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UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
Washington, D.C.
20549
Form 10-K
FOR ANNUAL AND TRANSITION
REPORTS
PURSUANT TO SECTION 13 OR
15(d)
OF THE SECURITIES EXCHANGE ACT
OF 1934
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
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For the fiscal year ended
December 31, 2007
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or
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
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For the transition period
from to
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Commission File Number
001-33289
ENSTAR GROUP LIMITED
(Exact name of registrant as
specified in its charter)
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BERMUDA
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N/A
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(State or other jurisdiction
of
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(I.R.S. Employer
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incorporation or
organization)
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Identification
No.)
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P.O. Box HM 2267
Windsor Place,
3rd
Floor, 18 Queen Street
Hamilton HM JX
Bermuda
(Address of principal executive
offices, including zip code)
Registrants telephone number, including area code:
(441) 292-3645
Securities registered pursuant to Section 12(b) of the
Act:
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Title of Each Class
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Name of Each Exchange on Which Registered
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Ordinary shares, par value $1.00 per share
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The NASDAQ Stock Market LLC
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Securities registered pursuant to Section 12(g) of the
Act:
None
Indicate by check mark if the registrant is a well known
seasoned issuer, as defined in Rule 405 of the Securities
Act. Yes þ No o
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the
Act. Yes o No þ
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 þ No o
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of
Regulation S-K
is not contained herein, and will not be contained, to the best
of registrants knowledge, in definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-K
or any amendment to this
Form 10-K. þ
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, a non-accelerated
filer, or a smaller reporting company. See the definitions of
large accelerated filer, accelerated
filer and smaller reporting company in
Rule 12b-2 of the Exchange Act. (Check one):
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Large accelerated
filer þ
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Accelerated filer
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Non-accelerated
filer o
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Smaller reporting
Company o
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(Do not check if a smaller
reporting company)
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Indicate by check mark whether the registrant is a shell company
(as defined in
Rule 12b-2
of the
Act). Yes o No þ
The aggregate market value of the voting and non-voting common
equity held by non-affiliates, computed by reference to the
closing price as of the last business day of the
registrants most recently completed second fiscal quarter,
June 29, 2007, was approximately $753,157,370.
As of February 25, 2008, the registrant had outstanding
11,909,969 ordinary shares, $1.00 par value per share.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions of the registrants definitive proxy statement to
be filed with the Securities and Exchange Commission pursuant to
Regulation 14A relating to its 2008 annual general meeting
of shareholders are incorporated by reference in Part III
of this
Form 10-K.
Table of
Contents
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Page
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PART I
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Item 1.
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Business
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3
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Item 1A.
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Risk Factors
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32
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Item 1B.
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Unresolved Staff Comments
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42
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Item 2.
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Properties
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42
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Item 3.
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Legal Proceedings
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43
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Item 4.
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Submission of Matters to a Vote of Security Holders
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PART II
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Item 5.
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Market for the Registrants Common Equity, Related
Stockholder Matters and Issuer Purchases of Equity Securities
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44
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Item 6.
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Selected Financial Data
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46
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Item 7.
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Managements Discussion and Analysis of Financial Condition
and Results of Operations
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47
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Item 7A.
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Quantitative and Qualitative Information About Market Risk
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79
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Item 8.
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Financial Statements and Supplementary Data
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81
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Item 9
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Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
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122
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Item 9A.
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Controls and Procedures
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122
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Item 9B.
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Other Information
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123
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PART III
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Item 10.
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Directors and Executive Officers of the Registrant
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124
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Item 11.
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Executive Compensation
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124
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Item 12.
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Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters
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124
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Item 13.
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Certain Relationships and Related Transactions
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124
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Item 14.
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Principal Accountant Fees and Services
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124
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PART IV
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Item 15.
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Exhibits, Financial Statement Schedules
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124
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2
PART I
Background
Enstar Group Limited (formerly Castlewood Holdings Limited),
referred to herein as Enstar, we,
us, or our, was formed in August 2001
under the laws of Bermuda to acquire and manage insurance and
reinsurance companies in run-off, and to provide management,
consulting and other services to the insurance and reinsurance
industry. On January 31, 2007, Enstar completed the merger,
or the Merger, of CWMS Subsidiary Corp., a Georgia corporation
and wholly-owned subsidiary of Enstar, or CWMS, with and into
The Enstar Group Inc., a Georgia corporation, or EGI. As a
result of the Merger, EGI, renamed Enstar USA, Inc., is now a
wholly-owned subsidiary of Enstar. Prior to the Merger, EGI
owned an approximately 32% economic and 50% voting interest in
Enstar.
In addition, immediately prior to the closing of the Merger,
Enstar completed a recapitalization pursuant to which it:
(1) exchanged all of its outstanding shares of Enstar;
(2) designated its initial Board of Directors immediately
following the Merger; (3) repurchased certain of its shares
held by Trident II, L.P. and its affiliates; (4) made
payments totaling $5,076,000 to certain of its executive
officers and employees as an incentive to remain with Enstar
following the Merger; and (5) purchased, through its
wholly-owned subsidiary, Enstar Limited, the shares of B.H.
Acquisition Ltd., a Bermuda company, held by an affiliate of
Trident II, L.P.
Company
Overview
Since its formation, Enstar, through its subsidiaries, has
completed several acquisitions of insurance and reinsurance
companies and is now administering those businesses in run-off.
Enstar derives its net earnings from the ownership and
management of these companies primarily by settling insurance
and reinsurance claims below the recorded loss reserves and from
returns on the portfolio of investments retained to pay future
claims. In addition, Enstar has formed other businesses that
provide management and consultancy services, claims inspection
services and reinsurance collection services to Enstar
affiliates and third-party clients for both fixed and
success-based fees.
In the primary (or direct) insurance business, the insurer
assumes risk of loss from persons or organizations that are
directly subject to the given risks. Such risks may relate to
property, casualty, life, accident, health, financial or other
perils that may arise from an insurable event. In the
reinsurance business, the reinsurer agrees to indemnify an
insurance or reinsurance company, referred to as the ceding
company, against all or a portion of the insurance risks arising
under the policies the ceding company has written or reinsured.
When an insurer or reinsurer stops writing new insurance
business, either entirely or with respect to a particular line
of business, the insurer, reinsurer, or the line of discontinued
business is in run-off.
In recent years, the insurance industry has experienced
significant consolidation. As a result of this consolidation and
other factors, the remaining participants in the industry often
have portfolios of business that are either inconsistent with
their core competency or provide excessive exposure to a
particular risk or segment of the market (i.e.,
property/casualty, asbestos, environmental, director and officer
liability, etc.). These non-core
and/or
discontinued portfolios are often associated with potentially
large exposures and lengthy time periods before resolution of
the last remaining insured claims resulting in significant
uncertainty to the insurer or reinsurer covering those risks.
These factors can distract management, drive up the cost of
capital and surplus for the insurer or reinsurer, and negatively
impact the insurers or reinsurers credit rating,
which makes the disposal of the unwanted company or portfolio an
attractive option. Alternatively, the insurer may wish to
maintain the business on its balance sheet, yet not divert
significant management attention to the run-off of the
portfolio. The insurer or reinsurer, in either case, is likely
to engage a third party, such as Enstar, that specializes in
run-off management to purchase the company or portfolio, or to
manage the company or portfolio in run-off.
In the sale of a run-off company, a purchaser, such as Enstar,
typically pays a discount to the book value of the company based
on the risks assumed and the relative value to the seller of no
longer having to manage the company in run-off. Such a
transaction can be beneficial to the seller because it receives
an up-front payment for the company, eliminates the need for its
management to devote any attention to the disposed company and
removes the risk that
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the established reserves related to the run-off business may
prove to be inadequate. The seller is also able to redeploy its
management and financial resources to its core businesses.
Alternatively, if the insurer or reinsurer hires a third party,
such as Enstar, to manage its run-off business, the insurer or
reinsurer will, unlike in a sale of the business, receive little
or no cash up front. Instead, the management arrangement may
provide that the insurer or reinsurer will share in the profits,
if any, derived from the run-off with certain incentive payments
allocated to the run-off manager. By hiring a run-off manager,
the insurer or reinsurer can outsource the management of the
run-off business to experienced and capable individuals, while
allowing its own management team to focus on the insurers
or reinsurers core businesses. Enstars desired
approach to managing run-off business is to align its interests
with the interests of the owners through both fixed management
fees and certain incentive payments. Under certain management
arrangements to which Enstar is a party, however, it receives
only a fixed management fee and does not receive any incentive
payments.
Following the purchase of a run-off company or the engagement to
manage a run-off company or portfolio of business, it is
incumbent on the new owner or manager to conduct the run-off in
a disciplined and professional manner in order to efficiently
discharge the liabilities associated with the business while
preserving and maximizing its assets. Enstars approach to
managing its acquired companies in run-off, as well as run-off
companies or portfolios of businesses on behalf of third-party
clients, includes negotiating with third-party insureds and
reinsureds to commute their insurance or reinsurance agreement
for an agreed upon up-front payment by Enstar, or the
third-party client, and to more efficiently manage payment of
insurance and reinsurance claims. Enstar attempts to commute
policies with direct insureds or reinsureds in order to
eliminate uncertainty over the amount of future claims.
Commutations and policy buy-backs provide an opportunity for the
company to exit exposures to certain policies and insureds
generally at a discount to the ultimate liability and provide
the ability to eliminate exposure to further losses. Such a
strategy also contributes to the reduction in the length of time
and future cost of the run-off.
Following the acquisition of a company in run-off, or new
consulting engagement, Enstar will spend time analyzing the
acquired exposures and reinsurance receivables on a
policyholder-by-policyholder
basis. This analysis enables Enstar to identify a target list,
based on the nature and value of exposures, of those
policyholders and reinsurers it wishes to approach to discuss
commutation or policy buy-back. Furthermore, following the
acquisition of a company in run-off, or new consulting
engagement, Enstar will often be approached by policyholders or
reinsurers requesting commutation or policy buy-back. In these
instances Enstar will also carry out a full analysis of the
underlying exposures in order to determine the viability of a
proposed commutation or policy buy-back. From the initial
analysis of the underlying exposures it may take several months,
or even years, before a commutation or policy buy-back is
completed. In a number of cases, if Enstar and the policyholder
or reinsurer are unable to reach a commercially acceptable
settlement, the commutation or policy buy-back may not be
achievable, in which case Enstar will continue to settle valid
claims from the policyholder, or collect reinsurance receivables
from the reinsurer, as they become due.
Insureds and reinsureds are often willing to commute with
Enstar, subject to receiving an acceptable settlement, as this
provides certainty of recovery of what otherwise may be claims
that are disputed in the future, and often provides a meaningful
up-front cash receipt that, with the associated investment
income, can provide a source of funds to meet future claim
payments or even commutation of their underlying exposure.
Therefore, subject to negotiating an acceptable settlement, all
of Enstars insurance and reinsurance liabilities and
reinsurance receivables are able to be either commuted or
settled by way of policy buy-back over time. Many sellers of
companies that Enstar acquires have secure claims paying ratings
and ongoing underwriting relationships with insureds and
reinsureds which often hinders their ability to commute the
underlying insurance or reinsurance policies. Enstars lack
of claims paying rating and its lack of potential conflicts with
insureds and reinsureds of companies it acquires provides a
greater ability to commute the newly acquired policies than that
of the sellers.
Enstar also attempts, where appropriate, to negotiate favorable
commutations with reinsurers by securing the receipt of a
lump-sum settlement from the reinsurer in complete satisfaction
of the reinsurers liability in respect of any future
claims. Enstar, or the third-party client, is then fully
responsible for any claims in the future. Enstar typically
invests proceeds from reinsurance commutations with the
expectation that such investments will produce
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income, which, together with the principal, will be sufficient
to satisfy future obligations with respect to the acquired
company or portfolio.
Strategy
Enstars corporate objective is to generate returns on
capital that appropriately reward it for risks it assumes.
Enstar intends to achieve this objective by executing the
following strategies:
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Establish Leadership Position in the Run-Off Market by
Leveraging Managements Experience and
Relationships. Enstar intends to continue to
utilize the extensive experience and significant relationships
of its senior management team to establish itself as a leader in
the run-off segment of the insurance and reinsurance market. The
strength and reputation of Enstars management team is
expected to generate opportunities for Enstar to acquire or
manage companies and portfolios in run-off, to price effectively
the acquisition or management of such businesses, and, most
importantly, to manage the run-off of such businesses
efficiently and profitably.
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Professionally Manage Claims. Enstar is
professional and disciplined in managing claims against run-off
companies and portfolios it owns or manages. Enstars
management understands the need to dispose of certain risks
expeditiously and cost-effectively by constantly analyzing
changes in the market and efficiently settling claims with the
assistance of its experienced claims adjusters and in-house and
external legal counsel. When Enstar acquires or begins managing
a company or portfolio it initially determines which claims are
valid through the use of experienced in-house adjusters and
claims experts. Enstar pays valid claims on a timely basis, and
looks to well-documented policy exclusions and coverage issues
where applicable and litigates when necessary to avoid invalid
claims under existing policies and reinsurance agreements.
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Commutation of Assumed Liabilities and Ceded Reinsurance
Assets. Using detailed analysis and actuarial
projections, Enstar negotiates with the policyholders of the
insurance and reinsurance companies or portfolios it owns or
manages with a view to commuting insurance and reinsurance
liabilities for an agreed upon up-front payment at a discount to
the ultimate liability. Such commutations can take the form of
policy buy-backs and structured settlements over fixed periods
of time. Enstar also negotiates with reinsurers to commute their
reinsurance agreements providing coverage to Enstars
subsidiaries on terms that Enstar believes to be favorable based
on then-current market knowledge. Enstar invests the proceeds
from reinsurance commutations with the expectation that such
investments will produce income, which, together with the
principal, will be sufficient to satisfy future obligations with
respect to the acquired company or portfolio.
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Continue Commitment to Highly Disciplined Acquisition,
Management and Reinsurance Practices. Enstar
utilizes a disciplined approach to minimize risk and increase
the probability of positive operating results from acquisitions
and companies and portfolios it manages. Enstar carefully
reviews acquisition candidates and management engagements for
consistency with accomplishing its long-term objective of
producing positive operating results. Enstar focuses its
investigation on the risk exposure, claims practices, reserve
requirements, outstanding claims and its ability to price an
acquisition or engagement on terms that will provide positive
operating results. In particular, Enstar carefully reviews all
outstanding claims and case reserves, and follows a highly
disciplined approach to managing allocated loss adjustment
expenses, such as the cost of defense counsel, expert witnesses,
and related fees and expenses.
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Manage Capital Prudently. Enstar manages its
capital prudently relative to its risk exposure and liquidity
requirements to maximize profitability and long-term growth in
shareholder value. Enstars capital management strategy is
to deploy capital efficiently to acquisitions, reinsurance
opportunities and to establish (and re-establish, when
necessary) adequate loss reserves to protect against future
adverse developments.
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Acquisition
of Insurers or Portfolios in Run-Off
Enstar specializes in the negotiated acquisition and management
of insurance and reinsurance companies and portfolios in
run-off. Enstar approaches, or is approached by, primary
insurers or reinsurance providers with
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portfolios of business to be sold or managed in run-off. Enstar
evaluates each opportunity presented by carefully reviewing the
portfolios risk exposures, claim practices, reserve
requirements and outstanding claims, and seeking an appropriate
discount
and/or
seller indemnification to reflect the uncertainty contained in
the portfolios reserves.
Based on this initial analysis, Enstar can determine if a
company or portfolio of business would add value to its current
portfolio of run-off business. If Enstar determines to pursue
the purchase of a company in run-off, it then proceeds to price
the acquisition in a manner it believes will result in positive
operating results based on certain assumptions including,
without limitation, its ability to favorably resolve claims,
negotiate with direct insureds and reinsurers, and otherwise
manage the nature of the risks posed by the business.
With respect to its U.K. and Bermudian insurance and reinsurance
subsidiaries, Enstar is able to pursue strategies to achieve
complete finality and conclude the run-off of a company by
promoting a solvent scheme of arrangement whereby a local
court-sanctioned scheme, approved by a statutory majority of
voting creditors, provides for a one-time full and final
settlement of an insurance or reinsurance companys
obligations to its policyholders.
Recent
Acquisitions
In March 2003, Enstar and Shinsei Bank, Limited, or Shinsei,
completed the acquisition of The Toa-Re Insurance Company (UK)
Limited, a London-based subsidiary of The Toa Reinsurance
Company, Limited, for approximately $46.4 million. Upon
completion of the transaction, Toa-Res name was changed to
Hillcot Re Limited. Hillcot Re Limited underwrote reinsurance
business throughout the world between 1980 and 1994, when it
stopped writing new business and went into run-off. The
acquisition was effected through Hillcot Holdings Ltd., or
Hillcot, a Bermuda company, in which Enstar has a 50.1% economic
interest and a 50% voting interest. Hillcot is included in
Enstars consolidated financial statements, with the
remaining 49.9% economic interest reflected as minority
interest. J. Christopher Flowers, a member of our board of
directors and one of our largest shareholders, is a director and
the largest shareholder of Shinsei.
During 2004, Enstar, through one of its subsidiaries, completed
the acquisition of Mercantile Indemnity Company Ltd., or
Mercantile, Harper Insurance Limited (formerly Turegum Insurance
Company), or Harper, and Longmynd Insurance Company Ltd.
(formerly Security Insurance Company (UK) Ltd.), or Longmynd,
all of which were in run-off, for a total purchase price of
approximately $4.5 million. Enstar recorded an
extraordinary gain of approximately $21.8 million in 2004
relating to the excess of the fair value of the net assets
acquired over the cost of these acquisitions.
In May 2005, Enstar, through one of its subsidiaries, purchased
Fieldmill Insurance Company Limited (formerly known as
Harleysville Insurance Company (UK) Limited) for approximately
$1.4 million.
In March 2006, Enstar and Shinsei, through Hillcot, completed
the acquisition of Aioi Insurance Company of Europe Limited, or
Aioi Europe, a London-based subsidiary of Aioi Insurance
Company, Limited. Aioi Europe has underwritten general insurance
and reinsurance business in Europe for its own account from 1982
until 2002 when it generally ceased underwriting and placed its
general insurance and reinsurance business into run-off. The
aggregate purchase price paid for Aioi Europe was
£62 million (approximately $108.9 million), with
£50 million in cash paid upon the closing of the
transaction and £12 million in the form of a
promissory note, payable twelve months from the date of the
closing. Upon completion of the transaction, Aioi Europe changed
its name to Brampton Insurance Company Limited. Enstar recorded
an extraordinary gain of approximately $4.3 million, net of
minority interest, in 2006 relating to the excess of the fair
value of the net assets acquired over the cost of this
acquisition. In April 2006, Hillcot Holdings Limited borrowed
approximately $44 million from a London-based bank to
partially assist with the financing of the Aioi Europe
acquisition. Following a repurchase by Aioi Europe of its shares
valued at £40 million in May 2006, Hillcot Holdings
repaid the promissory note and reduced the bank borrowing to
$19.2 million, which is repayable in April 2010.
In October 2006, Enstar, through its subsidiary Virginia
Holdings Ltd., or Virginia, purchased Cavell Holdings Limited
(U.K.), or Cavell, for approximately £31.8 million
(approximately $59.5 million). Cavell owns a U.K.
reinsurance company and a Norwegian reinsurer, both of which
wrote portfolios of international reinsurance business and went
into run-off in 1993 and 1992, respectively. The purchase price
was funded by $24.5 million
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borrowed under a facility loan agreement with a London-based
bank and available cash on hand. In February 2008, Virginia
repaid its bank debt in full.
In November 2006, Enstar, through Virginia, purchased Unione
Italiana (U.K.) Reinsurance Company Limited, or Unione, a U.K.
company, for approximately $17.2 million. Unione underwrote
business from the 1940s though to 1995. Prior to
acquisition, Unione closed the majority of its portfolio by way
of a solvent scheme of arrangement in the U.K. Uniones
remaining business is a portfolio of international insurance and
reinsurance which has been in run-off since 1971.
Enstar recorded an extraordinary gain of $26.7 million in
the fourth quarter of 2006 relating to the excess of the fair
value of the net assets acquired over the costs of Cavell and
Unione.
On January 31, 2007, Enstar completed the Merger of CWMS
with and into EGI and, as a result, EGI, renamed Enstar USA,
Inc., is now a wholly-owned subsidiary of Enstar. Prior to the
Merger, EGI owned approximately 32% economic and 50% voting
interests in Enstar. As a result of the completion of the
Merger, B.H. Acquisition Ltd., or B.H. Acquisition, is now a
wholly-owned subsidiary of Enstar.
On February 23, 2007, Enstar through Oceania Holdings Ltd,
its wholly-owned subsidiary, completed the acquisition of
Inter-Ocean Holdings Ltd., or Inter-Ocean. The total purchase
price was approximately $57.5 million, which was funded by
$26.8 million borrowed under a facility loan agreement with
a London-based bank and available cash on hand. Inter-Ocean owns
two reinsurers, one based in Bermuda and one based in Ireland.
Both of these companies wrote international reinsurance and had
in place retrocessional policies providing for the full
reinsurance of all of the risks they assumed. In October 2007,
Oceania repaid its bank debt in full.
On June 12, 2007, Enstar completed the acquisition of
Tate & Lyle Reinsurance Ltd., or Tate &
Lyle, for total consideration of approximately
$5.9 million. Tate & Lyle is a Bermuda-based
reinsurance company.
On August 28, 2007, Enstar completed the acquisition of
Marlon Insurance Company Limited, a reinsurance company in
run-off, and Marlon Management Services Limited for total
consideration of approximately $31.2 million, which was
funded by $15.3 million borrowed under a facility loan
agreement with a London-based bank and available cash on hand.
Marlon Insurance Company Limited and Marlon Management Services
Limited, together referred to herein as Marlon, are both
U.K.-based companies. In February 2008, the facility loan was
repaid in full.
On June 16, 2006, a wholly-owned subsidiary of Enstar
entered into a definitive agreement with Dukes Place Holdings,
L.P., a portfolio company of GSC Partners, for the purchase of a
minority interest in a U.S. holding company that owns two
property and casualty insurers based in the United States, both
of which are in run-off. Completion of the transaction is
conditioned on, among other things, governmental and regulatory
approvals and satisfaction of various other closing conditions.
As a consequence, Enstar cannot predict if or when this
transaction will be completed.
In December 2007, Enstar, in conjunction with JCF FPK I L.P., or
JCF FPK, and a newly-hired executive management
team, formed U.K.-based Shelbourne Group Limited, or Shelbourne,
to invest in Reinsurance to Close or RITC
transactions (the transferring of liabilities from one
Lloyds Syndicate to another) with Lloyds of London
insurance and reinsurance syndicates in run-off. JCF FPK is a
joint investment program between Fox-Pitt, Kelton, Cochran,
Caronia & Waller, or FPKCCW, and the Flowers Fund. The
Flowers Fund is a private investment fund advised by J.C.
Flowers & Co. LLC. Mr. Flowers is the founder and
Managing Member of J.C. Flowers & Co. LLC.
Mr. John J. Oros, Enstars Executive Chairman and a
member of Enstars board of directors, is a Managing
Director of J.C. Flowers & Co LLC. Mr. Oros
splits his time between J.C. Flowers & Co. LLC and
Enstar. In addition, an affiliate of the Flowers Fund controls
approximately 41% of FPKCCW. Shelbourne is a holding company of
a Lloyds Managing Agency, Shelbourne Syndicate Services
Limited. Enstar owns 50.1% of Shelbourne, which in turn owns
100% of Shelbourne Syndicate Services Limited, the Managing
Agency for Lloyds Syndicate 2008, a syndicate approved by
Lloyds of London on December 16, 2007 to undertake
RITC transactions with Lloyds syndicates in run-off. In
February 2008, Lloyds Syndicate 2008 entered into RITC
agreements with four Lloyds Syndicates with total gross
insurance reserves of approximately $455.0 million. Since
January 1, 2008, Enstar has committed capital of
approximately £36.0 million (approximately
$72.0 million) to Lloyds Syndicate 2008.
Enstars capital commitment was financed by approximately
£12.0 million (approximately $24.0 million) from
bank finance; approximately £11.0 million
(approximately $22.0 million) from the Flowers
7
Fund (acting in its own capacity and not through JCF FPK), by
way of a non-voting equity participation; and approximately
£13.0 million (approximately $26.0 million) from
available cash on hand. JCF FPKs capital commitment to
Lloyds Syndicate 2008 is approximately
£14.0 million (approximately $28.0 million).
On December 10, 2007, Enstar entered into a definitive
agreement for the purchase from AMP Limited, or AMP, of
AMPs Australian-based closed reinsurance and insurance
operations, or Gordian. The purchase price, including
acquisition expenses, of approximately AUS$440.0 million
(approximately $417.0 million), will be financed by
approximately AUS$301.0 million (approximately
$285.0 million) from bank finance jointly with a
London-based bank and a German bank, in which the Flowers Fund
is a significant shareholder of the German bank; approximately
AUS$42.0 million (approximately $40.0 million) from
the Flowers Fund, by way of non-voting equity participation; and
approximately AUS$97.0 million (approximately
$92.0 million) from available cash on hand. Following
approval of the transaction by Australian regulatory authorities
on February 20, 2008, Enstar expects the transaction to
close on March 5, 2008. The interest rate on the bank loan
is LIBOR plus 2.2% and is repayable within six years.
On December 13, 2007, Enstar entered into a definitive
agreement for the purchase of Guildhall Insurance Company
Limited, a U.K.-based insurance and reinsurance company that has
been in run-off since 1986. The acquisition was completed on
February 29, 2008. The purchase price, including
acquisition expenses, of approximately £32.0 million
(approximately $64.0 million) was financed by the drawdown
of approximately £16.5 million (approximately
$33.0 million) from a facility loan agreement with a
London-based bank; approximately £5.0 million
(approximately $10.0 million) from the Flowers Fund, by way
of non-voting equity participation; and approximately
£10.5 million (approximately $21.0 million) from
available cash on hand. The interest rate on the bank loan is
LIBOR plus 2% and is repayable within five years.
Management
of Run-Off Portfolios
Enstar is a party to several management engagements pursuant to
which it has agreed to manage the run-off portfolio of a third
party. Such arrangements are advantageous for third-party
insurers because they allow a third-party insurer to focus their
management efforts on their core competency while allowing them
to maintain the portfolio of business on their balance sheet. In
addition, Enstars expertise in managing portfolios in
run-off allows the third-party insurer the opportunity to
potentially realize positive operating results if Enstar
achieves its objectives in management of the run-off portfolio.
Enstar specializes in the collection of reinsurance receivables
through its subsidiary Kinsale Brokers Limited. Through
Enstars subsidiaries, Enstar (US) Inc., (formerly
Castlewood (US) Inc.) and Cranmore Adjusters Limited, Enstar
also specializes in providing claims inspection services whereby
Enstar is engaged by third-party insurance and reinsurance
providers to review certain of their existing insurance and
reinsurance exposures, relationships, policies
and/or
claims history.
Enstars primary objective in structuring its management
arrangements is to align the third-party insurers
interests with those of Enstar. Consequently, management
agreements typically are structured so that Enstar receives
fixed fees in connection with the management of the run-off
portfolio and also typically receives certain incentive payments
based on a portfolios positive operating results.
Management
Agreements
Enstar has eight management agreements with third-party clients
to manage certain run-off portfolios with gross loss reserves,
as of December 31, 2007, of approximately
$1.7 billion. The fees generated by these engagements
include both fixed and incentive-based remuneration based on
Enstars success in achieving certain objectives. These
agreements do not include the recurring engagements managed by
Enstars claims inspection and reinsurance collection
subsidiaries, Cranmore Adjusters Limited and Kinsale Brokers
Limited, respectively.
Claims
Management and Administration
An integral factor to Enstars success is its ability to
analyze, administer, manage and settle claims and related
expenses, such as loss adjustment expenses. Enstars claims
teams are located in different offices within its organization
and provide global claims support. Enstar has implemented
effective claims handling guidelines along with claims reporting
and control procedures in all of its claims units. To ensure
that claims are appropriately
8
handled and reported in accordance with these guidelines, all
claims matters are reviewed regularly, with all material claims
matters being circulated to and authorized by management prior
to any action being taken.
When Enstar receives notice of a claim, regardless of size and
regardless of whether it is a paid claim request or a reserve
advice, it is reviewed and recorded within its claims system,
reserving Enstars rights where appropriate. Claims reserve
movements and payments are reviewed daily, with any material
movements being reported to management for review. This enables
flash reporting of significant events and potential
insurance or reinsurance losses to be communicated to senior
management worldwide on a timely basis irrespective from which
geographical location or business unit location the exposure
arises.
Enstar is also able to efficiently manage claims and obtain
savings through its extensive relationships with defense counsel
(both in-house and external), third-party claims administrators
and other professional advisors and experts. Enstar has
developed relationships and protocols to reduce the number of
outside counsel by consolidating claims of similar types and
complexity with experienced law firms specializing in the
particular type of claim. This approach has enabled Enstar to
more efficiently manage outside counsel and other third parties,
thereby reducing expenses, and to establish closer relationships
with ceding companies.
When appropriate, Enstar negotiates with direct insureds to buy
back policies either on favorable terms or to mitigate against
existing and/or potential future indemnity exposures and legal
costs in an uncertain and constantly evolving legal environment.
Enstar also pursues commutations on favorable terms with ceding
companies of reinsurance business in order to realize savings or
to mitigate against potential future indemnity exposures and
legal costs. Such buy-backs and commutations typically eliminate
all past, present and future liability to direct insureds and
reinsureds in return for a lump sum payment.
With regard to reinsurance receivables, Enstar manages cash flow
by working with reinsurers, brokers and professional advisors to
achieve fair and prompt payment of reinsured claims, taking
appropriate legal action to secure receivables where necessary.
Enstar also attempts where appropriate to negotiate favorable
commutations with its reinsurers by securing a lump sum
settlement from reinsurers in complete satisfaction of the
reinsurers past, present and future liability in respect
of such claims. Properly priced commutations reduce the expense
of adjusting direct claims and pursuing collection of
reinsurance receivables (both of which may often involve
extensive legal expense), realize savings, remove the potential
future volatility of claims and reduce required regulatory
capital.
Reserves
for Unpaid Losses and Loss Adjustment Expense
Applicable insurance laws and generally accepted accounting
practices require Enstar to maintain reserves to cover its
estimated losses under insurance policies that it has assumed
and for loss adjustment expense, or LAE, relating to the
investigation, administration and settlement of policy claims.
Enstars LAE reserves consist of both reserves for
allocated loss adjustment expenses, or ALAE, and for unallocated
loss adjustment expenses, or ULAE. ALAE are linked to the
settlement of an individual claim or loss, whereas ULAE reserve
is based on the Companys estimates of future costs to
administer the claims.
Enstar and its subsidiaries establish losses and LAE reserves
for individual claims by evaluating reported claims on the basis
of:
|
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|
|
its knowledge of the circumstances surrounding the claim;
|
|
|
|
the severity of the injury or damage;
|
|
|
|
the jurisdiction of the occurrence;
|
|
|
|
the potential for ultimate exposure;
|
|
|
|
the type of loss; and
|
|
|
|
its experience with the line of business and policy provisions
relating to the particular type of claim.
|
Because a significant amount of time can lapse between the
assumption of risk, the occurrence of a loss event, the
reporting of the event to an insurance or reinsurance company
and the ultimate payment of the claim on the loss event, the
liability for unpaid losses and LAE is based largely upon
estimates. Enstars management must use
9
considerable judgment in the process of developing these
estimates. The liability for unpaid losses and LAE for property
and casualty business includes amounts determined from loss
reports on individual cases and amounts for losses incurred but
not reported, or IBNR. Such reserves, including IBNR reserves,
are estimated by management based upon loss reports received
from ceding companies, supplemented by Enstars own
estimates of losses for which no ceding company loss reports
have yet been received.
In establishing reserves, management also considers actuarial
estimates of ultimate losses. Enstars actuaries employ
generally accepted actuarial methodologies and procedures to
estimate ultimate losses and loss expenses.
Enstars loss reserves are largely related to casualty
exposures including latent exposures primarily relating to
asbestos and environmental, or A&E, as discussed below. In
establishing the reserves for unpaid claims, management
considers facts currently known and the current state of the law
and coverage litigation. Liabilities are recognized for known
claims (including the cost of related litigation) when
sufficient information has been developed to indicate the
involvement of a specific insurance policy, and management can
reasonably estimate its liability. In addition, reserves are
established to cover loss development related to both known and
unasserted claims.
The estimation of unpaid claim liabilities is subject to a high
degree of uncertainty for a number of reasons. Unpaid claim
liabilities for property and casualty exposures in general are
impacted by changes in the legal environment, jury awards,
medical cost trends and general inflation. Moreover, for latent
exposures in particular, developed case law and adequate claims
history do not exist. There is significant coverage litigation
involved with these exposures which creates further uncertainty
in the estimation of the liabilities. Therefore, for these types
of exposures, it is especially unclear whether past claim
experience will be representative of future claim experience.
Ultimate values for such claims cannot be estimated using
reserving techniques that extrapolate losses to an ultimate
basis using loss development factors, and the uncertainties
surrounding the estimation of unpaid claim liabilities are not
likely to be resolved in the near future. There can be no
assurance that the reserves established by Enstar will be
adequate or will not be adversely affected by the development of
other latent exposures. The actuarial methods used to estimate
ultimate loss and ALAE for Enstars latent exposures are
discussed below.
For the non-latent loss exposures, a range of traditional loss
development extrapolation techniques is applied. Incremental
paid and incurred loss development methodologies are the most
commonly used methods. Traditional cumulative paid and incurred
loss development methods are used where inception-to-date,
cumulative paid and reported incurred loss development history
is available. These methods assume that groups of losses from
similar exposures will increase over time in a predictable
manner. Historical paid and incurred loss development experience
is examined for earlier underwriting years to make inferences
about how later underwriting years losses will develop.
Where company-specific loss information is not available or not
reliable, industry loss development information published by
reliable industry sources such as the Reinsurance Association of
America is considered.
The reserving process is intended to reflect the impact of
inflation and other factors affecting loss payments by taking
into account changes in historical payment patterns and
perceived trends. However, there is no precise method for the
subsequent evaluation of the adequacy of the consideration given
to inflation, or to any other specific factor, or to the way one
factor may affect another.
The loss development tables below show changes in Enstars
gross and net loss reserves in subsequent years from the prior
loss estimates based on experience as of the end of each
succeeding year. The estimate is increased or decreased as more
information becomes known about the frequency and severity of
losses for individual years. A redundancy means the original
estimate was higher than the current estimate; a deficiency
means that the current estimate is higher than the original
estimate. The first table shows, in the first section of the
table, Enstars gross reserve for unpaid losses (including
IBNR losses) and LAE. The second table shows, in the first
section of the table, Enstars reserve for unpaid losses
(including IBNR losses) and LAE net of reinsurance. The second
section of each table shows Enstars re-estimates of the
reserve in later years. The third section of each table shows
the cumulative amounts of losses paid as of the end of each
succeeding year. The cumulative redundancy line in
each table
10
represents, as of the date indicated, the difference between the
latest re-estimated liability and the reserves as originally
estimated.
