Arch Capital Group Ltd. (NASDAQ:ACGL) reports that net income
available to Arch common shareholders for the 2016 third quarter
was $247.4 million, or $1.98 per share, compared to $74.5 million,
or $0.60 per share, for the 2015 third quarter. The Company’s net
income available to Arch common shareholders represented an
annualized return on average common equity of 15.3% for the 2016
third quarter, compared to 5.1% for the 2015 third quarter. For the
trailing twelve months ended September 30, 2016, net income
available to Arch common shareholders produced a 10.6% return on
average common equity. The Company’s book value per common share
was $53.62 at September 30, 2016, a 3.0% increase from $52.04 per
share at June 30, 2016 and a 12.5% increase from $47.68 per share
at September 30, 2015. All earnings per share amounts discussed in
this release are on a diluted basis.
The Company also reported after-tax operating income available
to Arch common shareholders of $142.5 million, or $1.14 per share,
for the 2016 third quarter, compared to $125.8 million, or $1.01
per share, for the 2015 third quarter. The Company’s after-tax
operating income available to Arch common shareholders represented
an annualized return on average common equity of 8.8% for the 2016
third quarter, compared to 8.6% for the 2015 third quarter. For the
trailing twelve months ended September 30, 2016, after-tax
operating income available to Arch common shareholders produced a
9.2% return on average common equity. After-tax operating income or
loss available to Arch common shareholders and the related return
on average common equity are non-GAAP measures. See ‘Comments on
Regulation G’ for further details.
The following table summarizes the Company’s consolidated
underwriting results:
(U.S. dollars in thousands)
Three
Months Ended September 30, Nine Months Ended September
30, 2016 2015 % Change
2016 2015 % Change Gross
premiums written $ 1,278,765 $ 1,189,192 7.5 $ 4,046,667 $
3,730,423 8.5 Net premiums written 1,014,278 971,972 4.4 3,159,076
2,982,547 5.9 Net premiums earned 958,403 936,683 2.3 2,915,967
2,790,385 4.5 Underwriting income 122,782 94,779 29.5 345,471
316,364 9.2
Underwriting Ratios
% Point Change
% Point Change
Loss ratio 54.7 % 56.8 % (2.1 ) 56.0 % 55.4 % 0.6 Acquisition
expense ratio 17.1 % 18.3 % (1.2 ) 17.5 % 18.3 % (0.8 ) Other
operating expense ratio 16.2 % 15.6 % 0.6 16.0 % 16.0 % —
Combined ratio 88.0 % 90.7 % (2.7 ) 89.5 % 89.7 % (0.2 )
Please note that these amounts include the impact of the ‘other’
segment (i.e., results of Watford Re). See ‘Comments on Regulation
G’ for a reconciliation of underwriting income or loss to income
before income taxes and net income available to Arch common
shareholders. The ‘other’ segment includes amounts related to
Watford Re. Pursuant to generally accepted accounting principles,
Watford Re is considered a variable interest entity and the Company
concluded that it is the primary beneficiary of Watford Re. As
such, the Company consolidates the results of Watford Re in its
consolidated financial statements, although it only owns
approximately 11% of Watford Re’s common equity.
Segment Information
The following section provides analysis on the Company’s 2016
third quarter performance by operating segment. For additional
details regarding the Company’s operating segments, please refer to
the Company’s Financial Supplement dated September 30, 2016. The
Company’s segment information includes the use of underwriting
income and a combined ratio excluding catastrophic activity and
prior year development for the insurance segment and reinsurance
segment and a combined ratio excluding prior year development for
the mortgage segment. Such items are non-GAAP financial measures
(see ‘Comments on Regulation G’ for further details).
Insurance Segment
Three Months Ended September 30, (U.S.
dollars in thousands)
2016 2015 %
Change Gross premiums written $ 758,934 $ 752,438 0.9
Net premiums written 541,488 542,995 (0.3 ) Net premiums earned
519,078 522,544 (0.7 ) Underwriting income 21,568 21,508 0.3
Underwriting Ratios % Point Change Loss ratio
64.1 % 65.0 % (0.9 ) Acquisition expense ratio 14.9 % 14.8 % 0.1
Other operating expense ratio 16.9 % 16.2 % 0.7 Combined
ratio 95.9 % 96.0 % (0.1 ) Catastrophic activity and prior
year development: Current accident year catastrophic events, net of
reinsurance and reinstatement premiums 0.3 % 1.6 % (1.3 ) Net
(favorable) adverse development in prior year loss reserves, net of
related adjustments (2.3 )% (1.4 )% (0.9 ) Combined ratio excluding
catastrophic activity and prior year development (1) 97.9 % 95.8 %
2.1 (1) See ‘Comments on Regulation G’ for
further discussion.
