Results by Segment: Years ended December 31, 2016, 2015 and 2014
At February 24, 2017, the Company had $963 million of remaining authorization under our Board-authorized share repurchase program for common share repurchases through December 31, 2017
Non-GAAP operating income is a non-GAAP financial measure as defined in SEC Regulation G. See ‘Non-GAAP Financial Measures’ for reconciliation to nearest GAAP financial measure (net income available to common shareholders).
We are a Bermuda-based global provider of specialty lines insurance and reinsurance products with operations in Bermuda, the U.S., Canada, Europe, Singapore, Latin America and the Middle East. Our underwriting operations are organized around our two global underwriting platforms, AXIS Insurance and AXIS Re.
Our mission is to provide our clients and distribution partners with a broad range of risk transfer products and services and meaningful capacity, backed by significant financial strength. We manage our portfolio holistically, aiming to construct the optimum consolidated portfolio of funded and unfunded risks, consistent with our risk appetite and development of our franchise. We nurture an ethical, entrepreneurial and disciplined culture that promotes outstanding client service, intelligent risk taking and the achievement of superior risk-adjusted returns for our shareholders. We believe that the achievement of our objectives will position us as a global leader in specialty risks. Our execution on this strategy in 2016 included:
continued growth of our accident and health lines, which is focused on specialty accident and health products;
continued to improve the effectiveness and efficiency of our operating platforms and processes;
2016 versus 2015: Total underwriting income decreased by $23 million during 2016 compared to 2015 primarily driven by an increase in catastrophe and weather-related losses and a higher acquisition cost ratio partially offset by an increase in net favorable prior year loss reserve development, a decrease in the current accident year loss ratio excluding catastrophe and weather-related losses and an increase in other insurance-related income.
2015 versus 2014: The $159 million reduction in our underwriting result during 2015 compared to 2014 was primarily driven by the impact of the increase in the current accident year loss ratio, the impact of lower net earned premiums, higher acquisition cost ratio in the reinsurance segment and a decrease in net favorable prior year loss reserve development in the insurance segment.
The insurance segment underwriting income decreased by $37 million during 2015 compared to 2014. The decrease in underwriting income was primarily driven by a decrease in net favorable prior year loss reserve development and the impact of lower net earned premiums. Additionally, partially offsetting the decrease in underwriting income was a decrease in the acquisition cost ratio.
During 2016, net realized investment losses were $61 million compared to net realized investment losses of $138 million in 2015 and net realized investment gains of $132 million in 2014. Net realized investment losses reported in 2016 and 2015 were primarily due to foreign exchange losses on non-U.S. denominated fixed maturities, as a result of the strengthening of the U.S. dollar. Net realized investment gains in 2014 were due to the strong performance by equity markets in that year. Other than temporary impairment ("OTTI") charges were $26 million, $73 million and $31 million in 2016, 2015 and 2014, respectively.
Depreciation of the pound sterling against the U.S. dollar drove foreign exchange gains of $121 million during 2016, while depreciation of the euro, pound sterling and Australian dollar against the U.S. dollar drove foreign exchange gains of $102 million during 2015. Foreign exchange gains of $104 million in 2014 were driven by the depreciation of the euro and pound sterling against the U.S. dollar. The foreign exchange gains in each period primarily reflected the remeasurement of our foreign-denominated net insurance-related liabilities.
Excluding these foreign exchange-related amounts, other expenses were $178 million, $164 million and $236 million in 2016, 2015 and 2014, respectively. Corporate expenses increased to $120 million in 2016 from $110 million in 2015. The increase was attributable to adjustments to senior leadership executive stock compensation awards benefiting 2015, an increase in personnel costs including senior executive transition costs in 2016, partially offset by reorganization related expenses adverse to 2015. Corporate expenses decreased from $136 million in 2014 to $110 million in 2015. The decrease was driven by adjustments to senior leadership executive stock-compensation awards, a decrease in severance expenses, and a reduction in performance-based incentive accruals. These reductions were partially offset by a reduction of certain costs allocated to the operating segments and reorganization related corporate expenses incurred.
We are committed to being a leader in specialty risk, an area in which we already have depth of talent and experience, and have earned an outstanding reputation. Committed to our hybrid strategy, AXIS has developed substantial platforms in both insurance and reinsurance, providing us with balance and diversification. Management believes its positioning, franchise, expert underwriters and strong relationships with distributors and clients will provide opportunities for further profitable growth in 2017, with variances amongst our lines driven by our tactical response to market conditions. At the same time, we are broadening our risk-funding sources and developing vehicles that utilize the industry’s abundant third party capital. Therefore, we expect that our net premiums written will not grow as much as our gross premiums written, as we intend to share more of our risk with strategic capital partners.
Non-GAAP operating ROACE is calculated by dividing non-GAAP operating income for the year by the average common shareholders’ equity determined by using the common shareholders’ equity balances at the beginning and end of the year. Non-GAAP operating ROACE is a non-GAAP financial measure, as defined in SEC Regulation G. Refer to ‘Non-GAAP Financial Measures’ for additional information and a reconciliation to the nearest GAAP financial measure (ROACE).
Our objective is to generate superior returns on capital that appropriately reward our common shareholders for the risks we assume and to grow revenue only when we expect the returns will meet or exceed our requirements. We recognize that the nature of underwriting cycles and the frequency or severity of large loss events in any one year may make it difficult to achieve a profitability target in any specific period and, therefore our goal is to achieve top-quintile industry non-GAAP operating ROACE and growth in book value per share adjusted for dividends, with volatility consistent with the industry average.
The decrease in non-GAAP operating ROACE in 2015, compared to 2014, was primarily driven by a decrease in underwriting income and net investment income partially offset by a decrease in corporate expenses and lower interest expense and financing costs.
In 2016, a decrease in unrealized losses on investments which are included in accumulated other comprehensive income, also contributed to the growth in diluted book value per share, while in 2015 an increase in unrealized losses on investments partially offset the growth in diluted book value per share.
We believe in returning excess capital to our shareholders by way of dividends (as well as share repurchases) accordingly, our dividend policy is an integral part of the value we create for our shareholders. Our cumulatively strong earnings have permitted our Board of Directors to approve thirteen successive annual increases in quarterly common share dividends.
Taken together, we believe that growth in diluted book value per common share and common share dividends declared represent the total value created for our common shareholders. As companies in the insurance industry have differing dividend payout policies, we believe that investors use the DBV per common share adjusted for dividends metric to measure comparable performance across the industry.
Group (or consolidated) underwriting income is a non-GAAP financial measure as defined in SEC Regulation G. Refer to Item 8, Note 3 to the Consolidated Financial Statements 'Segment Information', for a reconciliation of consolidated underwriting income to the nearest GAAP financial measures (income before income taxes and interest in income (loss) of equity method investments) for the years indicated above. Also, refer to 'Non-GAAP Financial Measures' for additional information related to the presentation of consolidated underwriting income.
AXIS Capital cedes certain of its reinsurance business to Ventures Re, the Company's third-party capital vehicle, on a fully collateralized basis. Ventures Re is a variable interest entity and as the Company had initially concluded that it was the primary beneficiary of this entity, Ventures Re was consolidated by the Company with the net impact of the cessions included in amounts attributable from noncontrolling interest. During the second quarter of 2015, the Company early adopted ASU 2015-02, "Amendments to the Consolidation Analysis". Following the adoption of the ASU and effective as of January 1, 2015, the Company determined that it was no longer required to consolidate the results of operations and the financial position of Ventures Re. Refer to Item 8, Note 14 to the Consolidated Financial Statements 'Noncontrolling Interests' for more information. For 2014, amounts attributable from noncontrolling interests were $6,181.
2016 versus 2015: Gross premiums written in 2016 increased by $366 million or 8% compared to 2015 ($442 million or 10% increase on a constant currency basis(1)) due to increases in both the reinsurance and insurance segments.
Amounts presented on a constant currency basis are “non-GAAP financial measures” as defined in Regulation G. The constant currency basis is calculated by applying the average foreign exchange rate from the current year to the prior year balance.
The ceded ratio increased by 3 points in 2015 compared to 2014, driven by increases in both segments. The increase in the ceded ratio in the insurance segment related to an increase in reinsurance protection purchased primarily in our professional lines and a change in the business mix. The ceded ratio also increased in the reinsurance segment reflecting additional retrocessional covers primarily in the catastrophe lines.
2016 versus 2015: Net premiums earned in 2016 increased by $19 million or 1% ($123 million or 3% increase on a constant currency basis) compared to 2015. The increase was driven by an increase in gross premiums written, partially offset by an increase in premiums ceded in both the reinsurance and insurance segments.
2015 versus 2014: Net premiums earned in 2015 decreased by $185 million or 5% ($116 million or 3% decrease on a constant currency basis) compared to 2014. A combination of reductions in written premiums in the reinsurance segment, along with an increase in premiums ceded across the group drove the decrease.
Our December 31, 2016 net reserve for losses and loss expenses includes estimated amounts for numerous catastrophe events. We caution that the magnitude and/or complexity of losses arising from certain of these events, in particular Hurricane Matthew, the Fort McMurray wildfires, Storm Sandy, the 2011 Japanese earthquake and tsunami, the three New Zealand earthquakes and the Tianjin port explosion, inherently increase the level of uncertainty and, therefore, the level of management judgment involved in arriving at our estimated net reserve for losses and loss expenses. As a result, our actual losses for these events may ultimately differ materially from our current estimates.
Our short tail business includes the underlying exposures in our property and other, marine and aviation reserve classes within our insurance segment and the property and other reserve class within our reinsurance segment. Development from these classes contributed $148 million, $152 million and $207 million of the total net favorable prior year reserve development in 2016, 2015 and 2014, respectively, and primarily reflected the recognition of better than expected loss emergence.
Our medium-tail business consists primarily of professional insurance and reinsurance reserve classes, credit and political risk insurance reserve class and credit and surety reinsurance reserve class. Our reinsurance professional reserve class recognized $30 million, $38 million and $33 million of net favorable prior year development in 2016, 2015 and 2014, respectively. The 2016, 2015 and 2014 favorable loss developments on these reserve classes continued to reflect the generally favorable experience on earlier accident years as we continued to transition to more experience based methods. As our loss experience has generally been better than expected, this resulted in the recognition of net favorable prior year reserve development. In 2016, the insurance professional lines recorded $14 million of net favorable prior year development driven by overall better than expected development. In 2015, the insurance professional lines recorded adverse prior year reserve development of $14 million which was primarily the result of strengthening our Australian book of business during the third quarter of 2015. Our credit and surety lines recorded net favorable prior year reserve development of $10 million and $27 million in 2016 and 2015, respectively. This net favorable prior year reserve development reflected the recognition of generally better than expected loss emergence. In 2015, net adverse development of $15 million was recognized in our in credit and political risk insurance lines relating primarily to an increase in loss estimates for one specific claim.
$8 million of net adverse prior year reserve development on liability business, primarily related to reserve strengthening on certain claims within our excess casualty book of business.
$52 million of net favorable prior year reserve development on property and other business, related to the 2012 and 2013 accident years and driven by better than expected loss emergence, including reserve reductions related to Storm Sandy of $18 million.
$15 million of net adverse prior year reserve development on credit and political risk business, primarily related to updated information on one specific claim impacting accident year 2014, partially offset by better than expected development on the 2013 accident year.
$98 million of net favorable prior year development on property and other business, primarily related to the 2010 through 2015 accident years driven by better than expected loss emergence.
$30 million of net favorable prior year reserve development on professional lines business, primarily related to the earlier accident years, for reasons discussed in the overview.
$10 million of net favorable prior year reserve development on credit and surety business, spanning multiple accident years and driven by generally better than expected loss emergence.