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|
|
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|
|
|
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|
|
Gross Loss and Loss
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustment Expense
|
|
Year Ended December 31,
|
|
Reserves
|
|
2001
|
|
|
2002
|
|
|
2003
|
|
|
2004
|
|
|
2005
|
|
|
2006
|
|
|
2007
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Reserves assumed
|
|
$
|
419,717
|
|
|
$
|
284,409
|
|
|
$
|
381,531
|
|
|
$
|
1,047,313
|
|
|
$
|
806,559
|
|
|
$
|
1,214,419
|
|
|
$
|
1,591,449
|
|
1 year later
|
|
|
348,279
|
|
|
|
302,986
|
|
|
|
365,913
|
|
|
|
900,274
|
|
|
|
909,984
|
|
|
|
1,227,427
|
|
|
|
|
|
2 years later
|
|
|
360,558
|
|
|
|
299,281
|
|
|
|
284,583
|
|
|
|
1,002,773
|
|
|
|
916,480
|
|
|
|
|
|
|
|
|
|
3 years later
|
|
|
359,771
|
|
|
|
278,020
|
|
|
|
272,537
|
|
|
|
1,012,483
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4 years later
|
|
|
332,904
|
|
|
|
264,040
|
|
|
|
243,692
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5 years later
|
|
|
316,257
|
|
|
|
242,278
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6 years later
|
|
|
294,945
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
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|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
Gross Paid Losses
|
|
2001
|
|
|
2002
|
|
|
2003
|
|
|
2004
|
|
|
2005
|
|
|
2006
|
|
|
2007
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
1 year later
|
|
$
|
97,036
|
|
|
$
|
43,721
|
|
|
$
|
19,260
|
|
|
$
|
110,193
|
|
|
$
|
117,666
|
|
|
$
|
90,185
|
|
|
|
|
|
2 years later
|
|
|
123,844
|
|
|
|
64,900
|
|
|
|
43,082
|
|
|
|
226,225
|
|
|
|
198,407
|
|
|
|
|
|
|
|
|
|
3 years later
|
|
|
142,282
|
|
|
|
84,895
|
|
|
|
61,715
|
|
|
|
305,913
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4 years later
|
|
|
160,193
|
|
|
|
101,414
|
|
|
|
75,609
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5 years later
|
|
|
174,476
|
|
|
|
110,155
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6 years later
|
|
|
181,800
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserve Redundancy/ (Deficiency)
|
|
$
|
124,772
|
|
|
$
|
42,131
|
|
|
$
|
137,839
|
|
|
$
|
34,830
|
|
|
$
|
(109,921
|
)
|
|
$
|
(13,008
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Loss and Loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
|
Adjustment
|
|
Year Ended December 31,
|
|
Expense Reserves
|
|
2001
|
|
|
2002
|
|
|
2003
|
|
|
2004
|
|
|
2005
|
|
|
2006
|
|
|
2007
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Reserves assumed
|
|
$
|
224,507
|
|
|
$
|
184,518
|
|
|
$
|
230,155
|
|
|
$
|
736,660
|
|
|
$
|
593,160
|
|
|
$
|
872,260
|
|
|
$
|
1,163,485
|
|
1 year later
|
|
|
190,768
|
|
|
|
176,444
|
|
|
|
220,712
|
|
|
|
653,039
|
|
|
|
590,153
|
|
|
|
875,636
|
|
|
|
|
|
2 years later
|
|
|
176,118
|
|
|
|
178,088
|
|
|
|
164,319
|
|
|
|
652,195
|
|
|
|
586,059
|
|
|
|
|
|
|
|
|
|
3 years later
|
|
|
180,635
|
|
|
|
138,251
|
|
|
|
149,980
|
|
|
|
649,355
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4 years later
|
|
|
135,219
|
|
|
|
129,923
|
|
|
|
136,611
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5 years later
|
|
|
124,221
|
|
|
|
119,521
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6 years later
|
|
|
114,375
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
Net Paid Losses
|
|
2001
|
|
|
2002
|
|
|
2003
|
|
|
2004
|
|
|
2005
|
|
|
2006
|
|
|
2007
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
1 year later
|
|
$
|
38,634
|
|
|
$
|
10,557
|
|
|
$
|
11,354
|
|
|
$
|
78,488
|
|
|
$
|
79,398
|
|
|
$
|
43,896
|
|
|
|
|
|
2 years later
|
|
|
32,291
|
|
|
|
24,978
|
|
|
|
6,312
|
|
|
|
161,178
|
|
|
|
125,272
|
|
|
|
|
|
|
|
|
|
3 years later
|
|
|
44,153
|
|
|
|
17,304
|
|
|
|
9,161
|
|
|
|
206,351
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4 years later
|
|
|
34,483
|
|
|
|
24,287
|
|
|
|
(1,803
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5 years later
|
|
|
39,232
|
|
|
|
9,686
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6 years later
|
|
|
23,309
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserve Redundancy/ (Deficiency)
|
|
$
|
110,132
|
|
|
$
|
64,997
|
|
|
$
|
93,544
|
|
|
$
|
87,304
|
|
|
$
|
7,101
|
|
|
$
|
(3,376
|
)
|
|
|
|
|
The $13.0 million gross deficiency arising in 2007 on gross
reserves carried at December 31, 2006 is comprised of
$44.3 million deficiency on one of Enstars
subsidiaries offset by $31.3 million redundancy in
Enstars remaining insurance and reinsurance entities. This
subsidiary benefits from substantial reinsurance protection such
that the $44.3 million gross deficiency is reduced to a
$2.1 million net deficiency.
11
The following table provides a reconciliation of the liability
for losses and LAE, net of reinsurance ceded:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Net reserves for losses and loss adjustment expenses, beginning
of period
|
|
$
|
872,259
|
|
|
$
|
593,160
|
|
|
$
|
736,660
|
|
|
$
|
230,155
|
|
|
$
|
184,518
|
|
Incurred related to prior years
|
|
|
(24,482
|
)
|
|
|
(31,927
|
)
|
|
|
(96,007
|
)
|
|
|
(13,706
|
)
|
|
|
(24,044
|
)
|
Paids related to prior years
|
|
|
(20,422
|
)
|
|
|
(75,293
|
)
|
|
|
(69,007
|
)
|
|
|
(19,019
|
)
|
|
|
(4,094
|
)
|
Effect of exchange rate movement
|
|
|
18,625
|
|
|
|
24,856
|
|
|
|
3,652
|
|
|
|
4,124
|
|
|
|
10,575
|
|
Acquired on acquisition of subsidiaries
|
|
|
317,505
|
|
|
|
361,463
|
|
|
|
17,862
|
|
|
|
535,106
|
|
|
|
63,200
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net reserves for losses and loss adjustment expenses, end of
period
|
|
$
|
1,163,485
|
|
|
$
|
872,259
|
|
|
$
|
593,160
|
|
|
$
|
736,660
|
|
|
$
|
230,155
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In the table above, incurred losses and loss adjustment expenses
related to prior years represents changes in estimates of prior
period net loss and loss adjustment expense liabilities
comprising net incurred loss movements during a period and
changes in estimates of net IBNR liabilities. Net incurred
loss movements during a period comprise increases or reductions
in specific case reserves advised during the period to Enstar by
its policyholders and attorneys, or by Enstar to its reinsurers,
less claims settlements made during the period by Enstar to its
policyholders, plus claim receipts made to Enstar by its
reinsurers. Prior period estimates of net IBNR liabilities
may change as Enstars management considers the combined
impact of commutations, policy buy-backs, settlement of losses
on carried reserves and the trend of incurred loss development
compared to prior forecasts. The trend of incurred loss
development in any period comprises the movement in net case
reserves less net claims settled during the period. See
Managements Discussion and Analysis of
Financial Condition and Results of Operations
Critical Accounting Policies Loss and Loss
Adjustment Expenses beginning on page 54 for an
explanation of how the loss reserving methodologies are applied
to the movement, or development, of net incurred losses during a
period to estimate IBNR liabilities.
Commutations provide an opportunity for Enstar to exit exposures
to entire policies with insureds and reinsureds at a discount to
the previously estimated ultimate liability. Enstars
internal and external actuaries eliminate all prior historical
loss development that relates to commuted exposures and apply
their actuarial methodologies to the remaining aggregate
exposures and revised historical loss development information to
reassess estimates of ultimate liabilities.
Policy buy-backs provide an opportunity for Enstar to settle
individual policies and losses usually at a discount to carried
advised loss reserves. As part of Enstars routine claims
settlement operations, claims will settle at either below or
above the carried advised loss reserve. The impact of policy
buy-backs and the routine settlement of claims updates
historical loss development information to which actuarial
methodologies are applied often resulting in revised estimates
of ultimate liabilities. Enstars actuarial methodologies
include industry benchmarking which, under certain methodologies
(discussed further under Managements
Discussion and Analysis of Financial Condition and Results of
Operations Critical Accounting Policies
beginning on page 53), compares the trend of Enstars
loss development to that of the industry. To the extent that the
trend of Enstars loss development compared to the industry
changes in any period, it is likely to have an impact on the
estimate of ultimate liabilities.
Year
Ended December 31, 2007
Net reduction in loss and loss adjustment expense liabilities
for the year ended December 31, 2007 was
$24.5 million, excluding the impacts of adverse foreign
exchange rate movements of $18.6 million and including both
net reduction in loss and loss adjustment expense liabilities of
$9.0 million relating to companies acquired during the year
and premium and commission adjustments triggered by incurred
losses of $0.3 million.
The net reduction in loss and loss adjustment expense
liabilities for 2007 of $24.5 million was attributable to a
reduction in estimates of net ultimate losses of
$30.7 million and a reduction in estimates of loss
adjustment expense liabilities of $22.0 million, relating
to 2007 run-off activity, partially offset by an increase in
aggregate provisions for bad debt of $1.7 million,
primarily relating to companies acquired in 2006, and the
amortization, over the estimated payout period, of fair value
adjustments relating to companies acquired amounting to
$26.5 million.
12
The reduction in estimates of net ultimate losses of
$30.7 million comprised net adverse incurred loss
development of $1.0 million offset by reductions in
estimates of IBNR reserves of $31.7 million. An increase in
estimates of net ultimate losses of $2.1 million relating
to one of Enstars insurance entities was offset by
reductions in estimates of net ultimate losses of
$32.8 million in Enstars remaining insurance and
reinsurance entities.
The net adverse incurred loss development of $1.0 million
and reductions in IBNR reserves of $31.7 million,
respectively, comprised the following:
(i) net adverse incurred loss development in one of
Enstars reinsurance entities of $36.6 million,
whereby advised case reserves of $16.9 million were settled
for net paid losses of $53.5 million. This net adverse
incurred loss development resulted from the settlement of case
and LAE reserves above carried levels and from new loss advices,
partially offset by approximately 12 commutations of assumed and
ceded exposures below carried reserve levels. Actuarial analysis
of the remaining unsettled loss liabilities resulted in a
decrease in the estimate of IBNR loss reserves of
$13.1 million after consideration of the $36.6 million
adverse incurred loss development during the year, and the
application of the actuarial methodologies to loss data
pertaining to the remaining non-commuted exposures. Of the 12
commutations completed for this entity, three were among its top
ten cedant exposures. The remaining 9 were of a smaller size,
consistent with Enstars approach of targeting significant
numbers of cedant and reinsurer relationships as well as
targeting significant individual cedant and reinsurer
relationships. The entity in question also benefits from
substantial stop loss reinsurance protection whereby the
ultimate adverse loss development of $23.4 million was
largely offset by a recoverable from a single
AA- rated
reinsurer such that a net ultimate loss of $2.1 million was
retained by Enstar;
(ii) net favorable incurred loss development of
$29.0 million, comprising net paid loss recoveries,
relating to another one of Enstars reinsurance companies,
offset by increases in net IBNR loss reserves of
$29.0 million, resulting in no ultimate gain or loss. This
reinsurance company has retrocessional arrangements providing
for full reinsurance of all risks assumed; and
(iii) net favorable incurred loss development of
$6.5 million in Enstars remaining insurance and
reinsurance entities together with reductions in IBNR reserves
of $26.3 million. The net favorable incurred loss
development in Enstars remaining insurance and reinsurance
entities of $6.6 million, whereby net advised case and LAE
reserves of $2.5 million were settled for net paid loss
recoveries of $4.0 million, arose from the settlement of
non-commuted losses in the year below carried reserves and
approximately 57 commutations of assumed and ceded exposures at
less than case and LAE reserves. Enstar adopts a disciplined
approach to the review and settlement of non-commuted claims
through claims adjusting and the inspection of underlying
policyholder records such that settlements of assumed exposures
may often be achieved below the level of the originally advised
loss, and settlements of ceded receivables may often be achieved
at levels above carried balances. The net reduction in the
estimate of IBNR loss and loss adjustment expense liabilities
relating to Enstars remaining insurance and reinsurance
companies amounted to $26.3 million and results from the
application of Enstars reserving methodologies to
(a) the reduced historical incurred loss development
information relating to remaining exposures after the 57
commutations, and (b) reduced case and LAE reserves in the
aggregate. Of the 57 commutations completed during 2007 for the
remaining Enstar reinsurance and insurance companies, five were
among their top ten cedant
and/or
reinsurance exposures. The remaining 52 were of a smaller size,
consistent with Enstars approach of targeting significant
numbers of cedant and reinsurer relationships, as well as
targeting significant individual cedant and reinsurer
relationships.
Year
Ended December 31, 2006
Net reduction in loss and loss adjustment expense liabilities
for the year ended December 31, 2006 was
$31.9 million, excluding the impacts of adverse foreign
exchange rate movements of $24.9 million and including both
net reduction in loss and loss adjustment expense liabilities of
$2.7 million relating to companies acquired during the year
and premium and commission adjustments triggered by incurred
losses of $1.3 million. The net reduction in loss and loss
adjustment expense liabilities for 2006 of $31.9 million
was attributable to a reduction in estimates of net ultimate
losses of $21.4 million, a reduction in estimates of loss
adjustment expense liabilities of $15.1 million relating to
2006 run-off activity, a reduction in aggregate provisions for
bad debt of $6.3 million,
13
resulting from the collection of certain reinsurance receivables
against which bad debt provisions had been provided in earlier
periods, partially offset by the amortization, over the
estimated payout period, of fair value adjustments relating to
companies acquired amounting to $10.9 million. The
reduction in estimates of net ultimate losses of
$21.4 million comprised net adverse incurred loss
development of $37.9 million offset by reductions in
estimates of IBNR reserves of $59.3 million. An increase in
estimates of ultimate losses of $3.4 million relating to
one of Enstars insurance entities was offset by reductions
in estimates of net ultimate losses of $24.8 million in
Enstars remaining insurance and reinsurance entities.
The adverse incurred loss development of $37.9 million,
whereby advised case and LAE reserves of $37.4 million were
settled for net paid losses of $75.3 million, comprised
adverse incurred loss development of $59.2 million relating
to one of Enstars insurance companies partially offset by
favorable incurred loss development of $21.3 million
relating to Enstars remaining insurance and reinsurance
companies.
The adverse incurred loss development of $59.2 million
relating to one of Enstars insurance companies was
comprised of net paid loss settlements of $81.3 million
less reductions in case and LAE reserves of $22.1 million
and resulted from the settlement of case and LAE reserves above
carried levels and from new loss advices, partially offset by
approximately ten commutations of assumed and ceded exposures
below carried reserves levels. Actuarial analysis of the
remaining unsettled loss liabilities resulted in an increase in
the estimate of IBNR loss reserves of $35.0 million after
consideration of the $59.2 million adverse incurred loss
development during the year, and the application of the
actuarial methodologies to loss data pertaining to the remaining
non-commuted exposures. Factors contributing to the increase
include the establishment of a reserve to cover potential
exposure to lead paint claims, a significant increase in
asbestos reserves related to the entitys single largest
cedant (following a detailed review of the underlying
exposures), and a change in the assumed A&E loss reporting
time-lag as discussed further below. Of the ten commutations
completed for this entity, two were among its top ten cedant
and/or
reinsurance exposures. The remaining eight were of a smaller
size, consistent with Enstars approach of targeting
significant numbers of cedant and reinsurer relationships as
well as targeting significant individual cedant and reinsurer
relationships. The entity in question also benefits from
substantial stop loss reinsurance protection whereby the adverse
loss development of $59.2 million was largely offset by a
recoverable from a single
AA- rated
reinsurer. The increase in estimated net ultimate losses of
$3.4 million was retained by Enstar.
The favorable incurred loss development of $21.3 million,
relating to Enstars remaining insurance and reinsurance
companies, whereby net advised case reserves of
$15.3 million were settled for net paid loss recoveries of
$6.0 million, arose from approximately 35 commutations of
assumed and ceded exposures at less than case and LAE reserves,
where receipts from ceded commutations exceeded settlements of
assumed exposures, and the settlement of non-commuted losses in
the year below carried reserves. Enstar adopts a disciplined
approach to the review and settlement of non-commuted claims
through claims adjusting and the inspection of underlying
policyholder records such that settlements may often be achieved
below the level of the originally advised loss.
The net reduction in the estimate of IBNR loss and loss
adjustment expense liabilities relating to Enstars
remaining insurance and reinsurance companies (i.e., excluding
the net $55.8 million reduction in IBNR reserves relating
to the entity referred to above) amounted to $3.5 million.
This net reduction is comprised of an increase of
$19.8 million resulting from (i) a change in
assumptions as to the appropriate loss reporting time lag for
asbestos related exposures from two to three years and for
environmental exposures from two to two and one-half years,
which resulted in an increase in net IBNR reserves of
$6.4 million, and (ii) a reduction in ceded IBNR
recoverables of $13.4 million resulting from the
commutation of ceded reinsurance protections. The increase in
IBNR of $19.8 million is offset by a reduction of
$23.3 million resulting from the application Enstars
reserving methodologies to (i) the reduced historical
incurred loss development information relating to remaining
exposures after the 35 commutations, and (ii) reduced case
and LAE reserves in the aggregate. Of the 35 commutations
completed during 2006 for the remaining Enstar reinsurance and
insurance companies, ten were among their top ten cedant
and/or
reinsurance exposures. The remaining 25 were of a smaller size,
consistent with Enstars approach of targeting significant
numbers of cedant and reinsurer relationships as well as
targeting significant individual cedant and reinsurer
relationships.
14
Year
Ended December 31, 2005
Net reduction in loss and loss adjustment expense liabilities
for the year ended December 31, 2005 was
$96.0 million, excluding the impacts of adverse foreign
exchange rate movements of $3.7 million and including both
net reduction in loss and loss adjustment expense liabilities of
$7.4 million relating to companies acquired during the year
and premium and commission adjustments triggered by incurred
losses of $1.3 million. The net reduction in loss and loss
adjustment expense liabilities for 2005 of $96.0 million
was attributable to a reduction in estimates of net ultimate
losses of $73.2 million, a reduction in estimates of loss
adjustment expense liabilities of $10.5 million, relating
to 2005 run-off activity, and a reduction in aggregate
provisions for bad debt of $20.2 million, resulting from
the collection of certain reinsurance receivables against which
bad debt provisions had been provided in earlier periods,
partially offset by the amortization, over the estimated payout
period, of fair value adjustments relating to companies acquired
amounting to $7.9 million. The reduction in estimates of
net ultimate losses of $73.2 million was comprised of
favorable incurred loss development during the year of
$5.9 million and reductions in estimates of IBNR reserves
of $67.3 million. The favorable incurred loss development,
whereby advised case and LAE reserves of $74.9 million were
settled for net paid losses of $69.0 million, arose from
approximately 68 commutations of assumed and ceded exposures at
less than case and LAE reserves and the settlement of
non-commuted losses in the year below carried reserves. Enstar
adopts a disciplined approach, through claims adjusting and the
inspection of underlying policyholder records, to the review and
settlement of non-commuted claims such that settlements may
often be achieved below the level of the originally advised loss.
The $67.3 million reduction in the estimate of IBNR loss
and loss adjustment expense liabilities resulted from the
application of Enstars reserving methodologies to
(i) the reduced historical incurred loss development
information relating to remaining exposures after the 68
commutations, and (ii) reduced case and LAE reserves in the
aggregate. The application of Enstars reserving
methodologies to the reduced historical incurred loss
development information relating to Enstars remaining
exposures after elimination of the historical loss development
relating to the 68 commuted exposures had the following effects
(with the methodologies that weighed most heavily in the
analysis for this period listed first):
|
|
|
|
|
Under the Ultimate-to-Incurred Method, the application of the
ratio of estimated industry ultimate losses to industry
incurred-to-date losses to Enstars reduced
incurred-to-date losses resulted in reduced estimates of loss
reserves.
|
|
|
|
Application of the Paid Survival Ratio Method to the reduced
historical loss development information resulted in lower
expected average annual payment amounts compared to the previous
year, which, when multiplied by the expected industry benchmark
for future number of payment years, led to reductions in
Enstars estimated loss reserves.
|
|
|
|
Under the Paid Market Share Method, Enstars reduced
historical calendar year payments resulted in a reduction of
Enstars indicated market share of industry paid losses and
thus Enstars market share of estimated industry loss
reserves.
|
|
|
|
Under the Reserve-to-Paid Method, the application of the ratio
of industry reserves to industry paid-to-date losses to
Enstars reduced paid-to-date losses resulted in reduced
estimates of loss reserves.
|
Under the IBNR:Case Ratio Method, the application of ratios of
industry IBNR reserves to industry case reserves to
Enstars case reserves resulted in reduced estimates of
IBNR loss reserves as a result of the aggregate reduction,
combining the impact of commutations and settlement of
non-commuted losses, in Enstars case and LAE reserves of
$74.9 million during the year. As such case and LAE
reserves were settled for less than $74.9 million, the IBNR
reserves determined under the IBNR:Case Ratio Method associated
with such case reserves were eliminated. See
Managements Discussion and Analysis of
Financial Condition and Results of Operations
Critical Accounting Policies Loss and Loss
Adjustment Expense Liabilities beginning on page 54
for a further explanation of how the loss reserving
methodologies are applied to the movement, or development, of
net incurred losses during a period to estimate IBNR
liabilities. Of the 68 commutations completed during 2005, ten
were among the top ten cedant
and/or
reinsurance exposures of the individual Enstar reinsurance
subsidiaries involved. The remaining 58 were of smaller size,
consistent with Enstars approach of targeting
15
significant numbers of cedant and reinsurer relationships as
well as targeting significant individual cedant and reinsurer
relationships.
Year
Ended December 31, 2004
Net reduction in loss and loss adjustment expense for the year
ended 2004 amounted to $13.7 million, excluding the impacts
of adverse foreign exchange rate movements of $4.1 million
and including premium and commission adjustments triggered by
incurred losses of $0.1 million. Total favorable net
incurred loss development during 2004 of $14.7 million,
whereby advised case and LAE reserves of $33.7 million were
settled for net paid losses of $19.0 million, included
adverse incurred development of A&E exposures the
combination of which resulted in a net increase in IBNR loss
reserves of $15.7 million. The increase in IBNR of
$15.7 million offset by the favorable incurred development
of $14.7 million resulted in an increase in net ultimate
losses of $1.0 million. The favorable incurred loss
development arose from approximately 36 commutations of assumed
and ceded exposures at less than case and LAE reserves and the
settlement of losses in the year below carried reserves. Of the
36 commutations completed during 2004, three were among the top
ten cedant
and/or
reinsurance exposures of the individual Enstar reinsurance
subsidiaries involved. The remaining 33 were of smaller size,
consistent with Enstars approach of targeting significant
numbers of cedant and reinsurer relationships as well as
targeting significant individual cedant and reinsurer
relationships. There was no change to the provisions for bad
debts in 2004. In 2004, Enstar reduced its estimate of loss
adjustment expense liabilities by $14.7 million relating to
2004 run-off activity.
Year
Ended December 31, 2003
Net reduction in loss and loss adjustment expense liabilities
for the year ended December 31, 2003 was
$24.0 million, excluding the impacts of adverse foreign
exchange rate movements of $10.6 million and including net
reduction in loss and loss adjustment expense liabilities of
$5.4 million relating to companies acquired during the
year. The net reduction in loss and loss adjustment expense
liabilities for 2003 was primarily attributable to a reduction
in estimates of ultimate net losses of $13.6 million,
partly comprised of favorable incurred loss development during
the year of $5.8 million, whereby advised case and LAE
reserves of $9.9 million were settled for net paid losses
of $4.1 million. The favorable incurred loss development
arose from approximately 13 commutations of assumed and ceded
exposures at less than case and LAE reserves and the settlement
of losses in the year below carried reserves which contributed
to reductions in actuarial estimates of IBNR losses of
$7.8 million. Of the 13 commutations completed during 2003,
two were among the top ten cedant
and/or
reinsurance exposures of the individual Enstar reinsurance
subsidiaries involved. The remaining 11 were of smaller size,
consistent with Enstars approach of targeting significant
numbers of cedant and reinsurer relationships as well as
targeting significant individual cedant and reinsurer
relationships. During 2003, Enstar reduced its estimate of loss
adjustment expense liabilities by $10.4 million relating to
2003 run-off activity.
Asbestos
and Environmental (A&E) Exposure
General
A&E Exposures
A number of Enstars subsidiaries wrote general liability
policies and reinsurance prior to their acquisition by Enstar
under which policyholders continue to present asbestos-related
injury claims and claims alleging injury, damage or
clean-up
costs arising from environmental pollution. These policies, and
the associated claims, are referred to as A&E exposures.
The vast majority of these claims are presented under policies
written many years ago.
There is a great deal of uncertainty surrounding A&E
claims. This uncertainty impacts the ability of insurers and
reinsurers to estimate the ultimate amount of unpaid claims and
related LAE. The majority of these claims differ from any other
type of claim because there is inadequate loss development and
there is significant uncertainty regarding what, if any,
coverage exists, to which, if any, policy years claims are
attributable and which, if any, insurers/reinsurers may be
liable. These uncertainties are exacerbated by lack of clear
judicial precedent and legislative interpretations of coverage
that may be inconsistent with the intent of the parties to the
insurance contracts and expand theories of liability. The
insurance and reinsurance industry as a whole is engaged in
extensive
16
litigation over these coverage and liability issues and is,
thus, confronted with continuing uncertainty in its efforts to
quantify A&E exposures.
Enstars A&E exposure is administered out of its
offices in the United Kingdom and Rhode Island and centrally
administered from the United Kingdom. In light of the intensive
claim settlement process for these claims, which involves
comprehensive fact gathering and subject matter expertise,
management believes that it is prudent to have a centrally
administered claim facility to handle A&E claims on behalf
of all of Enstars subsidiaries. Enstars A&E
claims staff, working in conjunction with two
U.S.-qualified
attorneys experienced in A&E liabilities, proactively
administers, on a cost-effective basis, the A&E claims
submitted to Enstars insurance and reinsurance
subsidiaries.
Enstar uses industry benchmarking methodologies to estimate
appropriate IBNR reserves for Enstars A&E exposures.
These methods are based on comparisons of Enstars loss
experience on A&E exposures relative to industry loss
experience on A&E exposures. Estimates of IBNR are derived
separately for each relevant Enstar subsidiary and, for some
subsidiaries, separately for distinct portfolios of exposure.
The discussion that follows describes, in greater detail, the
primary actuarial methodologies used by Enstars
independent actuaries to estimate IBNR for A&E exposures.
In addition to the specific considerations for each method
described below, many general factors are considered in the
application of the methods and the interpretation of results for
each portfolio of exposures. These factors include the mix of
product types (e.g. primary insurance versus reinsurance of
primary versus reinsurance of reinsurance), the average
attachment point of coverages (e.g. first-dollar primary versus
umbrella over primary versus high-excess), payment and reporting
lags related to the international domicile of Enstar
subsidiaries, payment and reporting pattern acceleration due to
large wholesale settlements (e.g. policy buy-backs
and commutations) pursued by Enstar, lists of individual risks
remaining and general trends within the legal and tort
environments.
1. Paid Survival Ratio Method. In this
method, Enstars expected annual average payment amount is
multiplied by an expected future number of payment years to get
an indicated reserve. Enstars historical calendar year
payments are examined to determine an expected future annual
average payment amount. This amount is multiplied by an expected
number of future payment years to estimate a reserve. Trends in
calendar year payment activity are considered when selecting an
expected future annual average payment amount. Accepted industry
benchmarks are used in determining an expected number of future
payment years. Each year, annual payments data is updated,
trends in payments are re-evaluated and changes to benchmark
future payment years are reviewed. This method has advantages of
ease of application and simplicity of assumptions. A potential
disadvantage of the method is that results could be misleading
for portfolios of high excess exposures where significant
payment activity has not yet begun.
2. Paid Market Share Method. In this
method, Enstars estimated market share is applied to the
industry estimated unpaid losses. The ratio of Enstars
historical calendar year payments to industry historical
calendar year payments is examined to estimate Enstars
market share. This ratio is then applied to the estimate of
industry unpaid losses. Each year, calendar year payment data is
updated (for both Enstar and industry), estimates of industry
unpaid losses are reviewed and the selection of Enstars
estimated market share is revisited. This method has the
advantage that trends in calendar-year market share can be
incorporated into the selection of company share of remaining
market payments. A potential disadvantage of this method is that
it is particularly sensitive to assumptions regarding the
time-lag between industry payments and Enstar payments.
3. Reserve-to-Paid
Method. In this method, the ratio of estimated
industry reserves to industry
paid-to-date
losses is multiplied by Enstars
paid-to-date
losses to estimate Enstars reserves. Specific
considerations in the application of this method include the
completeness of Enstars
paid-to-date
loss information, the potential acceleration or deceleration in
Enstars payments (relative to the industry) due to
Enstars claims handling practices, and the impact of large
individual settlements. Each year,
paid-to-date
loss information is updated (for both Enstar and the industry)
and updates to industry estimated reserves are reviewed. This
method has the advantage of relying purely on paid loss data and
so is not influenced by subjectivity of case reserve loss
estimates. A potential disadvantage is that the application to
Enstar portfolios which do not have complete
inception-to-date
paid loss history could produce misleading results. To address
this potential disadvantage, a variation of the method is also
17
considered, which multiplies the ratio of estimated industry
reserves to industry losses paid during a recent period of time
(e.g. 5 years) times Enstars paid losses during that
period.
4. IBNR:Case Ratio Method. In this
method, the ratio of estimated industry IBNR reserves to
industry case reserves is multiplied by Enstars case
reserves to estimate Enstar IBNR reserves. Specific
considerations in the application of this method include the
presence of policies reserved at policy limits, changes in
overall industry case reserve adequacy and recent loss reporting
history for Enstar. Each year, Enstar case reserves are updated,
industry reserves are updated and the applicability of the
industry IBNR:case ratio is reviewed. This method has the
advantage that it incorporates the most recent estimates of
amounts needed to settle open cases included in current case
reserves. A potential disadvantage is that results could be
misleading where Enstar case reserve adequacy differs
significantly from overall industry case reserve adequacy.
5. Ultimate-to-Incurred
Method. In this method, the ratio of estimated
industry ultimate losses to industry
incurred-to-date
losses is applied to Enstar
incurred-to-date
losses to estimate Enstars IBNR reserves. Specific
considerations in the application of this method include the
completeness of Enstars
incurred-to-date
loss information, the potential acceleration or deceleration in
Enstars incurred losses (relative to the industry) due to
Enstars claims handling practices and the impact of large
individual settlements. Each year
incurred-to-date
loss information is updated (for both Enstar and the industry)
and updates to industry estimated ultimate losses are reviewed.
This method has the advantage that it incorporates both paid and
case reserve information in projecting ultimate losses. A
potential disadvantage is that results could be misleading where
cumulative paid loss data is incomplete or where Enstar case
reserve adequacy differs significantly from overall industry
case reserve adequacy.
Within the annual loss reserve studies produced by Enstars
external actuaries, exposures for each subsidiary are separated
into homogeneous reserving categories for the purpose of
estimating IBNR. Each reserving category contains either direct
insurance or assumed reinsurance reserves and groups relatively
similar types of risks and exposures (e.g. asbestos,
environmental, casualty and property) and lines of business
written (e.g. marine, aviation and non-marine). Based on the
exposure characteristics and the nature of available data for
each individual reserving category, a number of methodologies
are applied. Recorded reserves for each category are selected
from the indications produced by the various methodologies after
consideration of exposure characteristics, data limitations and
strengths and weaknesses of each method applied. This approach
to estimating IBNR has been consistently adopted in the annual
loss reserve studies for each period presented.
As of December 31, 2007, Enstar had 19 separate insurance
and/or
reinsurance subsidiaries whose reserves are categorized into
approximately 146 reserve categories in total, including 22
distinct asbestos reserving categories and 20 distinct
environmental reserving categories.
The five methodologies described above are applied for each of
the 22 asbestos reserving categories and each of the 20
environmental reserving categories. As is common in actuarial
practice, no one methodology is exclusively or consistently
relied upon when selecting a recorded reserve. Consistent
reliance on a single methodology to select a recorded reserve
would be inappropriate in light of the dynamic nature of both
the A&E liabilities in general, and the actual Enstar
exposure portfolios in particular.
In selecting a recorded reserve, management considers the range
of results produced by the methods, and the strengths and
weaknesses of the methods in relation to the data available and
the specific characteristics of the portfolio under
consideration. Trends in both Enstar data and industry data are
also considered in the reserve selection process. Recent trends
or changes in the relevant tort and legal environments are also
considered when assessing methodology results and selecting an
appropriate recorded reserve amount for each portfolio.
The liability for unpaid losses and LAE, inclusive of A&E
reserves, reflects Enstars best estimate for future
amounts needed to pay losses and related LAE as of each of the
balance sheet dates reflected in the financial statements herein
in accordance with GAAP. As of December 31, 2007, Enstar
had net loss reserves of $355.2 million for
asbestos-related claims and $64.8 million for environmental
pollution-related claims. The following table
18
provides an analysis of Enstars gross and net loss and
ALAE reserves from A&E exposures at year-end 2007, 2006 and
2005 and the movement in gross and net reserves for those years:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
Gross
|
|
|
Net
|
|
|
Gross
|
|
|
Net
|
|
|
Gross
|
|
|
Net
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Provisions for A&E claims and ALAE at January 1
|
|
$
|
666,075
|
|
|
$
|
389,086
|
|
|
$
|
578,079
|
|
|
$
|
385,020
|
|
|
$
|
743,294
|
|
|
$
|
481,214
|
|
A&E losses and ALAE incurred during the year
|
|
|
22,728
|
|
|
|
23,294
|
|
|
|
90,482
|
|
|
|
43,617
|
|
|
|
(93,705
|
)
|
|
|
(32,668
|
)
|
A&E losses and ALAE paid during the year
|
|
|
(57,184
|
)
|
|
|
(25,457
|
)
|
|
|
(80,333
|
)
|
|
|
(60,635
|
)
|
|
|
(78,635
|
)
|
|
|
(69,014
|
)
|
Provision for A&E claims and ALAE acquired during the year
|
|
|
45,991
|
|
|
|
33,054
|
|
|
|
77,847
|
|
|
|
21,083
|
|
|
|
7,125
|
|
|
|
5,489
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision for A&E claims and ALAE at December 31,
|
|
$
|
677,610
|
|
|
$
|
419,977
|
|
|
$
|
666,075
|
|
|
$
|
389,085
|
|
|
$
|
578,079
|
|
|
$
|
385,021
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During 2007, excluding the impact of loss reserves acquired
during the year, our reserves for A&E liabilities decreased
by $34.5 million on a gross basis and by $2.2 million
on a net basis. The reduction arose from paid claims, successful
commutations, policy buy-backs, generally favorable claim
settlements and a reduction in IBNR resulting from actuarial
analysis of remaining liabilities during the year.
During 2006, excluding the impact of loss reserves acquired
during the year, our reserves for A&E liabilities increased
by $10.1 million on a gross basis and decreased by
$17.0 million on a net basis. The increase in gross
reserves arose from adverse incurred development and actuarial
analysis of remaining liabilities from one particular Enstar
insurance subsidiary amounting to $104.7 million less claim
settlements of $73.2 million. As the entity in question
benefits from substantial reinsurance protection, the gross
incurred loss of $104.7 million is reduced to
$10.1 million on a net basis.
Excluding the impact of loss reserves acquired during the year,
our reserves for A&E liabilities decreased during 2005 by
$172.3 million on a gross basis ($101.7 million on a
net basis). The reduction arose from paid claims, successful
commutations, policy buybacks, generally favorable claim
settlements and actuarial analysis of remaining liabilities
during the year.
Asbestos continues to be the most significant and difficult mass
tort for the insurance industry in terms of claims volume and
expense. Enstar believes that the insurance industry has been
adversely affected by judicial interpretations that have had the
effect of maximizing insurance recoveries for asbestos claims,
from both a coverage and liability perspective. Generally, only
policies underwritten prior to 1986 have potential asbestos
exposure, since most policies underwritten after this date
contain an absolute asbestos exclusion.
In recent years, especially from 2001 through 2003, the industry
has experienced increasing numbers of asbestos claims, including
claims from individuals who do not appear to be impaired by
asbestos exposure. Since 2003, however, new claim filings have
been fairly stable. It is possible that the increases observed
in the early part of the decade were triggered by various state
tort reforms (discussed immediately below). At this point,
Enstar cannot predict whether claim filings will return to
pre-2004 levels, remain stable, or begin to decrease.