Gross premiums written by the insurance segment in the 2016
third quarter were 0.9% higher than in the 2015 third quarter while
net premiums written were 0.3% lower than in the 2015 third
quarter. The decrease in net premiums written reflected reductions
in programs and property lines, partially offset by growth in
travel and in ‘other’ lines including alternative markets and high
excess comp business. The reduction in program business primarily
reflected the continued impact of the non-renewal of a large
program in the latter part of 2015 while the lower level in
property lines reflected continued weak market conditions. The
growth in travel and alternative markets reflected both new
business and continued expansion in existing accounts while the
increase in high excess comp primarily reflected new business. Net
premiums earned by the insurance segment in the 2016 third quarter
were 0.7% lower than in the 2015 third quarter, and reflect changes
in net premiums written over the previous five quarters.
The 2016 third quarter loss ratio reflected 0.3 points of
current year catastrophic activity, compared to 1.6 points in the
2015 third quarter. Estimated net favorable development in prior
year loss reserves, before related adjustments, reduced the loss
ratio by 2.6 points in the 2016 third quarter, compared to 1.9
points in the 2015 third quarter. The estimated net favorable
development in the 2016 third quarter primarily resulted from
better than expected claims emergence in longer-tail and
medium-tail lines from earlier accident years. The balance of the
change in the 2016 third quarter loss ratio resulted, in part, from
changes in the mix of business.
The underwriting expense ratio was 31.8% in the 2016 third
quarter, compared to 31.0% in the 2015 third quarter. The
comparison of the underwriting expense ratios and the underlying
acquisition expense and other operating expense ratios reflected
changes in the mix of business and the level of reinsurance ceded
on a quota share basis.
Reinsurance Segment
Three Months Ended September 30, (U.S.
dollars in thousands)
2016 2015 %
Change Gross premiums written $ 324,361 $ 329,327 (1.5 )
Net premiums written 234,810 237,145 (1.0 ) Net premiums earned
251,927 260,431 (3.3 ) Other underwriting income 2,216 2,783 (20.4
) Underwriting income 62,413 54,887 13.7
Underwriting Ratios
% Point Change
Loss ratio 42.0 % 44.5 % (2.5 ) Acquisition expense ratio 19.9 %
21.3 % (1.4 ) Other operating expense ratio 14.1 % 14.3 % (0.2 )
Combined ratio 76.0 % 80.1 % (4.1 ) Catastrophic activity
and prior year development: Current accident year catastrophic
events, net of reinsurance and reinstatement premiums 3.5 % 4.0 %
(0.5 ) Net (favorable) adverse development in prior year loss
reserves, net of related adjustments (24.0 )% (18.5 )% (5.5 )
Combined ratio excluding catastrophic activity and prior year
development (1) 96.5 % 94.6 % 1.9 (1) See
‘Comments on Regulation G’ for further discussion.
Gross premiums written by the reinsurance segment in the 2016
third quarter were 1.5% lower than in the 2015 third quarter, while
net premiums written were 1.0% lower than in the 2015 third
quarter. The decrease in net premiums written reflected reductions
in casualty and marine and aviation lines, due in part to
reductions in premium estimates reflecting current market
conditions. Such amounts were partially offset by growth in other
specialty business, reflecting additional agriculture business and
strong renewals on pro rata U.K. motor business.
The 2016 third quarter loss ratio included 4.1 points of current
year catastrophic activity, compared to 4.2 points of catastrophic
activity in the 2015 third quarter, and a higher level of current
year facultative attritional losses than in the 2015 third quarter.
Estimated net favorable development in prior year loss reserves,
before related adjustments, reduced the loss ratio by 23.6 points
in the 2016 third quarter, compared to 19.2 points in the 2015
third quarter. The estimated net favorable development in the 2016
third quarter primarily resulted from better than expected claims
emergence in short-tail business from most underwriting years and
in longer-tail business across earlier underwriting years.
The underwriting expense ratio was 34.0% in the 2016 third
quarter, compared to 35.6% in the 2015 third quarter. The
comparison of the underwriting expense ratios and the underlying
acquisition expense and other operating expense ratios reflected
changes in the mix and type of business, and the impact of
reinstatement premiums.
Mortgage Segment
Three Months Ended September 30, (U.S.
dollars in thousands)
2016 2015 %
Change Gross premiums written $ 131,726 $ 74,657 76.4
Net premiums written 80,544 66,825 20.5 Net premiums earned 76,962
54,548 41.1 Other underwriting income 4,740 3,565 33.0
Underwriting income 37,422 17,075 119.2
Underwriting
Ratios
% Point Change
Loss ratio 14.4 % 17.5 % (3.1 ) Acquisition expense ratio 10.1 %
19.1 % (9.0 ) Other operating expense ratio 33.0 % 38.6 % (5.6 )
Combined ratio 57.5 % 75.2 % (17.7 ) Net (favorable) adverse
development in prior year loss reserves, net of related adjustments
(3.2 )% (7.3 )% 4.1 Combined ratio excluding prior year
development (1) 60.7 % 82.5 % (21.8 ) (1) See
‘Comments on Regulation G’ for further discussion.
The mortgage segment includes the Company’s U.S. and
international mortgage insurance and reinsurance operations as well
as government sponsored enterprise (“GSE”) credit-risk sharing
transactions. Arch Mortgage Insurance Company (“Arch MI U.S.”) is
approved as an eligible mortgage insurer by Fannie Mae and Freddie
Mac.
