The Company leases office space in Pembroke, Bermuda where the Company’s principal executive office is located. Additionally, the Company and its subsidiaries lease office space in the United States, the United Kingdom, Switzerland and Singapore sufficient for the operation of its Insurance and Reinsurance segments. We renew and enter into new leases in the ordinary course of business. For further discussion of our leasing commitments at December 31, 2013, please see Note 11 - “Commitments and Contingencies” to our Audited Consolidated Financial Statements.
We derived the following selected consolidated financial information for the years ended December 31, 2013, 2012, 2011, 2010 and 2009 from our Audited Consolidated Financial Statements and related notes. These historical results are not necessarily indicative of results to be expected from any future period.
In the Insurance segment, the Company writes agriculture, casualty and other specialty, professional lines, and property insurance. In the Reinsurance segment, the Company writes catastrophe, property, casualty, professional lines, and other specialty reinsurance.
The Company’s results of operations are affected by the following business and accounting factors:
The Company’s revenues also include income generated from its investment portfolio. The Company’s investment portfolio is comprised of fixed maturity investments, short-term investments and equity securities that are held as available for sale and other investments, comprised of alternative and specialty funds that are accounted for under the equity method of accounting. In accordance with generally accepted accounting principles in the United States (“U.S. GAAP”), the available for sale investments are carried at fair market value and unrealized gains and losses on the Company’s investments are generally excluded from earnings. These unrealized gains and losses are included on the Company’s balance sheet in accumulated other comprehensive income as a separate component of shareholders’ equity. If unrealized losses are considered to be other-than-temporary due to the Company’s intent to sell, requirement to sell such securities, or credit related factors, such losses are included in earnings as net impairment losses recognized in earnings (losses). For other investments, the Company increases or decreases the value of these investments for the Company’s share of income or loss, less dividends, which is included in net investment income.
In 2014, we believe the following four primary influences may affect the market for our insurance and reinsurance products - the continuation of the challenging global economy, continued pricing competition in many of our markets, increased volatility in agriculture commodity prices, and a low interest rate environment. The United States and other markets around the world have continued to experience unsettled economic conditions, including high levels of unemployment, significant governmental regulation initiatives and continued uncertainty in the financial markets. Although economies are slowly recovering, the lower levels of economic activity are likely to continue to suppress growth in demand for insurance and reinsurance. In addition, increased capital investment and new forms of reinsurance in the industry are likely to have a continuing negative impact on pricing, particularly in catastrophe exposed property insurance and reinsurance. This is likely to result in a continued competitive global insurance and reinsurance market in 2014. Our agriculture insurance business will be influenced by the volatility of agriculture commodity prices, which could lead to decreased premium and risk exposure levels which may be partially offset by higher demand for agriculture insurance due to recent yield and price volatility. Lastly, the current low interest rate environment may result in a lower appetite for longer duration risks that are not adequately priced as there will be reduced investment earnings from underwriting cash flows.
Premiums and Related Expenses. The Company’s insurance premiums are earned pro rata over the terms of the applicable risk period specified in the insurance policy. The Company’s insurance policies cover losses occurring or claims made during the term of the policy. Generally, the Company receives a fixed premium which is identified in the policy and is recorded on the inception date of the contract or when premiums are determinable and earned evenly over the policy term. This premium will generally only adjust if the underlying insured values adjust. Accordingly, we monitor the underlying insured values and record additional or return premiums in the period in which amounts are reasonably determinable. For our agriculture line, premiums are determined based on estimated acreage planted combined with the base commodity price for the insured crops. Adjustments are made to the agriculture premium estimates as acreage reporting and claims adjusting occurs. Insurance premiums written accounted for 55%, 56%, and 60% of the Company’s gross premiums written during the years ended December 31, 2013, 2012, and 2011, respectively.
In addition to the applicable risk period, the Company’s estimate of its reinsurance premiums written is based on the type of reinsurance contracts underwritten. For excess of loss reinsurance contracts, the deposit premium, as defined in the contract, is generally considered to be the best estimate of the reinsurance contract’s written premium at inception. The Company earns reinstatement premiums upon the occurrence of a loss under the reinsurance contract. Reinstatement premiums are calculated in accordance with the contract terms based upon the ultimate loss estimate associated with each contract. Excess of loss reinsurance contracts accounted for approximately 22%, 24%, and 21% of the Company’s gross premiums written during the years ended December 31, 2013, 2012, and 2011, respectively. For proportional reinsurance contracts, the Company estimates premiums, commissions and related expenses based on broker and ceding company estimates. In addition to broker and ceding company estimates, the Company also utilizes its judgment in establishing proportional reinsurance contract premium estimates after considering the following factors:
Proportional reinsurance contracts accounted for approximately 23%, 20%, and 19% of the Company’s gross premiums written during the years ended December 31, 2013, 2012, and 2011, respectively.
Premiums on the Company’s excess of loss and proportional reinsurance contracts are estimated at the time the business is underwritten. Accordingly, this is the amount the Company records as written premium in the period the reinsurance contracts is underwritten. As actual premiums are reported by the ceding companies, management evaluates the appropriateness of the original premium estimates and any adjustments to these estimates are recorded in the period in which they become known. The Company has not historically experienced material adjustments to its initial premium estimates for its excess of loss reinsurance contracts. For proportional contracts, as is customary in the reinsurance market, there is a time lag from the point when premium and related commission and expense activity is recorded by a ceding company to the point when such information is reported by the ceding company to the Company, either directly or through a reinsurance intermediary. This time lag can vary from one to several months or calendar quarters. In addition, uncertainty in premium estimates arises due to changes in renewal rates or rate of new business acceptances by the cedant insurance companies and changes in the rates being charged by cedants. Changes to original premium estimates for proportional contracts could be material and such adjustments may directly and significantly impact earnings in the period they are determined because the subject premium may be fully or substantially earned.
Since inception, the Company has used reserving methods that are commonly applied when limited loss development experience exists. As the Company has accumulated its own loss reserve history, it has determined it is more appropriate to incorporate the Company’s actual loss experience. As of 2006, the Company determined that its own loss development history in relation to its agriculture, property, catastrophe, and other specialty lines of business had reached a level of maturity sufficient to provide a credible basis on which to estimate its reserve for losses and loss expenses related to these lines of business. As such, the Company’s actual reporting patterns were considered when determining the reserve for losses and loss expenses in the agriculture and property lines of business in its Insurance segment and the catastrophe, property and other specialty lines of business in its Reinsurance segment for the year ended December 31, 2013. The Company continues to utilize industry loss and development patterns in the establishment of loss and loss expense reserves where appropriate.
Significant Assumptions Employed in the Estimation of Loss and Loss Expense Reserves. The most significant assumptions used as of December 31, 2013 to estimate the reserve for losses and loss expenses within the Company’s Insurance and Reinsurance segments are as follows:
historic loss development and trend experience is assumed to be indicative of future loss development and trends;
the terms of the contracts and policies we enter into with our insureds and cedants will be interpreted as intended, including those related to applicable aggregation limits and occurrence definitions.
