Everest Re’s corporate offices are located in approximately 203,800 square feet of leased office space in Liberty Corner, New Jersey. Bermuda Re’s corporate offices are located in approximately 3,600 total square feet of leased office space in Hamilton, Bermuda. The Company’s other fifteen locations occupy a total of approximately 88,100 square feet, all of which are leased. Management believes that the above-described office space is adequate for its current and anticipated needs.
Based on weighted average basic shares outstanding of 61.7 million, 63.1 million, 64.7 million, 57.6 million and 55.9 million for 2008, 2007, 2006, 2005 and 2004, respectively.
Based on weighted average diluted shares outstanding of 61.7 million, 63.6 million, 65.3 million, 57.6 million and 56.8 million for 2008, 2007, 2006, 2005 and 2004, respectively.
Based on 61.4 million, 62.9 million, 65.0 million, 64.6 million and 56.2 million shares outstanding for December 31, 2008, 2007, 2006, 2005 and 2004, respectively.
During the latter part of 2007 and throughout 2008, there has been a significant slowdown in the global economy. Excessive availability and use of credit, particularly by individuals, led to increased defaults on sub-prime mortgages in the U.S. and elsewhere, falling values for houses and many commodities and contracting consumer spending. The significant increase in default rates negatively impacted the value of asset-backed securities held by both foreign and domestic institutions. The defaults have led to a corresponding increase in foreclosures, which have driven down housing values, resulting in additional losses on the asset-backed securities. During the third and fourth quarters of 2008, the credit markets deteriorated dramatically, evidenced by widening credit spreads and dramatically reduced availability of credit. Many financial institutions, including some insurance entities, experienced liquidity crises due to immediate demands for funds for withdrawals or collateral, combined with falling asset values and their inability to sell assets to meet the increased demands. As a result, several financial institutions have failed or been acquired at distressed prices, while others have received loans from the U.S. government to continue operations. The liquidity crisis significantly increased the spreads on fixed maturities and, at the same time, had a dramatic and negative impact on the stock markets around the world. The combination of losses on securities from failed or impaired companies combined with the decline in values of fixed maturities and equity securities has resulted in significant declines in the capital bases of most insurance and reinsurance companies. It is too early to predict the timing and extent of impact the capital deterioration will have on insurance and reinsurance market conditions. There is an expectation that these events will ultimately result in increased rates for insurance and reinsurance in certain segments of the market, but there is no assurance that this will not be the case.
markets. In addition to demanding lower rates and improved terms, ceding companies have retained more of their business by reducing quota share percentages, purchasing excess of loss covers in lieu of quota shares, and increasing retentions on excess of loss business. Our quota share premiums have declined, particularly on catastrophe exposed property business, due to slower growth and increased purchases of common account covers by ceding companies, which reduces the premiums subject to the quota share contract. The U.S. insurance markets in which we participate were extremely competitive as well, particularly in the workers’ compensation, public entity and contractor sectors. While our growth has slowed, given the specialty nature of our business and our underwriting discipline, we believe the impact on the profitability of our business will be less pronounced than on the market generally.
Overall, we believe that current marketplace conditions offer profit opportunities for us given our strong ratings, distribution system, reputation and expertise. We continue to employ our strategy of targeting business that offers the greatest profit potential, while maintaining balance and diversification in our overall portfolio.
We monitor and evaluate our overall performance based upon financial results. The following table displays a summary of the consolidated net (loss) income, ratios and shareholders’ equity for the periods indicated:
Premiums. Gross written premiums decreased by $399.4 million, or 9.8%, in 2008 compared to 2007, reflecting a decline of $285.6 million in our reinsurance business and $113.8 million in our U.S. insurance business. The decline in our reinsurance business was primarily attributable to continued competitive conditions in both the property and casualty sectors of the market, especially in the U.S., partially offset by strong renewals and higher rates in international markets. Insurance segment premiums were also lower, as conditions for workers’ compensation, public equity and contractors business became increasingly competitive, which reduced the volume of business that met our underwriting and pricing criteria. Net written premiums decreased $414.2 million, or 10.6%, in 2008 compared to 2007, primarily due to the decrease in gross written premiums and an increase in written premiums ceded, most of which was in the U.S. insurance segment. Correspondingly, premiums earned decreased $303.2 million, or 7.6%, in 2008 compared to 2007. The lesser percentage decrease in net premiums earned relative to net written premiums is the result of timing; premiums are earned ratably over the coverage period whereas written premiums are reflected at the initiation of the coverage period.