Gross premiums written by the mortgage segment in the 2016 third
quarter were 76.4% higher than in the 2015 third quarter,
reflecting growth in Australian mortgage reinsurance and in U.S.
primary business and from GSE credit risk-sharing transactions
receiving insurance accounting treatment. The lower increase in net
premiums written of 20.5% reflected a $45.4 million retrocession on
Australian mortgage reinsurance business covering exposures written
since May 2015. Roughly three fourths of the 2016 third quarter
retrocession represented catch up premiums. Net premiums earned for
the 2016 third quarter were 41.1% higher than in the 2015 third
quarter, reflecting the growth in insurance in force.
Other underwriting income, which is primarily related to GSE
risk-sharing transactions receiving derivative accounting
treatment, was $4.7 million for the 2016 third quarter, compared to
$3.6 million for the 2015 third quarter.
The loss ratio for the 2016 third quarter reflected estimated
net favorable development in prior year loss reserves, before
related adjustments, of 3.2 points, compared to 7.3 points in the
2015 third quarter, driven primarily by continued lower than
expected claim rates. At September 30, 2016, the mortgage segment’s
risk-in-force consisted of $10.17 billion from Arch MI U.S. and
$4.66 billion from the mortgage segment’s reinsurance and
risk-sharing operations. Arch MI U.S. generated $8.75 billion of
new insurance written (“NIW”) during the 2016 third quarter, of
which 79% was from banks and other non-credit union mortgage
originators. For additional information on the mortgage segment,
please refer to the Company’s Financial Supplement.
Corporate (Non-Underwriting) Segment
The corporate (non-underwriting) segment results include net
investment income, other income (loss), corporate expenses,
interest expense, net realized gains or losses, net impairment
losses included in earnings, equity in net income or loss of
investment funds accounted for using the equity method, net foreign
exchange gains or losses, income taxes and items related to the
Company’s non-cumulative preferred shares. Such amounts exclude the
results of the ‘other’ segment.
Net investment income for the 2016 third quarter was $0.53 per
share, or $66.3 million, compared to $0.54 per share, or $67.3
million, for the 2015 third quarter, and $0.57 per share, or $70.4
million, for the 2016 second quarter. The 2016 third quarter net
investment income reflected lower fixed income returns, as well as
lower reinvestment rates available in the market, along with a
lower benefit from inflation adjustments on U.S. Treasury
Inflation-Protected Securities than in the 2016 second quarter. The
annualized pre-tax investment income yield was 1.81% for the 2016
third quarter, compared to 2.04% for the 2015 third quarter and
2.08% for the 2016 second quarter.
Corporate expenses were $18.5 million for the 2016 third
quarter, compared to $10.7 million for the 2015 third quarter. The
higher level of corporate expenses in the 2016 third quarter was
primarily due to nonrecurrent costs related to the UGC Acquisition
discussed below.
Interest expense for the 2016 third quarter was $12.9 million,
compared to $12.0 million for the 2015 third quarter. Amounts in
both periods included approximately $12.0 million related to the
Company’s outstanding senior notes, with the remainder attributable
to revolving credit agreement borrowings and other.
On a pre-tax basis, net foreign exchange losses for the 2016
third quarter were $4.2 million, compared to net foreign exchange
gains for the 2015 third quarter of $16.1 million. For both
periods, such amounts were primarily unrealized and resulted from
the effects of revaluing the Company’s net insurance liabilities
required to be settled in foreign currencies at each balance sheet
date. Changes in the value of available-for-sale investments held
in foreign currencies due to foreign currency rate movements are
reflected as a direct increase or decrease to shareholders’ equity
and are not included in the consolidated statements of income.
Although the Company generally attempts to match the currency of
its projected liabilities with investments in the same currencies,
from time to time the Company may elect to over or underweight one
or more currencies, which could increase the Company’s exposure to
foreign currency fluctuations and increase the volatility of the
Company’s shareholders’ equity.
The Company’s effective tax rate on income before income taxes
(based on the Company’s estimated annual effective tax rate) was
5.0% for the 2016 third quarter and 6.6% for the nine months ended
September 30, 2016, compared to 10.8% for the 2015 third quarter
and 5.7% for the nine months ended September 30, 2015. The
Company’s effective tax rate on pre-tax operating income available
to Arch shareholders was 6.5% for the 2016 third quarter and 6.3%
for the nine months ended September 30, 2016, compared to 5.7% for
the 2015 third quarter and 4.5% for the nine months ended September
30, 2015. The Company’s effective tax rate fluctuates from year to
year based upon the relative mix of income or loss reported by
jurisdiction and the varying tax rates in each jurisdiction. The
Company’s quarterly tax provision is adjusted to reflect changes in
its estimated annual effective tax rate, if any. The adjustment to
the estimated annual effective tax rate in the 2016 third quarter
did not have a material impact on the Company’s after-tax
results.
