6 million and $6.7 million related to PXRE's
$100 million of 8.85% Capital Trust Pass-through Securities 'sm' ("TRUPS") (as
described under "Liquidity and Capital Resources") during the nine month periods
ended September 30, 2002 and 2001, respectively.
24
Net investment income for the nine months ended September 30, 2002
declined 27% to $17.5 million from $23.9 million for the comparable period of
2001, primarily as a result of an increase in interest expense related to funds
held in connection with certain finite reinsurance transactions as compared to
the prior year period. Investment income related to the fixed maturity and
non-hedge short term investment portfolios increased from $14.9 million during
the third quarter of 2001 to $17.3 million this quarter primarily due to an
increase in invested assets attributable to the proceeds of the Preferred Share
Investment as well as cash flow from operations. The fixed maturity portfolio
book yield on an annualized basis was approximately 4.6% during the first nine
months of 2002 compared to 6.2% during the prior year period. Investment income
related to our hedge fund portfolio decreased from $7.0 million in the first
nine months of 2001 to $3.5 million in the current year period. Investment in
hedge funds produced an annualized return of 4.7% for the nine months ended
September 30, 2002 compared with 8.3% in the prior year period. In addition,
during the first nine months of 2002, we recognized $3.0 million related to a
special distribution by one of our alternative investments and $1.5 million in
interest related to the judgment entered in our favor in our lawsuit against
Terra Nova.
Net realized investment gains for the first nine months of 2002 were
$5.8 million compared to $4.2 million in the first nine months of 2001,
including gains of $1.2 million on the repurchase of $4.2 million of TRUPS.
As noted above, 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 a
minimum 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 $25.6 million as of September 30, 2002, for which we have
recognized $1.3 million of investment income for the first nine months of 2002.
On ceded reinsurance contracts, we held premiums and accrued investment income
of $135.1 million due to reinsurers as of September 30, 2002, for which we
recognized a charge to investment income of $8.3 million during the first nine
months of 2002. On a net basis, this charge to investment income was only $2.5
million, representing the difference between the stated investment return under
the contracts and the overall yield achieved on our total investment portfolio
for such nine-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.
25
PXRE recognized a tax expense of $12.4 million in the first nine months
of 2002 compared to a tax benefit of $5.9 million in the prior-year period. The
tax expense for the first nine 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.
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.
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.
26
During the third quarter of 2002, we experienced adverse development of
$5.6 million net for prior-year loss and loss expenses, $3.9 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 as of September 30, 2002 is
$95.9 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 $9.0 million
below and $9.0 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 nine months of 2002, $20.8 million
in dividends were paid by PXRE Reinsurance.
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 September 30, 2002, the statutory capital and
surplus of PXRE Bermuda was estimated to be $67.9 million and the amount
required to be maintained was estimated to be $9.6 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.
27
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.
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.
28
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 Wachovia Bank, National Association
(formerly know as First Union National Bank, "Wachovia") as Agent and as a
Lender, pursuant to which Wachovia 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, Wachovia 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 Wachovia, 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 and an additional $5
million was paid on July 1, 2002, reducing the outstanding loan to $30 million,
at September 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.
In connection with the Credit Agreement, PXRE Delaware and Wachovia
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%. 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 September 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. In addition, 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.
29
In September, 2002, we discovered and reported to Wachovia that we had
inadvertently failed to provide certain projections to the Lenders prior to
increasing the quota share on a certain inter-company reinsurance agreement
between PXRE Reinsurance and PXRE Bermuda as required pursuant to the terms of
the Amended Credit Agreement. We also sought the Lenders' consent to the Company
providing a parental guarantee to PXRE Bermuda for the benefit of PXRE Bermuda's
reinsurance clients and the Lenders' agreement to relax certain covenants
limiting the scope of inter-company transactions between the Company, our U.S.
subsidiaries and PXRE Bermuda. Accordingly, we entered into the Third Amendment
to the First Amended and Restated Credit Agreement, Consent and Waiver between
PXRE Delaware and the Lenders, dated as of November 8, 2002, pursuant to which
the Lenders waived our non-compliance and consented to the parental guarantee
and certain amendments to the covenants concerning inter-company transactions
(the "Third Amendment"). As a condition to the Third Amendment, PXRE Bermuda
issued a credit enhancement insurance policy to the Lenders, as insureds,
pursuant to which it agreed, subject to the terms of such policy, to pay any
amounts due to Lenders under the Amended Credit Agreement if PXRE Delaware fails
to pay such amounts when due.
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 nine months
ended September 30, 2002 and 2001 in respect of the Capital Securities (and
related Subordinated Debt Securities) amounted to $6.6 million and $6.7 million,
respectively.