Gross written premiums increased by $76.7 million, or 1.9%, in 2007 compared to 2006, reflecting growth of $57.4 million in our reinsurance business and $19.3 million in our U.S. insurance business. The increase in our reinsurance business is primarily attributable to the strengthening of other currencies against the U.S. dollar. Premiums written in strengthening currencies converted to more U.S. dollars resulting in comparatively higher reported premiums. Net written premiums increased $43.7 million, or 1.1%, in 2007 compared to 2006, slightly less than the growth in gross written premiums due to the change in the mix of our program business and the resulting change in reinsurance. Premiums earned increased $144.3 million, or 3.7%, in 2007 compared to 2006.
Net Investment Income. Net investment income decreased by 17.1% in 2008 compared to 2007, primarily due to a net investment loss from our limited partnership investments, particularly those which were principally invested in public equities, and lower rates on short and long term bonds. Pre-tax investment income as a percentage of average invested assets was 4.0% for 2008 compared to 4.9% for 2007.
Net investment income increased by 8.4% in 2007 compared to 2006, primarily due to the growth in invested assets to $14.9 billion at December 31, 2007 from $14.0 billion at December 31, 2006. The growth in invested assets was principally driven by $854.4 million of operating cash flows. Pre-tax investment portfolio yield for 2007 was 4.9% compared to 4.8% for 2006.
The net realized capital losses for 2008 were primarily the result of the credit crisis impacting the global financial markets, which drove down the values of equity and fixed income securities. As such, our equity security portfolio decreased $277.5 million as a result of fair value adjustments and our fixed maturities decreased $176.5 million due to other-than-temporary impairments. In addition, we recognized $243.3 million of net realized capital losses, principally from the sale of equity securities we owned as we realigned our investment portfolios. We report changes in fair values of our equity securities as realized capital gains or losses in accordance with FAS No. 159 “The Fair Value Option for Financial Assets and Financial Liabilities - including an amendment to FASB Statement No. 115” (“FAS 159”), and we report realized losses on our fixed income portfolio from other-than-temporary impairments as realized capital losses in accordance with FAS No. 115-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” (“FAS 115-1”).
Other (Expense) Income. We recorded expense of $15.9 million for 2008 and income of $18.0 million and $0.1 million for 2007 and 2006, respectively, which were primarily the result of fluctuations in foreign currency exchange rates over the periods.
Incurred losses and LAE were lower by $109.2 million, or 4.3%, in 2008 compared to 2007. Attritional losses were lower than in 2007, largely the result of lower net earned premiums. The current year attritional loss ratio crept up by 0.7 points compared to 2007, the result of softer rates in the U.S. reinsurance segment mitigated somewhat by improved loss ratios in the other segments, particularly, international.
We strengthened our asbestos reserves by $387.5 million in 2007, and had no development in 2008 as loss activity in 2008 was in line with expected as per the reserves established at December 31, 2007.
Other Underwriting Expenses. Other underwriting expenses for 2008 were $162.3 million compared to $152.6 million for 2007. The increase is primarily due to higher compensation and benefits expense resulting from increased staff, primarily in the U.S. Insurance segment. Included in other underwriting expenses were corporate expenses, which are expenses that are not allocated to segments, of $13.8 million and $13.1 million for 2008 and 2007, respectively.
Income Tax (Benefit) Expense. Our income tax was a benefit of $64.8 million in 2008, principally as a result of net realized capital losses due to fair value re-measurements, other-than-temporary impairments and losses on sales of public equity securities. We had income tax expense of $188.7 million and $150.9 million for 2007 and 2006, respectively, primarily due to income from operations and net realized capital gains in both periods. Our income tax is primarily a function of the statutory tax rates and corresponding pre-tax income in the jurisdictions where we operate, coupled with the impact from tax-preferenced investment income. Variations in our effective tax rate generally result from changes in the relative levels of pre-tax income among jurisdictions with different tax rates.
Our net loss was $18.8 million for 2008 compared to $839.3 million of net income for 2007. This decrease was primarily driven by after-tax net realized capital losses and increased catastrophe losses in 2008 compared to after-tax net realized capital gains and fewer catastrophe losses in 2007.