UGC Acquisition
On August 15, 2016, the Company entered into a Stock
Purchase Agreement (the “Stock Purchase Agreement”) with American
International Group, Inc. (“AIG”) pursuant to which, upon the
terms and subject to the conditions thereof, ACGL agreed to
purchase from AIG all of the issued and outstanding shares of
capital stock of United Guaranty Corporation, a North Carolina
corporation, and AIG United Guaranty (Asia) Limited (combined,
“United Guaranty”). The acquisition under the Stock Purchase
Agreement is referred to herein as the “UGC Acquisition.”
The UGC Acquisition is subject to certain closing conditions,
including, among others, (i) expiration or early termination
of the waiting period required by the HSR Act, (ii) the
receipt of certain approvals of regulatory authorities and
government-sponsored entities, (iii) the execution of an
excess of loss agreement between subsidiaries of AIG and United
Guaranty and (iv) receipt by AIG of confirmation from the
Board of Governors of the Federal Reserve System that none of the
Company, United Guaranty or any of their respective subsidiaries
will be subject to “Systemically Important Financial Institutions”
rules and regulations. There is no financing condition for the UGC
Acquisition.
For a complete description of the UGC Acquisition, please refer
to the Company’s Form 8-K filed on August 15, 2016 and other
documents on file with the SEC.
Capitalization and Shareholders’ Equity
On September 29, 2016, the Company completed a $450 million
underwritten public offering of 5.25% Non-Cumulative Preferred
Shares, through the issuance of depositary shares which represents
a proportional interest in such shares. Except in specified
circumstances relating to certain tax or corporate events, the
Series E non-cumulative preferred shares are not redeemable prior
to September 29, 2021. We intend to use the net proceeds from the
offering of approximately $434.9 million to fund a portion of the
cash consideration required in the UGC Acquisition, to pay related
costs and expenses and for general corporate purposes.
At September 30, 2016, total capital available to Arch of $8.24
billion consisted of $791.4 million of senior notes, representing
9.6% of the total, $100.0 million of revolving credit agreement
borrowings, representing 1.2% of the total, $775.0 million of
preferred shares, representing 9.4% of the total, and common
shareholders’ equity of $6.58 billion, representing 79.8% of the
total. At December 31, 2015, total capital available to Arch of
$7.10 billion consisted of $791.3 million of senior notes,
representing 11.2% of the total, $100.0 million of revolving credit
agreement borrowings, representing 1.4% of the total, $325.0
million of preferred shares, representing 4.6% of the total, and
common shareholders’ equity of $5.88 billion, representing 82.9% of
the total.
Conference Call
The Company will hold a conference call for investors and
analysts at 11:00 a.m. Eastern Time on October 27, 2016. A live
webcast of this call will be available via the Investors section of
the Company’s website at http://www.archcapgroup.com. A telephone replay of
the conference call also will be available beginning on October 27,
2016 at 2:00 p.m. Eastern Time until November 3, 2016 at midnight
Eastern Time. To access the replay, domestic callers should dial
855-859-2056, and international callers should dial 404-537-3406
(passcode 92881326 for all callers).
Please refer to the Company’s Financial Supplement dated
September 30, 2016, which is available via the Investors section of
the Company’s website at http://www.archcapgroup.com. The Financial
Supplement provides additional detail regarding the financial
performance of the Company. From time to time, the Company posts
additional financial information and presentations to its website,
including information with respect to its subsidiaries. Investors
and other recipients of this information are encouraged to check
the Company’s website regularly for additional information
regarding the Company.
Arch Capital Group Ltd., a Bermuda-based company with
approximately $8.24 billion in capital at September 30, 2016,
provides insurance and reinsurance on a worldwide basis through its
wholly owned subsidiaries.
Comments on Regulation G
Throughout this release, the Company presents its operations in
the way it believes will be the most meaningful and useful to
investors, analysts, rating agencies and others who use the
Company’s financial information in evaluating the performance of
the Company and that investors and such other persons benefit from
having a consistent basis for comparison between quarters and for
comparison with other companies within the industry. These measures
may not, however, be comparable to similarly titled measures used
by companies outside of the insurance industry. Investors are
cautioned not to place undue reliance on these non-GAAP financial
measures in assessing the Company’s overall financial
performance.
This presentation includes the use of “after-tax operating
income or loss available to Arch common shareholders,” which is
defined as net income available to Arch common shareholders,
excluding net realized gains or losses, net impairment losses
recognized in earnings, equity in net income or loss of investment
funds accounted for using the equity method, net foreign exchange
gains or losses and income taxes, and the use of annualized
operating return on average common equity. The presentation of
after-tax operating income available to Arch common shareholders
and annualized operating return on average common equity are
non-GAAP financial measures as defined in Regulation G. The
reconciliation of such measures to net income available to Arch
common shareholders and annualized return on average common equity
(the most directly comparable GAAP financial measures) in
accordance with Regulation G is included on the following page of
this release.