Factors Creating Uncertainty in the Estimation of the Reserve for Losses and Loss Expenses. While management does not at this time include an explicit or implicit provision for uncertainty in its reserve for losses and loss expenses, certain of the Company’s business lines are by their nature subject to additional uncertainties, including the Company’s casualty, property, professional lines,
catastrophe, and other specialty lines in the Reinsurance segment and the Company’s casualty and professional lines in the Insurance segment, which are discussed in detail below. In addition, the Company’s Reinsurance segment is subject to additional factors which add to the uncertainty of estimating loss and loss expense reserves. Time lags in the reporting of losses can also introduce further ambiguity to the process of estimating loss and loss expense reserves.
changes in the inflation rate for goods and services related to the covered damages;
Level 3: Unobservable inputs that are supported by little or no market activity and are significant to the fair value of the assets or liabilities. Unobservable inputs reflect the Company’s own views about the assumptions that market participants would use in pricing the asset or liability. Level 3 assets and liabilities include financial instruments whose values are determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
The Company determines the estimated fair value of each individual security utilizing the highest level inputs available. The Company uses quoted values and other data provided by nationally recognized independent pricing sources as inputs into its process for determining fair values of its fixed maturity, short-term and equity portfolios. The Company obtains multiple prices for its securities where available. Pricing sources used in pricing the Company’s fixed maturity, short-term and equity portfolios at December 31, 2013 were as follows:
Pricing Services and Index Providers. Pricing services, including index providers, provide pricing for less-complex, liquid securities based on market quotations in active markets. For securities that do not trade on a listed exchange, these pricing services may use a matrix pricing consisting of observable market inputs to estimate the fair value of a security. These observable market inputs include: reported trades, benchmark yields, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, and industry and economic factors. Additionally, pricing services may use a valuation model such as an option adjusted spread model commonly used for estimating fair values of mortgage-backed and asset-backed securities. At December 31, 2013, the Company has not adjusted any pricing provided by independent pricing services and index providers and have classified all such securities as Level 2.
Broker/Dealers. Generally, the Company obtains quotes directly from broker/dealers who are active in the corresponding markets when prices are unavailable from independent pricing services or index providers. Broker/dealer quotes may also be used if the pricing from pricing services or index providers is not reflective of current market levels, as detected by our pricing control tolerance procedures. Generally, broker/dealers value securities through their trading desks based on observable market inputs. Their pricing methodologies include mapping securities based on trade data, bids or offers, observed spreads and performance on newly issued securities. They may also establish pricing through observing secondary trading of similar securities. Quotes from broker/dealers are all non-binding. At December 31, 2013, the Company has not adjusted any pricing provided by broker/dealers and has classified the majority of such securities as Level 2.
Other Investments. Other investments are accounted for using the equity method of accounting whereby the initial investment is recorded at cost. Other investments consist of alternative funds and specialty funds. Alternative funds include investments in hedge funds and private investment funds that generally invest in senior secured bank debt, high yield debt securities, distressed debt, distressed real estate, derivatives and equity long/short strategies. Specialty funds currently include high yield loan and convertible debt funds. The carrying value of these investments are increased or decreased to reflect the Company’s share of income or loss, which is included in net investment income, and are decreased for dividends. Due to the timing of the delivery of the final valuations reported by certain of the fund managers, valuations of certain alternative funds and specialty funds are estimated based on the most recently available information, including period end valuation statements, period end estimates, or, in some cases, prior month or quarter valuation statements.
Goodwill. The Company is required to make an annual assessment as to whether the value of the Company’s goodwill asset is impaired. Impairment, which can be either partial or full, is based on a fair value analysis by individual reporting unit. Based upon the Company’s assessment at the reporting unit level, there was no impairment of its goodwill asset of $91.3 million as of December 31, 2013.
In making an assessment of the value of its goodwill, the Company uses both market based and non-market based valuations. Assumptions underlying these valuations include forecasts of discounted future cash flows and future profits in addition to an analysis of the Company’s stock price relative to both its book value and its net income. Significant changes in the data underlying these assumptions could result in an assessment of impairment of the Company’s goodwill asset. In addition, if the current economic environment and/or the Company’s financial performance were to deteriorate significantly, this could lead to an impairment of goodwill, the write-off of which would be recorded against net income in the period such deterioration occurred. If a 5% decline in the fair value of the reporting units occurred, this would not result in an impairment of the goodwill asset at December 31, 2013.
Deferred Tax Assets. We provide for income taxes in accordance with the provisions of the relevant accounting guidance on, “Accounting for Income Taxes” and “Accounting for Uncertain Tax Positions” for Endurance Reinsurance, Endurance American, Endurance American Specialty, Endurance Risk Solutions, ARMtech and Endurance U.K., which are our operating subsidiaries in income tax paying jurisdictions. Our deferred tax assets and liabilities primarily result from the net tax effect of temporary differences between the amounts recorded in our Audited Consolidated Financial Statements and the tax basis of our assets and liabilities. We determine deferred tax assets and liabilities separately for each tax-paying component in each tax jurisdiction.
In February 2013, the FASB issued ASU 2013-02 “Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income” (“ASU 2013-02”). ASU 2013-02 requires entities to report, in one location, information about reclassifications out of accumulated other comprehensive income (“AOCI”). ASU 2013-02 also requires companies to report changes in AOCI balances. For significant items reclassified out of AOCI into net income in their entirety in the same reporting period, reporting (either on the face of the statement where net income is presented or in the notes to the financial statements) is required about the effect of the reclassifications on the respective line items in the statement where net income is presented. For items that are not reclassified into net income in their entirety in the same reporting period, a cross reference to other disclosures currently required under US GAAP is required in the notes. The above information must be presented in one place (parenthetically on the face of the financial statements by income statement line item or in a note to the financial statements). ASU 2013-02 was effective for fiscal years and interim periods beginning after December 15, 2012. The Company adopted this standard prospectively on January 1, 2013. This standard resulted in an additional note to the Company’s Audited Consolidated Financial Statements (see Note 6).
Gross premiums written in 2013 increased $116.2 million, or 4.6%, compared to 2012 and increased $198.1 million, or 8.0% compared to 2011. The following table provides the distribution of gross premiums written by the geographic location in which the risk originated for the years ended December 31, 2013, 2012 and 2011:
An increase in the Reinsurance segment professional line of business resulting from an underwriting team that joined the Company in late 2013 which enabled the Company to participate in several new large quota share contracts;
A decline in the property line of business in the Reinsurance segment compared to 2012 as the Company reduced participation on a few large contracts where pricing was inadequate. Compared to 2011 net premiums written in 2013 were higher as a result of the renewal of new business generated by the Company’s U.S., Zurich and Singapore offices in 2012 partially offset by the reductions noted above;
A decrease in the Insurance segment, primarily in the professional line of business driven by the non-renewal of a large program relationship in late 2012, partially offset by new premiums generated by professional liability and financial institutions underwriting teams that joined the Company in 2013; and
Ceded premiums written by the Company increased in 2013 as compared to 2012 and 2011 across both business segments. Ceded premiums increased in the Insurance segment principally in the agriculture line as the Company increased the amount of reinsurance placed with the Federal Crop Insurance Corporation and purchased third party reinsurance. In addition, growth in Insurance segment cessions occurred in tandem with new professional liability and financial institution gross premiums written in the year by underwriting teams that joined the Company in 2013. In the Reinsurance segment, ceded premiums increased as the Company chose to purchase increased levels of protection within the catastrophe and property lines of business.