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 nine 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 the nine months ended September 30, 2002. 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).
30
Investments
As of September 30, 2002, our investment portfolio, at fair value,
consisted of 83.3% in bonds and short-term investments with fixed maturities,
14.7% in hedge funds and 2% in other investments and equity securities.
The following table summarizes our investments at September 30, 2002
and 2001 at fair value:
Analysis of Investments
-----------------------
September 30, 2002 September 30, 2001
------------------ ------------------
Amount Percent Amount Percent
------ ------- ------ -------
($000's, except percentages)
Fixed maturities:
U.S. treasury securities $59,723 8.1 $6,614 1.3
Foreign denominated securities 20,792 2.8 0 0.0
Foreign government securities 104 0.1 5,151 1.0
U.S. government sponsored agency and agency
mortgage-backed securities 80,655 10.9 76,641 15.0
Other mortgage and asset-backed securities 116,573 15.8 29,962 5.8
Municipal securities 70,853 9.6 38,377 7.5
Corporate securities 147,103 19.9 59,723 11.7
-------- ----- -------- -----
Total long-term fixed maturity securities 495,803 67.2 216,468 42.3
Short-term investments 118,788 16.1 159,051 31.1
-------- ----- -------- -----
Total fixed maturity securities 614,591 83.3 375,519 73.4
Hedge funds 108,684 14.7 112,202 22.0
Other investments 13,875 1.9 20,390 4.0
Equity securities 252 0.1 2,858 0.6
-------- ----- -------- -----
Total investment portfolio $737,402 100.0% $510,969 100.0%
======== ===== ======== =====
At September 30, 2002, 96.8% 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 26.4% of fixed
maturities based on fair value at September 30, 2002. The average market yield
on our fixed maturity portfolio at September 30, 2002 and 2001, was 3.7% and
4.8%, respectively.
31
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, other than trading securities, 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. Fixed
maturity investments classified as trading securities are reported at fair
value, with the net unrealized gain or loss reported as investment income. At
September 30, 2002, an after-tax unrealized gain of $11.2 million (gain of 51
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 and short-term agencies were $118.8 million at September 30, 2002,
compared to $159.1 million at September 30, 2001. The proportion of the
investment portfolio invested in short-term fixed maturities has remained high
in expectation of payment of claims related to the September 11th terrorist
attacks and due to concerns over lengthening the duration of our fixed maturity
portfolio.
A principal component of our investment strategy is investing a portion
of our invested assets in a diversified portfolio of hedge funds. At September
30, 2002, total hedge fund investments amounted to $108.7 million, representing
14.7% of the total investment portfolio. At September 30, 2001, total hedge fund
investments amounted to $112.2 million, representing 22.0% of the total
investment portfolio. For the nine months ended September 30, 2002, our hedge
funds yielded an annualized return of 4.7% as compared to 8.3% in the nine
months ended September 30, 2001. As at September 30, 2002, hedge fund
investments with fair values ranging from $1.9 million to $17.5 million were
administered by eighteen managers.
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 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 adopt 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.
32
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 September 30, 2002, our investment portfolio also included $13.9
million of mezzanine bond and equity limited partnership investments at fair
values, with values ranging from $0.2 million to $7.7 million and remaining
aggregate cash call commitments in respect of such investments of $1.1 million.
Hedge funds and other limited partnership investments are accounted for
under the equity method. Total investment income for the nine months ended
September 30, 2002, included $6.1 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 $24.1 million in the third
quarter of 2002 compared to $9.6 million used by operations in the third 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.
33
In connection with the capitalization of PXRE Lloyd's Syndicate 1224,
PXRE Reinsurance had placed on deposit a $35.6 million par value U.S. Treasury
security as collateral for Lloyd's. Cash and invested assets held by PXRE
Lloyd's Syndicate 1224 amounting to $14.6 million at September 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 $14.9 million which are secured by cash and securities amounting to
$15.1 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 $31.5 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 $1.1 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.
Dividends declared to common shareholders in the third quarter of 2002
and 2001 were $0.7 million. The expected annual dividend based on common shares
outstanding at September 30, 2002 is approximately $2.9 million.
Book value per common share, on a fully converted basis, was $20.05 at
September 30, 2002.
All amounts classified as reinsurance recoverable at September 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 (as defined in the
undertaking). 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 nine months of 2002, we ceded reinsurance premiums of $56.1 million to
Select Re and earned management fees and ceding commissions of $6.2 million.
34
As of September 30, 2002, net assets of $100.4 million were due in the
aggregate from Select Re, all of which is 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.