The Company believes that net realized gains or losses, net
impairment losses recognized in earnings, equity in net income or
loss of investment funds accounted for using the equity method and
net foreign exchange gains or losses in any particular period are
not indicative of the performance of, or trends in, the Company’s
business performance. Although net realized gains or losses, net
impairment losses recognized in earnings, equity in net income or
loss of investment funds accounted for using the equity method and
net foreign exchange gains or losses are an integral part of the
Company’s operations, the decision to realize investment gains or
losses, the recognition of the change in the carrying value of
investments accounted for using the fair value option in net
realized gains or losses, the recognition of net impairment losses,
the recognition of equity in net income or loss of investment funds
accounted for using the equity method and the recognition of
foreign exchange gains or losses are independent of the insurance
underwriting process and result, in large part, from general
economic and financial market conditions. Furthermore, certain
users of the Company’s financial information believe that, for many
companies, the timing of the realization of investment gains or
losses is largely opportunistic. In addition, net impairment losses
recognized in earnings on the Company’s investments represent
other-than-temporary declines in expected recovery values on
securities without actual realization. The use of the equity method
on certain of the Company’s investments in certain funds that
invest in fixed maturity securities is driven by the ownership
structure of such funds (either limited partnerships or limited
liability companies). In applying the equity method, these
investments are initially recorded at cost and are subsequently
adjusted based on the Company’s proportionate share of the net
income or loss of the funds (which include changes in the fair
value of the underlying securities in the funds). This method of
accounting is different from the way the Company accounts for its
other fixed maturity securities and the timing of the recognition
of equity in net income or loss of investment funds accounted for
using the equity method may differ from gains or losses in the
future upon sale or maturity of such investments. Due to these
reasons, the Company excludes net realized gains or losses, net
impairment losses recognized in earnings, equity in net income or
loss of investment funds accounted for using the equity method and
net foreign exchange gains or losses from the calculation of
after-tax operating income or loss available to Arch common
shareholders.
The Company believes that showing net income available to Arch
common shareholders exclusive of the items referred to above
reflects the underlying fundamentals of the Company’s business
since the Company evaluates the performance of and manages its
business to produce an underwriting profit. In addition to
presenting net income available to Arch common shareholders, the
Company believes that this presentation enables investors and other
users of the Company’s financial information to analyze the
Company’s performance in a manner similar to how the Company’s
management analyzes performance. The Company also believes that
this measure follows industry practice and, therefore, allows the
users of the Company’s financial information to compare the
Company’s performance with its industry peer group. The Company
believes that the equity analysts and certain rating agencies which
follow the Company and the insurance industry as a whole generally
exclude these items from their analyses for the same reasons.
The following table summarizes the Company’s consolidated
financial data, including a reconciliation of net income available
to Arch common shareholders to after-tax operating income available
to Arch common shareholders and related diluted per share results.
Each line item reflects the impact of the Company’s approximate 11%
ownership of Watford Re’s common equity:
(U.S. dollars in thousands, except
share data)
Three Months Ended Nine Months Ended
September 30, September 30, 2016
2015 2016 2015 Net income available to
Arch common shareholders $ 247,388 $ 74,549 $ 602,272 $ 462,706 Net
realized (gains) losses (99,159 ) 57,472 (175,558 ) 17,834 Net
impairment losses recognized in earnings 3,867 5,868 16,849 12,780
Equity in net (income) loss of investment funds accounted for using
the equity method (16,662 ) 2,118 (32,054 ) (19,939 ) Net foreign
exchange (gains) losses 4,054 (15,904 ) 3,560 (60,478 ) Income tax
expense (1) 2,970 1,695 13,705 8,697
After-tax operating income available to Arch common shareholders $
142,458 $ 125,798 $ 428,774 $ 421,600
Diluted per common
share results:
Net income available to Arch common shareholders $ 1.98 $ 0.60 $
4.84 $ 3.66 Net realized (gains) losses (0.79 ) 0.46 (1.41 ) 0.14
Net impairment losses recognized in earnings 0.03 0.05 0.14 0.10
Equity in net (income) loss of investment funds accounted for using
the equity method (0.13 ) 0.02 (0.27 ) (0.15 ) Net foreign exchange
(gains) losses 0.03 (0.13 ) 0.03 (0.48 ) Income tax expense 0.02
0.01 0.11 0.07 After-tax operating
income available to Arch common shareholders $ 1.14 $ 1.01
$ 3.44 $ 3.34 Weighted average common
shares and common share equivalents outstanding — diluted
124,931,653 125,011,773 124,528,174 126,354,759 Beginning
common shareholders’ equity $ 6,378,922 $ 5,812,515 $ 5,879,881 $
5,805,053 Ending common shareholders’ equity 6,577,322
5,837,815 6,577,322 5,837,815 Average common
shareholders’ equity $ 6,478,122 $ 5,825,165 $
6,228,602 $ 5,821,434 Annualized return on
average common equity 15.3 % 5.1 % 12.9 % 10.6 % Annualized
operating return on average common equity 8.8 % 8.6 % 9.2 % 9.7 %
(1) Income tax expense on net realized gains or
losses, net impairment losses recognized in earnings, equity in net
income (loss) of investment funds accounted for using the equity
method and net foreign exchange gains or losses reflects the
relative mix reported by jurisdiction and the varying tax rates in
each jurisdiction.