Net premiums earned in 2013 were comparable to 2012 as a result of offsetting trends and timing of net premiums written over the last twelve months. Net premiums earned increased in 2013 compared to 2011 principally due to growth in net premiums written over the last two years in the property and casualty lines of the Reinsurance segment, partially offset by a decline in Insurance segment professional lines net premiums written.
The Company’s 2013 net investment income decreased 4.1% or $7.1 million as compared to 2012 and increased 13.0% or $19.2 million as compared to 2011. Net investment income during 2013 included net mark to market gains of $64.3 million on other investments, comprised of alternative funds and specialty funds, as compared to mark to market gains of $49.1 million in 2012 and mark to market losses of $0.7 million in 2011. Investment income generated by the Company’s available for sale investments, which consist of fixed maturity investments, short-term investments and equity securities, decreased by $22.8 million in 2013 compared to 2012 and by $47.5 million compared to 2011, primarily from lower reinvestment rates. The value of the investment portfolio (including cash and cash equivalents and pending investment purchases and sales) as of December 31, 2013 decreased 1.0% from 2012 and increased 3.1% from 2011. The decrease in the investment portfolio during 2013 resulted primarily from a decrease in the unrealized gains of the Company’s available for sale securities of $95.8 million and $76.9 million from 2012 and 2011, respectively, due to the impact of the rise in interest rates during 2013. Investment expenses in 2013 were comparable to those of 2012 and 2011.
(2) Net of investment manager fees; includes realized and unrealized gains and losses.
Realized investment gains and losses and the change in the fair value of investment-related derivative financial instruments for the years ended December 31, 2013, 2012 and 2011 were as follows:
During 2013, the Company remeasured its monetary assets and liabilities denominated in foreign currencies, which resulted in net foreign exchange losses of $14.2 million compared to gains of $15.9 million for 2012 and gains of $7.4 million for 2011. The losses recorded in the current period resulted from the U.S. dollar strengthening in particular against the Japanese Yen and Australian dollar in 2013 which caused the Company’s net asset positions in those currencies to be revalued lower. In contrast, in 2012 the Company was in a net liability position particularly related to the Japanese Yen as the U.S. dollar strengthened against the Yen over the period resulting in foreign exchange gains. In addition, foreign exchange gains were recognized in income as revaluations on investments recorded in other comprehensive income were realized in 2012.
The Company’s reported net losses and loss expenses are significantly impacted by the occurrence or absence of catastrophic events and subsequent loss emergence related to such events. The following table shows the net losses after adjustment for reinstatement premiums and other loss sensitive accruals recorded by the Company in connection with catastrophes for the years ended December 31, 2013, 2012 and 2011.
The Company participates in lines of business where claims may not be reported for many years. Accordingly, management does not believe that reported claims are the only valid means for estimating ultimate obligations. Ultimate losses and loss expenses may differ materially from the amounts recorded in the Company’s consolidated financial statements. These estimates are reviewed regularly and, as experience develops and new information becomes known, the reserves are adjusted as necessary. As a result of the incorporation of the Company’s own loss reporting patterns and loss history related to its short tail business, including catastrophe reinsurance and property insurance and reinsurance business lines, the Company would expect its prior year loss reserve development and adjustments for short tail business to be less than recorded in prior years. Reserve adjustments, if any, are recorded in earnings in the period in which they are determined. The overall loss reserves were established by the Company’s actuaries and reflect management’s best estimate of ultimate losses. See “Reserve for Losses and Loss Expenses” below for further discussion.
The Company incurred a tax expense for the year ended December 31, 2013 of $5.9 million compared to a tax expense of $3.3 million and benefit of $23.0 million for the years ended December 31, 2012 and 2011. The higher tax expense incurred in 2013 compared to 2012 was due to adjustments to deferred tax valuation allowances related to the Company’s U.S. taxable jurisdictions in 2013. The tax benefit recorded in 2011 was due to higher net losses experienced in the Company’s U.S. taxable jurisdictions.
The Company generated net income of $311.9 million in 2013 compared to net income of $162.5 million in 2012 and a net loss of $93.7 million in 2011. The increase in 2013 net income compared to 2012 and 2011 was primarily due to lower levels of catastrophe losses and increased favorable prior year loss reserve development, partially offset by an increase in personnel costs, foreign exchange losses and reduced realized gains on investment sales.
The change in the Insurance business segment net premiums written in 2013 compared to 2012 and 2011 was driven by the following factors:
Premiums in the agriculture line of business were higher compared to 2012 due to growth in policy counts, partially offset by lower premiums from fall crops because of lower commodity prices and higher cessions to the Federal Crop Insurance Corporation and third parties. Compared to 2011 net premiums written in 2013 decreased due to lower commodity prices, partially offset by a higher policy count;
Ceded premiums written by the Company in the Insurance segment increased in 2013 compared to 2012 and 2011 principally in the agriculture line of business as the Company increased the amount of reinsurance placed with the Federal Crop Insurance Corporation and third parties. Ceded premiums also increased against prior years in the casualty and other specialty line in tandem with growth in gross premiums written and in the professional line associated with new business generated by underwriting teams that joined the Company in 2013. These increases in ceded premiums written during 2013 were partially offset by declines in the amount of ceded premium in the property line of business as a result of the reduction in gross premiums in 2013 compared to 2012 and 2011.
The net loss ratio reflected lower favorable prior year loss reserve development recorded for 2013 as compared to 2012 and 2011. Prior year loss reserves were reduced in 2013 by $33.9 million as compared to reductions of $46.2 million and $70.8 million for the years ended December 31, 2012 and 2011. The Company’s Insurance segment experienced net reductions in the Company’s estimated losses for prior accident years in 2013 as claims have not materialized as originally estimated by the Company.
Acquisition Expenses. The Company’s acquisition expense ratio in the Insurance segment for the year ended December 31, 2013 decreased compared to 2012 and 2011. The change in acquisition expense ratio over both periods was driven by a higher proportion of net earned premiums attributed to the agriculture line of business, which incurs a lower net acquisition expense rate, and the decline in premiums in the professional line of business compared to 2012 and 2011, which conversely incurs a higher acquisition expense rate.
The change in the Reinsurance business segment net premiums written during 2013 compared to 2012 and 2011 was driven by the following factors:
Growth in the professional line of business as a result of a new underwriting team that joined the Company in late 2013 which enabled the Company to participate in several new large quota share contracts;
An increase in the casualty line of business as a result of new business written on international motor and U.S. casualty treaties and improved pricing on renewals partially offset by the non-renewal of business that no longer met profitability targets and a number of negative premium adjustments;
A decline in the property line of business compared to 2012 as the Company reduced participation on a few large contracts where pricing was inadequate. Compared to 2011, net premiums were higher in this line of business as a result of the renewal of new business recorded at the Company’s U.S., Zurich and Singapore offices in 2012 partially offset by the reductions noted above;
An expansion of the casualty and other specialty line of business in 2013, primarily due to new business generated by the trade credit and surety team that joined the Company in late 2012, partially offset by an absence of positive premium adjustments compared to 2012 and 2011 and increased retentions by several clients upon renewal of certain treaties.