The increase in the acquisition cost ratio to 19.5% in 2015 from 19.0% in 2014 was driven by increases in our reinsurance segment. The reinsurance segment's increase in the acquisition cost ratio was primarily due to higher acquisition costs paid in certain lines of business, adjustments related to loss-sensitive features in reinsurance contracts, primarily due to prior year loss reserve releases, and changes in the business mix. These increases were partially offset by a lower acquisition cost ratio in our insurance segment which benefitted from changes in the mix of business, higher ceded commissions received and a federal excise tax adjustment. The insurance segment decreases were partially offset by higher commissions paid in certain lines of business.
2016 versus 2015: Premiums ceded in 2016 were $913 million, or 34%, of gross premiums written, compared to $824 million, or 32%, in 2015. The increase in premiums ceded and the related ceded ratio was due to an increase in premiums ceded in our professional and liability lines partially offset by a reduction in reinsurance purchased in our accident and health lines.
2016 versus 2015: The current accident year loss ratio increased to 67.4% in 2016 from 65.5% in 2015. The increase was primarily due to an increase in catastrophe and weather-related losses. During 2016 we incurred pre-tax catastrophe and weather-related net losses of $121 million, or 6.8 points attributable to U.S. weather-related events, Hurricane Matthew, the Japanese earthquake and the Fort McMurray wildfires. Comparatively, in 2015 we incurred $54 million, or 3.0 points of losses attributable to catastrophe and weather-related events.
2015 versus 2014: The current accident year loss ratio increased to 65.5% in 2015 from 65.3% in 2014. The increase in 2015 was primarily due to an increase in marine mid-sized losses, driven by an above average number of large industry events during the year, an increase in the liability lines attritional loss experience and the impact of lower rates. These increases were partially offset by decreases in property attritional and mid-size losses, improved loss experience in professional lines due to recent profit improvement actions and the impact of changes in the business mix. The current year also benefitted from a reduction in catastrophe and weather-related losses. In 2015 we recorded $54 million of such aggregate pre-tax losses. Comparatively, in 2014 we recorded $66 million of aggregate pre-tax losses associated with catastrophe and weather-related events.
The increase in the general and administrative expense ratio in 2015 relative to 2014 was primarily due to the decrease in net earned premium with lower performance-related compensation and the favorable impact of foreign exchange in 2015 offset by higher professional and other costs related to the enhancement of our global platform.
2016 versus 2015: Premiums ceded in 2016 were $304 million, or 14%, of gross premiums written, compared to $105 million, or 5%, in 2015. The increase was due to a new retrocessional cover entered into with Harrington Re which impacted premiums ceded in our liability and professional lines together with increased premiums ceded to new retrocessional treaties which cover our catastrophe and property businesses.
2016 versus 2015: Net premiums earned in 2016 increased by $40 million or 2% ($114 million or 6% increase on a constant currency basis) compared to 2015. The increase in net premiums earned was driven by an increase in gross premiums earned attributable to growth in the business written in our liability, marine and other and catastrophe lines as well as favorable premium adjustments impacting our motor and agriculture lines, partially offset by reduced premiums written in our property lines.
The increase in gross premiums earned was partially offset by increased ceded premiums earned reflecting increased retrocessional covers purchased in our catastrophe and property lines as well as the impact of the new retrocessions to Harrington Re on our liability and professional lines.
Other insurance related income in 2016 primarily related to fees from strategic capital partners and realized and mark-to-market gains on our weather and commodity derivatives portfolio which were largely offset by realized losses on economic hedges purchased to protect our agriculture line of business against fluctuations in commodity prices.
The other insurance related loss in 2015 primarily related to realized losses and mark-to-market adjustments on our weather and commodity derivatives portfolio following unseasonably warm weather conditions in Europe during the fourth quarter of 2015.
Other insurance related income in 2014 primarily related to realized gains on economic hedges purchased to protect our agriculture line of business against fluctuations in commodity prices, which were largely offset by realized and mark-to-market losses on our weather and commodity derivative business.
2016 versus 2015: The current accident year loss ratio increased to 67.4% in 2016 from 65.7% in 2015. The increase was primarily due to an increase catastrophe and weather-related losses. During 2016 we incurred pre-tax catastrophe and weather-related net losses, (net of reinstatement premiums) of $83 million, or 4.4 points attributable to the Fort McMurray wildfires, U.S. weather-related events, Hurricane Matthew, the Japanese, Ecuadorian and South Island earthquakes, the North Calgary hailstorm and the European floods. Comparatively, in 2015 we incurred $46 million or 2.4 points of net losses attributable to catastrophe and weather-related events.
Acquisition Cost Ratio: The increase in the acquisition cost ratio to 25.7% in 2016 from 24.2% in 2015 primarily reflected the impact of retrocessional contracts, adjustments related to loss-sensitive features in underlying contracts and higher acquisition costs in certain lines of business due to the increase in the amount of business being written on a proportional basis.
Corporate Expenses: Our corporate expenses include holding company costs necessary to support our worldwide insurance and reinsurance operations and costs associated with operating as a publicly-traded company. As a percentage of net premiums earned, corporate expenses were 3.2%, 3.0% and 3.5% in 2016, 2015 and 2014, respectively. The increase in corporate expenses during 2016 compared to 2015 is attributable to adjustments to senior leadership executive stock-compensation awards benefiting 2015, an increase in personnel costs including senior executive transition costs in 2016, partially offset by reorganization related expenses adverse to 2015.
The decrease in corporate expenses during 2015 compared to 2014 was primarily attributable to adjustments to senior leadership executive stock-compensation awards, a decrease in severance expenses and a reduction in performance-based incentive compensation. These reductions were partially offset by a reduction of certain costs allocated to the operating segments and reorganization related corporate expenses incurred in the third quarter of 2015.
Foreign Exchange Gains: Some of our business is written in currencies other than the U.S. dollar. The foreign exchange gains for all years presented were largely driven by the re-measurement of net insurance related liabilities. The foreign exchange gains in 2016 were primarily driven by the depreciation of pound sterling against the U.S dollar. During 2015, the foreign exchange gains were primarily driven by the depreciation of the euro, pound sterling and Australian dollar against the U.S. dollar. The foreign exchange gains in 2014 were primarily driven by the depreciation of the euro and the pound sterling against the U.S dollar.
Income Tax Expense: Income tax expense primarily results from income generated by our foreign operations in the U.S. and Europe. Our effective tax rate, which is calculated as income tax expense divided by income before tax, was 1.2%, 0.5%, and 3.1% in 2016, 2015, and 2014, respectively. This effective rate can vary between years depending on the distribution of net income (loss) amongst tax jurisdictions, as well as other factors.
2016 versus 2015: Net investment income in 2016 was $305 million compared to net investment income of $295 million in 2015, an increase of $11 million or 4%. The increase was attributable to an emphasis on longer duration assets.
Other investments include hedge funds, direct lending funds, private equity funds, real estate funds and investments in CLO-Equities (both direct and indirect). These investments are recorded at fair value, with the change in fair value and income distributions reported in net investment income. Consequently, the pre-tax return on other investments may vary materially period over period, particularly during volatile equity and credit markets.
2016 versus 2015: Pre-tax return on other investments increased to 5.1% in 2016 compared to 2.3% in 2015. The increase was due to higher returns from investments in equity tranches of collateralized loan obligations ("CLO-Equities") in 2016 which increased in value along with other risk assets.
Changes in the fair value of investment derivatives, mainly foreign exchange forward contracts and interest rate swaps, are recorded in net realized investment gains (losses).
From time to time, we may economically hedge the foreign exchange exposure of non-U.S. denominated securities by entering into foreign exchange forward contracts. During 2016, our foreign exchange hedges resulted in $11 million of net gains which related primarily to securities denominated in the Japanese yen, pound sterling and Mexican peso. Each of these currencies declined against the U.S. dollar in 2016.
The fair value of total investments increased by $73 million in 2016, driven by portfolio yield and market value changes due to the tightening of credit spreads on both investment grade and high-yield corporate debt, and the strong performance of global equity markets. This was partially offset by the funding of financing and operating activities.
In addition to managing our credit risk exposure within our fixed maturity portfolio we also monitor the aggregation of country risk exposure on a group-wide basis (refer to Item 1 ‘Risk and Capital Management’ for further details). Country risk exposure is the risk that events within a country, such as currency crises, regulatory changes and other political events, will adversely affect the ability of obligors within the country to honor their obligations to us. For corporate debt and structured securities, we measure the country of risk exposure based on a number of factors including, but not limited to, location of management, principal operations and country of revenues.
Non-U.S. government securities include bonds issued by non-U.S. governments and their agencies along with supranational organizations (collectively also known as sovereign debt securities). The table below summarizes our aggregate fixed maturity exposures to governments in the eurozone and other non-U.S. government concentrations by fair value at December 31, 2016 and 2015:
At December 31, 2016, our non-investment grade portfolio had a fair value of $1,101 million (2015: $986 million), a weighted average credit rating of B (2015: B+) and duration of 2.2 years (2015: 3.2 years). At December 31, 2016, our total corporate debt portfolio, including non-investment grade securities, had a duration of 3.4 years (2015: 3.3 years).
Agency RMBS consist of bonds issued by the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and the Government National Mortgage Association which are primarily AAA rated and are supported by loans which are diversified across geographical areas. The duration of our agency RMBS holdings increased to 5.0 years at December 31, 2016 from 4.2 years at December 31, 2015 due to a change in prepayment speed assumptions caused by rising interest rates.
Non-Agency RMBS include mostly investment-grade bonds originated by non-agencies. At December 31, 2016, our non-agency RMBS had an average duration and weighted average life of 0.5 years (2015: 0.3 years) and 3.8 years (2015: 4.0 years), respectively.
CMBS include mostly investment-grade bonds originated by non-agencies with approximately 89% rated AA or better at December 31, 2016 (2015: 82%). Additionally, the weighted average estimated subordination percentage for the portfolio was 36% at December 31, 2016 (2015: 32%), which represents the current weighted average estimated percentage of the capital structure subordinated to the investment holding that is available to absorb losses before the security incurs the first dollar loss of principal. At December 31, 2016, the average duration and weighted average life was 2.8 years (2015: 2.8 years) and 3.5 years (2015: 3.5 years), respectively.
At December 31, 2016, the gross unrealized losses on our fixed maturities portfolio were $197 million (2015: $230 million).
At December 31, 2016, net unrealized gains on our equities portfolio were $41 million (2015: $22 million). The increase was due to improved valuations reflective of the performance of the global equity markets.
The cash outflows from investing activities in 2016 related principally to the net purchase of mortgage loans of $143 million (2015: $206 million, 2014: $nil), the purchase of equity method investments of $108 million, and the net purchase of short term investments $100 million (2015: $69 million net inflow, 2014: $63 million net outflow) partially
offset by the net proceeds from the sale and redemption of fixed maturities. The net purchases in all years were primarily a result of reinvesting of our net investment income.
Dividends paid to common and preferred shareholders are the primary source of recurring cash flows used in financing activities and totaled $172 million in 2016 (2015: $159 million, 2014: $158 million). Financing cash outflows also included common share repurchases totaling $510 million, $332 million and $543 million in 2016, 2015 and 2014, respectively. We note that market share repurchases are discretionary; the timing and amount of the additional repurchase transactions will depend on a variety of factors including, but not limited to, global (re)insurance and financial market conditions and opportunities, capital management and regulatory considerations (see ‘Capital Resources - Share Repurchases’ below). Cash outflows in 2016 were partially offset by net cash inflows of $480 million related to the preferred share transactions discussed under 'Capital Resources - Preferred Shares' below.