The Company’s segment information includes the presentation of
consolidated underwriting income or loss and a subtotal of
underwriting income or loss before the contribution from the
‘other’ segment. Such measures represent the pre-tax profitability
of its underwriting operations and include net premiums earned plus
other underwriting income, less losses and loss adjustment
expenses, acquisition expenses and other operating expenses. Other
operating expenses include those operating expenses that are
incremental and/or directly attributable to the Company’s
individual underwriting operations. Underwriting income or loss
does not incorporate items included in the Company’s corporate
(non-underwriting) segment. While these measures are presented in
the Segment Information footnote to the Company’s Consolidated
Financial Statements, they are considered non-GAAP financial
measures when presented elsewhere on a consolidated basis. The
reconciliations of underwriting income or loss to income before
income taxes (the most directly comparable GAAP financial measure)
on a consolidated basis and a subtotal before the contribution from
the ‘other’ segment, in accordance with Regulation G, is shown on
pages 9 and 10.
Management measures segment performance for its three
underwriting segments based on underwriting income or loss. The
Company does not manage its assets by underwriting segment, with
the exception of goodwill and intangible assets, and, accordingly,
investment income and other non-underwriting related items are not
allocated to each underwriting segment. As noted earlier, the
‘other’ segment includes the results of Watford Re. Watford Re has
its own management and board of directors that is responsible for
the overall profitability of the ‘other’ segment. For the ‘other’
segment, performance is measured based on net income or loss. The
Company does not guarantee or provide credit support for Watford
Re, and the Company’s financial exposure to Watford Re is limited
to its investment in Watford Re’s common and preferred shares and
counterparty credit risk (mitigated by collateral) arising from
reinsurance transactions. Along with consolidated underwriting
income, the Company provides a subtotal of underwriting income or
loss before the contribution from the ‘other’ segment and believes
that this presentation enables investors and other users of the
Company’s financial information to analyze the Company’s
underwriting performance in a manner similar to how the Company’s
management analyzes performance.
In addition, the Company’s segment information includes the use
of a combined ratio excluding catastrophic activity and prior year
development for the insurance segment and reinsurance segment and a
combined ratio excluding prior year development for the mortgage
segment. These ratios are non-GAAP financial measures as defined in
Regulation G. The reconciliation of such measures to the combined
ratio (the most directly comparable GAAP financial measure) in
accordance with Regulation G are shown on the individual segment
pages. The Company’s management utilizes the adjusted combined
ratio excluding current accident year catastrophic events and
favorable or adverse development in prior year loss reserves in its
analysis of the underwriting performance of each of its
underwriting segments.
The following tables summarize the Company’s results by segment
for the 2016 third quarter and 2015 third quarter and a
reconciliation of underwriting income or loss to income before
income taxes and net income available to Arch common
shareholders:
(U.S. Dollars in thousands)
Three Months
Ended September 30, 2016 Insurance
Reinsurance Mortgage Sub-total
Other Total Gross premiums written (1)
$ 758,934 $ 324,361 $ 131,726 $ 1,214,765 $ 163,736 $ 1,278,765
Premiums ceded (217,446 ) (89,551 ) (51,182 ) (357,923 ) (6,300 )
(264,487 ) Net premiums written 541,488 234,810 80,544 856,842
157,436 1,014,278 Change in unearned premiums (22,410 ) 17,117
(3,582 ) (8,875 ) (47,000 ) (55,875 ) Net premiums earned
519,078 251,927 76,962 847,967 110,436 958,403 Other underwriting
income — 2,216 4,740 6,956 1,024 7,980 Losses and loss adjustment
expenses (332,845 ) (105,924 ) (11,107 ) (449,876 ) (74,307 )
(524,183 ) Acquisition expenses, net (77,148 ) (50,217 ) (7,757 )
(135,122 ) (28,739 ) (163,861 ) Other operating expenses (87,517 )
(35,589 ) (25,416 ) (148,522 ) (7,035 ) (155,557 ) Underwriting
income (loss) $ 21,568 $ 62,413 $ 37,422
121,403 1,379 122,782 Net investment income 66,282 27,336
93,618 Net realized gains (losses) 95,946 29,159 125,105 Net
impairment losses recognized in earnings (3,867 ) — (3,867 )
Equity in net income (loss) of investment
fundsaccounted for using the equity method
16,662 — 16,662 Other income (loss) (400 ) — (400 ) Corporate
expenses (18,485 ) — (18,485 ) Interest expense (12,924 ) (3,019 )
(15,943 ) Net foreign exchange gains (losses) (4,232 ) 1,611
(2,621 )
Income before income taxes 260,385 56,466 316,851
Income tax expense (13,232 ) 1 (13,231 )
Net income
247,153 56,467 303,620 Dividends attributable to redeemable
noncontrolling interests — (4,588 ) (4,588 ) Amounts attributable
to nonredeemable noncontrolling interests — (46,160 )
(46,160 )
Net income available to Arch 247,153 5,719 252,872
Preferred dividends (5,484 ) — (5,484 )
Net income
available to Arch common shareholders $ 241,669 $ 5,719
$ 247,388
Underwriting Ratios Loss
ratio 64.1 % 42.0 % 14.4 % 53.1 % 67.3 % 54.7 % Acquisition expense
ratio 14.9 % 19.9 % 10.1 % 15.9 % 26.0 % 17.1 % Other operating
expense ratio 16.9 % 14.1 % 33.0 % 17.5 % 6.4 % 16.2 % Combined
ratio 95.9 % 76.0 % 57.5 % 86.5 % 99.7 % 88.0 % Net premiums
written to gross premiums written 71.3 % 72.4 % 61.1 % 70.5 % 96.2
% 79.3 % (1) Certain amounts included in the gross
premiums written of each segment are related to intersegment
transactions and are included in the gross premiums written of each
segment. Accordingly, the sum of gross premiums written for each
segment does not agree to the total gross premiums written as shown
in the table above due to the elimination of intersegment
transactions in the total. (U.S.