(1) Balances include amounts related to collateralized debt obligations held with total fair values of $18.7 million.
(1) Balances include amounts related to collateralized debt obligations held with total fair values of $8.5 million.
Foreign Government Securities. Non U.S. government securities represent the fixed maturity obligations of non-U.S. governmental entities, including securities issued by governments of countries other than the United States.
Residential Mortgage-Backed Securities. The majority of the residential mortgage-backed securities in our investment portfolio are issued by Freddie Mac and Fannie Mae. The principal risks inherent in holding agency mortgage-backed securities are prepayment and extension risks, which will affect the timing of when principal cash flows will be received. Non-agency mortgage-backed securities also have credit risk should losses on the underlying collateral exceed the credit protection provided.
Commercial Mortgage-Backed Securities. Our commercial mortgage-backed securities (“CMBS”) portfolio is diversified both geographically and by the types of underlying properties. Our portfolio is primarily backed by office and retail and other commercial properties. We have limited exposure to lodging and industrial properties. The majority of commercial mortgage-backed securities in our portfolio are non-agency and in the super senior tranche with average credit support in excess of approximately 27%. The principal risks inherent in holding agency commercial mortgage-backed securities are prepayment and extension risks, which will affect the timing of when cash flows are received. Non-agency CMBS also have credit risk should losses on the underlying collateral exceed the credit protection provided.
The investment ratings (provided by major rating agencies) for the fixed income investments held as of December 31, 2013 and 2012 and the percentage of our fixed income investments they represented at such date were as follows:
(1) The credit rating for each security reflected above was determined based on the rating assigned to the individual security by Standard & Poor’s. If a rating is not supplied by Standard & Poor’s, the equivalent rating supplied by either Moody’s or Fitch is used.
Other investments are accounted for under the equity method of accounting. Adjustments to the carrying value of these investments are made based upon the net valuation criteria established by the managers of the other investments, which in turn are established based upon the valuation criteria in the governing documents of the other investments. Such valuations may differ significantly from the values that would have been used had liquid markets existed for the shares or partnership interests of the other investments. Due to a delay in the valuations reported by certain of the fund managers, valuations of certain alternative funds and specialty funds are estimated based on the most recently available information, including period end valuation statements, period end estimates, or, in some cases, prior month or quarter valuation statements. Many of the other investments are subject to restrictions on redemptions and sale that limit our ability to liquidate these investments in the short-term. Interest income, income distributions and realized and unrealized gains and losses on other investments are included in net investment income and totaled $64.3 million of gains, $49.1 million of losses and $0.7 million of gains for the years ended 2013, 2012 and 2011, respectively.
The following table shows the fair value of the Company’s investments exposed to all countries whose currency is the Euro or whose sovereign debt rating is below AAA (except the U.S.) by any of the recognized rating agencies at December 31, 2013. The amortized cost basis of these investments was not significantly different from their fair value at December 31, 2013. The Company determined the underlying exposure of the investment by reference to the risk country or parent risk country as published by a third party pricing service. The Company does not have any direct exposure to sovereign debt issued by Ireland, Greece or Portugal.
Ability of Subsidiaries to Pay Dividends. The ability of Endurance Bermuda to pay dividends is dependent on its ability to meet the requirements of applicable Bermuda law and regulations. Under Bermuda law, Endurance Bermuda may not declare or pay a dividend if there are reasonable grounds for believing that Endurance Bermuda is, or would after the payment be, unable to pay its liabilities as they become due, or the realizable value of Endurance Bermuda’s assets would thereby be less than the aggregate of its liabilities and its issued share capital and share premium accounts. Further, Endurance Bermuda, as a regulated insurance company in Bermuda, is subject to additional regulatory restrictions on the payment of dividends or distributions. As of December 31, 2013, Endurance Bermuda could pay a dividend or return additional paid-in capital totaling approximately $654.5 million without prior regulatory approval based upon the Bermuda insurance and corporate regulations. In 2011, Endurance Holdings loaned Endurance Bermuda $200.0 million, which remains outstanding and is callable on demand.
Under the jurisdiction of the United Kingdom’s Prudential Regulatory Authority (“PRA”), Endurance U.K. must maintain a margin of solvency at all times, which is determined based on the type and amount of insurance business written. The PRA regulatory requirements impose no explicit restrictions on Endurance U.K.’s ability to pay a dividend, but Endurance U.K. would have to notify the PRA 28 days prior to any proposed dividend payment. Dividends may only be distributed from profits available for distributions. At December 31, 2013, Endurance U.K. did not have retained profits available for distributions.
Cash and Invested Assets. The Company’s aggregate invested assets as of December 31, 2013 totaled $6.5 billion compared to aggregate invested assets of $6.6 billion as of December 31, 2012. The decrease in invested assets since December 31, 2012 resulted from losses and loss expenses paid, acquisition expenses paid, reinsurance premiums paid, general and administrative expenses paid, interest and dividends paid, the repurchase of the Company’s ordinary shares, and the change in market value of invested assets offset in part by collections of premiums on insurance policies and reinsurance contracts, investment income and proceeds from the issuance of the Company’s ordinary shares.
Our cash and cash equivalents decreased $278.2 million to $845.9 million at December 31, 2013, compared to $1,124.0 million at December 31, 2012, and $890.9 million at December 31, 2011.
Cash flows provided by operating activities. Cash flows provided by operating activities for the year ended December 31, 2013 were $157.9 million compared to $283.5 million for the year ended December 31, 2012 and $281.3 million for the year ended December 31, 2011. The decrease in cash flows provided by operating activities in 2013 compared to 2012 was primarily due to higher claim payments in 2013 that was partially offset by increased premium collections and recoveries on ceded losses. The decrease in cash flows provided by operating activities in 2013 compared to 2011 was primarily due to a decrease in premium collections.
Cash flows used in investing activities. During the twelve months ended December 31, 2013, cash flows used in investing activities were $347.8 million, compared to cash flows provided by investing activities of $46.3 million for 2012 and $238.1 million in 2011. The Company actively manages its investment portfolio on a fair value basis to generate attractive economic returns and income. Movements in financial markets and interest rates influence the timing of investment sales and purchases. The cash flows used in investing activities in 2013 were higher than in 2012 and 2011 due to a decrease in net proceeds from available for sale investments and for 2011 from the absence of positive cash flows from securities lending collateral received.
Credit Facility. On April 19, 2012 the Company and certain designated subsidiaries of the Company entered into a $700.0 million four-year revolving credit facility with JPMorgan Chase Bank, N.A. (“JPMorgan”) as administrative agent (“Credit Facility”). Upon entering into the Credit Facility, the Company terminated its existing $1,175.0 million amended and restated credit agreement dated May 8, 2007 with JPMorgan as administrative agent. As of December 31, 2013, there were no borrowings under the Credit Facility and letters of credit outstanding under the Credit Facility were $260.3 million (2012 - $320.4 million).