Since 2001, several U.S. states have proposed, and in many
cases enacted, tort reform statutes that impact asbestos
litigation by, for example, making it more difficult for a
diverse group of plaintiffs to jointly file a single case,
reducing forum-shopping by requiring that a
potential plaintiff must have been exposed to asbestos in the
state in which
he/she files
a lawsuit, or permitting consolidation of discovery. These
statutes typically apply to suits
19
filed after a stated date. When a statute is proposed or
enacted, asbestos defendants often experience a marked increase
in new lawsuits, as plaintiffs attorneys seek to file suit
before the effective date of the legislation. Some of this
increased claim volume likely represents an acceleration of
valid claims that would have been brought in the future, while
some claims will likely prove to have little or no merit. As
many of these claims are still pending, Enstar cannot predict
what portion of the increased number of claims represent valid
claims. Also, the acceleration of claims increases the
uncertainty surrounding projections of future claims in the
affected jurisdictions.
During the same timeframe as tort reform, the U.S. federal
and various U.S. state governments sought comprehensive
asbestos reform to manage the growing court docket and costs
surrounding asbestos litigation, in addition to the increasing
number of corporate bankruptcies resulting from overwhelming
asbestos liabilities. Whereas the federal government has failed
to establish a national asbestos trust fund to address the
asbestos problem, several states, including Texas and Florida,
have implemented a medical criteria reform approach that only
permits litigation to proceed when a plaintiff can establish and
demonstrate actual physical impairment.
Much like tort reform, asbestos litigation reform has also
spurred a significant increase in the number of lawsuits filed
in advance of the laws enactment. Enstar cannot predict
whether the drop off in the number of filed claims is due to the
accelerated number of filings or an actual trend decline in
alleged asbestos injuries.
Environmental
Pollution Exposures
Environmental pollution claims represent another significant
exposure for Enstar. However, environmental pollution claims
have been developing as expected over the past few years as a
result of stable claim trends. Claims against Fortune
500 companies are generally declining, and while insureds
with single-site exposures are still active, in many cases
claims are being settled for less than initially anticipated due
to improved site remediation technology and effective policy
buy-backs.
Despite the stability of recent trends, there remains
significant uncertainty involved in estimating liabilities
related to these exposures. Unlike asbestos claims which are
generated primarily from allegedly injured private individuals,
environmental claims generally result from governmentally
initiated activities. First, the number of waste sites subject
to cleanup is unknown. Approximately 1,200 sites are included on
the National Priorities List (NPL) of the United States
Environmental Protection Agency, or USEPA. State authorities
have separately identified many additional sites and, at times,
aggressively implement site cleanups. Second, the liabilities of
the insureds themselves are difficult to estimate. At any given
site, the allocation of remediation cost among the potentially
responsible parties varies greatly depending upon a variety of
factors. Third, as with asbestos liability and coverage issues,
judicial precedent regarding liability and coverage issues
regarding pollution claims does not provide clear guidance.
There is also uncertainty as to the U.S. federal
Superfund law itself and, at this time, Enstar
cannot predict what, if any, reforms to this law might be
enacted by the U.S. federal government, or the effect of
any such changes on the insurance industry.
Other
Latent Exposures
While Enstar does not view health hazard exposures such as
silica and tobacco as becoming a material concern, recent
developments in lead litigation have caused Enstar to watch
these matters closely. Recently, municipal and state governments
have had success, using a public nuisance theory, pursuing the
former makers of lead pigment for the abatement of lead paint in
certain home dwellings. As lead paint was used almost
exclusively into the early 1970s, large numbers of old
housing stock contain lead paint that can prove hazardous to
people and, particularly, children. Although governmental
success has been limited thus far, Enstar continues to monitor
developments carefully due to the size of the potential awards
sought by plaintiffs.
Investments
Investment
Strategy and Guidelines
We derive a significant portion of our income from our invested
assets. As a result, our operating results depend in part on the
performance of our investment portfolio. Because of the
unpredictable nature of losses that may arise under our
insurance and reinsurance subsidiaries insurance or
reinsurance policies and as a result of our
20
opportunistic commutation strategy, our liquidity needs can be
substantial and may arise at any time. We generally follow a
conservative investment strategy designed to emphasize the
preservation of our invested assets and provide sufficient
liquidity for the prompt payment of claims and settlement of
commutation payments.
As of December 31, 2007 and 2006, we had cash and cash
equivalents of $1.16 billion and $0.51 billion, respectively.
Our cash and cash equivalent portfolio is comprised mainly of
high-grade fixed deposits, commercial paper with maturities of
less than three months and liquid reserve funds.
Our investment portfolio consists primarily of high investment
grade-rated, liquid, fixed-maturity securities of
short-to-medium
term duration, and mutual funds 87.4% and 94.3% of
our total investment portfolio as of December 31, 2007 and
2006, respectively, consisted of investment grade securities.
The decrease in percentage of our investments held in investment
grade securities was due to our redemption of 100% of our
holdings in the Goldman Sachs mutual fund, which were, as of
December 31, 2006, classified as investments, and the
proceeds of which were reinvested in cash and cash equivalent
instruments. In addition, we have other investments, which are
non-investment grade securities these investments
accounted for 12.6% and 5.7% of our total investment portfolio
as of December 31, 2007 and 2006, respectively. Assuming
the commitments to the other investments were fully funded as of
December 31, 2007 out of cash balances on hand at that
time, the percentage of investments held in other than
investment grade securities would increase to 21.7%.
We strive to structure our investments in a manner that
recognizes our liquidity needs for future liabilities. In that
regard, we attempt to correlate the maturity and duration of our
investment portfolio to our general liability profile. If our
liquidity needs or general liability profile unexpectedly
change, we may not continue to structure our investment
portfolio in its current manner and would adjust as necessary to
meet new business needs.
Our investment performance is subject to a variety of risks,
including risks related to general economic conditions, market
volatility, interest rate fluctuations, foreign exchange risk,
liquidity risk and credit and default risk. Interest rates are
highly sensitive to many factors, including governmental
monetary policies, domestic and international economic and
political conditions and other factors beyond our control. A
significant increase in interest rates could result in
significant losses, realized or unrealized, in the value of our
investment portfolio. A significant portion of our
non-investment grade securities consist of alternative
investments that subject us to restrictions on redemption, which
may limit our ability to withdraw funds for some period of time
after the initial investment. The values of, and returns on,
such investments may also be more volatile.
Investment
Committee and Investment Manager
The investment committee of our board of directors supervises
the Companys investment activity. The investment committee
regularly monitors our overall investment results which it
ultimately reports to the board of directors.
We have engaged Goldman Sachs to provide investment management
services. We have agreed to pay investment management fees based
on the month-end market values of a portion of the investments
in the portfolio. The fees, which vary depending on the amount
of assets under management, are included in net investment
income.
Investment
Portfolio
Accounting
Treatment
Our investments primarily consist of fixed income securities.
Our fixed income investments are comprised of
available-for-sale, held to maturity and trading investments as
defined in FAS 115, Accounting for Certain
Investments in Debt and Equity Securities. Held to
maturity investments are carried at their amortized cost and
both the available-for-sale and trading investments are carried
at their fair value on the balance sheet date. Unrealized
holdings gains and losses on trading investments, which
represent the difference between the amortized cost and the fair
market value of securities, are recorded as investment income in
net earnings.
21
Composition
as of December 31, 2007
As of December 31, 2007, our aggregate invested assets
totaled approximately $1.80 billion. Aggregate invested
assets include cash and cash equivalents, restricted cash and
cash equivalents, fixed-maturity securities, equities,
short-term investments and other investments.
The following table shows the types of securities in our
portfolio, including cash equivalents, and their fair market
values and amortized costs as of December 31, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
Fair Market
|
|
|
|
Cost
|
|
|
Gains
|
|
|
Losses
|
|
|
Value
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Cash and cash equivalents(1)
|
|
$
|
1,163,333
|
|
|
$
|
0
|
|
|
$
|
0
|
|
|
$
|
1,163,333
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. government & agencies
|
|
|
370,657
|
|
|
|
6,090
|
|
|
|
(365
|
)
|
|
|
376,382
|
|
Non-U.S.
government securities
|
|
|
7,948
|
|
|
|
353
|
|
|
|
(12
|
)
|
|
|
8,289
|
|
Corporate securities
|
|
|
173,095
|
|
|
|
1,600
|
|
|
|
(2,387
|
)
|
|
|
172,308
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed income
|
|
|
551,700
|
|
|
|
8,043
|
|
|
|
(2,764
|
)
|
|
|
556,979
|
|
Other investments
|
|
|
75,300
|
|
|
|
|
|
|
|
|
|
|
|
75,300
|
|
Equities
|
|
|
4,900
|
|
|
|
|
|
|
|
|
|
|
|
4,900
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investments
|
|
|
631,900
|
|
|
|
8,043
|
|
|
|
(2,764
|
)
|
|
|
637,179
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash & investments
|
|
$
|
1,795,233
|
|
|
$
|
8,043
|
|
|
$
|
(2,764
|
)
|
|
$
|
1,800,512
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Includes restricted cash and cash equivalents of $168,096 |
U.S.
Government and Agencies
U.S. government and agency securities are comprised
primarily of bonds issued by the U.S. Treasury, the Federal
Home Loan Bank, the Federal Home Loan Mortgage Corporation and
the Federal National Mortgage Association.
Non-U.S.
Government Securities
Non-U.S. government
securities represent the fixed income obligations of
non-U.S. governmental
entities.
Corporate
Securities
Corporate securities are comprised of bonds issued by
corporations that are diversified across a wide range of issuers
and industries. The largest single issuer of corporate
securities in our portfolio was Goldman Sachs Group Inc., which
represented 15% of the aggregate amount of corporate securities
and had a credit rating of AA- by Standard &
Poors, as of December 31, 2007.
Other
Investments
In December 2005, we invested in New NIB Partners LP, or
NIB Partners, a Province of Alberta limited partnership, in
exchange for an approximately 1.6% limited partnership interest.
NIB Partners was formed for the purpose of purchasing, together
with certain affiliated entities, 100% of the outstanding share
capital of NIBC Holding N.V. (formerly, NIB Capital N.V.) and
its affiliates, or NIBC. J. Christopher Flowers, a member
of our board of directors and one of our largest shareholders,
is a director of New NIB Limited and is on the supervisory board
of NIBC. Certain affiliates of J.C. Flowers I L.P., which is
managed by J.C. Flowers & Co., LLC of which
Mr. Flowers and Mr. John J. Oros, our Executive
Chairman, are Managing Directors, also participated in the
acquisition of NIBC. Certain of our officers and directors made
personal investments in NIB Partners.
Enstar owns a non-voting 7% membership interest in Affirmative
Investment LLC, or Affirmative. J.C. Flowers I LP, a
private investment fund formed by J.C. Flowers & Co.
LLC, of which Mr. Flowers and
22
Mr. Oros are managing directors, owns the remaining 93%
interest in Affirmative. Affirmative owns approximately 51.2% of
the outstanding stock of Affirmative Insurance Holdings, a
publicly traded company.
We have a capital commitment of up to $10 million in the
GSC European Mezzanine Fund II, LP, or GSC. GSC invests in
mezzanine securities of middle and large market companies
throughout Western Europe. As of December 31, 2007, the
capital contributed to GSC was $2.8 million with the
remaining commitment being $7.2 million. The
$10 million represents 8.5% of the total commitments made
to GSC.
We have also committed to invest up to $100 million in the
Flowers Fund. During 2007, we funded a total of
$12.2 million of our remaining commitment to the Flowers
Fund, which increased our total funding in the Flowers Fund to
$32.6 million as of December 31, 2007. As of
January 14, 2008, we funded an additional
$20.9 million of our $100 million commitment. We
intend to use cash on hand to fund our remaining commitment.
During 2007, we received $1.2 million in advisory service
fees from the Flowers Fund.
Equities
During 2007 we purchased two equity portfolios that invest in
both small and large market capitalization publicly traded
U.S. companies. The equity portfolios are actively managed
by a third-party manager.
Ratings
as of December 31, 2007
The investment ratings (provided by major rating agencies) for
our fixed income investments held as of December 31, 2007
and the percentage of investments they represented on that date
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
|
|
|
|
|
|
|
Percentage of
|
|
|
|
Amortized
|
|
|
Fair Market
|
|
|
Total Fair
|
|
|
|
Cost
|
|
|
Value
|
|
|
Market Value
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
U.S. government & agencies
|
|
$
|
370,657
|
|
|
$
|
376,382
|
|
|
|
67.6
|
%
|
AAA or equivalent
|
|
|
72,030
|
|
|
|
71,704
|
|
|
|
12.9
|
%
|
AA
|
|
|
55,344
|
|
|
|
55,077
|
|
|
|
9.9
|
%
|
A or equivalent
|
|
|
41,827
|
|
|
|
41,676
|
|
|
|
7.5
|
%
|
BBB and BB
|
|
|
11,842
|
|
|
|
12,140
|
|
|
|
2.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
551,700
|
|
|
$
|
556,979
|
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Maturity
Distribution as of December 31, 2007
The maturity distribution for our fixed income investments held
as of December 31, 2007 was as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
Fair Market
|
|
|
|
Cost
|
|
|
Gains
|
|
|
Losses
|
|
|
Value
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Due within one year
|
|
$
|
102,469
|
|
|
$
|
52
|
|
|
$
|
(175
|
)
|
|
$
|
102,346
|
|
Due after one year through five years
|
|
$
|
269,303
|
|
|
|
3,756
|
|
|
|
(324
|
)
|
|
$
|
272,735
|
|
Due after five years through ten years
|
|
$
|
77,486
|
|
|
|
1,864
|
|
|
|
(385
|
)
|
|
$
|
78,965
|
|
Due after ten years
|
|
|
102,442
|
|
|
|
2,371
|
|
|
|
(1,880
|
)
|
|
|
102,933
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
551,700
|
|
|
$
|
8,043
|
|
|
$
|
(2,764
|
)
|
|
$
|
556,979
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
23
Investment
Returns for the Years ended December 31, 2007 and
2006
Our investment returns for the years ended December 31,
2007 and 2006 were as follows:
|
|
|
|
|
|
|
|
|
|
|
Year Ended
|
|
|
Year Ended
|
|
|
|
December 31, 2007
|
|
|
December 31, 2006
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Net investment income
|
|
$
|
64,087
|
|
|
$
|
48,099
|
|
Net realized gains (losses)
|
|
|
249
|
|
|
|
(98
|
)
|
|
|
|
|
|
|
|
|
|
Net investment income and net realized gains (losses)
|
|
$
|
64,336
|
|
|
$
|
48,001
|
|
|
|
|
|
|
|
|
|
|
Effective annualized yield (1)
|
|
|
4.57
|
%
|
|
|
4.43
|
%
|
|
|
|
(1) |
|
Effective annualized yield is calculated by dividing net
investment income by the average balance of aggregate cash and
cash equivalents, equities and fixed income securities on an
amortized cost basis. Trading securities where the investment
return is for the benefit of insureds and reinsurers are
excluded from the calculation. |
Regulation
General
The business of insurance and reinsurance is regulated in most
countries, although the degree and type of regulation varies
significantly from one jurisdiction to another. Enstar is
subject to extensive regulation under applicable statutes in the
United Kingdom, Bermuda, Belgium and other jurisdictions.
Bermuda
As a holding company, Enstar is not subject to Bermuda insurance
regulations. However, the Insurance Act 1978 of Bermuda and
related regulations, as amended, or, together, the Insurance
Act, regulate the insurance business of Enstars operating
subsidiaries in Bermuda and provide that no person may carry on
any insurance business in or from within Bermuda unless
registered as an insurer by the Bermuda Monetary Authority, or
BMA, under the Insurance Act. Insurance as well as reinsurance
is regulated under the Insurance Act.
The Insurance Act also imposes on Bermuda insurance companies
certain solvency and liquidity standards and auditing and
reporting requirements and grants the BMA powers to supervise,
investigate, require information and the production of documents
and intervene in the affairs of insurance companies. Certain
significant aspects of the Bermuda insurance regulatory
framework are set forth below.
Classification of Insurers. The Insurance Act
distinguishes between insurers carrying on long-term business
and insurers carrying on general business. There are four
classifications of insurers carrying on general business, with
Class 4 insurers subject to the strictest regulation.
Enstars regulated Bermuda subsidiaries, which are
incorporated to carry on general insurance and reinsurance
business, are registered as Class 2 or 3 insurers in
Bermuda and are regulated as such under the Insurance Act. These
regulated Bermuda subsidiaries are not licensed to carry on
long-term business. Long-term business broadly includes life
insurance and disability insurance with terms in excess of five
years. General business broadly includes all types of insurance
that are not long-term business.
Principal Representative. An insurer is
required to maintain a principal office in Bermuda and to
appoint and maintain a principal representative in Bermuda. For
the purpose of the Insurance Act, each of Enstars
regulated Bermuda subsidiaries principal offices is at
P.O. Box HM 2267, Windsor Place, 3rd Floor, 18
Queen Street, in Hamilton, Bermuda, and each of their principal
representatives is Enstar Limited. Without a reason acceptable
to the BMA, an insurer may not terminate the appointment of its
principal representative, and the principal representative may
not cease to act in that capacity, unless 30 days
notice in writing is given to the BMA. It is the duty of the
principal representative, forthwith on reaching the view that
there is a likelihood that the insurer will become insolvent or
that a reportable event has, to the principal
representatives knowledge, occurred or is believed to have
occurred, to notify the BMA and, within 14 days of such
notification, to make a report in writing to the BMA setting
forth all the particulars of the case that are available to the
principal representative. For example,
24
any failure by the insurer to comply substantially with a
condition imposed upon the insurer by the BMA relating to a
solvency margin or a liquidity or other ratio would be a
reportable event.
Independent Approved Auditor. Every registered
insurer must appoint an independent auditor who will audit and
report annually on the statutory financial statements and the
statutory financial return of the insurer, both of which, in the
case of Enstars regulated Bermuda subsidiaries, are
required to be filed annually with the BMA. The independent
auditor must be approved by the BMA and may be the same person
or firm that audits Enstars consolidated financial
statements and reports for presentation to its shareholders.
Enstars regulated Bermuda subsidiaries independent
auditor is Deloitte & Touche, who also audits
Enstars consolidated financial statements.
Loss Reserve Specialist. As a registered
Class 2 or 3 insurer, each of Enstars regulated
Bermuda insurance and reinsurance subsidiaries is required,
every year, to submit an opinion of its approved loss reserve
specialist with its statutory financial return in respect of its
losses and loss expenses provisions. The loss reserve
specialist, who will normally be a qualified casualty actuary,
must be approved by the BMA.
Statutory Financial Statements. Each of
Enstars regulated Bermuda subsidiaries must prepare annual
statutory financial statements. The Insurance Act prescribes
rules for the preparation and substance of these statutory
financial statements, which include, in statutory form, a
balance sheet, an income statement, a statement of capital and
surplus and notes thereto. Each of Enstars regulated
Bermuda subsidiaries is required to give detailed information
and analyses regarding premiums, claims, reinsurance and
investments. The statutory financial statements are not prepared
in accordance with U.S. GAAP and are distinct from the
financial statements prepared for presentation to an
insurers shareholders under the Companies Act. As a
general business insurer, each of Enstars regulated
Bermuda subsidiaries is required to submit the annual statutory
financial statements as part of the annual statutory financial
return. The statutory financial statements and the statutory
financial return do not form part of the public records
maintained by the BMA.
Annual Statutory Financial Return. Each of
Enstars regulated Bermuda Class 2 and 3 insurance and
reinsurance subsidiaries are required to file with the BMA a
statutory financial return no later than six or four months,
respectively, after its fiscal year end unless specifically
extended upon application to the BMA. The statutory financial
return for a Class 2 or 3 insurer includes, among other
matters, a report of the approved independent auditor on the
statutory financial statements of the insurer, solvency
certificates, the statutory financial statements, and the
opinion of the loss reserve specialist. The solvency
certificates must be signed by the principal representative and
at least two directors of the insurer certifying that the
minimum solvency margin has been met and whether the insurer has
complied with the conditions attached to its certificate of
registration. The independent approved auditor is required to
state whether, in its opinion, it was reasonable for the
directors to make these certifications. If an insurers
accounts have been audited for any purpose other than compliance
with the Insurance Act, a statement to that effect must be filed
with the statutory financial return.
Minimum Liquidity Ratio. The Insurance Act
provides a minimum liquidity ratio for general business
insurers, like Enstars regulated Bermuda insurance and
reinsurance subsidiaries. An insurer engaged in general business
is required to maintain the value of its relevant assets at not
less than 75% of the amount of its relevant liabilities.
Relevant assets include, but are not limited to, cash and time
deposits, quoted investments, unquoted bonds and debentures,
first liens on real estate, investment income due and accrued,
accounts and premiums receivable and reinsurance balances
receivable. There are some categories of assets which, unless
specifically permitted by the BMA, do not automatically qualify
as relevant assets, such as unquoted equity securities,
investments in and advances to affiliates and real estate and
collateral loans. Relevant liabilities are total general
business insurance reserves and total other liabilities less
deferred income tax and sundry liabilities (i.e., liabilities
which are not otherwise specifically defined).
Minimum Solvency Margin and Restrictions on Dividends and
Distributions. Under the Insurance Act, the value
of the general business assets of a Class 2 or 3 insurer,
such as Enstars regulated Bermuda subsidiaries, must
exceed the amount of its general business liabilities by an
amount greater than the prescribed minimum solvency
25
margin. Each of Enstars regulated Bermuda subsidiaries is
required, with respect to its general business, to maintain a
minimum solvency margin equal to the greatest of:
For Class 2 insurers:
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|
|
|
|
$250,000;
|
|
|
|
20% of net premiums written (being gross premiums written less
any premiums ceded by the insurer) if net premiums do not exceed
$6,000,000 or $1,200,000 plus 10% of net premiums written which
exceed $6,000,000; and
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|
|
|
10% of net losses and loss expense reserves.
|
For Class 3 insurers:
|
|
|
|
|
$1,000,000;
|
|
|
|
20% of net premiums written (being gross premiums written less
any premiums ceded by the insurer) if net premiums do not exceed
$6,000,000 or $1,200,000 plus 15% of net premiums written which
exceed $6,000,000; and
|
|
|
|
15% of net losses and loss expense reserves.
|
Each of Enstars regulated Bermuda insurance and
reinsurance subsidiaries is prohibited from declaring or paying
any dividends during any fiscal year if it is in breach of its
minimum solvency margin or minimum liquidity ratio or if the
declaration or payment of such dividends would cause it to fail
to meet such margin or ratio. In addition, if it has failed to
meet its minimum solvency margin or minimum liquidity ratio on
the last day of any fiscal year, each of Enstars regulated
Bermuda subsidiaries will be prohibited, without the approval of
the BMA, from declaring or paying any dividends during the next
financial year.
Each of Enstars regulated Bermuda insurance and
reinsurance subsidiaries is prohibited, without the approval of
the BMA, from reducing by 15% or more its total statutory
capital as set out in its previous years financial
statements.
Additionally, under the Companies Act, Enstar and each of its
regulated Bermuda subsidiaries may declare or pay a dividend, or
make a distribution from contributed surplus, only if it has no
reasonable grounds for believing that the subsidiary is, or will
be, after the payment, unable to pay its liabilities as they
become due, or that the realizable value of its assets will
thereby be less than the aggregate of its liabilities and its
issued share capital and share premium accounts.
Supervision, Investigation and
Intervention. The BMA may appoint an inspector
with extensive powers to investigate the affairs of
Enstars regulated Bermuda insurance and reinsurance
subsidiaries if the BMA believes that such an investigation is
in the best interests of its policyholders or persons who may
become policyholders. In order to verify or supplement
information otherwise provided to the BMA, the BMA may direct
Enstars regulated Bermuda insurance and reinsurance
subsidiaries to produce documents or information relating to
matters connected with its business. In addition, the BMA has
the power to require the production of documents from any person
who appears to be in possession of those documents. Further, the
BMA has the power, in respect of a person registered under the
Insurance Act, to appoint a professional person to prepare a
report on any aspect of any matter about which the BMA has
required or could require information. If it appears to the BMA
to be desirable in the interests of the clients of a person
registered under the Insurance Act, the BMA may also exercise
the foregoing powers in relation to any company which is, or has
at any relevant time been, (1) a parent company, subsidiary
company or related company of that registered person, (2) a
subsidiary company of a parent company of that registered
person, (3) a parent company of a subsidiary company of
that registered person or (4) a controlling shareholder of
that registered person, which is a person who either alone or
with any associate or associates, holds 50% or more of the
shares of that registered person or is entitled to exercise, or
control the exercise of, more than 50% of the voting power at a
general meeting of shareholders of that registered person. If it
appears to the BMA that there is a risk of a regulated Bermuda
insurance and reinsurance subsidiary becoming insolvent, or that
a regulated Bermuda insurance and reinsurance subsidiary is in
breach of the Insurance Act or any conditions imposed upon its
registration, the BMA may, among other things, direct such
subsidiary (1) not to take on any new insurance
26
business, (2) not to vary any insurance contract if the
effect would be to increase its liabilities, (3) not to
make certain investments, (4) to liquidate certain
investments, (5) to maintain in, or transfer to the custody
of a specified bank, certain assets, (6) not to declare or
pay any dividends or other distributions or to restrict the
making of such payments
and/or
(7) to limit such subsidiarys premium income.
Disclosure of Information. In addition to
powers under the Insurance Act to investigate the affairs of an
insurer, the BMA may require insurers and other persons to
furnish information to the BMA. Further, the BMA has been given
powers to assist other regulatory authorities, including foreign
insurance regulatory authorities, with their investigations
involving insurance and reinsurance companies in Bermuda. Such
powers are subject to restrictions. For example, the BMA must be
satisfied that the assistance being requested is in connection
with the discharge of regulatory responsibilities of the foreign
regulatory authority. Further, the BMA must consider whether
cooperation is in the public interest. The grounds for
disclosure are limited and the Insurance Act provides sanctions
for breach of the statutory duty of confidentiality. Under the
Companies Act, the Minister of Finance has been given powers to
assist a foreign regulatory authority that has requested
assistance in connection with inquiries being carried out by it
in the performance of its regulatory functions. The
Ministers powers include requiring a person to furnish him
or her with information, to produce documents to him or her, to
attend and answer questions and to give assistance in connection
with inquiries. The Minister must be satisfied that the
assistance requested by the foreign regulatory authority is for
the purpose of its regulatory functions and that the request is
in relation to information in Bermuda which a person has in his
possession or under his control. The Minister must consider,
among other things, whether it is in the public interest to give
the information sought.
Notification by Shareholder Controller of New or Increased
Control. Any person who, directly or indirectly,
becomes a holder of at least 10%, 20%, 33% or 50% of the
Ordinary Shares must notify the BMA in writing within
45 days of becoming such a holder or 30 days from the
date they have knowledge of having such a holding, whichever is
later. The BMA may, by written notice, object to such a person
if it appears to the BMA that the person is not fit and proper
to be such a holder. The BMA may require the holder to reduce
their holding of Ordinary Shares and direct, among other things,
that voting rights attaching to the Ordinary Shares shall not be
exercisable. A person that does not comply with such a notice or
direction from the BMA will be guilty of an offense.
Objection to Existing Shareholder
Controller. For so long as Enstar has as a
subsidiary an insurer registered under the Insurance Act, the
BMA may at any time, by written notice, object to a person
holding 10% or more of the Ordinary Shares if it appears to the
BMA that the person is not or is no longer fit and proper to be
such a holder. In such a case, the BMA may require the
shareholder to reduce its holding of Ordinary Shares and direct,
among other things, that such shareholders voting rights
attaching to Ordinary Shares shall not be exercisable. A person
who does not comply with such a notice or direction from the
Authority will be guilty of an offense.
Certain Other Bermuda Law
Considerations. Although Enstar is incorporated
in Bermuda, it is classified as a non-resident of Bermuda for
exchange control purposes by the BMA. Pursuant to its
non-resident status, Enstar may engage in transactions in
currencies other than Bermuda dollars and there are no
restrictions on its ability to transfer funds (other than funds
denominated in Bermuda dollars) in and out of Bermuda or to pay
dividends to U.S. residents who are holders of its ordinary
shares.
Under Bermuda law, exempted companies are companies formed for
the purpose of conducting business outside Bermuda from a
principal place of business in Bermuda. As exempted
companies, neither Enstar nor any of its regulated Bermuda
subsidiaries may, without the express authorization of the
Bermuda legislature or under a license or consent granted by the
Minister of Finance, participate in certain business
transactions, including: (1) the acquisition or holding of
land in Bermuda (except that held by way of lease or tenancy
agreement which is required for its business and held for a term
not exceeding 50 years, or which is used to provide
accommodation or recreational facilities for its officers and
employees and held with the consent of the Bermuda Minister of
Finance, for a term not exceeding 21 years), (2) the
taking of mortgages on land in Bermuda to secure an amount in
excess of $50,000, or (3) the carrying on of business of
any kind for which it is not licensed in Bermuda, except in
limited circumstances such as doing business with another
exempted undertaking in furtherance of its business carried on
outside Bermuda. Each of Enstars regulated Bermuda
subsidiaries is a licensed insurer in Bermuda, and, as such, may
carry on activities from Bermuda that are related to and in
support of its insurance business.
27
Ordinary shares may be offered or sold in Bermuda only in
compliance with the provisions of the Investment Business Act
2003 of Bermuda, which regulates the sale of securities in
Bermuda. In addition, the BMA must approve all issues and
transfers of securities of a Bermuda exempted company. Where any
equity securities (meaning shares which entitle the holder to
vote for or appoint one or more directors or securities which by
their terms are convertible into shares which entitle the holder
to vote for or appoint one or more directors) of a Bermuda
company are listed on an appointed stock exchange (which
includes Nasdaq), the BMA has given general permission for the
issue and subsequent transfer of any securities of the company
from and/or
to a non-resident for so long as any such equity securities of
the company remain so listed.
The Bermuda government actively encourages foreign investment in
exempted entities like Enstar and its regulated
Bermuda subsidiaries that are based in Bermuda, but which do not
operate in competition with local businesses. Enstar and its
regulated Bermuda subsidiaries are not currently subject to
taxes computed on profits or income or computed on any capital
asset, gain or appreciation, or any tax in the nature of estate
duty or inheritance tax or to any foreign exchange controls in
Bermuda.
Under Bermuda law, non-Bermudians (other than spouses of
Bermudians, holders of a permanent residents certificate
or holders of a working residents certificate) may not
engage in any gainful occupation in Bermuda without an
appropriate governmental work permit. Work permits may be
granted or extended by the Bermuda government upon showing that,
after proper public advertisement in most cases, no Bermudian
(or spouse of a Bermudian, holder of a permanent residents
certificate or holder of a working residents certificate)
is available who meets the minimum standard requirements for the
advertised position. In 2004, the Bermuda government announced a
new immigration policy limiting the duration of work permits to
six years, with specified exemptions for key
employees. The categories of key employees include
senior executives (chief executive officers, presidents through
vice presidents), managers with global responsibility, senior
financial posts (treasurers, chief financial officers through
controllers, specialized qualified accountants, quantitative
modeling analysts), certain legal professionals (general
counsels, specialist attorneys, qualified legal librarians and
knowledge managers), senior insurance professionals (senior
underwriters, senior claims adjusters), experienced/specialized
brokers, actuaries, specialist investment traders/analysts and
senior information technology engineers/managers. All of
Enstars executive officers who work in its Bermuda office
have obtained work permits.
United
States
Enstar currently has seven indirect wholly-owned non-insurance
subsidiaries organized under the laws of the States of Delaware
(four), Georgia (two) and Florida (one). Each of these entities
provides services to the insurance industry including the
management of insurance portfolios in run-off and forensic
claims inspection. Enstars United States subsidiaries are
not subject to regulation in the United States as insurance
companies, and are generally not subject to other insurance
regulations.
If Enstar acquires insurance or reinsurance run-off operations
in the United States, those subsidiaries operating in the United
States would be subject to extensive regulation.
United
Kingdom
General. On December 1, 2001, the U.K.
Financial Services Authority, or the FSA, assumed its full
powers and responsibilities as the single statutory regulator
responsible for regulating the financial services industry in
respect of the carrying on of regulated activities
(including deposit taking, insurance, investment management and
most other financial services business by way of business in the
U.K.), with the purpose of maintaining confidence in the U.K.
financial system, providing public understanding of the system,
securing the proper degree of protection for consumers and
helping to reduce financial crime. It is a criminal offense for
any person to carry on a regulated activity in the U.K. unless
that person is authorized by the FSA and has been granted
permission to carry on that regulated activity or falls under an
exemption.
Insurance business (which includes reinsurance business) is
authorized and supervised by the FSA. Insurance business in the
United Kingdom is divided between two main categories: long-term
insurance (which is primarily investment-related) and general
insurance. It is not possible for an insurance company to be
authorized in both long-term and general insurance business.
These two categories are both divided into classes
(for example: permanent
28
health and pension fund management are two classes of long-term
insurance; damage to property and motor vehicle liability are
two classes of general insurance). Under the Financial, Services
and Markets Act 2000, or the FSMA, effecting or carrying out
contracts of insurance, within a class of general or long-term
insurance, by way of business in the United Kingdom, constitutes
a regulated activity requiring individual authorization. An
authorized insurance company must have permission for each class
of insurance business it intends to write.
Certain of Enstars regulated U.K. subsidiaries, as
authorized insurers, would be able to operate throughout the
European Union, subject to certain regulatory requirements of
the FSA and in some cases, certain local regulatory
requirements. An insurance company with FSA authorization to
write insurance business in the United Kingdom can seek consent
from the FSA to allow it to provide cross-border services in
other member states of the E.U. As an alternative, FSA consent
may be obtained to establish a branch office within another
member state. Although in run-off, Enstars regulated U.K.
subsidiaries remain regulated by the FSA, but may not underwrite
new business.
As FSA authorized insurers, the insurance and reinsurance
businesses of Enstars regulated U.K. subsidiaries are
subject to close supervision by the FSA. The FSA has implemented
specific requirements for senior management arrangements,
systems and controls of insurance and reinsurance companies
under its jurisdiction, which place a strong emphasis on risk
identification and management in relation to the prudential
regulation of insurance and reinsurance business in the United
Kingdom.
Supervision. The FSA carries out the
prudential supervision of insurance companies through a variety
of methods, including the collection of information from
statistical returns, review of accountants reports, visits
to insurance companies and regular formal interviews.
The FSA has adopted a risk-based approach to the supervision of
insurance companies. Under this approach the FSA performs a
formal risk assessment of insurance companies or groups carrying
on business in the U.K. periodically. The periods between U.K.
assessments vary in length according to the risk profile of the
insurer. The FSA performs the risk assessment by analyzing
information which it receives during the normal course of its
supervision, such as regular prudential returns on the financial
position of the insurance company, or which it acquires through
a series of meetings with senior management of the insurance
company. After each risk assessment, the FSA will inform the
insurer of its views on the insurers risk profile. This
will include details of any remedial action that the FSA
requires and the likely consequences if this action is not taken.
Solvency Requirements. The Integrated
Prudential Sourcebook requires that insurance companies maintain
a required solvency margin at all times in respect of any
general insurance undertaken by the insurance company. The
calculation of the required margin in any particular case
depends on the type and amount of insurance business a company
writes. The method of calculation of the required solvency
margin is set out in the Integrated Prudential Sourcebook, and
for these purposes, all insurers assets and liabilities
are subject to specific valuation rules which are set out in the
Integrated Prudential Sourcebook. Failure to maintain the
required solvency margin is one of the grounds on which wide
powers of intervention conferred upon the FSA may be exercised.
For fiscal years ending on or after January 1, 2004, the
calculation of the required solvency margin has been amended as
a result of the implementation of the EU Solvency I Directives.
In respect of liability business accepted, 150% of the actual
premiums written and claims incurred must be included in the
calculation, which has had the effect of increasing the required
solvency margin of Enstars regulated U.K. subsidiaries.
Enstar continuously monitors the solvency capital position of
the U.K. subsidiaries and maintains capital in excess of the
required solvency margin.