Dollars in thousands)
Three Months Ended September 30,
2015 Insurance Reinsurance
Mortgage Sub-total Other
Total Gross premiums written (1) $ 752,438 $ 329,327 $
74,657 $ 1,158,451 $ 131,165 $ 1,189,192 Premiums ceded (209,443 )
(92,182 ) (7,832 ) (311,486 ) (6,158 ) (217,220 ) Net premiums
written 542,995 237,145 66,825 846,965 125,007 971,972 Change in
unearned premiums (20,451 ) 23,286 (12,277 ) (9,442 )
(25,847 ) (35,289 ) Net premiums earned 522,544 260,431 54,548
837,523 99,160 936,683 Other underwriting income 519 2,783 3,565
6,867 756 7,623 Losses and loss adjustment expenses (339,859 )
(115,780 ) (9,562 ) (465,201 ) (66,540 ) (531,741 ) Acquisition
expenses, net (77,076 ) (55,416 ) (10,428 ) (142,920 ) (28,646 )
(171,566 ) Other operating expenses (84,620 ) (37,131 ) (21,048 )
(142,799 ) (3,421 ) (146,220 ) Underwriting income (loss) $ 21,508
$ 54,887 $ 17,075 93,470 1,309 94,779
Net investment income 67,251 18,982 86,233 Net realized gains
(losses) (53,480 ) (36,218 ) (89,698 ) Net impairment losses
recognized in earnings (5,868 ) — (5,868 )
Equity in net income (loss) of investment
fundsaccounted for using the equity method
(2,118 ) — (2,118 ) Other income (loss) (265 ) — (265 ) Corporate
expenses (10,739 ) — (10,739 ) Interest expense (12,014 ) (1,286 )
(13,300 ) Net foreign exchange gains (losses) 16,056 (1,376
) 14,680
Income before income taxes 92,293 (18,589 )
73,704 Income tax expense (9,704 ) — (9,704 )
Net
income 82,589 (18,589 ) 64,000 Dividends attributable to
redeemable noncontrolling interests — (4,588 ) (4,588 ) Amounts
attributable to nonredeemable noncontrolling interests —
20,621 20,621
Net income available to Arch
82,589 (2,556 ) 80,033 Preferred dividends (5,484 ) — (5,484
)
Net income available to Arch common shareholders $ 77,105
$ (2,556 ) $ 74,549
Underwriting Ratios
Loss ratio 65.0 % 44.5 % 17.5 % 55.5 % 67.1 % 56.8 % Acquisition
expense ratio 14.8 % 21.3 % 19.1 % 17.1 % 28.9 % 18.3 % Other
operating expense ratio 16.2 % 14.3 % 38.6 % 17.1 % 3.4 % 15.6 %
Combined ratio 96.0 % 80.1 % 75.2 % 89.7 % 99.4 % 90.7 % Net
premiums written to gross premiums written 72.2 % 72.0 % 89.5 %
73.1 % 95.3 % 81.7 % (1) Certain amounts included in
the gross premiums written of each segment are related to
intersegment transactions and are included in the gross premiums
written of each segment. Accordingly, the sum of gross premiums
written for each segment does not agree to the total gross premiums
written as shown in the table above due to the elimination of
intersegment transactions in the total.
Cautionary Note Regarding Forward-Looking Statements
The Private Securities Litigation Reform Act of 1995 (“PSLRA”)
provides a “safe harbor” for forward-looking statements. This
release or any other written or oral statements made by or on
behalf of the Company may include forward-looking statements, which
reflect the Company’s current views with respect to future events
and financial performance. All statements other than statements of
historical fact included in or incorporated by reference in this
release are forward-looking statements. Forward-looking statements,
for purposes of the PSLRA or otherwise, can generally be identified
by the use of forward-looking terminology such as “may,” “will,”
“expect,” “intend,” “estimate,” “anticipate,” “believe” or
“continue” and similar statements of a future or forward-looking
nature or their negative or variations or similar terminology.