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. Gerald Radke and Jeffrey
Radke have both given notice of redemption to Select Re to sell their shares and
the sale is expected to be completed during the first quarter of 2003. 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.
35
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 September 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 third quarter of 2002. There was no material change in our
exposure to market risks or our risk management strategy during the third
quarter. The fair value of our hedge fund investments decreased by $3.1 million
due to net redemptions in the quarter.
Item 4. Controls and Procedures
An evaluation of the effectiveness of the design and operation of our
disclosure controls and procedures as of November 6, 2002 was conducted under
the supervision and with the participation of our management, including our
chief executive officer and chief financial officer. Based on that evaluation,
our management, including our chief executive officer and chief financial
officer, concluded that our disclosure controls and procedures were effective as
of November 6, 2002. There have been no significant changes in our internal
controls or in other factors that could significantly affect these controls
subsequent to the last evaluation of such internal controls.
36
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 has appealed this verdict to the United States Court of Appeals for
the Third Circuit, 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 September 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 September 30, 2002, the Company issued 305.8
Convertible Voting Preferred Shares to the existing holders of the
Company's Convertible Preferred Shares in payment of its dividend
obligation thereon. The 305.8 Convertible Voting Preferred Shares
issued were allocated among Series as follows:
i. 152.9 shares of Series A Convertible Voting Preferred Shares,
allocated to two sub-series of shares, 101.9 shares allocated
to sub-series Al and 51 shares allocated to sub-series A2;
ii. 101.9 shares of Series B Convertible Voting Preferred Shares,
allocated to two sub-series of shares, 67.9 shares allocated
to Series B1 and 34 shares allocated to Series B2; and
iii. 51.0 shares of Series C Convertible Voting Preferred Shares,
allocated to two sub-series of shares. 34.0 shares allocated
to Series Cl and 17.0 shares allocated to Series C2.
37
(b) Underwriters and other purchasers. No underwriter participated. The
additional Convertible Voting Preferred Shares were issued to the
holders of record on September 13, 2002 of the outstanding Convertible
Voting Preferred Shares.
(c) Consideration. The Convertible Voting Preferred Shares were issued in
satisfaction of the Company's obligation to pay a quarterly dividend of
$3.05 million to the holders of the outstanding Convertible Voting
Preferred Shares.
(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. Not applicable.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
None.
Item 6. Exhibits and Reports on Form 8-K.
a. Exhibits
Employment Contract, dated as of August 6, 2002, between PXRE Group
Ltd. and Guy D. Hengesbaugh;
Consulting and Separation Agreement, dated as of July 23, 2002, between
PXRE Group Ltd. and James F. Dore;
Third Amendment to First Amended and Restated Credit Agreement, Consent
and Waiver dated as of the 8th day of November, 2002 between PXRE
Corporation, PXRE GROUP LTD., PXRE REINSURANCE (BARBADOS) LTD., and
WACHOVIA BANK, NATIONAL ASSOCATION( formerly known as First Union Bank)
99.1 Certification by the Chief Executive Officer and Chief Financial
Officer Relating to a Periodic Report Containing Financial Statements
38
b. Current Reports on Form 8-K
None.
EXHIBIT INDEX
-------------
Exhibit Number Description
- -------------- -----------
10.1 Employment Contract, dated as of August 6, 2002, between
PXRE Group Ltd. and Guy D. Hengesbaugh
10.2 Consulting and Separation Agreement, dated as of July 23,
2002, between PXRE Group Ltd. and James F. Dore
10.3 Third Amendment to First Amended and Restated Credit
Agreement, Consent and Waiver dated as of the 8th day of
November, 2002 between PXRE Corporation, PXRE GROUP LTD.,
PXRE REINSURANCE (BARBADOS) LTD., and WACHOVIA BANK,
NATIONAL ASSOCIATION (formerly First Union Bank).
99.1 Certification by the Chief Executive Officer and Chief
Financial Officer Relating to a Periodic Report Containing
Financial Statements
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.
November 12, 2002 By: /s/ John M. Modin
---------------------------
John M. Modin
Senior Vice President
and Chief Financial Officer
39
40
Certifications
I, Gerald L. Radke, certify that:
1. I have reviewed this quarterly report on Form 10-Q of PXRE Group Ltd.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
41
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 12, 2002
/s/ Gerald L. Radke
-----------------------
Gerald L. Radke
Chief Executive Officer
42
I, John M. Modin, certify that:
1. I have reviewed this quarterly report on Form 10-Q of PXRE Group Ltd.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
43
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: November 12, 2002
/s/ John M. Modin
-----------------------
John M. Modin
Chief Financial Officer
44