The Company and its subsidiaries occupy office space in Australia, Bermuda, Canada, Chile, England, Ireland, Malaysia, Singapore, Switzerland, United Arab Emirates and the United States. We renew and enter into leases in the ordinary course of business as required. We believe our current facilities and the leaseholds with respect thereto are sufficient for us to conduct our operations. The main operating locations of the Company and its primary leaseholders are as follows:
The following tables set forth our selected historical consolidated financial information for the last five years ended December 31. The Company was formed on October 19, 2005 and completed the acquisitions of Talbot, IPC, Flagstone and Western World on July 2, 2007, September 4, 2009, November 30, 2012 and October 2, 2014, respectively. Flagstone is included in the Company’s consolidated results for the one month ended December 31, 2012 and for subsequent fiscal year ends. Western World is included in the Company’s consolidated results from the October 2, 2014 date of acquisition.
The combined ratio is calculated by combining the losses and loss expense ratio, the policy acquisition cost ratio and the general and administrative expense ratio.
Tangible book value per common share is defined as total shareholders’ equity available to Validus common shareholders, less goodwill and other intangible assets, divided by the number of common shares outstanding as at the end of the period, giving no effect to dilutive securities. Tangible book value per common share is a non-GAAP financial measure, which are described in the section entitled “Non-GAAP Financial Measures.”
The following is a discussion and analysis of the Company’s consolidated results of operations for the years ended December 31, 2016, 2015 and 2014 and the Company’s consolidated financial condition, liquidity and capital resources at December 31, 2016 and 2015. This discussion and analysis should be read in conjunction with the Company’s audited Consolidated Financial Statements and related notes thereto included elsewhere within this filing.
The Company conducts its operations worldwide through four operating segments which have been determined under U.S. GAAP segment reporting to be Validus Re, Talbot, Western World, and AlphaCat.
The Company’s strategy is to concentrate primarily on short-tail risks, which has been an area where management believes prices and terms provide an attractive risk-adjusted return and the management team has proven expertise. The Company’s profitability in any given period is a function of net earned premium and investment revenues, less net losses and loss expenses, acquisition expenses and operating expenses. The Company’s insurance and reinsurance portfolio, as measured by gross premium written, was comprised of 43% insurance and 57% reinsurance for the year ended December 31, 2016 compared to 46% insurance and 54% reinsurance for the year ended December 31, 2015. Financial results in the insurance and reinsurance industry are influenced by the frequency and/or severity of claims and losses, including as a result of catastrophic events; changes in interest rates, financial markets and general economic conditions; the supply of insurance and reinsurance capacity and changes in legal, regulatory and judicial environments.
The renewal data above does not include intercompany eliminations between Validus Re and Talbot.
During the January 2017 renewal season, the Validus Re and AlphaCat segments underwrote $628.9 million in gross premiums written (excluding U.S. agriculture premiums and net of intercompany eliminations between Validus Re and AlphaCat), an increase of 3.0% from the prior year renewal period. This increase was driven by an increase in U.S. property, marine and other specialty renewals and was partially offset by decreases in international property and casualty renewals. Terms and conditions across the market were generally unchanged, however the overall market continues to see downwards pressure on rates in the low single-digits.
The Company believes that the key financial indicator for evaluating our performance and measuring the overall growth in value generated for its shareholders is book value per diluted common share plus accumulated dividends.
Book value per diluted common share plus accumulated dividends is considered by management to be the key financial indicator of performance, as the Company believes growth in book value on a diluted basis, plus the dividends that have accumulated, ultimately translates into the return that a shareholder will receive. Book value per diluted common share plus accumulated dividends is calculated based on total shareholders’ equity available to Validus excluding the $150.0 million liquidation value of the preferred shares, plus the assumed proceeds from the exercise of outstanding options; divided by the sum of common shares, unvested restricted shares and options outstanding (assuming their exercise), plus accumulated dividends. Book value per diluted common share plus accumulated dividends increased by $4.04, or 7.7%, from $52.49 at December 31, 2015 to $56.53 at December 31, 2016. Cash
Net operating income available to Validus common shareholders is defined as net income (loss) excluding net realized and change in net unrealized gains (losses) on investments, income (loss) from investment affiliates, foreign exchange gains (losses), other income (loss), non-recurring items and operating (income) attributable to noncontrolling interests. This measure focuses on the underlying fundamentals of the Company’s operations without the influence of gains (losses) from the sale of investments, translation of non-U.S. dollar currencies, non-recurring items and (income) attributable to noncontrolling interests. Net operating income available to Validus common shareholders for the years ended December 31, 2016, 2015 and 2014 was $319.2 million, $409.7 million and $480.8 million, respectively.