Forward-looking statements involve the Company’s current
assessment of risks and uncertainties. Actual events and results
may differ materially from those expressed or implied in these
statements. Important factors that could cause actual events or
results to differ materially from those indicated in such
statements are discussed below and elsewhere in this release and in
the Company’s periodic reports filed with the Securities and
Exchange Commission (the “SEC”), and include:
- the Company’s ability to successfully
implement its business strategy during “soft” as well as “hard”
markets;
- acceptance of the Company’s business
strategy, security and financial condition by rating agencies and
regulators, as well as by brokers and its insureds and
reinsureds;
- the Company’s ability to maintain or
improve its ratings, which may be affected by its ability to raise
additional equity or debt financings, by ratings agencies’ existing
or new policies and practices, as well as other factors described
herein;
- general economic and market conditions
(including inflation, interest rates, foreign currency exchange
rates, prevailing credit terms and the depth and duration of a
recession) and conditions specific to the reinsurance and insurance
markets (including the length and magnitude of the current “soft”
market) in which the Company operates;
- competition, including increased
competition, on the basis of pricing, capacity (including
alternative sources of capital), coverage terms or other
factors;
- developments in the world’s financial
and capital markets and the Company’s access to such markets;
- the Company’s ability to successfully
enhance, integrate and maintain operating procedures (including
information technology) to effectively support its current and new
business;
- the loss of key personnel;
- the integration of businesses the
Company has acquired or may acquire into its existing
operations;
- accuracy of those estimates and
judgments utilized in the preparation of the Company’s financial
statements, including those related to revenue recognition,
insurance and other reserves, reinsurance recoverables, investment
valuations, intangible assets, bad debts, income taxes,
contingencies and litigation, and any determination to use the
deposit method of accounting, which for a relatively new insurance
and reinsurance company, like the Company, are even more difficult
to make than those made in a mature company since relatively
limited historical information has been reported to the Company
through September 30, 2016;
- greater than expected loss ratios on
business written by the Company and adverse development on claim
and/or claim expense liabilities related to business written by its
insurance and reinsurance subsidiaries;
- severity and/or frequency of
losses;
- claims for natural or man-made
catastrophic events in the Company’s insurance or reinsurance
business could cause large losses and substantial volatility in its
results of operations;
- acts of terrorism, political unrest and
other hostilities or other unforecasted and unpredictable
events;
- availability to the Company of
reinsurance to manage its gross and net exposures and the cost of
such reinsurance;
- the failure of reinsurers, managing
general agents, third party administrators or others to meet their
obligations to the Company;
- the timing of loss payments being
faster or the receipt of reinsurance recoverables being slower than
anticipated by the Company;
- the Company’s investment performance,
including legislative or regulatory developments that may adversely
affect the fair value of the Company’s investments;
- changes in general economic conditions,
including new or continued sovereign debt concerns in Eurozone
countries or downgrades of U.S. securities by credit rating
agencies, which could affect the Company’s business, financial
condition and results of operations;
- the volatility of the Company’s
shareholders’ equity from foreign currency fluctuations, which
could increase due to us not matching portions of the Company’s
projected liabilities in foreign currencies with investments in the
same currencies;
- losses relating to aviation business
and business produced by a certain managing underwriting agency for
which the Company may be liable to the purchaser of its prior
reinsurance business or to others in connection with the
May 5, 2000 asset sale described in the Company’s periodic
reports filed with the SEC;
- changes in accounting principles or
policies or in the Company’s application of such accounting
principles or policies;
- changes in the political environment of
certain countries in which the Company operates, underwrites
business or invests;
- statutory or regulatory developments,
including as to tax policy matters and insurance and other
regulatory matters such as the adoption of proposed legislation
that would affect Bermuda-headquartered companies and/or
Bermuda-based insurers or reinsurers and/or changes in regulations
or tax laws applicable to the Company, its subsidiaries, brokers or
customers; and
- the other matters set forth under Item
1A “Risk Factors”, Item 7 “Management’s Discussion and Analysis of
Financial Condition and Results of Operations” and other sections
of the Company’s Annual Report on Form 10-K, as well as the other
factors set forth in the Company’s other documents on file with the
SEC, and management’s response to any of the aforementioned
factors.
All subsequent written and oral forward-looking statements
attributable to the Company or persons acting on its behalf are
expressly qualified in their entirety by these cautionary
statements. The foregoing review of important factors should not be
construed as exhaustive and should be read in conjunction with
other cautionary statements that are included herein or elsewhere.
The Company undertakes no obligation to publicly update or revise
any forward-looking statement, whether as a result of new
information, future events or otherwise.
View source
version on businesswire.com: http://www.businesswire.com/news/home/20161026006793/en/
Arch Capital Group Ltd.Mark D. Lyons, 441-278-9250Executive Vice
President andChief Financial Officer
Arch Capital (NASDAQ:ACGL)
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