Insurers are required to calculate an Enhanced Capital
Requirement, or ECR, in addition to their required solvency
margin. This represents a more risk-sensitive calculation than
the previous required solvency margin requirements and is used
by the FSA as its benchmark in assessing its Individual Capital
Adequacy Standards. Insurers must maintain financial resources
which are adequate, both as to amount and quality, to ensure
that there is no significant risk that its liabilities cannot be
met as they come due. In order to carry out the assessment as to
the necessary financial resources that are required, insurers
are required to identify the major sources of risk to its
ability to meet its liabilities as they come due, and to carry
out stress and scenario tests to identify an appropriate range
of realistic adverse scenarios in which the risk crystallizes
and to estimate the financial resources needed in each of the
circumstances and events identified. In addition, the FSA gives
Individual Capital Guidance, or ICG, regularly to insurers and
reinsurers following receipt of individual capital assessments,
prepared by firms themselves. The FSAs guidance may be
that a company should hold more or less than its then current
level of
29
regulatory capital, or that the companys regulatory
capital should remain unaltered. Enstar calculated the ECR for
its regulated U.K. subsidiaries for the period ended
December 31, 2006 and submitted those calculations in March
2007 to the FSA as part of their statutory filings. The ECR
calculations for its regulated U.K. subsidiaries for the year
ended December 31, 2007 will be submitted by no later than
March 31, 2008.
In addition, an insurer (other than a pure reinsurer) that is
part of a group is required to perform and submit to the FSA an
audited Group Capital Adequacy Return (GCAR). The GCAR is a
solvency margin calculation return in respect of its ultimate
parent undertaking, in accordance with the FSAs rules.
This return is not part of an insurers own solvency return
and hence will not be publicly available. Although there is no
requirement for the parent undertaking solvency calculation to
show a positive result, the FSA may take action where it
considers that the solvency of the insurance company is or may
be jeopardized due to the group solvency position. Further, an
insurer is required to report in its annual returns to the FSA
all material related party transactions (e.g.,
intra-group
reinsurance, whose value is more than 5% of the insurers
general insurance business amount).
Restrictions on Dividend Payments. U.K.
company law prohibits Enstars regulated U.K. subsidiaries
from declaring a dividend to their shareholders unless they have
profits available for distribution. The
determination of whether a company has profits available for
distribution is based on its accumulated realized profits less
its accumulated realized losses. While the United Kingdom
insurance regulatory laws impose no statutory restrictions on a
general insurers ability to declare a dividend, the FSA
strictly controls the maintenance of each insurance
companys required solvency margin within its jurisdiction.
The FSAs rules require Enstars regulated U.K.
subsidiaries to obtain FSA approval for any proposed or actual
payment of a dividend.
Reporting Requirements. U.K. insurance
companies must prepare their financial statements under the
Companies Act of 1985 (as amended), which requires the filing
with Companies House of audited financial statements and related
reports. In addition, U.K. insurance companies are required to
file with the FSA regulatory returns, which include a revenue
account, a profit and loss account and a balance sheet in
prescribed forms. Under the Interim Prudential Sourcebook for
Insurers, audited regulatory returns must be filed with the FSA
within two months and 15 days (or three months where the
delivery of the return is made electronically) of the
companys year end. Enstars regulated U.K. insurance
subsidiaries are also required to submit abridged quarterly
information to the FSA.
Supervision of Management. The FSA closely
supervises the management of insurance companies through the
approved persons regime, by which any appointment of persons to
perform certain specified controlled functions
within a regulated entity, must be approved by the FSA.
Change of Control. FSMA regulates the
acquisition of control of any U.K. insurance company
authorized under FSMA. Any company or individual that (together
with its or his associates) directly or indirectly acquires 10%
or more of the shares in a U.K. authorized insurance company or
its parent company, or is entitled to exercise or control the
exercise of 10% or more of the voting power in such authorized
insurance company or its parent company, would be considered to
have acquired control for the purposes of the
relevant legislation, as would a person who had significant
influence over the management of such authorized insurance
company or its parent company by virtue of his shareholding or
voting power in either. A purchaser of 10% or more of
Enstars ordinary shares would therefore be considered to
have acquired control of Enstars regulated
U.K. subsidiaries.
Under FSMA, any person proposing to acquire control
over a U.K. authorized insurance company must give prior
notification to the FSA of his intention to do so. The FSA would
then have three months to consider that persons
application to acquire control. In considering
whether to approve such application, the FSA must be satisfied
that both the acquirer is a fit and proper person to have such
control and that the interests of consumers would
not be threatened by such acquisition of control.
Failure to make the relevant prior application could result in
action being taken against Enstar by the FSA.
Intervention and Enforcement. The FSA has
extensive powers to intervene in the affairs of an authorized
person, culminating in the ultimate sanction of the removal of
authorization to carry on a regulated activity. FSMA imposes on
the FSA statutory obligations to monitor compliance with the
requirements imposed by FSMA, and to enforce the provisions of
FSMA-related rules made by the FSA. The FSA has power, among
other things, to enforce
30
and take disciplinary measures in respect of breaches of both
the Interim Prudential Sourcebook for Insurers and breaches of
the conduct of business rules generally applicable to authorized
persons.
The FSA also has the power to prosecute criminal offenses
arising under FSMA, and to prosecute insider dealing under
Part V of the Criminal Justice Act of 1993, and breaches of
money laundering regulations. The FSAs stated policy is to
pursue criminal prosecution in all appropriate cases.
Passporting. European Union directives allow
Enstars regulated U.K. subsidiaries to conduct business in
European Union states other than the United Kingdom in
compliance with the scope of permission granted these companies
by the FSA without the necessity of additional licensing or
authorization in other European Union jurisdictions. This
ability to operate in other jurisdictions of the European Union
on the basis of home state authorization and supervision is
sometimes referred to as passporting. Insurers may
operate outside their home member state either on a
services basis or on an establishment
basis. Operating on a services basis means that the
company conducts permitted businesses in the host state without
having a physical presence there, while operating on an
establishment basis means the company has a branch
or physical presence in the host state. In both cases, a company
remains subject to regulation by its home regulator, and not by
local regulatory authorities, although the company nonetheless
may have to comply with certain local rules. In addition to
European Union member states, Norway, Iceland and Liechtenstein
(members of the broader European Economic Area) are
jurisdictions in which this passporting framework applies.
Belgium
and Austria
Enstar indirectly owns, through B.H. Acquisition, Paget Holdings
Limited, or Paget, an Austrian holding company, which owns
Compagnie Européenne dAssurances Industrielles S.A.,
or CEAI, a registered insurer domiciled in Belgium. CEAI
currently is in run-off and does not write new business. The
insurance operations of CEAI are subject to Belgian insurance
laws. CEAI is required to comply with the terms of its
registration and any other conditions the banking, finance and
insurance commission may impose from time to time. Under the
applicable insurance laws and regulations, the banking, finance
and insurance commission must be informed about and approve the
management structure, the directors, and current management. The
banking, finance and insurance commission also regulates
solvency and certain operations and activities of Belgian
insurers.
Paget is generally subject to the laws of Austria. Because the
principal activity of Paget is owning CEAI, Paget is not
required to be licensed by Austrian authorities.
Switzerland
and Luxembourg
Enstar indirectly owns Harper Holding SARL, or Harper Holding, a
Luxembourg holding company, which owns Harper Insurance Limited,
or Harper Insurance, a reinsurer domiciled in Switzerland.
Because the activities of Harper Insurance are limited to
reinsurance run-off, it is not required to be licensed by Swiss
authorities but is subject to regulation by the Federal Office
of Private Insurance, or FOPI.
Harper Holding is a private limited liability company,
incorporated under the laws of the Grand-Duchy of Luxembourg,
generally subject to the laws of Luxembourg. Because the
principal activity of Harper Holding is owning subsidiaries not
domiciled in Luxembourg, Harper Holding is not required to be
licensed by Luxembourg authorities.
Competition
Enstar competes in international markets with domestic and
international reinsurance companies to acquire and manage
reinsurance companies in run-off. The acquisition and management
of reinsurance companies in run-off is highly competitive. Some
of these competitors have greater financial resources than
Enstar, have been operating for longer than Enstar and have
established long-term and continuing business relationships
throughout the reinsurance industry, which can be a significant
competitive advantage. As such, Enstar may not be able to
compete successfully in the future for suitable acquisition
candidates or run-off portfolio management engagements.
31
Employees
As of December 31, 2007, Enstar had approximately
221 employees, 5 of whom were executive officers. All
non-Bermudian employees who operate out of Enstars Bermuda
office are subject to approval of any required work permits.
None of Enstars employees are covered by collective
bargaining agreements, and its management believes that its
relationship with its employees is excellent.
Available
Information
Enstar maintains a website with the address
www.enstargroup.com. The information contained on
Enstars website is not included as a part of, or
incorporated by reference into, this filing. Enstar makes
available free of charge (other than an investors own
Internet access charges) on or through its website its annual
report on
Form 10-K,
quarterly reports on
Form 10-Q,
current reports on
Form 8-K,
and all amendments to these reports, as soon as reasonably
practicable after the material is electronically filed with or
otherwise furnished to the SEC. Enstars annual reports on
Form 10-K,
quarterly reports on
Form 10-Q,
current reports on
Form 8-K,
and amendments to those reports are also available on the
SECs website at
http://www.sec.gov.
In addition, copies of Enstars corporate governance
guidelines, codes of business conduct and ethics and the
governing charters for the audit and compensation committees of
its Board of Directors are available free of charge on its
website. The public may read and copy any materials Enstar files
with the SEC at the SECs Public Reference Room at 100
F. Street, NE, Washington, DC 20549. The public may obtain
information on the operation of the Public Reference Room by
calling the SEC at 1-800-SEC-0330.
You should carefully consider these risks along with the
other information included in this document, including the
matters addressed under Item 7. Managements
Discussion and Analysis of Financial Condition and Results of
Operations Cautionary Note Regarding Forward-Looking
Statements, as well as risks included elsewhere in our
documents filed with the SEC, before investing in any of our
securities. We may amend, supplement or add to the risk factors
described below from time to time in future reports filed with
the SEC.
Risks
Relating to Our Business
If we
are unable to implement our business strategies, our business
and financial condition may be adversely affected.
Our future results of operations will depend in significant part
on the extent to which we can implement our business strategies
successfully, including our ability to realize the anticipated
growth opportunities, expanded market visibility and increased
access to capital. Our business strategies include continuing to
operate our portfolio of run-off insurance and reinsurance
companies and related management engagements, as well as
pursuing additional acquisitions and management engagements in
the run-off segment of the insurance and reinsurance market. We
may not be able to implement our strategies fully or realize the
anticipated results of our strategies as a result of significant
business, economic and competitive uncertainties, many of which
are beyond our control.
The effects of emerging claims and coverage issues may result in
increased provisions for loss reserves and reduced profitability
in our insurance and reinsurance subsidiaries. Such adverse
business issues may also reduce the level of incentive-based
fees generated by our consulting operations. Adverse global
economic conditions, such as rising interest rates and volatile
foreign exchange rates, may cause widespread failure of our
insurance and reinsurance subsidiaries reinsurers
ability to satisfy their obligations, as well as failure of
companies to meet their obligations under debt instruments held
by our subsidiaries. If the run-off industry becomes more
attractive to investors, competition for run-off acquisitions
and management and consultancy engagements may increase and,
therefore, reduce our ability to continue to make profitable
acquisitions or expand our consultancy operations. If we are
unable to successfully implement our business strategies, we may
not be able to achieve future growth in our earnings and our
financial condition may suffer and, as a result, holders of our
ordinary shares may receive lower returns.
32
Our
inability to successfully manage our portfolio of insurance and
reinsurance companies in run-off may adversely impact our
ability to grow our business and may result in
losses.
We were founded to acquire and manage companies and portfolios
of insurance and reinsurance in run-off. Our run-off business
differs from the business of traditional insurance and
reinsurance underwriting in that our insurance and reinsurance
companies in run-off no longer underwrite new policies and are
subject to the risk that their stated provisions for losses and
loss adjustment expense will not be sufficient to cover future
losses and the cost of run-off. Because our companies in run-off
no longer collect underwriting premiums, our sources of capital
to cover losses are limited to our stated reserves, reinsurance
coverage and retained earnings. As of December 31, 2007,
our gross reserves for losses and loss adjustment expense
totaled $1.59 billion, and our reinsurance receivables
totaled $465.3 million.
In order for us to achieve positive operating results, we must
first price acquisitions on favorable terms relative to the
risks posed by the acquired portfolio and then successfully
manage the acquired portfolios. Our inability to price
acquisitions on favorable terms, efficiently manage claims,
collect from reinsurers and control run-off expenses could
result in us having to cover losses sustained under assumed
policies with retained earnings, which would materially and
adversely impact our ability to grow our business and may result
in losses.
Our
inability to successfully manage the companies and portfolios
for which we have been engaged as a third-party manager may
adversely impact our financial results and our ability to win
future management engagements.
In addition to acquiring insurance and reinsurance companies in
run-off, we have entered into several management agreements with
third parties to manage their portfolios or companies in
run-off. The terms of these management engagements typically
include incentive payments to us based on our ability to
successfully manage the run-off of these companies or
portfolios. We may not be able to accomplish our objectives for
these engagements as a result of unforeseen circumstances such
as the length of time for claims to develop, the extent to which
losses may exceed reserves, changes in the law that may require
coverage of additional claims and losses, our ability to commute
reinsurance policies on favorable terms and our ability to
manage run-off expenses. If we are not successful in meeting our
objectives for these management engagements, we may not receive
incentive payments under our management agreements, which could
adversely impact our financial results, and we may not win
future engagements to provide these management services, which
could slow the growth of our business. Consulting fees generated
from management agreements amounted to $31.9 million,
$33.9 million and $22.0 million for the years ended
December 31, 2007, December 31, 2006 and
December 31, 2005, respectively.
If our
insurance and reinsurance subsidiaries loss reserves are
inadequate to cover their actual losses, our insurance and
reinsurance subsidiaries net income and capital and
surplus would be reduced.
Our insurance and reinsurance subsidiaries are required to
maintain reserves to cover their estimated ultimate liability
for losses and loss adjustment expenses for both reported and
unreported claims incurred. These reserves are only estimates of
what our subsidiaries think the settlement and administration of
claims will cost based on facts and circumstances known to the
subsidiaries. Our commutation activity and claims settlement and
development in recent years has resulted in net reductions in
provisions for loss and loss adjustment expenses of
$24.5 million, $31.9 million and $96.0 million
for the years ended December 31, 2007, December 31,
2006 and December 31, 2005, respectively. Although this
recent experience indicates that our loss reserves have been
more than adequate to meet our liabilities, because of the
uncertainties that surround estimating loss reserves and loss
adjustment expenses, our insurance and reinsurance subsidiaries
cannot be certain that ultimate losses will not exceed these
estimates of losses and loss adjustment expenses. If the
subsidiaries reserves are insufficient to cover their
actual losses and loss adjustment expenses, the subsidiaries
would have to augment their reserves and incur a charge to their
earnings. These charges could be material and would reduce our
net income and capital and surplus.
The difficulty in estimating the subsidiaries reserves is
increased because the subsidiaries loss reserves include
reserves for potential A&E liabilities. At
December 31, 2007, our insurance and reinsurance companies
recorded gross A&E loss reserves of $677.6 million, or
42.6% of the total gross loss reserves. Net A&E loss
reserves at December 31, 2007 amounted to
$420.0 million, or 36.1% of total net loss reserves.
A&E liabilities are especially
33
hard to estimate for many reasons, including the long waiting
periods between exposure and manifestation of any bodily injury
or property damage, the difficulty in identifying the source of
the asbestos or environmental contamination, long reporting
delays and the difficulty in properly allocating liability for
the asbestos or environmental damage. Developed case law and
adequate claim history do not always exist for such claims,
especially because significant uncertainty exists about the
outcome of coverage litigation and whether past claim experience
will be representative of future claim experience. In view of
the changes in the legal and tort environment that affect the
development of such claims, the uncertainties inherent in
valuing A&E claims are not likely to be resolved in the
near future. Ultimate values for such claims cannot be estimated
using traditional reserving techniques and there are significant
uncertainties in estimating the amount of our subsidiaries
potential losses for these claims. Our subsidiaries have not
made any changes in reserve estimates that might arise as a
result of any proposed U.S. federal legislation related to
asbestos. To further understand this risk, see
Business Reserves for Unpaid Losses and Loss
Adjustment Expense beginning on page 9.
Our
insurance and reinsurance subsidiaries reinsurers may not
satisfy their obligations to our insurance and reinsurance
subsidiaries.
Our insurance and reinsurance subsidiaries are subject to credit
risk with respect to their reinsurers because the transfer of
risk to a reinsurer does not relieve our subsidiaries of their
liability to the insured. In addition, reinsurers may be
unwilling to pay our subsidiaries even though they are able to
do so. As of December 31, 2007, the balances receivable
from reinsurers amounted to $465.3 million, of which
$350.2 million was associated with two reinsurers with
Standard & Poors credit ratings of
AA-. The
failure of one or more of our subsidiaries reinsurers to
honor their obligations in a timely fashion may affect our cash
flows, reduce our net income or cause us to incur a significant
loss. Disputes with our reinsurers may also result in unforeseen
expenses relating to litigation or arbitration proceedings.
The
value of our insurance and reinsurance subsidiaries
investment portfolios and the investment income that our
insurance and reinsurance subsidiaries receive from these
portfolios may decline as a result of market fluctuations and
economic conditions.
We derive a significant portion of our income from our invested
assets. The fair market value of the fixed-income securities
classified as trading and
available-for-sale
in our subsidiaries investment portfolios amounted to
$343.0 million at December 31, 2007, and the
investment income from these assets fluctuates depending on
general economic and market conditions. For example, the fair
market value of our subsidiaries fixed-income securities
generally increases or decreases in an inverse relationship with
fluctuations in interest rates. The fair market value of our
subsidiaries fixed-income securities can also decrease as
a result of any downturn in the business cycle that causes the
credit quality of those securities to deteriorate. The net
investment income that our subsidiaries realize from investments
in fixed income securities will generally increase or decrease
with interest rates. The changes in the market value of our
subsidiaries securities that are classified as
available-for-sale
are reflected in our financial statements. Permanent impairments
in the value of our subsidiaries fixed income securities
are also reflected in our financial statements. As a result, a
decline in the value of the securities in our subsidiaries
portfolio may reduce our net income or cause us to incur a loss.
In addition to fixed-income securities, we have invested, and
may from time to time continue to invest, in limited
partnerships and limited liability companies. These and other
similar investments may be illiquid. As of December 31,
2007, we had an aggregate of $75.3 million of such
investments, $69.7 million of which had no readily
ascertainable market value. For more information, see
Business Investment Portfolio beginning
on page 21.
34
Fluctuations
in the reinsurance industry may cause our operating results to
fluctuate.
The reinsurance industry historically has been subject to
significant fluctuations and uncertainties. Factors that affect
the industry in general may also cause our operating results to
fluctuate. The industrys profitability may be affected
significantly by:
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fluctuations in interest rates, inflationary pressures and other
changes in the investment environment, which affect returns on
invested capital and may affect the ultimate payout of loss
amounts and the costs of administering books of reinsurance
business;
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volatile and unpredictable developments, which may adversely
affect the recoverability of reinsurance from our reinsurers;
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changes in reserves resulting from different types of claims
that may arise and the development of judicial interpretations
relating to the scope of insurers liability; and
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the overall level of economic activity and the competitive
environment in the industry.
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The
effects of emerging claim and coverage issues on our business
are uncertain.
As industry practices and legal, judicial, social and other
environmental conditions change, unexpected and unintended
issues related to claims and coverage may emerge. These issues
may adversely affect the adequacy of our provision for losses
and loss adjustment expenses by either extending coverage beyond
the intent of insurance policies and reinsurance contracts
envisioned at the time they were written, or by increasing the
number or size of claims. In some instances, these changes may
not become apparent until some time after we have acquired
companies or portfolios of insurance or reinsurance contracts
that are affected by the changes. As a result, the full extent
of liability under these insurance or reinsurance contracts may
not be known for many years after a contract has been issued. To
further understand this risk, see Business
Reserves for Unpaid Losses and Loss Adjustment Expense
beginning on page 9.
Insurance
laws and regulations restrict our ability to operate, and any
failure to comply with these laws and regulations may have a
material adverse effect on our business.
We are subject to extensive regulation under insurance laws of a
number of jurisdictions, and compliance with legal and
regulatory requirements is expensive. These laws limit the
amount of dividends that can be paid to us by our insurance and
reinsurance subsidiaries, prescribe solvency standards that they
must meet and maintain, impose restrictions on the amount and
type of investments that they can hold to meet solvency
requirements and require them to maintain reserves. Failure to
comply with these laws may subject our subsidiaries to fines and
penalties and restrict them from conducting business. The
application of these laws may affect our liquidity and ability
to pay dividends on our ordinary shares and may restrict our
ability to expand our business operations through acquisitions.
At December 31, 2007, the required statutory capital and
surplus of our Bermuda, U.K. and European insurance and
reinsurance companies amounted to $88.0 million compared to
the actual statutory capital and surplus of $483.8 million.
As of December 31, 2007, $55.5 million of our total
investments of $637.2 million were not admissible for
statutory solvency purposes.
If we
fail to comply with applicable insurance laws and regulations,
we may be subject to disciplinary action, damages, penalties or
restrictions that may have a material adverse effect on our
business.
We cannot assure you that our subsidiaries have or can maintain
all required licenses and approvals or that their businesses
fully comply with the laws and regulations to which they are
subject, or the relevant insurance regulatory authoritys
interpretation of those laws and regulations. In addition, some
regulatory authorities have relatively broad discretion to
grant, renew or revoke licenses and approvals. If our
subsidiaries do not have the requisite licenses and approvals or
do not comply with applicable regulatory requirements, the
insurance regulatory authorities may preclude or suspend our
subsidiaries from carrying on some or all of their activities,
place one of more of them into rehabilitation or liquidation
proceedings, or impose monetary penalties on them. These types
of actions may have a material adverse effect on our business
and may preclude us from making future acquisitions or obtaining
future engagements to manage companies and portfolios in run-off.
35
We
have made, and expect to continue to make, strategic
acquisitions of insurance and reinsurance companies in run-off,
and these activities may not be financially beneficial to us or
our shareholders.
We have pursued and, as part of our strategy, we will continue
to pursue growth through acquisitions
and/or
strategic investments in insurance and reinsurance companies in
run-off. We have made several acquisitions and investments and
we expect to continue to make such acquisitions and investments.
We cannot be certain that any of these acquisitions or
investments will be financially advantageous for us or our
shareholders.
The negotiation of potential acquisitions or strategic
investments, as well as the integration of an acquired business
or portfolio, could result in a substantial diversion of
management resources. Acquisitions could involve numerous
additional risks such as potential losses from unanticipated
litigation or levels of claims, an inability to generate
sufficient revenue to offset acquisition costs and financial
exposures in the event that the sellers of the entities we
acquire are unable or unwilling to meet their indemnification,
reinsurance and other obligations to us.
Our ability to manage our growth through acquisitions or
strategic investments will depend, in part, on our success in
addressing these risks. Any failure by us to effectively
implement our acquisition or strategic investment strategies
could have a material adverse effect on our business, financial
condition or results of operations.
Future
acquisitions may expose us to operational risks such as cash
flow shortages, challenges to recruit appropriate levels of
personnel, financial exposures to foreign currencies, additional
integration costs and management time and effort.
We may in the future make additional strategic acquisitions,
either of other companies or selected portfolios of insurance or
reinsurance in run-off. Any future acquisitions may expose us to
operational challenges and risks, including:
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funding cash flow shortages that may occur if anticipated
revenues are not realized or are delayed, whether by general
economic or market conditions or unforeseen internal
difficulties;
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funding cash flow shortages that may occur if expenses are
greater than anticipated;
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the value of assets being lower than expected or diminishing
because of credit defaults or changes in interest rates, or
liabilities assumed being greater than expected;
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integrating financial and operational reporting systems,
including assurance of compliance with Section 404 of the
Sarbanes-Oxley Act of 2002;
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establishing satisfactory budgetary and other financial controls;
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funding increased capital needs and overhead expenses;
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obtaining management personnel required for expanded
operations; and
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the assets and liabilities we may acquire may be subject to
foreign currency exchange rate fluctuation.
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Our failure to manage successfully these operational challenges
and risks could have a material adverse effect on our business,
financial condition or results of operations.
Exit
and finality opportunities provided by solvent schemes of
arrangement may not continue to be available, which may result
in the diversion of our resources to settle policyholder claims
for a substantially longer run-off period and increase the
associated costs of run-off of our insurance and reinsurance
subsidiaries.
With respect to our U.K. and Bermudian insurance and reinsurance
subsidiaries, we are able to pursue strategies to achieve
complete finality and conclude the run-off of a company by
promoting solvent schemes of arrangement. Solvent schemes of
arrangement have been a popular means of achieving financial
certainty and finality, for insurance and reinsurance companies
incorporated or managed in the U.K. and Bermuda, by making a
one-time full and final settlement of an insurance and
reinsurance companys liabilities to policyholders. A
solvent scheme of arrangement is an arrangement between a
company and its creditors or any class of them. For a solvent
scheme of arrangement to become binding on the creditors, a
meeting of each class of creditors must be called, with the
permission of the local court, to consider and, if thought fit,
approve the solvent scheme arrangement. The
36
requisite statutory majority of creditors of not less than 75%
in value and 50% in number of those creditors actually attending
the meeting, either in person or by proxy, must vote in favor of
a solvent scheme of arrangement. Once the solvent scheme of
arrangement has been approved by the statutory majority of
voting creditors of the company it requires the sanction of the
local court.
In July 2005, the case of British Aviation Insurance Company, or
BAIC, was the first solvent scheme of arrangement to fail to be
sanctioned by the English High Court, following opposition by
certain creditors. The primary reason for the failure of the
BAIC arrangement was the failure to adequately provide for
different classes of creditors to vote separately on the
arrangement. It was thought at the time that the BAIC judgment
might signal the decline of solvent schemes of arrangement.
However, since BAIC, 30 solvent schemes of arrangement have been
sanctioned, such that the prevailing view is that the BAIC
judgment was very fact-specific to the case in question, and
solvent schemes generally should continue to be promoted and
sanctioned as a viable means for achieving finality for our
insurance and reinsurance subsidiaries. Following the BAIC
judgment, insurance and reinsurance companies must now take more
care in drafting a solvent scheme of arrangement to fit the
circumstances of the company including the determination of the
appropriate classes of creditors. Should a solvent scheme of
arrangement promoted by any of our insurance or reinsurance
subsidiaries fail to receive the requisite approval by creditors
or sanction by the court, we will have to run off these
liabilities until expiry, which may result in the diversion of
our resources to settle policyholder claims for a substantially
longer run-off period and increase the associated costs of
run-off, resulting potentially in a material adverse effect on
our financial condition and results of operations.
We are
dependent on our executive officers, directors and other key
personnel and the loss of any of these individuals could
adversely affect our business.
Our success substantially depends on our ability to attract and
retain qualified employees and upon the ability of our senior
management and other key employees to implement our business
strategy. We believe that there are only a limited number of
available qualified personnel in the business in which we
compete. We rely substantially upon the services of Dominic F.
Silvester, our Chief Executive Officer, Paul J. OShea and
Nicholas A. Packer, our Executive Vice Presidents and Joint
Chief Operating Officers, Richard J. Harris, our Chief Financial
Officer, John J. Oros, our Executive Chairman, and our
subsidiaries executive officers and directors to identify
and consummate the acquisition of insurance and reinsurance
companies and portfolios in run-off on favorable terms and to
implement our run-off strategy. Each of Messrs. Silvester,
OShea, Packer, Oros and Harris has an employment agreement
with us. In addition to serving as our Executive Chairman,
Mr. Oros is a managing director of J.C. Flowers &
Co. LLC, an investment firm specializing in privately negotiated
equity and equity-related investments in the financial services
industry. Mr. Oros splits his time commitment between us
and J.C. Flowers & Co. LLC, with the expectation that
Mr. Oros will spend approximately 50% of his working time
with us; however, there is no minimum work commitment set forth
in our employment agreement with Mr. Oros. J. Christopher
Flowers, one of our directors, and one of our largest
shareholders, is a Managing Director of J.C. Flowers &
Co. LLC. We believe that our relationships with Mr. Oros
and Mr. Flowers and their affiliates provide us with access
to additional acquisition and investment opportunities, as well
as sources of co-investment for acquisition opportunities that
we do not have the resources to consummate on our own. The loss
of the services of any of our management or other key personnel,
or the loss of the services of or our relationships with any of
our directors, including in particular Mr. Oros and
Mr. Flowers, or their affiliates could have a material
adverse effect on our business.
Further, if we were to lose any of our key employees in Bermuda,
we would likely hire non-Bermudians to replace them. Under
Bermuda law, non-Bermudians (other than spouses of Bermudians,
holders of permanent residents certificates or holders of
a working residents certificate) may not engage in any
gainful occupation in Bermuda without an appropriate
governmental work permit. Work permits may be granted or
extended by the Bermuda government upon showing that, after
proper public advertisement in most cases, no Bermudian (or
spouse of a Bermudian, holder of a permanent residents
certificate or holders of a working residents certificate)
is available who meets the minimum standard requirements for the
advertised position. The Bermuda governments policy limits
the duration of work permits to six years, with certain
exemptions for key employees and job categories where there is a
worldwide shortage of qualified employees.
37
Conflicts
of interest might prevent us from pursuing desirable investment
and business opportunities.
Our directors and executive officers may have ownership
interests or other involvement with entities that could compete
against us, either in the pursuit of acquisition targets or in
general business operations. On occasion, we have also
participated in transactions in which one or more of our
directors or executive officers had an interest. In particular,
we have invested, and expect to continue to invest, in or with
entities that are affiliates of or otherwise related to
Mr. Oros
and/or
Mr. Flowers. The interests of our directors and executive
officers in such transactions or such entities may result in a
conflict of interest for those directors and officers. The
independent members of our board of directors review any
material transactions involving a conflict of interest, and the
board of directors will take other actions as may be deemed
appropriate by them in particular circumstances, such as forming
a special committee of independent directors or engaging
third-party financial advisers to evaluate such transactions. We
may not be able to pursue all advantageous transactions that we
would otherwise pursue in the absence of a conflict should our
board of directors be unable to determine that any such
transaction is on terms as favorable as we could otherwise
obtain in the absence of a conflict.
We may
require additional capital in the future that may not be
available or may only be available on unfavorable
terms.
Our future capital requirements depend on many factors,
including our ability to manage the run-off of our assumed
policies and to establish reserves at levels sufficient to cover
losses. We may need to raise additional funds through financings
in the future. Any equity or debt financing, if available at
all, may be on terms that are not favorable to us. In the case
of equity financings, dilution to our shareholders could result,
and, in any case, such securities may have rights, preferences
and privileges that are senior to those of our already
outstanding securities. If we cannot obtain adequate capital,
our business, results of operations and financial condition
could be adversely affected.
We are
a holding company, and we are dependent on the ability of our
subsidiaries to distribute funds to us.
We are a holding company and conduct substantially all of our
operations through subsidiaries. Our only significant assets are
the capital stock of our subsidiaries. As a holding company, we
are dependent on distributions of funds from our subsidiaries to
pay dividends, fund acquisitions or fulfill financial
obligations in the normal course of our business. Our
subsidiaries may not generate sufficient cash from operations to
enable us to make dividend payments, acquire additional
companies or insurance or reinsurance portfolios or fulfill
other financial obligations. The ability of our insurance and
reinsurance subsidiaries to make distributions to us is limited
by applicable insurance laws and regulations, and the ability of
all of our subsidiaries to make distributions to us may be
restricted by, among other things, other applicable laws and
regulations.
Fluctuations
in currency exchange rates may cause us to experience
losses.
We maintain a portion of our investments, insurance liabilities
and insurance assets denominated in currencies other than
U.S. dollars. Consequently, we and our subsidiaries may
experience foreign exchange losses.
We publish our consolidated financial statements in
U.S. dollars. Therefore, fluctuations in exchange rates
used to convert other currencies, particularly other European
currencies including the Euro and British pound, into
U.S. dollars will impact our reported consolidated
financial condition, results of operations and cash flows from
year to year.
Risks
Relating to Ownership of Our Ordinary Shares
Our
stock price may experience volatility, thereby causing a
potential loss of value to our investors.
The market price for our ordinary shares may fluctuate
substantially due to, among other things, the following factors:
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announcements with respect to an acquisition or investment;
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38
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changes in the value of our assets;
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our quarterly operating results;
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changes in general conditions in the economy;
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the financial markets; and
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adverse press or news announcements.
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A few
significant shareholders may influence or control the direction
of our business. If the ownership of our ordinary shares
continues to be highly concentrated, it may limit your ability
and the ability of other shareholders to influence significant
corporate decisions.
The interests of Messrs. Flowers, Silvester, Packer and
OShea and Trident II, L.P. and its affiliates, or Trident,
may not be fully aligned with your interests, and this may lead
to a strategy that is not in your best interest.
Messrs. Flowers, Silvester, Packer and OShea and
Trident beneficially own approximately 10.4%, 18.9%, 6.0%, 6.1%
and 11.2%, respectively, of our outstanding ordinary shares.
Although they do not act as a group, Trident and each of
Messrs. Flowers, Silvester, Packer and OShea exercise
significant influence over matters requiring shareholder
approval, and their concentrated holdings may delay or deter
possible changes in control of Enstar, which may reduce the
market price of our ordinary shares. For further information on
aspects of our bye-laws that may discourage changes of control
of Enstar, see Some aspects of our corporate
structure may discourage third-party takeovers and other
transactions or prevent the removal of our board of directors
and management below.
Some
aspects of our corporate structure may discourage third-party
takeovers and other transactions or prevent the removal of our
board of directors and management.
Some provisions of our bye-laws have the effect of making more
difficult or discouraging unsolicited takeover bids from third
parties or preventing the removal of our current board of
directors and management. In particular, our bye-laws make it
difficult for any U.S. shareholder or Direct Foreign
Shareholder Group (a shareholder or group of commonly controlled
shareholders of Enstar that are not U.S. persons) to own or
control ordinary shares that constitute 9.5% or more of the
voting power of all of our ordinary shares. The votes conferred
by such shares will be reduced by whatever amount is necessary
so that after any such reduction the votes conferred by such
shares will constitute 9.5% of the total voting power of all
ordinary shares entitled to vote generally. The primary purpose
of this restriction is to reduce the likelihood that we will be
deemed a controlled foreign corporation within the
meaning of Internal Revenue Code of 1986, as amended, or the
Code, for U.S. federal tax purposes. However, this limit
may also have the effect of deterring purchases of large blocks
of our ordinary shares or proposals to acquire us, even if some
or a majority of our shareholders might deem these purchases or
acquisition proposals to be in their best interests. In
addition, our bye-laws provide for a classified board, whose
members may be removed by our shareholders only for cause by a
majority vote, and contain restrictions on the ability of
shareholders to nominate persons to serve as directors, submit
resolutions to a shareholder vote and request special general
meetings.
These bye-law provisions make it more difficult to acquire
control of us by means of a tender offer, open market purchase,
proxy contest or otherwise. These provisions are designed to
encourage persons seeking to acquire control of us to negotiate
with our directors, which we believe would generally best serve
the interests of our shareholders. However, these provisions may
have the effect of discouraging a prospective acquirer from
making a tender offer or otherwise attempting to obtain control
of us. In addition, these bye-law provisions may prevent the
removal of our current board of directors and management. To the
extent these provisions discourage takeover attempts, they may
deprive shareholders of opportunities to realize takeover
premiums for their shares or may depress the market price of the
shares.
The
market value of our ordinary shares may decline if large numbers
of shares are sold, including pursuant to existing registration
rights.
We have entered into a registration rights agreement with
Trident, Mr. Flowers and Mr. Silvester and certain
other of our shareholders. This agreement provides that
Trident, Mr. Flowers and Mr. Silvester may request
that we effect a registration statement under the Securities Act
of 1933 of certain of their ordinary shares. As of
39
December 31, 2007, an aggregate of 4,794,873 ordinary
shares held by Trident, Mr. Flowers and Mr. Silvester
were subject to the agreement. By exercising their registration
rights, these holders could cause a large number of ordinary
shares to be registered and generally become freely tradable
without restrictions under the Securities Act immediately upon
the effectiveness of the registration. Our ordinary shares have
in the past been, and may from time to time continue to be,
thinly traded, and significant sales, pursuant to the existing
registration rights or otherwise, could adversely affect the
market price for our ordinary shares and impair our ability to
raise capital through offerings of our equity securities.
