The following discussion and analysis reflects the consolidated results of the Company and its subsidiaries for the years ended December 31, 2009, 2010 and 2011, including the results of Paris Re from October 2, 2009, the date of the acquisition of the controlling interest (Acquisition Date).
The Company is a leading global reinsurer, with a broadly diversified and balanced portfolio of traditional reinsurance risks and capital markets risks. The Company’s economic objective is to manage a portfolio of risks that will generate compound annual Diluted Book Value per Share growth of 10% over the reinsurance cycle and an average Operating Return on Equity (ROE) of 13% over a reinsurance cycle. Management assesses both of these economic objectives over the reinsurance cycle, rather than any particular quarterly or annual period, given the Company’s profitability is significantly affected by the level of large catastrophic losses that it incurs each period. Both of these metrics are defined below in Key Financial Measures.
In its reinsurance portfolio, the Company writes all lines of business in virtually all markets worldwide, and differentiates itself through its risk management strategy and its financial strength. In assuming its clients’ risks, the Company removes the volatility associated with those risks from the clients’ financial statements, and then manages those risks and the risk-related volatility. Through its broad product and geographic diversification, its execution capabilities and its local presence in most major markets, the Company is able to stabilize returns, respond quickly to market needs, and capitalize on business opportunities virtually anywhere in the world.
The cyclicality of the Non-life reinsurance market is characterized by cycles of growth and decline, known as hard and soft insurance cycles. Since late 2003, the Company began to see the emergence of a soft market across most of lines of business with general decreases in pricing and profitability. With the exception of lines and markets impacted by specific events, this trend continued throughout the decade. In 2011, this trend broadly continued with diverse conditions prevailing in various markets. Certain markets and lines of business in the Company’s Non-life segment experienced increased competition, higher cedant retentions and declines in pricing, while the terms in other markets strengthened or remained stable. The Company also experienced increases in pricing in certain loss affected lines of business and markets, which were primarily related to the increased catastrophic and large loss activity during 2011. The most significant events impacting the Company during 2011 were the Japan Earthquake, the February and June 2011 New Zealand Earthquakes, Thailand Floods, U.S. tornadoes and the Australian Floods, which together with the impact of aggregate contracts covering losses in Australia and New Zealand are collectively referred to as 2011 catastrophic events.
The Company’s capital markets and investment operations, including public and private market investments, have experienced volatile market conditions since the middle of 2007, reflecting the continued instability in the global economy and financial markets. The Company believes that capital market risks managed in a disciplined and measured way will generate positive excess returns to the Company over time.
The Company follows prudent investment guidelines through a strategy that seeks to maximize returns while managing investment risk in line with the Company’s overall objectives of earnings stability and long-term book value growth. The Company allocates its invested assets into two categories: liability funds and capital funds. See the discussion of liability funds and capital funds in Financial Condition, Liquidity and Capital Resources. A key challenge for the Company is achieving the right balance between current investment income and total returns (that include price appreciation or depreciation) in changing market conditions. The Company regularly reviews the allocation of investments to asset classes within its investment portfolio and its funds held - directly managed account and allocates investments to those asset classes the Company anticipates will outperform in the near future, subject to limits and guidelines. Similarly, the Company reduces its exposure to risk asset classes where returns are underperforming. The Company may also lengthen or shorten the duration of its fixed income portfolio in anticipation of changes in interest rates, or increase or decrease the amount of credit risk it assumes, depending on credit spreads and anticipated economic conditions. During 2011, the Company shortened the duration of its fixed income portfolio given historically low interest rates and to limit the impact of a potential rise in interest rates.
(2) Operating earnings or loss available to common shareholders (operating earnings or loss) is calculated as net income or loss available to common shareholders excluding net realized and unrealized gains or losses on investments, net of tax, net realized gain on purchase of capital efficient notes (CENts), net of tax, net foreign exchange gains or losses, net of tax, and interest in earnings or losses of equity investments, net of tax, where the Company does not control the investee companies’ activities, and is calculated after preferred dividends. The presentation of operating earnings or loss is a non-GAAP financial measure within the meaning of Regulation G (see Comment on Non-GAAP Measures below) and is reconciled to the nearest GAAP financial measure below. Effective January 1, 2011, Management redefined its operating earnings or loss calculation, as discussed below.
(3) Operating return on beginning diluted book value per common share and common share equivalents outstanding (Operating ROE) is calculated using annualized operating earnings or loss, as defined above, per diluted common share and common share equivalents outstanding, divided by diluted book value per common share and common share equivalents outstanding as of the beginning of the year, as defined above. For the year ended December 31, 2009, following the acquisition of Paris Re, Management adjusted Operating ROE to be the sum of the operating earnings per diluted share for the nine months ended September 30, 2009 divided by the beginning diluted book value per common share plus the operating earnings per diluted share for the three months ended December 31, 2009 divided by the beginning diluted book value per common share plus the per diluted share impact of equity issued related to the acquisition of Paris Re. The presentation of Operating ROE is a non-GAAP financial measure within the meaning of Regulation G (see Comment on Non-GAAP Measures below) and is reconciled to the nearest GAAP financial measure below. Effective January 1, 2011, Management redefined its Operating ROE calculation, as discussed below.
exchange market conditions. In addition, Management redefined its Annualized operating return on beginning diluted book value per common share and common share equivalents outstanding (Operating ROE, previously referred to as operating return on beginning common shareholders’ equity) calculation to measure Operating ROE on a diluted per share basis. Management believes that the redefined Operating ROE incorporates capital management activities whilst still being based on the concept of deploying available capital on an annual basis. Operating earnings or loss and Operating ROE for the years ended December 31, 2010 and 2009 have been recast to reflect the Company’s redefined non-GAAP measures.
Diluted book value per common share and common share equivalents outstanding (Diluted Book Value per Share): Management uses compound annual growth rate in Diluted Book Value per Share as a prime measure of the value the Company is generating for its common shareholders, as Management believes that growth in the Company’s Diluted Book Value per Share ultimately translates into growth in the Company’s share price. Management has set a target compound annual growth rate of 10% in Diluted Book Value per Share, after the payment of dividends, over the reinsurance cycle. Diluted Book Value per Share is impacted by the Company’s net income or loss, capital resources management and external factors such as foreign exchange, interest rates, credit spreads and equity markets, which can drive changes in realized and unrealized gains or losses on its investment portfolio.
Over the past five years, since December 31, 2006, the Company has generated a compound annual growth rate in Diluted Book Value per Share in excess of 8% and over the past ten years, since December 31, 2001, the Company has generated a compound annual growth rate in Diluted Book Value per Share in excess of 11%. Both the 5-year and the 10-year compound annual growth rates, compared to the decrease in Diluted Book Value per Share during 2011, illustrate why Management takes a longer-term view of growth in Diluted Book Value per Share over the reinsurance cycle, given single periods can be volatile as a result of the level of catastrophe losses incurred.
by the large 2011 catastrophic events, and to a lesser extent, a decrease in net investment income of $44 million. These decreases were partially offset by lower corporate operating expenses of $67 million and an increase in the Life underwriting result of $24 million.
Operating earnings decreased by $439 million from $931 million in 2009 to $492 million in 2010 primarily due to a decrease in the Non-life underwriting result of $451 million, a decrease in Life underwriting result of $40 million and various other factors. These factors contributing to a decrease in operating earnings were partially offset by a lower tax expense that is attributable to operating earnings of $77 million and an increase in net investment income of $77 million.
These factors contributing to the increases or decreases in operating earnings in 2011 compared to 2010 and in 2010 compared to 2009 are further described in Overview and Review of Net (Loss) Income below.
The presentation of operating earnings or loss available to common shareholders is a non-GAAP financial measure within the meaning of Regulation G and should be considered in addition to, and not as a substitute for, measures of financial performance prepared in accordance with GAAP (see Comment on Non-GAAP Measures). The table below provides a reconciliation of operating earnings or loss to the most comparable GAAP financial measure for the years ended December 31, 2011, 2010 and 2009 (in millions of U.S. dollars):
Operating ROE: Management uses annualized Operating ROE as a measure of profitability that focuses on the return to common shareholders. Management has set an average 13% Operating ROE target over the reinsurance cycle, which Management believes provides an attractive return to shareholders for the risk assumed. Each Business Unit and support department throughout the Company is focused on seeking to ensure that the Company meets the 13% return objective. This means that most economic decisions, including capital attribution and underwriting pricing decisions, incorporate an Operating ROE impact analysis. For the purpose of that analysis, an appropriate amount of capital (equity) is attributed to each transaction for determining the transaction’s priced return on attributed capital. Subject to an adequate return for the risk level as well as other factors, such as the contribution of each risk to the overall risk level and risk diversification, capital is attributed to the transactions generating the highest priced return on deployed capital. Management’s challenge consists of (i) attributing an appropriate amount of capital to each transaction based on the risk created by the transaction, (ii) properly estimating the Company’s overall risk level and the impact of each transaction on the overall risk level, (iii) assessing the diversification benefit, if any, of each transaction, and (iv) deploying available capital. The risk for the Company lies in mis-estimating any one of these factors, which are critical in calculating a meaningful priced return on deployed capital, and entering into transactions that do not contribute to the Company’s 13% Operating ROE objective.
The factors contributing to increases or decreases in operating earnings are described further in Operating earnings or loss available to common shareholders above and in Overview and Review of Net (Loss) Income.
The average Operating ROE for the last five years and ten years was 11.4% and 12.2%, respectively. Both the 5-year and the 10-year averages reflect higher Operating ROE primarily in years that were not impacted by any significant catastrophic losses, and illustrates why management measures performance based on an average Operating ROE target over the reinsurance cycle rather than focusing on the results for single periods, which can be volatile depending on the level of catastrophic losses incurred.
The presentation of Operating ROE is a non-GAAP financial measure within the meaning of Regulation G and should be considered in addition to, and not as a substitute for, measures of financial performance prepared in accordance with GAAP (see Comment on Non-GAAP Measures). The table below provides a reconciliation of Operating ROE to the most comparable GAAP financial measure for the years ended December 31, 2011, 2010 and 2009:
(1) For the year ended December 31, 2009, following the acquisition of Paris Re, Management adjusted the return on beginning diluted book value per common share and common share equivalents outstanding to be the sum of the results for the nine months ended September 30, 2009 divided by beginning of year diluted book value per common share and common share equivalents outstanding plus the results for the three months ended December 31, 2009 divided by beginning of year diluted book value per common share and common share equivalents outstanding plus the equity issued related to the acquisition of Paris Re.
Combined Ratio: The combined ratio is used industry-wide as a measure of underwriting profitability for Non-life business. A combined ratio under 100% indicates underwriting profitability, as the total losses and loss expenses, acquisition costs and other operating expenses are less than the premiums earned on that business. While an important metric of underwriting profitability, the combined ratio does not reflect all components of profitability, as it does not recognize the impact of investment income earned on premiums between the time premiums are received and the time loss payments are ultimately made to clients. The key challenges in managing the combined ratio metric consist of (i) focusing on underwriting profitable business even in the weaker part of the reinsurance cycle, as opposed to growing the book of business at the cost of profitability, (ii) diversifying the portfolio to achieve a good balance of business, with the expectation that underwriting losses in certain lines or markets may potentially be offset by underwriting profits in other lines or markets, and (iii) maintaining control over expenses.
2011, when the industry incurred a high frequency of large losses related to the 2011 catastrophic events the Company recorded a net underwriting loss and Non-life combined ratio of 125.4%.
The increase in the Non-life combined ratio of 13.2 points to 95.0% in 2010 from 81.8% in 2009 was primarily due to 13.9 points related to the 2010 catastrophic and large loss events, compared to no large catastrophic loss activity in 2009.
Throughout this filing, the Company’s results of operations have been presented in the way that Management believes will be the most meaningful and useful to investors, analysts, rating agencies and others who use financial information in evaluating the performance of the Company. This presentation includes the use of operating earnings or loss and Operating ROE that are not calculated under standards or rules that comprise U.S. GAAP. These measures are referred to as non-GAAP financial measures within the meaning of Regulation G. Management believes that these non-GAAP financial measures are important to investors, analysts, rating agencies and others who use the Company’s financial information and will help provide a consistent basis for comparison between years and for comparison with the Company’s peer group, although non-GAAP measures may be defined or calculated differently by other companies. Investors should consider these non-GAAP measures in addition to, and not as a substitute for, measures of financial performance prepared in accordance with GAAP. A reconciliation of these measures to the most comparable U.S. GAAP financial measures, net income or loss and return on beginning common shareholders’ equity calculated with net income or loss available to common shareholders, is presented above.