Shareholders’ equity decreased by $724.4 million to $4,960.4 million in 2008 from $5,684.8 million in 2007, principally as a result of $236.6 million of unrealized depreciation, net of tax, on investments, $193.3 million of foreign currency translation adjustments, the repurchase of 1.6 million common shares for $150.7 million, $118.6 million of shareholder dividends, pension adjustments, net of tax, of $25.2 million and net loss of $18.8 million, partially offset by share-based compensation transactions of $20.0 million. The increase in unrealized depreciation is due to the current financial market liquidity crisis that has resulted in significantly increased credit spreads and concomitantly lower corporate and municipal security values.
Net investment income decreased 17.1% to $565.9 million in 2008 from $682.4 million in 2007, primarily due to losses incurred on our limited partnership investments, particularly those that invested in public equity securities, in 2008 compared to income in 2007.
We recorded $276.0 million in net realized capital losses due to fair value re-measurement on fixed maturities and equity securities for 2008 and $76.6 million of net realized capital gains due to fair value re-measurements on equity securities for 2007. In addition, we recorded other-than-temporary impairments of $176.5 million and $8.4 million for 2008 and 2007, respectively. These net realized capital losses were attributable to the current financial liquidity crisis and related global economic downturn. Numerous financial corporations have either filed for bankruptcy or received assistance from the U.S. Government. This activity has severely impacted both the equity and credit markets. Equities are trading at multiyear lows, spreads on fixed maturities are at unprecedented levels and many securities have been downgraded by rating agencies.
Through our subsidiaries, we operate in five segments: U.S. Reinsurance, U.S. Insurance, Specialty Underwriting, International and Bermuda. The U.S. Reinsurance operation writes property and casualty reinsurance, on both a treaty and facultative basis, through reinsurance brokers, as well as directly with ceding companies within the U.S. The U.S. Insurance operation writes property and casualty insurance primarily through general agents and surplus lines brokers within the U.S. The Specialty Underwriting operation writes A&H, marine, aviation and surety business within the U.S. and worldwide through brokers and directly with ceding companies. The International operation writes non-U.S. property and casualty reinsurance through Everest Re’s branches in Canada and Singapore and offices in Miami and New Jersey. The Bermuda operation provides reinsurance and insurance to worldwide property and casualty markets and reinsurance to life insurers through brokers and directly with ceding companies from its Bermuda office and reinsurance to the United Kingdom and European markets through its UK branch.
Premiums.Gross written premiums decreased by 19.7% to $957.9 million in 2008 from $1,193.5 million in 2007, primarily due to a $104.9 million (14.7%) decrease in treaty property volume, a $71.7million (21.6%) decrease in treaty casualty volume and a $57.9 million (39.9%) decrease in facultative volume. Property premiums were lower due to increased common account reinsurance protections, particularly on one Florida quota share account and two quota share non-renewals. Our treaty casualty premium was lower than last year as we reduced this book to a group of core accounts in response to the softer market conditions. Facultative volume decreased due to ceding companies retaining a greater portion of gross premiums and a marketplace that remains competitive. Net written premiums decreased 19.8% to $948.8 million in 2008 compared to $1,183.1 million in 2007, primarily due to the decrease in gross written premiums. Net premiums earned correspondingly decreased 18.1% to $1,050.3 million for 2008 compared to $1,282.9 million for 2007, consistent with the change in net written premiums.
Incurred Losses and LAE.The following table presents the incurred losses and LAE for the U.S. Reinsurance segment for the periods indicated.
Incurred losses were $92.8 million (21.0 points) higher in 2008 compared to 2007, primarily due to catastrophe losses from Hurricanes Gustav and Ike and unfavorable reserve development on prior years’ losses, including $32.6 million for an unfavorable arbitration decision relating to a 2001 retrocessional cover. We had no reserve adjustments in 2008 for A&E losses, which experienced $266.4 million adverse development in 2007.
for 2006, principally due to the allocation of certain corporate charges to segments, which had been previously retained in corporate expenses.
Incurred Losses and LAE.The following table presents the incurred losses and LAE for the U.S. Insurance segment for the periods indicated.
Commission and brokerage increased by 10.7% to $136.2 million for 2007 from $123.1 million in 2006, principally due to an increase in regular commission on new programs and higher profit commissions. Segment other underwriting expenses for 2007 increased to $58.2 million as compared to $48.9 million for 2006 due to the allocation of certain corporate charges to segments, which had been previously retained in corporate expenses.