Net operating return on average equity represents the net operating return generated on common shareholders’ equity during the year. Net operating return on average equity is calculated by dividing the net operating income available to Validus common shareholders for the year by the average shareholders’ equity available to Validus during the year. Average shareholders’ equity is the average of the beginning, ending and intervening quarter end shareholders’ equity balances, excluding the $150.0 million liquidation value of the preferred shares. The net operating return on average equity for the years ended December 31, 2016, 2015 and 2014 was 8.6%, 11.3% and 13.1%, respectively.
The following table presents the results of operations for the three months ended December 31, 2016 and 2015:
Highlights for the fourth quarter 2016 as compared to 2015 were as follows:
Gross premiums written for the three months ended December 31, 2016 were $339.5 million compared to $309.6 million for the three months ended December 31, 2015, an increase of $29.8 million, or 9.6%. The increase was primarily driven by increases in the Validus Re and Western World segments and was partially offset by decreases in the Talbot and AlphaCat segments.
Underwriting revenues for the three months ended December 31, 2016 were $541.0 million compared to $544.3 million for the three months ended December 31, 2015, a decrease of $3.3 million or 0.6%.
Losses and loss expenses for the three months ended December 31, 2016 were $275.1 million compared to $214.7 million for the three months ended December 31, 2015, an increase of $60.4 million or 28.1%. The increase was primarily driven by an increase in notable loss events during the three months ended December 31, 2016.
For the three months ended December 31, 2016, losses and loss expenses from notable loss events were $52.3 million, or 9.7 percentage points of the loss ratio. Net of losses attributable to AlphaCat investors and noncontrolling interests of $15.3 million and reinstatement premiums of $0.7 million, the net loss attributable to the Company from these events was $36.3 million.
The combined ratio for the three months ended December 31, 2016 was 89.6% compared to 78.3% for the three months ended December 31, 2015, an increase of 11.3 percentage points.
Loss ratios by line of business for the three months ended December 31, 2016 and 2015 were as follows:
Underwriting income for the three months ended December 31, 2016 was $56.5 million compared to $118.6 million for the three months ended December 31, 2015, a decrease of $62.1 million or 52.3% primarily as a result of the changes in underwriting revenues and deductions described above.
Net operating income available to Validus common shareholders for the three months ended December 31, 2016 was $64.3 million compared to $105.4 million for the three months ended December 31, 2015, a decrease of $41.1 million, or 39.0%.
Results of Operations - Fourth Quarter 2016 - Validus Re Segment
Gross premiums written for the three months ended December 31, 2016 were $38.8 million compared to $14.3 million for the three months ended December 31, 2015, an increase of $24.5 million, or 170.6%. Gross premiums written for the three months ended December 31, 2016 included $10.5 million of property premiums, $(4.2) million of marine premiums and $32.5 million of specialty premiums, compared to $15.6 million of property premiums, $(0.7) million of marine premiums and $(0.5) million of specialty premiums for the three months ended December 31, 2015. The increase in the specialty lines of $33.0 million was primarily driven by new casualty business of $24.9 million and growth in the financial lines of $9.3 million. Partially offsetting this increase were decreases in the property and marine lines of $5.0 million and $3.5 million, respectively.
Summarized Results of Operations - Fourth Quarter 2016 - Talbot Segment
General and administrative expenses for the three months ended December 31, 2016 were $24.6 million compared to $40.0 million for the three months ended December 31, 2015, a decrease of $15.4 million, or 38.6%. The decrease was primarily due to the impact of foreign exchange and a reduction in the performance bonus accrual.