Should claim payment obligations accelerate beyond our ability to fund payments from operating cash flows, we would utilize our cash and cash equivalent balances and/or liquidate a portion of our investment portfolio. Our investment portfolio is heavily weighted towards conservative, high quality and highly liquid securities. We expect that, if necessary, approximately $12.5 billion of cash and invested assets at December 31, 2016 could be available in one to three business days under normal market conditions; of this amount, $4.1 billion relates to restricted assets, which primarily support our obligations in regulatory jurisdictions where we operate as a non-admitted carrier (see Item 8, Note 5(g) to the Consolidated Financial Statements 'Investments' for further details). For context, our largest 1-in-250 year return period, single occurrence, single-zone modeled probable maximum loss (Southeast U.S. Hurricane) is approximately $0.8 billion, net of reinsurance; our claim payments pertaining to such an event would be paid out over a period spanning many months. Our internal risk tolerance framework aims to limit both the loss of capital due to a single event, and the loss of capital that would occur from multiple but perhaps smaller events, in any year. Refer to the ‘Risk and Capital Management’ section of Item 1 for further information.
We finance our operations with a combination of debt and equity capital. Our debt to total capital and debt and preferred equity to total capital ratios provide an indication of our capital structure, along with some insight into our financial strength. A company with higher ratios in comparison to industry average may show weak financial strength because the cost of its debts may adversely affect results of operations and/or increase its default risk.
During March 2012, we issued 16 million of 6.875% Series C preferred shares with a liquidation preference of $25.00 per share for gross proceeds of $400 million. Dividends on the Series C preferred shares are non-cumulative.To the extent declared, dividends will accumulate, with respect to each dividend period, in an amount per share equal to 6.875% of the liquidation preference per annum. We may redeem the shares on or after April 15, 2017 at a redemption price of $25.00 per share.
depositary receipts evidencing 22 million depositary shares, each representing 1/100th of a Series E preferred share for gross proceeds of $550 million. Dividends on the Series E preferred shares are non-cumulative. To the extent declared, dividends will accumulate, with respect to each dividend period, in an amount per Series E preferred share equal to 5.50% of the liquidation preference per annum. We may redeem these shares on or after November 7, 2021 at a redemption price of $2,500 per Series E preferred share plus declared and unpaid dividends, if any, to, but excluding, the date of redemption.
We are party to a $250 million credit facility (the “Credit Facility”), which provides us with combined borrowing and letter of credit issuance capacity up to the aggregate amount of the facility. The Credit Facility expires in March 2017. We are currently evaluating alternatives in advance of the scheduled expiration of the Credit Facility and believe that we will be able to continue to meet the collateral requirements of our clients and adequately preserve our liquidity. At our request, and subject to certain conditions, the aggregate commitment of this facility may be increased by up to $150 million. Interest on loans issued under this facility is payable based on underlying market rates at the time of loan issuance. While any loans are unsecured, we have the option to issue letters of credit on a secured basis in order to reduce associated fees. This facility is subject to certain non-financial covenants that we believe are customary for facilities of this type, including limitations on fundamental changes, the incurrence of additional indebtedness and liens and certain transactions with affiliates and investments, as defined in the facility documents.
At December 31, 2016, this facility required a minimum consolidated net worth of $4.632 billion and our actual consolidated net worth, as calculated under the provisions of the Credit Facility, was $6.331 billion. We had a consolidated debt to total capital ratio, calculated in accordance with the Credit Facility provisions, of 0.14 to 1 and each of our material insurance/reinsurance subsidiaries party to the agreement had an A.M. Best financial strength rating of A+.
We are obligated to pay claims for specified loss events covered by the (re)insurance contracts we write. Such loss payments represent our most significant future payment obligation. In contrast to our other contractual obligations, our cash payments are not determinable from the terms specified within the underlying contracts. The total amount in the table above reflects our best estimate of our reserve for losses and loss expenses. However, the actual amounts and timing may differ materially. For further details, refer to ‘Critical Accounting Estimates - Reserve for Losses and Loss Expenses’ for further information. We have not taken into account corresponding reinsurance recoverable amounts that would be due to us.
Loss reserves are not an exact calculation of liability but instead are complex estimates. The process of estimating loss reserves involves a number of variables (see ‘Selection of Reported Reserves (Management’s Best Estimate)’ below for further details). We review our estimate of loss reserves each reporting period and consider all significant facts and circumstances then known. As additional experience and other data become available and/or laws and legal interpretations change, we may adjust our previous estimates of loss reserves; these adjustments are recognized in the period they are determined and, therefore, can impact that period’s underwriting results either favorably (when reserves established in prior years can be released) or adversely (when reserves established in prior years require upward adjustment).
With respect to our insurance operations, we are generally notified of insured losses by our insureds and/or their brokers. Based on this information, our claims personnel estimate our ultimate losses arising from the claim, including the cost of administering the claims settlement process. These estimates reflect the judgment of our claims personnel based on general reserving practices, the experience and knowledge of such personnel regarding the nature of the specific claim and, where appropriate, the advice of legal counsel, loss adjusters and other relevant consultants.
Our quarterly reserving process begins with the collection and analysis of paid and incurred claim data for each of our segments. The segmental data is disaggregated by reserving class and further disaggregated by either accident year (i.e. the year in which the loss event occurred) or by underwriting year (i.e., the year in which the contract generating premium and losses incepted). We use underwriting year information to analyze our reinsurance business and subsequently allocate reserves to the respective accident years. Our reserving classes are selected to ensure that the underlying contracts have homogeneous loss development characteristics, while remaining large enough to make the estimation of trends credible. We review our reserving classes on a regular basis and adjust them over time as our business evolves. This data, in addition to industry benchmarks, serves as a key input to many of the methods employed by our actuaries. The relative weights assigned to our own historical loss data versus industry data vary according to the length of the development profile for the reserving class being evaluated. At present, we generally give more weight to our own experience (and, correspondingly, less weight to industry data) for reserving classes with short and medium claim tails; the converse is true for reserving classes with longer claim tails. (See ‘Claim Tail Analysis’ below for more detailed information by claim tail class.)
Our quarterly reserving process involves the collaboration of our underwriting, claims, actuarial, legal, ceded reinsurance and finance departments, includes various segmental committee meetings and culminates with the approval of a single point best estimate by our Group Reserving Committee, which comprises senior management. In selecting this best estimate, management considers actuarial estimates and applies informed judgment regarding qualitative factors that may not be fully captured in these actuarial estimates. Such factors include, but are not limited to: the timing of the emergence of claims, volume and complexity of claims, social and judicial trends, potential severity of individual claims and the extent of internal
Loss reporting patterns for professional lines business tend to be volatile, causing instability in actuarial indications based on incurred loss data until an accident year matures for a number of years. Consequently, our initial loss reserves for an accident year or underwriting year are generally based upon an ELR method and the consideration of relevant qualitative factors. As accident years and underwriting years mature, we increasingly give more weight to methods that reflect our actual experience until our selections are based almost exclusively on experience-based methods. We evaluate the appropriateness of the transition to experience-based methods at the reserving class level, commencing this transition when we believe that our
incurred loss development is sufficient to produce meaningful actuarial indications. The rate at which we transition fully to sole reliance on experience-based methods can vary by reserving class and by year, depending on our assessment of the stability and relevance of such indications. For some professional lines in our insurance segment, we also rely upon the evaluation of the open claim inventory in addition to the commonly employed actuarial methods when establishing reserves.
Our transition from the ELR method to experience-based methods began during 2008, when we commenced gradual transition for the 2004 and prior accident years. As our loss history continued to develop, the transition was expanded to include additional accident years. With the exception of the experience in the insurance professional lines during 2014 and 2015, our actual loss experience has generally been more favorable than initial expectations and the transition led to the recognition of net favorable prior year reserve development in recent years. During 2014, Management continued to rely upon experience-based methods, an evaluation of the open claims inventory and other qualitative factors in establishing the ultimate loss estimates for the insurance professional lines portfolio. During 2015, updated actuarial assumptions in our Australian book of business impacting accident years 2010 to 2014, resulted in strengthening of the insurance professional lines portfolio, partially offset by favorable development in certain U.S. professional lines classes.
As previously described, the estimation of the value of our recoveries on credit and political risk business requires significant management judgment. At December 31, 2016, our total estimated recoveries on credit insurance business were $73 million, while comparatively, at December 31, 2015, our estimated recoveries were $71 million.
While we believe that our loss reserves at December 31, 2016 are adequate, new information, events or circumstances may result in ultimate losses that are materially greater or less than provided for in our loss reserves. As previously noted, there are many factors that may cause our reserves to increase or decrease, particularly those related to catastrophe losses and long-tail lines of business.
more or less than the amounts presented. While we believe that these are reasonably likely scenarios, we do not believe this sensitivity analysis should be considered an actual reserve range.
Reinsurance recoverable on unpaid losses as a percentage of gross loss reserves was 23% at December 31, 2016 (2015: 21%). At December 31, 2016 and 2015, respectively, 96.7% and 96.2% of our gross reinsurance recoverable (i.e. excluding the provision for uncollectible amounts) were collectible from reinsurers rated A- or better by A.M. Best. For an analysis of the credit risk associated with our reinsurance recoverable balances at December 31, 2016, refer to Item 8, Note 11 to the Consolidated Financial Statements 'Commitments and Contingencies'.
In our credit and political risk line of business, we write certain policies on a multi-year basis. We record premiums in respect of these policies at the policy inception date based on our best estimate of total premiums, including assumptions relating to prepayments/refinancings. These premiums are generally payable in installments. At December 31, 2016, the average duration of the outstanding unearned premiums written for our credit and political risk line of business was 6.1 years (2015: 4.8 years).
Many of our excess of loss contracts also include provisions that require an automatic reinstatement of coverage in the event of a loss. In a year of large loss events, reinstatement premiums will be higher than in a year in which there are no such events. Reinstatement premiums are recognized when a triggering loss event occurs and losses are recorded by us. While the reinstatement premium amount is defined by contract terms, our recognition of reinstatement premiums is dependent on our estimate of losses and loss expenses, which reflect management’s best judgment as described above in ‘Critical Accounting Estimates - Reserves for Losses and Loss Expenses’.
Refer to Item 8, Note 6 to the Consolidated Financial Statements 'Fair Value Measurements' for further details on the valuation techniques and assumptions used in estimating the fair value of our financial instruments.
At December 31, 2016, the fair value for 97% (2015: 96%) of our total fixed maturities and equities was based on prices provided by globally recognized independent pricing services where we have a current and detailed understanding of how their prices were derived. The remaining securities were priced by either non-binding broker quotes or internal valuation models.
For an impaired fixed maturity, we recognize an OTTI charge in earnings when we:
From time to time, we may sell fixed maturities subsequent to the balance sheet date that we did not intend to sell at the balance sheet date. Conversely, we may not sell fixed maturities that we previously intended to sell at the balance sheet date. Such changes in intent may arise due to events occurring subsequent to the balance sheet date. The types of events that may result in a change in intent include, but are not limited to, significant changes in the economic facts and circumstances related to the specific issuer, changes in liquidity needs, or changes in tax laws or the regulatory environment.
If a security meets one of the above parameters, we then perform a fundamental analysis that considers the qualitative factors noted in a. through d. above to determine whether an impairment charge should be recognized in the period under review.
In light of the volatilty of global equity markets we have experienced in recent years, we generally impair equities for which we do not forecast a recovery to cost within two years. Further, we generally impair an equity security if its fair value is 15% below its cost. We have also established parameters for identifying potential impaired equity securities for fundamental analysis based on the severity, in either percentage or absolute dollar terms, of the unrealized loss position.
Tax (benefit) cost of $1,830, ($3,171) and $25,912 for 2016, 2015 and 2014, respectively. Tax impact is estimated by applying the statutory rates of applicable jurisdictions, after consideration of other relevant factors including the ability to utilize capital losses.