Contractual Obligations. At December 31, 2013, letters of credit totaling $260.3 million were outstanding, $198.5 million face value of 6.15% Senior Notes due October 15, 2015 (the “6.15% Senior Notes”) were outstanding and $335.0 million face value of 7% Senior Notes due July 15, 2034 (the “7% Senior Notes”) were outstanding.
The following table summarizes the components of our capital resources at December 31, 2013 and 2012:
(1) The Company also has credit facility capacity of $439.7 million and $854.6 million as at December 31, 2013 and 2012, respectively.
Credit Facility. As of December 31, 2013 and 2012, the Company had $260.3 million and $320.4 million, respectively, of letters of credit outstanding under the Credit Facility and no revolving loans outstanding. The Company was in compliance with all covenants contained in the Credit Facility as of December 31, 2013.
Senior Notes. On October 17, 2005, Endurance Holdings issued $200.0 million principal amount of 6.15% Senior Notes due October 15, 2015. The 6.15% Senior Notes were offered by the underwriters at a price of 99.639% of their principal amount, providing an effective yield to investors of 6.199%. Endurance Holdings used net proceeds from the offering to repay a $143.5 million revolving loan then outstanding under the Company’s then existing credit facility as well as to provide additional capital to its subsidiaries and for other general corporate purposes. During 2012, the Company repurchased $1.0 million of its 6.15% Senior Notes (2013: nil; 2011: $0.5 million).
On July 15, 2004, the Company issued $250.0 million principal amount of 7% Senior Notes due July 15, 2034. On March 23, 2010, the Company issued an additional $85.0 million principal amount of 7% Senior Notes. The additional 7% Senior Notes issued have terms identical to the previously issued notes in the series, other than the date of issue, the initial purchase price to the
public and the first interest payment date. The additional 7% Senior Notes trade interchangeably with and vote together with, the previously issued 7% Senior Notes. The 7% Senior Notes were offered by the underwriters at a price of 99.108% (original issuance) and 94.976% (additional issuance) of their principal amount, providing an effective yield to investors of 7.072% (original issuance) and 7.449% (additional issuance).
At December 31, 2013, the carrying value of the Senior Notes stood at $527.4 million while the fair value as determined by quoted market valuation was $575.1 million. The Company was in compliance with all covenants contained within the indentures governing the Senior Notes as of December 31, 2013.
The effects of inflation could cause the severity of claims to rise in the future. The Company’s estimates for losses and loss expenses include assumptions about future payments for settlement of claims and claims handling expenses, such as medical treatments and litigation costs. To the extent inflation causes these costs to increase above reserves established for these claims, the Company will be required to increase the reserve for losses and loss expenses with a corresponding reduction in its earnings in the period in which the deficiency is identified. In addition, inflation could lead to higher interest rates causing the current unrealized gain position on the Company’s fixed maturity portfolio to decrease or become an unrealized loss position. The current short duration of the Company’s fixed maturity portfolio has the potential to help reduce the negative effects of higher interest rates on the Company’s fixed maturity portfolio. The Company may also choose to hold its fixed income investments to maturity which would result in the unrealized gains largely amortizing through net investment income.
The estimate of the reserve for losses and loss expenses is reviewed each quarter by the Company’s Loss Reserve Committee, consisting of the Company’s Chief Executive Officer, Chief Financial Officer, Chief Risk Officer, Group Actuary, Chief Reserving Actuary and representatives of various disciplines from within the Company, such as claims, underwriting and legal.
Losses and loss expenses for the year ended December 31, 2013 include $222.4 million in favorable development of reserves relating to prior accident years. The favorable loss reserve development experienced during 2013 benefited the Company’s 2013 reported loss ratio by approximately 11.0 percentage points. The net reduction in estimated losses for prior accident years reflects lower than expected loss emergence in each of the Company’s reserve categories within both the Insurance and Reinsurance segments.
Agriculture. The favorable loss emergence within the agriculture insurance line of business during 2013 and 2012 resulted from lower than anticipated agriculture claims settlements for the 2012 and 2011 crop years, respectively.
Casualty and other specialty. The favorable loss emergence within the casualty and other specialty insurance line of business during 2013 and 2012 was primarily due to lower than expected claims activity within the healthcare liability and excess casualty businesses. This favorable loss emergence was partially offset by adverse development within the workers’ compensation and primary casualty businesses during 2013 and 2012. The Company exited the workers’ compensation business in 2009.
Property. The favorable loss emergence within the property line of business during 2013 and 2012 was primarily due to lower than expected reported claim emergence.
Property. The Company recorded favorable prior year reserve development within the property line of business during 2013 primarily due to lower expected attritional and Superstorm Sandy losses from 2012. The Company recorded modest unfavorable prior year reserve development within the property line of business during 2012 primarily due to higher than expected claims reported related to 2011 loss events.
Two key inputs utilized in determining loss and loss expense reserves for the Company’s two business segments are the initial expected loss ratio and the speed of the loss reporting pattern. The following tables illustrate the possible percentage effects on current estimates of the reserve for losses and loss expenses due to 10% changes in the initial expected loss ratio and the speed of the loss reporting pattern as of December 31, 2013. The 10% changes in the initial expected loss ratio and the speed of the loss reporting pattern in the tables below were chosen to demonstrate the impact on the Company’s loss and loss expense reserves of variation in key inputs and, as described below, may not be reflective of actual changes in loss and loss expense reserves.
Ceded premiums written were $616.3 million for the year ended December 31, 2013, $519.5 million for the year ended December 31, 2012 and $487.3 million for the year ended December 31, 2011. The increase in ceded premiums written was due to decreased retentions in our U.S. insurance operations, specifically related to the agriculture and professional lines of business, and the purchase of increased levels of protection within the catastrophe line of business in the Reinsurance segment. The Company’s U.S. and Bermuda insurance operating subsidiaries use proportional and excess reinsurance to protect larger limits on certain business written by the Insurance segment. Our agriculture line of business participates in a crop reinsurance program sponsored by the U.S. federal government as well as utilizes third party reinsurance covers. Excess reinsurance coverage is often purchased in relation to the property insurance line of business to protect against catastrophic events.
Pre-tax income (loss) for our non-U.S. operations was favorable compared to our U.S. operations for the years ending December 31, 2013, 2012 and 2011 because our U.S. operations were impacted by losses resulting from our agriculture line of business that is underwritten by ARMtech due to declines in commodity prices in 2013 and extreme drought in 2012 and 2011. In addition, pre-tax income for our non-U.S. operations was higher compared to our U.S. operations for the year ending December 31, 2013. This higher pre-tax income resulted primarily from the more volatile catastrophe business underwritten in our non-U.S. operations during 2013 being relatively free of losses and thus generating higher levels of net underwriting income during the period. In addition, our non-U.S. operations hold a substantial amount of our invested assets and thus a larger portion of the Company’s investment income is earned in our non-U.S. operations as compared to our U.S. operations.
