Everest Re’s corporate offices are located in approximately 230,500 square feet of leased office space in Liberty Corner, New Jersey. Bermuda Re’s corporate offices are located in approximately 3,600 total square feet of leased office space in Hamilton, Bermuda. The Company’s other twenty locations occupy a total of approximately 152,300 square feet, all of which are leased. Management believes that the above-described office space is adequate for its current and anticipated needs.
Based on $51.4 million, $53.7 million, $54.4 million, 59.3 million and 61.4 million common shares outstanding for December 31, 2012, 2011, 2010, 2009 and 2008, respectively.
Net Realized Capital Gains (Losses). Net realized capital gains were $164.4 million, $6.9 million and $101.9 million in 2012, 2011 and 2010, respectively. The $164.4 million was comprised of $118.1 million of gains from fair value re-measurements and $56.3 million of net realized capital gains from sales on our fixed maturity and equity securities, which were partially offset by $10.0 million of other-than-temporary impairments. The net realized capital gains of $6.9 million in 2011 were the result of $27.5 million of net realized capital gains from sales on our fixed maturity and equity securities which was partially offset by $4.4 million of losses from fair value re-measurements and $16.2 million of other-than-temporary impairments. The net realized capital gains of $101.9 million in 2010 were the result of $70.4 million of gains in fair value re-measurements and $34.5 million of net realized capital gains from sales on our fixed maturity and equity securities, which were partially offset by $3.0 million of other-than-temporary impairments.
Net Derivative Gain (Loss). In 2005 and prior, we sold seven equity index put option contracts, which remain outstanding. These contracts meet the definition of a derivative in accordance with FASB guidance and as such, are fair valued each quarter with the change recorded as net derivative gain or loss in the consolidated statements of operations and comprehensive income (loss). As a result of these adjustments in value, we recognized net derivative losses of $9.7 million, $11.3 million and $1.1 million in 2012, 2011 and 2010, respectively. The change in the fair value of these equity index put option contracts is indicative of the change in the equity markets and interest rates over the same periods.
Other Income (Expense). We recorded other income of $3.3 million in 2012, other expense of $23.1 million in 2011 and other income of $16.9 million in 2010. The changes were primarily the result of fluctuations in foreign currency exchange rates for the corresponding periods.
Incurred losses and LAE decreased by 26.3% to $2,745.3 million for the year ended December 31, 2012 compared to $3,726.2 million in 2011, representing 25.0 loss ratio points. Current year catastrophe losses were lower by $890.4 million, or 21.9 points, period over period. The $410.0 million of current year catastrophe losses for 2012 related to Superstorm Sandy ($325.0 million), U.S. storms ($60.0 million) and Hurricane Isaac ($25.0 million). The $1,300.4 million of current year catastrophe losses for 2011 related primarily to the Japanese earthquake and tsunami ($531.7 million), the 2011 New Zealand earthquake ($305.8 million), the Thailand floods ($225.0 million), U.S. storms ($60.6 million), the 2011 Australian floods ($56.1 million) and Hurricane Irene ($38.0 million) as well as $50.0 million of IBNR reserves for these 2011 catastrophe events collectively, which were not allocated to a specific event. During 2012, $41.0 million of the IBNR reserve was allocated to specific 2011 catastrophes, leaving $9.0 million of unallocated IBNR reserves at December 31, 2012. Current year attritional losses decreased $83.2 million, representing 2.9 loss ratio points, due to a shift in mix of business towards excess of loss business, which generally has lower attritional losses.
Commission, Brokerage, Taxes and Fees. Commission, brokerage, taxes and fees increased by 0.2% to $952.7 million for the year ended December 31, 2012 compared to $950.5 million in 2011. The increase is due primarily to the one-time effect of the non-renewal of a Florida quota share contract and the adoption of new accounting standards concerning the accounting for acquisition costs, which increased expenses in 2012. The increased expenses resulting from these two factors were partially offset by an increase in excess of loss business which carries a lower commission than pro rata business.
Commission, brokerage, taxes and fees increased by 2.0% to $950.5 million for the year ended December 31, 2011 compared to $931.9 million in 2010 due primarily to the increase in premiums earned. Conversely, commissions, as a percentage of earned premiums are down for the year driven by a shift in distribution channels on the insurance book, with a greater proportion of the business being accessed directly, at lower commission rates, rather than through managing general agents. In addition, there was also an impact from a shift in the mix of business due to a higher level of excess loss business in the current year, which carries a lower commission than pro rata business.
Other Underwriting Expenses. Other underwriting expenses were $207.7 million, $182.4 million and $166.3 million in 2012, 2011, and 2010, respectively. The increase in other underwriting expenses for 2012 compared to 2011 was mainly due to higher share-based compensation and employee benefit plan expenses. The increase in other underwriting expenses for 2011 compared to 2010 was mainly due to expenses of Heartland, which was acquired in January, 2011.
Corporate Expenses. Corporate expenses, which are general operating expenses that are not allocated to segments, were $24.0 million, $16.5 million and $14.9 million for the years ended December 31, 2012, 2011 and 2010, respectively. The increases in corporate expenses were mainly due to higher share-based compensation expense.
Our net loss was $80.5 million and our net income was $610.8 million in 2011 and 2010, respectively. The decrease was primarily driven by an increase in catastrophe losses in 2011.
Our combined ratio decreased by 24.7 points to 93.8% in 2012 compared to 118.5% in 2011. The loss ratio component decreased 25.0 points in 2012 over the same period last year primarily due to the decline in catastrophe losses in 2012 compared to 2011. The commission and brokerage ratio component slightly decreased over the same period last year due to an increase in excess of loss business which carries a lower commission than pro rata business, partially offset by the one-time effect of the non-renewal of the Florida quota share and the adoption of new accounting standards concerning the accounting for acquisition costs. Eliminating the impact of reinstatement premiums, contingent commissions, and these one time items, the commission and brokerage ratio improved 1.5 points to 21.2% driven by the shift in the mix of business. The other underwriting expense ratio component increased slightly from the same period last year due to higher employee benefit costs.
The pre-tax equivalent total return for the bond portfolio was approximately 5.0%, 5.1% and 5.7%, respectively, in 2012, 2011 and 2010. The pre-tax equivalent return adjusts the yield on tax-exempt bonds to the fully taxable equivalent.
As indicated above, there is a relatively large variation between the total return on our fixed income portfolio for the year ended December 31, 2011 versus the Barclay’s - U.S. aggregate index for the same period. One of the reasons is that the duration of our portfolio is much shorter than the duration of the index. Historically, our duration has been shorter than the index because we align our investment portfolio with our liabilities. In addition, we shortened our duration in anticipation of a reversing trend in interest rate movements. With interest rates continuing to decline in 2011, the index benefited from its longer duration; however, in the longer term, there will be a benefit from a reduced exposure to unrealized market valuation losses on our fixed income portfolio if interest rates rise. Our total return was more comparable to the index in 2012 as interest rates remained fairly steady. The composition of the index is also different from our portfolio as we hold foreign securities to match our foreign liabilities, while the index is comprised of only U.S. securities.
During the quarter ended September 30, 2011, the Company realigned its reporting segments to reflect recent changes in the type and volume of business written. The Company previously reported the results of Marine & Aviation, Surety, A&H Reinsurance and A&H Primary operations as a separate segment-Specialty Underwriting. The A&H primary business, which is a relatively new line of business for the Company, has increased significantly, representing approximately 2% of premiums earned and is projected to continue to grow. The A&H primary business is better aligned with the Insurance reporting segment based on the similarities of this business with those businesses already reflected in the Insurance segment. The other operating units included in the Specialty Underwriting segment would have encompassed less than 5% of the Company’s premiums earned and their volume is projected to remain less than 5%. As a result of the size of these remaining operating units and their similarity to the business reported within U.S. Reinsurance, they have been reclassified to the U.S. Reinsurance segment. There has been no change to the International and Bermuda reporting segments. The Company has restated all segment information for prior years to conform to the new reporting segment structure.
Gross written premiums increased by 2.6% to $1,238.4 million in 2011 compared to $1,207.0 million in 2010, primarily due to the effects of foreign exchange. Eliminating this effect, premiums were essentially flat. Growth from increased rate levels, particularly in regions recently affected by catastrophe losses was offset by the termination of business that did not meet our current pricing targets. Net written premiums increased by 1.6% to $1,218.6 million in 2011 compared to $1,199.6 million for the same period in 2010, principally as a result of the increase in gross written premiums. Premiums earned increased 6.5% to $1,244.5 million in 2011 compared to $1,168.1 million for the same period in 2010. The change in premiums earned relative to net written premiums is the result of timing; premiums are earned ratably over the coverage period whereas written premiums are recorded at the initiation of the coverage period.
Incurred losses and LAE increased by 30.7% to $1,372.3 million in 2011 compared to $1,050.1 million in 2010, principally due to a $384.6 million (28.5 points) increase in current year catastrophes. The $845.3 million of 2011 current year catastrophes related primarily to losses discussed above. The $460.7 million of 2010 current year catastrophe losses related primarily to the Chile earthquake ($335.4 million), the 2010 Australian hailstorms and floods ($60.3 million) and the 2010 New Zealand earthquake ($50.0 million). The current year attritional loss ratio, adjusting for prior year attritional reinstatement premiums was down to 52.1% in 2011 from 56.2% in 2010, primarily due to a shift in the mix of business towards property, catastrophe and excess of loss business, which generally carries a lower loss ratio. Prior years’ attritional losses decreased by $66.3 million (5.1 points) due to favorable development on non-catastrophe property business in Singapore and other international markets.
Commission and brokerage increased 7.8% to $311.0 million in 2011 compared to $288.4 million in 2010. This variance was principally due to an increase in premiums earned. Segment other underwriting expenses decreased slightly to $27.3 million in 2011 compared to $27.6 million in 2010.
Gross written premiums decreased 1.1% to $725.3 million in 2011 compared to $733.0 million in 2010, primarily due to reduced participations and non-renewal of U.K. property business, where rate increases were not achieved, partially offset by an increase of $11.3 million in reinstatement premiums due to higher catastrophe loss activity in the current period and a $16.0 million favorable foreign exchange impact. Net written premiums decreased 1.0% to $725.5 million for in 2011 compared to $733.0 million in 2010, in line with the decrease in gross written premiums. Premiums earned decreased 2.1% to $723.0 million in 2011 compared to $738.4 million in 2010. The change in premiums earned is in line with the decline in net written premiums.
Incurred losses and LAE increased 34.0% to $613.9 million in 2011 compared to $457.9 million in 2010. The increase was principally due to a $96.1 million (13.6 points) increase in current year catastrophe losses and the absence of favorable reserve development in 2011 as occurred in 2010. The $94.5 million of current year losses for 2010 related primarily to the Chile earthquake ($64.6 million) and the New Zealand earthquake ($25.0 million).
Segment Expenses. Commission and brokerage increased by 5.9% to $184.4 million in 2012 compared to $174.0 million in 2011 reflecting higher contingent commissions in 2012. Segment other underwriting expenses increased to $30.6 million in 2012 compared to $26.3 million for the same period in 2011. The increases are primarily attributable to higher personnel benefit costs.
Commission and brokerage increased 1.7% to $174.0 million in 2011 compared to $171.1 million in 2010. The commission variance differs from the premiums earned variance primarily due to changes in the mix of business. Segment other underwriting expenses decreased slightly to $26.3 million in 2011 compared to $26.4 million in 2010.
Premiums. Gross written premiums increased by 10.0% to $1,073.1 million in 2012 compared to $975.6 million in 2011. This increase was primarily driven by crop and primary A&H medical stop loss business, partially offset by the termination and runoff of several large casualty programs. Net written premiums increased 3.9% to $852.1 million in 2012 compared to $820.5 million in 2011. The lower increase in net written premiums in comparison to gross written premiums is primarily attributable to a higher level of reinsurance employed for the crop business. Premiums earned increased 3.8% to $852.4 million in 2012 compared to $821.2 million in 2011. The change in premiums earned is relatively consistent with the increase in net written premiums.
Incurred losses and LAE decreased by 0.8% to $700.3 million in 2012 compared to $705.9 million in 2011. This was primarily due to a decrease of $9.5 million (4.3 points) in attritional losses resulting primarily from lower prior years’ losses in 2012 resulting from development on excess casualty and California workers’ compensation reserves, as well as a shift in the mix of business towards shorter-tail lines of business. This decrease was partially offset by a $4.2 million increase in current year catastrophe losses due primarily to Superstorm Sandy ($5.5 million).
Incurred losses and LAE increased by $169.2 million, or 31.5%, to $705.9 million in 2011 compared to $536.8 million in 2010. This was primarily due to an increase of $141.4 million in current year attritional losses driven by an increase in premiums earned and an increase in prior years’ losses of $25.2 million (1.8 points) attributable to development on excess casualty and California workers compensation reserves.
Commission and brokerage increased by 14.0% to $137.7 million in 2011 compared to $120.8 million in 2010. This increase was primarily the result of an increase in net premiums earned; however, due to changes in distribution and the mix of business, the commission ratio declined 2.0 points, year over year. Segment other underwriting expenses increased to $89.5 million in 2011 compared to $69.7 million for the same period in 2010. This increase was primarily due to the expenses of the newly acquired Heartland.
interpretation and application of insurance and reinsurance coverage; and (g) uncertainty regarding the number and identity of insureds with potential asbestos or environmental exposure.
We have direct relationships with Mt. McKinley policyholders and we attempt to uphold our contractual rights and assert valid defenses to coverage where appropriate. The uncertainties inherent in asbestos coverage and bankruptcy litigations have provided us the opportunity to engage in settlement negotiations with a number of policyholders who have potentially significant asbestos liabilities. Those discussions are aimed at achieving reasonable negotiated settlements that limit Mt. McKinley’s liability to a given policyholder to a sum certain. Because of the risks and uncertainties inherent in litigation, we cannot be certain that this approach will lead to a negotiated settlement in the range expected by us in each or every instance. Between 2004 and 2012, we concluded settlements or reached agreement in principle with 23 of our high profile policyholders. We continue the approach of attempting to negotiate with such policyholders that may have significant asbestos liabilities, in part because their exposures have developed to the point where we and the policyholder have sufficient information to be motivated to settle. We believe that this active approach will ultimately result in a more cost-effective liquidation of Mt. McKinley’s liabilities than a passive approach, although it may also introduce additional variability in Mt. McKinley’s losses and cash flows as reserves are adjusted to reflect the developments in litigation, negotiations and, ultimately, potential settlements.
Over the past several years, we have expanded the allocation of our investments funded by shareholders’ equity to include: 1) a greater percentage of publicly traded equity securities, 2) emerging market fixed maturities through mutual fund structures, as well as individual holdings, 3) high yield fixed maturities, 4) bank loan securities and 5) private equity limited partnership investments. The objective of this portfolio diversification is to enhance the risk-adjusted total return of the investment portfolio by allocating a prudent portion of the portfolio to higher return asset classes, which are also less subject to changes in value with movements in interest rates. We limit our allocation to these asset classes because of 1) the potential for volatility in their values and 2) the impact of these investments on regulatory and rating agency capital adequacy models. We use investment managers experienced in these markets and adjust our allocation to these investments based upon market conditions. At December 31, 2012, the market value of investments in these investment market sectors, carried at both market and fair value, approximated 63% of shareholders’ equity.
The pre-tax equivalent total return for the bond portfolio was approximately 5.0%, 5.1% and 5.7%, respectively, for 2012, 2011 and 2010. The pre-tax equivalent return adjusts the yield on tax-exempt bonds to the fully taxable equivalent.
Loss and LAE Reserves. Gross loss and LAE reserves totaled $10,069.1 million at December 31, 2012 and $10,123.2 million at December 31, 2011.
At December 31, 2012, the gross reserves for A&E losses were comprised of $138.4 million representing case reserves reported by ceding companies, $90.6 million representing additional case reserves established by us on assumed reinsurance claims, $36.7 million representing case reserves established by us on direct excess insurance claims, including Mt. McKinley, and $177.1 million representing IBNR reserves.
The following tables summarize reserve and claim activity on a gross and net of ceded reinsurance basis for our reinsurance and direct asbestos exposures.
Ultimate loss projections for A&E liabilities cannot be accomplished using standard actuarial techniques. We believe that our A&E reserves represent our best estimate of the ultimate liability; however, there can be no assurance that ultimate loss payments will not exceed such reserves, perhaps by a significant amount.
Industry analysts use the “survival ratio” to compare the A&E reserves among companies with such liabilities. The survival ratio is typically calculated by dividing a company’s current net reserves by the three year average of annual paid losses. Hence, the survival ratio equals the number of years that it would take to exhaust the current reserves if future loss payments were to continue at historical levels. Using this measurement, our net three year asbestos survival ratio was 7.1 years at December 31, 2012. These metrics can be skewed by individual large settlements occurring in the prior three years and therefore, may not be indicative of the timing of future payments.
Because the survival ratio was developed as a comparative measure of reserve strength and does not indicate absolute reserve adequacy, we consider, but do not rely on, the survival ratio when evaluating our reserves. In particular, we note that year to year loss payment variability can be material. This is due, in part, to our orientation to negotiated settlements, particularly on our Mt. McKinley exposures, which significantly reduces the credibility and utility of this measure as an analytical tool. In 2012, we made asbestos net claim payments of $2.4 million to Mt McKinley high profile claimants where the claim was either closed or a settlement had been reached. Such payments, which are non-repetitive, distort downward our three year survival ratio. Adjusting for such settlements, recognizing that total settlements are generally considered fully reserved to an agreed settlement, we consider that our adjusted asbestos survival ratio for net unsettled claims is 8.1 years, which is better than prevailing industry norms.
Over the past several years, we have expanded the allocation of our investments funded by shareholders’ equity to include: 1) a greater percentage of publicly traded equity securities, 2) emerging market fixed maturities through mutual fund structures as well as individual holdings, 3) high yield fixed maturities, 4) bank loan securities and 5) private equity limited partnership investments. The objective of this portfolio diversification is to enhance the risk-adjusted total return of the investment portfolio by allocating a prudent portion of the portfolio to higher return asset classes, which are also less subject to changes in value with movements in interest rates. We limit our allocation to these asset classes because of 1) the potential for volatility in their values and 2) the impact of these investments on regulatory and rating agency capital adequacy models. We use investment managers experienced in these markets and adjust our allocation to these investments based upon market conditions. At December 31, 2012, the market value of investments in these investment market sectors, carried at both market and fair value, approximated 63% of shareholders’ equity.
As the timing of payments for claims and benefits cannot be predicted with certainty, we maintain portfolios of long term invested assets with varying maturities, along with short-term investments that provide additional liquidity for payment of claims. At December 31, 2012 and 2011, we held cash and short-term investments of $1,397.4 million and $1,134.0 million, respectively. All of our short-term investments are readily marketable and can be converted to cash. In addition to these cash and short-term investments, at December 31, 2012, we had $957.8 million of available for sale fixed maturity securities maturing within one year or less, $5,741.3 million maturing within one to five years and $3,785.8 million maturing after five years. Our $1,399.1 million of equity securities are comprised primarily of publicly traded securities that can
Management expects annual positive cash flow from operations, which in general reflects the strength of overall pricing, to persist over the near term, absent any unusual catastrophe activity. Due to the significant catastrophe losses in 2011, cash flow from operations may be impacted in the near term as these losses continue to be paid. In the intermediate and long term, our cash flow from operations will be impacted to the extent by which competitive pressures affect overall pricing in our markets and by which our premium receipts are impacted from our strategy of emphasizing underwriting profitability over premium volume.
The Group Credit Facility requires Group to maintain a debt to capital ratio of not greater than 0.35 to 1 and to maintain a minimum net worth. Minimum net worth is an amount equal to the sum of $4,250.0 million plus 25% of consolidated net income for each of Group’s fiscal quarters, for which statements are available ending on or after January 1, 2012 and for which consolidated net income is positive, plus 25% of any increase in consolidated net worth during such period attributable to the issuance of ordinary and preferred shares, which at December 31, 2012, was $4,470.6 million. As of December 31, 2012, the Company was in compliance with all Group Credit Facility covenants.
At December 31, 2012, the Group Credit Facility had no outstanding letters of credit under tranche one and $463.2 million outstanding letters of credit under tranche two. At December 31, 2011, the Group Credit Facility had no outstanding letters of credit under tranche one and $446.5 million outstanding letters of credit under tranche two.
The Holdings Credit Facility requires Holdings to maintain a debt to capital ratio of not greater than 0.35 to 1 and Everest Re to maintain its statutory surplus at $1,875.0 million plus 25% of future aggregate net income and 25% of future aggregate capital contributions after December 31, 2010, which at December 31, 2012, was $1,990.5 million. As of December 31, 2012, Holdings was in compliance with all Holdings Credit Facility covenants.
Costs incurred in connection with the Group Credit Facility and the Holdings Credit Facility were $2.9 million and $1.8 million for December 31, 2012 and 2011, respectively.
We focus on potential losses that could result from any single event, or series of events as part of our evaluation and monitoring of our aggregate exposures to catastrophic events. Accordingly, we employ various techniques to estimate the amount of loss we could sustain from any single catastrophic event or series of events in various geographic areas. These techniques range from deterministic approaches, such as tracking aggregate limits exposed in catastrophe-prone zones and applying reasonable damage factors, to modeled approaches that attempt to scientifically measure catastrophe loss exposure using sophisticated Monte Carlo simulation techniques that forecast frequency and severity of expected losses on a probabilistic basis.
Management estimates that the projected net economic loss from its largest 100-year event in a given zone represents approximately 10% of its projected 2013 shareholders’ equity. Economic loss is the gross PML reduced by estimated reinstatement premiums to renew coverage and estimated income taxes. The impact of income taxes on the PML depends on the distribution of the losses by corporate entity, which is also affected by inter-affiliate reinsurance. Management also monitors and controls its largest PMLs at multiple points along the loss distribution curve, such as loss amounts at the 20, 50, 100, 250, 500 and 1,000 year return periods. This process enables management to identify and control exposure accumulations and to integrate such exposures into enterprise risk, underwriting and capital management decisions.
We believe that our greatest worldwide 1 in 100 year exposure to a single catastrophic event is to a hurricane affecting the U.S. southeast coast, where we estimate we have a gross PML exposure of $1,084 million. See also table under ITEM 1, “Business - Risk Management of Underwriting and Retrocession Arrangements”.
For the period from August 1, 2012 to July 31, 2013, we have catastrophe loss reinsurance protection in place for losses arising from earthquakes of 61% of $100 million in excess of $190 million, excluding the territories of the U.S., Japan and Europe. See ITEM 1, “Business - Risk Management of Underwriting and Retrocession Arrangements” for further details.
Information Technology. Our information technology is a key component of our business operations and is supported by a team of knowledgeable professionals. The majority of our information technology platform is located at our service processing center in New Jersey but processing is performed at the office locations of our operating subsidiaries and branches. In addition, our main-frame processing is performed by a third party vendor at a separate location. We have implemented procedures that seek to ensure that our key business systems are protected (or secured) and data are backed up and stored at off-site locations so that they can be restored promptly if necessary. We have documented business continuity plans to provide uninterrupted services for minor service issues and disaster recovery plans with alternative secure data centers for broader outages.
Presentation of Comprehensive Income. In June 2011, FASB issued amendments to existing guidance to provide two alternatives for the presentation of comprehensive income. Components of net income and comprehensive income can either be presented within a single, continuous financial statement or be presented in two separate but consecutive financial statements. The Company has chosen to present the components of net income and comprehensive income in a single, continuous financial statement. The guidance is effective for reporting periods beginning after December 15, 2011. The Company implemented this guidance as of January 1, 2012.
Common Fair Value Measurement. In May 2011, FASB issued amendments to existing guidance to achieve common fair value measurement and disclosure requirements between GAAP and International Financial Reporting Standards. The amendments change wording used to describe many GAAP fair value measurement requirements and disclosures. FASB does not intend for the amendments to cause a change in application of fair value accounting guidance. The guidance is effective for reporting periods beginning after December 15, 2011. The Company implemented this guidance prospectively as of January 1, 2012.
Interest Rate Risk. Our $16.6 billion investment portfolio, at December 31, 2012, is principally comprised of fixed maturity securities, which are generally subject to interest rate risk and some foreign currency exchange rate risk, and some equity securities, which are subject to price fluctuations and some foreign exchange rate risk. The overall economic impact of the foreign exchange risks on the investment portfolio is partially mitigated by changes in the dollar value of foreign currency denominated liabilities and their associated income statement impact.
net of $0.6 billion of reinsurance receivables on unpaid losses, the discount would be approximately $1.2 billion resulting in a discounted reserve balance of approximately $8.2 billion, representing approximately 58.7% of the value of the fixed maturity investment portfolio funds.
Foreign Currency Risk. Foreign currency risk is the potential change in value, income and cash flow arising from adverse changes in foreign currency exchange rates. Each of our non-U.S./Bermuda (“foreign”) operations maintains capital in the currency of the country of its geographic location consistent with local regulatory guidelines. Each foreign operation may conduct business in its local currency, as well as the currency of other countries in which it operates. The primary foreign currency exposures for these foreign operations are the Canadian Dollar, the Singapore Dollar, the British Pound Sterling and the Euro. We mitigate foreign exchange exposure by generally matching the currency and duration of our assets to our corresponding operating liabilities. In accordance with FASB guidance, we translate the assets, liabilities and income of non-U.S. dollar functional currency legal entities to the U.S. dollar. This translation amount is reported as a component of other comprehensive income. As of December 31, 2012, there has been no material change in exposure to foreign exchange rates as compared to December 31, 2011.
We sold one equity index put option contract based on the FTSE 100 index for total consideration, net of commissions, of $6.7 million. At December 31, 2012, fair value for this equity index put option contract was $9.7 million. This equity index put option contract has an exercise date of July 2020 and a strike price of ₤5,989.75. The FTSE 100 index value at December 31, 2012 was ₤5,897.80. No amount will be payable under this equity index put option contract if the FTSE 100 index is at, or above, the strike price on the exercise date. If the FTSE 100 index is lower than the strike price on the exercise date, the amount due will vary proportionately with the percentage by which the index is below the strike price. Based on historical index volatilities and trends and the December 31, 2012 FTSE 100 index value, we estimate the probability that the equity index put option contract of the FTSE 100 index will fall below the strike price on the exercise date to be less than 47%. The theoretical maximum payout under the equity index put option contract would occur if on the exercise date the FTSE 100 index value was zero. At December 31, 2012, the present value of the theoretical maximum payout using a 3% discount factor and current exchange rate was $42.5 million. Conversely, if the contract had expired on December 31, 2012, with the FTSE index at ₤5,897.80, the settlement amount would have been $0.8 million.
Because the equity index put option contracts meet the definition of a derivative, we report the fair value of these instruments in our consolidated balance sheets as a liability and record any changes to fair value in our consolidated statements of operations and comprehensive income (loss) as a net derivative gain (loss). Our financial statements reflect fair values for our obligations on these equity index put option contracts at December 31, 2012, of $79.5 million; even though it may not be likely that the ultimate settlement of these transactions would require a payment that would exceed the initial consideration received, or any payment at all.