Tax cost of $2,114, $3,021 and $2,853 for 2016, 2015 and 2014, respectively. Tax impact is estimated by applying the statutory rates of applicable jurisdictions, after consideration of other relevant factors including the tax status of specific foreign exchange transactions.
A reconciliation of consolidated underwriting income to income before income taxes and interest in income (loss) of equity method investments (the nearest GAAP financial measure) can be found in Item 8, Note 3 to the Consolidated Financial Statements 'Segment Information'. Underwriting-related general and administrative are reconciled to general and administrative expenses (the nearest GAAP financial measure) within 'Underwriting Results - Group'.
Amounts presented on a constant currency basis are calculated by applying the average foreign exchange rate from the current year to prior year amounts.
We present our results of operations in the way we believe will be most meaningful and useful to investors, analysts, rating agencies and others who use our financial information to evaluate our performance. This includes the presentation of “non-GAAP operating income” (in total and on a per share basis), “ non-GAAP operating ROACE” (which is based on the “non-GAAP operating income” measure) and "consolidated underwriting income", which incorporates "underwriting-related general and administrative expenses".
The termination fee received represents the break-up fee paid by PartnerRe Ltd. following the cancellation of the Amalgamation Agreement with AXIS Capital and is not indicative of future revenues of the Company.
We believe that showing net income available to common shareholders exclusive of net realized investment gains (losses), foreign exchange losses (gains), termination fee received, reorganization and related expenses and losses on repurchase of preferred shares reflects the underlying fundamentals of our business. In addition, we believe that this presentation enables investors and other users of our financial information to analyze performance in a manner similar to how our management analyzes the underlying business performance. We also believe this measure follows industry practice and, therefore, facilitates comparison of our performance with our peer group. We believe that equity analysts and certain rating agencies that follow us, and the insurance industry as a whole, generally exclude these items from their analyses for the same reasons.
Corporate expenses include holding company costs necessary to support our worldwide insurance and reinsurance operations and costs associated with operating as a publicly-traded company. As these costs are not incremental and/or directly attributable to our individual underwriting operations, we exclude them from underwriting-related general and administrative expenses and, therefore, consolidated underwriting income. Interest expense and financing costs primarily relate to interest payable on our senior notes and are excluded from consolidated underwriting income for the same reason.
We have audited the accompanying consolidated balance sheets of AXIS Capital Holdings Limited and subsidiaries (the “Company”) as of December 31, 2016 and 2015, and the related consolidated statements of operations, comprehensive income, changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2016. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
Supplemental disclosures of cash flow information: In 2016, total consideration paid for a quota share and adverse development reinsurance cover was $170 million of which $92 million was settled by transfer of securities and was treated as a non cash activity on the Consolidated Statement of Cash Flows. Also refer to Note 8 'Reserve for Losses and Loss Expenses'.
AXIS Capital Holdings Limited (“AXIS Capital”) is the Bermuda-based holding company for the AXIS group of companies, collectively the “Company”. AXIS Capital was incorporated on December 9, 2002, under the laws of Bermuda. Through its subsidiaries and branches with operations in Bermuda, the United States (U.S.), Europe, Singapore, Canada and Latin America, AXIS Capital provides a broad range of (re)insurance products on a worldwide basis under two distinct global underwriting platforms, AXIS Insurance and AXIS Re. In these notes, the terms “we,” “us,” “our,” or the “Company” refer to AXIS Capital and its direct and indirect subsidiaries.
An entity is a VIE if any of the following conditions exist: (a) equity investors do not have sufficient equity at risk for the legal entity to finance its expected activities without additional subordinated financial support, (b) as a group, the holders of the equity investment at risk lack the power, through voting rights or similar rights, to direct the activities of a legal entity that most significantly impact the entity’s economic performance, (c) the voting rights of some investors are not proportional to their economic interest and substantially all of the entity’s activities either involve or are conducted on behalf of the investor(s) with disproportionately fewer voting rights, or (d) as a group, the holders of the equity investment at risk lack the obligation to absorb the expected losses of the legal entity or the right to receive the expected residual returns of the legal entity.
During the second quarter of 2015, the Company early adopted the Accounting Standards Update (“ASU”) 2015-02, “Amendments to the Consolidation Analysis” issued by the Financial Accounting Standards Board (the “FASB”). The adoption of this amended accounting guidance resulted in the Company concluding that it no longer had a variable interest in AXIS Ventures Reinsurance Limited (“Ventures Re”) and therefore it was no longer required to consolidate the results of operations and the financial position of Ventures Re in its Consolidated Financial Statements. The Company adopted this revised accounting guidance using the modified retrospective approach and ceased to consolidate Ventures Re effective as of January 1, 2015. There was no impact from the adoption of ASU 2015-02 on the Company’s cumulative retained earnings. Refer to Note 14 'Noncontrolling Interests' for more information. The new consolidation guidance did not have an impact on any other investments currently held by the Company.
Our fixed maturities and equities classified as “available for sale” are reported at fair value at the balance sheet date. Refer to Note 6 'Fair Value Measurements' for additional information regarding the determination of fair value. The change in fair value (net unrealized gain (loss)) on our available for sale investments, net of tax, is included as a separate component of accumulated other comprehensive income (loss) (“AOCI”) in shareholders’ equity.
Net investment income includes interest and dividend income and the amortization of market premiums and discounts and is presented net of investment expenses. Investment income is recognized when earned. Purchases and sales of investments are recorded on a trade-date basis and realized gains(losses) on sales of investments are determined based on the specific identification method.
A fixed maturity is impaired if the fair value of the investment is below amortized cost. If a fixed maturity is impaired, additional analysis is performed to determine whether the impairment is temporary or other-than-temporary. For an impaired fixed maturity where we intend to sell the security or it is more likely than not that we will be required to sell the security before its anticipated recovery, the impairment is considered other than temporary. The full amount of the impairment is charged to earnings and is included in net realized investment gains (losses). In instances, where we intend to hold the impaired fixed maturity, we estimate the anticipated credit loss of the security and recognize only this portion of the
We recognize impairments an equity security in an unrealized loss position when we do not have the ability and intent to hold the security for a reasonable period of time to allow for a full recovery. The full amount of the impairment is charged to earnings and is included in net realized investment gains (losses).
Investments in which the Company has significant influence over the operating and financial policies of the investee are classified as equity method investments and are accounted for using the equity method of accounting. In applying the equity method of accounting, investments are initially recorded at cost and are subsequently adjusted based on the Company’s proportionate share of net income or loss of the investee. Adjustments are based on the most recently available financial information from the investee. Changes in the carrying value of such investments are recorded in net income as interest in income (loss) of equity method investments.
Insurance premiums written are recorded in accordance with the terms of the underlying policies. Reinsurance premiums are recorded at the inception of the contract and are estimated based upon information received from ceding companies. For multi-year contracts where (re)insurance premiums are payable in annual installments, premiums are recorded at the
Reinstatement premiums are recognized and earned at the time a loss event occurs, where the coverage limits for the remaining life of the contract are reinstated under pre-defined contract terms. The accrual of reinstatement premiums is based on our estimate of losses and loss adjustment expenses, which reflects management’s judgment, as described in Note 2(d) 'Losses and Loss Expenses' below.
Acquisition costs vary with and are directly related to the successful acquisition efforts of acquiring new or renewing existing(re)insurance contracts and consist primarily of fees and commissions paid to brokers and premium taxes. Premiums receivable are presented net of applicable acquisition costs when contract terms provide for the right of offset. Acquisition costs are shown net of commissions earned on ceded reinsurance. Our net acquisition costs are deferred and charged to expense as the related premium is earned.
We have recorded goodwill in connection with certain acquisitions. Goodwill represents the excess of the cost of acquisitions over the fair value of the net assets acquired and is assigned to applicable reporting unit(s) on the acquisition date, based upon the expected benefit to be received by the reporting unit. We determine the expected benefit based on several factors, including the purpose of the business combination, our strategy subsequent to the business combination and the structure of the acquired company subsequent to the business combination. Goodwill is not subject to amortization. We test goodwill for potential impairment during the fourth quarter each year and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit to a level below its carrying amount. We have the option to first make this assessment on a qualitative basis. Should we choose to forgo this option, or if our qualitative assessment indicates that fair value is more likely than not below carrying value, we conduct a quantitative two-step
impairment evaluation at the reporting unit level. First, we identify potential impairment by comparing the estimated fair values of the reporting units to estimated book values, including goodwill. If the estimated fair value of a reporting unit exceeds the estimated book value, goodwill is not considered impaired. If the book value exceeds the estimated fair value, the second step compares the implied fair value of the reporting unit’s goodwill with the carrying amount of the goodwill in order to determine the magnitude of impairment to be recognized.
Certain subsidiaries and branches of the Company operate in jurisdictions where they are subject to taxation. Current and deferred income taxes are charged or credited to net income, or in certain cases to AOCI, based upon enacted tax laws and rates applicable in the relevant jurisdiction in the period in which the tax becomes accruable or realizable. Deferred income taxes are provided for all temporary differences between the bases of assets and liabilities used in the Consolidated Balance Sheets and those used in the various jurisdictional tax returns. When our assessment indicates that it is more likely than not that a portion of a deferred tax asset will not be realized in the foreseeable future, a valuation allowance against deferred tax assets is recorded. We recognize the tax benefits of uncertain tax positions only when the position is more-likely-than-not to be sustained upon audit by the relevant taxing authorities.
Common shares repurchased by the Company and not subsequently canceled are classified as treasury shares and are recorded at cost. This results in a reduction of shareholders’ equity in the Consolidated Balance Sheets. When shares are reissued from treasury, we use the average cost method to determine the cost of the reissued shares. Gains on sales/reissuances of treasury shares are credited to additional paid-in capital, while losses are charged to additional paid-in capital to the extent that previous net gains from reissued treasury shares were included therein; otherwise losses are charged to retained earnings.
Effective January 1, 2016, the Company adopted ASU 2015-03, "Interest - Imputation of Interest (Subtopic 835-30) - Simplifying the Presentation of Debt Issuance Costs" issued by the FASB. This guidance requires the debt issuance costs related to a recognized debt liability to be presented in the balance sheet as a direct deduction from the debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in ASU 2015-03. The adoption of ASU 2015-03 did not impact our results of operations, financial condition or liquidity.
As this new guidance relates solely to disclosures, the adoption of ASU 2015-09 did not impact our results of operations, financial condition or liquidity. The updated disclosures have been provided in Note 8 'Reserve for losses and loss expenses'.
on a deferred tax asset related to available for sale securities in combination with the organization’s other deferred tax assets.
This guidance is effective for interim and annual reporting periods beginning after December 15, 2017 with early adoption permitted for certain of the amendments. The Company is currently evaluating the impact of the guidance on our results of operations, financial condition and liquidity.
In February 2016, the FASB issued ASU 2016-02, "Leases (Topic 842)" which provides a new comprehensive model for lease accounting. The guidance will require a lessee to recognize a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. This guidance is effective for interim and annual reporting periods beginning after December 15, 2018, with early adoption permitted. The Company is currently evaluating the impact of this guidance on our results of operations, financial condition and liquidity.
In March 2016, the FASB issued ASU 2016-07, "Investments - Equity Method and Joint Ventures (Topic 323) - Simplifying the Transition to the Equity Method of Accounting" which eliminates the requirement that when an investment qualifies for use of the equity method as a result of an increase in the level of ownership interest or degree of influence, an investor must adjust the investment, results of operations, and retained earnings retroactively on a step-by step basis as if the equity method had been in effect during all previous periods that the investment had been held. The guidance is effective for interim and annual periods beginning after December 15, 2016, with early adoption permitted. The guidance will be adopted on a prospective basis. The adoption of this guidance is not expected to materially impact our results of operations, financial condition or liquidity.