Premiums.Gross written premiums decreased by 3.6% to $260.4 million for 2008 from $270.1 million for 2007. Aviation premiums were lower by $16.9 million (58.9%) owing to very competitive market conditions. A&H premiums were lower by $15.4 million (16.1%) largely due to lower premiums under certain quota share contracts where the ceding companies have culled their books to improve their loss experience. Marine premiums were up by $19.8 million (19.8%) due to higher premiums on our quota share covers and improved rates across the book. Surety premiums were up $2.8 million or 6.1%. Net written premiums decreased 3.6% to $254.2 million for 2008 compared to $263.8 million for 2007, as a result of the decrease in gross written premiums. Net premiums earned decreased 3.9% to $251.8 million for 2008 compared to $262.0 million for 2007, in line with the change in net written premiums.
Gross written premiums increased by 7.5% to $270.1 million for 2007 from $251.2 million for 2006, primarily due to a $36.9 million (58.7%) increase in marine premiums and a $12.2 million (14.7%) increase in A&H premiums, partially offset by a $24.6 million (34.9%) decrease in surety premiums and a $5.7 million (16.5%) decrease in aviation premiums. The increased marine premium growth emanated from growth in existing quota share business as well as new quota share contracts. We continued to decrease our aviation and surety writings, in response to more competitive market conditions. Net written premiums increased 8.2% to $263.8 million for 2007 compared to $243.8 million for 2006, as a result of the increase in gross written premiums. Net premiums earned increased 7.1% to $262.0 million for 2007 compared to $244.5 million for 2006, in line with the growth in net written premiums.
Incurred losses and LAE decreased to $165.9 million for 2008 compared to $173.3 million for 2007, as both attritional losses and catastrophe losses were similar for the two periods. The bulk of the 2008 catastrophe losses emanated from Hurricanes Gustav and Ike, while the 2007 losses were primarily caused by late reported marine losses from Hurricane Rita.
Segment Expenses.Commission and brokerage increased 3.4% to $70.8 million in 2008 from $68.5 million in 2007 due primarily to the combined impacts of an increase in proportional premiums written, which generate higher ceding commissions, on the marine business and an increase in contingent commission on the aviation business. Segment other underwriting expenses decreased slightly to $8.1 million for 2008 from $8.5 million for 2008.
Premiums.Gross written premiums increased by 12.3% to $904.7 million for 2008 from $805.9 million for 2007. Due, in part, to our strong financial strength ratings, we obtained increased participations on treaties in most regions over the course of the past twelve months. As well, we benefited from new business writings as some insurers sought to increase the financial strength ratings of their reinsurance panels. In addition, we obtained some preferential signings including preferential terms and conditions, and benefited from higher rates in some markets. Premiums written through the Miami and New Jersey offices increased by $106.0 million (22.5%); the Asian branch increased by $24.2 million (14.6%), while premiums for the Canadian branch decreased by $31.8 million (18.7%). Net written premiums increased by 11.9% to $902.1 million for 2008 compared to $806.0 million for 2007, principally as a result of the increase in gross written premiums. Net premiums earned increased 10.2% to $885.5 million for 2008 compared to $803.8 million for 2007, generally consistent with the increase in net written premiums.
Incurred losses and LAE increased slightly to $504.8 million for 2008 compared to $501.9 million for 2007. The segment loss ratio decreased by 5.4 points for 2008 compared to 2007 due to lower current year catastrophe losses in 2008 compared to 2007. The 2008 current year catastrophe losses included a large snowstorm in China and Hurricanes Gustav and Ike. In addition, increased favorable development on prior years’ reserves period over period contributed to the lower loss ratio.
Commission and brokerage increased 10.5% to $199.5 million for 2007 from $180.5 million in 2006, consistent with the increase in premiums. Segment other underwriting expenses for 2007 increased to $18.6 million compared to $13.8 million for 2006, primarily due to the allocation of certain corporate charges to segments, which had been previously retained in corporate expenses.
Premiums.Gross written premiums decreased 15.1% to $783.4 million for 2008 compared to $922.5 million for 2007. The Bermuda home office premiums were down for 2008 compared to 2007 by $69.7 million, principally due to a discontinued account and conversion of a large casualty quota share to excess of loss coverage. The U.K. branch premiums were down $69.1 million due to the non-renewal of two casualty proportional contracts. Net written premiums decreased 15.1% to $783.1 million for 2008 compared to $922.3 million for 2007 and net premiums earned decreased 12.2% to $801.2 million for 2008 compared to $912.9 million for 2007, commensurate with the decrease in gross written premiums.