The combined ratio for the three months ended December 31, 2016 was 100.9% compared to 82.5% for the three months ended December 31, 2015, an increase of 18.4 percentage points.
Summarized Results of Operations - Fourth Quarter 2016 - Western World Segment
The combined ratio for the three months ended December 31, 2016 was 109.2% compared to 94.3% for the three months ended December 31, 2015, an increase of 14.9 percentage points. The increase was driven by lower favorable development on prior accident years and higher losses and loss expenses on notable loss events and U.S.-based weather losses during the three months ended December 31, 2016.
The following table presents Validus’ share of the AlphaCat segment income on an asset manager basis for the three months ended December 31, 2016 and 2015:
AlphaCat’s assets under management increased during the fourth quarter 2016 to $2,741.3 million as at January 1, 2017, compared to $2,615.1 million as at October 1, 2016. Third party assets under management were $2,498.6 million as at January 1, 2017, compared to $2,292.6 million as at October 1, 2016.
The following table presents the corporate and investment function’s income and expense items on a consolidated basis for the three months ended December 31, 2016 and 2015:
Net investment income from managed investments for the three months ended December 31, 2016 was $35.9 million compared to $29.9 million for the three months ended December 31, 2015, an increase of $6.0 million, or 20.0%. The increase was primarily driven by returns on the Company’s portfolio of structured securities, of which $4.0 million was generated from a single fixed income fund. Annualized effective yield for the three months ended December 31, 2016 was 2.25%, compared to 1.90% for the three months ended December 31, 2015, an increase of 35 basis points.
Net realized gains on managed investments for the three months ended December 31, 2016 were $9.2 million compared to losses of $3.4 million for the three months ended December 31, 2015, a favorable movement of $12.5 million. The favorable movement primarily resulted from realized gains on the termination of two interest rate swap contracts which were entered into in the third quarter of 2016 to partially offset the impact of interest rate increases on the Company’s fixed maturity portfolio.
General and administrative expenses for the three months ended December 31, 2016 were $20.0 million compared to $24.2 million for the three months ended December 31, 2015, a decrease of $4.2 million or 17.5% primarily due to a reduction in the performance bonus accrual during the three months ended December 31, 2016.
Share compensation expenses for the three months ended December 31, 2016 were $3.9 million compared to $3.5 million for the three months ended December 31, 2015, an increase of $0.4 million or 10.1%.
Finance expenses, excluding the Company’s share of AlphaCat finance expenses from consolidated variable interest entities, for the three months ended December 31, 2016 were $14.5 million compared to $15.4 million for the three months ended December 31, 2015, a decrease of $0.9 million or 5.8%.
Underwriting revenues for the years ended December 31, 2016, 2015 and 2014 were $2,252.1 million, $2,253.0 million, and $1,996.5 million, respectively.
Losses and loss expenses for the years ended December 31, 2016, 2015 and 2014 were $1,065.1 million, $977.8 million and $765.0 million, respectively.
For the year ended December 31, 2015, losses and loss expenses from the two notable loss events were $97.0 million, or 4.3 percentage points of the loss ratio. Net of reinstatement premiums of $1.8 million, the net loss attributable to the Company
from these notable loss events was $95.2 million. Losses and loss expenses from a single non-notable loss event were $22.2 million, or 1.0 percentage point of the loss ratio. Net of reinstatement premiums of $2.2 million, the net loss attributable to the Company from this non-notable loss event was $20.0 million.
For the year ended December 31, 2014, losses and loss expenses from a single notable loss event were $34.9 million, or 1.8 percentage points of the loss ratio. Net of reinstatement premiums of $3.8 million, the net loss attributable to the Company from this notable loss event was $31.1 million. Losses and loss expenses from the two non-notable loss events were $34.7 million, or 1.7 percentage points of the loss ratio. Net of reinstatement premiums of $2.7 million, the net loss attributable to the Company from these non-notable loss events was $32.0 million.