In November 2016, the FASB issued ASU 2016-18, "Statement of Cash Flows (Topic 230) - Restricted Cash" which addresses diversity in practice in the classification and presentation of changes in restricted cash on the statement of cash flows.This guidance will require a statement of cash flows to explain the change during the period in the total of cash, cash equivalents, restricted cash and restricted cash equivalents. Transfers between cash and cash equivalents and restricted cash and restricted cash equivalents will no longer be presented on the statement of cash flows. This guidance is effective for interim and annual periods beginning after December 15, 2017, with early adoption permitted. The guidance will be adopted on a retrospective basis. The Company is currently evaluating the impact of this guidance on our results of operations, financial condition and liquidity.
Our underwriting operations are organized around our global underwriting platforms, AXIS Insurance and AXIS Re, therefore we have determined that we have two reportable segments, insurance and reinsurance. We do not allocate our assets by segment, with the exception of goodwill and intangible assets, as we evaluate the underwriting results of each segment separately from the results of our investment portfolio.
Our insurance segment provides insurance coverage on a worldwide basis. The product lines in this segment are property, marine, terrorism, aviation, credit and political risk, professional lines, liability and accident and health.
We estimate that the annual amortization expense for our total intangible assets with a finite life will be approximately $2 million per year in 2017 and 2018 and $1 million per year in 2019 through 2021. The estimated remaining useful lives of these assets range from two to eight years.
At December 31, 2016, 330 securities (2015: 383) had been in a continuous unrealized loss position for 12 months or greater and had a fair value of $971 million (2015: $1,318 million). Following our credit impairment review, we concluded that these securities as well as the remaining securities in an unrealized loss position in the above table were temporarily impaired at December 31, 2016, and were expected to recover in value as the securities approach maturity. Further, at December 31, 2016, we did not intend to sell these securities in an unrealized loss position and it is more likely than not that we will not be required to sell these securities before the anticipated recovery of their amortized costs.
At December 31, 2016, 23 securities (2015: 35) were in an unrealized loss position of $12 million (2015: $9 million).
At December 31, 2016, 3 securities (2015: 1) had been in a continuous unrealized loss position for 12 months or greater. Based on our impairment review process and our ability and intent to hold these securities for a reasonable period of time sufficient for a full recovery, we concluded that the above equities in an unrealized loss position were temporarily impaired at December 31, 2016.
We have a high quality mortgage loan portfolio with debt service coverage ratios in excess of 1.1x and loan-to-value ratios of less than 70%. There are no credit losses associated with the commercial mortgage loans that we hold at December 31, 2016.
During 2016, we made a commitment as a limited partner in a private equity fund. At December 31, 2016, $24 million of our commitment remains unfunded and the current fair value of the funds called to date are included in the private equity funds line of the table above. The fund invests in underlying private equity funds and the life of the fund is subject to the dissolution of the underlying funds. We expect the overall holding period to be over ten years.
During 2015, we made a $50 million commitment as a limited partner of a bank revolver opportunity fund. The fund is subject to an investment term of seven years and the General Partners have the option to extend the term by up to two years. At December 31, 2016, this commitment remains unfunded. It is not anticipated that the full amount of this fund will be drawn.
Unrealized losses on securities issued or backed (either explicitly or implicitly) by the U.S. government are not analyzed for OTTI. We have concluded that the possibility of any credit losses on these securities is highly unlikely due to the explicit U.S. government guarantee on certain securities (e.g. GNMA issuances) and, on others, the implicit guarantee that has been validated by past actions (e.g. U.S. government bailout of FNMA and FHLMC during the 2008 credit crisis). Although not analyzed for credit losses, the securities are still evaluated for intention to sell and likely requirement to sell.
The OTTI losses on equity securities in 2016 and 2015 are primarily due to the severity of their unrealized loss positions, for which we concluded the forecast recovery period was uncertain. The recognition of such losses does not necessarily indicate that sales will occur or that sales are imminent or planned. At December 31, 2016, the fair value of our equities was $639 million (2015: $598 million), which included $12 million (2015: $9 million) of gross unrealized losses.
In order to support our obligations in regulatory jurisdictions where we operate as a non-admitted carrier, we provide collateral in the form of assets held in trust and, to a lesser extent, letters of credit. Refer to Note 10(b) 'Debt and Financing Arrangements' for further information on our collateral requirements upon issuance of certain letters of credit. The fair value of our restricted investments primarily relates to these items, as noted in the table below. Our restricted investments primarily consist of high-quality fixed maturity and short-term investment securities.
At December 31, 2016, we held $176 million (2015: $30 million) of reverse repurchase agreements. These loans are fully collateralized, are generally outstanding for a short period of time and are presented on a gross basis as part of cash and cash equivalents on our consolidated balance sheet. The required collateral for these loans is either cash or U.S. Treasuries at a minimum rate of 102% of the loan principal. Upon maturity, we receive principal and interest income. We monitor the estimated fair value of the securities loaned and borrowed on a daily basis with additional collateral obtained as necessary throughout the duration of the transaction.
At each valuation date, we use the market approach valuation technique to estimate the fair value of our fixed maturities portfolio, when possible. This market approach includes, but is not limited to, prices obtained from third party pricing services for identical or comparable securities and the use of “pricing matrix models” using observable market inputs such as yield curves, credit risks and spreads, measures of volatility, and prepayment speeds. Pricing from third party pricing services is sourced from multiple vendors, when available, and we maintain a vendor hierarchy by asset type based on historical pricing experience and vendor expertise. When prices are unavailable from pricing services, we obtain non-binding quotes from broker-dealers who are active in the corresponding markets. The valuation techniques including significant inputs generally used to determine the fair values of our fixed maturities by asset class as well as the classifications of the fair values of these securities in the fair value hierarchy are described in detail below.
Agency RMBS consist of bonds issued by the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and the Government National Mortgage Association. The fair values of these securities are priced using a mortgage pool specific model which uses daily inputs from the active to be announced market and the spread associated with each mortgage pool based on vintage. As the significant inputs used to price these securities are observable market inputs, the fair values of Agency RMBS are classified as Level 2.
Non-Agency RMBS include mostly investment-grade bonds originated by non-agencies. The fair values of these securities are determined using an option adjusted spread model or other relevant models which use inputs including available trade information or broker quotes, prepayment and default projections based on historical statistics of the underlying collateral and current market data. As the significant inputs used to price these securities are observable market inputs, the fair values of Non-Agency RMBS are classified as Level 2.
ABS include mostly investment-grade bonds backed by pools of loans with a variety of underlying collateral, including automobile loan receivables, student loans, credit card receivables, and CLO Debt originated by a variety of financial institutions. The fair values of these securities are determined using a model which uses prepayment speeds and spreads sourced primarily from the new issue market. As the significant inputs used to price these securities are observable market inputs, the fair values of ABS are classified as Level 2. Where pricing is unavailable from pricing services, we obtain non-binding quotes from broker-dealers to estimate fair value. This is generally the case when there is a low volume of trading activity and current transactions are not orderly. In this event, the fair values of these securities are classified as Level 3.
Equity securities include common stocks, exchange-traded funds and bond mutual funds. As the fair values of common stocks and exchange-traded funds are based on unadjusted quoted market prices in active markets, the fair values of these securities are classified as Level 1. As bond mutual funds have daily liquidity, with redemptions based on the NAV of the funds, the fair values of these securities are classified as Level 2.
Derivative Instruments include foreign currency forward contracts, interest rate swaps and commodity contracts that are customized to our economic hedging strategies and trade in the over-the-counter derivative market. The fair values of these derivatives are determined using the market approach valuation technique based on significant observable market inputs from third party pricing vendors, non-binding broker-dealer quotes and/or recent trading activity. Accordingly, the fair values of these derivatives are classified as Level 2.
Insurance-linked securities comprise an investment in a catastrophe bond. As pricing is unavailable from pricing services, we obtain non-binding quotes from broker-dealers to estimate the fair values of these securities. Pricing is generally unavailable where there is a low volume of trading activity and current transactions are not orderly. Accordingly, the fair values of these securities are classified as Level 3.
During 2016 and 2015, we had no transfers between Levels 1 and 2.
Except for certain fixed maturities and insurance-linked securities which are priced using broker-dealer quotes (underlying inputs are not available), the following table quantifies the significant unobservable inputs used in estimating fair values at
The CLO-Equities market continues to be relatively inactive with only a small number of transactions being observed, particularly as it relates to transactions involving our CLO-Equities. Accordingly, fair values of investments in CLO-Equities are determined using models. Given that all of our direct investments in CLO-Equities are past their reinvestment period, there is uncertainty regarding the remaining time until maturity. As such, direct investments in CLO-Equities are valued at the lower of the liquidation value and fair values based on an internally developed discounted cash flow model. Indirect investments in CLO-Equities are valued using a discounted cash flow model prepared by an external manager with similar inputs as our internally developed discounted cash flow model.
Regarding the discounted cash flow model, the default and loss severity rates are the most judgmental unobservable market inputs to which the valuation of CLO-Equities is most sensitive. A significant increase (decrease) in either of these significant inputs in isolation would result in lower (higher) fair value estimates for investments in CLO-Equities and, in general, a change in default rate assumptions would be accompanied by a directionally similar change in loss severity rate assumptions. Collateral spreads and estimated maturity dates are less judgmental inputs as they are based on the historical average of actual spreads and the weighted average life of the current underlying portfolios, respectively. A significant increase (decrease) in either of these significant inputs in isolation would result in higher (lower) fair value estimates for investments in CLO-Equities. In general, these inputs have no significant interrelationship with each other or with default and loss severity rates.
On a quarterly basis, our valuation process for CLO-Equities includes a review of the underlying collateral along with related discount margins by credit quality bucket used in the liquidation valuation and a review of the underlying cash flows and key assumptions used in the discounted cash flow model. The above significant unobservable inputs are reviewed and updated based on information obtained from secondary markets, including information received from the managers of our CLO-Equities portfolio. In order to assess the reasonableness of the inputs that are used in our models, we maintain an understanding of current market conditions, historical results, as well as emerging trends that may impact future cash flows. In addition, the assumptions we use in our models are updated through regular communication with industry participants and ongoing monitoring of the deals in which we participate (e.g. default and loss severity rate trends).
Other privately held securities are initially valued at cost which approximates fair value. In subsequent measurement periods, the fair values of these securities are determined using internally developed discounted cash flow models. These models include inputs specific to each investment. The inputs used in the fair value measurements include dividend or interest rates and appropriate discount rates. The selection of an appropriate discount rate is judgmental and is the most significant unobservable input used in the valuation of these securities. A significant increase (decrease) in this input in isolation could result in significantly lower (higher) fair value estimates for other privately held securities. Where relevant, we also consider the contractual agreements which stipulate methodologies for calculating the dividend rate to be paid upon liquidation, conversion or redemption. In order to assess the reasonableness of the inputs that are used in the discounted cash flow models, we maintain an understanding of current market conditions, historical results, as well as investee specific information that may impact future cash flows.
Change in unrealized investment gain (loss) relating to assets held at the reporting date.
The transfers into Level 3 from Level 2 made during 2016 were primarily due to the lack of observable market inputs and multiple quotes from pricing vendors and broker-dealers for certain fixed maturities and as the result of a change in valuation methodology relating to our CLO equity fund. An income approach valuation technique (discounted cash flow model) was used to estimate the fair value at December 31, 2016. As the NAV practical expedient is no longer used to determine fair value, the fair value of this fund is now categorized within the fair value hierarchy.