Gross written premiums increased 13.2% to $922.5 million for 2007 compared to $814.9 million for 2006. Premiums written from the Bermuda office increased $61.0 million and premiums written from the UK office increased $47.3 million. The increase in the Bermuda office premiums was driven by growth in worldwide treaty casualty reinsurance business and approximately half of the increase from the UK office was driven by the Pound Sterling currency strengthening against the U.S. dollar during 2007. Net written premiums increased 13.0% to $922.3 million for 2007 compared to $816.2 million for 2006, commensurate with the increase in gross written premiums. Net premiums earned increased 7.9% to $912.9 million for 2007 compared to $846.4 million for 2006. The change in net premiums earned relative to the net written premiums is the result of timing; premiums are earned ratably over the coverage period whereas written premiums are reflected at the initiation of the coverage period.
It is more difficult to accurately estimate loss reserves for reinsurance liabilities than for insurance liabilities. At December 31, 2008 we had reinsurance reserves of $6,626.4 million and insurance loss reserves of $2,214.3 million, of which $533.2 million and $200.9 million, respectively, were loss reserves for A&E liabilities. A detailed discussion of additional considerations related to A&E exposures follows later in this section.
We sort both our reinsurance and insurance reserves into exposure groupings for actuarial analysis. We assign our business to exposure groupings so that the underlying exposures have reasonably homogeneous loss development characteristics and are large enough to facilitate credible estimation of ultimate losses. We periodically review our exposure groupings and we may change our grouping over time as our business changes. We currently use over 200 exposure groupings to develop our reserve estimates. One of the key selection characteristics for the exposure groupings is the historical duration of the claims settlement process. Business in which claims are reported and settled relatively quickly are commonly referred to as short tail lines, principally property lines. On the other hand, casualty claims tend to take longer to be reported and settled and casualty lines are generally referred to as long tail lines. Our estimates of ultimate
losses for shorter tail lines, with the exception of loss estimates for large catastrophic events, generally exhibit less volatility than those for the longer tail lines.
Our key actuarial assumptions contain no explicit provisions for reserve uncertainty nor do we supplement the actuarially determined reserves for uncertainty.
With respect to asbestos claims in particular, several additional factors have emerged in recent years that further compound the difficulty in estimating our liability. These developments include: (a) a changing mix of claim types represented in new filings, with the relative percentage of claims by individuals with no functional impairment first increasing then decreasing over the past several years; (b) the growth in the number of claims where coverage is sought under the general liability portion of insurance policies rather than the product liability portion; (c) an increase in settlement values being paid to asbestos claimants, especially those with cancer or functional impairment; (d) the slow development of asbestos bankruptcy cases, as a result of which many of the critical legal issues arising in those cases are still unresolved at the appellate level; (e) measures adopted by specific courts to ameliorate the worst procedural abuses; (f) legislation in some states to address asbestos litigation issues; and (g) the potential that other states or the U.S. Congress may adopt legislation on asbestos litigation. Anecdotal evidence suggests that new claims filing rates have decreased, that new filings of asbestos-driven bankruptcies have decreased and that various procedural and legislative reforms are beginning to diminish the potential ultimate liability for asbestos losses.
Investment Valuation. Our fixed income investments are classified for accounting purposes as available for sale and are carried at market value or fair value in our consolidated balance sheets. Our equity securities are also held as available for sale and are carried at market or fair value. Most securities we own are traded on national exchanges where market values are readily available. Some of our commercial mortgage-backed securities (“CMBS”) are valued using cash flow models and risk-adjusted discount rates. We hold some
privately placed securities, less than 0.5% of the portfolio, that are either valued by brokers or an investment advisor. At December 31, 2008 and 2007, our investment portfolio included $644.8 million and $623.6 million, respectively, of limited partnership investments whose values are reported pursuant to the equity method of accounting. We carry these investments at values provided by the managements of the limited partnerships and due to inherent reporting lags, the carrying values are based on values with “as of” dates from one month to one quarter prior to our financial statement date.
For the portion needed to satisfy outstanding liabilities, we invest in taxable and tax-preferenced fixed income securities with an average credit quality of Aa2, as rated by Moody’s. Our mix of taxable and tax-preferenced investments is adjusted periodically, consistent with our current and projected operating results, market conditions and our tax position. This fixed maturity portfolio is externally managed by an independent, professional investment manager using portfolio guidelines approved by us.