The favorable development on events in 2016 primarily related to favorable development on the 2015 Chilean Earthquake non-notable loss event and the 2015 Tianjin port explosion notable loss event and was partially offset by adverse development established following the receipt of a loss advice on an individual marine policy that incepted during the second half of 2015. The favorable development on events in 2015 primarily related to favorable development on Superstorm Sandy. The favorable development on events in 2014 primarily related to favorable development on the Superstorm Sandy and European Floods notable loss events and was partially offset by adverse development on the 2010 New Zealand Earthquake notable loss event.
General and administrative expenses for the years ended December 31, 2016, 2015 and 2014 were $336.3 million, $363.7 million and $329.4 million, respectively.
Net operating income available to Validus common shareholders for the years ended December 31, 2016, 2015 and 2014 was $319.2 million, $409.7 million and $480.8 million, respectively.
Non-GAAP Financial Measures. In presenting the Company’s results, management has included and discussed underwriting income that is not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Further discussion of these measures is presented in the section entitled “Non-GAAP Financial Measures.”
Gross premiums written for the year ended December 31, 2016 were $1,111.1 million compared to $1,126.8 million for the year ended December 31, 2015, a decrease of $15.7 million, or 1.4%. The decrease in gross premiums written was primarily driven by:
A decrease in gross premiums written in the marine lines of $47.0 million, primarily due to reductions in participation on various programs as a result of challenging market conditions and business historically written in marine lines being renewed in specialty lines; partially offset by
Reinsurance premiums ceded for the year ended December 31, 2016 were $111.6 million compared to $149.1 million for the year ended December 31, 2015, a decrease of $37.5 million, or 25.2%. The decrease was primarily due to a reduction in the costs associated with the Company’s main proportional retrocession program during the year ended December 31, 2016.
The loss ratio for the year ended December 31, 2016 was 43.6%, which included $118.5 million of favorable loss reserve development on prior accident years, benefiting the loss ratio by 12.6 percentage points compared to a loss ratio for the year ended December 31, 2015 of 46.2% which included $128.6 million of favorable loss reserve development on prior accident years, benefiting the loss ratio by 13.0 percentage points.
During the year ended December 31, 2015, there were two notable loss events and one non-notable loss event that impacted Validus Re as set out in the table below:
For the year ended December 31, 2016, losses and loss expenses from three notable loss events, the Canadian Wildfires, Hurricane Matthew and the 2016 New Zealand Earthquake were $38.4 million, or 4.1 percentage points of the loss ratio. Net of reinstatement premiums of $3.9 million, these events resulted in an aggregate reduction of underwriting income of $34.5 million. The losses and loss expenses of the 2016 notable loss events by line of business were as follows:
▪Canadian Wildfires and 2016 New Zealand Earthquake - property lines of $24.8 million; and
For the year ended December 31, 2015, losses and loss expenses from two notable loss events, Tianjin and Pemex, were $72.5 million, or 7.3 percentage points of the loss ratio. Net of reinstatement premiums of $12.1 million, these events resulted in an aggregate reduction of underwriting income of $60.4 million. The losses and loss expenses of the 2015 notable loss events by line of business were as follows:
▪Pemex - marine and specialty lines of $35.0 million and $1.7 million, respectively.
▪Texas Hailstorms and Kumamoto Earthquake - property lines of $22.1 million; and
▪Jubilee Oil - marine and specialty lines of $0.7 million and $9.7 million, respectively; and
▪SpaceX - marine and specialty lines of $9.5 million and $0.8 million, respectively.
General and administration expenses for the year ended December 31, 2016 were $72.8 million compared to $78.4 million for the year ended December 31, 2015, a decrease of $5.7 million, or 7.2%. The decrease was primarily due to reductions in office related expenses, staff costs and the performance bonus accrual.
The following table presents underwriting income by line of business for the years ended December 31, 2015 and 2014:
Gross premiums written for the year ended December 31, 2015 were $1,126.8 million compared to $1,118.5 million for the year ended December 31, 2014, an increase of $8.2 million, or 0.7%. The increase in gross premiums written was primarily driven by:
An increase in gross premiums written in the specialty lines of $115.7 million, primarily due to a significant new agriculture deal and new casualty business of $7.1 million which was written during the three months ended December 31, 2015, partially offset by various non-renewals; and
Reinsurance premiums ceded for the year ended December 31, 2015 were $149.1 million compared to $163.7 million for the year ended December 31, 2014, a decrease of $14.6 million, or 8.9%. The decrease was due to a reduction in the property lines of $18.1 million primarily due to a reduction in the costs associated with the Company’s main proportional retrocession program during the year ended December 31, 2015 and was partially offset by an increase in the specialty lines of $2.9 million.
The loss ratio for the year ended December 31, 2015 was 46.2%, which included $128.6 million of favorable loss reserve development on prior accident years, benefiting the loss ratio by 13.0 percentage points compared to a loss ratio for the year ended December 31, 2014 of 33.5% which included $87.6 million of favorable loss reserve development on prior accident years, benefiting the loss ratio by 9.5 percentage points.
During the year ended December 31, 2014, there was one notable loss event and two non-notable loss events that impacted Validus Re as set out in the table below:
General and administration expenses for the year ended December 31, 2015 were $78.4 million compared to $74.7 million for the year ended December 31, 2014, an increase of $3.7 million, or 4.9%. The increase was primarily due to a greater retention of costs within the segment and an increase in staff costs related to overseas underwriting operations during the year ended December 31, 2015. This increase was partially offset by a reduction in office and infrastructure costs in the current year related to entities that are no longer in use as a result of efficiencies achieved through rationalization of historical Flagstone entities.
The loss ratio for the year ended December 31, 2016 was 54.3%, which included $85.8 million of favorable loss reserve development on prior accident years, benefiting the loss ratio by 11.0 percentage points compared to a loss ratio for the year ended December 31, 2015 of 41.4%, which included $146.4 million of favorable loss reserve development on prior accident years, benefiting the loss ratio by 17.5 percentage points.
Hurricane Matthew - property, marine and specialty lines of $8.5 million, $3.4 million and $0.4 million, respectively; and
For the year ended December 31, 2015, losses and loss expenses from two notable loss events, Tianjin and Pemex, were $24.5 million, or 2.9 percentage points of the loss ratio. Including reinstatement premiums of $10.3 million, these events resulted in an aggregate reduction of underwriting income of $34.8 million. The losses and loss expenses of the 2015 notable loss events by line of business were as follows:
For the year ended December 31, 2015, losses and loss expenses from the 2015 Chilean earthquake non-notable loss event were $4.7 million, or 0.6 percentage points of the loss ratio, and related primarily to Talbot’s property lines.
The adverse development on events in the marine lines primarily related to adverse development established following the receipt of a loss advice on an individual marine policy that incepted during the second half of 2015.
A decrease in gross premiums written in the property lines of $10.1 million, primarily due to a decrease in the property treaty lines of $9.3 million which related primarily to Latin American business being written directly by Validus Re Swiss. In addition, renewed business in the downstream energy and power international lines has decreased due to unfavorable market conditions. These decreases were partially offset by an increase in the construction lines as a result of new projects and amendments to existing contracts; and
Reinsurance premiums ceded for the year ended December 31, 2015 were $198.9 million compared to $192.2 million for the year ended December 31, 2014, an increase of $6.7 million, or 3.5%. The increase was primarily due to an increase in the marine and specialty lines of $9.2 million and $5.8 million, respectively, primarily due to increased reinstatement premiums across a number of classes and was partially offset by a decrease in the property lines of $8.3 million due to lower quota share premiums as a result of the Latin American business being written directly by Validus Re Swiss and due to a decrease in reinstatement premiums in the year ended December 31, 2015.
Losses and loss expenses for the year ended December 31, 2015 were $347.3 million compared to $423.4 million for the year ended December 31, 2014, a decrease of $76.1 million or 18.0%, primarily as a result of lower attritional losses during the year ended December 31, 2015.
During the year ended December 31, 2014, there was one notable loss event and one non-notable loss event that impacted Talbot as set out in the table below:
For the year ended December 31, 2014, losses and loss expenses from a single notable loss event, Tripoli Airport, were $12.5 million, or 1.4 percentage points of the loss ratio and primarily related to the specialty lines. Net of reinstatement premiums of $0.8 million, this event resulted in an aggregate reduction of underwriting income of $11.7 million.
For the year ended December 31, 2014, losses and loss expenses incurred from a single non-notable loss event, the 2014 Chilean Earthquake, were $4.8 million, or 0.5 percentage points of the loss ratio and related solely to the property lines. Net of reinstatement premiums of $0.3 million, this event resulted in an aggregate reduction of underwriting income of $4.5 million.
The favorable development on events in the property lines was primarily related to the 2011 Tohoku earthquake notable loss event.
Policy acquisition costs for the year ended December 31, 2015 were $187.5 million compared to $187.2 million for the year ended December 31, 2014, an increase of $0.4 million, or 1.1 percentage points of the policy acquisition costs ratio.
Gross premiums written for the year ended December 31, 2016 were $323.2 million compared to $278.5 million for the year ended December 31, 2015, an increase of $44.7 million, or 16.1%. The increase in gross premiums written was primarily driven by:
An increase in gross premiums written in the property lines of $41.4 million primarily due to increases in the brokerage property, contract commercial package property, monoline property and program flood classes of $12.5 million, $12.2 million, $6.9 million and $6.4 million, respectively, as a result of the continued build out of the underwriting platform in short tail lines.
Losses and loss expenses for the year ended December 31, 2016 were $183.8 million compared to $171.9 million for the year ended December 31, 2015, an increase of $11.9 million or 6.9%, primarily as a result of losses incurred from notable loss events during the year ended December 31, 2016 and lower favorable development on prior accident years as discussed below. Included as part of current year losses and loss expenses for the year ended December 31, 2016 are $14.3 million, or 5.2 percentage points of the loss ratio, of losses from other U.S.-based weather losses.
For the year ended December 31, 2016, losses and loss expenses from a single notable loss event, Hurricane Matthew, were $3.4 million, or 1.2 percentage points of the loss ratio and solely impacted Western World’s property lines.
For the year ended December 31, 2016, losses and loss expenses incurred from a single non-notable loss event, the Texas Hailstorms, were $0.7 million, or 0.3 percentage points of the loss ratio and solely impacted Western World’s property lines.
The results of Western World have been included in the Company’s consolidated results from the October 2, 2014 date of acquisition.
Full Year 2016, 2015 and 2014 Results of Operations - AlphaCat Segment
Revenues earned for the years ended December 31, 2016, 2015 and 2014 were $22.1 million, $25.0 million and $26.1 million, inclusive of third party revenues of $18.8 million, $19.7 million and $18.7 million, respectively. The decrease in third party revenues earned of $0.9 million during the year ended December 31, 2016 as compared to 2015 was primarily attributable to a decrease in performance fees earned as a result of the 2016 notable and non-notable loss events. The increase in revenues earned from third parties of $1.0 million during the year ended December 31, 2015 as compared to 2014 was driven by an increase in third party assets under management.
These items exclude the components which are included in the Company’s share of AlphaCat and amounts which are consolidated from VIEs.
General and administrative expenses for the years ended December 31, 2016, 2015 and 2014 were $72.2 million, $75.7 million and $80.2 million, respectively. The decrease of $4.5 million during the year ended December 31, 2015 as compared to 2014 was primarily due to the retention of certain costs within the operating segments. Corporate general and administrative expenses are comprised of executive and board expenses, internal and external audit expenses and other costs relating to the Company as a whole.
Share compensation expenses for the years ended December 31, 2016, 2015 and 2014 were $16.0 million, $13.0 million and $11.4 million, respectively. The increase of $3.0 million during the year ended December 31, 2016 as compared to 2015 was primarily due to increased performance share award grants.
Net Realized and Change in Net Unrealized Gains (Losses) on Investments
Net realized gains on managed investments for the years ended December 31, 2016, 2015 and 2014 were $14.7 million, $1.7 million and $12.2 million, respectively. The increase of $13.0 million during the year ended December 31, 2016 as compared to 2015 primarily resulted from the sale of managed fixed maturities and gains realized on the termination of two interest rate swap contracts which were entered into in the third quarter of 2016 to partially offset the impact of interest rate increases on the Company’s fixed maturity portfolio.