Because
we are incorporated in Bermuda, it may be difficult for
shareholders to serve process or enforce judgments against us or
our directors and officers.
We are a Bermuda company. In addition, certain of our officers
and directors reside in countries outside the United States. All
or a substantial portion of our assets and the assets of these
officers and directors are or may be located outside the United
States. Investors may have difficulty effecting service of
process within the United States on our directors and officers
who reside outside the United States or recovering against us or
these directors and officers on judgments of U.S. courts
based on civil liabilities provisions of the U.S. federal
securities laws even though we have appointed an agent in the
United States to receive service of process.
Further, no claim may be brought in Bermuda against us or our
directors and officers in the first instance for violation of
U.S. federal securities laws because these laws have no
extraterritorial jurisdiction under Bermuda law and do not have
force of law in Bermuda. A Bermuda court may, however, impose
civil liability, including the possibility of monetary damages,
on us or our directors and officers if the facts alleged in a
complaint constitute or give rise to a cause of action under
Bermuda law.
We believe that there is doubt as to whether the courts of
Bermuda would enforce judgments of U.S. courts obtained in
actions against us or our directors and officers, as well as our
independent auditors, predicated upon the civil liability
provisions of the U.S. federal securities laws or original
actions brought in Bermuda against us or these persons
predicated solely upon U.S. federal securities laws. Further,
there is no treaty in effect between the United States and
Bermuda providing for the enforcement of judgments of
U.S. courts, and there are grounds upon which Bermuda
courts may not enforce judgments of U.S. courts.
Some remedies available under the laws of
U.S. jurisdictions, including some remedies available under
the U.S. federal securities laws, may not be allowed in
Bermuda courts as contrary to that jurisdictions public
policy. Because judgments of U.S. courts are not
automatically enforceable in Bermuda, it may be difficult for
you to recover against us based upon such judgments.
Shareholders
who own our ordinary shares may have more difficulty in
protecting their interests than shareholders of a U.S.
corporation.
The Bermuda Companies Act, or the Companies Act, which applies
to us, differs in certain material respects from laws generally
applicable to U.S. corporations and their shareholders. As
a result of these differences, shareholders who own our shares
may have more difficulty protecting their interests than
shareholders who own shares of a U.S. corporation. For
example, class actions and derivative actions are generally not
available to shareholders under Bermuda law. Under Bermuda law
and our bye-laws, only shareholders holding 5% or more of our
outstanding ordinary shares or numbering 100 or more are
entitled to propose a resolution at an Enstar general meeting.
We do
not intend to pay cash dividends on our ordinary
shares.
We do not intend to pay a cash dividend on our ordinary shares.
Rather, we intend to use any retained earnings to fund the
development and growth of our business. From time to time, our
board of directors will review our alternatives with respect to
our earnings and seek to maximize value for our shareholders. In
the future, we may decide to commence a dividend program for the
benefit of our shareholders. Any future determination to pay
dividends will be at the discretion of our board of directors
and will be limited by our position as a holding company that
lacks direct operations, significant regulatory restrictions,
the results of operations of our subsidiaries, our financial
condition, cash requirements and prospects and other factors
that our board of directors deems relevant. As
40
a result, capital appreciation, if any, on our ordinary shares
may be your sole source of gain for the foreseeable future. In
addition, there are regulatory and other constraints that could
prevent us from paying dividends in any event.
Our
board of directors may decline to register a transfer of our
ordinary shares under certain circumstances.
Our board of directors may decline to register a transfer of
ordinary shares under certain circumstances, including if it has
reason to believe that any non-de minimis adverse tax,
regulatory or legal consequences to us, any of our subsidiaries
or any of our shareholders may occur as a result of such
transfer. Further, our bye-laws provide us with the option to
repurchase, or to assign to a third party the right to purchase,
the minimum number of shares necessary to eliminate any such
non-de minimis adverse tax, regulatory or legal consequence. In
addition, our board of directors may decline to approve or
register a transfer of shares unless all applicable consents,
authorizations, permissions or approvals of any governmental
body or agency in Bermuda, the United States or any other
applicable jurisdiction required to be obtained prior to such
transfer shall have been obtained. The proposed transferor of
any shares will be deemed to own those shares for dividend,
voting and reporting purposes until a transfer of such shares
has been registered on our shareholders register.
It is our understanding that while the precise form of the
restrictions on transfer contained in our bye-laws is untested,
as a matter of general principle, restrictions on transfers are
enforceable under Bermuda law and are not uncommon.
These restrictions on transfer may also have the effect of
delaying, deferring or preventing a change in control.
Risks
Relating to Taxation
We
might incur unexpected U.S. or U.K. tax liabilities if companies
in our group that are incorporated outside of those
jurisdictions are determined to be carrying on a trade or
business there.
We and a number of our subsidiaries are companies formed under
the laws of Bermuda or other jurisdictions that do not impose
income taxes; it is our contemplation that these companies will
not incur substantial income tax liabilities from their
operations. Because the operations of these companies generally
involve, or relate to, the insurance or reinsurance of risks
that arise in higher tax jurisdictions, such as the United
States or the United Kingdom, it is possible that the taxing
authorities in those jurisdictions may assert that the
activities of one or more of these companies creates a
sufficient nexus in that jurisdiction to subject the company to
income tax there. There are uncertainties in how the relevant
rules apply to insurance businesses, and in our eligibility for
favorable treatment under applicable tax treaties. Accordingly,
it is possible that we could incur substantial unexpected tax
liabilities.
U.S.
persons who own our ordinary shares might become subject to
adverse U.S. tax consequences as a result of related party
insurance income, or RPII, if any, of our
non-U.S.
insurance company subsidiaries.
If the RPII rules of the Code were to apply to us, a
U.S. person who owns our ordinary shares directly or
indirectly through foreign entities on the last day of the
taxable year would be required to include in income for
U.S. federal income tax purposes the shareholders pro
rata share of our
non-U.S. subsidiaries
RPII for the entire taxable year, determined as if that RPII
were distributed proportionately to the U.S. shareholders
at that date regardless whether any actual distribution is made.
In addition, any RPII that is includible in the income of a
U.S. tax-exempt organization would generally be treated as
unrelated business taxable income. Although we and our
subsidiaries intend to generally operate in a manner so as to
qualify for certain exceptions to the RPII rules, there can be
no assurance that these exceptions will be available.
Accordingly, there can be no assurance that U.S. Persons
who own our ordinary shares will not be required to recognize
gross income inclusions attributable to RPII.
In addition, the RPII rules provide that if a shareholder who is
a U.S. Person disposes of shares in a foreign insurance
company that has RPII and in which U.S. Persons
collectively own 25% or more of the shares, any gain from the
disposition will generally be treated as dividend income to the
extent of the shareholders share of the
41
corporations undistributed earnings and profits that were
accumulated during the period that the shareholder owned the
shares (whether or not those earnings and profits are
attributable to RPII). Such a shareholder would also be required
to comply with certain reporting requirements, regardless of the
amount of shares owned by the shareholder. These rules should
not apply to dispositions of our ordinary shares because we will
not be directly engaged in the insurance business. The RPII
rules, however, have not been interpreted by the courts or the
IRS, and regulations interpreting the RPII rules exist only in
proposed form. Accordingly, there is no assurance that our views
as to the inapplicability of these rules to a disposition of our
ordinary shares will be accepted by the IRS or a court.
U.S.
persons who own our ordinary shares would be subject to adverse
tax consequences if we or one or more of our
non-U.S.
subsidiaries were considered a passive foreign investment
company, or PFIC, for U.S. federal income tax
purposes.
We believe that we and our
non-U.S. subsidiaries
will not be PFICs for U.S. federal income purposes for the
current year. Moreover, we do not expect to conduct our
activities in a manner that will cause us or any of our
non-U.S. subsidiaries
to become a PFIC in the future. However, there can be no
assurance that the IRS will not challenge this position or that
a court will not sustain such challenge. Accordingly, it is
possible that we or one or more of our
non-U.S. subsidiaries
might be deemed a PFIC by the IRS or a court for the current
year or any future year. If we or one or more of our
non-U.S. subsidiaries
were a PFIC, it could have material adverse tax consequences for
an investor that is subject to U.S. federal income
taxation, including subjecting the investor to a substantial
acceleration
and/or
increase in tax liability. There are currently no regulations
regarding the application of the PFIC provisions of the Code to
an insurance company, so the application of those provisions to
insurance companies remains unclear in certain respects.
We may
become subject to taxes in Bermuda after March 28,
2016.
The Bermuda Minister of Finance, under the Exempted Undertakings
Tax Protection Act 1966, as amended, of Bermuda, has given us
and each of our Bermuda subsidiaries an assurance that if any
legislation is enacted in Bermuda that would impose tax computed
on profits or income, or computed on any capital asset, gain or
appreciation, or any tax in the nature of estate duty or
inheritance tax, then the imposition of any such tax will not be
applicable to us or our Bermuda subsidiaries or any of our or
their respective operations, shares, debentures or other
obligations until March 28, 2016. Given the limited
duration of the Minister of Finances assurance, we cannot
be certain that we will not be subject to any Bermuda tax after
March 28, 2016. In the event that we become subject to any
Bermuda tax after such date, it could have a material adverse
effect on our financial condition and results of operations.
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ITEM 1B.
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UNRESOLVED
STAFF COMMENTS
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Not applicable
We lease office space in the locations set forth below. We
believe that this office space is sufficient for us to conduct
our operations for the foreseeable future.
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Square
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Lease
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Entity
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Location
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Feet
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Expiration
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Enstar Limited
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Hamilton, Bermuda
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8,250
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August 7, 2009
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Enstar (EU) Limited
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Guildford, England
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22,712
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August 21, 2011
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River Thames Insurance Company
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London, England
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6,329
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March 24, 2015
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Enstar Limited
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Dublin, Ireland
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670
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March 31, 2008
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Enstar (US) Inc.
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Tampa, FL
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8,859
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October 31, 2008
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Enstar (US) Inc.
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Warwick, RI
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3,000
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March 31, 2011
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Enstar USA, Inc.
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Montgomery, AL
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2,500
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December 31, 2012
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42
We also own, through various of our subsidiaries, the following
properties: 1) two apartments in Guildford, England;
2) a building in Norwich, U.K. and 3) an apartment in
New York, NY.
See Note 18 to the Consolidated Financial Statements for
further discussion of our lease commitments for real property.
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ITEM 3.
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LEGAL
PROCEEDINGS
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We are, from time to time, involved in various legal proceedings
in the ordinary course of business, including litigation
regarding claims. We do not believe that the resolution of any
currently pending legal proceedings, either individually or
taken as a whole, will have a material adverse effect on our
business, results of operations or financial condition.
Nevertheless, we cannot assure you that lawsuits, arbitrations
or other litigation will not have a material adverse effect on
our business, financial condition or results of operations. We
anticipate that, similar to the rest of the insurance and
reinsurance industry, we will continue to be subject to
litigation and arbitration proceedings in the ordinary course of
business, including litigation generally related to the scope of
coverage with respect to A&E claims. There can be no
assurance that any such future litigation will not have a
material adverse effect on our business, financial condition or
results of operations.
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ITEM 4.
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SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS
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Not applicable
43
PART II
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ITEM 5.
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MARKET
FOR THE REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
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On January 31, 2007, we completed the merger, or the
Merger, of CWMS Subsidiary Corp., a Georgia corporation and our
wholly-owned subsidiary, or CWMS, with and into The Enstar Group
Inc., a Georgia corporation, or EGI. As a result of the Merger,
EGI, renamed Enstar USA, Inc., is now our wholly-owned
subsidiary.
Our ordinary shares trade on the Nasdaq Global Select Market
under the ticker symbol ESGR. Prior to the completion of the
Merger, EGIs common stock traded on the Nasdaq Global
Select Market under the ticker symbol ESGR.
Because our ordinary shares did not commence trading until after
the Merger, the following table reflects the range of high and
low selling prices by quarter of Enstars shares for the
period February 1, 2007 to December 31, 2007 and of
EGIs shares for the year ended December 31, 2006 and
the month ended January 31, 2007, as reflected in the
Nasdaq Trade and Quote Summary Reports:
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2007
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2006
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High
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Low
|
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High
|
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Low
|
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First Quarter
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$
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110.00
|
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$
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95.25
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$
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89.74
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$
|
64.25
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Second Quarter
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$
|
123.99
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$
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97.60
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$
|
92.19
|
|
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$
|
76.36
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Third Quarter
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$
|
134.28
|
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$
|
101.18
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$
|
104.94
|
|
|
$
|
84.25
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Fourth Quarter
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$
|
146.81
|
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$
|
103.25
|
|
|
$
|
99.03
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$
|
88.03
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On February 25, 2008, the number of holders of record of
our ordinary shares was 2,582. This figure does not represent
the actual number of beneficial owners of our ordinary shares
because shares are frequently held in street name by
securities dealers and others for the benefit of beneficial
owners who may vote the shares.
We are a holding company and have no direct operations. Our
ability to pay dividends or distributions depends almost
exclusively on the ability of our subsidiaries to pay dividends
to us. Under applicable law, our subsidiaries may not declare or
pay a dividend if there are reasonable grounds for believing
that they are, or would after the payment be, unable to pay
their liabilities as they become due, or the realizable value of
their assets would thereby be less than the aggregate of their
liabilities and their issued share capital and share premium
accounts. Additional restrictions apply to our insurance and
reinsurance subsidiaries. We do not intend to pay a dividend on
our ordinary shares. Rather, we intend to reinvest any earnings
back into the company. For a further description of the
restrictions on the ability of our subsidiaries to pay
dividends, see Risk Factors Risks Relating to
Ownership of Our Ordinary Shares We do not intend to
pay cash dividends on our ordinary shares and
Business Regulation beginning on
pages 40 and 24, respectively.
On January 30, 2007, EGI paid a one-time $3.00 per share
cash dividend to the holders of its common stock.
On July 2, 2007 and October 1, 2007, we credited an
aggregate of 353.403 share units and 793.681 share
units, respectively, to the accounts of non-employee directors
under the Deferred Compensation and Ordinary Share Plan for
Non-Employee Directors. Under this plan, non-employee directors
electing to defer receipt of all or a portion of their
compensation for service as directors until retirement or
termination receive such compensation in the form of share units
payable as a lump sum distribution upon termination of service.
The lump sum share unit distribution will be made in the form of
ordinary shares, with fractional shares paid in cash. The offer
and issuance of these share units are exempt from registration
under Section 4(2) of the Securities Act of 1933, or the
Securities Act, and the rules and regulations thereunder, as
transactions by an issuer not involving any public offering.
Alternatively, registration of such shares was not required
because their issuance did not involve a sale under
Section 2(3) of the Securities Act.
Because our ordinary shares did not commence trading until after
the Merger, the graph below reflects the cumulative shareholder
return on the common stock of EGI, our predecessor, compared to
the cumulative shareholder return of the NASDAQ Composite Index
(the Nasdaq index for U.S. companies used in prior years
was discontinued in 2006), and EGIs peer group index, or
the Peer Group Index, through January 31, 2007.
44
Thereafter, the graph below reflects the same comparison for
Enstar. The graph reflects the investment of $100.00 on
December 31, 2002 (assuming the reinvestment of dividends)
in EGI common stock, the NASDAQ Composite Index, and the Peer
Group Index. The Peer Group Index consists of Annuity and Life
Re Holdings, Berkshire Hathaway Inc. (Class A), ESG Re
Ltd., Everest Re Group Ltd., IPC Holdings Ltd., Max Capital
Group Ltd., Odyssey Re Holdings Corp., Argo Group International
Holdings Ltd. (fka PXRE Group Ltd.), RenaissanceRe Holdings Ltd.
and Transatlantic Holdings, Inc., which are publicly traded
companies selected by EGI, as they were identified by Bloomberg
L.P. in 2003 as comparable to EGI based on certain similarities
in their principal lines of business with EGIs reinsurance
operations.
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|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dec-02
|
|
|
Dec-03
|
|
|
Dec-04
|
|
|
Dec-05
|
|
|
Dec-06
|
|
|
Dec-07
|
The Enstar Group, Inc./Enstar Group Limited
|
|
|
$
|
100
|
|
|
|
$
|
158
|
|
|
|
$
|
210
|
|
|
|
$
|
222
|
|
|
|
$
|
322
|
|
|
|
$
|
422
|
|
NASDAQ Composite Index
|
|
|
$
|
100
|
|
|
|
$
|
150
|
|
|
|
$
|
165
|
|
|
|
$
|
169
|
|
|
|
$
|
188
|
|
|
|
$
|
205
|
|
Peer Group Index (10 Stocks)
|
|
|
$
|
100
|
|
|
|
$
|
118
|
|
|
|
$
|
123
|
|
|
|
$
|
124
|
|
|
|
$
|
150
|
|
|
|
$
|
188
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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45
|
|
ITEM 6.
|
SELECTED
FINANCIAL DATA
|
The following selected historical financial information of
Enstar for each of the past five fiscal years has been derived
from our audited historical financial statements. This
information is only a summary and should be read in conjunction
with managements discussion and analysis of results of
operations and financial condition of Enstar and the audited
consolidated financial statements and notes thereto included
elsewhere in this annual report.
Since its inception, we have made several acquisitions which
impact the comparability of the information reflected in the
Enstar Summary Historical Financial Data. See
Business Recent Acquisitions beginning
on page 6 for information about our acquisitions.
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Summary Consolidated Statements of Earnings Data:
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consulting fees
|
|
$
|
31,918
|
|
|
$
|
33,908
|
|
|
$
|
22,006
|
|
|
$
|
23,703
|
|
|
$
|
24,746
|
|
Net investment income and net realized gains/ losses
|
|
|
64,336
|
|
|
|
48,001
|
|
|
|
29,504
|
|
|
|
10,502
|
|
|
|
7,072
|
|
Net reduction in loss and loss adjustment expenses liabilities
|
|
|
24,482
|
|
|
|
31,927
|
|
|
|
96,007
|
|
|
|
13,706
|
|
|
|
24,044
|
|
Total other expenses
|
|
|
(67,904
|
)
|
|
|
(49,838
|
)
|
|
|
(57,299
|
)
|
|
|
(35,160
|
)
|
|
|
(21,782
|
)
|
Minority interest
|
|
|
(6,730
|
)
|
|
|
(13,208
|
)
|
|
|
(9,700
|
)
|
|
|
(3,097
|
)
|
|
|
(5,111
|
)
|
Share of income of partly owned companies
|
|
|
|
|
|
|
518
|
|
|
|
192
|
|
|
|
6,881
|
|
|
|
1,623
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earnings from continuing operations
|
|
|
46,102
|
|
|
|
51,308
|
|
|
|
80,710
|
|
|
|
16,535
|
|
|
|
30,592
|
|
Extraordinary gain
Negative goodwill (net of minority interest)
|
|
|
15,683
|
|
|
|
31,038
|
|
|
|
|
|
|
|
21,759
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earnings
|
|
$
|
61,785
|
|
|
$
|
82,346
|
|
|
$
|
80,710
|
|
|
$
|
38,294
|
|
|
$
|
30,592
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Per Share Data(1)(2):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share before extraordinary gain basic
|
|
$
|
3.93
|
|
|
$
|
5.21
|
|
|
$
|
8.29
|
|
|
$
|
1.72
|
|
|
$
|
3.19
|
|
Extraordinary gain per share basic
|
|
|
1.34
|
|
|
|
3.15
|
|
|
|
|
|
|
|
2.26
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share basic
|
|
$
|
5.27
|
|
|
$
|
8.36
|
|
|
$
|
8.29
|
|
|
$
|
3.98
|
|
|
$
|
3.19
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share before extraordinary gain diluted
|
|
$
|
3.84
|
|
|
$
|
5.15
|
|
|
$
|
8.14
|
|
|
$
|
1.71
|
|
|
$
|
3.19
|
|
Extraordinary gain per share diluted
|
|
|
1.31
|
|
|
|
3.11
|
|
|
|
|
|
|
|
2.24
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share diluted
|
|
$
|
5.15
|
|
|
$
|
8.26
|
|
|
$
|
8.14
|
|
|
$
|
3.95
|
|
|
$
|
3.19
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding basic
|
|
|
11,731,908
|
|
|
|
9,857,914
|
|
|
|
9,739,560
|
|
|
|
9,618,905
|
|
|
|
9,582,396
|
|
Weighted average shares outstanding diluted
|
|
|
12,009,683
|
|
|
|
9,966,960
|
|
|
|
9,918,823
|
|
|
|
9,694,528
|
|
|
|
9,582,396
|
|
Cash dividends paid per share
|
|
|
|
|
|
$
|
2.92
|
|
|
|
|
|
|
$
|
0.81
|
|
|
$
|
5.62
|
|
46
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Summary Balance Sheet Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investments
|
|
$
|
634,218
|
|
|
$
|
747,529
|
|
|
$
|
539,568
|
|
|
$
|
591,635
|
|
|
$
|
268,417
|
|
Cash and cash equivalents
|
|
|
1,166,311
|
|
|
|
513,563
|
|
|
|
345,329
|
|
|
|
350,456
|
|
|
|
127,228
|
|
Reinsurance balances receivable
|
|
|
465,277
|
|
|
|
408,142
|
|
|
|
250,229
|
|
|
|
341,627
|
|
|
|
175,091
|
|
Total assets
|
|
|
2,417,143
|
|
|
|
1,774,252
|
|
|
|
1,199,963
|
|
|
|
1,347,853
|
|
|
|
632,347
|
|
Loss and loss adjustment expense liabilities
|
|
|
1,591,449
|
|
|
|
1,214,419
|
|
|
|
806,559
|
|
|
|
1,047,313
|
|
|
|
381,531
|
|
Loans payable
|
|
|
60,227
|
|
|
|
62,148
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shareholders equity
|
|
|
450,599
|
|
|
|
318,610
|
|
|
|
260,906
|
|
|
|
177,338
|
|
|
|
147,616
|
|
Book Value per Share(3):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
38.41
|
|
|
$
|
32.32
|
|
|
$
|
26.79
|
|
|
$
|
18.44
|
|
|
$
|
15.40
|
|
Diluted
|
|
$
|
37.52
|
|
|
$
|
31.97
|
|
|
$
|
26.30
|
|
|
$
|
18.29
|
|
|
$
|
15.40
|
|
|
|
|
(1) |
|
Earnings per share is a measure based on net earnings divided by
weighted average ordinary shares outstanding. Basic earnings per
share is defined as net earnings available to ordinary
shareholders divided by the weighted average number of ordinary
shares outstanding for the period, giving no effect to dilutive
securities. Diluted earnings per share is defined as net
earnings available to ordinary shareholders divided by the
weighted average number of shares and share equivalents
outstanding calculated using the treasury stock method for all
potentially dilutive securities. When the effect of dilutive
securities would be anti-dilutive, these securities are excluded
from the calculation of diluted earnings per share. |
|
(2) |
|
The weighted average ordinary shares outstanding shown for the
years ended December 31, 2007, 2006, 2005, 2004 and 2003
reflect the conversion of Class A, B, C and D shares to
ordinary shares on January 31, 2007, as part of the
recapitalization completed in connection with the Merger, as if
the conversion occurred on January 1, 2007, 2006, 2005,
2004 and 2003. As a result both the book value per share and the
earnings per share calculations, previously reported, have been
amended to reflect this change. |
|
(3) |
|
Basic book value per share is defined as total
shareholders equity available to ordinary shareholders
divided by the number of ordinary shares outstanding as of the
end of the period, giving no effect to dilutive securities.
Diluted book value per share is defined as total
shareholders equity available to ordinary shareholders
divided by the number of ordinary shares and ordinary share
equivalents outstanding at the end of the period, calculated
using the treasury stock method for all potentially dilutive
securities. When the effect of dilutive securities would be
anti-dilutive, these securities are excluded from the
calculation of diluted book value per share. |
|
|
ITEM 7.
|
MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
|
Cautionary
Statement Regarding Forward-Looking Statements
This annual report and the documents incorporated by reference
contain statements that constitute forward-looking
statements within the meaning of Section 21E of the
Exchange Act with respect to our financial condition, results of
operations, business strategies, operating efficiencies,
competitive positions, growth opportunities, plans and
objectives of our management, as well as the markets for our
ordinary shares and the insurance and reinsurance sectors in
general. Statements that include words such as
estimate, project, plan,
intend, expect, anticipate,
believe, would, should,
could, seek, and similar statements of a
future or forward-looking nature identify forward-looking
statements for purposes of the federal securities laws or
otherwise. All forward-looking statements are necessarily
estimates or expectations, and not statements of historical
fact, reflecting the best judgment of our management and involve
a number of risks and uncertainties that could cause actual
results to differ materially from those suggested by the
forward-looking statements. These forward-looking statements
should, therefore, be considered in light of various important
factors, including those set forth in and incorporated by
reference in this annual report.
47
Factors that could cause actual results to differ materially
from those suggested by the forward-looking statements include:
|
|
|
|
|
risks associated with implementing our business strategies and
initiatives;
|
|
|
|
the adequacy of our loss reserves and the need to adjust such
reserves as claims develop over time;
|
|
|
|
risks relating to the availability and collectibility of our
reinsurance;
|
|
|
|
tax, regulatory or legal restrictions or limitations applicable
to us or the insurance and reinsurance business generally;
|
|
|
|
increased competitive pressures, including the consolidation and
increased globalization of reinsurance providers;
|
|
|
|
emerging claim and coverage issues;
|
|
|
|
lengthy and unpredictable litigation affecting assessment of
losses
and/or
coverage issues;
|
|
|
|
loss of key personnel;
|
|
|
|
changes in our plans, strategies, objectives, expectations or
intentions, which may happen at any time at managements
discretion;
|
|
|
|
operational risks, including system or human failures;
|
|
|
|
risks that we may require additional capital in the future which
may not be available or may be available only on unfavorable
terms;
|
|
|
|
the risk that ongoing or future industry regulatory developments
will disrupt our business, or mandate changes in industry
practices in ways that increase our costs, decrease our revenues
or require us to alter aspects of the way we do business;
|
|
|
|
changes in Bermuda law or regulation or the political stability
of Bermuda;
|
|
|
|
changes in regulations or tax laws applicable to us or our
subsidiaries, or the risk that we or one of our
non-U.S. subsidiaries
become subject to significant, or significantly increased,
income taxes in the United States or elsewhere;
|
|
|
|
losses due to foreign currency exchange rate fluctuations;
|
|
|
|
changes in accounting policies or practices; and
|
|
|
|
changes in economic conditions, including interest rates,
inflation, currency exchange rates, equity markets and credit
conditions which could affect our investment portfolio.
|
The factors listed above should not be construed as
exhaustive. Certain of these factors are described in more
detail in Item 1A. Risk Factors above. 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.
The following discussion and analysis of our financial condition
and results of operations should be read in conjunction with our
consolidated financial statements and the related notes included
elsewhere in this annual report. Some of the information
contained in this discussion and analysis or included elsewhere
in this annual report, including information with respect to our
plans and strategy for its business, includes forward-looking
statements that involve risks, uncertainties and assumptions.
Our actual results and the timing of events could differ
materially from those anticipated by these forward-looking
statements as a result of many factors, including those
discussed under Risk Factors, Forward-Looking
Statements and elsewhere in this annual report.
48
Business
Overview
Enstar was formed in August 2001 under the laws of Bermuda to
acquire and manage insurance and reinsurance companies in
run-off, and to provide management, consulting and other
services to the insurance and reinsurance industry.
Since our formation we have acquired a number of insurance and
reinsurance companies and are now administering those businesses
in run-off. We derive our net earnings from the ownership and
management of these companies primarily by settling insurance
and reinsurance claims below the recorded loss reserves and from
returns on the portfolio of investments retained to pay future
claims. In addition, we have formed other businesses that
provide management and consultancy services, claims inspection
services and reinsurance collection services to our affiliates
and third-party clients for both fixed and success-based fees.
In the primary (or direct) insurance business, the insurer
assumes risk of loss from persons or organizations that are
directly subject to the given risks. Such risks may relate to
property, casualty, life, accident, health, financial or other
perils that may arise from an insurable event. In the
reinsurance business, the reinsurer agrees to indemnify an
insurance or reinsurance company, referred to as the ceding
company, against all or a portion of the insurance risks arising
under the policies the ceding company has written or reinsured.
When an insurer or reinsurer stops writing new insurance
business, either entirely or with respect to a particular line
of business, the insurer, reinsurer, or the line of discontinued
business is in run-off.
In recent years, the insurance industry has experienced
significant consolidation. As a result of this consolidation and
other factors, the remaining participants in the industry often
have portfolios of business that are either inconsistent with
their core competency or provide excessive exposure to a
particular risk or segment of the market (e.g.,
property/casualty, asbestos, environmental, director and officer
liability, etc.). These non-core
and/or
discontinued portfolios are often associated with potentially
large exposures and lengthy time periods before resolution of
the last remaining insured claims resulting in significant
uncertainty to the insurer or reinsurer covering those risks.
These factors can distract management, drive up the cost of
capital and surplus for the insurer or reinsurer, and negatively
impact the insurers or reinsurers credit rating,
which makes the disposal of the unwanted company or portfolio an
attractive option. Alternatively, the insurer may wish to
maintain the business on its balance sheet, yet not divert
significant management attention to the run-off of the
portfolio. The insurer or reinsurer, in either case, is likely
to engage a third party, such as ourselves, that specializes in
run-off management to purchase the company, or to manage the
company or portfolio in run-off.
In the sale of a run-off company, a purchaser, such as
ourselves, typically pays a discount to the book value of the
company based on the risks assumed and the relative value to the
seller of no longer having to manage the company in run-off.
Such a transaction can be beneficial to the seller because it
receives an up-front payment for the company, eliminates the
need for its management to devote any attention to the disposed
company and removes the risk that the established reserves
related to the run-off business may prove to be inadequate. The
seller is also able to redeploy its management and financial
resources to its core businesses.
Alternatively, if the insurer or reinsurer hires a third party,
such as us, to manage its run-off business, the insurer or
reinsurer will, unlike in a sale of the business, receive little
or no cash up front. Instead, the management arrangement may
provide that the insurer or reinsurer will share in the profits,
if any, derived from the run-off with certain incentive payments
allocated to the run-off manager. By hiring a run-off manager,
the insurer or reinsurer can outsource the management of the
run-off business to experienced and capable individuals, while
allowing its own management team to focus on the insurers
or reinsurers core businesses. Our desired approach to
managing run-off business is to align our interests with the
interests of the owners through both fixed management fees and
certain incentive payments. Under certain management
arrangements to which we are a party, we only receive a fixed
management fee and do not receive any incentive payments.
Following the purchase of a run-off company or the engagement to
manage a run-off company or portfolio of business, it is
incumbent on the new owner or manager to conduct the run-off in
a disciplined and professional manner in order to efficiently
discharge liabilities associated with the business while
preserving and maximizing its assets. Our approach to managing
our acquired companies in run-off as well as run-off companies
or portfolios of businesses on behalf of third-party clients
includes negotiating with third-party insureds and reinsureds to
commute
49
their insurance or reinsurance agreement (sometimes called
policy buy-backs) for an agreed upon up-front payment by us, or
the third-party client, and to more efficiently manage payment
of insurance and reinsurance claims. We attempt to commute
policies with direct insureds or reinsureds in order to
eliminate uncertainty over the amount of future claims. We also
attempt, where appropriate, to negotiate favorable commutations
with reinsurers by securing the receipt of a lump-sum settlement
from the reinsurer in complete satisfaction of the
reinsurers liability in respect of any future claims. We,
or our third-party client, are then fully responsible for any
claims in the future. We typically invest proceeds from
reinsurance commutations with the expectation that such
investments will produce income, which, together with the
principal, will be sufficient to satisfy future obligations with
respect to the acquired company or portfolio.
With respect to our U.K. and Bermuda insurance and reinsurance
subsidiaries, we are able to pursue strategies to achieve
complete finality and conclude the run-off of a company by
promoting solvent schemes of arrangement. Solvent schemes of
arrangement, or a Solvent Scheme, have been a popular means of
achieving financial certainty and finality, for insurance and
reinsurance companies incorporated or managed in the U.K. and
Bermuda by making a one-time full and final settlement of an
insurance and reinsurance companys liabilities to
policyholders. Such a Solvent Scheme is an arrangement between a
company and its creditors or any class of them. For a Solvent
Scheme to become binding on the creditors, a meeting of each
class of creditors must be called, with the permission of the
local court, to consider and, if thought fit, approve the
Solvent Scheme. The requisite statutory majority of creditors of
not less than 75% in value and 50% in number of those creditors
actually attending the meeting, either in person or by proxy,
must vote in favor of a Solvent Scheme. Once a Solvent Scheme
has been approved by the statutory majority of voting creditors
of the company it requires the sanction of the local court.
While a Solvent Scheme provides an alternative exit strategy for
run-off companies it is not our strategy to make such
acquisitions with this strategy solely in mind. Our preferred
approach is to generate earnings from the disciplined and
professional management of acquired run-off companies and then
consider exit strategies, including a Solvent Scheme, when the
majority of the run-off is complete. To understand risks
associated with this strategy, see Risk Factors
Risks Relating to Our Business Exit and
finality opportunities provided by solvent schemes of
arrangement may not continue to be available, which may result
in the diversion of our resources to settle policyholder claims
for a substantially longer run-off period and increase the
associated costs of run-off of our insurance and reinsurance
subsidiaries beginning on page 36.
We manage our business through two operating segments:
reinsurance and consulting.
Our reinsurance segment comprises the operations and financial
results of its insurance and reinsurance subsidiaries. The
financial results of this segment primarily consist of
investment income less net reductions in loss and loss
adjustment expense liabilities, direct expenses (including
certain premises costs and professional fees) and management
fees paid to our consulting segment.
Our consulting segment comprises the operations and financial
results of those subsidiaries that provide management and
consulting services, forensic claims inspections services and
reinsurance collection services to third-party clients. This
segment also provides management services to the reinsurance
segment in return for management fees. The financial results of
this segment primarily consist of fee income less overhead
expenses comprised of staff costs, information technology costs,
certain premises costs, travel costs and certain professional
fees.
See Note 19 to the Consolidated Financial Statements for
further discussion of our segments.
As of December 31, 2007 we had $2,417.1 million of
total assets and $450.6 million of shareholders
equity. We operate our business internationally through our
insurance and reinsurance subsidiaries and our consulting
subsidiaries in the United Kingdom, the United States, Europe
and Bermuda.
Financial
Statement Overview
Consulting
Fee Income
We generate consulting fees based on a combination of fixed and
success-based fee arrangements. Consulting income will vary from
period to period depending on the timing of completion of
success-based fee arrangements. Success-based fees are recorded
when targets related to overall project completion or
profitability goals are
50
achieved. Our consulting segment, in addition to providing
services to third parties, also provides management services to
the reinsurance segment based on agreed terms set out in
management agreements between the parties. The fees charged by
the consulting segment to the reinsurance segment are eliminated
against the cost incurred by the reinsurance segment on
consolidation.
Net
Investment Income and Net Realized Gains/(Losses)
Our net investment income is principally derived from interest
earned primarily on cash and investments offset by investment
management fees paid. Our investment portfolio currently
consists of the following: (1) bond portfolios that are
classified as both trading and held-to-maturity and carried at
fair value and amortized cost, respectively; (2) cash and
cash equivalents; (3) other investments that are accounted
for on the equity basis; and (4) fixed and short-term
investments that are classified as trading and are carried at
fair value.
Our current investment strategy seeks to preserve principal and
maintain liquidity while trying to maximize investment return
through a high-quality, diversified portfolio. The volatility of
claims and the effect they have on the amount of cash and
investment balances, as well as the level of interest rates and
other market factors, affect the return we are able to generate
on our investment portfolio. It is our current investment policy
to hold our bond portfolio to maturity, and not to trade or have
such portfolio available-for-sale. When we make a new
acquisition we will often restructure the acquired investment
portfolio, which may generate one-time realized gains or losses.
The majority of cash and investment balances are held within our
reinsurance segment.