These methods aim to address the concerns of the Chain Ladder Development methods, which are the variability at early stages of development and the failure to incorporate external information such as pricing. However, the B-F methods are more sensitive to reported and paid losses than the Expected Loss Ratio method, and can be seen as a blend of the Expected Loss Ratio and Chain Ladder development methods. Unreported (unpaid) claims are calculated using an expected reporting (payment) pattern and an externally determined
(i) the loss development factors used to form an expectation of the evolution of reported and paid claims for several years following the inception of the underwriting year. These are often derived by examining the Company’s data after due consideration of the underlying factors listed below. In some cases, where the Company lacks sufficient volume to have statistical credibility, external benchmarks are used to supplement the Company’s data;
(iv) the selected loss ratios used as inputs in the Expected Loss Ratio method.
The net Non-life prior year favorable reserve development for the years ended December 31, 2011, 2010 and 2009 was driven by the following factors (in millions of U.S. dollars):
Casualty / Specialty Casualty: Aggregate losses reported for North America casualty lines have been significantly lower than expected, predominantly for underwriting years 2003-2007. The Company reflected this favorable experience partially by giving more weight to loss experience based actuarial indications that resulted in lower loss ratio picks for those underwriting years. In addition, actual development of claims relating to the financial crisis of 2008-2009 has been less than expected and ultimate loss estimates have reduced as a result. For Global (Non-U.S.) lines, overall reported losses were lower than expected for underwriting years 2003-2008 for business in both Global (Non-U.S.) P&C and Global (Non-U.S.) Specialty sub-segments. The Company reflected this experience by reducing the loss ratio selections as well as changing in the initial expected loss ratio and loss development tail factor assumptions.
Catastrophe: Reserves established for the catastrophe line are primarily a function of the presence or absence of catastrophic events during the year, and the complexity and uncertainty associated with estimating unpaid losses from these large disclosed events. In addition, reserves are established in consideration of mid-sized and attritional loss events that occur during a year. Approximately half the reduction in prior year reserves is a result of catastrophic and mid-sized losses developing better than expected and the remainder of the reduction resulted from lower than expected development of attritional losses.
Credit / Surety: Aggregate losses reported during the year were higher than expected for North America business due to an individual loss reported impacting the 1998 and 1999 underwriting years. For Global (Non-U.S.) business, loss development was significantly better than expected, primarily for the underwriting year 2009, which was impacted by the financial crisis. The Company reduced the loss ratios for most prior underwriting years reflecting the fact that loss emergence was lower than expected.
Energy Onshore: Aggregate reported losses were higher than expected during the year, which was driven by increases in premium exposure for various underwriting years, primarily for the underwriting year 2010. The Company did not materially change its reserving assumptions for this line.
Aggregate losses reported for North American motor line were modestly higher than expected for the 2008 -2010 underwriting years. The Company selected higher loss ratios reflecting this development for those specific years.
As an example of the sensitivity of the Company’s reserves to reserving parameter assumptions, the tables below summarize, by reserving line, the effect on the Company’s reserves of higher/lower a priori loss ratio selections, higher/lower loss development factors and higher/lower tail factors. The Company believes that the illustrated sensitivities to the reserving parameter assumptions are indicative of the potential variability inherent in the estimation process of those parameters.
The following table shows the gross reserves reported by cedants (case reserves), those estimated by the Company (ACRs and IBNR reserves) and the total gross, ceded and net loss reserves recorded at December 31, 2011 by reserving line for the Company’s Non-life operations (in millions of U.S. dollars):
In 2011, the Company was exposed to a high frequency of large catastrophic events on a worldwide basis. The events that had a material impact on the Company were the Japan Earthquake, the February and June 2011 New Zealand Earthquakes, the Thailand Floods, the U.S. tornadoes and the Australian Floods (the 2011 catastrophic events). Reserves were established for each of these events after the consideration of catastrophe model output, industry loss experience, cedant advices, contract by contract analysis of the Company’s exposure, actual claims development, on site claims audits performed by the Company, developments relating to legal and contractual liability, and management judgment concerning the complexity and uncertainties in estimating the ultimate losses given the nature and number of events.
Given the number and complex nature of the 2011 catastrophic events, a significant amount of judgment was used to estimate the range of potential losses from these events and there remains a considerable degree of uncertainty related to the range of possible ultimate liabilities. These risks and uncertainties include the ongoing cedant and industry revisions of various magnitudes for each of these events, the inability to access certain areas and zones affected by these events to reliably assess claims information, the continuing uncertainty regarding government regulations with respect to the standards of rebuilding in certain affected areas, the degree to which inflation impacts material required to rebuild affected properties, the characteristics of the Company’s program participation for certain affected cedants and potentially affected cedants, and the expected length of the claims settlement period for these events. In addition, there is additional complexity related to the 2011 and 2010 New Zealand Earthquakes given multiple earthquakes have occurred in the same region in a relatively short time period, resulting in cedants revising their allocation of losses between various treaties, under which the Company may provide different amounts of coverage.
The Company will continue to evaluate the additional gross reserves that have been recorded at December 31, 2011 as part of its future periodic reserving process. Any changes to the amounts recorded will be based on updated or new information and Management’s assessment of remaining uncertainty related to the specific factors regarding the 2011 catastrophic events given any new or updated information. Changes to the amounts recorded may either result in: i) the reallocation of some or all of the additional reserves to one or more of the 2011 catastrophic events; or ii) the release of some or all of the additional reserves to net income in future periods.
Ultimate loss estimates for such claims cannot be estimated using traditional reserving techniques and there are significant uncertainties in estimating the amount of the Company’s potential losses for these claims. In view of the legal and tort environment that affect the development of such claims, the uncertainties inherent in estimating asbestos and environmental claims are not likely to be resolved in the near future. There can be no assurance that the reserves established by the Company will not be adversely affected by development of other latent exposures, and further, there can be no assurance that the reserves established by the Company will be adequate. The Company does, however, actively evaluate potential exposure to asbestos and environmental claims and establishes additional reserves as appropriate. The Company believes that it has made a reasonable provision for these exposures and is unaware of any specific issues that would materially affect its unpaid losses and loss expense reserves related to this exposure (see Note 9 to Consolidated Financial Statements in Item 8 of Part II of this report).
The Company categorizes life reserves into three types of reserves: reported outstanding loss reserves (case reserves), incurred but not reported (IBNR) reserves and reserves for future policy benefits. Case reserves represent unpaid losses reported by the Company’s cedants and recorded by the Company. IBNR reserves represent a provision for claims that have been incurred but not yet reported to the Company, as well as future loss development on losses already reported, in excess of the case reserves. Reserves for future policy benefits, which relate to future events occurring on policies in force over an extended period of time, are calculated as the present value of future expected benefits to be paid, reduced by the present value of future expected premiums. Such liabilities are established based on methods and underlying assumptions in accordance with U.S. GAAP and applicable actuarial standards. Principal assumptions used in the establishment of reserves for future policy benefits have been determined based upon information reported by ceding companies, supplemented by the Company’s actuarial estimates of mortality, critical illness, persistency and future investment income, with appropriate provision to reflect uncertainty. Case reserves, IBNR reserves and reserves for future policy benefits are generally calculated at the treaty level. The Company updates its estimates for each of the aforementioned categories on a periodic basis using information received from its cedants.
The reserves for the short-term mortality business are established in accordance with the provisions for short duration insurance contracts under U.S. GAAP. They consist of case reserves and IBNR, calculated at the treaty level based upon cedant information. The Company’s reserving methodology includes a quarterly review of actual experience against expected experience and the use of the Expected Loss Ratio method described in Losses and Loss Expenses above. Given the very short-term loss development of this portion of the portfolio, this method is considered appropriate.
The following table provides the Company’s gross and net policy benefits for life and annuity contracts by reserving line at December 31, 2011 (in millions of U.S. dollars):
The Company provides proportional and non-proportional reinsurance coverage to cedants (insurance companies). In most cases, cedants seek protection for business that they have not yet written at the time they
Under proportional treaties, which represented 69% of the Company’s total gross premiums written for the year ended December 31, 2011, the Company shares proportionally in both the premiums and losses of the cedant and pays the cedant a commission to cover the cedant’s acquisition costs. Under this type of treaty, the Company’s ultimate premiums written and earned and acquisition costs are not known at the inception of the treaty. As such, reported premiums written and earned and acquisition costs on proportional treaties are generally based upon reports received from cedants and brokers, supplemented by the Company’s own estimates of premiums written and acquisition costs for which ceding company reports have not been received. Premium and acquisition cost estimates are determined at the individual treaty level. The determination of premium estimates requires a review of the Company’s experience with cedants, familiarity with each market, an understanding of the characteristics of each line of business and Management’s assessment of the impact of various other factors on the volume of business written and ceded to the Company. Premium and acquisition cost estimates are updated as new information is received from the cedants and differences between such estimates and actual amounts are recorded in the period in which estimates are changed or the actual amounts are determined.
Under non-proportional treaties, which represented 31% of the Company’s total gross premiums written for the year ended December 31, 2011, the Company is typically exposed to loss events in excess of a predetermined dollar amount or loss ratio and receives a fixed or minimum premium, which is subject to upward adjustment depending on the premium volume written by the cedant. In addition, many of the non-proportional treaties include reinstatement premium provisions. Reinstatement premiums are recognized as written and earned at the time a loss event occurs, where coverage limits for the remaining life of the contract are reinstated under pre-defined contract terms. The accrual of reinstatement premiums is based on Management’s estimate of losses and loss expenses associated with the loss event.
The following table shows the amounts recorded within net premiums written and earned that related to changes in prior year premium estimates reported by cedants for each Non-life sub-segment for the year ended December 31, 2011 (in millions of U.S. dollars):
These increases in net premiums written and earned, after the corresponding adjustments to acquisition costs and losses and loss expenses, had no material impact on the Company’s consolidated pre-tax net loss. However, as shown, these adjustments are the result of offsetting impacts in each of the Company’s Non-life sub-segments for the year ended December 31, 2011.
As an example of the sensitivity of the Company’s Non-life net premiums written and acquisition costs to changes in estimates, the table below summarizes the effect of different assumption selections on pre-tax net loss based on amounts recorded for the year ended December 31, 2011 (in millions of U.S. dollars):
(2) The estimate assumes that the changes in net premiums written become known at the mid-point of the risk period and also assume there is no change in losses and loss expenses.
Acquisition costs, primarily brokerage fees, commissions and excise taxes, which vary directly with, and are directly related to, the acquisition of reinsurance contracts, are capitalized and charged to expense as the related premium is earned. The recovery of deferred policy acquisition costs is dependent upon the future profitability of the related business. Deferred policy acquisition costs recoverability testing is performed periodically together with the reserve adequacy test, based on the latest best estimate assumptions by line of business.
Under U.S. GAAP, a deferred tax asset or liability is to be recognized for the estimated future tax effects attributable to temporary differences and carryforwards. U.S. GAAP also establishes procedures to assess whether a valuation allowance should be established for deferred tax assets. All available evidence, both positive and negative, is considered to determine whether, based on the weight of that evidence, a valuation allowance is needed for some portion or all of a deferred tax asset. Management must use its judgment in considering the relative impact of positive and negative evidence. The Company has also established tax liabilities relating to uncertain tax positions as defined under U.S. GAAP of $12 million at December 31, 2011 (see Notes 2(l) and 15 to Consolidated Financial Statements in Item 8 of Part II of this report).
As an example of the sensitivity of the Company’s unrecognized tax benefit related to uncertain tax positions, deferred tax asset and net deferred tax liability, the table below summarizes the impact of different assumption selections on the Company’s net loss and the corresponding impact on net assets based on amounts recorded at December 31, 2011 (in millions of U.S. dollars):
Under the fair value hierarchy, Management uses certain assumptions and judgments to derive the fair value of its investments, particularly for those assets with significant unobservable inputs, commonly referred to as Level 3 assets. At December 31, 2011, the Company’s financial instruments that were measured at fair value and categorized as Level 3 were as follows (in millions of U.S. dollars):
The Company utilizes derivatives for a variety of purposes (see Note 6 to Consolidated Financial Statements in Item 8 of Part II of this report). The Company’s derivatives are carried at fair value, which is based on quoted market prices or internal valuation models where quoted market prices are not available. Most of the Company’s derivatives are fair valued using quoted prices in active markets (an insignificant fair value at December 31, 2011), referred to as Level 1 assets, or using significant other observable inputs (fair value of $7 million net unrealized loss at December 31, 2011), referred to as Level 2 assets. In addition, the Company has certain total return swaps and insurance-linked securities that are fair valued using significant other unobservable inputs, and are included in the Level 3 other invested assets. The total return swaps and insurance-linked securities that are classified as Level 3 have a combined fair value of $6 million net unrealized gain on combined notional exposure of $253 million.
In aggregate, the Company is not significantly exposed to changes in the valuation of its total return and interest rate swap portfolio due to changes in the general level of interest rates. However, at December 31, 2011, the Company estimated that a 100 basis point increase or decrease in all risk spread assumptions used in the Company’s internal valuation models would result in a $5 million decrease or a $5 million increase, respectively, in the fair value of its Level 3 total return and interest rate swap portfolio.