The transfers to Level 3 from Level 2 made during 2015 were primarily due to the lack of observable market inputs and multiple quotes from pricing vendors and broker-dealers for certain fixed maturities.
The transfers into Level 2 from Level 3 made during 2015 were primarily due to a review of the pricing inputs used on certain ABS and corporate debt securities and the availability of quotes from pricing vendors on CMBS securities.
For direct lending funds, private equity funds, real estate funds and one of our hedge funds, valuation statements are typically released on a three month reporting lag therefore the Company estimates fair value of these funds by starting with the prior quarter-end fund valuations and adjusting for capital calls, redemptions, drawdowns and distributions. Return estimates are not available from the relevant fund managers for these funds. Accordingly, we typically have a reporting lag in our fair value measurements of these funds. In 2016, funds reported on a lag represented 35% (2015: 18%) of our total other investments balance.
None of our derivative instruments are designated as hedges under current accounting guidance.
Asset and liability derivatives are classified within other assets and other liabilities on the Consolidated Balance Sheets.
We write derivative-based risk management products designed to address weather risks with the objective of generating profits on a portfolio basis. The majority of this business consists of receiving a payment at contract inception in exchange for bearing the risk of variations in a quantifiable weather-related phenomenon, such as temperature. Where a client wishes to minimize the upfront payment, these transactions may be structured as swaps or collars. In general, our portfolio of such derivative contracts is of short duration, with contracts being predominantly seasonal in nature. In order to economically hedge a portion of this portfolio, we may also purchase weather derivatives.
The reserving process begins with the collection and analysis of paid and incurred claim data for each of our segments. The segmental data is disaggregated by reserving class and further disaggregated by either accident year (i.e. the year in which the loss event occurred) or by underwriting year (i.e. the year in which the contract generating the premium and losses incepted). We use underwriting year information to analyze our reinsurance business and subsequently allocate reserves to the respective accident years. Our reserving classes are selected to ensure that the underlying contracts have homogeneous loss development characteristics, while remaining large enough to make the estimation of trends credible. This data, in addition to industry benchmarks, serves as a key input to many of the methods employed by our actuaries. The relative weights assigned to our own historical loss data versus industry data vary according to the length of the development profile for the reserving class being evaluated. At present, we generally give more weight to our own experience (and, correspondingly, less weight to industry data) for reserving classes with short and medium claim tails. For some of our longer tail reserving classes we give material weight to industry data. (See ‘Net Incurred and Paid Claims Development Tables By Accident Year’ below for more detailed information by reserving class.)
The following is a brief description of the reserve estimation methods commonly employed by our actuaries:
Bornhuetter-Ferguson Method (“BF Method”): This method can be seen as a combination of the ELR and Loss Development Methods, under which the Loss Development Method is given progressively more weight as an accident year or underwriting year matures. The main advantage of the BF Method is that it provides a more stable estimate of ultimate losses than the Loss Development Method at earlier stages of development, while remaining more sensitive to emerging loss development than the ELR Method. In addition, the BF Method allows for the incorporation of external market information through the use of expected loss ratios, whereas the Loss Development Method does not incorporate such information.
In our earlier years, we placed significant reliance on industry benchmarks in establishing our expected loss ratios and loss development patterns. Over time, we have placed more reliance on our historical loss experience in establishing these ratios and patterns where we believe the weight of our own actual experience has become sufficiently credible for consideration. In establishing expected loss ratios for our insurance segment, we give consideration to a number of other factors, including exposure trends, rate adequacy on new and renewal business, ceded reinsurance costs, changes in claims emergence and our underwriters’ view of terms and conditions in the market environment. For our reinsurance segment, expected loss ratios are based on a contract-by-contract review, which considers information provided by clients together with estimates provided by our underwriters and actuaries about the impact of changes in pricing, terms and conditions and coverage. We also have considered the market experience of some classes of business as compiled and analyzed by an independent actuarial firm, as appropriate. The weight given to our experience differs for each of our three claim tails.
Our short-tail business generally includes exposures for which losses are usually known and paid within a relatively short period of time after the underlying loss event has occurred. We expect that the majority of development for an accident year or underwriting year will be recognized in the subsequent one to three years. The key actuarial assumptions for our short-tail business in our early accident years were primarily developed with reference to industry benchmarks for both expected loss ratios and loss development patterns. As our own historical loss experience amassed, it gained credibility and became relevant for consideration in establishing these key actuarial assumptions. As a result, we gradually increased the weighting assigned to our own historical experience in selecting the expected loss ratios and loss development patterns utilized to establish our estimates of ultimate losses for an accident year. Due to the relatively short reporting and settlement patterns for our short-tail business, we generally place more weight upon experience-based methods and other qualitative considerations in establishing reserves for both our recent and more mature accident years.
The claim tails for our long-tail business, in contrast to our short and medium-tail business, is expected to be notably longer, as claims are often reported and ultimately paid or settled years, or even decades, after the related loss events occur. As a general rule, our estimates of accident year or underwriting year ultimate losses for our long-tail business are notably more uncertain than those for our short and medium-tail business. To date, our key actuarial assumptions for our long-tail business have been derived extensively from industry benchmarks supplemented with our own historical experience. Given our relatively short operating history in comparison to the development tail for this business, we do not believe that our own historical loss development for our long-tail business has amassed an appropriate volume to serve as a fully credible input into the key actuarial assumptions previously outlined. While we consider industry benchmarks that we believe reflect the nature and coverage of our business, our actual loss experience may differ from the benchmarks based on industry averages. Due to the length of the development tail for this business, our reserve estimates for most accident years and underwriting years are predominantly based on the BF or ELR method and the consideration of qualitative factors.
We cannot estimate losses from widespread catastrophic events, such as hurricanes and earthquakes, using the traditional actuarial methods described above. Rather, loss reserves for such events are estimated by management in collaboration with our actuaries, claim handlers and underwriters after a catastrophe occurs by completing an in-depth analysis of individual contracts which may potentially be impacted by the catastrophic event. This in-depth analysis may rely on several sources of information, including: (1) estimates of the size of insured industry losses from the catastrophic event and our corresponding market share; (2) a review of our portfolio of contracts performed to identify those contracts which may be exposed to the catastrophic event; (3) a review of modeled loss estimates based on information previously reported by customers and brokers, including exposure data obtained during the underwriting process; (4) discussions of the impact of the event with our customers and brokers and (5) catastrophe bulletins published by various independent statistical reporting agencies. We generally use a blend of these information sources to arrive at our aggregate estimate of the ultimate losses arising from the catastrophic event. In subsequent reporting periods, we review changes in paid and incurred losses in relation to each significant catastrophe and adjust our estimates of ultimate losses for each event if there are developments that are different from our previous expectations. Adjustments are recorded in the period in which they are identified.
The majority of the net favorable prior year reserve development in each period related to short-tail reserve classes. Net favorable prior year reserve development for motor, liability, professional lines, and credit and surety reinsurance reserve classes as well as insurance professional lines reserve classes also contributed in 2016.
development for our reinsurance liability reserve class primarily reflected the progressively increased weight given by
management to experience based indications on older accident years, which has generally been favorable. This favorable development was partially offset by adverse development in our insurance liability reserve class of $8 million, $27 million and $23 million in 2016, 2015 and 2014, respectively, related primarily to an increase in loss estimates for specific individual
Our December 31, 2016 net reserve for losses and loss expenses includes estimated amounts for numerous catastrophe events. We caution that the magnitude and/or complexity of losses arising from certain of these events, in particular the Hurricane Matthew, Fort McMurray wildfires, Storm Sandy, the 2011 Japanese earthquake and tsunami, the 2010-11 New Zealand earthquakes and the Tianjin port explosion, inherently increases the level of uncertainty and, therefore, the level of management judgment involved in arriving at our estimated net reserves for losses and loss expenses. As a result, our actual losses for these events may ultimately differ materially from our current estimates.
Non-U.S. dollar denominated loss data is converted to U.S dollar at the rates of exchange in effect at the balance sheet date for material underlying currencies. Fluctuations in currency exchange rates may cause material shifts in loss development. Reserves for losses and loss expenses, disclosed on our consolidated balance sheets, are also revalued using the exchange rate at the balance sheet date.
This reserve class includes our property, terrorism and accident and health lines of business. Our property line of business provides physical loss or damage, business interruption and machinery breakdown coverage for virtually all types of property, including commercial buildings, residential premises, construction projects and onshore energy installations. This line of business consists of both primary and excess risks, some of which are catastrophe-exposed. Our terrorism line of business provides coverage for physical damage and business interruption of an insured following an act of terrorism. Our accident and health line of business includes accidental death, travel insurance and specialty health products for employer and affinity groups, as well as accident and health reinsurance for catastrophic or per life events on a quota share and/or excess of loss basis, with aggregate and/or per person deductibles. The accident and health line of business has contributed an increasing portion of the premium earned within this reserve class from 2010 forward with a large increase in reported claims observed from 2012. In general, paid and reporting patterns are relatively short-tailed although they can be volatile due to the incidence of catastrophe events.
This reserve class comprises our marine line of business and provides coverage for traditional marine classes, including offshore energy, cargo, liability, recreational marine, fine art, specie as well as hull and war. Offshore energy coverage includes physical damage, business interruption, operators extra expense and liability coverage for all aspects of offshore upstream energy, from exploration and construction through the operation and distribution phases. The complex nature of claims arising under our marine policies tends to result in payment and reporting patterns that are longer than those of our property and other class. Exposure to natural perils such as windstorm and earthquake can result in volatility.
This reserve class comprises our aviation line of business and provides hull and liability and specific war coverage primarily for passenger airlines but also for cargo operations, general aviation operations, airports, aviation authorities, security firms and product manufacturers. The claims reporting pattern varies by coverage. Losses arising from war/terrorism and damage to hulls of aircraft are generally reported quickly. This is to be contrasted with liability claims which involve passengers and third parties and generally exhibit longer reporting and paid patterns. To date, the claims we have been advised of have predominantly related to damage to hulls, hence our payment and reporting patterns have typically exhibited a relatively short tail.
This reserve class comprises our credit and political risk line of business and provides credit and political risk insurance products for banks and corporations. Coverage is provided for a range of risks including sovereign default, credit default, political violence, currency inconvertibility and non-transfer, expropriation, aircraft non-repossession and contract frustration due to political events. The credit insurance coverage is primarily for lenders seeking to mitigate the risk of non-payment from their borrowers. For the credit insurance contracts, it is necessary for the buyer of the insurance (most often a bank) to hold an insured asset (most often an underlying loan) in order to claim compensation under the insurance contract. Claims for this business tend to be characterized by their severity risk, as opposed to their frequency risk. Therefore, claim payment and reporting patterns are anticipated to be volatile. Under the notification provisions of our credit insurance, we anticipate being advised of an insured event within a relatively short time period. As a result, we generally estimate ultimate losses based on a contract-by-contract analysis which considers the contracts’ terms, the facts and circumstances of underlying loss events and qualitative input from claims managers.
The main difficulty in presenting accident year triangles for the Reinsurance segment relates to the allocation of loss information on proportional treaties to the appropriate accident years. As an example, many proportional treaty reinsurance contracts are submitted using quarterly bordereau reporting by underwriting year, with a supplemental listing of large losses. The large losses can be accurately allocated to the corresponding accident years. However, the remaining losses can generally only be allocated to accident years based on estimated premium earning and loss reporting patterns. To the extent management’s assumptions and allocation procedures differ from the actual loss development patterns, the actual loss development may differ materially from the loss development presented below.
The reporting of cumulative claims frequency for the reserve classes within our Reinsurance segment is deemed to be impracticable. The information necessary to provide cumulative claims frequency for these reserve classes is not available to the Company.
