The following table sets forth our selected historical consolidated financial information for the periods ended and as of the dates indicated. AXIS Specialty was incorporated on November 8, 2001 and commenced operations on November 20, 2001. AXIS Capital was incorporated on December 9, 2002. On December 31, 2002, AXIS Specialty and its subsidiaries became wholly owned subsidiaries of AXIS Capital pursuant to the Exchange Offer. In the Exchange Offer, the shareholders of AXIS Specialty exchanged their shares for identical shareholdings in AXIS Capital. Following the Exchange Offer, AXIS Specialty distributed all of its wholly-owned subsidiaries to AXIS Capital. The Exchange Offer represents a business combination of companies under common control and has been accounted for at historical cost. As a result, the consolidated financial information presented gives effect to the exchange of equity interests as though it occurred as of the inception date of AXIS Specialty on November 8, 2001.
(1)The financial information for this period reflects our results from November 8, 2001, the date of
(6)Book value per share is based on total shareholders' equity divided by common shares outstanding of 152,764,917 as of December 31, 2004, 152,474,011 as of December 31, 2003, 138,168,520 as of December 31, 2002 and 135,122,688 as of December 31, 2001.
We underwrite insurance and reinsurance on a global basis. Our business currently consists of four segments: global insurance, global reinsurance, U.S. insurance and U.S. reinsurance. Following a strategic reorganization of our operations, with effect from January 1, 2005 we will revise our segmental disclosures to better reflect our internal management reporting structure. We will classify our operations into two underwriting segments, insurance and reinsurance, and a corporate segment. Our insurance operations will be further sub-divided into two sub segments, U.S. insurance and global insurance. We believe that our revised segments represent operations that have homogenous features in terms of products, markets, distribution channels, client types, underlying risk patterns and approach to risk management.
Renewal dates for our business segments depend upon the underlying line of business. For the majority of business in our global insurance and U.S. insurance segments, gross premiums are written throughout the year. An exception to this is the business written in our aviation and aviation war accounts, which is predominantly written in the last quarter of the calendar year. For our global reinsurance segment, a significant portion of our gross premiums is written in the first quarter of the calendar year, with the remainder primarily split between the second and third quarters. For the majority of business written in our U.S. reinsurance segment, gross premiums are written primarily in the first and third quarters of the calendar year.
General and administrative expenses consist primarily of personnel and general operating expenses. With effect from January 1, 2004, we included the personnel expenses of our underwriters in general and administrative expenses; prior to that date, they were included in acquisition costs. Disclosures relating to prior periods have been restated to reflect this change. In addition, with effect from January 1, 2004, we allocated all of our general and administrative costs, except for corporate expenses, to our underwriting segments. Our corporate costs include holding company costs necessary
Interest expense consists of interest due on outstanding debt, the amortization of debt offering expenses and offering discounts and fees paid in respect of our credit facility. Prior to December 31, 2004, fees paid in respect of our credit facility were included in general and administrative expenses. Consequently disclosures relating to prior periods have been restated to reflect this change.
This discussion and analysis should be read in conjunction with the audited Consolidated Financial Statements and Notes presented under Item 8 included in this report.
On October 2, 2002, we completed the purchase of the Connecticut Specialty Insurance Company for $17.4 million and subsequently renamed it AXIS Specialty Insurance Company. AXIS Insurance is licensed in Connecticut and eligible to write surplus lines insurance in 37 states and the District of Columbia. On November 27, 2002, we completed the purchase of Royal & SunAlliance Personal Insurance Company, which is licensed in all 50 states of the United States, the District of Columbia and Puerto Rico and was subsequently renamed AXIS Reinsurance Company. We paid a purchase price of $23.1 million. At the dates that AXIS Insurance and AXIS Reinsurance were acquired, the pre-acquisition liabilities had been assumed by the sellers or their affiliates. The respective sellers further agreed to indemnify the acquired companies and our U.S. holding company from and against any and all such liabilities. Some of the underlying liabilities have been reinsured with third parties. Other liabilities are being collateralized by a pledge of securities. In the event that the reinsurance and collateralization are insufficient to pay all covered insurance claims, and the sellers do not fulfill their obligations under the indemnity, we would have liability for such claims.
On February 28, 2003, we completed the acquisition of Sheffield Insurance Corporation for $34.7 million and subsequently renamed it AXIS Surplus Insurance Company. At the time of purchase, Sheffield Insurance Corporation was licensed to write insurance in Illinois and Alabama and eligible to write surplus lines insurance in 39 states and the District of Columbia. In addition, we added a team of insurance professionals from Combined Specialty Group, Inc. In the first half of 2003, we acquired the renewal rights to a book of directors' and officers' liability insurance and related lines business written by the Financial Insurance Solutions ("FIS") group of Kemper in exchange for an agreement to make an override payment. The override payment is based on a percentage of gross written premiums of all FIS accounts that are renewed by the Company. We purchased this company and agreed to acquire these rights as the foundation for commencing our U.S. insurance operations.
Reserve for losses and loss expenses. For most insurance and reinsurance companies, the most significant judgment made by management is the estimation of the reserve for losses and loss expenses, which we also refer to as loss reserves. Our loss reserves are estimated every quarter by Ernst & Young, who acts as our independent reserving actuary, and are based on generally accepted actuarial principles. These reserves are then discussed with and reviewed by management prior to management establishing the ultimate loss reserves. The reserve for unpaid reported losses and loss expenses is established based upon our estimate of the total cost of claims that were reported to us but not yet paid or, case reserves, the costs of additional case reserves on claims reported to us but not considered to be adequately reserved, or ACR, and the anticipated cost of claims incurred but not reported or, IBNR.
the estimated expense of settling claims, including legal and other fees and the general expenses of administering the claims adjustment process. With respect to our reinsurance operations, case reserves for reported claims are generally established based on reports received from ceding companies. We may establish ACR's to reflect the estimated ultimate cost of a loss.
independent actuaries have performed, in conjunction with management, an analysis of additional factors to be considered when establishing our IBNR. These uncertainties may vary over time, but generally contemplate matters such as the timing and emergence of claims or short term market trends that might alter our otherwise consistent, baseline approach. A combination of the baseline estimate of IBNR and the reserves for the additional uncertainties constitutes managements and the actuaries' best estimate of IBNR.
The following table provides a breakdown of reserves for losses and loss expenses by segment by type of exposure as of December 31, 2004, 2003 and 2002.
As of December 31, 2004, the reserve for IBNR accounted for $1,818.7 million, or 76%, of our total loss reserves. The reserve for IBNR losses accounted for $813.0 million, or 82%, of our total loss reserves at December 31, 2003 and $155.0 million, or 72%, of our total loss reserves at December 31, 2002.
We also write business on a line slip basis, under which we assume a fixed percentage of the premiums and losses on a particular risk or group of risks along with numerous other unrelated insurers. Statement of Financial Accounting Standard No. 60 "Accounting and Reporting By Insurance Enterprises" requires that if the ultimate premium is reasonably estimable, the estimated ultimate premium should be recognized as revenue over the period of the contract. Although a premium estimate is not contractually stated for business written on a line slip basis, we believe that the premium is reasonably estimable because we receive an initial estimate of the expected premium written from the client via the broker. This estimate has been derived by reference to one or more of the following: the historical premium volume experienced by the line slip; historical premium volume of similar line slips; and industry information on the underlying business. We may, if we believe appropriate, adjust the initial estimates provided by the broker to reflect management's best judgments and expectations. This is most likely where the underwriter believes that the estimate is not prudent. Under these circumstances, we will generally recognize as revenue a lower than advised premium written estimate. We actively monitor the development of actual reported premium to the estimates made; where actual reported premium deviates from the estimate, we carry out an analysis to determine the cause and may, if necessary, adjust the estimated premium in the period in which the determination was made. During the years ended December 31, 2004, 2003 and 2002, line slip premiums accounted for 5%, 7% and 6%, respectively, of total gross premiums written.
Derivative Contracts. We underwrite certain contracts that have been determined to meet the definition of a derivative under FAS 133, and are therefore recorded at their fair value. We generally determine fair value using a cash flow model developed by us that is dependent upon several factors, including estimated future default rates, credit spreads, changes in credit quality and future recovery rates. Installment premiums are also considered in the determination of discounted net cash flows. The change resulting from a movement in the fair value of such contracts is included in the statement of operations and comprehensive income in other insurance related income. Given the underlying nature of these contracts, there will be volatility in their fair value.
Premiums. In the year ended December 31, 2004, gross premiums written were $3.0 billion compared with $2.3 billion for the year ended December 31, 2003, an increase of $0.7 billion. Of this increase, 41.0% was generated by our global reinsurance segment, 26.9% by our U.S. insurance segment, 16.6% by our U.S. reinsurance segment and 15.5% by our global insurance segment. The increase in gross premiums written in our global reinsurance segment was primarily driven by our expansion into continental Europe in November 2003. The increases in gross premiums written in our U.S. segments were primarily due to greater market penetration and our ability to participate fully in the first quarter's renewal season. The increase in gross premiums written in our global insurance segment was primarily driven by greater market penetration and new lines of business. We expect the mix of business within and between our segments to change over time based on market conditions and our view of the long term profit potential of individual lines of business.
Net Investment Income and Net Realized Gains. Net investment income, including realized gains, for the year ended December 31, 2004 was $165.7 million compared with $96.5 million for the year ended December 31, 2003, an increase of $69.2 million.
Net Investment Income. Net investment income for the year ended December 31, 2004 was $152.1 million compared with $74.0 million for the year ended December 31, 2003, an increase of
Net Losses and Loss Expenses. Net losses and loss expenses for the year ended December 31, 2004 were $1,246.2 million compared to $734.0 million for the year ended December 31, 2003, an increase of $512.2 million. The net loss and loss expense ratio for the year ended December 31, 2004 was 61.4% compared to 51.1% for the year ended December 31, 2003. The increase in net losses and loss expenses and the net loss and loss expense ratio was primarily driven by an active hurricane season. We incurred net losses and loss expenses of $266.3 million from Hurricanes Charley, Frances, Ivan and Jeanne, which swept across the Caribbean and South Eastern United States in August and September 2004. Our estimates for the losses incurred from these hurricanes were derived from formal loss advices, the output of industry models, a review of in-force contracts and preliminary indications from clients. Consequently, actual losses from these hurricanes may vary materially from estimated losses. As at December 31, 2004, the Company had $61.1 million included within our net IBNR specifically for the Hurricane losses. During the year ended December 31, 2003, we did not experience
a major loss as a result of hurricane activity. The impact of the hurricane-related losses was partially mitigated by favorable prior period development of $181.7 million, or 9.0 percentage points, compared to $55.8 million, or 3.9 percentage points, for the year ended December 31, 2003.
Acquisition Costs. Acquisition costs for the year ended December 31, 2004 were $280.6 million compared to $186.3 million for the year ended December 31, 2003, an increase of $94.3 million. This increase was primarily a result of the increase in the volume of gross premiums earned. The acquisition cost ratio for the year ended December 31, 2004 was 13.8% compared to 13.0% for the year ended December 31, 2003. This increase resulted primarily from an increase in the acquisition cost ratio from our global insurance segment. With effect from January 1, 2004, we included the personnel expenses of our underwriters in general and administrative expenses; prior to that date, they were included in acquisition costs. Our disclosures for prior periods have been restated to reflect this change.
Interest Expense. Interest expense for the year ended December 31, 2004 was $5.3 million compared to $1.5 million for the year ended December 31, 2003. Interest expense consists of interest due on outstanding debt, the amortization of debt offering expenses and offering discounts and fees relating to our credit facility. The increase of $3.8 million was due to the issuance of senior unsecured debt in November 2004, which bears interest at a rate of 5.75% per annum.
Income Tax Expense. The income tax expense for the year ended December 31, 2004 was $5.4 million compared to an income tax recovery $0.7 million for the year ended December 31, 2003, an increase of $6.1 million. This was due to an increase in the level of taxable income generated by our European subsidiaries.
Net Investment Income. Net investment income for the year ended December 31, 2003 was $74.0 million compared with $71.3 million for the year ended December 31, 2002, an increase of $2.7 million. This was primarily due to higher investment balances partially offset by lower interest rates and an increase in the amortization expense on our mortgage-backed securities portfolio. Net investment income consisted primarily of interest on fixed income securities that was partially offset by investment fees of $5.8 million for the year ended December 31, 2003 compared with $3.7 million for the year ended December 31, 2002. The higher fees were a result of an increase in our assets managed by third party portfolio managers.
The annualized effective yield (calculated by dividing the net investment income generated from invested assets by the average balance of the assets managed by our portfolio managers) for the year ended December 31, 2003 was 2.6% compared with 4.0% for the year ended December 31, 2002. The reduction in the effective yield was primarily due to lower U.S. interest rates and a larger allocation to shorter duration investments during part of the year.
Net Realized Gains. Net realized gains for the year ended December 31, 2003 were $22.6 million compared with $26.1 million for the year ended December 31, 2002, a decrease of $3.5 million. We invest our portfolios to produce a total return. In assessing returns under this approach, we include investment income, realized gains and losses and unrealized gains and losses generated by the investment portfolios. As a result, there can be significant changes in the levels of our net realized gains (losses) from year to year.
With effect from July 1, 2002, we adopted FAS No. 149 "Amendment of Statement 133 on Derivative Instruments and Hedging Activities". As a result, some of our mortgage-backed securities are required to be classified as derivatives and the unrealized gains (losses) associated with these securities that were previously recorded in accumulated other comprehensive income are now recorded in net realized gains (losses). At December 31, 2003, there were no mortgage-backed securities classified as derivatives held in the investment portfolio. For the year ended December 31, 2003, included within net realized gains were $5.0 million in realized losses, and no unrealized gains or losses relating to these securities.
The total return for our investment portfolio (calculated using beginning and ending market portfolio values, adjusted for external cash flows) for the year ended December 31, 2003 was 3.5% compared with 7.5% for the year ended December 31, 2002. The total return for an investment portfolio consists of price and income return. Our total return was lower in 2003 due to a combination of lower absolute yields achieved resulting in lower income return and a lower price return achieved due to the volatile interest rate environment in 2003.
Acquisition Costs. Acquisition costs for the year ended December 31, 2003 were $186.3 million compared to $91.2 million for the year ended December 31, 2002, an increase of $95.1 million. This increase was a result of the increase in the volume of net premiums earned. The acquisition cost ratio for the year ended December 31, 2003 was 13.0% compared to 17.0% for the year ended December 31, 2002. This decrease resulted primarily from the effects of a change in business mix; our U.S. insurance segment, which began underwriting in 2003, has a lower acquisition cost ratio than our other segments due to the receipt of ceding commissions on some ceded contracts that are recorded as an offset to acquisition costs.
of $32.2 million compared to a gain of $9.6 million for the year ended December 31, 2002, an increase of $22.6 million. This increase was principally made on asset balances denominated in Euros and Sterling. The Euro and Sterling appreciated by 20.2% and 10.9%, respectively, against the U.S. dollar from January 1, 2003 to December 31, 2003.
Income Tax Recovery. The income tax recovery for the year ended December 31, 2003 was $0.7 million compared to $1.4 million for the year ended December 31, 2002.
Our global insurance segment principally consists of specialty lines business sourced outside of the U.S. but covering exposures throughout the world. In this segment, we offer clients tailored solutions in order to respond to their distinctive risk characteristics. Since most of the lines in this segment are for physical damage and related perils and not for liability coverage, the segment is principally short to medium tail business. This means that claims are generally made and settled earlier than in long tail business.
(1)For the year ended December 31, 2003, we did not allocate any of our general and administrative expenses, except for the personnel expenses of our underwriters; therefore, the general and administrative amounts, expense ratios and combined ratios for the two periods are not comparable. Premiums. In the year ended December 31, 2004, gross premiums written were $1,095.3 million compared to $980.7 million for the year ended December 31, 2003, an increase of $114.6 million. The table below shows gross premiums written by line of business:
During the year ended December 31, 2004, gross premiums written increased by 11.7% compared to the year ended December 31, 2003. The increase in gross premiums written was primarily driven by our specialty risks book of business, which generated an increase of $115.4 million in gross premiums written. This increase was generated by three lines of business: aviation war, directors' and officers' liability insurance and political risk. Our aviation war gross premiums written increased $48.4 million due to increased participations on renewed business and new business. Our directors' and officers' liability gross premiums written increased by $48.3 million, reflecting our entry into this line of business
Property gross premiums written increased by $25.4 million, due primarily to the restructuring of existing participations on renewed business and some new business, which offset the effects of rate reductions. Our marine book experienced an increase in gross premiums written of $6.4 million due to the recruitment of a cargo specie underwriting team that began to underwrite premiums in the second quarter of 2004. This increase was offset by a reduction in our marine liability business due primarily to our decision not to renew some contracts. Our energy book experienced a decrease in gross premiums written of $29.8 million or 13.6%. This was the result of a combination of shifting renewal dates, rate reductions and our decision not to renew some business. Gross premiums written on our aviation book remained constant despite our decision not to renew some major accounts; although rates declined in this book of business, gross premiums written remained at a consistent level due to an increase in the level of insured exposures.
Premiums ceded for the year ended December 31, 2004 were $162.1 million compared to $40.8 million for the year ended December 31, 2003, an increase of $121.3 million. The increase was primarily due to an increase in the level of reinsurance purchased in order to mitigate volatility in losses as our portfolio grows. In addition, included in written premiums ceded for the year ended December 31, 2004 was $6.9 million related to reinstatement premiums on coverages exhausted by losses, primarily emanating from Hurricanes Frances and Ivan.
Gross premiums are earned over the period of the insured risk. Consequently, the level of gross premiums earned increased as the level of gross premiums written increased.
Ceded premiums are amortized over the contract term. Consequently, the level of amortized ceded premium increased in 2004 as premiums ceded in 2003 continued to be amortized in 2004. We expect the level of amortized ceded premium to continue to increase in 2005.
Net Losses and Loss Expenses. Net losses and loss expenses were $451.7 million for the year ended December 31, 2004 compared to $388.0 million for the year ended December 31, 2003, an
During the year ended December 31, 2004, we experienced favorable development on our prior accident years of $92.5 million compared to $27.7 million during the year ended December 31, 2003. This reduced the net loss ratio by 11.6 percentage points for the year ended December 31, 2004 and 3.6 percentage points for the year ended December 31, 2003. We primarily use the Bornhuetter-Ferguson method to estimate the ultimate cost of losses; it takes as a starting point an assumed ultimate loss and loss expense ratio and blends in the loss and loss expense ratio implied by the experience to date. If actual claims are less than expected, this generates favorable loss development. During the year ended December 31, 2004, the favorable development was generated primarily on our 2003 accident year and was derived from our energy, property, terrorism and aviation war lines of business. For the year ended December 31, 2003, the favorable development was generated on our 2002 accident year and was derived from our marine, aviation war, energy and property lines of business.
General and Administrative Expenses. General and administrative expenses for the year ended December 31, 2004 were $35.1 million compared to $15.9 million for the year ended December 31, 2003, an increase of $19.2 million. The general and administrative expenses ratio for the year ended
During the year ended December 31, 2003, gross premiums written increased in all lines of business. These increases were partially the result of the addition of underwriting staff in the second quarter of 2002, which enabled us to improve our market penetration at key renewal dates in 2003. In addition, the continuing flight to quality led to improved market penetration.
The following table shows the derivation of net premiums earned for the years ended December 31, 2003 and December 31, 2002:
Gross premiums are earned over the period of the insured risk. Consequently, the level of earned premium increased in 2003 as premiums written throughout 2002 continued to be earned in 2003.
Other Insurance Related Income (Loss). Other insurance related income for the year ended December 31, 2003 was $24.5 million compared to a loss of $(0.6) million for the year ended December 31, 2002, an increase of $25.1 million. Other insurance related income (loss) related to the movement in the fair value of our insurance contracts that met the definition of a derivative. These contracts typically insure a portfolio of sovereign debt securities against the risk of default. During the year ended December 31, 2003, other insurance related income resulted from an improvement in some of the insured sovereigns' credit ratings.
The net loss and loss expense ratio for the year ended December 31, 2003 was 50.8% compared to 43.8% for the year ended December 31, 2002. During the year ended December 31, 2003, we experienced positive development on our 2002 underwriting year of $27.7 million, which effected a reduction in the net loss ratio of 3.6 percentage points. This reduction was primarily generated by our marine, aviation war, energy and property lines of business. We use the Bornhuetter-Ferguson method to estimate the ultimate cost of losses; it takes as a starting point an assumed ultimate loss and loss expense ratio and blends in the loss and loss expense ratio implied by the experience to date. During the year ended December 31, 2003, the lack of reported claims on our marine, aviation war, energy and property lines of business produced a favorable impact on our experience to date, which caused a reduction in the ultimate losses for these lines of business. A comparison of the net loss ratios for the year ended December 31, 2003 and December 31, 2002 is distorted by the significant change in the mix of business written within our global insurance segment. In addition, our loss experience benefited from the lack of major catastrophes during the years ended December 31, 2003 and December 31, 2002.
Acquisition Costs. Acquisition costs for the year ended December 31, 2003 were $99.5 million compared to $50.7 million for the year ended December 31, 2002, an increase of $48.8 million. The acquisition cost ratio for the year ended December 31, 2003 was 13.0% compared with 16.1% for the year ended December 31, 2002. The reduction in the acquisition cost ratio was due to a change in the mix of the business written within our global insurance book.
Our global reinsurance segment consists of treaty reinsurance business sourced outside of the U.S. and underwritten in our Bermuda and Zurich offices. Our Bermuda office primarily sources business from clients based outside continental Europe whereas our Zurich office sources business from clients based in continental Europe. Our Bermuda based portfolio consists of short tail severity driven products that principally cover property exposures. Our Zurich-based portfolio consists not only of short tail property exposures but also more medium tail exposures such as motor excess of loss and trade credit lines of business. As the majority of this segment's business is short tail in nature, it
typically allows us to determine the ultimate loss experience within a relatively short period of time after a contract has expired.
The following table summarizes the underwriting results and ratios for the years ended December 31, 2004 and December 31, 2003:
(1)For the year ended December 31, 2003, we did not allocate any of our general and administrative expenses, except for the personnel expenses of our underwriters; therefore, the general and administrative amounts, expense ratios and combined ratios for the two periods are not comparable. Premiums. In the year ended December 31, 2004, gross premiums written were $766.0 million compared to $462.9 million for the year ended December 31, 2003, an increase of $303.1 million. The table below shows gross premiums written by line of business:
The following table shows the derivation of net premiums earned for the year ended December 31, 2004 and December 31, 2003:
Other Insurance Related Income. Other insurance related income was $1.0 million for the year ended December 31, 2004 compared to $0.6 million for the year ended December 31, 2003, an increase of $0.4 million. The income related to the movement in the fair value of a reinsurance contract that met the definition of a derivative.
Net Losses and Loss Expenses. Net losses and loss expenses were $350.3 million for the year ended December 31, 2004 compared to $174.4 million for the year ended December 31, 2003, an increase of $175.9 million. The following table shows the components of net losses and loss expenses incurred:
During the year ended December 31, 2004, we experienced favorable development on our prior accident years of $73.1 million compared to $28.1 million during the year ended December 31, 2003. This reduced the net loss ratio by 11.4 percentage points for the year ended December 31, 2004, and 6.7 percentage points for the year ended December 31, 2003. We primarily use the Bornhuetter-Ferguson method to estimate the ultimate cost of losses; it takes as a starting point an assumed ultimate loss and loss expense ratio and blends in the loss and loss expense ratio implied by the experience to date. If actual claims are less than expected, this generates favorable loss development. During the year ended December 31, 2004, the favorable development was generated primarily on our 2003 accident year and was derived primarily from our property catastrophe line of business. For the year ended December 31, 2003, the favorable development was generated on our 2002 accident year and was derived primarily from our property catastrophe line of business.
Acquisition Costs. Acquisition costs for the year ended December 31, 2004 were $94.2 million compared to $65.8 million for the year ended December 31, 2003, an increase of $28.4 million. The acquisition cost ratio for the year ended December 31, 2004 was 14.7% compared with 15.7% for the year ended December 31, 2003. This decrease was primarily due to a reduction in the level of commissions incurred.
During the year ended December 31, 2003, the increase in gross premiums written was primarily a result of better penetration of our existing client base and the addition of new customer relationships. We diversified our catastrophe book of business by substantially increasing our underwriting of other catastrophe related products, such as excess workers' compensation, life and health covers. In addition, we diversified our property mix of business by taking selected positions on property per risk treaties.
(1)For the year ended December 31, 2003, we did not allocate any of our general and administrative expenses, except for the personnel expenses of our underwriters; therefore, the general and administrative amounts, expense ratios and combined ratios for the two periods are not comparable.
During the year ended December 31, 2004, gross premiums written increased by 31.7% compared to the year ended December 31, 2003. This increase was primarily driven in our property and liability books of business following an increase in the level of underwriting staff and increased marketing efforts.
Our liability book generated gross premiums written of $238.7 million during the year ended December 31, 2004, an increase of 51.3% over the year ended December 31, 2003. This was primarily driven by an increase in our maximum line size for our umbrella and excess coverages, which enabled our underwriters to access more business, and increased market penetration.
Our professional lines book generated gross premiums written of $272.2 million during the year ended December 31, 2004, an increase of 12.2% over the year ended December 31, 2003. This was primarily driven by the fact that we did not acquire the renewal rights of a book of directors' and officers' liability insurance and related lines of business written by the FIS group of Kemper until February 17, 2003. Included within the gross premiums written for the year ended December 31, 2003 was $65.2 million relating to the cancel/rewrite process that followed the acquisition of the renewal rights. Gross premiums written for the year ended December 31, 2004 included $22.5 million of gross premiums written on a new line of business: errors and omissions insurance for professional institutions. These premiums partially offset the effect of a reduction in rates for our directors and officers' liability insurance, which caused us to decline to renew some contracts where rates did not meet our targeted levels.
The net loss and loss expense ratio for the year ended December 31, 2004 was 67.2% compared to 64.5% for the year ended December 31, 2003. The increase in losses paid and change in reported case reserves was primarily driven by losses from Hurricanes Charley, Frances, Ivan and Jeanne from which we incurred net losses and loss expenses of $46.8 million or 13.4 percentage points. Our hurricane losses benefited from reinsurance recoveries of $187.1 million. The remaining increase in reinsurance recoveries related primarily to recoveries expected on incurred but not reported loss reserves. Our estimates for the losses incurred from these hurricanes were derived from formal loss advices, the output of industry models, a review of in-force contracts and preliminary indications from clients. Consequently, actual losses from these hurricanes may vary materially from estimated losses.
During the year ended December 31, 2004, we experienced positive prior period development of $14.3 million or 4.1 percentage points on our 2003 accident year property account. We primarily use the Bornhuetter-Ferguson method to estimate the ultimate cost of losses; it takes as a starting point an assumed loss and loss expense ratio and blends in the loss and loss expense ratio implied by our experience to date. During the year ended December 31, 2004, actual claims were less than expected for our 2003 accident year property account resulting in favorable loss development.
General and Administrative Expenses. General and administrative expenses for the year ended December 31, 2004 were $71.5 million compared to $18.5 million for the year ended December 31, 2003, an increase of $53.0 million. The general and administrative expenses ratio for the year ended December 31, 2004 was 20.5% compared with 11.0% for the year ended December 31, 2003. As we did not allocate any of our general and administrative expenses, except for the personnel expenses of our underwriters, prior to January 1, 2004, these amounts and ratios are not comparable.
Our U.S. reinsurance segment principally consists of reinsurance business sourced in the U.S. and focuses almost exclusively on exposures in the U.S. The underlying property and casualty business classes covered by the treaties we write in our U.S. reinsurance segment include professional lines, liability, property, marine and aviation.
The following table summarizes the underwriting results and ratios for the year ended December 31, 2004 and December 31, 2003:
Premiums. In the year ended December 31, 2004, gross premiums written were $326.7 million compared to $204.1 million for the year ended December 31, 2003, an increase of $122.6 million. The table below shows gross premiums written by line of business:
During the year ended December 31, 2004, our gross premiums written increased by 60.1% over the year ended December 31, 2003. This increase was primarily generated by our professional lines book, which generated gross premiums written of $202.4 million during the year ended December 31, 2004, an increase of 53.1% over the year ended December 31, 2003. Our liability book generated gross premiums written of $74.6 million during the year ended December 31, 2004, an increase of 62.1% over the year ended December 31, 2003. These increases were primarily generated by our ability to quote and write contracts that came up for renewal on January 1, 2004. In 2003, we were unable to take part in the January 1, 2003 renewal season because we did not receive regulatory approvals until mid-December 2002. In addition, we increased the statutory capital of AXIS Reinsurance at the end of the first quarter of 2003 to in excess of $500.0 million, which enabled us to participate on more business. We wrote $43.5 million of gross premiums relating to property reinsurance during the year ended December 31, 2004, an increase of 122.7% over the year ended December 31, 2003. This was driven by the recruitment of a property underwriter in the second half of 2003.
Premiums ceded for the year ended December 31, 2004 were $4.2 million compared to $3.3 million for the year ended December 31, 2003, an increase of $0.9 million.
Gross premiums are earned over the period of the insured risk. Consequently, the level of earned premiums increased as premiums written throughout 2003 continued to be earned in 2004. In addition, a large portion of premiums written in 2003 were on a risk-attaching basis, for which the earning period is twice the underlying contract period. Consequently, a significant proportion of the gross premiums was earned on these contracts in 2004.
increase of $146.3 million. The following table shows the components of net losses and loss expenses incurred:
The net loss and loss expense ratio for the year ended December 31, 2004 was 86.7% compared to 73.1% for the year ended December 31, 2003. The increase in losses paid and change in reported case reserves resulted from losses incurred on Hurricanes Charley, Frances, Ivan and Jeanne from which we incurred net losses and loss expenses of $33.5 million, or 13.8 percentage points. These losses were derived from our property books of business. Our estimates for the losses incurred from these hurricanes were derived from formal loss advices, the output of industry models, a review of in-force contracts and preliminary indications from clients. Consequently, actual losses from these hurricanes may vary materially from estimated losses. We experienced positive prior period development of $1.8 million, or 0.7 percentage points, generated on our 2003 accident year property account. We primarily use the Bornhuetter-Ferguson method to estimate the ultimate cost of losses; it takes as a starting point an assumed loss and loss expense ratio and blends in the loss and loss expense ratio implied by our experience to date. During the year ended December 31, 2004, there was a lack of claims in our 2003 accident year property account that caused the reduction in expected losses.
Acquisition Costs. Acquisition costs for the year ended December 31, 2004 were $50.7 million compared to $18.4 million for the year ended December 31, 2003, an increase of $32.3 million. The acquisition cost ratio for the year ended December 31, 2004 was 21.0% compared to 21.3% for the year ended December 31, 2003.
General and Administrative Expenses. General and administrative expenses for the year ended December 31, 2004 were $11.9 million compared to $3.7 million for the year ended December 31, 2003, an increase of $8.2 million. The general and administrative expenses ratio for the year ended December 31, 2004 was 4.9% compared with 4.3% for the year ended December 31, 2003. As we did not allocate any of our general and administrative expenses, except for the personnel expenses of our underwriters, prior to January 1, 2004, these amounts and ratios are not comparable.
We are a holding company and have no substantial operations of our own. Our assets consist primarily of our investments in subsidiaries. At December 31, 2004, we had operating subsidiaries in Bermuda, Ireland and the United States, a branch and representative office in the United Kingdom, a branch in Switzerland and a representative office in Singapore. Accordingly, our future cash flows depend upon the availability of dividends or other statutorily permissible payments from our subsidiaries. The ability to pay dividends is limited by the applicable laws and regulations of Bermuda, Ireland and the United States, which subject our insurance subsidiaries to significant regulatory restrictions. These laws and regulations require, among other things, some of our insurance subsidiaries
Additionally, we are subject to Bermuda regulatory constraints that affect our ability to pay dividends on our common shares and make other payments. Under the Companies Act, AXIS Capital may declare or pay a dividend or make a distribution out of contributed surplus only if it has no reasonable grounds for believing that it is, or would after the payment be, unable to pay its liabilities as they become due or that the realizable value of its assets would thereby be less than the aggregate of our liabilities and issued share capital and share premium accounts. In addition, pursuant to the terms of our credit agreement, we cannot pay cash dividends to our shareholders in excess of $150.0 million in the aggregate during any fiscal year.
At December 31, 2004, the maximum amount of distributions that our subsidiaries could pay to AXIS Capital under applicable laws and regulations without prior regulatory approval was approximately $1.1billion.
At December 31, 2004, we had $914.6 million of insurance and reinsurance premium balances receivable compared to $660.5 million at December 31, 2003. This increase was due to the level of gross premium written during the year ended December 31, 2004. At December 31, 2004, we had prepaid reinsurance of $271.2 million, an increase of $106.2 million since December 31, 2003, following an increase in the level of reinsurance purchased primarily by our global insurance and U.S insurance segments. At December 31, 2004, we had reinsurance recoverable balances and reinsurance recoverable balances on paid losses of $596.3 million, an increase of $471.4 million since December 31, 2003, following loss recoveries of $295.9 million from Hurricanes Charley, Frances, Ivan and Jeanne. Loss recoveries relating to the hurricanes were from reinsurers, of which 98.6% were rated the equivalent of A- or better by internationally recognized rating agencies.
At December 31, 2004, our shareholders' equity was $3.2 billion compared to $2.8 billion at December 31, 2003, an increase of 14.3%. This increase was primarily due to net income of $495.0 million for the year ended December 31, 2004, offset by a $12.2 million decrease in the unrealized appreciation on our investment portfolio during the same period.
paid, reinsurance purchased and underwriting and other expenses paid. Cash flows from operations may differ substantially, however, from net income. The potential for a large claim under one of our insurance or reinsurance contracts means that substantial and unpredictable payments may need to be made within relatively short periods of time.
On March 25, 2004, we renewed our credit facility by entering into a three-year $750 million credit facility with a syndicate of commercial banks led by JPMorgan Chase Bank, as administrative agent and lender. Under the terms of the new credit facility, up to $750 million may be used by AXIS Capital, AXIS Specialty, AXIS Re, AXIS Specialty Europe, AXIS Reinsurance, AXIS Insurance and AXIS Surplus to issue letters of credit and up to $300 million may be used by these entities for general corporate purposes, with total borrowings not to exceed $750 million. The credit facility contains various loan covenants with which we must comply, including limitations on the incurrence of future indebtedness, future liens, fundamental changes, investments and certain transactions with affiliates. The credit facility also requires that we maintain (1) a minimum amount of consolidated shareholders' equity equal to or greater than the sum of $1.975 billion plus (A) 50% of consolidated net income for each fiscal quarter beginning with the fiscal quarter ending March 31, 2005 and (B) 100% of the net cash proceeds received after March 25, 2004 from any issuance of our capital stock and (2) a debt to total capitalization ratio not greater than 0.35:1.00. The credit facility contains restrictions on our ability to make acquisitions, except that we may, among other things, acquire assets and entities in the insurance and reinsurance business for consideration in an aggregate amount not in excess of $250 million. Our ability to pay dividends or make other restricted payments is also limited, except that
we may, among other things, pay cash dividends to our shareholders in an amount not exceeding $150 million for any fiscal year and we may repurchase shares of our capital stock for consideration in an aggregate amount not exceeding $500 million. At December 31, 2004, we had no outstanding indebtedness and letters of credit of $421.7 million outstanding under the credit facility. As at December 31, 2004, we were in compliance with all covenants contained in the credit facility.
We have audited the accompanying consolidated balance sheets of AXIS Capital Holdings Limited and subsidiaries (the "Company") as of December 31, 2004 and 2003, and the related consolidated statements of operations and comprehensive income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2004. 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.
AXIS Capital Holdings Limited ("AXIS Capital") is a holding company organized under the laws of Bermuda. AXIS Capital was incorporated on December 9, 2002. AXIS Specialty Limited ("AXIS Specialty") commenced operations on November 20, 2001. AXIS Specialty and its subsidiaries became wholly owned subsidiaries of AXIS Capital pursuant to an exchange offer consummated on December 31, 2002 (the "Exchange Offer"). In the Exchange Offer, the shareholders of AXIS Specialty exchanged their shares for identical shareholdings in AXIS Capital. Following the Exchange Offer, AXIS Specialty distributed its wholly owned subsidiaries to AXIS Capital. The Exchange Offer represents a business combination of companies under common control and has been accounted for at historical cost. As a result, the consolidated financial information presented gives effect to the exchange of equity interests as though it occurred as of the inception date of AXIS Specialty on November 8, 2001. AXIS Capital through its subsidiaries provides a broad range of insurance and reinsurance products on a worldwide basis.
AXIS Specialty U.S. Holdings Inc., a wholly owned subsidiary of AXIS Capital, was incorporated in Delaware on March 11, 2002. It acts as a holding company for AXIS Capital's United States operations. AXIS Reinsurance Company ("AXIS Reinsurance") is domiciled in New York and is licensed to write insurance and reinsurance in all 50 states in the United States, the District of Columbia and Puerto Rico. AXIS Specialty Insurance Company ("AXIS Insurance") is a Connecticut domiciled insurer, licensed in Connecticut and surplus lines eligible in 37 of the states and the District of Columbia. AXIS Surplus Insurance Company is an Illinois domiciled insurer, licensed in Illinois, Alabama and Georgia and surplus lines eligible in 45 states and the District of Columbia.
The Company accounts for its other investments at fair value based on the most recently available financial information. The Company has no significant influence and does not participate in the management of these investments. Interest, dividend income, income distributions and realized gains and losses are included in net investment income. The net unrealized gain or loss on investments, net of tax, is included as accumulated other comprehensive gain (loss) in shareholders' equity.
condition of the issuer and (vi) an analysis of the collateral structure and credit support of the security, if applicable. Where the Company has determined that there is an other than temporary impairment in the fair value of the security, the cost of the security is written down to the fair value and the unrealized loss at the time of the determination is charged to income.
In the normal course of business, the Company seeks to reduce the loss that may arise from events that could cause unfavorable underwriting results by reinsuring certain levels of risk in various lines of business with other reinsurers. Reinsurance premiums ceded are expensed over the period the reinsurance coverage is provided. Prepaid reinsurance premiums represent the portion of premiums ceded on the unexpired term of the policies in force. Reinstatement premiums ceded are recorded at the time a loss event occurs where coverage limits for the remaining life of a contract are reinstated under pre-defined contract terms and are expensed over the remaining risk period. Amounts recoverable from reinsurers are estimated in a manner consistent with the loss reserve associated with the underlying policy.
Reserves for losses and loss expenses include reserves for unpaid reported losses and loss expenses and for losses incurred but not reported ("IBNR"). The reserves for unpaid reported losses and loss expenses are established by management based on amounts reported from insureds or ceding companies and for additional case reserves established on known events where official notification has not been reported or is not considered adequate. The reserves represent the estimated ultimate costs of events or conditions that have been reported to or specifically identified by the Company.
For the global insurance and U.S. insurance segments, the assumed ultimate loss and loss expense ratios are based on benchmarks derived from the independent actuary's wider market experience together with our limited historical data. These benchmarks are then adjusted for rating increases or decreases and changes in terms and conditions that have been observed in the market and by the Company. For the global reinsurance segment, the assumed ultimate loss and loss expense ratios are based on contract-by-contract initial expected loss ratios derived during pricing together with benchmarks derived from the independent actuary's wider market experience. For the U.S. reinsurance segment, the assumed ultimate loss and loss expense ratios are based on a review carried out by the independent actuaries of the pricing loss ratios on a contract-by-contract basis together with benchmarks derived from the independent actuary's wider market experience.
The Company reports segment results in accordance with FAS No. 131 "Segment Reporting." Under FAS 131, reportable segments represent an aggregation of operating segments that meet certain criteria for aggregation.
In September 2004, the FASB issued Emerging Issues Taskforce ("EITF") Issue 03-1-1, which delayed the effective date of paragraphs 10-20 of EITF Issue No 03-1. Paragraphs 10-20 of EITF Issue No. 03-1 give guidance on how to evaluate and recognize an impairment loss that is other than temporary. Application of these paragraphs is deferred pending issuance of proposed FSP EITF Issue 03-1-a. The proposed FSP states: (1) an investor should assert its ability and intent to hold an investment until a forecasted recovery at an individual security level; (2) minor impairments caused by interest-rate and /or sector-spread increases can be considered temporary and would not create the need for an assertion about the ability and intent to hold an investment until a forecasted recovery; (3) an impairment is considered other than temporary when the investor's assertion to hold an investment until a forecasted recovery changes; and (4) there are circumstances in which a sale of an interest-rate impaired or sector-spread impaired security, for which an investor had asserted its ability and intent to hold until a forecasted recovery, may not necessarily call into question the investor's ability and intent to hold other securities to recovery. Pursuant to the Company's current policy on other-than-temporary impairments, the Company generally does not consider impairments of debt securities to be other-than-temporary when the impairment is caused solely by temporary market changes, such as interest rates and/or sector spreads for debt securities. Once EITF 03-1-a is finalized, the Company will complete an evaluation as to the impact on its policy and process for determining other-than-temporary impairments for investments. Adoption of this standard is not expected to have a material impact on shareholders' equity since fluctuations in fair value of available-for-sale securities are already recorded in accumulated other comprehensive income; however, it could have a material effect on results of operations.
On December 16, 2004, the FASB issued Statement No 123 (revised 2004), Share-Based Payment ("FAS 123R"). FAS 123R replaces FASB Statement No. 123 "Accounting for Stock-Based Compensation" and supersedes APB opinion No.25 "Accounting for Stock Issued to Employees". The statement requires all entities to recognize compensation expense in an amount equal to the fair value of share-based payments granted to employees and is effective as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. The Company already records compensation expense for awards of stock options and restricted stock to employees based on the fair value of the awards, consequently this statement will not have a material impact on the Company's results of operations or financial condition.
included the personnel expenses of its underwriters in general and administrative expenses; prior to that date, they were included in acquisition costs. Disclosures relating to prior periods have been restated to reflect this change. In addition, with effect from January 1, 2004, the Company allocated all of its general and administrative costs, except for its corporate expenses, to its underwriting segments. The Company's corporate costs include holding company costs necessary to support the Company's worldwide insurance and reinsurance operations and costs associated with operating as a publicly-traded company. Prior periods have not been restated to reflect the full allocation of general and administrative costs, as the Company's underwriting segments were not fully operational throughout 2003. Other items of revenue and expenditure are not evaluated at the segment level. In addition, management does not allocate its assets by segment as it considers the underwriting results of each segment separately from the results of its investment portfolio.
The Company's U.S. insurance segment primarily consists of specialty lines business sourced in the U.S. and covers exposures predominantly in the U.S. The U.S. insurance segment includes the following risk classifications: property, liability and professional lines.
On February 28, 2003, the Company completed the acquisition of all of the issued and outstanding shares of capital stock of Sheffield Insurance Corporation, an Illinois domiciled surplus lines company,
The following table shows an analysis of intangible assets for the years ended December 31, 2004, 2003 and 2002:
On February 17, 2003, the Company acquired the renewal rights to the directors and officers insurance and related product lines written by the Financial Insurance Solutions Group ("FIS") of Kemper Insurance Companies in exchange for an agreement to make an override payment. The override payment is based on a percentage of gross written premiums of all FIS accounts that are renewed by the Company. The Company has recorded the fair value of the renewal rights as an intangible asset and will amortize the cost over an estimated useful life of four years. The Company acquired these rights to broaden its U.S. product range within its U.S. insurance segment.
The Company recently expanded its investment strategy to other asset sectors. At December 31, 2004, the Company had $271.3 million of other investments at fair value, representing 4.5% of total cash and investments. These investments consist of the following at December 31, 2004:
The investments in medium term notes represent an interest in several funds of European fixed income securities. The investment in investment fund represent an investment in a hedge fund that allocates its capital among a select group of independent managers. The Company accounts for our other investments at estimated fair market value based on the most recent financial information available from various fund managers, underwriters and third party administrators. The Company has invested in various CLO's with the investments ranging from the equity to the senior debt tranches. The investments have typically been in the form of combination notes. At December 31, 2004, the Company had invested in seven different CLO's with underlying assets totaling $3.7 billion.
The Company participates in a securities lending program whereby the Company's securities, which are included in investments, are loaned to third parties, primarily major brokerage firms for short periods of time through a lending agent. The Company maintains control over the securities it lends, retains the earnings and cash flows associated with the loaned securities and receives a fee from the borrower for the temporary use of the securities. Collateral in the form of cash, government securities and letters of credit is required at a rate of 102% of the market value of the loaned securities and is monitored and maintained by the lending agent. The Company had $848.0 million and $nil million in securities on loan at December 31, 2004 and December 31, 2003, respectively.
The Company purchases reinsurance to reduce the risk of exposure to loss. The Company's global insurance and reinsurance segments purchase reinsurance to reduce exposure to large losses. The Company's U.S. insurance segment purchases significant reinsurance to reduce the volatility in severity-driven classes of business. The segments purchase three types of reinsurance cover: facultative; excess of loss; and quota share. Facultative covers are typically assumed with the original business. Excess of loss covers provide a contractually set amount of cover after an excess point has been reached. This excess point can be based on the size of an industry loss or a fixed monetary amount. Generally these covers are purchased on a package policy basis, as they provide cover for a number of lines of business within one contract. Quota share covers provide a proportional amount of coverage from the first dollar of loss. All of these reinsurance covers provide for recovery of a portion of losses and loss reserves from reinsurers. The Company remains liable to the extent that reinsurers do not meet their obligations under these agreements and, therefore, the Company evaluates the financial condition of its reinsurers and monitors concentrations of credit risk. Provisions are made for amounts considered potentially uncollectible. The allowance for uncollectible reinsurance recoverable was $3,194 as at December 31, 2004 (2003; $794: 2002; $nil). The breakdown of reinsurance by type of cover for the years ended December 31, 2004, 2003 and 2002 is as follows:
From time to time the Company enters into contracts that meet the definition of a derivative contract under FAS 133. The Company has recorded these contracts at fair value with any changes in the value reflected in other insurance related income in the consolidated statement of operations and comprehensive income. Generally, the contracts are modeled on prevailing market conditions and certain other factors relating to the structure of the contracts. When data is not readily available from the market, the Company uses data from independent counterparties. The Company's model takes into account movements on credit spreads and credit qualities. The change in fair value recorded for the year ended December 31, 2004 was $11.3 million (2003: $25.0 million; 2002: $(0.6) million).
The Company currently uses foreign currency forward contracts to minimize the effect of fluctuating foreign currencies and to gain exposure to interest rate differentials between differing market rates. Forward currency contracts purchased are not specifically identifiable against cash, any single security or any groups of securities and, therefore, do not qualify and are not designated as a hedge for financial reporting purposes. All realized gains and unrealized gains and losses on foreign currency forward contracts are recognized in the statements of operations and comprehensive income.
During the year ended December 31, 2004, the Company recorded realized and unrealized (losses) gains on foreign currency forward contracts of $(3.0) million (2003: $0.5 million; 2002: $1.3 million). As at December 31, 2004, the net contractual amount of foreign currency forward contracts was $30.0 million (2003: $3.8 million; 2002: $0.4 million), with an unrealized loss of $0.1 million (2003 and 2002: $negligible).
With effect from July 1, 2003, the Company adopted FAS No. 149 "Amendment of Statement 133 on Derivative Instruments and Hedging Activities". As a result, some of its mortgage-backed securities are required to be classified as derivatives and the unrealized gains (losses) associated with these securities that were previously recorded in accumulated other comprehensive gain (loss) are now recorded in net realized gains (losses). During the year ended December 31, 2004, the Company recorded realized and unrealized (losses) gains on mortgage-backed investment derivatives of $0.3 million (2003: $(5.5) million). As at December 31, 2004, the Company did not hold any mortgage-backed investment derivatives in its investment portfolio.
On November 15, 2004, the Company issued $500.0 million of senior unsecured debt ("Senior Notes") at an issue price of 99.785%, generating net proceeds of $495.7 million. The Senior Notes bear interest at a rate of 5.75%, payable semi-annually in arrears on June 1 and December 1 of each year, beginning on June 1, 2005. Unless previously redeemed, the Senior Notes will mature on December 1, 2014. The Company may redeem the Senior Notes at any time and from time to time, in whole or in part, at a "make-whole" redemption price, however, the Company has no current intentions of calling the Senior Notes. The Senior Notes contain various covenants, including limitations on liens on the stock of restricted subsidiaries, restriction as to the disposition of the stock of restricted subsidiaries and limitations on mergers and consolidations. The Company was in compliance with the related covenants at December 31, 2004.
Interest expense includes interest payable, amortization of the offering discount and amortization of debt offering expenses. The offering discount and debt offering expenses are amortized over the period of time during which the Senior Notes are outstanding. For the year ended December 31, 2004, the Company incurred interest expense, for the Senior Notes of $3.7 million. Interest payments commence on June 1, 2005.
As at December 31, 2004, the Company had a $750 million revolving credit facility available from a syndicate of commercial banks. Up to $750 million may be used to issue letters of credit and up to $300 million for general corporate purposes with total borrowing not to exceed $750 million. As at December 31, 2004, the Company had letters of credit of $421.7 million (2003: $127.3 million)
outstanding. There was no debt outstanding under the credit facility, as at December 31, 2004 or December 31, 2003.The credit facility contains various loan covenants that include, among other things, the requirement that the Company maintain a minimum level of capital and surplus and a debt to total capitalization ratio. The Company was in compliance with all covenants contained in the credit facility at December 31, 2004.
The Company and its subsidiaries lease office space in the countries in which they operate under operating leases which expire at various dates. The Company renews and enters into new leases in the ordinary course of business as required. Total rent expense with respect to these operating leases for the year ended December 31, 2004 was approximately $7,139 (2003: $5,088: 2002: $1,885).
On November 4, 2004 the Company signed a letter of intent for a proposed acquisition of all of the outstanding common stock of a Wisconsin domiciled insurance company admitted in 46 States and the District of Columbia. The purchase price will be based on market value of the statutory capital and surplus at the date of acquisition and a sum equating to the value of the number of insurance licenses acquired. The acquisition is subject to the completion of a definitive agreement and necessary regulatory approvals.
On July 7, 2003, the Company issued 15,410,000 common shares in connection with its initial public offering. The Company received proceeds of $316.0 million after deducting costs associated with the offering of $23.0 million. The amount received in excess of the par value of the common shares was recorded in additional paid-in capital.
On April 21, 2004, the Company completed a secondary public offering of up to 20,000,000 common shares held by some founding shareholders at a price of $27.91 per share. On April 27, 2004,
the Company completed a secondary public offering of 3,000,000 common shares to cover over-allotments. The Company did not sell any common shares or receive any proceeds in connection with these offerings.
On December 9, 2004, the Company announced that its Board had authorized the repurchase of up to $350.0 million of its common shares. See note 18 "Subsequent events."
In connection with its formation, the Company issued warrants to founding shareholders which entitle them to purchase up to 12% of the aggregate number of outstanding shares, calculated on a fully diluted basis, on the exercise date at a price of $12.50 per share. The warrants are subject to anti-dilution provisions that adjust in the event of dividends, distributions or stock adjustments. In the event of a dividend, a warrant holder may elect to take either an adjustment to both the exercise price and the number of shares issuable upon exercise of the warrants or to take a cash dividend that is paid upon exercise of the warrant. The anti-dilution provisions ensure that the holder is in the same position as if the warrant had been exercised immediately before the dividend, distribution or stock adjustment.
As at December 31, 2004, 19,619,152 common shares (2003: 19,690,692: 2002: 19,543,304) would be issued pursuant to the warrants, if all warrants were exercised at an average price of $12.48 (2003; $12.43: 2002; $12.50). As at December 31, 2004, the Company had accrued $9.3 million of cash dividends relating to the anti-dilution provision in respect of the warrants. The expiration date for the warrants is November 20, 2011.
The warrants were granted to the founding shareholders as an inducement to purchase stock in the Company; therefore, no compensation expense has been recorded in connection with the warrants. The fair value of the warrants as at November 20, 2002 of $65.1 million has been included in additional paid-in capital. This value has been calculated using the Black-Scholes option-pricing model. The assumptions used were: risk-free interest rate 5.1%; expected life 7 years; and dividend yield nil.
The Company provides retirement benefits to eligible employees through various plans sponsored by the Company.
The Company has several defined contribution plans that are managed externally pursuant to which employees and the Company contribute a percentage of the employee's gross salary into the plan each month. During the year ended December 31, 2004, pension expenses totaled $6.0 million (2003: $3.9 million; 2002: $1.0 million).
The following table shows the changes in the benefit obligation and the fair value of plan assets during 2004 and the amounts included in the Company's Consolidated Balance Sheet as of December 31, 2004 for the SERPs:
As of December 31, 2004, the following benefit payments are expected to be paid:
The Company has adopted a Long-Term Equity Compensation Plan that provides for the grant of non-qualified stock options, incentive stock options, stock appreciation rights, restricted stock awards, performance share and performance unit awards and share purchase rights. The maximum number of common shares with respect to which awards may be granted under the plan is 14,855,192, of which 1,200,000 are available for issuance pursuant to share purchase rights and of which 13,655,192 are available for issuance under all other awards. The plan is administered by the Compensation Committee of the Board of Directors.
The following table summarizes information about the Company's stock options for options outstanding as of December 31, 2004:
The maximum number of shares that may be offered for purchase under the plan pursuant to share purchase rights is 1,200,000. Share purchase rights may only be granted to employees. In order to assist employees in purchasing shares pursuant to a grant of share purchase rights, the Company guaranteed full recourse loans secured by the shares purchased with the loan proceeds to employees who were not executive officers of the Company. At December 31, 2004 the maximum guaranteed amount was $4.7 million (2003: $ 4.7 million). During the year ended December 31, 2004, there were no share purchase rights exercisable for common shares (2003: 583,240; 2002: 338,320) awarded to employees of the Company and its subsidiaries. At December 31, 2004, 921,560 common shares were issued pursuant to outstanding share purchase rights and no unexercised share purchase rights outstanding.
The Company has adopted a Directors Long-Term Equity Compensation Plan that provides for the grant of non-qualified stock options and stock awards (restricted and unrestricted) to non-employee directors of the Company. The maximum number of common shares with respect to which awards may be granted under the plan is 1,200,000. The plan is administered by the Board of Directors. In 2004 and 2003, the directors were awarded a grant of 8,000 stock options plus $20,000 worth of common shares pursuant to a restricted stock grant. In addition, directors may elect to receive their fees in common shares rather than cash. All awards are made at the fair market value of the common shares at the time of grant. As at December 31, 2004, 72,000 (2003: 32,000) stock options, 32,625 (2003:24,450) common shares and 3,798 (2003: 2,448) restricted stock awards had been granted under the plan.
AXIS Specialty and AXIS Capital entered into agreements in November 2001 and December 2002 with J.P. Morgan Investment Management Inc. and its affiliates ("J.P. Morgan Investment Management") under which J.P. Morgan Investment Management was appointed as an investment manager of part of the Company's investment portfolio. These agreements were entered into on an arms length basis on terms available generally in the market. During the year ended December 31, 2004, AXIS Specialty incurred $688 (2003: $530; 2002: $441) of fees pursuant to these agreements of which $178 (2003: $146) was included in accounts payable and accrued expenses.
The Company's 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 thereunder. Should the U.S. subsidiaries pay a dividend to the Company, withholding taxes will apply.
The weighted average expected tax provision has been calculated using the pre-tax accounting income (loss) in each jurisdiction multiplied by that jurisdiction's applicable statutory tax rate.
The maximum dividends that may be paid by the Company's U.S. insurance operations are restricted by the regulatory requirements of the domiciliary states. Generally, the maximum dividend that may be paid by each of the Company's U.S. insurance entities without prior regulatory approval is limited to unassigned surplus (statutory equivalent of retained earnings) and cannot exceed 10% of
Except as noted for the U.S. operations, there are no other statutory restrictions on the payment of dividends from retained earnings by any of the Company's subsidiaries as applicable minimum levels of statutory capital and surplus requirements have been met and all regulatory requirements and licensing rules complied with.
These financial statements have been retroactively adjusted for an 8 for 1 share split, which was effective on June 30, 2003.