Goodwill represents the excess of the purchase price over the fair value of the net assets acquired of PartnerRe SA, Winterthur Re and Paris Re. The Company assesses the appropriateness of its valuation of goodwill on at least an annual basis. If, as a result of the assessment, the Company determines that the value of its goodwill is impaired, goodwill will be written down in the period in which the determination is made. Neither the Company’s initial valuation nor its subsequent valuations has indicated any impairment of the Company’s goodwill asset of $456 million at December 31, 2011.
Intangible assets represent the fair value adjustments related to unpaid losses and loss expenses, as well as the fair values of renewal rights and U.S. insurance licenses arising from the acquisition of Paris Re. Definite-lived intangible assets, related to the unpaid losses and loss expenses and renewal rights, are amortized over their useful lives, generally ranging from two to eleven years. The Company recognizes the amortization of all intangible assets in the Consolidated Statement of Operations. Indefinite-lived intangible assets, related to U.S. licenses, are not subject to amortization. The carrying values of intangible assets are regularly reviewed for indicators of impairment. Impairment is recognized if the carrying value of the intangible assets is not recoverable from its undiscounted cash flows and is measured as the difference between the carrying value and the fair value. Based upon the Company’s assessment, there was no impairment of its intangible assets of $134 million at December 31, 2011.
the U.S. dollar average exchange rate was weaker against most currencies in 2011 compared to 2010 and was weaker against most currencies, except the euro, in 2010 compared to 2009; and
The year over year comparison of the Company’s net (loss) income and diluted (loss) income per share is primarily affected by the following:
the acquisition of Paris Re. The Consolidated Statements of Operations and Cash Flows for the year ended December 31, 2009 include the results of Paris Re only from October 2, 2009, the date of acquisition of the controlling interest, while the results for the years ended December 31, 2011 and 2010 include Paris Re’s results for the full year;
To the extent that the above events have affected the year over year comparison of the Company’s results, their impact has been quantified and discussed in each of the relevant sections. An overview of each of these events is provided below.
Loss estimates arising from earthquakes are inherently more uncertain than those from other catastrophic events. The Company’s actual losses from the 2010 and the February and June 2011 New Zealand Earthquakes may materially exceed the estimated losses as a result of, among other things, an increase in industry insured loss estimates, the expected lengthy claims development period, in particular for earthquake related losses, and the receipt of additional information from cedants, brokers and loss adjusters. In addition, the Company’s loss estimate related to the Japan Earthquake is inherently more uncertain than those from other catastrophic events given the characteristics of the Company’s reinsurance portfolio in the region, changes in loss assumptions for specific cedants may have a material impact on the Company’s loss estimate related to this event given a significant portion of the losses are concentrated with a few large cedants. The Company believes there remains a high degree of uncertainty related to its loss estimates related to the 2010 and the February and June 2011 New Zealand Earthquakes and the Japan Earthquake and the ultimate losses arising from these events may be materially in excess of, or less than, the amounts provided for in the Consolidated Balance Sheet at December 31, 2011. Any adjustments to the Company’s preliminary estimate of its ultimate losses related to these events will be reflected in the periods in which they are determined, which may affect the Company’s operating results in future periods.
The following table reflects the combined impact of the above losses and the impact on the Company’s technical result, net realized and unrealized investment gains, pre-tax loss or income, loss ratio and combined ratio by segment and sub-segment for the years ended December 31, 2011 and 2010 (in millions of U.S. dollars):
During the year ended December 31, 2011, gross and net premiums written in the Company’s Non-life segment decreased by 7% and net premiums earned in the Company’s Non-life segment decreased by 5% compared to 2010. The decreases in gross and net premiums written and net premiums earned impacted all of the Company’s Non-life sub-segments, except the North America sub-segment. These decreases were primarily driven by the effects of the Company’s decision to reduce or cancel business, as a result of decreases in pricing in certain competitive markets, and to reposition its portfolios following the integration of Paris Re’s business, which included reducing the level of catastrophe-exposed business written. In contrast, the North America sub-segment benefitted from an increase in gross and net premiums written and net premiums earned of 7%, 8% and 9%, respectively, due to the agriculture line of business.
In 2010, U.S. and European risk-free rates decreased, equity markets improved and credit spreads modestly declined. As a result of these movements, the fair value of the Company’s investment portfolio and cash and cash equivalents increased as of December 31, 2010 compared to December 31, 2009, primarily due to an increase in the fair value of fixed maturities and equities, as well as net cash provided by operating activities, which was partially offset by the impact of foreign exchange.
a decrease in income tax expense of $60 million, resulting from a lower pre-tax net income; and
no activity related to the Company’s capital efficient notes (CENts) in 2010 compared to a gain of $89 million on purchase of CENts in 2009;
a decrease in the Life underwriting result of $40 million, primarily driven by an increase in net adverse prior year loss development in the longevity line;
an increase in other corporate operating expenses of $35 million, primarily driven by charges related to the voluntary plan; and
various other factors, the primary one being an increase in amortization of intangible assets of $37 million; which were partially offset by
Management analyzes the Company’s net income or loss in three parts: underwriting result, investment result and other components of net income or loss. Underwriting result consists of net premiums earned and other income or loss less losses and loss expenses and life policy benefits, acquisition costs and other operating expenses. Investment result consists of net investment income, net realized and unrealized investment gains or losses and interest in earnings or losses of equity investments. Net investment income includes interest and dividends, net of investment expenses, generated by the Company’s investment activities, as well as interest income generated on funds held assets. Net realized and unrealized investment gains or losses include sales of the Company’s fixed income, equity and other invested assets and investments underlying the funds held - directly managed account and changes in net unrealized gains or losses. Interest in earnings or losses of equity investments includes the Company’s strategic investments. Other components of net income or loss include net realized gain on purchase of CENts in 2009, technical result and other income or loss, other operating expenses, interest expense, amortization of intangible assets, net foreign exchange gains or losses and income tax expense or benefit.
(1) Interest in earnings or loss of equity investments represents the Company’s aggregate share of earnings or losses related to several private placement investments and limited partnerships within the Corporate and Other segment. See the discussion in Corporate and Other - Interest in Earnings of Equity Investments below for more details.
Underwriting result is a measurement that the Company uses to manage and evaluate its Non-life and Life segments, as it is a primary measure of underlying profitability for the Company’s core reinsurance operations, separate from the investment results. The Company believes that in order to enhance the understanding of its profitability, it is useful for investors to evaluate the components of net income or loss separately and in the aggregate. Underwriting result should not be considered a substitute for net income or loss and does not reflect the overall profitability of the business, which is also impacted by investment results and other items.
The underwriting result for the Non-life segment decreased by $1,177 million, from $204 million in 2010 to a loss of $973 million in 2011. The decrease was attributable to:
an increase in large catastrophic losses and large losses of $1,174 million, net of retrocession, reinstatement premiums and profit commissions, related to the 2011 catastrophic events, compared to the 2010 catastrophic events and Deepwater Horizon; and
a decrease of approximately $79 million resulting from a decrease in the book of business, declining profitability due to reduced pricing and reduced catastrophe exposures in certain lines of business and a modestly higher level of mid-sized loss activity, which was reduced by the impact of a change in mix towards the agriculture line in the North America sub-segment; partially offset by
Net realized and unrealized investment gains decreased by $335 million, from $402 million in 2010 to $67 million in 2011. The net realized and unrealized investment gains of $67 million in 2011 were primarily due to declining U.S. and European risk-free interest rates, which were partially offset by widening credit spreads, realized and unrealized losses on treasury note futures and losses on insurance-linked securities impacted by the Japan Earthquake. Net realized and unrealized investment gains of $67 million in 2011 primarily consisted of net realized investment gains on fixed maturities and short-term investments and equities of $248 million, the change in net unrealized investment gains on fixed maturities and short-term investments of $128 million and net realized and unrealized investment gains on funds held - directly managed of $11 million. These gains were partially offset by net realized investment losses on other invested assets, primarily related to treasury note futures, of $176 million and the change in net unrealized investment losses on equities and other invested assets of $148 million. See Corporate and Other - Net Realized and Unrealized Investment Gains below for more details.
Other operating expenses included in Corporate and Other decreased by $67 million, from $166 million in 2010 to $99 million in 2011. The decrease was primarily due to the charges related to the Company’s voluntary termination plan in 2010, as well as lower personnel costs in 2011.
Interest expense increased by $5 million, from $44 million in 2010 to $49 million in 2011. The increase was primarily due to the timing of the issuance of $500 million 5.500% Senior Notes in March 2010, which was not outstanding for the entire year in 2010.
Net foreign exchange gains increased by $55 million, from a loss of $21 million in 2010 to a gain of $34 million in 2011. The increase in net foreign exchange gains in 2011 resulted primarily from gains arising from the timing of the hedging activities and lower forward points paid, which reflects the interest rate differential between currencies bought and sold against the U.S. dollar. The Company hedges a significant portion of its currency risk exposure as discussed in Quantitative and Qualitative Disclosures about Market Risk in Item 3 of Part I of this report.
an increase in large catastrophic losses and large losses of $559 million, net of reinstatement premiums, related to the Chile Earthquake, 2010 New Zealand Earthquake, Deepwater Horizon and an aggregate contract covering losses in Australia and New Zealand;
an increase in other operating expenses of $64 million, primarily due to the inclusion of Paris Re’s Non-life operating expenses for a full year in 2010 compared to the fourth quarter only of 2009; and
an increase of approximately $180 million resulting from the inclusion of Paris Re’s business (before the impact of large catastrophic losses, losses and loss expenses related to Deepwater Horizon, operating expenses and net favorable loss development included above), a lower level of loss estimates recorded in the specialty casualty and credit/surety lines of business related to the global economic and financial crisis and normal fluctuations in profitability between periods, partially offset by a higher level of mid-sized loss activity.
Net investment income increased by $77 million, from $596 million in 2009 to $673 million in 2010. The increase in net investment income of 13% is primarily attributable to an increase in net investment income from fixed maturities due to the purchase of higher yielding investments, the reinvestment of cash flows from operations and the inclusion of Paris Re’s net investment income for a full year in 2010 compared to the fourth quarter only of 2009. The increase was partially offset by cash flows from operations being used to repurchase common shares and repay debt during the year and by lower reinvestment rates.
Net realized gain on purchase of CENts was $89 million in 2009 as the Company purchased $187 million of the CENts for $93 million, which after deferred issuance costs and fees produced a gain of $89 million. No similar gain was recorded in 2010.
Other operating expenses included in Corporate and Other increased by $35 million, from $131 million in 2009 to $166 million in 2010. The increase was primarily due to the charges related to the Company’s voluntary plan, discussed in Overview above, higher personnel expenses, partially offset by lower consulting and professional fees related to the acquisition of Paris Re.
Income tax expense decreased by $133 million, from $262 million in 2009 to $129 million in 2010. The decrease in the income tax expense was primarily due to lower pre-tax income, with the Company’s taxable jurisdictions generating lower pre-tax income in 2010 compared to 2009, as well as a decrease in tax on the net realized gain on purchase of CENts of $31 million recorded in 2009. See Corporate and Other - Income Taxes below for more details.
Segment results are shown before intercompany transactions. Business reported in the Global (Non-U.S.) P&C and Global (Non-U.S.) Specialty Non-life sub-segments and the Life segment is, to a significant extent, denominated in foreign currencies and is reported in U.S. dollars at the average foreign exchange rates for each period. The U.S. dollar has fluctuated against the euro and other currencies during each of the three years presented and this should be considered when making year to year comparisons.
well as, higher downward premium adjustments in 2011. Notwithstanding the declining market conditions, higher retentions and the competition prevailing in certain lines of business and markets of this sub-segment, the Company was able to write business that met its portfolio objectives.
Gross and net premiums written decreased by 12% and net premiums earned decreased by 14% in 2010 compared to 2009. The decrease in gross and net premiums written and net premiums earned was primarily attributable to the agriculture line of business resulting from lower agricultural commodity price levels and higher retentions by cedants. Net premiums earned were also impacted by a decrease in the casualty line of business which was driven by timing differences related to the renewal of treaties and overall declining market conditions. These decreases in gross and net premiums written and net premiums earned were partially offset by lower downward premium adjustments related to prior periods reported by cedants in 2010 compared to 2009, primarily in the motor, agriculture and casualty lines.
net favorable loss development on prior accident years of $189 million, or 16.7 points on the loss ratio;
an increase of $24 million in net favorable prior year loss development.
net favorable loss development on prior accident years of $165 million, or 16.0 points on the loss ratio;
the inclusion of losses and loss expenses related to business written by Paris Re;
The net favorable loss development of $165 million included net favorable development for prior accident years in most lines of business, predominantly in the casualty and agriculture lines, while the motor line experienced adverse loss development for prior accident years of $8 million. Loss information provided by cedants in 2010 for prior accident years was lower than the Company expected (higher for motor) and included no individually significant losses or reductions but a series of attritional losses or reductions. Based on the Company’s assessment of this loss information, the Company decreased its expected ultimate loss ratios for most lines of business (increased for motor), which had the net effect of decreasing (increasing for motor) prior year loss estimates.
a decrease of approximately $168 million in losses and loss expenses resulting from a decrease in the book of business and exposure, predominantly in the agriculture line of business, a lower level of loss estimates recorded in the casualty line of business and normal fluctuations in profitability between periods; partially offset by
an increase in losses and loss expenses of $5 million related to Deepwater Horizon.
Acquisition costs and the acquisition ratio decreased in 2011 compared to 2010 as a result of the change in the mix of business towards the agriculture line, which generally carries a lower acquisition ratio compared to the other lines of business in this sub-segment, and lower profit commission adjustments reported by cedants in 2011 in various lines of business. This decrease in acquisition costs was partially offset by the impact of higher net premiums earned in 2011 compared to 2010.
The Global (Non-U.S.) P&C sub-segment is composed of short-tail business, in the form of property and proportional motor business, that represented approximately 84%, 82% and 84% of net premiums written in 2011, 2010 and 2009, respectively, and long-tail business, in the form of casualty and non-proportional motor business, that represented the balance of net premiums written.
Gross and net premiums written and net premiums earned increased by 34%, 32% and 25%, respectively, in 2010 compared to 2009. The increases in gross and net premiums written and net premiums earned resulted mainly from business written by Paris Re, which is included in this sub-segment’s results for a full year in 2010 compared to the fourth quarter only of 2009. The increases were also driven by an increase in upward premium adjustments, increases in treaty participations and new business written, predominantly in the property line of business.
large catastrophic losses related to the Thailand Floods, the February and June 2011 New Zealand Earthquakes, Japan Earthquake and Australian Floods of $149 million, or 19.7 points on the loss ratio;
a decrease in the book of business and exposure and declines in pricing.
The net favorable loss development of $116 million included net favorable development for prior accident years in all lines of business, and was most pronounced in the motor line. Loss information provided by cedants in 2011 for prior accident years was lower than the Company expected and included no individually significant losses or reductions but a series of attritional losses or reductions. Based on the Company’s assessment of this loss information, the Company decreased its expected ultimate loss ratios for all lines of business, which had the net effect of decreasing prior year loss estimates.
The decrease of $135 million in losses and loss expenses in 2011 compared to 2010 included:
a decrease of approximately $109 million in losses and loss expenses resulting from a decrease in the book of business and exposure, which was partially offset by the impact of declining pricing on the profitability of the business between periods;
net favorable loss development on prior accident years of $98 million, or 10.7 points on the loss ratio;
The increase of $310 million in losses and loss expenses in 2010 compared to 2009 included:
Acquisition costs decreased in 2011 compared to 2010 primarily as a result of lower net premiums earned. The acquisition ratio was comparable between 2011 and 2010.
The increase of $16 million in the technical result and the corresponding decrease in the technical ratio in 2011 compared to 2010 was primarily attributable to an increase of $18 million in net favorable prior year loss development and a decrease of $7 million, net of reinstatement premiums, in large catastrophic losses. These increases in the technical result were partially offset by declining profitability and lower net premiums earned between periods.
The Global (Non-U.S.) Specialty sub-segment is primarily comprised of lines of business that are considered to be either short or medium-tail. The short-tail lines consist of agriculture, energy and specialty property and represented 23%, 23% and 21% of net premiums written in 2011, 2010 and 2009, respectively. Aviation/space, credit/surety, engineering and marine are considered to have a medium-tail and represented 69%, 66% and 68%, respectively, of net premiums written, while specialty casualty is considered to be long-tail and accounted for the balance of net premiums written in this sub-segment in 2011, 2010 and 2009.
large catastrophic losses related to the Thailand Floods, U.S. tornadoes, Japan Earthquake, the February and June 2011 New Zealand Earthquakes and Australian Floods of $65 million, or 4.8 points on the loss ratio;
a decrease in the book of business and exposure and declines in pricing in certain lines of business.
The net favorable loss development of $129 million included net favorable loss development for prior accident years in most lines of business, except for the energy and engineering lines, which experienced
combined adverse loss development for prior accident years of $13 million. The adverse loss development for prior accident year in the energy and engineering lines was driven by the increase in upward premium adjustments reported by cedants in 2011, as described above. Loss information provided by cedants in 2011 for prior accident years was lower than the Company expected (higher for energy and engineering) and included no individually significant losses or reductions but a series of attritional losses or reductions. Based on the Company’s assessment of this loss information, the Company decreased (increased for energy and engineering) its expected ultimate loss ratios, which had the net effect of decreasing (increasing for energy and engineering) prior year loss estimates.
The decrease of $35 million in losses and loss expenses in 2011 compared to 2010 included:
a decrease of $72 million in losses and loss expenses related to Deepwater Horizon; and
a decrease of approximately $16 million in losses and loss expenses resulting from a decrease in the book of business and exposure, which was partially offset by a higher level of mid-sized loss activity and the impact of declining profitability of the business in certain lines of business between periods; partially offset by
a decrease of $42 million in net favorable prior year loss development. The decrease in net favorable prior year loss development in 2011 compared to 2010 was due to the increase in upward premium adjustments reported by cedants; and
lower loss estimates in the credit/surety line of business reflecting abating economic and credit conditions;
The net favorable loss development of $171 million reported in 2010 included net favorable development for prior accident years in all lines of business, except for the specialty casualty line, which experienced adverse loss development for prior accident years of $37 million. Loss information provided by cedants in 2010 for prior accident years was lower than the Company expected (higher for specialty casualty) and included no individually significant losses or reductions but a series of attritional losses or reductions. Based on the Company’s assessment of this loss information, the Company decreased its expected ultimate loss ratios for all lines of business (increased for specialty casualty), which had the net effect of decreasing (increasing for specialty casualty) prior year loss estimates.
The increase of $253 million in losses and loss expenses in 2010 compared to 2009 included:
an increase in losses and loss expenses of $126 million related to large catastrophic losses and Deepwater Horizon; and
Acquisition costs increased in 2010 compared to 2009 primarily as a result of higher net premiums earned. The acquisition ratio decreased primarily due to a shift from proportional to non-proportional business, which carries a lower acquisition cost ratio.
The slight decrease in the technical result and corresponding increase in the technical ratio in 2010 compared to 2009 was due to an increase in losses and loss expenses of $124 million, net of reinstatement premiums, related to large catastrophic losses and Deepwater Horizon, increasing loss trends in the specialty casualty line of business, a higher level of mid-sized loss activity and normal fluctuations in profitability between periods, partially offset by an increase of $63 million in net favorable prior year loss development and lower loss estimates in the credit/surety line of business.
During the January 1, 2012 renewals, the Company generally observed a fragmented market with meaningful improvements on loss-affected business and catastrophe exposed zones, and most other lines showing minor improvement or holding steady. Overall, the expected premium volume from the Company’s January 1, 2012 renewal, at constant foreign exchange rates, increased compared to the prior year renewal as a result of the Company writing new business and increasing its participation on certain existing treaties. Management expects a continuation of the observed trends in pricing and terms and conditions during the remainder of 2012.
The Catastrophe sub-segment writes business predominantly on a non-proportional basis and is exposed to volatility resulting from catastrophic losses. Thus, profitability in any one year is not necessarily predictive of future profitability. The results for 2011, 2010 and 2009 demonstrate this volatility. The results for 2011 contained a significantly higher level of losses related to the 2011 catastrophic events, and the results for 2010 included a large level of catastrophic losses related to the Chile Earthquake and 2010 New Zealand Earthquake, while the results for 2009 included no large catastrophic losses. The varying amounts of catastrophic losses significantly impacted the technical result and ratio and affected year over year comparisons as discussed below.
net favorable loss development on prior accident years of $96 million, or 16.8 points on the loss ratio;
The increase of $1,066 million in losses and loss expenses in 2011 compared to 2010 included:
an increase of $52 million in net favorable prior year loss development; and
a decrease of approximately $113 million in losses and loss expenses resulting from a decrease in losses and loss expenses related to business written by Paris Re, a lower level of mid-sized loss activity and normal fluctuations in profitability between periods.
large catastrophic losses related to the Chile Earthquake, 2010 New Zealand Earthquake and large losses related to an aggregate contract covering losses in Australia and New Zealand of $280 million, or 41.2 points on the loss ratio;
The net favorable loss development of $44 million was primarily due to favorable loss emergence, as losses reported by cedants in 2010 for prior accident years were lower than the Company expected. Based on the Company’s assessment of this loss information, the Company decreased its expected ultimate loss ratio, which had the effect of decreasing the level of prior year loss estimates.
Acquisition costs increased in 2010 compared to 2009 primarily as a result of higher net premiums earned. The acquisition ratio in 2010 was comparable to 2009.
During the January 1, 2012 renewals, the Company observed some significant pricing increases, notably in those regions recently affected by significant loss experience. The expected premium volume from the Company’s January 1, 2012 renewal, at constant foreign exchange rates, decreased compared to the prior year renewal primarily as a result of the Company’s decision to continue reducing catastrophe exposures and limits in all markets in order to rebalance its portfolio. Management expects a continuation of these reductions in catastrophe exposures and the trends for the remainder of 2012.
The following table provides the components of the allocated underwriting result for this segment (in millions of U.S. dollars):
Gross and net premiums written increased by 26% and net premiums earned increased by 27% in 2010 compared to 2009. The increases in gross and net premiums written and net premiums earned were primarily driven by new business written in the longevity line, and, to a lesser extent, the mortality line.
The allocated underwriting result increased by $19 million, from $20 million in 2010 to $39 million in 2011. The increase in the allocated underwriting result was due to a decrease of $13 million in net adverse prior year loss development, increased profitability generated from new and existing business and a decrease in other operating expenses, which were partially offset by a decrease in net investment income.
The decrease in the net adverse prior year loss development of $13 million in 2011, reflected $1 million of net favorable prior year loss development in 2011 compared to $12 million of net adverse prior year loss development in 2010. The modest net favorable prior year loss development of $1 million in 2011 was the net result of favorable prior year loss development of $6 million on certain mortality treaties and $5 million related to the GMDB business, which were almost entirely offset by adverse prior year loss development related to disability riders on certain short-term non-proportional treaties in the mortality line following the receipt of updated information from cedants. The net adverse prior year loss development of $12 million in 2010 is described below.
The increase in the net adverse prior year loss development of $27 million in 2010, reflected $12 million of net adverse prior year loss development in 2010 compared to $15 million of net favorable prior year loss development in 2009. The net adverse prior year loss development of $12 million in 2010 was primarily driven by adverse development of $23 million due to an improvement in the mortality trend related to an ILA treaty in the longevity line and adverse development on certain mortality treaties. This adverse development was partially offset by favorable prior year loss development of $17 million resulting from the GMDB business, where the payout is linked to the performance of underlying capital market assets, driven by new cedant information and updated assumptions. The net favorable prior year loss development of $15 million in 2009 was mainly driven by the GMDB business.
The distribution of net premiums written by line of business for the years ended December 31, 2011, 2010 and 2009 was as follows:
Agriculture: the increase in the distribution of net premiums written in 2011 compared to 2010 was driven by increased demand, higher agricultural commodity prices and lower downward premium adjustments. The decrease in the distribution of net premiums written in 2010 compared to 2009 was primarily due to lower commodity prices and higher cedants’ retentions.
Life: the increase in the distribution of net premiums written between 2011, 2010 and 2009 was primarily due to the decrease in net premiums written in most of the Company’s Non-life lines of business and an increase in business written in the longevity and mortality lines, as described above.
The Company typically writes business on either a proportional or non-proportional basis. On proportional business, the Company shares proportionally in both the premiums and losses of the cedant. On non-proportional business, the Company is typically exposed to loss events in excess of a predetermined dollar amount or loss ratio. In both proportional and non-proportional business, the Company typically reinsures a large group of primary insurance contracts written by the ceding company. In addition, the Company writes business on a facultative basis. Facultative arrangements are generally specific to an individual risk and can be written on either a proportional or non-proportional basis. Generally, the Company has more influence over pricing, as well as terms and conditions, in non-proportional and facultative arrangements.
The distribution of gross premiums written by reinsurance type for the years ended December 31, 2011, 2010 and 2009 was as follows:
to the fourth quarter only of 2009. The increase in the distribution to non-proportional and facultative in 2010 is due to Paris Re’s business, which was comprised of a higher percentage of these treaty types than the Company’s other Non-life business. The reduction in the proportional business written in the Non-life segment in 2010 was also driven by the decreases in the agriculture line of business, as described above.
Based on renewal information from cedants and brokers, and assuming that similar conditions experienced during the January 1, 2012 renewals continue throughout the year and based on constant foreign exchange rates, Management expects the distribution of gross premiums written by geographic region in 2012 to be comparable to 2011.
The Company generates its gross premiums written both through brokers and through direct relationships with cedants. The percentage of gross premiums written by production source for the years ended December 31, 2011, 2010 and 2009 was as follows:
Based on renewal information from cedants and brokers, and assuming that similar conditions experienced during the January 1, 2012 renewals continue throughout the year, Management expects the production source of gross premiums written in 2012 to be comparable to 2011.
Net investment income decreased in 2011 compared to 2010 primarily due to:
a decrease in net investment income from fixed maturities, short-term investments and cash and cash equivalents primarily due to lower reinvestment rates, which was partially offset by purchases of higher yielding investments and the reinvestment of cash flows from operations; and
a decrease in net investment income from funds held - directly managed primarily related to the lower average balance in the funds held - directly managed account, which was related to the release of assets following the Endorsement (see Funds Held - Directly Managed below) to the quota share retrocessional agreement with Colisée Re in February 2011 and the run-off of the underlying liabilities. The assets released from the funds held - directly managed account were reinvested in the Company’s fixed maturity portfolio at lower reinvestment rates; partially offset by
Net investment income increased in 2010 compared to 2009 primarily due to:
an increase in net investment income from fixed maturities and from funds held - directly managed due to the inclusion of Paris Re’s net investment income for a full year in 2010 compared to the fourth quarter only of 2009;
an increase in net investment income on funds held and other as a result of higher investment income reported by cedants and a higher level of other invested assets held in 2010, on average, compared to 2009; and
Assuming constant foreign exchange rates, Management expects net investment income to decrease in 2012 compared to 2011 primarily due to lower reinvestment rates with low government yields expected to continue throughout 2012. Management expects this decrease to be partially offset by expected positive cash flow from operations (including net investment income).
Net realized and unrealized investment gains decreased by $335 million, from $402 million in 2010 to $67 million in 2011. The net realized and unrealized investment gains of $67 million in 2011 were primarily due to declining U.S. and European risk-free interest rates, which were partially offset by widening credit spreads, realized and unrealized losses on treasury note futures and losses on insurance-linked securities impacted by the Japan Earthquake. Net realized and unrealized investment gains of $67 million in 2011 primarily consisted of net realized investment gains on fixed maturities and short-term investments and equities of $248 million and the change in net unrealized investment gains on fixed maturities and short-term investments of $128 million, which were partially offset by net realized investment losses on other invested assets (mainly related to treasury note futures) of $176 million and the change in net unrealized investment losses on equities and other invested assets of $148 million.
Net realized and unrealized investment gains on funds held - directly managed of $11 million and $27 million in 2011 and 2010, respectively, primarily related to net realized and the change in net unrealized investment gains on fixed maturities and short-term investments in the segregated investment portfolio underlying the funds held - directly managed account and were due to decreases in U.S. and European risk-free interest rates.
Net realized and unrealized investment gains decreased by $189 million, from $591 million in 2009 to $402 million in 2010. The net realized and unrealized investment gains of $402 million in 2010 were primarily due to lower U.S. and European risk-free interest rates, increases in worldwide equity markets and modestly narrower credit spreads. Net realized and unrealized investment gains of $402 million in 2010 consisted of net realized investment gains on fixed maturities, short-term investments and equities of $218 million, the change in net unrealized investment gains on fixed maturities, short-term investments, equities and other invested assets of $212 million, net realized and unrealized investment gains on funds held - directly managed and net other realized and unrealized gains of $40 million, which were partially offset by net realized losses on other invested assets of $68 million.
Net realized losses and the change in net unrealized gains on other invested assets were a combined loss of $64 million in 2010 primarily related to realized and unrealized losses on treasury note futures, which were partially offset by net unrealized gains on certain non-publicly traded investments and net realized and unrealized gains on total return swaps. The change in net unrealized gains and net realized losses on other invested assets were a combined gain of $22 million in 2009 and primarily related to net unrealized gains on total return swaps and treasury note futures and net realized gains on equity futures, which were partially offset by realized losses on treasury note futures and credit default swaps.
Net realized and unrealized investment gains on funds held - directly managed of $27 million in 2010 primarily relate to changes in unrealized gains on fixed maturities and short-term investments in the segregated investment portfolio underlying the funds held - directly managed account and were due to decreases in risk-free rates.
The Company’s interest in the results of equity investments decreased from a gain of $13 million in 2010 to a loss of $6 million in 2011 primarily due to net unrealized and realized losses and write-downs on several unrelated private placement and limited partnership investments.
Technical result and other income included in Corporate and Other was $9 million combined in 2011, compared to $3 million combined in 2010. The increase of $6 million in 2011 compared to 2010 was primarily related to an increase in the technical result for insurance-linked securities and was driven by a higher level of net premiums earned.
Technical result and other income included in Corporate and Other was $3 million combined in 2010, compared to $17 million combined in 2009. The decrease of $14 million in 2010 compared to 2009 was primarily related to a decline in the technical result for insurance-linked securities and was driven by lower net premiums earned and a lower level of net favorable prior year loss development.
The Company’s total other operating expenses for the years ended December 31, 2011, 2010 and 2009 were as follows (in millions of U.S. dollars):
Other operating expenses represent 9.4%, 11.3% and 10.5% of net premiums earned (both Non-life and Life) for the years ended December 31, 2011, 2010 and 2009, respectively. Other operating expenses included in Corporate and Other were $99 million, $166 million and $131 million, of which $83 million, $151 million and $117 million are related to corporate activities for the years ended December 31, 2011, 2010, and 2009, respectively.
Other operating expenses decreased by 19% in 2011 compared to 2010. The decrease was primarily due to a charge of $41 million in 2010 related to the Company’s voluntary plan, lower personnel costs (including lower share-based compensation expenses) and lower costs related to Paris Re’s operations following its integration into the Company’s operations. These decreases in other operating expenses were partially offset by foreign exchange fluctuations, which increased other operating expenses by 5% due to the weakening of the U.S. dollar in 2011 compared to 2010.
The increase in other operating expenses of 25% in 2010 compared to 2009 was primarily due to the inclusion of Paris Re’s operating expenses for a full year in 2010 compared to the fourth quarter only of 2009, a charge of $41 million in 2010 related to the Company’s voluntary plan, and increased personnel expenses, which were partially offset by lower consulting and professional fees related to the Paris Re acquisition.
The Company’s effective income tax rate, which we calculate as income tax expense or benefit divided by net income or loss before taxes, may fluctuate significantly from period to period depending on the geographic distribution of pre-tax net income or loss in any given period between different jurisdictions with comparatively higher tax rates and those with comparatively lower tax rates. The geographic distribution of pre-tax net income or loss can vary significantly between periods due to, but not limited to, the following factors: the business mix of net premiums written and earned; the geographic location, quantum and nature of net losses and loss expenses incurred; the quantum and geographic location of other operating expenses, net investment income, net realized and unrealized investment gains and losses; and the quantum of specific adjustments to determine the income tax basis in each of the Company’s operating jurisdictions. In addition, a significant portion of the Company’s gross and net premiums are currently written and earned in Bermuda, a non-taxable jurisdiction, including the majority of the Company’s catastrophe business, which can result in significant volatility to the Company’s pre-tax net income or loss in any given period.
The Company purchased, as part of its acquisition of Paris Re, an investment portfolio and a funds held - directly managed account. The discussion of the acquired Paris Re investment portfolio is included in the discussion of Investments below. The discussion of the segregated investment portfolio underlying the funds held - directly managed account is included separately in Funds Held - Directly Managed below.
Capital funds represent shareholder capital of the Company and are invested in a diversified portfolio with the objective of maximizing investment return, subject to prudent risk constraints. Capital funds contain most of the asset classes typically viewed as offering a higher risk and higher return profile, subject to risk assumption and portfolio diversification guidelines which include issuer and sector concentration limitations. Capital funds may be invested in investment grade and below investment grade fixed income securities, preferred and common stocks, private placement equity and bond investments, emerging markets and high-yield fixed income securities and certain other specialty asset classes. The Company believes that an allocation of a portion of its investments to equities is both prudent and desirable, as it helps to achieve broader asset diversification (lower risk) and maximizes the portfolio’s total return over time.
At December 31, 2011, the capital funds totaled $6.9 billion, or 38% of Company’s total invested assets, and were generally comprised of the assets listed above, with 45% invested in investment grade fixed income securities.
realized and unrealized gains related to the investment portfolio of $56 million primarily resulting from an increase in the fixed maturity and short-term investment portfolios of $285 million, reflecting lower U.S. and European risk-free interest rates, which were partially offset by widening credit spreads. These realized and unrealized gains were reduced by decreases in other invested assets and the equity portfolio of $233 million, primarily driven by realized losses on treasury note futures (see discussion related to duration below); partially offset by
dividend payments on common and preferred shares totaling $206 million; and
On January 13, 2012, Standard & Poor’s announced credit downgrades of nine European sovereign governments (the Eurozone downgrade). The Eurozone downgrade did not have a significant impact on the Company’s investment portfolio with the average credit quality remaining at AA, comparable to the position at December 31, 2011. While other rating agencies did not take similar action, it is the Company’s policy to use Standard & Poor’s ratings, when available, to rate its investments. See Ratings Distribution below for further discussion of the impact of the Eurozone downgrade.
The Company’s investment portfolio generated a positive total accounting return (calculated based on the carrying value of all investments in local currency) of 4.2% and 6.4% for years ended December 31, 2011 and 2010, respectively. The lower total accounting return in the year ended December 31, 2011 was mainly due to a relatively lower level of risk-free rates compared to 2010, and relatively flat equity markets in 2011 compared to improving worldwide equity markets in 2010.
The cost, gross unrealized gains, gross unrealized losses and fair value of fixed maturities, short-term investments and equities classified as trading at December 31, 2011 and 2010 were as follows (in millions of U.S. dollars):
The non-U.S. sovereign government, supranational and government related category includes obligations of non-U.S. sovereign governments, political subdivisions, agencies and supranational debt. At December 31, 2011, 82%, 15% and 3% of this category was rated AAA, AA and A, respectively. Non-U.S. sovereign government obligations comprised 85% of this category, of which 91% were rated AAA. The largest three issuers (Germany, Canada and France) accounted for 81% of non-U.S. sovereign government obligations at December 31, 2011, with the next four largest issuers (Belgium, Singapore, Austria and the Netherlands) accounting for 18% of the remaining 19% of non-U.S. sovereign government obligations. At December 31, 2011, the remaining 15% of this category was comprised of investment grade Canadian government related obligations, non-U.S. government agency obligations (related to France, Canada and South Korea) and non-U.S. government supranational debt
The asset-backed securities category includes U.S. asset-backed securities, which accounted for 70% at December 31, 2011. Of the U.S. asset-backed securities, 35% were rated investment grade (BBB- or higher) by Standard & Poor’s (or estimated equivalent) and 65% were not rated. Non-U.S. asset-backed securities accounted for the remainder of this category, all of which were rated A- or higher by Standard & Poor’s (or estimated equivalent).
did not have direct exposure to these types of securities in its own portfolio at December 31, 2011, other than $22 million of investments in distressed asset vehicles (included in other invested assets). At December 31, 2011, the Company’s U.S. residential mortgage-backed securities included approximately $212 million (7% of U.S. residential mortgage-backed securities) of collateralized mortgage obligations, where the Company deemed the entry point and price of the investment to be attractive. At December 31, 2011, the remaining 7% of this category was comprised of non-U.S. residential mortgage-backed securities, of which 86% were rated AAA and substantially all (more than 99%) were rated investment grade (BBB- or higher) by Standard & Poor’s (or estimated equivalent).
Other mortgaged-backed securities includes U.S. commercial mortgage-backed securities and non-U.S. commercial mortgage backed securities, which accounted for 79% and 21% of this category at December 31, 2011, respectively. Approximately 97% of this category was rated investment grade (BBB- or higher) by Standard & Poor’s (or estimated equivalent).
Publicly traded common stocks (including public exchange traded funds (ETFs)) comprised 73% of equities at December 31, 2011. The remaining 27% of this category consisted primarily of funds holding fixed income securities, of which 97% (or $237 million) was comprised of emerging markets funds. Of the publicly traded common stocks and ETFs, U.S. issuers represented 82% at December 31, 2011. At December 31, 2011, the ten largest common stocks accounted for 17% of equities (excluding equities held in ETFs and funds holding fixed income securities) and no single common stock issuer accounted for more than 3% of total equities (excluding equities held in ETFs and funds holding fixed income securities) or more than 1% of the Company’s total investments and cash. At December 31, 2011, the largest publicly traded common stock exposures by economic sector were 19% in consumer noncyclical, 13% in energy, 12% in finance, 11% in technology and 10% in communications. At December 31, 2011, the Company did not have any exposure to equities issued by finance sector institutions based in the peripheral EU countries (Portugal, Italy, Ireland, Greece and Spain).
The distribution of fixed maturities and short-term investments at December 31, 2011, by contractual maturity date, is shown below (in millions of U.S. dollars). Actual maturities may differ from contractual maturities because certain borrowers have the right to call or prepay certain obligations with or without call or prepayment penalties.
The following table provides a breakdown of the credit quality of the Company’s fixed maturities and short-term investments at December 31, 2011:
The decrease in the Company’s AAA rated securities, as a percentage of its total fixed income and short-term investments portfolio, from 51% at December 31, 2010 to 25% at December 31, 2011, and the corresponding increase in AA rated securities from 9% at December 31, 2010 to 37% at December 31, 2011, largely reflects the downgrade of U.S. government securities in August 2011, as discussed above. The overall average credit quality of the Company’s fixed income and short-term investments portfolio at December 31, 2011 and 2010 was AA.
For total return swaps within the principal finance portfolio, the Company uses internal valuation models to estimate the fair value of these derivatives and develops assumptions that require significant judgment, such as the timing of future cash flows, credit spreads and the general level of interest rates. For interest rate swaps, the Company uses externally modeled quoted prices that use observable market inputs. At December 31, 2011, the fair value of the Company’s assumed exposure in the form of total return swaps and interest rate swaps was an unrealized gain of $7 million and an unrealized loss of $8 million, respectively. At December 31, 2011, the notional value of the Company’s assumed exposure in the form of total return swaps was $116 million.
The Company continues to utilize credit default swaps to mitigate the risk associated with certain of its underwriting obligations, most notably in the credit/surety line, to replicate investment positions or to manage market exposures and to reduce the credit risk for specific fixed maturities in its investment portfolio. The counterparties to the Company’s credit default swaps are all highly rated financial institutions, rated A- or better by Standard & Poor’s at December 31, 2011. The Company uses externally modeled quoted prices that use observable market inputs to estimate the fair value of these swaps. Excluding the credit default swaps within the principal finance portfolio described above, the fair value of these credit default swaps was insignificant at December 31, 2011, and the notional value was comprised of $95 million of credit protection purchased and $5 million of credit exposure assumed.
The Company has entered into various weather derivatives and longevity total return swaps for which the underlying risks reference parametric weather risks and longevity risks, respectively. The Company uses internal valuation models to estimate the fair value of these derivatives and develops assumptions that require significant judgment, except for exchange traded weather derivatives. In determining the fair value of exchange traded weather derivatives, the Company uses quoted market prices. At December 31, 2011, the combined fair values of the weather derivatives and the longevity total return swaps was insignificant, while their combined notional values were $136 million.
The Company uses exchange traded treasury note futures for the purposes of managing portfolio duration. The Company also uses equity futures to replicate equity investment positions. At December 31, 2011, the fair values of the treasury note and equity futures were insignificant, while the notional values were a net short position of $2,486 million and insignificant, respectively.
The Company utilizes foreign exchange forward contracts and foreign currency option contracts as part of its overall currency risk management and investment strategies. At December 31, 2011, the combined fair value of foreign exchange forward contracts and foreign currency option contracts was an unrealized gain of $3 million. The Company utilizes TBAs as part of its overall investment strategy and to enhance investment performance. TBAs represent commitments to purchase future issuances of U.S. government agency mortgage- backed securities. For the period between purchase of a TBA and issuance of the underlying security, the Company’s position is accounted for as a derivative. The Company’s policy is to maintain designated cash balances at least equal to the amount of outstanding TBA purchases. At December 31, 2011, the fair value of TBAs was insignificant and the notional value was $104 million.
At December 31, 2011, the Company’s other invested assets did not include any exposure to peripheral EU countries (Portugal, Italy, Ireland, Greece and Spain) and included direct exposure to mutual fund investments in other EU countries of less than $8 million. The counterparties to the Company’s credit default swaps, foreign exchange forward contracts and foreign currency option contracts include British, French, and German finance sector institutions rated A- or better by Standard & Poor’s and the Company manages its exposure to individual institutions. The Company also has exposure to the euro related to the utilization of foreign exchange forward contracts and other derivative financial instruments in its hedging strategy (see Quantitative and Qualitative Disclosures About Market Risk-Foreign Currency Risk in
Acquisition costs, primarily brokerage fees, commissions and excise taxes, which vary directly with, and are related to, the acquisition of reinsurance contracts, are capitalized and charged to expense as the related premium is earned.
Other invested assets consist primarily of investments in non-publicly traded companies, private placement equity and fixed maturity investments, derivative financial instruments and other specialty asset classes. Entities in which the Company has an ownership of more than 20% and less than 50% of the voting shares, and limited partnerships in which the Company has more than a minor interest, are accounted for using the equity method. Other invested assets are recorded based on valuation techniques depending on the nature of the individual assets. The valuation techniques used by the Company are generally commensurate with standard valuation techniques for each asset class.
The Company elected the fair value option as of the Acquisition Date of Paris Re for substantially all of the fixed maturities, short-term investments and certain other invested assets in the segregated investment portfolio underlying the funds held - directly managed account, and accordingly, all changes in the fair value of the segregated investment portfolio underlying the funds held - directly managed account subsequent to the Acquisition Date are recorded in net realized and unrealized investment gains and losses in the Consolidated Statements of Operations.
The derivatives employed by the Company to hedge currency exposure related to fixed income securities and derivatives employed by the Company to hedge currency exposure related to other reinsurance assets and liabilities, except for any hedges of the Company’s net investment in non-U.S. dollar functional currency subsidiaries and branches, are not designated as hedges. The changes in fair value of these non-designated hedges are recognized in net foreign exchange gains and losses in the Consolidated Statements of Operations.
foreign currency option contracts and foreign exchange forward contracts which are included in net foreign exchange gains and losses in the Consolidated Statements of Operations. Margin balances required by counterparties, which are equal to a percentage of the total value of open futures contracts, are included in cash and cash equivalents.
The Company also has three indirect wholly-owned subsidiaries, PartnerRe Finance A LLC, PartnerRe Finance B LLC and PartnerRe Finance II Inc., that are considered to be VIEs, which were utilized to issue the Company’s Senior Notes and Capital Efficient Notes (CENts). The Company determined that it was not the primary beneficiary of any of these VIEs at December 31, 2011. As a result, the Company has not consolidated PartnerRe Finance A LLC, PartnerRe Finance B LLC and PartnerRe Finance II Inc., and has reflected the debt issued by the Company related to the Senior Notes and CENts as liabilities in the Consolidated Balance Sheets (see Note 11). The interest on the debt related to the Senior Notes and CENts is reported as interest expense in the Consolidated Statements of Operations.
In May 2011, the FASB issued new accounting guidance, which updates the existing guidance, related to fair value measurement and disclosures. The guidance clarifies or changes the application of certain existing requirements and does not extend the use of fair value. The guidance also requires additional disclosures including details of transfers between Levels 1 and 2 of the fair value hierarchy and increased quantitative and qualitative information relating to fair value measurements categorized under Level 3 of the fair value hierarchy. The guidance is effective for interim and annual periods beginning after December 15, 2011. The Company does
In December 2011, the FASB issued new guidance aimed at enhancing disclosures about financial and derivative instruments and transactions subject to offsetting arrangements. The guidance is effective for interim and annual periods beginning on or after January 1, 2013. The Company is currently evaluating the impact of the adoption of this guidance on its disclosures.
The fair value hierarchy prioritizes the inputs to valuation techniques used to measure fair value by maximizing the use of observable inputs and minimizing the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing an asset or liability based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about what market participants would use in pricing the asset or liability based on the best information available in the circumstances. The level in the hierarchy within which a given fair value measurement falls is determined based on the lowest level input that is significant to the measurement.
The Company’s financial instruments that it measures at fair value using Level 3 inputs generally include: inactively traded fixed maturities including U.S. state, territory and municipal bonds; privately
The Company’s financial instruments measured at fair value include investments classified as trading securities, certain other invested assets and the segregated investment portfolio underlying the funds held - directly managed account (see Notes 4 and 5). At December 31, 2011 and 2010, the Company’s financial instruments measured at fair value were categorized between Levels 1, 2 and 3 as follows (in thousands of U.S. dollars):
In addition to the investments underlying the funds held - directly managed account held at fair value of $1,057.6 million and $1,542.9 million at December 31, 2011 and 2010, respectively, the funds held - directly managed account also included cash and cash equivalents, carried at fair value, of $176.3 million and $129.2 million, respectively, and accrued investment income of $13.7 million and $19.9 million, respectively. At December 31, 2011 and 2010, the aggregate carrying amounts of items included in the funds held - directly managed account that the Company did not measure at fair value were $20.4 million and $80.1 million, respectively, which primarily related to other assets and liabilities held by Colisée Re related to the underlying business, which are carried at cost (see Note 5).
During the years ended December 31, 2011 and 2010, there were no significant transfers between Level 1 and Level 2.
The following tables are reconciliations of the beginning and ending balances for all financial instruments measured at fair value using Level 3 inputs for the years ended December 31, 2011 and 2010 (in thousands of U.S. dollars):
(2) The Company’s policy is to recognize the transfers between the hierarchy levels at the beginning of the period.
During the year ended December 31, 2011, a catastrophe bond (included within corporate fixed maturities) with a fair value of $40.2 million was transferred from Level 2 into Level 3. The transfer into Level 3 was due to the lack of observable market inputs at March 31, 2011, leading the Company to apply inputs that were not directly observable. The catastrophe bond matured during the year ended December 31, 2011 with a realized loss of $39.2 million.
During the year ended December 31, 2010, certain fixed maturities with a fair value of $17.9 million were transferred from Level 3 into Level 2. The reclassifications to Level 2 consisted of U.S. municipal (included within U.S. states, territories and municipalities), corporate and student loan (included within asset-backed securities) fixed maturities. The transfers into Level 2 were due to the availability of quoted prices for similar assets in active markets used for valuation at December 31, 2010, resulting from the continued recovery of the financial markets. In addition, during the year ended December 31, 2010, certain derivatives with a fair value in a net liability position of $8.2 million were transferred out of Level 3 into Level 2 due to the availability of observable inputs.
U.S. government and government sponsored enterprises-U.S. government and government sponsored enterprises securities consist primarily of bonds issued by the U.S. Treasury, corporate debt securities issued by the Federal National Mortgage Association, the Federal Home Loan Bank and the Private Export Funding Corporation. These securities are generally priced by independent pricing services. The independent pricing services may use actual transaction prices for securities that have been actively traded. For securities that have not been actively traded, each pricing source has its own proprietary method to determine the fair value, which may incorporate option adjusted spreads (OAS), interest rate data and market news. The Company generally classifies these securities in Level 2.
Corporate-Corporate securities consist primarily of bonds issued by U.S. and foreign corporations covering a variety of industries and issuing countries. These securities are generally priced by independent pricing services and brokers. The pricing provider incorporates information including credit spreads, interest rate data and market news into the valuation of each security. The Company generally classifies these securities in Level 2. When a corporate security is inactively traded or the valuation model uses unobservable inputs, the Company classifies the security in Level 3.
Asset-backed securities-Asset-backed securities primarily consist of bonds issued by U.S. and foreign corporations that are backed by student loans, automobile loans, credit card receivables, equipment leases, and special purpose financing. With the exception of special purpose financing, these asset-backed securities are generally priced by independent pricing services and brokers. The pricing provider applies dealer quotes and other available trade information, prepayment speeds, yield curves and credit spreads to the valuation. The Company generally classifies these securities in Level 2. Special purpose financing securities are generally inactively traded and are priced based on valuation models using unobservable inputs, including cash flow assumptions and credit spreads. The Company generally classifies these securities in Level 3.
Residential mortgage-backed securities-Residential mortgage-backed securities primarily consist of bonds issued by the Government National Mortgage Association, the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, as well as private, non-agency issuers. With the exception of private, non-agency issuers, these residential mortgage-backed securities are generally priced by independent pricing services and brokers. When current market trades are not available, the pricing provider will employ proprietary models with observable inputs including other trade information, prepayment speeds, yield curves and credit spreads. The Company generally classifies these securities in Level 2.
In general, the methods employed by the independent pricing services to determine the fair value of the securities that have not actively traded involve the use of “matrix pricing” in which the independent pricing source applies the credit spread for a comparable security that has traded recently to the current yield curve to determine a reasonable fair value. The Company uses a pricing service ranking to consistently select the most appropriate pricing service in instances where it receives multiple quotes on the same security. When fair values are unavailable from these independent pricing sources, quotes are obtained directly from broker-dealers who are active in the corresponding markets. Most of the Company’s fixed maturities are priced from the pricing services or dealer quotes. The Company will typically not make adjustments to prices received from pricing services or dealer quotes; however, in instances where the quoted external price for a security uses significant unobservable inputs, the Company will categorize that security as Level 3. The Company’s inactively traded fixed maturities are classified as Level 3. For all fixed maturity investments, the bid price is used for estimating fair value.
The Company’s exchange traded derivatives, such as futures and certain weather derivatives, are generally categorized as Level 1 as their fair values are quoted prices in active markets. The Company’s foreign exchange forward contracts, foreign currency option contracts, non-exchange traded futures, credit default swaps, total return swaps, interest rate swaps and TBAs are generally categorized as Level 2 within the fair value hierarchy and are priced by independent pricing services.
To validate prices, the Company will compare them to benchmarks, where appropriate, or to the business results generally within that asset class and specifically to those particular assets. In addition, the fair value measurements of all Level 3 investments are presented to, and peer reviewed by, an internal valuation committee that the Company has established.
the fair value of the Senior Notes was calculated based on internal models using observable inputs based on the aggregate principal amount outstanding of $250 million from PartnerRe Finance A LLC and $500 million from PartnerRe Finance B LLC at December 31, 2011 and 2010; and
the fair value of the CENts was calculated based on internal models using observable inputs based on the aggregate principal amount outstanding from PartnerRe Finance II Inc. of $63 million at December 31, 2011 and 2010.
The carrying values and fair values of the Senior Notes and CENts at December 31, 2011 and 2010 were as follows (in thousands of U.S. dollars):
(1) PartnerRe Finance A LLC and PartnerRe Finance B LLC, the issuers of the Senior Notes, do not meet consolidation requirements under U.S. GAAP. Accordingly, the Company shows the related intercompany debt of $750 million in its Consolidated Balance Sheets at December 31, 2011 and 2010.
(2) PartnerRe Finance II Inc., the issuer of the CENts, does not meet consolidation requirements under U.S. GAAP. Accordingly, the Company shows the related intercompany debt of $71 million in its Consolidated Balance Sheets at December 31, 2011 and 2010.
The cost, gross unrealized gains, gross unrealized losses and fair value of investments classified as trading securities at December 31, 2011 and 2010 were as follows (in thousands of U.S. dollars):
The change in net unrealized gains or losses on investments reflected in change in other accumulated comprehensive (loss) income for the years ended December 31, 2011, 2010 and 2009 was $(0.9) million, $(4.9) million and $8.1 million, respectively. The related tax impact for all years was $nil.
The components of the net realized and unrealized investment gains for the years ended December 31, 2011, 2010 and 2009 were as follows (in thousands of U.S. dollars):
Other than the funds held - directly managed account, the Company generally earns investment income on funds held by reinsured companies based upon a predetermined interest rate, either fixed contractually at the inception of the contract or based upon a recognized index (e.g., LIBOR). Interest rates ranged from 2.0% to 5.0% for the year ended December 31, 2011 and from 3.0% to 6.0% for the year ended December 31, 2010. See Note 5 for additional information on the funds held - directly managed account.
At December 31, 2011 and 2010, approximately $21.3 million and $271.2 million, respectively, of cash and cash equivalents and approximately $2,314.7 million and $1,679.2 million, respectively, of securities were deposited, pledged or held in escrow accounts in favor of ceding companies and other counterparties or government authorities to comply with reinsurance contract provisions and insurance laws.
Included within Accounts payable, accrued expenses and other in the Consolidated Balance Sheets at December 31, 2011 and 2010 were amounts of gross receivable balances for securities sold and gross payable balances for securities purchased as follows (in thousands of U.S. dollars):
The cost, gross unrealized gains, gross unrealized losses and fair value of investments underlying the funds held - directly managed account at December 31, 2011 and 2010 were as follows (in thousands of U.S. dollars):
(1) Cost is based on the fair value at the date of the acquisition of Paris Re and subsequently adjusted for amortization of fixed maturities and short-term investments.
The components of net investment income underlying the funds held - directly managed account for the years ended December 31, 2011 and 2010 and for the period from October 2, 2009 to December 31, 2009 were as follows (in thousands of U.S. dollars):
The Company utilizes foreign currency option contracts to mitigate foreign currency risk. The Company uses exchange traded treasury note futures contracts to manage portfolio duration and commodity and equity futures to hedge certain investments. The Company also uses commodities futures to replicate the investment return on certain benchmarked commodities.
The Company also assumes credit risk through credit default swaps to replicate investment positions. The original term of these credit default swaps is generally five years or less and there are no recourse provisions associated with these swaps. While the Company would be required to perform under exposure assumed through credit default swaps in the event of a default on the underlying issuer, no issuer was in default at December 31, 2011. The counterparties on the Company’s assumed credit default swaps are all highly rated financial institutions.
The fair values and the related notional values of derivatives included in the Company’s Consolidated Balance Sheets at December 31, 2011 and 2010 were as follows (in thousands of U.S. dollars):
The fair value of all derivatives at December 31, 2011 and 2010 is recorded in Other invested assets in the Company’s Consolidated Balance Sheets. At December 31, 2011, none of the Company’s derivatives were designated as hedges. The effective portion of net investment hedging derivatives recognized in accumulated other comprehensive income at December 31, 2010 was a loss of $1.2 million.
The following tables show the Company’s goodwill and intangible assets at December 31, 2011 and 2010 (in thousands of U.S. dollars):
At December 31, 2011 and 2010, the allocation of the goodwill among the Company’s segments and sub-segments was as follows (in thousands of U.S. dollars):
Within the Company’s North America sub-segment, the Company reported net favorable loss development for prior accident years in 2011, 2010 and 2009. The net favorable loss development in 2011 included net favorable development for prior accident years in most lines of business, predominantly in the casualty line, while the credit/surety and motor lines experienced combined adverse loss development for prior accident years of $11 million. The
net favorable loss development in 2010 included net favorable development for prior accident years in most lines of business, predominantly in the casualty and agriculture lines, while the motor line of business experienced adverse loss development for prior accident years of $8 million. The net favorable loss development in 2009 included net favorable development for prior accident years in most lines of business, predominantly in the casualty line, while the multiline line experienced adverse loss development for prior accident years of $8 million. The net favorable loss development in each year was primarily due to favorable loss emergence. Loss information provided by cedants during each of these years for prior accident years was lower than the Company expected and included no individually material losses or reductions but a series of attritional losses or reductions. Attritional losses are losses that may not be significant on an individual basis, but are monitored on an aggregated basis by the Company to identify trends that may be meaningful from a reserving standpoint.
For the Catastrophe sub-segment, the Company reported net favorable loss development for prior accident years in 2011, 2010 and 2009. The net favorable loss development in each year was primarily due to favorable loss emergence, as losses reported by cedants for prior accident years were lower than the Company expected.
The Company’s net reserves for unpaid losses and loss expenses at December 31, 2011 and 2010 included $195 million and $214 million, respectively, that represent estimates of its net ultimate liability for asbestos and environmental claims. The gross liability for such claims at December 31, 2011 and 2010 was $203 million and $222 million, respectively, which primarily relate to Paris Re’s gross liability for asbestos and environmental claims for accident years 2005 and prior of $127 million and $144 million, respectively, with any favorable or adverse development being subject to the Reserve Agreement. Of the remaining $76 million and $78 million, respectively, in gross reserves, the majority relates to casualty exposures in the United States arising from business written by PartnerRe SA and PartnerRe U.S.
The modest net favorable prior year loss development of $1 million in 2011 was the net result of favorable prior year loss development of $6 million on certain mortality treaties and $5 million related to the guaranteed minimum death benefit (GMDB) business, which were almost entirely offset by adverse prior year loss development related to disability riders on certain short-term non-proportional treaties in the mortality line following the receipt of updated information from cedants.
The net favorable prior year loss development of $15 million in 2009 was mainly driven by the GMDB business.
Net premiums written, net premiums earned and losses and loss expenses and life policy benefits are reported net of reinsurance in the Company’s Consolidated Statements of Operations. Assumed, ceded and net amounts for the years ended December 31, 2011, 2010 and 2009 were as follows (in thousands of U.S. dollars):
In March 2010, PartnerRe Finance B LLC (PartnerRe Finance B), an indirect wholly-owned subsidiary of the Company, issued $500 million aggregate principal amount of 5.500% Senior Notes (2010 Senior Notes, or collectively with the 2008 Senior Notes defined below referred to as Senior Notes). The 2010 Senior Notes will mature on June 1, 2020 and may be redeemed at the option of the issuer, in whole or in part, at any time. Interest on the 2010 Senior Notes is payable semi-annually and commenced on June 1, 2010 at an annual fixed rate of 5.500%, and cannot be deferred.
Contemporaneously, PartnerRe U.S. Holdings, a wholly-owned subsidiary of the Company, issued a 5.500% promissory note, with a principal amount of $500 million to PartnerRe Finance B. Under the terms of the promissory note, PartnerRe U.S. Holdings promises to pay to PartnerRe Finance B the principal amount on June 1, 2020, unless previously paid. Interest on the promissory note commenced on June 1, 2010 and is payable semi-annually at an annual fixed rate of 5.500%, and cannot be deferred.
For the years ended December 31, 2011 and 2010, the Company incurred interest expense of $27.5 million and $21.8 million, respectively, and paid interest of $27.5 million and $19.6 million, respectively, in relation to the 2010 Senior Notes issued by PartnerRe Finance B.
Contemporaneously, PartnerRe U.S. Holdings issued a 6.875% promissory note, with a principal amount of $250 million to PartnerRe Finance A. Under the terms of the promissory note, PartnerRe U.S. Holdings promises to pay to PartnerRe Finance A the principal amount on June 1, 2018, unless previously paid. Interest on the promissory note is payable semi-annually and commenced on December 1, 2008 at an annual fixed rate of 6.875%, and cannot be deferred.
For the years ended December 31, 2011, 2010 and 2009, the Company incurred interest expense of $17.2 million, $17.2 million and $17.2 million, respectively, and paid interest of $17.2 million, $17.2 million and $17.2 million, respectively, in relation to the 2008 Senior Notes issued by PartnerRe Finance A.
PartnerRe Finance II may elect to defer one or more interest payments for up to ten years, although interest will continue to accrue and compound at the rate of interest applicable to the CENts. The CENts are ranked as junior subordinated unsecured obligations of PartnerRe Finance II. The Company has fully and unconditionally guaranteed on a subordinated basis all obligations of PartnerRe Finance II under the CENts. The Company’s obligations under this guarantee are unsecured and rank junior in priority of payments to the Company’s Senior Notes.
For the years ended December 31, 2011, 2010 and 2009, the Company incurred interest expense of $4.6 million, $4.6 million and $7.0 million, respectively, and paid interest of $4.6 million, $4.6 million and $8.0 million, respectively.
On July 12, 2010, the Company repaid the $200 million remaining half of the original $400 million loan.
During 2011, the Company raised proceeds, before underwriting discounts and commissions, of $374m from the issuance of Series E preferred shares.
The Company may redeem each of the Series C, D and E preferred shares at $25.00 per share plus accrued and unpaid dividends without interest as follows: (i) each of the Series C and D preferred shares can be redeemed at our option at any time or in part from time to time, and (ii) the Series E preferred shares can be redeemed at our option on or after June 1, 2016 or at any time upon certain changes in tax law. Dividends on each of the Series C, D and E preferred shares are cumulative from the date of issuance and are payable quarterly in arrears.
(1) Net (loss) income and net (loss) income available to common shareholders include $4.3 million, and basic net income per share and diluted net income per share include $0.07 per share related to the noncontrolling interests’ share of Paris Re’s net income for the period from October 2, 2009 to December 7, 2009.
The statutory net (loss) income of the Company’s reinsurance subsidiaries for the years ended December 31, 2011, 2010 and 2009 was as follows (in millions of U.S. dollars):
(Loss) income before taxes attributable to the Company’s domestic and foreign operations and a reconciliation of the actual income tax rate to the amount computed by applying the effective tax rate of 0% under Bermuda (the Company’s domicile) law to (loss) income before taxes was as follows for the years ended December 31, 2011, 2010 and 2009 (in thousands of U.S. dollars):
Deferred tax assets and liabilities reflect the tax impact of temporary differences between the carrying amounts of assets and liabilities for financial reporting and income tax purposes. Significant components of the net deferred tax assets and liabilities at December 31, 2011 and 2010 were as follows (in thousands of U.S. dollars):
The net tax assets and liabilities and their components at December 31, 2011 and 2010 were as follows (in thousands of U.S. dollars):
The total amount of unrecognized tax benefits for the years ended December 31, 2011, 2010 and 2009 was as follows (in thousands of U.S. dollars):
For the years ended December 31, 2011, 2010 and 2009, there were no unrecognized tax benefits that, if recognized, would create a temporary difference between the reported amount of an item in the Company’s Consolidated Balance Sheets and its tax basis. The Company recognizes interest and penalties as income tax expense in its Consolidated Statements of Operations.
At December 31, 2011, the total amount of unrecognized tax benefits for which it is reasonably possible to change within twelve months was $1.1 million, which primarily relates to the expected expiration of the statute of limitations related to certain tax positions and various intra-group transactions in Europe.
The EEP permits the grant of up to 8.3 million shares, of which a total of 3.4 million shares can be issued as either RS or RSUs and 4.9 million shares can be issued as share options or SSARs. If an award under the EEP is cancelled or forfeited without the delivery of the full number of shares underlying such award, only the net number of shares actually delivered to the participant will be counted against the EEP’s authorized shares. Under the EEP, the exercise price of the award will not be less than the fair value of the award at the time of grant. The fair value is defined in the EEP as the closing price reported on the grant date. RSU awards granted under the EEP generally cliff vest after 3 years of continuous service. Share options and SSARs vest ratably over 3 years of continuous service and have a ten year contractual term. Participants in the EEP are eligible to receive dividend equivalents, which the Company records as an expense, on RSUs that are unvested. At December 31, 2011, 5.4 million shares remained available for issuance under this plan.
In September 2009, in connection with the acquisition of Paris Re, the shareholders approved an amendment to the EEP to increase the number of shares available for issuance by 0.4 million shares, of which 0.3 million may be awarded as RS or RSUs. As part of the acquisition of Paris Re, the Company issued replacement share options, RSUs, and warrants to holders of Paris Re share options, RSUs and warrants. These replacement awards were issued under the terms and conditions of the Paris Re 2006 Equity Purchase Plan, Paris Re 2006 Equity Incentive Plan, Paris Re 2006 Executive Equity Incentive Plan and Paris Re 2007 Equity Incentive Plan and were not considered to be grants under the Company’s EEP.
The PartnerRe Ltd. Non-Employee Directors Stock Plan (Directors’ Stock Plan), which was approved by the Company’s shareholders, permits the grant of up to 0.8 million share options, RS, RSUs, alternative awards and other share-based awards. Under the Directors’ Stock Plan, the exercise price of the share options will be equivalent to the fair value of the share options at the time of grant. The fair value is defined in the Directors’ Stock Plan as the closing price reported on the grant date. Options are awarded on an annual basis and are issued under the Directors’ Stock Plan. They generally vest at the time of grant and are expensed immediately and have a ten year contractual term. Prior to May 2010, RSU awards granted under the Directors’ Stock Plan generally vested at the time of grant with a delivery date restriction of one year and were expensed immediately. With effect from May 2010, RSUs are awarded on an annual basis and have a five year cliff vest with no delivery restrictions and are expensed over the vesting period. Before the grant date, directors must elect to receive their awards in the form of either 100% RSUs, or split, with 60% of the award being RSUs and 40% of the award being cash upon delivery. At December 31, 2011, 0.1 million shares remained available for issuance under this plan.
The PartnerRe Ltd. Employee Share Purchase Plan (ESPP), which was approved by the Company’s shareholders, has a twelve month offering period with two purchase periods of six months each. All employees are eligible to participate in the ESPP and can contribute between 1% and 10% of their base salary toward the purchase of the Company’s shares up to the limit set by the IRC. Employees who enroll in the ESPP may purchase the Company’s shares at a 15% discount of the lower fair value on either the enrolment date or purchase date. Participants in the ESPP are eligible to receive dividends on their shares as of the purchase date. A total of 0.6 million common shares may be issued under the ESPP. At December 31, 2011, 0.4 million shares remained available for issuance under this plan.
The Swiss Share Purchase Plan (SSPP) has two offering periods per year with two purchase periods of six months each. Swiss employees, who work at least 20 hours per week, are eligible to participate in the SSPP and can contribute between 1% and 8% of their base salary toward the purchase of the Company’s shares up to a maximum of 5,000 Swiss francs per annum. Employees who enroll in the SSPP may purchase the Company’s shares at a 40% discount of the fair value on the purchase date. There is a restriction on transfer or sale of these shares for a period of two years following purchase. Participants in the SSPP are eligible to receive dividends on their shares as of the purchase date. A total of 0.4 million common shares may be issued under the SSPP. At December 31, 2011, 0.2 million shares remained available for issuance under this plan.
The weighted average remaining contractual term and the aggregate intrinsic value of share options outstanding, exercisable, vested and expected to vest at December 31, 2011, was 3.6 years and $7.4 million, respectively.
During the years ended December 31, 2011, 2010 and 2009, the Company issued 314,182 RSUs, 374,366 RSUs and 607,173 RSUs with a weighted average grant date fair value of $81.20, $79.18 and $75.09, respectively. The Company values RSUs issued under all plans at the fair value of its common shares at the time of grant, as defined by the plan document.
Total unrecognized share-based compensation expense related to unvested RSUs was approximately $26.4 million at December 31, 2011, which is expected to be recognized over a weighted-average period of 1.8 years.
During the years ended December 31, 2011, 2010 and 2009, the Company issued 210,582 SSARs, 450,568 SSARs, and 105,344 SSARs with a weighted average grant date fair value of $10.32, $10.45 and $8.42, respectively.
Total unrecognized share-based compensation expense related to unvested SSARs was approximately $3.1 million at December 31, 2011, which is expected to be recognized over a weighted-average period of 1.7 years.
For employee retirement benefits, the Company maintains certain defined contributions plans and other active and frozen defined benefit plans. The majority of the defined benefit obligation at December 31, 2011 relates to the active defined benefit plan for the Company’s Zurich office employees (the Zurich Plan).
The Company maintains the Zurich Plan, which is classified as a hybrid plan and accounted for as a defined benefit plan under U.S. GAAP. At December 31, 2011 and 2010, the funded status of the Zurich Plan was as follows (in thousands of U.S. dollars):
At December 31, 2011 and 2010, the funded status was included in accounts payable, accrued expenses and other in the Consolidated Balance Sheets. The total amounts recognized in accumulated other comprehensive (loss) income at December 31, 2011 and 2010 were $19.1 million (net of $5.1 million of taxes) and $15.2 million (net of $4.1 million of taxes), respectively.
The investment strategy of the Zurich Plan’s Pension Committee is to achieve a consistent long-term return, which will provide sufficient funding for future pension obligations while limiting risk. The expected long-term rate of return on plan assets is based on the expected asset allocation and assumptions concerning long-term interest rates, inflation rates and risk premiums for equities above the risk-free rates of return. These assumptions take into consideration historical long-term rates of return for the relevant asset categories. The investment strategy is reviewed regularly.
The fair values of the Zurich Plan’s assets at December 31, 2011 and 2010 were equity funds (Level 1) of $nil and $4.3 million, respectively, and insured funds and cash (Level 2) of $96.0 million and $92.9 million, respectively. The equity funds are primarily publicly quoted open-end funds that invest in a full replication of
The Company does not believe that any plan assets will be returned to the Company during 2012.
The Company purchased financing receivables of $84.5 million during the year ended December 31, 2011. There were no sales of financing receivables during the year ended December 31, 2011, however, the outstanding balance has been reduced by settlements of the underlying debt.
The Company has exposure to credit risk as it relates to its business written through brokers, if any of the Company’s brokers is unable to fulfill their contractual obligations with respect to payments to the Company. In addition, in some jurisdictions, if the broker fails to make payments to the insured under the Company’s policy, the Company might remain liable to the insured for the deficiency. The Company’s exposure to such credit risk is somewhat mitigated in certain jurisdictions by contractual terms.
The Company has exposure to credit risk related to reinsurance balances receivable and reinsurance recoverable on paid and unpaid losses. The credit risk exposure related to these balances is mitigated by several factors, including but not limited to, credit checks performed as part of the underwriting process, monitoring of aged receivable balances and the contractual right to offset premiums receivable or funds held balances against unpaid losses and loss expenses. The Company regularly reviews its reinsurance recoverable balances to estimate an allowance for uncollectible amounts based on quantitative and qualitative factors. At December 31, 2011 and 2010, the Company has recorded a provision for uncollectible premiums receivable of $8.2 million and $12.6 million, respectively. See also Note 10 for discussion of credit risk related to reinsurance recoverable on paid and unpaid losses.
The Company leases office space under operating leases expiring in various years through 2019. The leases are renewable at the option of the lessee under certain circumstances. The following is a schedule of future minimum rental payments, exclusive of escalation clauses, on non-cancelable leases at December 31, 2011 (in thousands of U.S. dollars):
At December 31, 2011, the Company was not a party to any litigation or arbitration that it believes could have a material effect on the financial condition, results of operations or liquidity of the Company.
In October 2005, the Company entered into a forward sale agreement under which it agreed to sell common shares to an affiliate of Citigroup Global Markets Inc., which affiliate is referred to as the forward counterparty, on settlement dates chosen by the Company prior to October 2008. On July 31, 2008, the Company amended the forward sale agreement, with half the contract maturing and the remaining half extended to April 2010.
On April 28, 2010, under the terms of the amendment to the forward sale agreement with the forward counterparty, the remaining forward sale agreement matured. Commencing on April 28, 2010, there was a 40 day valuation period, whereby the Company could deliver up to 3.4 million common shares over the valuation period, subject to a minimum price per share of $59.05 and a maximum price per share of $84.15. As a result of the Company’s share price trading between the minimum and the maximum price per share during the valuation period, the Company did not deliver any common shares to the forward counterparty.
This transaction had no other impact on the Company’s common shareholders’ equity, and the Company’s diluted net income per share for the years ended December 31, 2010 and 2009 did not include any dilutive effect related to this agreement.
On November 14, 2011, the Company entered into an agreement to modify an existing credit facility. Under the terms of the agreement, this credit facility was increased from a $250 million to a $300 million combined credit facility, with the first $100 million being unsecured and any utilization above the $100 million being secured. This credit facility matures on November 14, 2012, and can be extended for one additional year under the terms of the agreement.
In addition to the unsecured credit facilities available, the Company maintains two committed secured letter of credit facilities with amounts available of $150 million and $200 million at December 31, 2011. The facilities are used for the issuance of letters of credit, which must be secured fully or partially with cash and/or government bonds and/or investment grade bonds. The agreements include default covenants, which could require the Company to fully secure the outstanding letters of credit to the extent that the facility is not already fully secured, and disallow the issuance of any new letters of credit. The $200 million credit facility has a maturity date of December 31, 2014. The Company is currently negotiating an extension of the $150 million credit facility. At December 31, 2011, no conditions of default existed under these facilities.
The Company was party to agreements with Atradius N.V. since December 2003 (a company in which a board member is a supervisory director) and Delta Lloyd since May 2008 (a company in which a board member is a director). All agreements entered into with Atradius N.V. and Delta Lloyd were completed on an arm’s-length basis.
Included in the Consolidated Balance Sheets were the following balances related to Atradius N.V. at December 31, 2011 and 2010 (in thousands of U.S. dollars):
The North America sub-segment includes agriculture, casualty, motor, multiline, property, surety and other risks generally originating in the United States. The Global (Non-U.S.) P&C sub-segment includes casualty, motor and property business generally originating outside of the United States. The Global (Non-U.S.) Specialty sub-segment is comprised of business that is generally considered to be specialized due to the sophisticated technical underwriting required to analyze risks, and is global in nature. This sub-segment consists of several lines of business for which the Company believes it has developed specialized knowledge and underwriting capabilities. These lines of business include agriculture, aviation/space, credit/surety, energy, engineering, marine, specialty casualty, specialty property and other lines. The Catastrophe sub-segment is comprised of the Company’s catastrophe line of business. The Life segment includes mortality, longevity and health lines of business. Corporate and Other is comprised of the capital markets and investment related activities of the Company, including principal finance transactions, insurance-linked securities and strategic investments, and its corporate activities, including other operating expenses.
Because the Company does not manage its assets by segment, net investment income is not allocated to the Non-life segment. However, because of the interest-sensitive nature of some of the Company’s Life products, net investment income is considered in Management’s assessment of the profitability of the Life segment. The following items are not considered in evaluating the results of the Non-life and Life segments: net realized and unrealized investment gains and losses, net realized gain on purchase of capital efficient notes, interest expense, amortization of intangible assets, net foreign exchange gains and losses, income tax expense or benefit and interest in earnings and losses of equity investments. Segment results are shown before consideration of intercompany transactions.
The following table provides the distribution of net premiums written by line of business for the years ended December 31, 2011, 2010 and 2009:
The following table provides the geographic distribution of gross premiums written based on the location of the underlying risk for the years ended December 31, 2011, 2010 and 2009:
The Company produces its business both through brokers and through direct relationships with insurance company clients. None of the Company’s cedants accounted for more than 5% of total gross premiums written during the years ended December 31, 2011 and 2010 and more than 6% during the year ended December 31, 2009.
The Company had two brokers that individually accounted for 10% or more of its gross premiums written during the years ended December 31, 2011, 2010 and 2009. The brokers accounted for 26%, 25%, and 25% and 21%, 21%, and 19% of gross premiums written for the years ended December 31, 2011, 2010 and 2009, respectively.
The following table summarizes the percentage of gross premiums written through these two brokers by segment and sub-segment for the years ended December 31, 2011, 2010 and 2009:
We have audited the accompanying consolidated balance sheets of PartnerRe Ltd. and subsidiaries (the Company) as of December 31, 2011 and 2010, and the related consolidated statements of operations and comprehensive (loss) income, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2011. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.