The tables below summarize the composition and characteristics of our investment portfolio as of the dates indicated:
The following table provides a comparison of our total return by asset class relative to broadly accepted industry benchmarks for the periods indicated:
The following tables summarize gross outstanding loss and LAE reserves by segment, classified by case reserves and IBNR reserves, for the periods indicated:
Changes in earned premiums and business mix, reserve re-estimations, catastrophe losses and changes in catastrophe loss reserves and claim settlement activity all impact loss and LAE reserves by segment and in total.
There can be no assurance that reserves will not ultimately exceed the indicated ranges requiring additional income statement expense.
Mt. McKinley began writing small amounts of A&E exposed insurance in 1975 and increased the volume of its writings in 1978. These writings ceased in 1984, giving Mt. McKinley an approximate 10-year window of potential A&E exposure, which is appreciably shorter than is the case for many companies with significant A&E exposure. Additionally, due to changes in and standardization of policy forms, it is rare for policies in the 1970s and 1980s to have been issued without aggregate limits on the product liability coverage. Policies issued in earlier decades were generally more likely to lack aggregate limits.
With respect to asbestos only, at December 31, 2008, we had gross asbestos loss reserves of $734.1 million, or 93.3%, of total A&E reserves, of which $533.2 million was for assumed business and $200.9 million was for direct business.
The following tables summarize reserve and claim activity on a gross and net of ceded reinsurance basis for our reinsurance and direct asbestos exposures:
Ultimate loss projections for A&E liabilities cannot be accomplished using standard actuarial techniques. In 2007, we completed a detailed study of our asbestos experience and our cedants’ asbestos exposures and also considered industry trends. Our Claims Department undertook a contract by contract analysis of our direct business and projected those findings to our assumed reinsurance business. Our actuaries utilized nine methodologies to project our potential ultimate liabilities including projections based on internal data and assessments, extrapolations of non-public and publicly available data for our cedants and benchmarking against industry data and experience. As a result of the study, we increased our gross reinsurance asbestos reserves by $250.0 million and our gross direct asbestos reserves by $75.0 million. Subsequent to the study, we have not experienced significant claims activity related to asbestos. We believe that our A&E reserves represent our best estimate of the ultimate liability, however, there can be no assurance that ultimate loss payments will not exceed such reserves, perhaps by a significant amount. No additional reserve strengthening was made in 2008.
Capital. Our business operations are in part dependent on our financial strength and financial strength ratings, and the market’s perception of our financial strength, as measured by shareholders’ equity, which was $4,960.4 million and $5,684.8 million at December 31, 2008 and 2007, respectively. We possess significant financial flexibility and access to the debt and equity markets as a result of our perceived financial strength, as evidenced by the financial strength ratings as assigned by independent rating agencies. During the last six months of 2008, the capital markets have been illiquid in reaction to the deepening credit crisis which has led to bank and other financial institution failures and effective failures. Credit spreads have soared and the equity markets have declined significantly during this period making access to the capital
markets, for even highly rated companies, difficult and costly. Our capital position remains strong, commensurate with our financial ratings. We have ample liquidity to meet our financial obligations for the foreseeable future. Therefore, we have no foreseeable need to tap the capital markets in the near term.
Liquidity. Our principal investment objectives are to ensure funds are available to meet our insurance and reinsurance obligations and to maximize after-tax investment income while maintaining a high quality diversified investment portfolio. Considering these objectives, we view our investment portfolio as having two components; 1) the investments needed to satisfy outstanding liabilities and 2) investments funded by our shareholders’ equity.
Over the past few years, we had reallocated our equity portfolio to include 1) publicly traded equity securities and 2) private equity limited partnership investments. The objective of this portfolio diversification was to enhance the risk-adjusted total return of the investment portfolio by allocating a prudent portion of the portfolio to higher return asset classes. We had limited our allocation to these asset classes because of 1) the potential for volatility in their values and 2) the impact of these investments on regulatory and rating agency capital adequacy models. As a result of the concomitant decline in equity values slowdown in the global economy and the liquidity crisis affecting the financial markets, we significantly reduced our exposure to public equities during the fourth quarter of 2008 and correspondingly increased our holdings in short-term investments during the fourth quarter. At December 31, 2008, the market or fair value of investments in equity and limited partnership securities approximated 16% of shareholders’ equity.