The change in net unrealized gains on managed investments for the year ended December 31, 2016 was $14.1 million compared to losses of $32.0 million and $1.0 million for the years ended December 31, 2015 and 2014, respectively. The favorable movement of $46.1 million during the year ended December 31, 2016 as compared to 2015 was primarily due to the impact of declining interest rates on our fixed maturity investments early in the year ended December 31, 2016 compared to the year ended December 31, 2015, partially offset by rising rates later in the year. The unfavorable movement of $31.0 million during the year ended December 31, 2015 as compared to 2014 was primarily due to a rising interest rate environment during 2015 as compared to 2014.
Net operating income available to Validus common shareholders indicates the performance of the Company’s core underwriting function and includes net investment income, finance expenses, tax (expense) benefit, income (loss) from operating affiliates and (income) attributable to AlphaCat investors and excludes net operating (income) attributable to noncontrolling interests and certain other revenues and expenses such as the reconciling items in the table above. The Company believes the reporting of net operating income available to Validus common shareholders enhances the understanding of results by highlighting the underlying profitability of the Company’s core insurance and reinsurance business. This profitability is influenced significantly by earned premium growth, adequacy of the Company’s pricing and loss frequency and severity. Over time it is also influenced by the Company’s underwriting discipline, which seeks to manage exposure to loss through favorable risk selection and diversification, its management of claims, its use of reinsurance and its ability to manage its expense ratio, which it accomplishes through its management of acquisition costs and other underwriting expenses.
Underwriting income is the primary financial measure for the Company’s insurance and reinsurance operating segments: Validus Re, Talbot and Western World. The results of the AlphaCat operating segment are presented on an asset manager basis, which is also non-GAAP. Refer to Note 26 to the Consolidated Financial Statements, “Segment information,” in Part II, Item 8 for a reconciliation of the Company’s share of AlphaCat segment income to segmental income.
The Company excludes the U.S. GAAP measures noted above, in particular net realized and change in net unrealized gains and losses on investments, from its calculation of net operating income available to Validus common shareholders because the amount of these gains and losses is heavily influenced by, and fluctuates in part, according to availability of investment market opportunities. The Company believes these amounts are largely independent of its core underwriting activities and including them distorts the analysis of trends in its operations. In addition to presenting net income available to Validus common shareholders determined in accordance with U.S. GAAP, the Company believes that showing underwriting income and net operating income available to Validus
common shareholders provides investors with a valuable measure of profitability and enables investors, analysts, rating agencies and other users of its financial information to more easily analyze the Company’s results in a manner similar to how management analyzes the Company’s underlying business performance.
In presenting the Company’s results, management has also included and discussed certain schedules containing book value and tangible book value per diluted common share and book value per diluted common share plus accumulated dividends that are not calculated in accordance with U.S. GAAP.
Such measures described above which are referred to as non-GAAP, may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP.
The following tables present reconciliations of book value per diluted common share to book value per common share, the most comparable U.S. GAAP financial measure, as at December 31, 2016 and December 31, 2015:
Total shareholders’ equity available to Validus common shareholders excludes the liquidation value of the preferred shares of $150,000.
The Company’s IPS requires managed investments to have an average duration in the range of 0.75 years to 3.00 years. At December 31, 2016, the average duration of the Company’s managed investment portfolio was 2.26 years (December 31, 2015: 2.15 years). This duration is reviewed regularly based on changes in the duration of the Company’s liabilities and general market conditions.
The Company’s IPS also requires certain minimum credit quality standards for its managed fixed maturity portfolio, including a minimum weighted average portfolio rating of A+ for securities assigned ratings. Further limits on asset classes and security types are also mandated. In addition, the Company stress-tests the downside risks within its asset portfolio using internal and external inputs and stochastic modeling processes to help define and limit asset risks to acceptable levels that are consistent with our overall ERM framework. At December 31, 2016, the Company’s rated managed fixed maturity portfolio had an average credit quality rating of AA- (December 31, 2015: AA-). Refer to Note 7(a) to the Consolidated Financial Statements, “Investments,” in Part II, Item 8 for further details related to the investment ratings of the Company’s fixed maturity portfolio.