The Company’s balance sheet at December 31, 2013 contains a net deferred tax asset in the amount of $51.7 million (2012 - $43.5 million deferred tax asset). The current year net deferred tax asset consists of gross deferred tax assets of $222.0 million, gross deferred tax liabilities of $47.6 million and a valuation allowance against certain operating loss carryforwards of $122.7 million (2012 - $85.8 million). Of the Company’s gross deferred tax assets, $106.1 million (2012 - $72.5 million) relates to net operating loss carryforwards that are available to offset future taxable income generated by the Company’s subsidiaries. The Company’s net operating losses may be carried forward indefinitely in the United Kingdom and Singapore. In Switzerland and the United States the net operating loss carryforwards expire in 2020 and 2033, respectively.
The 2013 and 2012 valuation allowances were established against net operating loss carryforwards in the Company’s United States subsidiaries, United Kingdom subsidiary and non-U.S. branches. The increase in the valuation allowance was charged to the Company’s income tax expense during 2013. Management believes the net deferred tax assets, less the valuation allowance noted, are more likely than not to be fully realized in corresponding future periods, and the Company’s net deferred tax asset has been fairly stated as at December 31, 2013. In the event that management determines in the future that it is more likely than not that the net deferred tax assets will not be fully realized in the near term and prior to their expiration, the Company will reassess the valuation allowance against the net deferred tax assets and record any changes to income tax expense in the period determined.
In our opinion, Endurance Specialty Holdings Ltd. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2013, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Endurance Specialty Holdings Ltd. as of December 31, 2013 and 2012, and the related consolidated statements of income (loss) and comprehensive income (loss), changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2013 of Endurance Specialty Holdings Ltd. and our report dated February 25, 2014 expressed an unqualified opinion thereon.
Consolidated Statements of Income (Loss) and Comprehensive Income (Loss) for the years ended December 31, 2013, 2012 and 2011
Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2013, 2012 and 2011
Notes to the Consolidated Financial Statements for the years ended December 31, 2013, 2012 and
We have audited the accompanying consolidated balance sheets of Endurance Specialty Holdings Ltd. as of December 31, 2013 and 2012, and the related consolidated statements of income (loss) and comprehensive income (loss), changes in shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2013. 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.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Endurance Specialty Holdings Ltd.‘s internal control over financial reporting as of December 31, 2013, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (1992 Framework) and our report dated February 25, 2014 expressed an unqualified opinion thereon.
Losses recoverable represent estimates of losses and loss expenses that will be recovered from reinsurers. Amounts recoverable from reinsurers are estimated in a manner consistent with the provisions of the reinsurance agreements and consistent with the establishment of the Company’s reserve for losses and loss expenses. Ceding commissions earned on ceded business are classified as an offset to acquisition and general and administrative expenses.
For fixed maturity and short-term investments in an unrealized loss position for which a decision to sell has not been made and it is not more likely than not that the Company will be required to sell the security, the Company performs additional reviews to determine whether the investment will recover its amortized cost.
If the amortized cost of the Company’s fixed maturity and short-term investments is, based upon the judgment of management, unlikely to be recovered, the Company writes down the investment by the amount representing the credit related portion of the decline in value, thereby establishing a new cost basis. The amount of the write-down is recognized in earnings (losses) as an OTTI loss. The new cost basis is not changed for subsequent recoveries in fair value.
Identifiable intangible assets are amortized in accordance with their useful lives. Goodwill and intangible assets with indefinite useful lives are not amortized but are tested for impairment annually or more often if impairment indicators arise. In making an assessment of the value of its goodwill, the Company uses both market based and non-market based valuations.
The Company may use various derivative instruments such as foreign exchange forward, future and option contracts; interest rate futures, swaps, swaptions, and options; credit default swaps; commodity futures and options; weather swaps and options; and to-be-announced mortgage-backed securities. Except for a cash flow hedge entered into in 2004 as disclosed in Note 8, these derivative instruments are used to manage exposure to interest rate and currency risk, to enhance the efficiency of the Company’s investment portfolio, to economically hedge certain risks, and as part of its weather risk management business. These derivative instruments do not qualify, and are not designated, as hedges. Thus, changes in fair value and any realized gains (losses) are recognized in net realized and unrealized gains, net foreign exchange losses (gains), or other underwriting loss in the Consolidated Statements of Income (Loss) and Comprehensive Income (Loss). Margin balances required of counterparties are included in cash and cash equivalents. Where the Company has entered into master netting agreements with counterparties, or the Company has the legal and contractual right to offset positions, the derivative positions may be netted by the counterparty.
undistributed earnings are allocated to the common and participating common shareholders to the extent that each security may share in earnings as if all of the earnings for the period had been distributed. In periods of loss, no losses are allocated to participating common shareholders. Instead, all such losses are allocated solely to the common shareholders.
In December 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update (“ASU”) 2011-11 “Disclosures About Offsetting Assets and Liabilities” (“ASU 2011-11”). ASU 2011-11 requires additional disclosures about financial instruments and derivative instruments relating to netting arrangements. ASU 2011-11 was effective for interim and annual periods beginning on or after January 1, 2013, with retrospective presentation required. The Company adopted this standard effective January 1, 2013. This standard did not have a material impact on the Company’s consolidated financial statements.
In July 2013, the FASB issued ASU 2013-11 “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists” (“ASU 2013-11”). ASU 2013-11 provides guidance on the presentation of unrecognized tax benefits to better reflect the manner in which an entity would settle at the reporting date any additional income taxes that would result from the disallowance of a tax position when net operating loss carryforwards, similar tax losses, or tax credit carryforwards exist. ASU 2013-11 will be effective for annual and interim reporting periods beginning after December 15, 2013, with both early adoption and retrospective application permitted. The Company does not expect this standard to have a material impact on the Company’s consolidated financial statements.
(1) The credit rating for each security reflected above was determined based on the rating assigned to the individual security by Standard & Poor’s Financial Services LLC (“Standard & Poor’s”). If a rating is not supplied by Standard & Poor’s, the equivalent rating supplied by either Moody’s Investors Service, Inc. (“Moody’s”) or Fitch Ratings, Inc. is used.
In addition to the Company’s fixed maturity, short-term and equity investments, the Company invests in (i) hedge funds and private investment funds that generally invest in senior secured bank debt, high yield credit, distressed debt, distressed real estate, derivatives, and equity long/short strategies (“alternative funds”) and (ii) high yield loan and convertible debt funds (“specialty funds”). The Company’s alternative funds and specialty funds are recorded on the Company’s balance sheet as “other investments”. At December 31, 2013 and 2012, the Company had invested, net of capital returned, a total of $440.9 million and $394.5 million, respectively, in other investments. At December 31, 2013 and 2012, the carrying value of other investments was $617.5 million and $517.5 million, respectively. The following table summarizes the composition and redemption restrictions of other investments as of December 31, 2013 and 2012:
(2) Represents total OTTI recognized in accumulated other comprehensive income. It does not include the change in fair value subsequent to the impairment measurement date. At December 31, 2013, the gross unrealized loss related to fixed income investments for which a non-credit OTTI was recognized in accumulated other comprehensive income was $0.1 million.
(1) Gross unrealized losses include unrealized losses on non-OTTI and non-credit OTTI securities recognized in accumulated other comprehensive income at December 31, 2013.
The analysis of OTTI for the years ended December 31, 2013, 2012 and 2011 is as follows:
Of the $1.6 million (2012 - $0.8 million; 2011 - $3.5 million) of OTTI losses recognized by the Company for the year ended December 31, 2013, the majority was related to reductions in expected recovery values on mortgage-backed securities during the period, and expected losses on corporate securities following the Company’s decision to liquidate a specific portfolio. The unrealized losses on the Company’s fixed income securities at December 31, 2013 were primarily due to an increase in interest rates and widening of credit spreads, rather than any actual credit losses on these securities. At December 31, 2013, the Company did not have the intent to sell any of the remaining fixed maturity investments in an unrealized loss position and determined that it was unlikely that the Company would be required to sell securities in an unrealized loss position. The Company has the ability and intent to hold its equity securities until recovery, therefore the Company does not consider these securities to be other-than-temporarily impaired at December 31, 2013.
The following table provides a roll-forward of the amount related to credit losses for the Company’s available for sale investments recognized in earnings (losses) for which a portion of an OTTI loss was recognized in accumulated other comprehensive income for the years ended December 31, 2013, 2012 and 2011:
Government and agencies fixed maturity securities - These securities are generally priced by pricing services or index providers. The pricing services or index providers may use current market trades for securities with similar quality, maturity and coupon. If no such trades are available, the pricing service typically uses analytical models which may incorporate option adjusted spreads, daily interest rate data and market/sector news. The Company generally classifies the fair values of government and agencies securities in Level 2. Current issue U.S. government securities are generally valued based on Level 1 inputs, which use the market approach valuation technique.
Equity securities - These securities are generally priced by pricing services or index providers. Depending on the type of underlying equity security or equity fund, the securities are generally priced by pricing services or index providers based on quoted market prices in active markets or through a discounted cash flow model that incorporates benchmark curves for treasury, swap and credit for like or similar securities. The Company generally classifies the fair values of its preferred equity securities in Level 1 or 2.
Other investments - Other investments are comprised of alternative funds and specialty funds and are generally priced on net asset values (“NAV”) received from the fund managers or administrators. Due to the timing of the delivery of the final NAV by certain of the fund managers, valuations of certain alternative funds and specialty funds are estimated based on the most recently available information, including period end NAVs, period end estimates, or, in some cases, prior month or prior quarter NAVs. As this valuation technique incorporates both observable and significant unobservable inputs, the Company generally classifies the fair value of its other investments in Level 3.
Debt - Outstanding debt consists of the Company’s 6.15% Senior Notes due October 15, 2015 and the 7.0% Senior Notes due July 15, 2034 (the “Senior Notes”). The fair values of these securities were obtained from a third party pricing service and pricing was based on the spread above the risk-free yield curve. These spreads are generally obtained from the new issue market, secondary trading and broker-dealer quotes. As these spreads and the yields for the risk-free yield curve are observable market inputs, the fair values of the Senior Notes are classified in Level 2.
Other assets and other liabilities measured at fair value include assets of $14.0 million (2012 - $0.9 million) and liabilities of $19.6 million (2012 - $1.9 million) related to proprietary, non-exchange traded derivative-based risk management products used in the Company’s weather risk management business, and hedging and trading activities related to these risks. In instances where market prices are not available, the Company may use industry or internally developed valuation techniques such as historical analysis and simulation modeling to determine fair value and are considered Level 3.
Below is a summary of quantitative information regarding the significant observable and unobservable inputs used in determining the fair value of assets and liabilities classified in Level 3 which are measured at fair value on a recurring basis:
Activity in the reserve for losses and loss expenses for the years ended December 31, 2013, 2012 and 2011 is summarized as follows:
The effects of reinsurance on premiums earned and written during the years ended December 31, 2013, 2012 and 2011 are as follows:
The Company purchases reinsurance to reduce its exposure to risk of loss in certain insurance and reinsurance lines of business. Reinsurance recoverables are recorded as assets if the reinsurer is deemed able to meet its obligations. Ceded reinsurance contracts do not relieve the Company from its obligations to policyholders. The Company remains primarily liable to its policyholders for the portion reinsured to the extent that any reinsurer does not meet the obligations assumed under the reinsurance agreements.
On April 19, 2012, the Company and certain designated subsidiaries of the Company entered into a $700.0 million four-year revolving credit facility with JPMorgan Chase Bank, N.A. (“JPMorgan”) as administrative agent (“Credit Facility”). Upon entering into the Credit Facility, the Company terminated its existing $1,175.0 million amended and restated credit agreement dated May 8, 2007 with JPMorgan as administrative agent. As of December 31, 2013, there were no borrowings under the Credit Facility and letters of credit outstanding under the Credit Facility were $260.3 million (2012 - $320.4 million).
For letters of credit issued on a collateralized basis under the Tranche 1 Facility, the Company is required to pay a fee of 0.45% on the daily stated amount of such letters of credit. For letters of credit issued on an uncollateralized basis under the Tranche 2 Facility, the Company is required to pay a fee ranging from 1.125% to 1.750% over LIBOR on the daily stated amount of such letters of credit based upon the Company’s debt ratings as issued by Moody’s or Standard & Poor’s. The interest rate for revolving loans under the Tranche 2 Facility is (a) the highest of (i) 0.5% in excess of the federal funds effective rate, (ii) the prime rate as announced by JP Morgan and (iii) the Eurodollar rate applicable for an interest period of one month plus 1%, plus a margin ranging from 0.125% to 0.750% depending upon the type of loan and the Company’s ratings as issued by Moody’s and Standard & Poor’s or (b) LIBOR plus a margin ranging from 1.125% to 1.750%. In addition, the Credit Facility required the Company to pay to the lenders a commitment fee.
The indentures governing each of the Senior Notes contain customary covenants and events of default for senior unsecured indebtedness, including events of default for non-payment of principal or interest, breaches of covenants, insolvency of the Company or a default by the Company under other outstanding indebtedness. The Company was in compliance with all covenants contained within the indentures governing the Senior Notes as of December 31, 2013.
The Company made aggregate interest payments of $35.7 million during the year ended December 31, 2013 (2012 - $35.7 million, 2011 - $35.8 million).
To-Be-Announced Mortgage-backed Securities (“TBAs”) - to enhance investment performance and as part of overall investment strategy. TBAs represent commitments to purchase or sell a future issuance of agency mortgage-backed securities. For the period between the purchase of a TBA and issuance of the underlying securities, the Company’s position is accounted for as a derivative.
The fair values and the related notional values of derivatives at December 31, 2013 and 2012 are noted below.
The gains and losses on the Consolidated Statements of Income (Loss) and Comprehensive Income (Loss) for derivatives for the years ended December 31, 2013 and 2012 were as follows:
The determination of the Company’s business segments is based on how the Company monitors the performance of its underwriting operations. The Company has two reportable business segments, Insurance and Reinsurance.
The following table provides gross premiums written by line of business for the years ended December 31, 2013, 2012 and 2011:
On January 21, 2011, ARMtech Insurance Services, Inc., a wholly-owned subsidiary of Endurance Holdings, acquired all outstanding stock of American Omni Crop LLC (“AOC”). AOC is a managing general agency located in Florida. In connection with the acquisition of AOC, the Company recorded a total of $2.7 million of goodwill and $7.6 million of intangible assets. The intangible assets acquired consisted of a non-compete agreement and customer relationships with expected lives of four and fifteen years, respectively.
No impairment of the Company’s goodwill or intangible assets was noted following the annual impairment review for the years ended December 31, 2013 and 2012. No changes were made in the methodologies and assumptions used in the Company’s application of its impairment testing. The Company expects the amortization of the intangible assets with finite lives to approximate $6.5 million in 2014, $6.3 million in each of 2015 to 2017, $6.2 million in 2018 and $25.3 million in all years thereafter.
Concentrations of credit risk. The areas where significant concentrations of credit risk may exist include reinsurance recoverables, investments and cash and cash equivalents. The Company’s reinsurance recoverables on paid and unpaid losses at December 31, 2013 and 2012 amounted to $758.0 million and $774.9 million, respectively, and resulted from reinsurance arrangements entered into in the normal course of operations. A credit exposure exists with respect to reinsurance recoverables as they may become uncollectible. The Company manages its credit risk in its reinsurance relationships by transacting with reinsurers that it considers financially sound and, if necessary, the Company may hold collateral in the form of cash, trust accounts and/or irrevocable letters of credit. This collateral can be drawn on for amounts that remain unpaid beyond specified time periods on an individual reinsurer basis. As of December 31, 2013, $391.7 million of reinsurance recoverable on paid and unpaid losses (2012 - $341.5 million) was due from reinsurers rated A- or better by A.M. Best or Standard & Poor’s. An additional $356.0 million (2012 - $423.8 million) of reinsurance recoverable on paid and unpaid losses was due from a U.S. government sponsored reinsurance program as of December 31, 2013. At December 31, 2013 and 2012, the Company held collateral of $14.2 million and $11.5 million, respectively, related to its ceded reinsurance agreements.
Major production sources. The following table shows the percentage of net premiums written generated through the Company’s largest brokers for the years ended December 31, 2013, 2012 and 2011:
Total lease expense under operating leases for the year ended December 31, 2013 was $14.7 million (2012 - $15.2 million; 2011 - $12.2 million).
The Company’s share capital at December 31, 2013 and 2012 is comprised as follows:
Upon any voluntary or involuntary liquidation, dissolution or winding-up of Endurance Holdings, holders of the Series A Preferred Shares, Series B Preferred Shares and any parity shares are entitled to receive out of Endurance Holdings’ assets available for distribution to shareholders, before any distribution is made to holders of Endurance Holdings’ common equity securities, a liquidating distribution in the amount of $25.00 per Series A Preferred Share and Series B Preferred Share, plus any declared and unpaid dividends, without accumulation of any undeclared dividends. Distributions will be made pro rata as to the Series A Preferred Shares, Series B Preferred Shares and any parity shares and only to the extent of Endurance Holdings’ assets, if any, that are available after satisfaction of all liabilities to creditors.
The following table presents the significant items reclassified out of accumulated other comprehensive income during the year ended December 31, 2013:
(1) Represents earnings and dividends attributable to holders of unvested restricted shares issued under the Company’s stock compensation plans that are considered participating. In periods of loss, no losses are allocated to participating common shareholders (unvested restricted shares).
Since 2002, subsidiaries of BlackRock Inc. (“BlackRock”) have provided the Company and its subsidiaries with various investment management, investment accounting and risk analysis services. The Company incurred expenses totaling $2.9 million (2012 - $3.1 million; 2011 - $3.2 million) of which $0.9 million was accrued in relation to services rendered by Blackrock at December 31, 2013 (2012 - $1.5 million). At December 31, 2013, the Company owned BlackRock common shares with a fair value of $1.4 million (2012 - $0.8 million). As of January 31, 2013, BlackRock was no longer considered a related party as a result of reducing its ownership below 5% of the Company’s ordinary shares outstanding.
Pyramis Global Advisors, a subsidiary of FMR, LLC (“Fidelity”), provides investment management services to the Company. Fidelity and its affiliates owned 4.1 million or 9.2% of Endurance Holdings’ ordinary shares outstanding at December 31, 2013 and were therefore considered a related party. The Company incurred investment management fees totaling $1.4 million (2012 - $1.4 million; 2011 - $1.5 million) to this investment manager of which $0.4 million was accrued at December 31, 2013 (2012 - $0.3 million).
Richard C. Perry, a former Director of the Company, is President of Perry Corp. Investment funds managed by Perry Corp. collectively owned 7,143,056 ordinary shares and options to purchase an additional 10,000 ordinary shares or approximately 15% of the Company’s common shares outstanding at December 31, 2010. As a non-employee director of the Company, Mr. Perry received from the Company the customary non-employee director compensation, consisting of $77,500 per annum and $70,000 in restricted shares per annum in 2010. The investment funds managed by Perry Corp. sold all of their ordinary shares and options to the Company on January 28, 2011.
On May 28, 2013, the Board of Directors elected John R. Charman as the Company’s Chairman and Chief Executive Officer. Mr. Charman received an option to purchase 800,000 ordinary shares at an exercise price of $48.20 per share, and a grant of 708,890 restricted shares, as an employment inducement pursuant to Rule 303A.08 of the New York Stock Exchange Corporate Governance Standards and were made outside of the 2007 Plan.
A summary of option activity, including options held by employees and non-employee directors, during the year ended December 31, 2013 is presented below:
For the year ended December 31, 2013, 2012 and 2011, compensation costs recognized in earnings (losses) for all options totaled $4.5 million (2012 and 2011 - nil).
(1) Bermuda statutory capital includes an investment in affiliate asset, which represents its interest in the remaining insurance and reinsurance operations of the Company included in the United States and Other columns above.
Endurance Bermuda’s ability to pay dividends and make capital distributions is subject to certain regulatory restrictions based on the Enhanced Capital Requirement, limits on the amount of Endurance Bermuda’s premiums written and net reserves for losses and loss expenses and a minimum general capital and surplus requirement of $100.0 million. At December 31, 2013, Endurance Bermuda can pay dividends of $654.5 million (2012 - $623.1 million) to Endurance Holdings without prior approval under Bermuda law.
Net income tax refunds received in 2013 totaled $8.4 million. The Company paid net income taxes and received net refunds totaling $1.6 million and $15.7 million for the years ended December 31, 2012 and 2011, respectively. Net operating loss carryforwards in the amount of $80.3 million, $10.6 million, $5.3 million and $9.9 million are available for application against future taxable income in the United States, United Kingdom, Singapore and Switzerland, respectively. These net operating loss carry forwards have no expiration date in the United Kingdom and Singapore. In Switzerland and the United States, the net operating loss carry forwards expire through 2020 and 2033, respectively.
The following is a summary of the unaudited quarterly data for the year ended December 31, 2013: