During the year ended December 31, 2012, we continued to experience rate increases on property lines that had experienced significant loss activity in the prior year. We also continued to see rate improvement during the year on some of our casualty lines of business in certain jurisdictions. We believe that there are opportunities where certain products have attractive premium rates and that the expanded breadth of our operations allows us to target those classes of business. Given these trends, we continue to be selective in the insurance policies and reinsurance contracts we underwrite. Our consolidated gross premiums written increased by $389.8 million, or 20.1%, for the year ended December 31, 2012 compared to the year ended December 31, 2011. Our net income increased by $218.5 million to $493.0 million compared to the year ended December 31, 2011. The increase resulted from the improvement in underwriting results, as catastrophe losses were $112.6 million lower, combined with a $296.3 million increase in our realized investment gains as markets and economic conditions rebounded during the year, partially offset by the $101.7 million reduction in other income.
Income tax expense decreased by $12.2 million as a result of the items described above.
During the three months ended December 31, 2012, we completed four strategic investments through AWFS in Cunningham Lindsey, MatlinPatterson, Aeolus Capital Management and Crescent Capital Group. Our goal with AWFS is to invest in strategic business opportunities that we believe will complement our core insurance and reinsurance operations and diversify our revenues.
Operating income is an internal performance measure used in the management of our operations and represents after-tax operational results excluding, as applicable, net realized investment gains or losses, net impairment charges recognized in earnings, net foreign exchange gain or loss and other non-recurring items. We exclude net realized investment gains or losses, net impairment charges recognized in earnings, net foreign exchange gain or loss and other non-recurring items from our calculation of operating income because these amounts are heavily influenced by and fluctuate in part according to the availability of market opportunities and other factors. We have excluded from our operating income the aggregate $101.7 million termination fee we
It is important to understand our accounting policies in order to understand our financial position and results of operations. Our consolidated financial statements reflect determinations that are inherently subjective in nature and require management to make assumptions and best estimates to determine the reported values. If events or other factors cause actual results to differ materially from management’s underlying assumptions or estimates, there could be a material adverse effect on our financial condition or results of operations. The following are the
The reserve for losses and loss expenses is comprised of two main elements: outstanding loss reserves, also known as case reserves, and reserves for IBNR. Outstanding loss reserves relate to known claims and represent management’s best estimate of the likely loss settlement. IBNR reserves relate primarily to unreported events that, based on industry information, management’s experience and actuarial evaluation, can reasonably be expected to have occurred and are reasonably likely to result in a loss to our company. IBNR reserves also relate to estimated development of reported events that based on industry information, management’s experience and actuarial evaluation, can reasonably be expected to reach our attachment point and are reasonably likely to result in a loss to our company. We also include IBNR changes in the values of claims that have been reported to us but are not yet settled. Each claim is settled individually based upon its merits and it is not unusual for a claim to take years after being reported to settle, especially if legal action is involved. As a result, reserves for losses and loss expenses include significant estimates for IBNR reserves.
The reserve for IBNR is estimated by management for each line of business based on various factors, including underwriters’ expectations about loss experience, actuarial analysis, comparisons with the results of industry benchmarks and loss experience to date. The reserve for IBNR is calculated as the ultimate amount of losses and loss expenses less cumulative paid losses and loss expenses and case reserves. Our actuaries employ generally accepted actuarial methodologies to determine estimated ultimate loss reserves.
Reinsurers have to rely upon the cedents and reinsurance intermediaries to report losses in a timely fashion.
Reported Loss Development Method. We estimate ultimate losses by calculating past reported loss development factors and applying them to exposure periods with further expected reported loss development. Since reported losses include payments and case reserves, changes in both of these amounts are incorporated in this method. This approach provides a larger volume of data to estimate ultimate losses than the paid loss development method. Thus, reported loss patterns may be less varied than paid loss patterns, especially for coverages that have historically been paid out over a long period of time but for which claims are reported relatively early and have case loss reserve estimates established. This method assumes that reserves have been established using consistent practices over the historical period that is reviewed. Changes in claims handling procedures, large claims or significant numbers of claims of an unusual nature may cause results to be too varied for accurate forecasting. Also, choosing an appropriate “tail factor” to determine the change in reported loss from the latest development period to the ultimate development period may require considerable judgment. As we have limited reported history, we have had to supplement our reported loss development patterns with appropriate benchmarks.
Bornhuetter-Ferguson Paid Loss Method. The Bornhuetter-Ferguson paid loss method is a combination of the paid loss development method and the expected loss ratio method. The amount of losses yet to be paid is based upon the expected loss ratios and the expected percentage of losses unpaid. These expected loss ratios are modified to the extent paid losses to date differ from what would have been expected to have been paid based upon the selected paid loss development pattern. This method avoids some of the distortions that could result from a large development factor being applied to a small base of paid losses to calculate ultimate losses. This method will react slowly if actual loss ratios develop differently because of major changes in rate levels, retentions or deductibles, the forms and conditions of reinsurance coverage, the types of risks covered or a variety of other changes.
For shorter tail lines, the primary assumption that changed during both 2012 as compared to 2011 and 2011 as compared to 2010 as it relates to prior year losses was actual paid and reported loss emergence patterns were generally less severe than estimated for each year due to lower frequency and severity of reported losses. As a result of this change, we recognized net favorable prior year reserve development in both 2012 and 2011. However, we did experience significant losses on certain of our shorter tail lines related to the current loss year.
During the years ended December 31, 2012, 2011 and 2010, we incurred $179.6 million, $292.2 million and $98.3 million of catastrophe-related losses. In addition, during the year ended December 31, 2012 we recognized $36.0 million related to drought losses on the U.S. Crop reinsurance book.
We will continue to evaluate and monitor the development of these losses and the impact it has on our current and future assumptions. We believe recognition of the reserve changes in the period they were recorded was appropriate since a pattern of reported losses had not emerged and the loss years were previously too immature to deviate from the expected loss ratio method in prior periods.
The selection of the expected loss ratios for the longer tail lines is our most significant assumption. Due to the lengthy reporting pattern of longer tail lines, we supplement our own experience with industry benchmarks of expected loss ratios and reporting patterns in addition to our own experience. For our longer tail lines, the primary assumption that changed during both 2012 as compared to 2011 and 2011 as compared to 2010 as it
There is potential for significant variation in the development of loss reserves, particularly for the casualty lines of business due to their long tail nature and high attachment points. The maturing of our casualty insurance and reinsurance loss reserves have caused us to reduce what we believe is the reasonably possible variance in the expected loss ratios for older loss years. As of December 31, 2012 and 2011, we believe the reasonably possible variances in our expected loss ratio in percentage points for our loss years are as follows:
If our final casualty insurance and reinsurance loss ratios vary by six percentage points from the expected loss ratios in aggregate, our required net reserves after reinsurance recoverable would increase or decrease by approximately $610.6 million. Excluding the impact of income taxes, this would result in either an increase or decrease to net income and total shareholders’ equity of approximately $610.6 million. As of December 31, 2012, this represented approximately 18% of total shareholders’ equity.
Our selection of the actual carried reserves has typically been above the midpoint of the range. As of December 31, 2012, we were 4.5% above the midpoint of the consolidated net loss reserve range. We believe that we should be prudent in our reserving practices due to the lengthy reporting patterns and relatively large limits of net liability for any one risk of our direct excess casualty business and of our casualty reinsurance business. Thus, due to this uncertainty regarding estimates for reserve for losses and loss expenses, we have carried our consolidated reserve for losses and loss expenses, net of reinsurance recoverable, above the midpoint of the low and high estimates for the consolidated net losses and loss expenses. We believe that relying on the more prudent actuarial indications is appropriate for these lines of business.
We cede insurance to reinsurers in order to limit our maximum loss, to protect against concentration of risk within our portfolio and to manage our exposure to catastrophic events. Because the ceding of insurance does not discharge us from our primary obligation to the insureds, we remain liable to the extent that our reinsurers do not meet their obligations under the reinsurance agreements. Therefore, we regularly evaluate the financial condition of our reinsurers and monitor concentration of credit risk. No material provision has been made for unrecoverable reinsurance as of December 31, 2012 and 2011 as we believe that all reinsurance balances will be recovered.
The examples below illustrate the types of treaty reinsurance arrangements in force at December 31, 2012:
General Casualty: We have purchased variable quota share reinsurance for our general casualty business since December 2002. At year-end 2012, the percentage ceded varied by both location of writing office and by limits reinsured, with a significantly larger cession being effective for policies above $25 million in limits. We also have excess-of-loss cover in place for general casualty business written in our Asian branch offices.
Healthcare: We purchased quota share and excess-of-loss reinsurance protection for our healthcare line of business written by our Bermuda and U.S. offices, respectively. As is the case with general casualty, our healthcare business originating in Asia is under an excess-of-loss reinsurance arrangement.
As of December 31, 2012, approximately 99% of ceded case reserves and ceded IBNR were recoverable from reinsurers who had an A.M. Best rating of “A-” or higher. The following table shows a breakdown of our reinsurance recoverables by credit rating as of December 31, 2012:
The following table shows our reinsurance recoverables by operating segment as of December 31, 2012 and 2011:
Our reinsurance recoverables are subject to the same uncertainties as the estimate of case reserves and IBNR reserves. The reasonably possible variance of our expected ceded loss ratio for all loss years for our casualty insurance and casualty reinsurance lines of business was eight percentage points as of December 31, 2012.
In accordance with U.S. GAAP, we are required to recognize certain assets at their fair value in our consolidated balance sheets. This includes our fixed maturity investments and other invested assets. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. There is a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy is based upon whether the inputs to the valuation of an asset or liability are observable or unobservable in the market at the measurement date, with quoted market prices being the highest level (Level 1) and unobservable inputs being the lowest level (Level 3). A fair value measurement will fall within the level of the hierarchy based on the input that is significant to determining such measurement. The three levels are defined as follows:
Level 2: Observable inputs to the valuation methodology other than quoted market prices (unadjusted) for identical assets or liabilities in active markets. Level 2 inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical assets in markets that are not active and inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability.
The following table shows the pricing sources of our fixed maturity investments held as of December 31, 2012 and 2011:
Standard & Poor’s Securities Evaluation: We use Standard & Poor’s to price our U.S. government agencies, corporate debt, municipalities, mortgage-backed and asset-backed securities. There are several observable inputs that Standard & Poor’s uses in determining its prices which include among others, benchmark yields, reported trades and issuer spreads.
A significant decrease in the market price of the intangible asset;
As a result of our evaluation, we determined that there was no impairment to the carrying value of our intangible assets with finite lives for the year ended December 31, 2012.
For indefinite lived intangible assets we do not amortize the intangible asset but test these intangible assets for impairment by comparing the fair value of the assets to their carrying values on an annual basis or more frequently if circumstances warrant. The factors we consider to determine if an impairment exists are similar to factors noted above. As a result of our evaluation, we determined that there was no impairment to the carrying value of our indefinite lived intangible assets for the year ended December 31, 2012.
We have determined that the goodwill arising from the acquisition of Darwin should be allocated to the U.S. insurance segment reporting unit as the assets employed and the liabilities relate to the U.S. insurance operations. All the insurance operations of Darwin are included into the U.S. insurance segment.
The first step of the goodwill impairment test is to compare the fair value of the reporting unit with its carrying value, including goodwill. If the carrying amount of the reporting unit exceeds its fair value then the second step of the goodwill impairment test is performed. In determining the fair value of the reporting units discounted cash flow models and market multiple models are utilized. The discounted cash flow models apply a discount to projected cash flows including a terminal value calculation. The market multiple models apply earnings and book value multiples of similar publicly-traded companies to the reporting unit’s projected earnings or book value. We select the weighting of the models utilized to determine the fair value of the reporting units based on judgment, considering such factors as the reliability of the cash flow projections and the entities included in the market multiples.
Based on our analysis, the point estimate fair value of the U.S. insurance segment reporting unit was in excess of its carrying value by approximately 30% as of the September 30, 2012 measurement date. As a result, we concluded there was no implied goodwill impairment, and therefore, no step two goodwill impairment testing was required.
Gross premiums written in our U.S. insurance segment increased by $155.3 million, or 18.5%. The increase in gross premiums written was primarily due to increased new business across most lines, growth from new products introduced since 2010, and rate increases in all lines of business. This growth was partially offset by non-recurring business, the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition;
We evaluate our business by segment, distinguishing between U.S. insurance, international insurance and reinsurance. The following table illustrates the mix of our business on both a gross premiums written and net premiums earned basis.
During the year ended December 31, 2012, we incurred $179.6 million of catastrophe-related losses, of which $175.7 million related to Superstorm Sandy and $3.9 million related to Hurricane Isaac. During the year ended December 31, 2011, we incurred $292.2 million of catastrophe-related losses, of which $96.5 million related to the Tohoku earthquake and tsunami, $58.6 million related to the New Zealand earthquake, $53.7 million related to the Midwestern U.S. storms, $43.0 million related to the Thailand floods, $23.7 million related to Hurricane Irene and $16.7 million related to the Australian storms.
(2) Current year and prior year losses as a % of NPE are calculated excluding the effect of the commutation on net premiums earned.
Acquisition costs increased by $38.4 million, or 23.0%, for the year ended December 31, 2012 compared to the year ended December 31, 2011. The increase in acquisition costs was primarily due to the increase in net premiums earned. Acquisition costs as a percentage of net premiums earned were 11.8% for the year ended December 31, 2012 compared to 11.5% for 2011. The increase is due to the growth in our reinsurance segment, which has a higher acquisition cost ratio.
Our general and administrative expense ratio was 17.6% for the year ended December 31, 2012 compared to 18.6% for the year ended December 31, 2011. The decrease was due to the growth in net premiums earned being greater than the increase in expenses, primarily due to the growth in our reinsurance segment, which has a lower general and administrative expense ratio.
Gross premiums written in our international insurance segment increased by $25.5 million, or 5.1%, due to increased premiums in our general property and healthcare lines and new business including new products. This growth was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and increased competition.
During the year ended December 31, 2011, we did not recognize any net impairment charges compared to $0.2 million in net impairment charges recognized in earnings during the year ended December 31, 2010. In July 2010, the Company sold its program administrator and wholesale brokerage operations for $2.4 million in cash. The total return of our investment portfolio was 2.0% and 6.1% for the years ended December 31, 2011 and 2010, respectively.
The other income of $0.9 million for the year ended December 31, 2010 represents fee income from our program administrator operations and wholesale brokerage operations. We sold these operations during the year ended December 31, 2010.
During the year ended December 31, 2011, we incurred $292.2 million of catastrophe-related losses, of which $96.5 million related to the Tohoku earthquake and tsunami, $58.6 million related to the New Zealand earthquake, $53.7 million related to the Midwestern U.S. storms, $43.0 million related to the Thailand floods, $23.7 million related to Hurricane Irene and $16.7 million related to the Australian storms. During the year ended December 31, 2010, we incurred $98.4 million of catastrophe-related losses, of which $66.8 million was from the Chilean earthquake, $17.0 million from the New Zealand earthquake and $14.6 million from the Australian floods.
We recorded net favorable reserve development related to prior years of $253.5 million and $313.3 million during the years ended December 31, 2011 and 2010, respectively, as shown in the tables below.
The following table shows the components of net losses and loss expenses for the years ended December 31, 2011 and 2010.
Acquisition costs increased by $7.8 million, or 4.9%, for the year ended December 31, 2011 compared to the year ended December 31, 2010. The increase in acquisition costs was primarily due to the increase in net premiums earned in our U.S. insurance segment and reinsurance segment. Acquisition costs as a percentage of net premiums earned were 11.5% for the year ended December 31, 2011 compared to 11.7% in 2010.
A decrease of $5.9 million in incentive-based compensation due to higher loss activity during the year ended December 31, 2011.
The amortization of intangible assets decreased $0.5 million, or 14.3%, for the year ended December 31, 2011 compared to the year ended December 31, 2010. The decrease was due to the non-compete covenants related to the acquisition of Darwin being fully amortized during 2010. No impairments were recognized during the year ended December 31, 2011.
Tax expense increased $4.1 million, or 15.2%, for the year ended December 31, 2011 compared to the year ended December 31, 2010. The increase in tax expense is primarily due to higher taxable income for our Swiss holding company of approximately $90.6 million partially offset by lower taxable income for our U.S. operations of approximately $12.9 million. In addition, 2010 included a $5.0 million loss for tax purposes on the sale of our program administrator and wholesale brokerage operation which caused a reduction in tax expense in 2010 of $1.7 million. Our consolidated effective tax rates for the years ended December 31, 2011 and 2010 were 10.1% and 3.9%, respectively.
International Insurance Segment. The international insurance segment includes our direct insurance operations in Bermuda, Europe, Singapore and Hong Kong. This segment provides both direct property and casualty insurance primarily to Fortune 1000 North American domiciled accounts from our Bermuda office and non-North American domiciled accounts from our European, Singapore and Hong Kong offices.
The following table summarizes the underwriting results and associated ratios for the U.S. insurance segment for each of the years ended December 31, 2012, 2011 and 2010.
Net losses and loss expenses. Net losses and loss expenses increased by $78.1 million, or 20.2%, for the year ended December 31, 2012 compared to the year ended December 31, 2011. The loss and loss expense ratio increased by 3.1 percentage points for the same period. The increase in net losses and loss expenses was primarily due to growth in net premiums earned, increased property catastrophe losses and lower favorable prior year reserve development in 2012 compared to 2011. This was partially offset by the $11.5 million impact of the commutation of prior year contracts in 2011.
Excluding the prior year reserve development, property catastrophe losses and the impact of the commutation, the loss and loss expense ratios would have been 68.4% and 68.3% for the years ended December 31, 2012 and 2011, respectively.
Acquisition costs. Acquisition costs increased by $11.7 million, or 15.6%, for the year ended December 31, 2012 compared to the year ended December 31, 2011. The increase was primarily caused by increased net premiums earned. The acquisition cost ratio increased to 12.9% for the year ended December 31, 2012 from 12.8% for 2011.
Premiums. Gross premiums written increased by $109.3 million, or 15.0%, for the year ended December 31, 2011 compared to 2010. The increase in gross premiums written was primarily due to new business from existing products, $55.1 million in premiums from new products, specifically in our general casualty, environmental and inland marine lines of business and rate increases in our general property and general casualty lines of business. This growth was partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions), rate reductions in our other lines of business and increased competition.
Net premiums earned increased $65.9 million, or 12.7%, resulting from the growth of our U.S. insurance operations during 2010 and 2011. Additionally, the commutation of swing-rated reinsurance contracts during the year ended December 31, 2011 added $12.4 million to net premiums earned compared to $9.3 million during the year ended December 31, 2010.
During the year ended December 31, 2011, we incurred $8.3 million of catastrophe-related losses, of which $3.8 million related to the Midwestern U.S. storms and $4.5 million related to Hurricane Irene. During the year ended December 31, 2010, there were no property catastrophe-related losses.
Excluding the prior year reserve development, property catastrophe losses and the impact of the commutations, the loss and loss expense ratios would have been 68.3% and 70.1% for the years ended December 31, 2011and 2010, respectively. The year ended December 31, 2010 included a $12.0 million net loss on a Connecticut power plant explosion which increased the loss and loss expense ratio by 2.4 percentage points.
Overall, our U.S. insurance segment recorded net favorable reserve development of $23.2 million during the year ended December 31, 2011 compared to net favorable reserve development of $68.5 million for the year ended December 31, 2010 as shown in the tables below.
The unfavorable reserve development of $23.4 million for the 2006 loss year was primarily due to directors and officers claims within our professional liability line of business related to a class action suit filed against a number of private equity firms alleging collusion.
Acquisition costs. Acquisition costs increased by $7.2 million, or 10.6%, for the year ended December 31, 2011 compared to the year ended December 31, 2010. The increase was primarily caused by increased net premiums earned. The acquisition cost ratio decreased slightly to 12.8% for the year ended December 31, 2011 from 13.1% in 2010.
Net premiums written increased $6.0 million, or 1.9%, for the year ended December 31, 2011 compared to the year ended December 31, 2010. Net premiums written increased at a lower percentage than gross premiums written due to an increase in ceded premiums written on our professional lines treaty as well as the establishment of a trade credit treaty. We ceded to reinsurers 38.7% of gross premiums written for the year ended December 31, 2011 compared to 36.8% for the year ended December 31, 2010. The increase is primarily due to increased cessions on our general casualty and professional liability lines of business.
During the year ended December 31, 2011, we incurred $107.6 million of catastrophe-related losses, of which $45.0 million related to the Tohoku earthquake and tsunami, $17.7 million related to the storms in the Midwestern United States, $12.7 million related to the New Zealand earthquake, $22.8 million related to the Thailand floods, $8.0 million related to Hurricane Irene and $1.4 million related to the Australian storms.
Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 68.7% and 81.7% for the years ended December 31, 2011 and 2010, respectively.
Net premiums written increased by $178.6 million, or 31.4%, consistent with the increase in gross premiums written.
Net losses and loss expenses. Net losses and loss expenses increased by $145.5 million, or 39.8%, for the year ended December 31, 2012 compared to the year ended December 31, 2011. The loss and loss expense ratio increased by 3.2 percentage points for the same period. The increase in net losses and loss expenses was due to growth in net premiums earned, lower prior year net favorable reserve development for the year ended December 31, 2012 compared to 2011 and $36.4 million of crop reinsurance-related losses recorded in 2012. This was partially offset by the lower property catastrophe losses in 2012 compared to 2011.
During the year ended December 31, 2012, we incurred $81.0 million of catastrophe-related losses for Superstorm Sandy. During the year ended December 31, 2011, we incurred $176.3 million, of which $51.5 million related to the Tohoku earthquake and tsunami, $45.9 million from the New Zealand earthquake, $32.2 million related to the Midwestern U.S. storms, $20.2 million related to the Thailand floods, $11.2 million related to Hurricane Irene and $15.3 million related to the Australian storms.
Excluding the prior year reserve development and property catastrophe losses, the loss and loss expense ratios would have been 62.2% and 54.2% for the years ended December 31, 2012 and 2011, respectively. The increase was primarily due to the $36.4 million in crop reinsurance losses and $15.3 million in other U.S. weather related losses for the year ended December 31, 2012 that increased the loss and loss expense ratio by 7.0 percentage points.
Acquisition costs. Acquisition costs increased by $24.4 million, or 25.7%, for the year ended December 31, 2012 compared to the year ended December 31, 2011 primarily due to the increase in net premiums earned. The acquisition cost ratio was 16.1% for the year ended December 31, 2012, compared to 17.1% for the year ended December 31, 2011, primarily due to the change in mix of business.
Overall, our reinsurance segment recorded net favorable reserve development of $111.8 million and $64.2 million during the years ended December 31, 2011 and 2010, respectively, as shown in the tables below.
Acquisition costs. Acquisition costs increased by $3.0 million, or 3.3%, for the year ended December 31, 2011 compared to the year ended December 31, 2010. The increase was primarily a result of higher net premiums earned partially offset by a decrease in profit commissions due to loss activity. The acquisition cost ratio was 17.1% for the year ended December 31, 2011, slightly lower than the 18.3% for the year ended December 31, 2010. The decrease in the acquisition cost ratio is due to more business written on an excess-of-loss basis, which typically carries a lower acquisition cost ratio than quota share business.
Our operating subsidiaries depend upon cash inflows from premium receipts, net of commissions, investment income and proceeds from sales and redemptions of investments. Cash outflows for our operating subsidiaries are in the form of claims payments, reinsurance premium payments, purchase of investments, operating expenses and income tax payments as well as dividend payments to the holding company.
Our total investments and cash totaled $8.8 billion as of December 31, 2012, the main components of which were investment grade fixed income securities and cash and cash equivalents. As of December 31, 2012, we held $681.9 million of cash and cash equivalents and $573.9 million of fixed income securities with a maturity of less than one year to meet short-term liquidity needs. Our remaining fixed income securities, equity securities and other invested assets are available to meet our long-term liquidity needs.
As of December 31, 2012, we had $150 million available under our revolving loan facility.
The $81.3 million increase in cash flows from operations was due to the higher premiums collected, net of reinsurance, as net premiums written increased by $304.0 million. This was partially offset by the $176.2 million increase in net paid losses as a result of the growth in operations, the settlement of 2011 catastrophe losses and the maturation of our inforce business.
Cash flows used in investing activities consist primarily of payments for investments acquired, proceeds on the sale of investments and changes in restricted cash. Cash flows used in investing activities decreased $249.4 million from $509.1 million for the year ended December 31, 2011 to $259.7 million for the year ended December 31, 2012. The decrease was to finance our increased share repurchases and dividend payments in 2012.
Cash flows used in financing activities consist primarily of capital raising activities, which include the issuance of common shares or debt, the repurchase of our shares, the payment of dividends and the repayment of debt. The $159.1 million increase in cash flows used in financing activities was due to the $177.2 million increase in share repurchases. No shares were repurchased in the nine months ended September 30, 2011 because of the merger negotiations with Transatlantic. This was partially offset by the $53.6 million in founder warrants repurchased in February 2011. The increase in cash flows used in financing activities was also due to the $39.2 million increase in dividends paid for the year ended December 31, 2012 compared to 2011. Under Swiss Law, we were not able to pay our quarterly dividend until two months after our annual general meeting, resulting in fewer dividend payments in 2011.
We have investments in other invested assets, comprising interests in hedge funds and private equity funds, the market value of which was $783.5 million as of December 31, 2012. Some of these funds have redemption notice requirements. For each of our funds, liquidity is allowed after certain defined periods based on the terms of each fund. See Note 3(c) “Investments - Other Invested Assets” to our consolidated financial statements for additional details on our other invested assets.
In addition, as of December 31, 2012 and 2011, a further $1,225.2 million and $1,044.2 million, respectively, of cash and cash equivalents and investments were pledged as collateral for our credit facilities.
The table below sets forth the capital structure of the Company as of December 31, 2012 and 2011:
In May 2012, we established a new $500 million share repurchase program. Under the terms of this new share repurchase program, common shares repurchased shall be designated for cancellation and shall be cancelled upon prior shareholder approval.
Shares repurchased by the Company and not designated for cancellation are classified as “Treasury shares, at cost” on the consolidated balance sheets. The Company will issue shares out of treasury principally related to the Company’s employee benefit plans. Shares repurchased and designated for cancellation are constructively retired and recorded as a share cancellation.
The senior notes issued in 2006 and 2010 have been unconditionally and irrevocably guaranteed for the payment of the principal and interest by Holdings.
On June 7, 2012, Allied World Bermuda amended its existing secured credit facility. The amended $450 million four-year secured credit facility (the “Amended Secured Credit Facility”) is with a syndication of lenders and is primarily for the issuance of standby letters of credit to support obligations in connection with the insurance and reinsurance business of Allied World Bermuda and its subsidiaries. A portion of the facility may also be used for revolving loans for general corporate and working capital purposes, up to a maximum of $150 million. Allied World Bermuda may request that existing lenders under the Amended Secured Credit Facility make additional commitments from time to time, up to $150 million, subject to approval by the lenders. The Amended Secured Credit Facility contains representations, warranties and covenants customary for similar bank loan facilities, including certain covenants that, among other things, require us to maintain a certain leverage ratio and financial strength rating. We are in compliance with all covenants under the Amended Secured Credit Facility as of December 31, 2012.
As of December 31, 2012, we had a combined unused letters of credit capacity of $433.6 million from the Amended Secured Credit Facility and Citibank Europe plc. We believe that this remaining capacity is sufficient to meet our future letter of credit needs.
(1) Our unpaid losses and loss expenses represent our best estimate of the cost to settle the ultimate liabilities based on information available as of December 31, 2012, and are not fixed amounts payable pursuant to contractual commitments. The timing and amounts of actual loss payments related to these reserves might vary significantly from our current estimate of the expected timing and amounts of loss payments based on many factors, including large individual losses as well as general market conditions.
The amounts included for reserve for losses and loss expenses reflect the estimated timing of expected loss payments on known claims and anticipated future claims as of December 31, 2012 and do not take reinsurance recoverables into account. Both the amount and timing of cash flows are uncertain and do not have contractual
payout terms. For a discussion of these uncertainties, refer to “- Critical Accounting Policies - Reserve for Losses and Loss Expenses.” Due to the inherent uncertainty in the process of estimating the timing of these payments, there is a risk that the amounts paid in any period will differ significantly from those disclosed. Total estimated obligations will be funded by existing cash and investments.