Net
Reduction in Loss and Loss Adjustment Expense
Liabilities
Our insurance-related earnings are primarily comprised of
reductions, or potentially increases, of net loss and loss
adjustment expense liabilities. These liabilities are comprised
of:
|
|
|
|
|
outstanding loss or case reserves, or OLR, which represent
managements best estimate of the likely settlement amount
for known claims, less the portion that can be recovered from
reinsurers;
|
|
|
|
reserves for losses incurred but not reported, or IBNR reserves,
which are reserves established by Enstar for claims that are not
yet reported but can reasonably be expected to have occurred
based on industry information, managements experience and
actuarial evaluation, less the portion that can be recovered
from reinsurers; and
|
|
|
|
reserves for future loss adjustment expense liabilities which
represent managements best estimate of the future costs of
managing the run-off of claims liabilities.
|
Net loss and loss adjustment expense liabilities are reviewed by
our management each quarter and by independent actuaries
annually. Reserves reflect managements best estimate of
the remaining unpaid portion of these liabilities. Prior period
estimates of net loss and loss adjustment expense liabilities
may change as our management considers the combined impact of
commutations, policy buy-backs, settlement of losses on carried
reserves and the trend of incurred loss development compared to
prior forecasts.
Commutations provide an opportunity for us to exit exposures to
entire policies with insureds and reinsureds at a discount to
the previously estimated ultimate liability. Our internal and
external actuaries eliminate all prior historical loss
development that relates to commuted exposures and apply their
actuarial methodologies to the remaining aggregate exposures and
revised historical loss development information to reassess
estimates of ultimate liabilities.
Policy buy-backs provide an opportunity for us to settle
individual policies and losses usually at a discount to carried
advised loss reserves. As part of our routine claims settlement
operations, claims will settle at either below or above the
carried advised loss reserve. The impact of policy buy-backs and
the routine settlement of claims updates historical loss
development information to which actuarial methodologies are
applied often resulting in revised estimates of ultimate
liabilities. Our actuarial methodologies include industry
benchmarking which, under certain methodologies (discussed
further under Critical Accounting
Policies below), compares the trend of our loss
development to that of the industry. To the extent that the
trend of our loss development compared to the industry changes
in any period it is likely to have an impact on the estimate of
ultimate liabilities. Additionally,
51
consolidated net reductions, or potentially increases, in loss
and loss adjustment expense liabilities include reductions, or
potentially increases, in the provisions for future losses and
loss adjustment expenses related to the current periods
run-off activity. Net reductions in net loss and loss adjustment
expense liabilities are reported as negative expenses by us in
our reinsurance segment. The unallocated loss adjustment
expenses paid by the reinsurance segment comprise management
fees paid to the consulting segment and are eliminated on
consolidation. The consulting segment costs in providing run-off
services are classified as salaries and general and
administrative expenses. For more information on how the
reserves are calculated, see Critical
Accounting Policies Loss and Loss Adjustment
Expenses below.
As our reinsurance subsidiaries are in run-off, our premium
income is insignificant, consisting primarily of adjustment
premiums triggered by loss payments.
Salaries
and Benefits
We are a service-based company and, as such, employee salaries
and benefits are our largest expense. We have experienced
significant increases in our salaries and benefits expenses as
we have grown our operations, and we expect that trend to
continue if we are able to successfully expand our operations.
On September 15, 2006, our board of directors and
shareholders adopted the Enstar Group Limited 2006 Equity
Incentive Plan, or the Equity Incentive Plan, and the Enstar
Group Limited
2006-2010
Annual Incentive Compensation Plan, or the Annual Incentive
Plan, which is administered by a Compensation Committee
appointed by our board of directors, or the Plan Committee.
The Annual Incentive Plan provides for the annual grant of bonus
compensation, or, each, a bonus award, to certain of officers
and employees of Enstar and our subsidiaries, including our
senior executive officers. Bonus awards for each calendar year
from 2006 through 2010 will be determined based on our
consolidated net after-tax profits. The Plan Committee
determines the amount of bonus awards in any calendar year,
based on a percentage of our consolidated net after-tax profits.
The percentage is 15% unless the Plan Committee exercises its
discretion to change the percentage no later than 30 days
after our year-end. For the years ended December 31, 2007
and 2006 the percentage was left unchanged by the Plan
Committee. The Plan Committee determines, in its sole
discretion, the amount of bonus awards payable to each
participant.
Bonus awards are payable in cash, ordinary shares or a
combination of both. Ordinary shares issued in connection with a
bonus award will be issued pursuant to the terms and subject to
the conditions of the Equity Incentive Plan, and the number of
shares issued will be determined based on the fair market value
of ordinary shares for the thirty calendar days preceding the
grant of ordinary shares as a bonus award.
For information on the awards made under both the Annual and
Equity Incentive plans for the years ended December 31,
2007 and December 31, 2006, see Note 12 to the
Consolidated Financial Statements.
With the exception of the expense relating to the Annual
Incentive Plan, which is allocated to both the reinsurance and
consulting segments, the costs of all of our employees are
accounted for as part of the consulting segment.
General
and Administrative Expenses
General and administrative expenses include rent and
rent-related costs, professional fees (legal, investment, audit
and actuarial) and travel expenses. We have operations in
multiple jurisdictions and our employees travel frequently in
connection with the search for acquisition opportunities and in
the general management of the business. While certain general
and administrative expenses, such as rent and related costs and
professional fees, are incurred directly by the reinsurance
segment, the remaining general and administrative expenses are
incurred by the consulting segment. To the extent that such
costs incurred by the consulting segment relate to the
management of the reinsurance segment, they are recovered by the
consulting segment through the management fees charged to the
reinsurance segment.
52
Foreign
Exchange Gain/(Loss)
Our reporting and functional currency is U.S. dollars.
Through our subsidiaries, however, we hold a variety of foreign
(non-U.S.)
currency assets and liabilities, the principal exposures being
Euros and British pounds. At each balance sheet date, recorded
balances that are denominated in a currency other than
U.S. dollars are adjusted to reflect the current exchange
rate. Revenue and expense items are translated into
U.S. dollars at average rates of exchange for the period.
The resulting exchange gains or losses are included in our net
income. We seek to manage our exposure to foreign currency
exchange by broadly matching our foreign currency assets against
our foreign currency liabilities.
Income
Tax/(Recovery)
Under current Bermuda law, Enstar and its Bermuda-based
subsidiaries are not required to pay taxes in Bermuda on either
income or capital gains. These companies have received an
undertaking from the Bermuda government that, in the event of
income or capital gains taxes being imposed, they will be
exempted from such taxes until the year 2016. Enstars
non-Bermuda subsidiaries record income taxes based on their
graduated statutory rates, net of tax benefits arising from tax
loss carryforwards. On January 1, 2007 we adopted the
provisions of FASB Interpretation No. 48. Accounting
for Uncertainty in Income Taxes, or FIN 48. As a
result of the implementation of FIN 48, we recognized a
$4.9 million increase to the January 1, 2007 balance
of retained earnings.
Minority
Interest
The acquisitions of Hillcot Re Limited (formerly Toa-Re
Insurance Company (UK) Limited) in March 2003 and of Brampton
Insurance Company Limited (formerly Aioi Insurance Company of
Europe Limited) in March 2006 were effected through Hillcot
Holdings Limited, or Hillcot, a Bermuda-based company in which
we have a 50.1% economic interest. The results of
operations of Hillcot are included in our consolidated
statements of operations with the remaining 49.9% economic
interest in the results of Hillcot reflected as a minority
interest.
Enstar owns 50.1% of The Shelbourne Group Limited, which in turn
owns 100% of Shelbourne Syndicate Services Limited, the Managing
Agency for Lloyds Syndicate 2008, a syndicate approved by
Lloyds of London on December 16, 2007. Enstar has
committed to provide approximately 65% of the capital
required by Lloyds Syndicate 2008 which is authorized to
undertake RITC transactions (the transferring of the liabilities
from one Lloyds Syndicate to another) of Lloyds
Syndicates in Run-off.
Negative
Goodwill
Negative goodwill represents the excess of the fair value of
businesses acquired by us over the cost of such businesses. In
accordance with FAS 141 Business Combinations,
this amount is recognized upon the acquisition of the businesses
as an extraordinary gain. The fair values of the reinsurance
assets and liabilities acquired are derived from
probability-weighted ranges of the associated projected cash
flows, based on actuarially prepared information and our
managements run-off strategy. Any amendment to the fair
values resulting from changes in such information or strategy
will be recognized when they occur. For more information on how
the goodwill is determined, see Critical
Accounting Policies Goodwill below.
Critical
Accounting Policies
Certain amounts in our consolidated financial statements require
the use of best estimates and assumptions to determine reported
values. These amounts could ultimately be materially different
than what has been provided for in our consolidated financial
statements. We consider the assessment of loss reserves and
reinsurance recoverable to be the values requiring the most
inherently subjective and complex estimates. In addition, the
assessment of the possible impairment of goodwill involves
certain estimates and assumptions. As such, the accounting
policies for these amounts are of critical importance to our
consolidated financial statements.
53
Loss and
Loss Adjustment Expenses
The following table provides a breakdown of gross loss and loss
adjustment expense reserves by type of exposure as of
December 31, 2007 and 2006:
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
|
OLR
|
|
|
IBNR
|
|
|
Total
|
|
|
OLR
|
|
|
IBNR
|
|
|
Total
|
|
|
|
(in thousands of U.S. Dollars)
|
|
|
(in thousands of U.S. Dollars)
|
|
|
Asbestos
|
|
$
|
180,068
|
|
|
$
|
402,289
|
|
|
$
|
582,357
|
|
|
$
|
158,861
|
|
|
$
|
389,143
|
|
|
$
|
548,004
|
|
Environmental
|
|
|
39,708
|
|
|
|
55,544
|
|
|
|
95,252
|
|
|
|
43,957
|
|
|
|
74,115
|
|
|
|
118,072
|
|
All Other
|
|
|
382,040
|
|
|
|
464,789
|
|
|
|
846,829
|
|
|
|
312,913
|
|
|
|
161,855
|
|
|
|
474,768
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
601,816
|
|
|
|
922,622
|
|
|
|
1,524,438
|
|
|
|
515,731
|
|
|
|
625,113
|
|
|
|
1,140,844
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
ULAE
|
|
|
|
|
|
|
|
|
|
|
67,011
|
|
|
|
|
|
|
|
|
|
|
|
73,575
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
$
|
1,591,449
|
|
|
|
|
|
|
|
|
|
|
$
|
1,214,419
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note: The All Other exposure category consists of a
mix of casualty, property, marine, aviation and other
miscellaneous exposures, which are generally long-tailed in
nature.
The following table provides a breakdown of loss and loss
adjustment expense reserves (net of reinsurance balances
recoverable) by type of exposure as of December 31, 2007
and 2006:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(in thousands of
|
|
|
|
U.S. dollars)
|
|
|
Asbestos
|
|
$
|
355,213
|
|
|
$
|
336,744
|
|
Environmental
|
|
|
64,764
|
|
|
|
52,342
|
|
Other
|
|
|
743,508
|
|
|
|
483,173
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,163,485
|
|
|
$
|
872,259
|
|
|
|
|
|
|
|
|
|
|
As of December 31, 2007, the IBNR reserves (net of
reinsurance balances receivable) accounted for
$570.7 million, or 49.1%, of our total loss reserves. The
reserve for IBNR (net of reinsurance balance receivable)
accounted for $359.4 million, or 41.2%, of our total loss
reserves at December 31, 2006.
Annual
Loss and Loss Adjustment Reviews
Because a significant amount of time can lapse between the
assumption of risk, the occurrence of a loss event, the
reporting of the event to an insurance or reinsurance company
and the ultimate payment of the claim on the loss event, the
liability for unpaid losses and loss adjustment expenses is
based largely upon estimates. Our management must use
considerable judgment in the process of developing these
estimates. The liability for unpaid losses and loss adjustment
expenses for property and casualty business includes amounts
determined from loss reports on individual cases and amounts for
IBNR reserves. Such reserves are estimated by management based
upon loss reports received from ceding companies, supplemented
by our own estimates of losses for which no ceding company loss
reports have yet been received.
In establishing reserves, management also considers independent
actuarial estimates of ultimate losses. Our actuaries employ
generally accepted actuarial methodologies to estimate ultimate
losses and loss adjustment expenses. A loss reserve study is
prepared by an independent actuary annually in order to provide
additional insight into the reasonableness of our reserves for
losses and loss adjustment expenses.
As of December 31, 2007, 2002 was the most recent year in
which policies were underwritten by any of our insurance and
reinsurance subsidiaries. As a result, all of our unpaid claims
liabilities are considered to have a long-tail claims payout.
Loss reserves relate primarily to casualty exposures, including
latent claims, of which approximately 44.5% relate to asbestos
and environmental, or A&E, exposures.
Within the annual loss reserve studies produced by our external
actuaries, exposures for each subsidiary are separated into
homogeneous reserving categories for the purpose of estimating
IBNR. Each reserving category
54
contains either direct insurance or assumed reinsurance reserves
and groups relatively similar types of risks and exposures (for
example asbestos, environmental, casualty, property) and lines
of business written (for example marine, aviation, non-marine).
Based on the exposure characteristics and the nature of
available data for each individual reserving category, a number
of methodologies are applied. Recorded reserves for each
category are selected from the indications produced by the
various methodologies after consideration of exposure
characteristics, data limitations and strengths and weaknesses
of each method applied. This approach to estimating IBNR has
been consistently adopted in the annual loss reserve studies for
each period presented.
The ranges of gross loss and loss adjustment expense reserves
implied by the various methodologies used by each of
Enstars insurance subsidiaries as of December 31,
2007 were:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Low
|
|
|
Selected
|
|
|
High
|
|
|
Asbestos
|
|
$
|
275,219
|
|
|
$
|
582,357
|
|
|
$
|
589,784
|
|
Environmental
|
|
|
48,684
|
|
|
|
95,252
|
|
|
|
111,724
|
|
All Other
|
|
|
761,674
|
|
|
|
846,829
|
|
|
|
920,634
|
|
ULAE
|
|
|
67,011
|
|
|
|
67,011
|
|
|
|
67,011
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,152,588
|
|
|
$
|
1,591,449
|
|
|
$
|
1,689,153
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Latent
Claims
Our loss reserves are related largely to casualty exposures
including latent exposures relating primarily to A&E. In
establishing the reserves for unpaid claims, management
considers facts currently known and the current state of the law
and coverage litigation. Liabilities are recognized for known
claims (including the cost of related litigation) when
sufficient information has been developed to indicate the
involvement of a specific insurance policy, and management can
reasonably estimate its liability. In addition, reserves are
established to cover loss development related to both known and
unasserted claims.
The estimation of unpaid claim liabilities is subject to a high
degree of uncertainty for a number of reasons. First, unpaid
claim liabilities for property and casualty exposures in general
are impacted by changes in the legal environment, jury awards,
medical cost trends and general inflation. Moreover, for latent
exposures in particular, developed case law and adequate claim
history do not exist. There is significant coverage litigation
related to these exposures, which creates further uncertainty in
the estimation of the liabilities. As a result, for these types
of exposures, it is especially unclear whether past claim
experience will be representative of future claim experience.
Ultimate values for such claims cannot be estimated using
reserving techniques that extrapolate losses to an ultimate
basis using loss development factors, and the uncertainties
surrounding the estimation of unpaid claim liabilities are not
likely to be resolved in the near future. There can be no
assurance that the reserves established by us will be adequate
or will not be adversely affected by the development of other
latent exposures.
Our asbestos claims are primarily products liability claims
submitted by a variety of insureds who operated in different
parts of the asbestos distribution chain. While most such claims
arise from asbestos mining and primary asbestos manufacturers,
we have also been receiving claims from tertiary defendants such
as smaller manufacturers, and the industry has seen an emerging
trend of non-products claims arising from premises exposures.
Unlike products claims, primary policies generally do not
contain aggregate policy limits for premises claims, which,
accordingly, remain at the primary layer and, thus, rarely
impact excess insurance policies. As the vast majority of
Enstars policies are excess policies, this trend has had
only a marginal effect on our asbestos exposures thus far.
Asbestos reform efforts have been underway at both the federal
and state level to address the cost and scope of asbestos claims
to the American economy. While congressional efforts to create a
federal trust fund that would replace the tort system for
asbestos claims failed, several states, including Texas and
Florida, have passed reforms based on medical
criteria requiring certain levels of medically documented
injury before a lawsuit can be filed, resulting in a drop of
year-on-year
case filings in those states adopting this reform measure.
Asbestos claims primarily fall into two general categories:
impaired and unimpaired bodily injury claims. Property damage
claims represent only a small fraction of asbestos claims.
Impaired claims primarily include individuals suffering from
mesothelioma or a cancer such as lung cancer. Unimpaired claims
include asbestosis and
55
those whose lung regions contain pleural plaques. Unimpaired
claims are not life threatening and do not cause changes to
ones ability to function or to ones lifestyle.
Unlike traditional property and casualty insurers that either
have large numbers of individual claims arising from personal
lines such as auto, or small numbers of high value claims as in
medical malpractice insurance lines, our primary exposures arise
from A&E claims that do not follow a consistent pattern.
For instance, we may encounter a small insured with one large
environmental claim due to significant groundwater
contamination, while a Fortune 500 company may submit
numerous claims for relatively small values. Moreover, there is
no set pattern for the life of an environmental or asbestos
claim. Some of these claims may resolve within two years whereas
others have remained unresolved for nearly two decades.
Therefore, our open and closed claims data do not follow any
identifiable or discernible pattern.
Furthermore, because of the reinsurance nature of the claims we
manage, we focus on the activities at the (re)insured level
rather than at the individual claims level. The counterparties
with whom we typically interact are generally insurers or large
industrial concerns and not individual claimants. Claims do not
follow any consistent pattern. They arise from many insureds or
locations and in a broad range of circumstances. An insured may
present one large claim or hundreds or thousands of small
claims. Plaintiffs counsel frequently aggregate thousands
of claims within one lawsuit. The deductibles to which claims
are subject vary from policy to policy and year to year. Often
claims data is only available to reinsurers, such as us, on an
aggregated basis. Accordingly, we have not found claim count
information or average reserve amounts to be reliable indicators
of exposure for our reserve estimation process or for management
of our liabilities. We have found data accumulation and claims
management more effective and meaningful at the (re)insured
level rather than at the underlying claim level. As a result, we
have designed our reserving methodologies to be independent of
claim count information. As the level of exposures to a
(re)insured can vary substantially, we focus on the aggregate
exposures and pursue commutations and policy buy-backs with the
larger (re)insureds.
We employ approximately 32 full time equivalent employees,
including two U.S. attorneys, actuaries, and experienced
claims-handlers to directly administer our A&E liabilities.
We have estimated a provision for future expenses of
$29.8 million, which reflects the total anticipated costs
to administer these claims to expiration.
Our future asbestos loss development may be influenced by many
factors including:
|
|
|
|
|
Onset of future asbestos-related illness in individuals exposed
to asbestos over the past 50 or more years.
|
|
|
|
Future viability of the practice of resolving asbestos liability
for defendant companies through bankruptcy.
|
|
|
|
Enactment of tort reforms establishing stricter medical criteria
for asbestos awards.
|
|
|
|
Attempts to resolve all
U.S.-related
asbestos litigation through federal legislation.
|
The influence of each of these factors is not easily
quantifiable and our historical asbestos loss development is of
limited value in determining future asbestos loss development
using traditional actuarial reserving techniques.
Significant trends affecting insurer liabilities and reserves in
recent years had little effect on environmental claims, except
for claims arising out of damages to natural resources. New
Jersey has pioneered the use of natural resources damages to
advance further pursuit of funds from potentially responsible
parties, or PRPs who may have been contributors to the source
contamination. A successful action in 2006 against Exxon Mobil
has increased the likelihood that the use of natural resource
damages will expand within New Jersey and perhaps other states.
These actions target primary policies and will likely have less
effect on excess carriers because damages, when awarded, are
typically spread across many PRPs and across many policy years.
As such, claims do not generally reach excess insurance layers.
Our future environmental loss development may also be influenced
by other factors including:
|
|
|
|
|
Existence of currently undiscovered polluted sites eligible for
clean-up
under the Comprehensive Environmental Response, Compensation,
and Liability Act (CERCLA) and related legislation.
|
|
|
|
Costs imposed due to joint and several liability if not all PRPs
are capable of paying their share.
|
|
|
|
Success of legal challenges to certain policy terms such as the
absolute pollution exclusion.
|
56
|
|
|
|
|
Potential future reforms and amendments to CERCLA, particularly
as the resources of Superfund the funding vehicle,
established as part of CERCLA, to provide financing for cleanup
of polluted sites where no PRP can be identified
become exhausted.
|
The influence of each of these factors is not easily
quantifiable and, as with asbestos-related exposures, our
historical environmental loss development is of limited value in
determining future environmental loss development using
traditional actuarial reserving techniques.
Finally, the issue of lead paint liability represents a
potential emerging trend in latent claim activity that could
potentially result in future reserve adjustments. After a series
of successful defense efforts by defendant lead pigment
manufacturers in lead paint litigation, in 2005, a Rhode Island
court ruled in favor of the government in a nuisance claim
against the defendant manufacturers. Although the damages
portion of the case has yet to be decided, the plaintiff could
receive a significant award. Further, there are similar pending
claims in several jurisdictions including California and Ohio.
Insureds have yet to meet policy terms and conditions to
establish coverage for lead paint public nuisance claims as
opposed to traditional bodily injury and property damage claims
but there is the potential for significant impact to excess
insurers should plaintiffs prevail in successive nuisance claims
pending in other jurisdictions and coverage is established.
Our independent, external actuaries use industry benchmarking
methodologies to estimate appropriate IBNR reserves for our
A&E exposures. These methods are based on comparisons of
our loss experience on A&E exposures relative to industry
loss experience on A&E exposures. Estimates of IBNR are
derived separately for each of our relevant subsidiaries and,
for some subsidiaries, separately for distinct portfolios of
exposure. The discussion that follows describes, in greater
detail, the primary actuarial methodologies used by our
independent actuaries to estimate IBNR for A&E exposures.
In addition to the specific considerations for each method
described below, many general factors are considered in the
application of the methods and the interpretation of results for
each portfolio of exposures. These factors include the mix of
product types (e.g. primary insurance versus reinsurance of
primary versus reinsurance of reinsurance), the average
attachment point of coverages (e.g. first-dollar primary versus
umbrella over primary versus high-excess), payment and reporting
lags related to our international domicile subsidiaries, payment
and reporting pattern acceleration due to large
wholesale settlements (e.g. policy buy-backs and
commutations) pursued by us, lists of individual risks remaining
and general trends within the legal and tort environments.
1. Paid Survival Ratio Method. In this
method, our expected annual average payment amount is multiplied
by an expected future number of payment years to get an
indicated reserve. Our historical calendar year payments are
examined to determine an expected future annual average payment
amount. This amount is multiplied by an expected number of
future payment years to estimate a reserve. Trends in calendar
year payment activity are considered when selecting an expected
future annual average payment amount. Accepted industry
benchmarks are used in determining an expected number of future
payment years. Each year, annual payments data is updated,
trends in payments are re-evaluated and changes to benchmark
future payment years are reviewed. This method has advantages of
ease of application and simplicity of assumptions. A potential
disadvantage of the method is that results could be misleading
for portfolios of high excess exposures where significant
payment activity has not yet begun.
2. Paid Market Share Method. In this
method, our estimated market share is applied to the industry
estimated unpaid losses. The ratio of our historical calendar
year payments to industry historical calendar year payments is
examined to estimate our market share. This ratio is then
applied to the estimate of industry unpaid losses. Each year,
calendar year payment data is updated (for both us and
industry), estimates of industry unpaid losses are reviewed and
the selection of our estimated market share is revisited. This
method has the advantage that trends in calendar year market
share can be incorporated into the selection of company share of
remaining market payments. A potential disadvantage of this
method is that it is particularly sensitive to assumptions
regarding the time-lag between industry payments and our
payments.
3. Reserve-to-Paid Method. In this
method, the ratio of estimated industry reserves to industry
paid-to-date losses is multiplied by our paid-to-date losses to
estimate our reserves. Specific considerations in the
application of
57
this method include the completeness of our paid-to-date loss
information, the potential acceleration or deceleration in our
payments (relative to the industry) due to our claims handling
practices, and the impact of large individual settlements. Each
year, paid-to-date loss information is updated (for both us and
the industry) and updates to industry estimated reserves are
reviewed. This method has the advantage of relying purely on
paid loss data and so is not influenced by subjectivity of case
reserve loss estimates. A potential disadvantage is that the
application to our portfolios which do not have complete
inception-to-date paid loss history could produce misleading
results. To address this potential disadvantage, a variation of
the method is also considered by multiplying the ratio of
estimated industry reserves to industry losses paid during a
recent period of time (e.g. 5 years) times our paid losses
during that period.
4. IBNR:Case Ratio Method. In this
method, the ratio of estimated industry IBNR reserves to
industry case reserves is multiplied by our case reserves to
estimate our IBNR reserves. Specific considerations in the
application of this method include the presence of policies
reserved at policy limits, changes in overall industry case
reserve adequacy and recent loss reporting history for us. Each
year, our case reserves are updated, industry reserves are
updated and the applicability of the industry IBNR:case ratio is
reviewed. This method has the advantage that it incorporates the
most recent estimates of amounts needed to settle open cases
included in current case reserves. A potential disadvantage is
that results could be misleading where our case reserve adequacy
differs significantly from overall industry case reserve
adequacy.
5. Ultimate-to-Incurred Method. In this
method, the ratio of estimated industry ultimate losses to
industry incurred-to-date losses is applied to our
incurred-to-date losses to estimate our IBNR reserves. Specific
considerations in the application of this method include the
completeness of our incurred-to-date loss information, the
potential acceleration or deceleration in our incurred losses
(relative to the industry) due to our claims handling practices
and the impact of large individual settlements. Each year
incurred-to-date loss information is updated (for both us and
the industry) and updates to industry estimated ultimate losses
are reviewed. This method has the advantage that it incorporates
both paid and case reserve information in projecting ultimate
losses. A potential disadvantage is that results could be
misleading where cumulative paid loss data is incomplete or
where our case reserve adequacy differs significantly from
overall industry case reserve adequacy.
Under the Paid Survival Ratio Method, the Paid Market Share
Method and the Reserve-to-Paid Method, we first determine the
estimated total reserve and then deduct the reported outstanding
case reserves to arrive at an estimated IBNR reserve. The
IBNR:Case Ratio Method first determines an estimated IBNR
reserve which is then added to the advised outstanding case
reserves to arrive at an estimated total loss reserve. The
Ultimate-to-Incurred Method first determines an estimate of the
ultimate losses to be paid and then deducts paid-to-date losses
to arrive at an estimated total loss reserve and then deducts
outstanding case reserves to arrive at the estimated IBNR
reserve.
Within the annual loss reserve studies produced by our external
actuaries, exposures for each subsidiary are separated into
homogeneous reserving categories for the purpose of estimating
IBNR. Each reserving category contains either direct insurance
or assumed reinsurance reserves and groups relatively similar
types of risks and exposures (e.g. asbestos, environmental,
casualty and property) and lines of business written (e.g.
marine, aviation and non-marine). Based on the exposure
characteristics and the nature of available data for each
individual reserving category, a number of methodologies are
applied. Recorded reserves for each category are selected from
the indications produced by the various methodologies after
consideration of exposure characteristics, data limitations, and
strengths and weaknesses of each method applied. This approach
to estimating IBNR has been consistently adopted in the annual
loss reserve studies for each period presented.
As of December 31, 2007, we had 19 separate insurance
and/or
reinsurance subsidiaries whose reserves are categorized into
approximately 146 reserve categories in total, including 22
distinct asbestos reserving categories and 20 distinct
environmental reserving categories.
The five methodologies described above are applied for each of
the 22 asbestos reserving categories and each of the 20
environmental reserving categories. As is common in actuarial
practice, no one methodology is exclusively or consistently
relied upon when selecting a recorded reserve. Consistent
reliance on a single methodology to select a recorded reserve
would be inappropriate in light of the dynamic nature of both
the A&E liabilities in general, and our actual exposure
portfolios in particular.
58
In selecting a recorded reserve, management considers the range
of results produced by the methods, and the strengths and
weaknesses of the methods in relation to the data available and
the specific characteristics of the portfolio under
consideration. Trends in both our data and industry data are
also considered in the reserve selection process. Recent trends
or changes in the relevant tort and legal environments are also
considered when assessing methodology results and selecting an
appropriate recorded reserve amount for each portfolio.
The following key assumptions were used to estimate A&E
reserves at December 31, 2007:
1. $65 billion Ultimate Industry Asbestos losses
This level of industry-wide losses and its
comparison to industry-wide paid, incurred and outstanding case
reserves is the base benchmarking assumption applied to Paid
Market Share, Reserve-to-Paid, IBNR: Case Ratio and the
Ultimate-to-Incurred asbestos reserving methodologies.
2. $35 billion Ultimate Industry Environmental
losses This level of industry-wide losses
and its comparison to industry-wide paid, incurred and
outstanding case reserves is the base benchmarking assumption
applied to Paid Market Share, Reserve-to-Paid, IBNR: Case Ratio
and the Ultimate-to-Incurred environmental reserving
methodologies.
3. Loss reporting lag Our
subsidiaries assumed a mix of insurance and reinsurance
exposures generally through the London market. As the available
industry benchmark loss information, as supplied by our
independent consulting actuaries, is compiled largely from
U.S. direct insurance company experience, our loss
reporting is expected to lag relative to available industry
benchmark information. This time-lag used by each of our
insurance subsidiaries varies from 2 to 5 years depending
on the relative mix of domicile, percentages of product mix of
insurance, reinsurance and retrocessional reinsurance, primary
insurance, excess insurance, reinsurance of direct, and
reinsurance of reinsurance within any given exposure category.
Exposure portfolios written from a
non-U.S. domicile
are assumed to have a greater time-lag than portfolios written
from a U.S. domicile. Portfolios with a larger proportion
of reinsurance exposures are assumed to have a greater time-lag
than portfolios with a larger proportion of insurance exposures.
The assumptions above as to Ultimate Industry Asbestos and
Environmental losses have not changed from the immediately
preceding period. For our company as a whole, the average
selected lag for Asbestos has decreased from 3 years to
2.8 years and the average selected lag for Environmental
has increased from 2.5 years to 2.6 years. The changes
arise largely as a result of the acquisition of new portfolios
of A&E exposures.
The following tables provide a summary of the impact of changes
in industry ultimate losses, from the selected $65 billion
for asbestos and $35 billion for environmental, and changes
in the time-lag, from the selected averages of 2.8 years
for asbestos and 2.6 years for environmental, for us behind
industry development that it is assumed relates to our insurance
and reinsurance companies. Please note that the table below
demonstrates sensitivity to changes to key assumptions using
methodologies selected for determining loss and ALAE at
December 31, 2007 and differs from the table on
page 55 which demonstrates the range of outcomes produced
by the various methodologies.
|
|
|
|
|
|
|
Asbestos
|
|
Sensitivity to Industry Asbestos Ultimate Loss Assumption
|
|
Loss Reserves
|
|
|
Asbestos $65 billion (selected)
|
|
$
|
582,357
|
|
Asbestos $60 billion
|
|
|
498,509
|
|
|
|
|
|
|
|
|
Environmental
|
|
Sensitivity to Industry Environmental Ultimate Loss
Assumption
|
|
Loss Reserves
|
|
|
Environmental $35 billion (selected)
|
|
$
|
95,252
|
|
Environmental $40 billion
|
|
|
131,858
|
|
Environmental $30 billion
|
|
|
58,646
|
|
59
|
|
|
|
|
|
|
|
|
|
|
Asbestos
|
|
|
Environmental
|
|
Sensitivity to Time-Lag Assumption*
|
|
Loss Reserves
|
|
|
Loss Reserves
|
|
|
Selected average of 2.8 years asbestos, 2.6 years
environmental
|
|
$
|
582,357
|
|
|
$
|
95,252
|
|
Increase all portfolio lags by six months
|
|
|
645,169
|
|
|
|
99,454
|
|
Decrease all portfolio lags by six months
|
|
|
528,015
|
|
|
|
91,599
|
|
|
|
|
* |
|
using $65 billion/$35 billion Asbestos/Environmental
Industry Ultimate Loss assumptions |
Industry publications indicate that the range of ultimate
industry asbestos losses is estimated to be between
$55 billion and $65 billion. Based on
managements experience of substantial loss development on
our asbestos exposure portfolios, we have selected the upper end
of the range as the basis for our asbestos loss reserving.
Although the industry publications suggest a low end of the
range of industry ultimate losses of $55 billion, we
consider that unlikely and believe that it is more reasonable to
assume that the lower end of this range of ultimate losses could
be $60 billion.
Guidance from industry publications is more varied in respect of
estimates of ultimate industry environmental losses. Consistent
with an industry published estimate, we believe the reasonable
range for ultimate industry environmental losses is between
$30 billion and $40 billion. We have selected the
midpoint of this range as the basis for our environmental loss
reserving based on advice supplied by our independent consulting
actuaries. Another industry publication, released prior to the
one relied upon by us, indicates that ultimate industry
environmental losses could be $56 billion. However, based
on our own loss experience, including successful settlement
activity by us, the decline in new claims notified in recent
years and improvements in environmental
clean-up
technology, we do not believe that the $56 billion estimate
is a reasonable basis for our reserving for environmental losses.
Managements current estimate of the time lag that relates
to our insurance and reinsurance subsidiaries compared to the
industry is considered reasonable given the analysis performed
by our internal and external actuaries to date.
Over time, additional information regarding such exposure
characteristics may be developed for any given portfolio. This
additional information could cause a shift in the lag assumed.
Non-Latent Claims
Non-latent claims are less significant to us, both in terms of
reserves held and in terms of risk of significant reserve
deficiency. For non-latent loss exposure, a range of traditional
loss development extrapolation techniques is applied.
Incremental paid and incurred loss development methodologies are
the most commonly used methods. Traditional cumulative paid and
incurred loss development methods are used where
inception-to-date, cumulative paid and reported incurred loss
development history is available.
These methods assume that cohorts, or groups, of losses from
similar exposures will increase over time in a predictable
manner. Historical paid and incurred loss development experience
is examined for earlier accident years to make inferences about
how later accident years losses will develop. Where
company-specific loss information is not available or not
reliable, industry loss development information published by
industry sources such as the Reinsurance Association of America
is considered. These methods calculate an estimate of ultimate
losses and then deduct paid-to-date losses to arrive at an
estimated total loss reserve. Outstanding losses are then
deducted from estimated total loss reserves to calculate the
estimated IBNR reserve. Management does not expect changes in
underlying reserving assumptions to have a material impact on
net loss and loss adjustment expense reserves as they are
primarily sensitive to changes due to loss development.
Quarterly Reserve Reviews
In addition to an in-depth annual review, we also perform
quarterly reserve reviews. This is done by examining quarterly
paid and incurred loss development to determine whether it is
consistent with reserves established during the preceding annual
reserve review and with expected development. Loss development
is reviewed separately for each major exposure type (e.g.
asbestos, environmental, etc.), for each of our relevant
subsidiaries, and for large wholesale commutation
settlements versus routine paid and advised losses.
This process is undertaken to determine whether loss development
experience during a quarter warrants any change to held reserves.
60
Loss development is examined separately by exposure type because
different exposures develop differently over time. For example,
the expected reporting and payout of losses for a given amount
of asbestos reserves can be expected to take place over a
different time frame and in a different quarterly pattern from
the same amount of environmental reserves.
In addition, loss development is examined separately for each of
our relevant subsidiaries. While the most significant exposures
for most of our subsidiaries are latent A&E exposures,
there are differing profiles to the exposure across our
subsidiaries. Companies can differ in their exposure profile due
to the mix of insurance versus reinsurance, the mix of primary
versus excess insurance, the underwriting years of participation
and other criteria. These differing profiles lead to different
expectations for quarterly and annual loss development by
company.
Our quarterly paid and incurred loss development is often driven
by large, wholesale settlements such as
commutations and policy buy-backs which settle many
individual claims in a single transaction. This allows for
monitoring of the potential profitability of large settlements
which, in turn, can provide information about the adequacy of
reserves on remaining exposures which have not yet been settled.