Our liquidity requirements are generally met from positive cash flow from operations. Positive cash flow results from reinsurance and insurance premiums being collected prior to disbursements for claims, which disbursements generally take place over an extended period after the collection of premiums, sometimes a period of many years. Collected premiums are generally invested, prior to their use in such disbursements, and investment income provides additional funding for loss payments. Our net cash flows from operating activities were $663.0 million, $854.4 million and $636.3 million for the years ended December 31, 2008, 2007 and 2006, respectively. Additionally, these cash flows reflected net tax payments of $11.0 million, $282.6 million and $46.6 million for the years ended December 31, 2008, 2007 and 2006, respectively; net catastrophe loss payments of $290.5 million, $443.1 million and $896.5 million for the years ended December 31, 2008, 2007 and 2006, respectively; and net A&E payments of $78.3 million, $71.6 million and $45.5 million for the years ended December 31, 2008, 2007 and 2006, respectively.
If disbursements for claims and benefits, policy acquisition costs and other operating expenses were to exceed premium inflows, cash flow from insurance operations would be negative. The effect on cash flow from insurance operations would be partially offset by cash flow from investment income. Additionally, cash inflows from investment maturities and dispositions, both short-term investments and longer term maturities are available to supplement other operating cash flows.
Management expects annual positive cash flow from operations, which in general reflects the strength of overall pricing, to persist over the near term, absent any unusual catastrophe activity. In the intermediate and long term, our cash flow from operations will be impacted by the extent to which competitive pressures affect overall pricing in our markets and the extent to which our premium receipts are impacted by our strategy of emphasizing underwriting profitability over premium volume.
Effective July 27, 2007, Group, Bermuda Re and Everest International entered into a new five year, $850.0 million senior credit facility with a syndicate of lenders, replacing the December 8, 2004, senior credit facilities, which would have expired on December 8, 2007. Both the July 27, 2007 and December 8, 2004 senior credit facilities are referred to as the “Group Credit Facility”. Wachovia Bank, a subsidiary of Wells Fargo Corporation (“Wachovia Bank”), is the administrative agent for the Group Credit Facility, which consists of two tranches. Tranche one provides up to $350.0 million of unsecured revolving credit for liquidity and general corporate purposes, and for the issuance of unsecured standby letters of credit. The interest on the revolving loans shall, at the Company’s option, be either (1) the Base Rate (as defined below) or (2) an adjusted London Interbank Offered Rate (“LIBOR”) plus a margin. The Base Rate is the higher of (a) the prime commercial lending rate established by Wachovia Bank or (b) the Federal Funds Rate plus 0.5% per annum. The amount of margin and the fees payable for the Group Credit Facility depends on Group’s senior unsecured debt rating. Tranche two exclusively provides up to $500.0 million for the issuance of standby letters of credit on a collateralized basis.
At December 31, 2008, there were no outstanding letters of credit under tranche one and $411.9 million issued under tranche two of the Group Credit Facility. At December 31, 2007, there were outstanding letters of credit of $22.0 million and $288.0 million under tranche one and tranche two of the Group Credit Facility, respectively.
Effective August 23, 2006, Holdings entered into a five year, $150.0 million senior revolving credit facility with a syndicate of lenders, referred to as the “Holdings Credit Facility”. Citibank N.A. is the administrative agent for the Holdings Credit Facility. The Holdings Credit Facility may be used for liquidity and general corporate purposes. The Holdings Credit Facility provides for the borrowing of up to $150.0 million with interest at a rate selected by Holdings equal to either, (1) the Base Rate (as defined below) or (2) a periodic fixed rate equal to the Eurodollar Rate plus an applicable margin. The Base Rate means a fluctuating interest rate per annum in effect from time to time to be equal to the higher of (a) the rate of interest publicly
Projected catastrophe losses are generally summarized in terms of the PML. We define PML as anticipated loss, taking into account contract terms and limits, caused by a single catastrophe affecting a broad contiguous geographic area, such as that caused by a hurricane or earthquake. The PML will vary depending upon the severity of modeled simulated losses and the make-up of the in force book of business. The projected severity levels are described in terms of “return periods”, such as “100-year events” and “250-year events”. For example, a 100-year PML corresponds to the estimated loss from a single event which has a 1% probability of being exceeded in a twelve month period. Conversely, it corresponds to a 99% probability that the loss from a single event will fall below the indicated PML. It is important to notes that PMLs are estimates. Modeled events are hypothetical events produced by a stochastic model. As a result, there can
We have not recently purchased corporate retrocessional protection and have generally de-emphasized the purchase of specific reinsurance by our underwriters, reflecting our view that our exposures, in the context of our capital, financial position and current market pricing, do not warrant reinsurance purchases at current price levels. See ITEM 1, “Business - Risk Management of Underwriting and Retrocession Arrangements” for further details.