This reserve class comprises our property, catastrophe, engineering, agriculture and marine and other lines of business. Our catastrophe line of business provides protection for most catastrophic losses that are covered in the underlying insurance policies written by our cedants. The exposure in the underlying policies is principally property exposure but also covers other exposures including workers compensation, personal accident and life. The principal perils in this portfolio are hurricane and windstorm, earthquake, flood, tornado, hail and fire. In some instances, terrorism may be a covered peril or the only peril. We underwrite catastrophe reinsurance principally on an excess of loss basis. Our property line of business provides coverage for property damage and related losses resulting from natural and man-made perils contained in underlying personal and commercial policies. While our predominant exposure is to property damage, other risks, including business interruption and other non-property losses, may also be covered when arising from a covered peril. While our most significant exposures typically relate to losses from windstorms, tornadoes and earthquakes, we are also exposed to other perils such as freezes, riots, floods, industrial explosions, fires, hail and a number of other loss events. We assume business on both a proportional and excess of loss basis.
Our agriculture line of business provides coverage for risks associated with the production of food and fiber on a global basis for primary insurance companies writing multi-peril crop insurance, crop hail, and named peril covers, as well as custom risk transfer mechanisms for agricultural dependent industries with exposures to crop yield and/or price deviations. We provide both proportional and aggregate stop loss reinsurance. Our engineering line of business provides coverage for all types of construction risks and risks associated with erection, testing and commissioning of machinery and plants during the construction stage. This line of business also includes coverage for losses arising from operational failures of machinery, plant and equipment and electronic equipment as well as business interruption. Our marine and other line of business includes marine, aviation and personal accident reinsurance.
In general, paid and reporting patterns are relatively short-tailed and can be volatile due to the incidence of catastrophe events such as hurricanes and earthquakes.
Our initial and most recent underwriting year loss projections are generally based on the ELR method, with consideration given to qualitative factors. Given that there is a quicker and more stable reporting pattern for trade credit business, we generally commence the transition to experience-based methods sooner than for the surety business.
With respect to our key actuarial assumptions, we are progressively giving more weight to our own experience when establishing our expected loss ratios and our selected loss development patterns, though we continue to consider industry benchmarks. Loss reporting patterns for professional lines business tend to be volatile, causing instability in actuarial indications based on incurred loss data until an accident year matures for a number of years. Consequently, our initial loss reserves for an accident year or underwriting year are generally based upon an ELR method and the consideration of relevant qualitative factors. As accident and underwriting years mature, we increasingly give more weight to methods that reflect our actual experience until our selections are based almost exclusively on experience-based methods. We evaluate the appropriateness of the transition to experience-based methods at the reserving class level, commencing this transition when we believe that our incurred loss development is sufficient to produce meaningful actuarial indications. The rate at which we transition fully to sole reliance on experience-based methods can vary, depending on our assessment of the stability and relevance of such indications.
This reserving class is comprised of our motor line of business and provides coverage to insurers for motor liability and property damage losses arising out of any one occurrence. A loss occurrence can involve one or many claimants where the ceding insurer aggregates the claims from the occurrence. We offer traditional proportional and non-proportional reinsurance as well as structured solutions predominantly relating to European exposures. The business written on a proportional basis has expanded significantly since 2010 and now represents the majority of the written premium on this class. Most of the premium relates to a relatively small number of large United Kingdom ("U.K.") and, to a lesser extent, Greek quota share treaties. The motor proportional class generally has significantly shorter paid and reported loss development patterns relative to the motor non-proportional class.
The following table reconciles the reserves for loss and loss expenses as of December 31, 2016 as reported in our Consolidated Balance Sheet to the reserves for loss and loss expenses included in the development tables:
In the ordinary course of business, we purchase treaty and facultative reinsurance to reduce exposure to significant losses. Facultative reinsurance provides coverage for all or a portion of the losses incurred for a single policy and we separately negotiate each facultative contract. Treaty reinsurance provides coverage for a specified type or category of risks. Our treaty reinsurance agreements provide this coverage on either an excess of loss or a proportional basis. Excess of loss covers provide a contractually set amount of coverage after a specified loss amount has been reached. Under proportional reinsurance, we cede an agreed proportion of the premiums and the losses and loss adjustment expenses on the policies we underwrite. Treaty reinsurance can provide us with coverage for a number of lines of business within one contract. In contrast, proportional covers provide us with a specified percentage of coverage from the first dollar of loss.
During the year ended December 31, 2016, we recognized ceded losses and loss expenses of $556 million (2015: $577 million; 2014: $401 million).
On March 23, 2010, AXIS Specialty Finance LLC, a 100% owned finance subsidiary, issued $500 million aggregate principal amount of 5.875% senior unsecured debt (the ''5.875% Senior Notes'') at an issue price of 99.624%. The net proceeds of the issuance, after consideration of the offering discount and underwriting expenses and commissions, totaled approximately $495 million. Interest on the 5.875% Senior Notes is payable semi-annually in arrears on June 1 and December 1 of each year, beginning on June 1, 2010. Unless previously redeemed, the 5.875% Senior Notes will mature on June 1, 2020. The 5.875% Senior Notes are ranked as unsecured senior obligations of AXIS Specialty Finance LLC. AXIS Capital has fully and unconditionally guaranteed all obligations of AXIS Specialty Finance LLC under the 5.875% Senior Notes. AXIS Capital’s obligations under this guarantee are unsecured and senior and rank equally with all other senior obligations of AXIS Capital.
We have the option to redeem the Senior Notes at any time and from time to time, in whole or in part, at a ''make-whole'' redemption price, which is equal to the greater of the aggregate principal amount or the sum of the present values of the remaining scheduled payments of principal and interest. The related indentures contain various covenants, including limitations on liens on the stock of restricted subsidiaries, restrictions as to the disposition of the stock of restricted subsidiaries and limitations on mergers and consolidations. We were in compliance with all the covenants contained in the indentures at December 31, 2016.
Interest expense recognized in relation to our Senior Notes includes interest payable, amortization of the offering discounts and amortization of debt offering expenses. The offering discounts and debt offering expenses are amortized over the period of time during which the Senior Notes are outstanding. During 2016, we incurred interest expense of $50 million (2015: $50 million, 2014: $72 million).
On March 26, 2013, AXIS Capital and certain of its subsidiaries entered into a $250 million credit facility (the "Credit Facility"), which was issued by a syndication of lenders pursuant to a Credit Agreement and other ancillary documents (together, the "Facility Documents") and will expire in March 2017. At the request of the Company and subject to the satisfaction of certain conditions, the aggregate commitment available under the Credit Facility may be increased by up to $150 million. Under the terms of the Credit Facility, loans are available for general corporate purposes and letters of credit may be issued in the ordinary course of business, with total usage not to exceed the aggregate commitment available. Interest on loans issued under the Credit Facility is payable based on underlying market rates at the time of loan issuance. While loans under the Credit Facility are unsecured, we have the option to issue letters of credit on a secured basis in order to reduce associated fees. Letters of credit issued under the Credit Facility would principally be used to support the (re)insurance obligations of our operating subsidiaries. Each of AXIS Capital, AXIS Specialty Finance LLC, AXIS Specialty Holdings Bermuda Limited and AXIS Specialty Finance PLC guarantees the obligations of the other parties to the Credit Facility. The Credit Facility is subject to certain non-financial covenants, including limitations on fundamental changes, the incurrence of additional indebtedness and liens and certain transactions with affiliates and investments, as defined in the Facility Documents. The Credit Facility also requires compliance with certain financial covenants, including a maximum debt to capital ratio and a minimum consolidated net worth requirement. In addition, each of AXIS Capital’s material (re)insurance subsidiaries party to the Credit Facility must maintain a minimum A.M. Best Company, Inc. financial strength rating. In the event of default, including a breach of these covenants, the lenders may exercise certain remedies including the termination of the Credit Facility, the declaration of all principal and interest amounts related to Credit Facility loans to be immediately due and the requirement that all outstanding letters of credit be collateralized.
On November 20, 2013, certain of AXIS Capital’s operating subsidiaries (the "Participating Subsidiaries") entered into an amendment to extend the term of the Company's secured $750 million letter of credit facility (the “LOC Facility”) with Citibank Europe plc (“Citibank”) pursuant to a Master Reimbursement Agreement and other ancillary documents (together, the “LOC Facility Documents”). Under the terms of the LOC Facility, letters of credit to a maximum aggregate amount of $750 million are available for issuance on behalf of the Participating Subsidiaries. These letters of credit will principally be used to support the reinsurance obligations of the Participating Subsidiaries. The LOC Facility is subject to certain covenants, including the requirement to maintain sufficient collateral, as defined in the LOC Facility Documents, to cover all of the obligations under the LOC Facility. Such obligations include contingent reimbursement obligations for outstanding letters of credit and fees payable to Citibank. In the event of default, Citibank may exercise certain remedies, including the exercise of control over pledged collateral and the termination of the availability of the LOC Facility to any or all of the Participating Subsidiaries.
At December 31, 2016, letters of credit outstanding under the LOC Facility and the Credit Facility totaled $340 million and $nil, respectively. There was no debt outstanding under the Credit Facility. We were in compliance with all LOC Facility and Credit Facility covenants at December 31, 2016.
At December 31, 2016, we were in compliance with these limits.
under our reinsurance contracts. To help mitigate this, all of our reinsurance purchasing is subject to financial security
requirements specified by our Reinsurance Security Committee. This Committee maintains a list of approved reinsurers, performs credit risk assessments for potential new reinsurers, regularly monitors approved reinsurers with consideration for events which may have a material impact on their creditworthiness, recommends counterparty tolerance levels for different types of ceded business and monitors concentrations of credit risk. This assessment considers a wide range of individual attributes, including a review of the counterparty’s financial strength, industry position and other qualitative factors. Generally, the Committee requires that reinsurers who do not meet specified requirements provide collateral.
The three largest balances by reinsurer accounted for 13%, 10% and 9% of total reinsurance recoverable on unpaid and paid losses at December 31, 2016 (2015: 11%, 11% and 11%). Amounts related to our reinsurers with the ten largest balances comprised 67% of December 31, 2016 balance (2015: 72%) and had a weighted average A.M. Best rating of A+ (2015: A+).
These contractual rights contribute to the mitigation of credit risk, as does our monitoring of aged receivable balances. In light of these mitigating factors, and considering that a significant portion of our premiums receivable are not currently due based on the terms of the underlying contracts, we do not utilize specific credit quality indicators to monitor our premiums receivable balance. At December 31, 2016, we recorded an allowance for estimated uncollectible premiums receivable of $2 million (2015: $3 million). The corresponding bad debts expense charge for 2016 was $1 million, while the 2015 and 2014 bad debts expense charges were insignificant.
We produce our business through brokers and direct relationships with insurance companies. During 2016, three brokers accounted for 52% (2015: 53%; 2014: 56%) of our total gross premiums written. Marsh & McLennan Companies Inc. accounted for 21% (2015: 22%; 2014: 22%), Aon plc for 19% (2015: 18%; 2014: 22%), and Willis Tower Watson PLC for
12% (2015: 13%; 2014: 12%). No other broker and no one insured or reinsured accounted for more than 10% of our gross premiums written in any of the last three years.
At December 31, 2016 we have $401 million (2015: $379 million) of unfunded investment commitments related to our investments in hedge, direct-lending, real estate, private equity and bank revolver opportunity funds, which are callable by our investment managers. For further details, refer to Note 5(c) 'Investments'. In addition, we have a $2 million commitment to purchase commercial mortgage loans at December 31, 2016.
On August 17, 2015, the Company entered into an Accelerated Share Repurchase (“ASR”) agreement (refer to Note 13 'Shareholders' Equity' for additional detail). The weighted-average number of shares outstanding used in the computation of basic and diluted earnings per share reflects the Company’s receipt of 4,149,378 shares delivered to the Company on August 20, 2015, and 1,358,380 common shares delivered to the Company on January 15, 2016 under the Company's ASR agreement.
During 2016, the total cash dividends declared per common share were $1.43 (2015: $1.22; 2014: $1.10).
On December 9, 2016, our Board of Directors authorized a new share repurchase plan for up to $1 billion of our common shares through December 31, 2017. The new plan is effective January 1, 2017.
During November 2005, we issued $250 million of 7.50% Series B preferred shares, par value $0.0125 per share, with a liquidation preference of $100.00 per share. We may redeem the shares on or after December 1, 2015 at a redemption price of $100.00 per share. Dividends on the Series B preferred shares are non-cumulative. Holders of Series B preferred shares will
be entitled to receive, only when, as and if declared by our board of directors, non-cumulative cash dividends, from the original issue date, quarterly in arrears on the first day of March, June, September and December of each year, commencing on March 1, 2006, up to but not including January 27, 2016. To the extent declared, these dividends will accumulate, with respect to each dividend period, in an amount per share equal to 7.50% of the liquidation preference per annum.
In 2015, total dividends declared on Series B preferred shares were $6.8125 per share, and dividends paid were $7.50 per share. In 2014, total dividends declared and paid on Series B preferred shares were $7.50 per share.
On January 27, 2016 we redeemed the remaining 28,430 Series B preferred shares, for an aggregate redemption price of $3 million.
For 2016, 2015 and 2014, the total dividends declared and paid on Series C preferred shares were $1.7188 per share in each year.
During May 2013, we issued $225 million of 5.50% Series D preferred shares, par value $0.0125 per share, with a liquidation preference of $25.00 per share. We may redeem the Series D preferred shares on or after June 1, 2018 at a redemption price of $25.00 per share. Dividends on the Series D preferred shares are non-cumulative. Holders of the Series D preferred shares will be entitled to receive, only when, as and if declared by the Board of Directors, non-cumulative cash dividends from the original issue date, quarterly in arrears on the first day of March, June, September and December of each year, commencing on September 1, 2013. To the extent declared, these dividends will accumulate, with respect to each dividend period, in an amount per share equal to 5.50% of the liquidation preference per annum.
Prior to the adoption of ASU 2015-02 “Amendments to the Consolidation Analysis” issued by the FASB, the Company had concluded that it was the primary beneficiary of Ventures Re and following this determination, Ventures Re was consolidated by the Company. Shareholders' equity attributable to Ventures Re's third party investors was recorded in the Consolidated Financial Statements as noncontrolling interests.
The Company provides defined contribution plans that are self directed to eligible employees through various plans sponsored by the Company. Generally, mutual funds are made available pursuant to which the Company and employees contribute a percentage of the employee’s gross salary into the plan each month.
During 2016, total pension expenses were $23 million (2015: $21 million and 2014: $21 million) for the above retirement benefits.
In May 2007, our shareholders approved the establishment of the AXIS Capital Holdings Limited 2007 Long-Term Equity Compensation Plan (“2007 Plan”). The 2007 Plan provides for, among other things, the grant of restricted stock, restricted stock units, non-qualified and incentive stock options, and other equity-based awards to our employees and directors. The 2007 Plan authorized the issuance of a total of 5,000,000 shares. In May of 2009 and 2012, our shareholders approved amendments to the 2007 Plan to increase the number of common shares authorized for issuance by 4,000,000 and 6,000,000 respectively, to bring the total number of common shares authorized for issuance to 15,000,000. As a result of the adoption of the 2007 Plan, the 2003 Long-Term Equity Compensation and 2003 Directors Long-Term Equity Compensation Plan were terminated, except that all related outstanding awards will remain in effect. At December 31, 2016, 5,714,048 equity-based awards remained available for grant under the 2007 Plan.
Grants provided under the 2007 Plan generally allow for accelerated vesting provisions upon the employee’s death, permanent disability, or certain terminations following a change in control of the Company occurring within two years of the change in control event. Notwithstanding these vesting provisions, the Compensation Committee of our Board has broad authority to accelerate vesting at its own discretion.
The total fair value of restricted stock, restricted stock units and cash settled awards vested during 2016 was $67 million (2015: $75 million; 2014: $68 million). At December 31, 2016, we had unrecognized compensation costs of $85 million (2015: $95 million) which are expected to be recognized over the weighted average period of 2.3 years (2015: 2.2 years).
In 2016, the Company established the AXIS Executive RSU Retirement Plan (the “Plan”) to reward certain eligible long-term employees of the Company for their dedicated service. Subject to certain conditions being met, eligible employees will not forfeit all of their outstanding restricted stock units (“RSUs”) on or following their retirement. Absent the Plan, outstanding RSUs are generally forfeited upon termination of employment.
During 2016, we granted 692,316 restricted stock awards (2015: 661,398; 2014: 1,121,066) to our employees with a weighted average grant-date fair value per share of $53.86 (2015: $51.95; 2014: $44.46).
During 2016, we granted 515,122 restricted stock units that will settle in cash when the awards vest (2015: 487,758; 2014:1,018,083) of which 17,793 restricted stock units are performance based and 497,329 restricted stock units are service based. At December 31, 2016, there were 1,459,513 outstanding restricted stock units that will settle in cash when the awards vest (2015: 1,503,264; 2014: 1,503,380), and the corresponding liability for cash-settled units, included in other liabilities on the Consolidated Balance Sheets, was $48 million (2015: $33 million).
Our Chairman, Mr. Butt, received $0.6 million in consulting fee payments in 2016 pursuant to the terms of a consulting agreement by and between Mr. Butt and the Company dated May 3, 2012, as amended December 5, 2013, December 4, 2014, and January 15, 2016 (2015: $1 million; 2014: $1 million). The consulting agreement was further amended on December 8, 2016 to extend the term of the agreement to the Company's 2018 Annual General Meeting for an annual fee of $0.5 million.
Our investments portfolio includes certain investments where we are considered to have the ability to exercise significant influence over the investment entity's operations. Significant influence is generally deemed to exist where we have an investment of 20% or more in the common stock of a corporation or an investment of 3% or more in closed end funds, limited partnerships, LLCs or similar investment vehicles. At December 31, 2016 we have $411 million (2015: $193 million) of investments where we are deemed to have the ability to exercise such significant influence. We generally pay management and performance fees to the investment managers of these investments. We consider all fees paid to the investment managers to be at market rates consistent with negotiated arms-length contracts.
During 2015, the Company implemented a number of profitability enhancement initiatives which resulted in the recognition of reorganization and related expenses including staff severance and related costs, the write-off of certain information technology assets, lease cancellation costs and an impairment of certain customer-based intangibles following the decision to wind down the Company's Australian retail insurance operations. Reorganization and related expenses amounted to $nil and $46 million for the years ended December 31, 2016 and 2015, respectively. In addition, we incurred corporate expenses of $nil and $5 million associated with these profitability enhancement initiatives for the years ended December 31, 2016 and 2015, respectively. Refer Note 4 'Goodwill and Intangible Assets' for additional information on the intangible impairment charge and refer to Note 23 'Subsequent Events' for an update on the regulatory process related to the wind down of the Company's Australian retail insurance operations.
Under current Bermuda law, our Bermuda domiciled companies are not required to pay any taxes in Bermuda on income or capital gains. We have received an assurance from the Minister of Finance in Bermuda that, in the event of any taxes being imposed, we will be exempt from taxation in Bermuda until March 2035. Our primary Bermuda subsidiary has an operating branch in Singapore, which is subject to the relevant taxes in that jurisdiction. The branch is not under examination in this tax jurisdiction, but remains subject to examination for tax years 2013 through 2016.
Our U.S. subsidiaries are subject to federal, state and local corporate income taxes and other taxes applicable to U.S. corporations. The provision for federal income taxes has been determined under the principles of the consolidated tax provisions of the U.S. Internal Revenue Code and Regulations. Should the U.S. subsidiaries pay a dividend outside the U.S. group, withholding taxes will apply. Our U.S. subsidiaries are not under examination but remain subject to examination in the U.S. for tax years 2013 through 2016.
In Canada, our U.S. reinsurance company operates through a branch and our U.S. service company has an unlimited liability company subsidiary based in Canada. These Canadian operations are subject to the relevant taxes in that jurisdiction and generally remain subject to examination for tax years 2012 through 2016.
We also have subsidiaries in Ireland, the U.K., Australia and Brazil. These subsidiaries and their branches, are not under examination, but generally remain subject to examination in all applicable jurisdictions for tax years 2012 through 2016.
As a result of certain realization requirements of ASC 718 "Compensation - Stock Compensation", the table of deferred tax assets and liabilities does not include certain deferred tax assets as of December 31, 2016, that arose directly from tax deductions related to equity compensation greater than compensation recognized for financial reporting. Equity will be increased by $2 million if and when such deferred tax assets are ultimately realized.
Under the Insurance Act 1978, amendments thereto and Related Regulations of Bermuda (the "Act"), our Bermuda subsidiary, AXIS Specialty Bermuda is required to maintain minimum statutory capital and surplus equal to the greater of a minimum solvency margin ("MSM") and the Enhanced Capital Requirement ("ECR"). The MSM is the greater of $100 million, 50% of net premiums written, 15% of the net reserve for losses and loss expenses or 25% of the ECR. The ECR is calculated based on either an internally developed risk-based capital model or a standard risk-based capital model developed by the Bermuda Monetary Authority ("BMA"). In 2016, the BMA implemented an Economic Balance Sheet ("EBS") framework which was used as the basis to determine the ECR. The required and available statutory capital and surplus as at December 31, 2016 are based on this EBS framework.
Under the Act, AXIS Specialty Bermuda is restricted as to the payment of dividends for amounts greater than 25% of the prior year’s statutory capital and surplus, whereby a signed affidavit by at least two members of the Board of Directors attesting that the dividend in excess of this amount would not cause the company to fail to meet its relevant margins is required. The maximum dividend AXIS Specialty Bermuda could pay, without a signed affidavit, having met minimum levels of statutory capital and surplus requirements, is approximately $1.0 billion.
Effective January 1, 2016, our Irish subsidiaries, AXIS Specialty Europe SE and AXIS Re SE, are required to maintain the Minimum Capital Requirement (“MCR”) (subject to a monetary minimum floor) and the Solvency Capital Requirement “SCR” at all times. The capital requirements are calculated by reference to standard formulae defined in Solvency II. The MCR is the level of capital below which a company would be deemed insolvent for regulatory purposes. If a company falls below the SCR, the Central Bank of Ireland is authorized to take action to restore the financial position of the company. At December 31, 2016, our subsidiaries were in compliance with these requirements. Our Irish subsidiaries may declare dividends out of retained earnings subject to meeting their solvency and capital requirements. The maximum dividend is limited to excess eligible own funds (excess Solvency II capital over the SCR) and may also be limited to “profits available for distribution”, which consists of accumulated realized profits less accumulated realized losses and statutory reserves. At December 31, 2016, the maximum dividend our Irish subsidiaries could pay having met minimum levels of statutory capital and surplus requirements, after obtaining prior approval from the Central Bank of Ireland, was approximately $372 million.
Total statutory net income of our operating subsidiaries was $598 million, $457 million, $884 million for 2016, 2015 and 2014, respectively. The differences between statutory financial statements and statements prepared in accordance with U.S. GAAP vary by jurisdiction, however, the primary differences are that statutory financial statements may not reflect deferred acquisition costs, certain net deferred tax assets, goodwill and intangible assets, unrealized appreciation or depreciation on debt securities or certain unauthorized reinsurance recoverables.