For example, if it were found that large settlements were
consistently leading to large negative, or favorable, incurred
losses upon settlement, it might be an indication that reserves
on remaining exposures are redundant. Conversely, if it were
found that large settlements were consistently leading to large
positive, or adverse, incurred losses upon settlement, it might
be an indication particularly if the size of the
losses were increasing that certain loss reserves on
remaining exposures are deficient. Moreover, removing the loss
development resulting from large settlements allows for a review
of loss development related only to those contracts which remain
exposed to losses. Were this not done, it is possible that
savings on large wholesale settlements could mask significant
underlying development on remaining exposures.
Once the data has been analyzed as described above, an in-depth
review is performed on classes of exposure with significant loss
development. Discussions are held with appropriate personnel,
including individual company managers, claims handlers and
attorneys, to better understand the causes. If it is determined
that development differs significantly from expectations,
reserves would be adjusted.
Quarterly loss development is expected to be fairly erratic for
the types of exposure insured and reinsured by us. Several
quarters of low incurred loss development can be followed by
spikes of relatively large incurred losses. This is
characteristic of latent claims and other insurance losses which
are reported and settled many years after the inception of the
policy. Given the high degree of statistical uncertainty, and
potential volatility, it would be unusual to adjust reserves on
the basis of one, or even several, quarters of loss development
activity. As a result, unless the incurred loss activity in any
one quarter is of such significance that management is able to
quantify the impact on the ultimate liability for loss and loss
adjustment expenses, reductions or increases in loss and loss
adjustment expense liabilities are carried out in the fourth
quarter based on the annual reserve review described above.
As described above, our management regularly reviews and updates
reserve estimates using the most current information available
and employing various actuarial methods. Adjustments resulting
from changes in our estimates are recorded in the period when
such adjustments are determined. The ultimate liability for loss
and loss adjustment expenses is likely to differ from the
original estimate due to a number of factors, primarily
consisting of the overall claims activity occurring during any
period, including the completion of commutations of assumed
liabilities and ceded reinsurance receivables, policy buy-backs
and general incurred claims activity.
Reinsurance
Balances Receivable
Our acquired reinsurance subsidiaries, prior to acquisition by
us, used retrocessional agreements to reduce their exposure to
the risk of insurance and reinsurance they assumed. Loss
reserves represent total gross losses, and reinsurance
receivables represent anticipated recoveries of a portion of
those unpaid losses as well as amounts receivable from
reinsurers with respect to claims that have already been paid.
While reinsurance arrangements are designed to limit losses and
to permit recovery of a portion of direct unpaid losses,
reinsurance does not relieve us of our liabilities to our
insureds or reinsureds. Therefore, we evaluate and monitor
concentration of credit risk among our reinsurers, including
companies that are insolvent, in run-off or facing financial
difficulties. Provisions are made for amounts considered
potentially uncollectible.
61
Goodwill
We follow FAS No. 142 Goodwill and Other
Intangible Assets which requires that recorded goodwill be
assessed for impairment on at least an annual basis. In
determining goodwill, we must determine the fair value of the
assets of an acquired company. The determination of fair value
necessarily involves many assumptions. Fair values of
reinsurance assets and liabilities acquired are derived from
probability-weighted ranges of the associated projected cash
flows, based on actuarially prepared information and our
management run-off strategy. Fair value adjustments are based on
the estimated timing of loss and loss adjustment expense
payments and an assumed interest rate, and are amortized over
the estimated payout period, as adjusted for accelerations on
commutation settlements, using the constant yield method
options. Interest rates used to determine the fair value of
gross loss reserves are based upon risk free rates applicable to
the average duration of the loss reserves. Interest rates used
to determine the fair value of reinsurance receivables are
increased to reflect the credit risk associated with the
reinsurers from who the receivables are, or will become, due. If
the assumptions made in initially valuing the assets change
significantly in the future, we may be required to record
impairment charges which could have a material impact on our
financial condition and results of operations.
FAS No. 141 Business Combinations also
requires that negative goodwill be recorded in earnings. During
2004, 2006 and 2007, we took negative goodwill into earnings
upon the completion of the acquisition of certain companies and
presented it as an extraordinary gain.
New
Accounting Pronouncements
In September 2006, the FASB issued FAS No. 157, Fair
Value Measurement, or FAS 157. This Statement provides
guidance for using fair value to measure assets and liabilities.
Under this standard, the definition of fair value focuses on the
price that would be received to sell the asset or paid to
transfer the liability (an exit price), not the price that would
be paid to acquire the asset or received to assume the liability
(an entry price). FAS 157 clarifies that fair value is a
market based measurement, not an entity-specific measurement,
and sets out a fair value hierarchy with the highest priority
being quoted prices in active markets and the lowest priority
being unobservable data. Further, FAS 157 requires tabular
disclosures of the fair value measurements by level within the
fair value hierarchy. FAS 157 is effective for fiscal years
beginning after November 15, 2007, and interim periods
within those fiscal years. The adoption of FAS 157 is not
expected to have a material impact on our financial condition,
results of operations and cash flows.
In February 2007, the FASB issued FAS No. 159,
The Fair Value Option for Financial Assets and Financial
Liabilities, or FAS 159. This standard permits an
entity to irrevocably elect fair value on a
contract-by-contract
basis as the initial and subsequent measurement attribute for
many financial instruments and certain other items including
insurance contracts. An entity electing the fair value option
would be required to recognize changes in fair value in earnings
and provide disclosure that will assist investors and other
users of financial information to more easily understand the
effect of the companys choice to use fair value on its
earnings. Further, the entity is required to display the fair
value of those assets and liabilities for which the company has
chosen to use fair value on the face of the balance sheet. This
standard does not eliminate the disclosure requirements about
fair value measurements included in FAS 157 and
FAS No. 107, Disclosures about Fair Value of
Financial Instruments. FAS 159 is effective for
fiscal years beginning after November 15, 2007. We have not
made any elections to date under FAS 159.
In December 2007, the FASB issued FAS No. 141(R)
Business Combinations (FAS 141(R)).
FAS 141(R) replaces FAS No. 141 Business
Combinations, or FAS 141, but retains the fundamental
requirements in FAS No. 141 that the acquisition
method of accounting be used for all business combinations and
for an acquirer to be identified for each business combination.
FAS 141(R) requires an acquirer to recognize the assets
acquired, the liabilities assumed, and any noncontrolling
interest in the acquiree at the acquisition date, measured at
their fair values as of that date. FAS 141(R) also requires
acquisition-related costs to be recognized separately from the
acquisition, recognize assets acquired and liabilities assumed
arising from contractual contingencies at their acquisition-date
fair values and recognized goodwill as the excess of the
consideration transferred plus the fair value of any
noncontrolling interest in the acquiree at the acquisition date
over the fair values of the identifiable net assets acquired.
FAS 141(R) applies prospectively to business combinations
for which the acquisition date is on or after
62
the beginning of the first annual reporting period beginning on
or after December 15, 2008 (January 1, 2009 for
calendar year-end companies). We are currently evaluating the
provisions of FAS 141(R) and its potential impact on future
financial statements.
In December 2007, the FASB issued FAS No. 160
Noncontrolling Interests in Consolidated Financial
Statements an amendment of ARB No. 51, or
FAS 160. FAS 160 amends ARB No. 51 to establish
accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a
subsidiary. FAS 160 clarifies that a noncontrolling
interest in a subsidiary is an ownership interest in the
consolidated entity that should be reported as equity in the
consolidated financial statements. FAS 160 requires
consolidated net income to be reported at the amounts that
include the amounts attributable to both the parent and the
noncontrolling interest. This statement also establishes a
method of accounting for changes in a parents ownership
interest in a subsidiary that does result in deconsolidation.
FAS 160 is effective for fiscal years, and interim periods
within those fiscal years, beginning on or after
December 15, 2008 (January 1, 2009 for calendar
year-end companies). The presentation and disclosure of
FAS 160 shall be applied retrospectively for all periods
presented. We are currently evaluating the provisions of
FAS 160 and its potential impact on future financial
statements.
Results
of Operations
The following table sets forth our selected consolidated
statement of operations data for each of the periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting fees
|
|
$
|
31,918
|
|
|
$
|
33,908
|
|
|
$
|
22,006
|
|
Net investment income
|
|
|
64,087
|
|
|
|
48,099
|
|
|
|
28,236
|
|
Net realized gains (losses)
|
|
|
249
|
|
|
|
(98
|
)
|
|
|
1,268
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL INCOME
|
|
|
96,254
|
|
|
|
81,909
|
|
|
|
51,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net reduction in loss and loss adjustment expense liabilities
|
|
|
(24,482
|
)
|
|
|
(31,927
|
)
|
|
|
(96,007
|
)
|
Salaries and benefits
|
|
|
46,977
|
|
|
|
40,121
|
|
|
|
40,821
|
|
General and administrative expenses
|
|
|
31,413
|
|
|
|
18,878
|
|
|
|
10,962
|
|
Interest expense
|
|
|
4,876
|
|
|
|
1,989
|
|
|
|
|
|
Foreign exchange (gain) loss
|
|
|
(7,921
|
)
|
|
|
(10,832
|
)
|
|
|
4,602
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL EXPENSES
|
|
|
50,863
|
|
|
|
18,229
|
|
|
|
(39,622
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earnings before minority interest
|
|
|
45,391
|
|
|
|
63,680
|
|
|
|
91,132
|
|
Share of net earnings of partly owned companies
|
|
|
|
|
|
|
518
|
|
|
|
192
|
|
Income tax recovery (expense)
|
|
|
7,441
|
|
|
|
318
|
|
|
|
(914
|
)
|
Minority interest
|
|
|
(6,730
|
)
|
|
|
(13,208
|
)
|
|
|
(9,700
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earnings before extraordinary gain
|
|
|
46,102
|
|
|
|
51,308
|
|
|
|
80,710
|
|
Extraordinary gain Negative goodwill (2006: net of
minority interest)
|
|
|
15,683
|
|
|
|
31,038
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET EARNINGS
|
|
$
|
61,785
|
|
|
$
|
82,346
|
|
|
$
|
80,710
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comparison
of Year Ended December 31, 2007 and 2006
We reported consolidated net earnings of approximately
$61.8 million for the year ended December 31, 2007
compared to approximately $82.3 million in 2006. Included
as part of net earnings for 2007 and 2006 are extraordinary
gains of $15.7 million and $31.0 million,
respectively, relating to negative goodwill, net of minority
interest. Net earnings before extraordinary gain for 2007 were
approximately $46.1 compared to $51.3 million in 2006. The
decrease was primarily a result of a lower net reduction in loss
and loss adjustment expense liabilities, higher general and
administrative expenses and lower consulting fee income, offset
by higher investment income and income tax recoveries along with
a lower charge in respect of minority interest.
63
Consulting
Fees:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
59,465
|
|
|
$
|
54,546
|
|
|
$
|
4,919
|
|
Reinsurance
|
|
|
(27,547
|
)
|
|
|
(20,638
|
)
|
|
|
(6,909
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
31,918
|
|
|
$
|
33,908
|
|
|
$
|
(1,990
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We earned consulting fees of approximately $31.9 million
and $33.9 million for the years ended December 31,
2007 and 2006, respectively. The decrease in consulting fees was
due primarily to the acquisition of BH Acquisition, which now
forms part of the reinsurance segment and whose fee income is
now eliminated. In 2006, we had recorded $1.3 million of
fee income in respect of BH.
Internal management fees of $27.5 million and
$20.6 million were paid in 2007 and 2006, respectively, by
our reinsurance companies to our consulting companies. The
increase in fees paid by the reinsurance segment was due
primarily to the fees paid by reinsurance companies that were
acquired in 2007 along with those companies acquired during 2006.
Net
Investment Income and Net Realized Gains (Losses):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
Net Investment Income
|
|
|
Net Realized Gains (Losses)
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
228
|
|
|
$
|
1,225
|
|
|
$
|
(997
|
)
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
63,859
|
|
|
|
46,874
|
|
|
|
16,985
|
|
|
|
249
|
|
|
|
(98
|
)
|
|
|
347
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
64,087
|
|
|
$
|
48,099
|
|
|
$
|
15,988
|
|
|
$
|
249
|
|
|
$
|
(98
|
)
|
|
$
|
347
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income for the year ended December 31, 2007
increased by $16.0 million to $64.1 million, compared
to $48.1 million for the year ended December 31, 2006.
The increase was primarily attributable to our increase in
average cash and investment balances from $1,093.2 million
to $1,401.2 million for the years ended December 31,
2006 and 2007, respectively, as a result of cash and investment
portfolios of reinsurance companies acquired in the year.
The average return on the cash and investments for the year
ended December 31, 2007 was 4.57%, as compared to the
average return of 4.40% for the year ended December 31,
2006. The increase in yield was primarily the result of
increasing U.S. interest rates the average
U.S. federal funds rate has increased from 4.96% in 2006 to
5.05% in 2007. The average Standard & Poors
credit rating of our fixed income investments at
December 31, 2007 was AAA.
Net realized gains (losses) for the year ended December 31,
2007 and 2006 were $0.2 million and $(0.1) million,
respectively. Based on our current investment strategy, in
respect of our fixed maturity portfolios, we do not expect net
realized gains and losses to be significant.
Subsequent to the year ended December 31, 2007, the
U.S. federal funds rate was cut from 4.25% to 3.00% with
indications that additional cuts may be forthcoming. Therefore,
we would anticipate that the average return on investable assets
held at December 31, 2007 will be lower in 2008 as compared
to the same period in 2007.
Net
Reduction in Loss and Loss Adjustment Expense
Liabilities:
Net reduction in loss and loss adjustment expense liabilities
for the year ended December 31, 2007 was
$24.5 million, excluding the impacts of adverse foreign
exchange rate movements of $18.6 million and including both
net reduction in loss and loss adjustment expense liabilities of
$9.0 million relating to companies acquired during the year
and premium and commission adjustments triggered by incurred
losses of $0.3 million.
64
The net reduction in loss and loss adjustment expense
liabilities for 2007 of $24.5 million was attributable to a
reduction in estimates of net ultimate losses of
$30.7 million and a reduction in estimates of loss
adjustment expense liabilities of $22.0 million, relating
to 2007 run-off activity, partially offset by an increase in
aggregate provisions for bad debt of $1.7 million,
primarily relating to companies acquired in 2006, and the
amortization, over the estimated payout period, of fair value
adjustments relating to companies acquired amounting to
$26.5 million.
The reduction in estimates of net ultimate losses of
$30.7 million comprised net adverse incurred loss
development of $1.0 million offset by reductions in
estimates of IBNR reserves of $31.7 million. An increase in
estimates of ultimate losses of $2.1 million relating to
one of Enstars insurance entities was offset by reductions
in estimates of net ultimate losses of $32.8 million in
Enstars remaining insurance and reinsurance entities.
The net adverse incurred loss development of $1.0 million
and reductions in IBNR reserves of $31.7 million,
respectively, comprised the following:
(i) net adverse incurred loss development in one of
Enstars reinsurance entities of $36.6 million,
whereby advised case reserves of $16.9 million were settled
for net paid losses of $53.5 million. This adverse incurred
loss development resulted from the settlement of case and LAE
reserves above carried levels and from new loss advices,
partially offset by approximately 12 commutations of assumed and
ceded exposures below carried reserve levels. Actuarial analysis
of the remaining unsettled loss liabilities resulted in a
decrease in the estimate of IBNR loss reserves of
$13.1 million after consideration of the $36.6 million
adverse incurred loss development during the year, and the
application of the actuarial methodologies to loss data
pertaining to the remaining non-commuted exposures. Of the 12
commutations completed for this entity, three were among its top
ten cedant exposures. The remaining 9 were of a smaller size,
consistent with our approach of targeting significant numbers of
cedant and reinsurer relationships as well as targeting
significant individual cedant and reinsurer relationships. The
entity in question also benefits from substantial stop loss
reinsurance protection whereby the ultimate adverse loss
development of $23.4 million was largely offset by a
recoverable from a single AA rated reinsurer such that a net
ultimate loss of $2.1 million was retained by us;
(ii) net favorable incurred loss development of
$29.0 million, comprising net paid loss recoveries,
relating to another one of our reinsurance companies, offset by
increases in net IBNR loss reserves of $29.0 million,
resulting in no ultimate gain or loss. This reinsurance company
has retrocessional arrangements providing for full reinsurance
of all risks assumed; and
(iii) net favorable incurred loss development of
$6.6 million in our remaining insurance and reinsurance
entities together with reductions in IBNR reserves of
$26.3 million. The net favorable incurred loss development
in our remaining insurance and reinsurance entities of
$6.6 million, whereby net advised case and LAE reserves of
$2.6 million were settled for net paid loss recoveries of
$4.0 million, arose from the settlement of non-commuted
losses in the year below carried reserves and approximately 57
commutations of assumed and ceded exposures at less than case
and LAE reserves. We adopt a disciplined approach to the review
and settlement of non-commuted claims through claims adjusting
and the inspection of underlying policyholder records such that
settlements of assumed exposures may often be achieved below the
level of the originally advised loss and settlements of ceded
receivables may often be achieved at levels above carried
balances. The net reduction in the estimate of IBNR loss and
loss adjustment expense liabilities relating to our remaining
insurance and reinsurance companies amounted to
$26.3 million and results from the application of our
reserving methodologies to (i) the reduced historical
incurred loss development information relating to remaining
exposures after the 57 commutations, and (ii) reduced case
and LAE reserves in the aggregate. Of the 57 commutations
completed during 2007 for our remaining reinsurance and
insurance companies, five were among their top ten cedant
and/or
reinsurance exposures. The remaining 52 were of a smaller size,
consistent with our approach of targeting significant numbers of
cedant and reinsurer relationships, as well as targeting
significant individual cedant and reinsurer relationships.
65
The following table shows the components of the movement in net
reduction in loss and loss adjustment expense liabilities for
the years ended December 31, 2007 and 2006.
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(in thousands of
|
|
|
|
U.S. dollars)
|
|
|
Net Losses Paid
|
|
$
|
(20,422
|
)
|
|
$
|
(75,293
|
)
|
Net Reduction in Case and LAE Reserves
|
|
|
17,660
|
|
|
|
43,645
|
|
Net Reduction in IBNR
|
|
|
27,244
|
|
|
|
63,575
|
|
|
|
|
|
|
|
|
|
|
Net Reduction in Loss and Loss Adjustment Expenses
|
|
$
|
24,482
|
|
|
$
|
31,927
|
|
|
|
|
|
|
|
|
|
|
Net reduction in case and LAE reserves comprises the movement
during the year in specific case reserve liabilities as a result
of claims settlements or changes advised to us by our
policyholders and attorneys, less changes in case reserves
recoverable advised by us to our reinsurers as a result of the
settlement or movement of assumed claims. Net reduction in IBNR
represents the change in our actuarial estimates of losses
incurred but not reported.
The table below provides a reconciliation of the beginning and
ending reserves for losses and loss adjustment expenses for the
years ended December 31, 2007 and 2006. Losses incurred and
paid are reflected net of reinsurance recoverables.
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(in thousands of
|
|
|
|
U.S. dollars)
|
|
|
Balance as of January 1,
|
|
$
|
1,214,419
|
|
|
$
|
806,559
|
|
Less: Reinsurance recoverables
|
|
|
342,160
|
|
|
|
213,399
|
|
|
|
|
|
|
|
|
|
|
|
|
|
872,259
|
|
|
|
593,160
|
|
Incurred related to prior years
|
|
|
(24,482
|
)
|
|
|
(31,927
|
)
|
Paids related to prior years
|
|
|
(20,422
|
)
|
|
|
(75,293
|
)
|
Effect of exchange rate movement
|
|
|
18,625
|
|
|
|
24,856
|
|
Acquired on acquisition of subsidiaries
|
|
|
317,505
|
|
|
|
361,463
|
|
|
|
|
|
|
|
|
|
|
Net balance as of December 31,
|
|
$
|
1,163,485
|
|
|
$
|
872,259
|
|
Plus: Reinsurance recoverables
|
|
|
427,964
|
|
|
|
342,160
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31,
|
|
$
|
1,591,449
|
|
|
$
|
1,214,419
|
|
|
|
|
|
|
|
|
|
|
Salaries
and Benefits:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
36,222
|
|
|
$
|
28,255
|
|
|
$
|
(7,967
|
)
|
Reinsurance
|
|
|
10,755
|
|
|
|
11,866
|
|
|
|
1,111
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
46,977
|
|
|
$
|
40,121
|
|
|
$
|
(6,856
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries and benefits, which include expenses relating to our
Annual Incentive Compensation Program and employee share plans,
were $47.0 million and $40.1 million for the years
ended December 31, 2007 and 2006, respectively. The
increase in salaries and benefits for the consulting segment was
due to the following factors: 1) The growth in staff
numbers from 195, as of December 31, 2006, to 221, as of
December 31, 2007; 2) On May 23, 2006 we entered
into an agreement and plan of merger and a recapitalization
agreement which resulted in the existing annual incentive
compensation plan being cancelled and the modification of the
accounting treatment for share-based awards from a book value
plan to a fair value plan. The net effect of these changes was
to reduce the total salaries and benefits by $2.0 million;
and 3) In March 2007, payment of a special bonus to
Mr. John J. Oros and
66
Mr. Nimrod T. Frazer, totaling $2.0 million, in
recognition of their contributions to the successful completion
of the Merger.
We expect that staff costs will increase in 2008 due primarily
to the approximately 30 new employees that will be retained or
hired upon completion of the Gordian acquisition. Bonus accrual
expenses will be variable and dependent on our overall profit.
General
and Administrative Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
21,844
|
|
|
$
|
12,751
|
|
|
$
|
(9,093
|
)
|
Reinsurance
|
|
|
9,569
|
|
|
|
6,127
|
|
|
|
(3,442
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
31,413
|
|
|
$
|
18,878
|
|
|
$
|
(12,535
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative expenses attributable to the
consulting segment increased by $9.1 million during the
year ended December 31, 2007, as compared to the year ended
December 31, 2006 due primarily to the following:
1) increased professional fees of $4.2 million
relating to legal, accounting and filing costs associated with
our reporting obligations as a public company; 2) a
one-time expense of $1.6 million relating to the
over-recovery by us of current and prior years value added
taxes; and 3) increased rent costs of $1.4 million as
a result of one of our U.K. subsidiaries moving to new offices.
General and administrative expenses attributable to the
reinsurance segment increased by $3.4 million during the
year ended December 31, 2007, as compared to the year ended
December 31, 2006. The increased costs for the period
related primarily to the following: 1) additional general
and administrative expenses of $2.5 million incurred in
relation to companies that we acquired in 2007; and 2) a
write-off of a receivable of $0.9 million in respect of
value added tax recoveries. We expect that general and
administrative expenses attributable to the reinsurance segment
will increase in 2008 due to the costs associated with the
acquisitions completed in early 2008.
Interest
Expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
4,876
|
|
|
|
1,989
|
|
|
|
2,887
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
4,876
|
|
|
$
|
1,989
|
|
|
$
|
2,887
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense of $4.9 million and $2.0 million was
recorded for the years ended December 31, 2007 and 2006,
respectively.
For 2007, this amount relates to the interest on new loans from
a London-based bank to partially assist with the financing of
the acquisitions of Inter-Ocean Reinsurance Company Ltd, or
Inter-Ocean, and Marlon, along with interest charges from prior
years loans that were made to partially assist with the
financing of the acquisitions of Brampton Insurance Company
Limited, or Brampton, and Cavell Holdings Limited (UK), or
Cavell.
For 2006, interest expense also includes an amount relating to
the interest on funds that were borrowed from B.H. Acquisition,
which, for 2007, was a wholly-owned subsidiary, as well as
interest on a vendor promissory note that formed part of the
acquisition cost for Brampton. The vendor promissory note was
repaid in May 2006. During 2007 the Inter Ocean bank loan was
repaid in full. In February 2008 the Cavell and Marlon bank
loans were also repaid in full.
67
Foreign
Exchange Gain/(Loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
(192
|
)
|
|
$
|
(146
|
)
|
|
$
|
(46
|
)
|
Reinsurance
|
|
|
8,113
|
|
|
|
10,978
|
|
|
|
(2,865
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
7,921
|
|
|
$
|
10,832
|
|
|
$
|
(2,911
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We recorded foreign exchange gains of $7.9 million and
$10.8 million for the years ended December 31, 2007
and December 31, 2006, respectively.
The foreign exchange gain for the year ended December 31,
2007 arose primarily as a result of: 1) the holding of
surplus British Pounds; and 2) the holding by Cavell of
surplus net Canadian and Australian dollars, as required by
local regulatory obligations, at a time when these currencies
have been appreciating against the U.S. Dollar. The gain
for the year ended December 31, 2006 arose primarily as a
result of having surplus British Pounds that arose as a result
of our acquisitions of Brampton, Cavell, and Unione Italiana
(U.K.) Reinsurance Company, or Unione, at a time when the
British Pound had strengthened against the U.S. Dollar.
As our functional currency is the U.S. Dollar, we seek to
manage our exposure to foreign currency exchange by broadly
matching foreign currency assets against foreign currency
liabilities.
Share of
Income of Partly-Owned Company:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
|
|
|
|
518
|
|
|
|
(518
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
|
|
|
$
|
518
|
|
|
$
|
(518
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our share of equity in earnings of partly owned companies for
the years ended December 31, 2007 and 2006 was $Nil and
$0.5 million, respectively. These amounts represented our
proportionate share of equity in the earnings of B.H.
On January 31, 2007, B.H. became our wholly-owned
subsidiary and, as a result, we now consolidate the results of
B.H.
Income
Tax Recovery (Expense)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
(597
|
)
|
|
$
|
490
|
|
|
$
|
(1,087
|
)
|
Reinsurance
|
|
|
8,038
|
|
|
|
(172
|
)
|
|
|
8,210
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
7,441
|
|
|
$
|
318
|
|
|
$
|
7,123
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We recorded an income tax recovery of $7.4 million and
$0.3 million for the years ended December 31, 2007 and
2006, respectively.
Income tax (expense)/recovery of $(0.6) million and
$0.5 million were recorded in the consulting segment for
the years ended December 31, 2007 and 2006, respectively.
The variance between the two periods arose because of:
1) The inclusion for 2007, as a result of the merger, of
the tax expense of Enstar USA, Inc.; and 2) In 2006, we
applied available loss carryforwards from our U.K. insurance
companies to relieve profits in our U.K. consulting companies.
68
During 2007, in the reinsurance segment, the statute of
limitations expired on certain previously recorded liabilities
related to uncertain tax positions. The benefit to us was $8.5
million.
Minority
Interest:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
(6,730
|
)
|
|
|
(13,208
|
)
|
|
|
6,478
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
(6,730
|
)
|
|
$
|
(13,208
|
)
|
|
$
|
6,478
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We recorded a minority interest in earnings of $6.7 million
for the year ended December 31, 2007 reflecting the 49.9%
minority economic interest held by a third party in the earnings
from Hillcot, Brampton and Shelbourne, and $13.2 million
for the year ended December 31, 2006 reflecting the 49.9%
minority economic interest held by a third party in the earnings
from Hillcot and Brampton.
The decrease in minority interest was primarily a result of
reduced foreign exchange gains in Brampton and a decrease in net
reduction in loss and loss adjustment expense liabilities for
Hillcot Re and Brampton.
Negative
Goodwill:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Variance
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
15,683
|
|
|
|
31,038
|
|
|
|
(15,355
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
15,683
|
|
|
$
|
31,038
|
|
|
$
|
(15,355
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Negative goodwill of $15.7 million and $31.0 million
(net of minority interest of $4.3 million) was recorded for
the years ended December 31, 2007 and 2006, respectively.
For 2007, the negative goodwill of $15.7 million was earned
in connection with our acquisition of Inter-Ocean and represents
the excess of the cumulative fair value of net assets acquired
of $73.2 million over the cost of $57.5 million. This
excess has, in accordance with SFAS 141 Business
Combinations, been recognized as an extraordinary gain in
2007. The negative goodwill arose primarily as a result of the
strategic desire of the vendors to achieve an exit from such
operations and therefore to dispose of the company at a discount
to fair value.
Negative goodwill of $31.0 million, net of minority
interest of $4.3 million, was recorded for the year ended
December 31, 2006 in connection with our acquisitions of
Brampton, Cavell and Unione during the year. This amount
represents the excess of the cumulative fair value of net assets
acquired of $222.9 million over the cost of
$187.5 million. This excess has, in accordance with
SFAS 141 Business Combinations, been recognized
as an extraordinary gain in 2006.
The negative goodwill of $4.3 million (net of minority
interest) relating to Brampton arose as a result of the income
earned by Brampton between the date of the balance sheet on
which the agreed purchase price was based, December 31,
2004, and the date the acquisition closed, March 30, 2006.
The negative goodwill of $26.7 million relating to the
purchases of Cavell and Unione arose primarily as a result of
the strategic desire of the vendors to achieve an exit from such
operations and, therefore, to dispose of the companies at a
discount to fair value.
Comparison
of Year Ended December 31, 2006 and 2005
We reported consolidated net earnings of approximately
$82.3 million for the year ended December 31, 2006
compared to approximately $80.7 million in 2005. Included
as part of net earnings for 2006 is an extraordinary gain of
$31.0 million relating to negative goodwill, net of
minority interest. Net earnings before extraordinary gain for
2006 were approximately $51.3 million compared to
$80.7 million in 2005. The decrease was primarily a result
of a
69
lower net reduction in loss and loss adjustment expense
liabilities and higher general and administrative expenses
offset by higher consulting fee income, investment income and
increased foreign exchange gains.
Consulting
Fees:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
54,546
|
|
|
$
|
38,046
|
|
|
$
|
16,500
|
|
Reinsurance
|
|
|
(20,638
|
)
|
|
|
(16,040
|
)
|
|
|
(4,598
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
33,908
|
|
|
$
|
22,006
|
|
|
$
|
11,902
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We earned consulting fees of approximately $33.9 million
and $22.0 million for the years ended December 31,
2006 and 2005, respectively. Included in these amounts was
approximately $1.3 million in consulting fees charged to
wholly-owned subsidiaries of B.H. Acquisition, a partly-owned
equity affiliate, in both 2006 and 2005. The increase in
consulting fees was due primarily to the increase of
approximately $8.9 million in management and
incentive-based fees earned by our U.S. subsidiaries along
with increased incentive-based fees generated by our Bermuda
management company.
Internal management fees of $20.6 million and
$16.0 million were paid in 2006 and 2005, respectively, by
our reinsurance companies to our consulting companies. The
increase in fees paid by the reinsurance segment was due
primarily to the fees paid by reinsurance companies that were
acquired in 2006.
Net
Investment Income and Net Realized Gains/(Losses):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
Net Investment Income
|
|
|
Net Realized Gains/(Losses)
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
1,225
|
|
|
$
|
576
|
|
|
$
|
649
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
46,874
|
|
|
|
27,660
|
|
|
|
19,214
|
|
|
|
(98
|
)
|
|
|
1,268
|
|
|
|
(1,366
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
48,099
|
|
|
$
|
28,236
|
|
|
$
|
19,863
|
|
|
$
|
(98
|
)
|
|
$
|
1,268
|
|
|
$
|
(1,366
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income for the year ended December 31, 2006
increased by $19.9 million to $48.1 million, compared
to $28.2 million for the year ended December 31, 2005.
The increase was attributable to the increase in prevailing
interest rates during the year along with an increase in average
cash and investment balances from $913.5 million to
$1,093.2 million for the years ended December 31, 2005
and 2006, respectively, relating to cash and investment
portfolios of reinsurance companies acquired in the year.
The average return on the cash and fixed maturities investments
for the year ended December 31, 2006 was 4.40%, as compared
to the average return of 3.23% for the year ended
December 31, 2005. The increase in yield was primarily the
result of increasing U.S. interest rates the
U.S. federal funds rate has increased from 2.25% on
January 1, 2005 to 4.25% on December 31, 2005 and to
5.25% on December 31, 2006. The average
Standard & Poors credit rating of our fixed
income investments at December 31, 2006 was AAA.
Net realized (losses)/gains for the year ended December 31,
2006 and 2005 were $(0.1) million and $1.3 million,
respectively. Based on our current investment strategy, we do
not expect net realized gains and losses to be significant in
the foreseeable future.
Net
Reduction in Loss and Loss Adjustment Expense
Liabilities:
Net reduction in loss and loss adjustment expense liabilities
for the year ended December 31, 2006 was $31.9 million
and was attributable to a reduction in estimates of net ultimate
losses of $21.4 million, a reduction in estimates of loss
adjustment expense liabilities of $15.1 million to reflect
2006 run-off activity, compared to a reduction of
$10.5 million in 2005 (the larger reduction relating to
companies acquired during 2006), a reduction in aggregate
provisions for bad debt of $6.3 million compared to
$20.2 million in 2005, resulting from the collection of
certain reinsurance receivables against which bad debt
provisions had been provided in earlier periods, partially
70
offset by the amortization, over the estimated payout period, of
fair value adjustments relating to companies acquired amounting
to $10.9 million compared to $7.9 million in 2005, the
increased charge reflecting amortization relating to companies
acquired during 2006. The reduction in estimates of net ultimate
losses of $21.4 million comprised of net adverse incurred
loss development of $37.9 million offset by reductions in
estimates of IBNR reserves of $59.3 million, of which an
increase in estimates of ultimate losses of $3.4 million
relating to one of our insurance entities was offset by
reductions in estimates of net ultimate losses of
$24.8 million in our remaining insurance and reinsurance
entities.
The adverse incurred loss development of $37.9 million,
whereby advised case and LAE reserves of $37.4 million were
settled for net paid losses of $75.3 million, comprised
adverse incurred loss development of $59.2 million relating
to one of our insurance companies partially offset by favorable
incurred loss development of $21.3 million relating to our
remaining insurance and reinsurance companies.
The adverse incurred loss development of $59.2 million
relating to one of our insurance companies was comprised of net
paid loss settlements of $81.3 million less reductions in
case and LAE reserves of $22.1 million and resulted from
the settlement of case and LAE reserves above carried levels and
from new loss advices, partially offset by approximately 10
commutations of assumed and ceded exposures below carried
reserves levels. Actuarial analysis of the remaining unsettled
loss liabilities resulted in an increase in the estimate of IBNR
loss reserves of $35.0 million after consideration of the
$59.2 million adverse incurred loss development during the
year, and the application of the actuarial methodologies to loss
data pertaining to the remaining non-commuted exposures. Other
factors contributing to the increase include the establishment
of a reserve to cover potential exposure to lead paint claims, a
significant increase in asbestos reserves related to the
entitys single largest cedant (following a detailed review
of the underlying exposures), and a change in the assumed
asbestos and environmental loss reporting time-lag as discussed
further below. Of the 10 commutations completed for this entity,
two were among its top ten cedant
and/or
reinsurance exposures. The remaining 8 were of a smaller size,
consistent with our approach of targeting significant numbers of
cedant and reinsurer relationships as well as targeting
significant individual cedant and reinsurer relationships. The
entity in question also benefits from substantial stop loss
reinsurance protection whereby the adverse loss development of
$59.2 million was largely offset by a recoverable from a
single AA rated reinsurer. The increase in estimated net
ultimate losses of $3.4 million was retained by us.
The favorable incurred loss development of $21.3 million,
relating to our remaining insurance and reinsurance companies,
whereby net advised case reserves of $15.3 million were
settled for net paid loss recoveries of $6.0 million, arose
from approximately 35 commutations of assumed and ceded
exposures at less than case and LAE reserves, where receipts
from ceded commutations exceeded settlements of assumed
exposures, and the settlement of non-commuted losses in the year
below carried reserves. We adopt a disciplined approach, through
claims adjusting and the inspection of underlying policyholder
records, to the review and settlement of non-commuted claims
such that settlements may often be achieved below the level of
the originally advised loss.
The net reduction in the estimate of IBNR loss and loss
adjustment expense liabilities relating to our remaining
insurance and reinsurance companies (i.e. excluding the net
$55.8 million reduction in IBNR reserves relating to the
entity referred to above) amounted to $3.5 million. This
net reduction was comprised of an increase of $19.8 million
resulting from (i) a change in assumptions as to the
appropriate loss reporting time lag for Asbestos related
exposures from 2 to 3 years and for environmental exposures
from 2 to 2.5 years, which resulted in an increase in
net IBNR reserves of $6.4 million, and (ii) a
reduction in ceded IBNR recoverables of $13.4 million
resulting from the commutation of ceded reinsurance protections.
The increase in IBNR of $19.8 million is offset by a
reduction of $23.3 million resulting from the application
of our reserving methodologies to (i) the reduced
historical incurred loss development information relating to
remaining exposures after the 35 commutations, and
(ii) reduced case and LAE reserves in the aggregate.
Of the 35 commutations completed during 2006 for our remaining
reinsurance and insurance companies, ten were among their top
ten cedant
and/or
reinsurance exposures. The remaining twenty-five were of a
smaller size, consistent with our approach of targeting
significant numbers of cedant and reinsurer relationships, as
well as targeting significant individual cedant and reinsurer
relationships.
71
The following table shows the components of the movement in net
reduction in loss and loss adjustment expense liabilities for
the years ended December 31, 2006 and 2005.
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Net Losses Paid
|
|
$
|
(75,293
|
)
|
|
$
|
(69,007
|
)
|
Net Change in Case and LAE Reserves
|
|
|
43,645
|
|
|
|
95,156
|
|
Net Change in IBNR
|
|
|
63,575
|
|
|
|
69,858
|
|
|
|
|
|
|
|
|
|
|
Net Reduction in Loss and Loss Adjustment Expenses
|
|
$
|
31,927
|
|
|
$
|
96,007
|
|
|
|
|
|
|
|
|
|
|
Net change in case and LAE reserves comprises the movement
during the year in specific case reserve liabilities as a result
of claims settlements or changes advised to us by our
policyholders and attorneys, less changes in case reserves
recoverable advised by us to our reinsurers as a result of the
settlement or movement of assumed claims. Net change in IBNR
represents the change in our actuarial estimates of losses
incurred but not reported.
The table below provides a reconciliation of the beginning and
ending reserves for losses and loss adjustment expenses for the
years ended December 31, 2006 and 2005. Losses incurred and
paid are reflected net of reinsurance recoverables.
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Net Reserves for Losses and Loss Adjustment Expenses, January 1
|
|
$
|
593,160
|
|
|
$
|
736,660
|
|
Incurred related to prior years
|
|
|
(31,927
|
)
|
|
|
(96,007
|
)
|
Paids related to prior years
|
|
|
(75,293
|
)
|
|
|
(69,007
|
)
|
Effect of exchange rate movement
|
|
|
24,856
|
|
|
|
3,652
|
|
Acquired on acquisition of subsidiaries
|
|
|
361,463
|
|
|
|
17,862
|
|
|
|
|
|
|
|
|
|
|
Net Reserves for Losses and Loss Adjustment Expenses, December 31
|
|
$
|
872,259
|
|
|
$
|
593,160
|
|
|
|
|
|
|
|
|
|
|
Salaries
and Benefits:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
28,255
|
|
|
$
|
26,864
|
|
|
$
|
(1,391
|
)
|
Reinsurance
|
|
|
11,866
|
|
|
|
13,957
|
|
|
|
2,091
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
40,121
|
|
|
$
|
40,821
|
|
|
$
|
700
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries and benefits, which include expenses relating to our
Annual Incentive Compensation Program and employee share plans,
were $40.1 million and $40.8 million for the years
ended December 31, 2006 and 2005, respectively. On
May 23, 2006, we entered into a merger agreement and a
recapitalization agreement, which agreements provided for the
cancellation of our then-existing incentive compensation plan,
or the Old Incentive Plan, which plan was replaced with the
Annual Incentive Plan. As a result of the execution of these
agreements, the accounting treatment for share based awards
under the Old Incentive Plan changed from book value to fair
value. As a result of this modification, we recognized
additional stock-based compensation of $15.6 million during
the quarter ended June 30, 2006. The total stock-based
compensation expense recognized in the year ended
December 31, 2006, including the $15.6 million
mentioned previously, was $22.3 million as compared to
$3.8 million for the year ended December 31, 2005. As
a result of the cancellation of the Old Incentive Plan,
$21.2 million of prior years unpaid bonus accrual was
reversed during the quarter ended June 30, 2006. The
expense associated with the new annual incentive compensation
plan was $14.5 million for the year ended December 31,
2006 as compared to an expense of $14.2 million relating to
the prior plan for the year ended December 31, 2005.
72
General
and Administrative Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
12,751
|
|
|
$
|
9,246
|
|
|
$
|
(3,505
|
)
|
Reinsurance
|
|
|
6,127
|
|
|
|
1,716
|
|
|
|
(4,411
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
18,878
|
|
|
$
|
10,962
|
|
|
$
|
(7,916
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative expenses attributable to the
consulting segment increased by $3.5 million during the
year ended December 31, 2006, as compared to the year ended
December 31, 2005. This increase was due primarily to
increases in rent and rent related costs due to an increase in
office space along with an increase in professional fees and
travel relating to due diligence work on potential acquisition
opportunities.
General and administrative expenses attributable to the
reinsurance segment increased by $4.4 million during the
year ended December 31, 2006, as compared to the year ended
December 31, 2005. Of the increased costs for the year,
$3.8 million relate to general and administrative expenses
incurred in relation to companies acquired by us in 2006 and, of
the $3.8 million, $2.5 million relate to non-recurring
costs associated with new acquisitions along with expenses
incurred in arranging loan facilities with a London-based bank.
Interest
Expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
1,989
|
|
|
|
|
|
|
|
1,989
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,989
|
|
|
$
|
|
|
|
$
|
1,989
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense of $2.0 million was recorded for the year
ended December 31, 2006. This amount relates to the
interest on the funds that were borrowed from B.H. Acquisition
and a London-based bank to partially assist with the financing
of the acquisitions of Brampton and Cavell, as well as interest
on the vendor promissory note that formed part of the
acquisition cost for Brampton. The vendor promissory note was
repaid in May 2006.
Foreign
Exchange Gain/(Loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
(146
|
)
|
|
$
|
(10
|
)
|
|
$
|
(136
|
)
|
Reinsurance
|
|
|
10,978
|
|
|
|
(4,592
|
)
|
|
|
15,570
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
10,832
|
|
|
$
|
(4,602
|
)
|
|
$
|
15,434
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We recorded a foreign exchange gain of $10.8 million for
the year ended December 31, 2006, as compared to a foreign
exchange loss of $4.6 million for 2005. The gain for the
year ended December 31, 2006 arose primarily as a result of
having surplus British Pounds that arose as a result of our
acquisitions of Brampton, Cavell, and Unione Italiana (U.K.)
Reinsurance Company, or Unione, at a time when the British Pound
had strengthened against the U.S. Dollar. The foreign
exchange loss in 2005 arose as a result of having surplus
British Pounds and Euros at various points in the year at a time
when the both the British Pound and Euro had weakened against
the U.S. Dollar. The U.S. Dollar to British Pound rate
at January 1, 2005, December 31, 2005 and
December 31, 2006 was $1.92, $1.72 and $1.959,
respectively. Similarly, the U.S. Dollar to Euro rate at
January 1, 2005, December 31, 2005 and
December 31, 2006 was $1.36, $1.18 and $1.32, respectively.
As our functional currency is the U.S. Dollar, we seek to
manage our exposure to foreign currency exchange by broadly
matching foreign currency assets against foreign currency
liabilities. The 2006 and 2005 currency
73
mismatches were addressed and corrected by converting surplus
foreign currency to U.S. Dollars at the time the mismatch
was identified.
Share of
Income of Partly-Owned Company:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
518
|
|
|
|
192
|
|
|
|
326
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
518
|
|
|
$
|
192
|
|
|
$
|
326
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our share of equity in earnings of partly-owned companies for
the years ended December 31, 2006 and 2005 was
$0.5 million and $0.2 million, respectively. These
amounts represented our proportionate share of equity in the
earnings of B.H. Acquisition.
Income
Tax Recovery (Expense)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
490
|
|
|
$
|
(883
|
)
|
|
$
|
1,373
|
|
Reinsurance
|
|
|
(172
|
)
|
|
|
(31
|
)
|
|
|
(141
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
318
|
|
|
$
|
(914
|
)
|
|
$
|
1,232
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income taxes of $0.3 million and $(0.9) million were
recorded for the years ended December 31, 2006 and 2005,
respectively. The income taxes recovered (incurred) were in
respect of our U.K and U.S subsidiaries.
Minority
Interest:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
(13,208
|
)
|
|
|
(9,700
|
)
|
|
|
(3,508
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
(13,208
|
)
|
|
$
|
(9,700
|
)
|
|
$
|
(3,508
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We recorded a minority interest in earnings of
$13.2 million and $9.7 million for the years ended
December 31, 2006 and 2005, respectively, reflecting the
49.9% minority economic interest held by a third party in the
earnings from Hillcot and Brampton.
Negative
Goodwill:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2006
|
|
|
2005
|
|
|
Variance
|
|
|
|
(In thousands of U.S. dollars)
|
|
|
Consulting
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Reinsurance
|
|
|
31,038
|
|
|
|
|
|
|
|
31,038
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
31,038
|
|
|
$
|
|
|
|
$
|
31,038
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Negative goodwill of $31.0 million, net of minority
interest of $4.3 million, was recorded for the year ended
December 31, 2006 in connection with our acquisitions of
Brampton, Cavell and Unione during the year. This amount
represents the excess of the cumulative fair value of net assets
acquired of $222.9 million over the cost of
$187.5 million. This excess has, in accordance with
SFAS 141 Business Combinations, been recognized
as an extraordinary gain in 2006.
74
The negative goodwill of $4.3 million (net of minority
interest) relating to Brampton arose as a result of the income
earned by Brampton between the date of the balance sheet on
which the agreed purchase price was based, December 31,
2004 and the date the acquisition closed, March 30, 2006.
The negative goodwill of $26.7 million relating to the
purchases of Cavell and Unione arose primarily as a result of
the strategic desire of the vendors to achieve an exit from such
operations and, therefore, to dispose of the companies at a
discount to fair value.
Liquidity
and Capital Resources
As we are a holding company and have no substantial operations
of our own, our assets consist primarily of investments in
subsidiaries. The potential sources of the cash flows to the
holding company consist of dividends, advances and loans from
our subsidiary companies.
Our future cash flows depend upon the availability of dividends
or other statutorily permissible payments from our subsidiaries.
The ability to pay dividends and make other distributions is
limited by the applicable laws and regulations of the
jurisdictions in which our insurance and reinsurance
subsidiaries operate, including Bermuda, the United Kingdom and
Europe, which subject these subsidiaries to significant
regulatory restrictions. These laws and regulations require,
among other things, certain of our insurance and reinsurance
subsidiaries to maintain minimum solvency requirements and limit
the amount of dividends and other payments that these
subsidiaries can pay to us, which in turn may limit our ability
to pay dividends and make other payments. As of
December 31, 2007 and 2006, the insurance and reinsurance
subsidiaries solvency and liquidity were in excess of the
minimum levels required. Retained earnings of our insurance and
reinsurance subsidiaries are not currently restricted as minimum
capital solvency margins are covered by share capital and
additional
paid-in-capital.
However, as of December 31, 2007 and 2006, retained
earnings of $22.1 million and $21.6 million,
respectively, of one of our subsidiaries required regulatory
approval prior to distribution.
Our capital management strategy is to preserve sufficient
capital to enable us to make future acquisitions while
maintaining a conservative investment strategy. We believe that
restrictions on liquidity resulting from restrictions on the
payments of dividends by our subsidiary companies will not have
a material impact on our ability to meet our cash obligations.
Our sources of funds primarily consist of the cash and
investment portfolios acquired on the completion of the
acquisition of an insurance or reinsurance company in run-off.
These acquired cash and investment balances are classified as
cash provided by investing activities. We expect to use these
funds acquired, together with collections from reinsurance
debtors, consulting income, investment income and proceeds from
sales and redemption of investments, to pay losses and loss
expenses, salaries and benefits and general and administrative
expenses, with the remainder used for acquisitions, additional
investments and, in the past, for dividend payments to
shareholders. We expect that our reinsurance segment will have a
net use of cash from operations as total net claim settlements
and operating expenses will generally be in excess of investment
income earned. We expect that our consulting segment operating
cash flows will generally be breakeven. We expect our operating
cash flows, together with our existing capital base and cash and
investments acquired on the acquisition of our insurance and
reinsurance subsidiaries, to be sufficient to meet cash
requirements and to operate our business. We currently do not
intend to pay cash dividends on our ordinary shares.
We maintain a short duration conservative investment strategy
whereby, as of December 31, 2007, 73.6% of our cash and
fixed income portfolio was held with a maturity of less than one
year and 89.4% had maturities of less than five years. Excluding
the impact of commutations and any schemes of arrangement,
should they be completed, we expect approximately 8.5% of the
gross reserves to be settled within one year and approximately
58.0% of the reserves to be settled within five years. However,
our strategy of commuting our liabilities has the potential to
accelerate the natural payout of losses to less than five years.
Therefore, the relatively short-duration investment portfolio is
maintained in order to provide liquidity for commutation
opportunities and preclude us from having to liquidate longer
dated securities. As a result, we do not anticipate having to
sell longer dated investments in order to meet future
policyholder liabilities. However, if we had to sell a portion
of our
held-to-maturity
portfolio to meet policyholder liabilities we would, at that
point, amend the classification of the
held-to-maturity
portfolio to an
available-for-sale
portfolio. This reclassification would require the investment
portfolio to be recorded at market value as opposed to amortized
cost. As of December 31, 2007, such a reclassification
would result in an
75
insignificant decrease in the value of our cash and investments,
reflecting the unrealized loss position of the
held-to-maturity
portfolio as of December 31, 2007.
At December 31, 2007, total cash and investments were
$1.80 billion, compared to $1.26 billion at
December 31, 2006. The increase of $539.4 million was
due primarily to cash and investments of $554.5 acquired upon
the acquisition of subsidiaries offset by: 1) net paid
losses relating to claims of $20.4 million; and
2) purchase costs of acquisitions, net of external
financing, of $52.5 million.
At December 31, 2006, total cash and investments were
$1.26 billion, compared to $884.9 million at
December 31, 2005. The increase of $376.2 million was
due primarily to cash and investments of $570.5 acquired on the
acquisition of subsidiaries offset by: 1) net paid losses
relating to claims of $75.3 million; 2) purchase costs
of acquisitions, net of external financing, of
$80.8 million; and 3) dividends and share redemptions
of $50.6 million.
Source
of Funds
We primarily generate our cash from the acquisitions we
complete. These acquired cash and investment balances are
classified as cash provided by investing activities.
We expect that for the reinsurance segment there will be a net
use of cash from operations due to total claim settlements and
operating expenses being in excess of investment income earned
and that for the consulting segment operating cash flows will be
breakeven. As a result, the net operating cash flows for us, to
expiry, are expected to be negative as we pay out cash in claims
settlements and expenses in excess of cash generated via
investment income and consulting fees.
Operating
Net cash provided by operating activities for the year ended
December 31, 2007 was $73.7 million compared to
$4.2 million for the year ended December 31, 2006.
This increase in cash flows was attributable mainly to
reinsurance collections and the sales of trading securities,
offset by higher general and administrative expenses and
interest expense incurred for the year ended December 31,
2007 as compared to the same period in 2006.
Net cash provided by (used in) operating activities for the year
ended December 31, 2006 was $4.2 million compared to
$(6.3) million for the year ended December 31, 2005.
This increase in cash flows was attributable primarily to higher
investment and consulting income, offset by higher general and
administrative expenses and interest expense incurred for the
year ended December 31, 2006 as compared to the same period
in 2005.
Investing
Investing cash flows consist primarily of cash acquired and used
for acquisitions along with net proceeds on the sale and
purchase of investments. Net cash provided by investing
activities was $475.1 million during the year ended
December 31, 2007 compared to $179.3 million during
the year ended December 31, 2006. The increase in the year
was due mainly to the sale and maturity of investments held by
us.
Net cash provided by (used in) investing activities was
$179.3 million during the year ended December 31, 2006
compared to $(14.1) million during the year ended
December 31, 2005. The increase in the year was due
primarily to the sale and maturity of investments held by us.
Financing
Net cash used in financing activities was $4.5 million
during the year ended December 31, 2007 compared to
$13.6 million during the year ended December 31, 2006.
The decrease in cash used in financing activities was primarily
attributable to the combination of redemption of shares and
dividends paid during 2006, which did not occur in 2007, and
vendor loans offset by the repurchase of our shares during 2007.
Net cash used in financing activities was $13.6 million
during the year ended December 31, 2006 compared to
$0.8 million during the year ended December 31, 2005.
The increase in cash used in our financing activities was
attributable primarily to the combination of redemption of
shares and dividends paid and vendor loans offset by net loan
finance receipts and capital contributions by the minority
interest shareholder of a subsidiary.
76
Investments
At December 31, 2007, the maturity distribution of our
fixed income investment portfolio was as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
|
Amortized
|
|
|
|
|
|
Amortized
|
|
|
|
|
|
|
Cost
|
|
|
Fair Value
|
|
|
Cost
|
|
|
Fair Value
|
|
|
Due within 1 year
|
|
$
|
102,469
|
|
|
$
|
102,346
|
|
|
$
|
397,658
|
|
|
$
|
397,346
|
|
After 1 through 5 years
|
|
|
269,303
|
|
|
|
272,735
|
|
|
|
266,604
|
|
|
|
262,978
|
|
After 5 through 10 years
|
|
|
77,486
|
|
|
|
78,965
|
|
|
|
23,176
|
|
|
|
22,923
|
|
After 10 years
|
|
|
102,442
|
|
|
|
102,933
|
|
|
|
18,030
|
|
|
|
17,294
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
551,700
|
|
|
$
|
556,979
|
|
|
$
|
705,468
|
|
|
$
|
700,541
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-Term
Debt
On April 12, 2006, we, through Hillcot, entered into a
facility loan agreement for $44.4 million with a
London-based bank. On April 13, 2006, Hillcot drew down
$44.4 million from the facility, the proceeds of which were
used to repay shareholder funds advanced for the acquisition of
Aioi Europe. The interest rate on the facility is LIBOR plus 2%
and the facility is repayable within 4 years. The facility
is secured by a first charge over Hillcots shares in Aioi
Europe together with a floating charge over Hillcots
assets. On May 5, 2006, Hillcot repaid $25.2 million
of the principal, plus accumulated interest. As of
December 31, 2007, $19.4 million of principal and
accumulated interest was payable to the bank.
On October 3, 2006, one of our subsidiaries, Virginia
Holdings Ltd., or Virginia, entered into a facility loan
agreement for $24.5 million with a London-based bank. On
October 4, 2006, Virginia drew down $24.5 million from
the facility, the proceeds of which were used to partially fund
the acquisition of Cavell. The facility was secured by a first
charge over Virginias shares in Cavell together with a
floating charge over Virginias assets. The interest rate
on the loan was LIBOR plus 2% and the loan was repayable within
4 years. As of December 31, 2007, $25.4 million
of principal and accumulated interest was payable to the bank.
In February 2008, Virginia fully repaid the outstanding
principal and accrued interest totaling approximately
$24.9 million.
On February 22, 2007, one of our subsidiaries, Oceania
Holdings Ltd., or Oceania, entered into a facility loan
agreement for $26.8 million with a London-based bank. On
February 22, 2007, Oceania drew down $26.8 million
from the facility, the proceeds of which were used to partially
fund the acquisition of Inter-Ocean. The interest rate on the
loan was LIBOR plus 2% and the loan was repayable within
4 years. On October 1, 2007, Oceania fully repaid
outstanding principal and accrued interest totaling
approximately $27.6 million.
On August 24, 2007, our wholly-owned subsidiary, Flatts
Limited, or Flatts, entered into a term facility loan agreement
for $15.3 million with a London-based bank. On
August 28, 2007, Flatts drew down $15.3 million from
the facility, the proceeds of which were used to partially fund
the acquisition of Marlon Insurance Company Limited, a U.
K.-based company and Marlon Management Services Limited. The
interest rate on the loan was LIBOR plus 2% and the loan was
repayable within 4 years. As of December 31, 2007,
$15.4 million of principal and accumulated interest was
payable to the bank. In February 2008, Flatts fully repaid the
outstanding principal and accrued interest totaling
approximately $15.6 million.
77
Aggregate
Contractual Obligations
The following table shows our aggregate contractual obligations
by time period remaining to due date as of December 31,
2007:
Payments
due by period
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less Than
|
|
|
1-3
|
|
|
3-5
|
|
|
More Than
|
|
|
|
Total
|
|
|
1 Year
|
|
|
Years
|
|
|
Years
|
|
|
5 Years
|
|
|
|
(in millions of U.S. dollars)
|
|
|
Contractual Obligations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment commitments
|
|
$
|
74.6
|
|
|
$
|
34.5
|
|
|
$
|
36.2
|
|
|
$
|
2.5
|
|
|
$
|
1.4
|
|
Operating lease obligations
|
|
|
8.2
|
|
|
|
1.8
|
|
|
|
3.6
|
|
|
|
1.7
|
|
|
|
1.1
|
|
Loan repayments
|
|
|
60.2
|
|
|
|
40.8
|
|
|
|
19.4
|
|
|
|
|
|
|
|
|
|
Purchase commitments
|
|
|
553.0
|
|
|
|
553.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross reserves for losses and loss expenses
|
|
|
1,591.4
|
|
|
|
134.6
|
|
|
|
420.9
|
|
|
|
367.7
|
|
|
|
668.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
2,287.4
|
|
|
$
|
764.7
|
|
|
$
|
480.1
|
|
|
$
|
371.9
|
|
|
$
|
670.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The amounts included for net reserve for losses and loss
adjustment expenses reflect the estimated timing of expected
loss payments on known claims and anticipated future claims.
Both the amount and timing of cash flows are uncertain and do
not have contractual payout terms. For a discussion of these
uncertainties, see Critical Accounting
Policies Loss and Loss Adjustment Expenses
beginning on page 54. Due to the inherent uncertainty in
the process of estimating the timing of these payments, there is
a risk that the amounts paid in any period will differ
significantly from those disclosed. Total estimated obligations
are expected to be funded by existing cash and investments.
We have an accrued liability of approximately $13.1 million
for unrecognized tax benefits as of December 31, 2007. We
are not able to make reasonably reliable estimates of the period
in which any cash settlements that may arise with any of the
respective tax authorities would be made. Therefore the
liability for unrecognized tax benefits is not included in the
table above.
Off-Balance
Sheet Arrangements
As of December 31, 2007, we did not have any off-balance
sheet arrangements.
Commitments
We have made a capital commitment of up to $10 million in
the GSC European Mezzanine Fund II, LP, or GSC. GSC invests
in mezzanine securities of middle and large market companies
throughout Western Europe. As of December 31, 2007, the
capital contributed to GSC was $2.8 million, with the
remaining commitment being $7.2 million. The
$10 million represents 8.5% of the total commitments made
to GSC.
We have committed to invest up to $100 million in J.C.
Flowers II, L.P. , or the Flowers Fund. During 2007, we funded a
total of $11.4 million of our commitment to the Flowers
Fund which increased our total investment in the fund to
$35.4 million as of December 31, 2007. As of
January 14, 2008, we have funded an additional
$20.9 million of our $100 million commitment. We
intend to use cash on hand to fund our remaining commitment.
During 2007, we received $1.2 million in management service
fees from the Flowers Fund for advisory services performed for
the period June 7, 2007 to June 6, 2008.
The Flowers Fund is a private investment fund for which JCF
Associates II L.P. is the general partner and J.C.
Flowers & Co. LLC is the investment advisor. JCF
Associates II L.P. and J.C. Flowers & Co. LLC are
controlled by Mr. Flowers. No fees or other compensation
will be payable by us to the Flowers Fund, JCF
Associates II L.P., J.C. Flowers & Co. LLC, or
Mr. Flowers in connection with our investment in the
Flowers Fund. John J. Oros, who is our Executive Chairman and a
member of our board of directors, is a managing director of
J.C. Flowers & Co. LLC. Mr. Oros splits his time
between J.C. Flowers & Co. LLC and us.
78
In December 2007, Enstar, in conjunction with JCF FPK I L.P., or
JCF FPK, and a newly-hired executive management
team, formed U.K.-based Shelbourne Group Limited, or Shelbourne,
to invest in Reinsurance to Close or RITC
transactions (the transferring of liabilities from one
Lloyds Syndicate to another) with Lloyds of London
insurance and reinsurance syndicates in run-off. JCF FPK is a
joint investment program between Fox-Pitt, Kelton, Cochran,
Caronia & Waller, or FPKCCW, and the Flowers Fund.
Shelbourne is a holding company of a Lloyds Managing
Agency, Shelbourne Syndicate Services Limited. Enstar owns 50.1%
of Shelbourne, which in turn owns 100% of Shelbourne Syndicate
Services Limited, the Managing Agency for Lloyds Syndicate
2008, a syndicate approved by Lloyds of London on
December 16, 2007 to undertake RITC transactions with
Lloyds syndicates in run-off. In February 2008,
Lloyds Syndicate 2008 entered into RITC agreements with
four Lloyds Syndicates with total gross insurance reserves
of approximately $455.0 million. Since January 1,
2008, Enstar has committed capital of approximately
£36.0 million (approximately $72.0 million) to
Lloyds Syndicate 2008. Enstars capital commitment
was financed by approximately £12.0 million
(approximately $24.0 million) from bank finance;
approximately £11.0 million (approximately
$22.0 million) from the Flowers Fund (acting in its own
capacity and not through JCF FPK), by way of a non-voting equity
participation; and approximately £13.0 million
(approximately $26.0 million) from available cash on hand.
JCF FPKs capital commitment to Lloyds Syndicate 2008
is approximately £14.0 million (approximately
$28.0 million).
On December 10, 2007, Enstar entered into a definitive
agreement for the purchase from AMP Limited, or AMP, of
AMPs Australian-based closed reinsurance and insurance
operations, or Gordian. The purchase price, including
acquisition expenses, of approximately AUS$440.0 million
(approximately $417.0 million), will be financed by
approximately AUS$301.0 million (approximately
$285.0 million) from bank finance jointly with a
London-based bank and a German bank, in which the Flowers Fund
is a significant shareholder of the German bank; approximately
AUS$42.0 million (approximately $40.0 million) from
the Flowers Fund, by way of non-voting equity participation; and
approximately AUS$97.0 million (approximately
$92.0 million) from available cash on hand. Following
approval of the transaction by Australian regulatory authorities
on February 20, 2008, Enstar expects the transaction to
close on March 5, 2008. The interest rate on the bank loan
is LIBOR plus 2.2% and is repayable within six years.
On December 13, 2007, Enstar entered into a definitive
agreement for the purchase of Guildhall Insurance Company
Limited, a U.K.-based insurance and reinsurance company that has
been in run-off since 1986. The acquisition was completed on
February 29, 2008. The purchase price, including
acquisition expenses, of approximately £32.0 million
(approximately $64.0 million) was financed by the drawdown
of approximately £16.5 million (approximately
$33.0 million) from a facility loan agreement with a
London-based bank; approximately £5.0 million
(approximately $10.0 million) from the Flowers Fund, by way
of non-voting equity participation; and approximately
£10.5 million (approximately $21.0 million) from
available cash on hand. The interest rate on the bank loan is
LIBOR plus 2% and is repayable within five years.
On January 27, 2008, we were advised by J.C.
Flowers & Co. LLC, or J.C. Flowers, that SLM
Corporation, or Sallie Mae, had agreed to drop its previously
announced lawsuit against J.C. Flowers and its partners seeking
the payment of a $900 million termination fee. In addition,
Sallie Mae and J.C. Flowers and its partners agreed to terminate
the merger agreement. We are not and will not be obligated to
make any payment of any kind to J.C. Flowers in respect of our
share of the termination fee.
On January 30, 2008, we were advised by New NIB Partners
L.P., or New NIB, that the previously announced sale of NIBC
Bank N.V., or NIBC, to Kaupthing Bank hf, was no longer going to
proceed due to the current instability in the financial markets.
We own approximately 1.6% of New NIB which owns approximately
79% of NIBC.
|
|
ITEM 7A.
|
QUANTITATIVE
AND QUALITATIVE INFORMATION ABOUT MARKET RISK
|
Interest
Rate Risk
We have calculated the effect that an immediate parallel shift
in the U.S. interest rate yield curve would have on our
investments at December 31, 2007. The modeling of this
effect was performed on our investments classified as either
trading or available-for-sale as a shift in the yield curve
would not have an impact on our fixed income
79
investments classified as held to maturity as they are carried
at purchase cost adjusted for amortization of premiums and
discounts. The results of this analysis are summarized in the
table below.
Interest
Rate Movement Analysis
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Rate Shift in Basis Points
|
|
|
|
−175
|
|
|
−125
|
|
|
0
|
|
|
+125
|
|
|
+175
|
|
|
|
(in thousands of U.S. dollars)
|
|
|
Total Market Value
|
|
$
|
372,458
|
|
|
$
|
364,043
|
|
|
$
|
343,003
|
|
|
$
|
321,963
|
|
|
$
|
313,547
|
|
Market Value Change from Base
|
|
|
8.59
|
%
|
|
|
6.13
|
%
|
|
|
0.0
|
%
|
|
|
(6.13
|
)%
|
|
|
(8.59
|
)%
|
Change in Unrealized Value
|
|
$
|
29,455
|
|
|
$
|
21,040
|
|
|
$
|
0
|
|
|
$
|
(21,040
|
)
|
|
$
|
(29,455
|
)
|
As a holder of fixed income securities we also have exposure to
credit risk. In an effort to minimize this risk, our investment
guidelines have been defined to ensure that the fixed income
portfolio is invested in high-quality securities. As of
December 31, 2007, approximately 78.9% of our fixed income
investment portfolio was rated AA- or better by
Standard & Poors.
At December 31, 2007, reinsurance receivables of
$350.2 million were associated with two reinsurers
represented 75.3% of our reinsurance balances receivable. These
reinsurers are rated AA- by Standard & Poors. In
the event that all or any of the reinsuring companies are unable
to meet their obligations under existing reinsurance agreements,
we will be liable for such defaulted amounts.
Effects
of Inflation
We do not believe that inflation has had a material effect on
our consolidated results of operations. Loss reserves are
established to recognize likely loss settlements at the date
payment is made. Those reserves inherently recognize the
anticipated effects of inflation. The actual effects of
inflation on our results cannot be accurately known, however,
until claims are ultimately resolved.
Foreign
Currency Risk
Through our subsidiaries, we conduct business in a variety of
non-U.S. currencies,
the principal exposures being in the currencies set out in the
table below. Assets and liabilities denominated in foreign
currencies are exposed to changes in currency exchange rates. As
our functional currency is the U.S. Dollar, exchange rate
fluctuations may materially impact our results of operations and
financial position. We currently do not use foreign currency
hedges to manage our foreign currency exchange risk. We manage
our exposure to foreign currency exchange risk by broadly
matching our
non-U.S. Dollar
denominated assets against our
non-U.S. Dollar
denominated liabilities. This matching process is done quarterly
in arrears and therefore any mismatches occurring in the period
may give rise to foreign exchange gains and losses, which could
adversely affect our operating results. We are, however,
required to maintain assets in
non-U.S. Dollars
to meet certain local country branch requirements, which
restricts our ability to manage these exposures through the
matching of our assets and liabilities.
The table below summarizes our gross and net exposure as of
December 31, 2007 to foreign currencies:
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GBP
|
|
|
Euro
|
|
|
AUD
|
|
|
CDN
|
|
|
Other
|
|
|
Total
|
|
|
|
(in millions of U.S. dollars)
|
|
|
Total Assets
|
|
$
|
321.0
|
|
|
$
|
141.9
|
|
|
$
|
34.5
|
|
|
$
|
18.7
|
|
|
$
|
26.7
|
|
|
$
|
542.8
|
|
Total Liabilities
|
|
|
241.6
|
|
|
|
117.3
|
|
|
|
25.9
|
|
|
|
4.7
|
|
|
|
24.4
|
|
|
|
413.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Foreign Currency Exposure
|
|
$
|
79.4
|
|
|
$
|
24.6
|
|
|
$
|
8.6
|
|
|
$
|
14.0
|
|
|
$
|
2.3
|
|
|
$
|
128.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Excluding any tax effects, as of December 31, 2007, a 10%
change in the U.S. Dollar relative to the other currencies
held by us would have resulted in a $12.9 million change in
the net assets held by us.
80
|
|
ITEM 8.
|
FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA
|
INDEX TO
FINANCIAL STATEMENTS AND SCHEDULES
|
|
|
|
|
|
|
Page
|
|
December 31, 2007, 2006 and 2005
|
|
|
|
|
Report of Independent Registered Public Accounting Firm
|
|
|
82
|
|
Consolidated Balance Sheets as of December 31, 2007 and 2006
|
|
|
83
|
|
Consolidated Statements of Earnings for the years ended
December 31, 2007, 2006 and 2005
|
|
|
84
|
|
Consolidated Statements of Comprehensive Income for the years
ended December 31, 2007, 2006 and 2005
|
|
|
85
|
|
Consolidated Statements of Changes in Shareholders Equity
for the years ended December 31, 2007, 2006 and 2005
|
|
|
86
|
|
Consolidated Statements of Cash Flows for the years ended
December 31, 2007, 2006 and 2005
|
|
|
87
|
|
Notes to the Consolidated Financial Statements
|
|
|
88
|
|
Report of Independent Registered Public Accounting Firm
|
|
|
115
|
|
Schedule II Condensed Financial Information of
Registrant
|
|
|
116
|
|
81
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Enstar Group Limited (formerly known as Castlewood Holdings
Limited)
We have audited the accompanying consolidated balance sheets of
Enstar Group Limited (formerly known as Castlewood Holdings
Limited) and subsidiaries (the Company) as of December 31,
2007 and 2006, and the related consolidated statements of
earnings, comprehensive income, changes in shareholders
equity and cash flows for the years ended December 31,
2007, 2006 and 2005. These financial statements are the
responsibility of the Companys management. Our
responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present
fairly, in all material respects, the financial position of
Enstar Group Limited and subsidiaries at December 31, 2007
and 2006, and the results of their operations and their cash
flows for the years ended December 31, 2007, 2006 and 2005
in conformity with accounting principles generally accepted in
the United States of America.
We have also audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
Companys internal control over financial reporting as of
December 31, 2007, based on Internal Control
Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission and our report dated
February 29, 2008 expressed an unqualified opinion on the
Companys internal control over financial reporting.
Hamilton, Bermuda
February 29, 2008
82
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(expressed in thousands of U.S. dollars, except share
data)
|
|
|
ASSETS
|
Short-term investments, available for sale, at fair value
(amortized cost: 2007 $15,480; 2006
$273,556)
|
|
$
|
15,480
|
|
|
$
|
273,556
|
|
Fixed maturities, available for sale, at fair value (amortized
cost: 2007 $7,006; 2006 $5,581)
|
|
|
6,878
|
|
|
|
5,581
|
|
Fixed maturities, held to maturity, at amortized cost (fair
value: 2007 $210,998; 2006 $328,183)
|
|
|
211,015
|
|
|
|
332,750
|
|
Fixed maturities, trading, at fair value (amortized cost:
2007 $318,199; 2006 $93,581)
|
|
|
323,623
|
|
|
|
93,221
|
|
Equities, trading, at fair value (cost: 2007 $5,087;
2006 $nil)
|
|
|
4,900
|
|
|
|
|
|
Other investments, at fair value
|
|
|
75,300
|
|
|
|
42,421
|
|
|
|
|
|
|
|
|
|
|
Total investments
|
|
|
637,196
|
|
|
|
747,529
|
|
Cash and cash equivalents
|
|
|
995,237
|
|
|
|
450,817
|
|
Restricted cash and cash equivalents
|
|
|
168,096
|
|
|
|
62,746
|
|
Accrued interest receivable
|
|
|
7,200
|
|
|
|
7,305
|
|
Accounts receivable, net
|
|
|
25,379
|
|
|
|
17,758
|
|
Income taxes recoverable
|
|
|
658
|
|
|
|
|
|
Reinsurance balances receivable
|
|
|
465,277
|
|
|
|
408,142
|
|
Investment in partly owned company
|
|
|
|
|
|
|
17,998
|
|
Goodwill
|
|
|
21,222
|
|
|
|
21,222
|
|
Other assets
|
|
|
96,878
|
|
|
|
40,735
|
|
|
|
|
|
|
|
|
|
|
TOTAL ASSETS
|
|
|