During 2008, 2007 and 2006, we declared and paid shareholder dividends of $118.6 million, $121.4 million and $39.0 million, respectively. As an insurance holding company, we are partially dependent on dividends and other permitted payments from our subsidiaries to pay cash dividends to our shareholders. The payment of dividends to Group by Holdings and to Holdings by Everest Re is subject to Delaware regulatory restrictions and the payment of dividends to Group by Bermuda Re is subject to Bermuda insurance regulatory restrictions. Management expects that, absent extraordinary catastrophe losses, such restrictions should not affect Everest Re’s ability to declare and pay dividends sufficient to support Holdings’ general corporate needs and that Holdings and Bermuda Re will have the ability to declare and pay dividends sufficient to support Group’s general corporate needs. For the years ended December 31, 2008, 2007 and 2006, Everest Re paid dividends to Holdings of $285.0 million, $245.0 million and $100.0 million, respectively. For the years ended December 31, 2008, 2007 and 2006, Bermuda Re paid dividends to Group of $120.0 million, $0.0 million and $60.0 million, respectively. See ITEM 1, “Business - Regulatory Matters - Dividends” and ITEM 8, “Financial Statements and Supplementary Data” - Note 16 of Notes to Consolidated Financial Statements.
In July 2006, Financial Accounting Standards Board (“FASB”) released FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109” (“FIN 48”), which is effective for fiscal years beginning after December 15, 2006. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes” (“FAS 109”). FIN 48 prescribes the financial statement recognition and measurement criteria for tax positions taken or expected to be taken in a tax return. Further, FIN 48 expands the required disclosures associated with uncertain tax positions. As a result of the
The tables below display the potential impact of market value fluctuations and after-tax unrealized appreciation on our fixed maturity portfolio (including $1,889.8 million of short-term investments) for the periods indicated based on upward and downward parallel and immediate 100 and 200 basis point shifts in interest rates. For legal entities with a U.S. dollar functional currency, this modeling was performed on each security individually. To generate appropriate price estimates on mortgage-backed securities, changes in prepayment expectations under different interest rate environments were taken into account. For legal entities with a non-U.S. dollar functional currency, the effective duration of the involved portfolio of securities was used as a proxy for the market value change under the various interest rate change scenarios.
Equity Risk. Equity risk is the potential change in fair and/or market value of the common stock and preferred stock portfolios arising from changing equity prices. Our equity investments consist of a diversified portfolio of individual securities and exchange traded and mutual funds, which invest principally in high quality common and preferred stocks that are traded on the major exchanges. The primary objective of the equity portfolio was to obtain greater total return relative to bonds over time through market appreciation and income.
Equity Index Put Options. Although not considered material in the context of our aggregate exposure to market sensitive instruments, we have issued six equity index put options based on the S&P 500 index and one equity index put option based on the FTSE 100 index, that are market sensitive and sufficiently unique to warrant supplemental disclosure.
This report contains forward-looking statements within the meaning of the U.S. federal securities laws. We intend these forward-looking statements to be covered by the safe harbor provisions for forward-looking statements in the federal securities laws. In some cases, these statements can be identified by the use of forward-looking words such as “may”, “will”, “should”, “could”, “anticipate”, “estimate”, “expect”, “plan”, “believe”, “predict”, “potential” and “intend”. Forward-looking statements contained in this report include information regarding our reserves for losses and LAE, the adequacy of our provision for uncollectible balances, estimates of our catastrophe exposure, the effects of catastrophic events on our financial statements, the ability of Everest Re, Holdings and Bermuda Re to pay dividends and the settlement costs of our specialized equity put options. Forward-looking statements only reflect our expectations and are not guarantees of performance. These statements involve risks, uncertainties and assumptions. Actual events or results may differ materially from our expectations. Important factors that could cause our actual events or results to be materially different from our expectations include those discussed under the caption, ITEM
1A, “Risk Factors”. We undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise.