Our corporate headquarters are located in offices owned by the Company in Switzerland. In addition, we lease space in Australia, Bermuda, Canada, England, Hong Kong, Ireland, Singapore and the United States for the operation of our North American Insurance, Global Markets Insurance and Reinsurance segments. Our leases have remaining terms ranging from approximately two years to approximately seventeen years in length. We renew and enter into new leases in the ordinary course of business as needed. While we believe that the office space from these leased properties is sufficient for us to conduct our operations for the foreseeable future, we may need to expand into additional facilities to accommodate future growth. For more information on our leasing arrangements, please see Note 15 of the notes to the consolidated financial statements in this Form 10-K.
We are a Swiss-based global provider of a diversified portfolio of property and casualty insurance and reinsurance products with operations in Australia, Bermuda, Canada, Europe, Hong Kong, Singapore and the United States as well as our Lloyd’s Syndicate 2232. We manage our business through three operating segments: North American Insurance, Global Markets Insurance and Reinsurance. As of December 31, 2014, we had approximately $12.4 billion of total assets, $3.8 billion of total shareholders’ equity and $4.6 billion of total capital, which includes shareholders’ equity, senior notes and other long-term debt.
During the year ended December 31, 2014, we continued to grow our direct insurance business, in particular in the United States and Europe, as we entered new lines of business and added scale to our existing lines of business while our Reinsurance segment remained flat year-over-year by selectively writing accounts where pricing, terms and conditions met our underwriting requirements. During the year, we experienced positive rate improvements in certain lines of business, such as general casualty, primary casualty, healthcare and professional liability in our U.S. direct insurance operations of the North American Insurance segment. During the year, we also experienced negative rate changes in our general property line of business in both our North American Insurance and Global Markets Insurance segments, as well as negative rate changes in our professional liability, general casualty and aviation lines of business in the Global Markets Insurance segment. We believe in the near-term, there will be pricing pressure across most lines of business, in particular in our Global Markets Insurance and Reinsurance segments.
Higher net favorable prior year reserve development of $45.4 million. We recorded net favorable prior year development of $71.7 million during the three months ended December 31, 2014 compared to net favorable prior year reserve development of $26.4 million during the three months ended December 31, 2013.
Higher net premiums earned in our North American Insurance segment and Global Markets Insurance segment partially offset by slightly lower net premiums earned in our Reinsurance segment.
On May 1, 2014, the shareholders approved a 3-for-1 stock split of our common shares. All historical share and per share amounts reflect the effect of the stock split.
During the fourth quarter of 2014, our Chief Executive Officer reorganized how we manage our business, and as a result we realigned our executive management team and changed our reportable segments to correspond to the reorganization. Our Bermuda direct insurance operations, except for the trade credit line of business, which had previously been included in the international insurance segment, were combined with the U.S. insurance segment, with the new segment renamed the "North American Insurance" segment. The remaining direct insurance operations of the international insurance segment were renamed the "Global Markets Insurance" segment. The Reinsurance segment remains unchanged. The newly created segments have been recast and our historical financial information has been updated to conform to the new presentation.
that allows for a more complete understanding of the underlying trends in the Company’s business. However, these measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP.
Operating income is an internal performance measure used in the management of our operations and represents after-tax operational results excluding, as applicable, net realized investment gains or losses, net foreign exchange gain or loss and other non-recurring items. We exclude net realized investment gains or losses, net foreign exchange gain or loss and other non-recurring items from our calculation of operating income because these amounts are heavily influenced by and fluctuate in part according to the availability of market opportunities and other factors. In addition to presenting net income determined in accordance with U.S. GAAP, we believe that showing operating income enables investors, analysts, rating agencies and other users of our financial information to more easily analyze our results of operations and our underlying business performance. Operating income should not be viewed as a substitute for U.S. GAAP net income. The following is a reconciliation of operating income to its most closely related U.S. GAAP measure, net income.
We derive our revenues primarily from premiums on our insurance policies and reinsurance contracts, net of any reinsurance or retrocessional coverage purchased. Insurance and reinsurance premiums are a function of the amounts and types of policies and contracts we write, as well as prevailing market prices. Our prices are determined before our ultimate costs, which may extend far into the future, are known. In addition, our revenues include income generated from our investment portfolio, consisting of net investment income and net realized investment gains or losses, and other income related to our non-insurance operations. Investment income is principally derived from interest and dividends earned on investments, partially offset by investment management and custodial expenses and fees paid to our custodian bank. Net realized investment gains or losses include gains or losses from the sale of investments, as well as the change in the fair value of investments that we mark-to-market through net income.
reserves for losses incurred but not reported, or “IBNR”, which are reserves (in addition to case reserves) established by us that we believe are needed for the future settlement of claims. The portion recoverable from reinsurers is deducted from the gross estimated loss.
Reinsurers must rely upon cedents to price the underlying business appropriately.
Paid Loss Development Method. We estimate ultimate losses by calculating past paid loss development factors and applying them to exposure periods with further expected paid loss development. The paid loss development method assumes that losses are paid at a consistent rate. The paid loss development method provides an objective test of reported loss projections because paid losses contain no reserve estimates. In some circumstances, paid losses for recent periods may be too varied for accurate predictions. For many coverages, especially casualty coverages, claim payments are made slowly and it may take years for claims to be fully reported and settled. These payments may be unreliable for determining future loss projections because of shifts in settlement patterns or because of large settlements in the early stages of development. Choosing an
During 2014, 2013 and 2012, we adjusted our reliance on actuarial methods utilized for certain casualty lines of business and loss years within each of our operating segments shifting from the expected loss ratio method to the Bornhuetter-Ferguson reported loss method to varying degrees depending on the class of business, for example excess casualty versus primary casualty, and how old the loss year is. Placing greater reliance on more responsive actuarial methods for certain casualty lines of business and loss years within each of our operating segments is a natural progression as we mature as a company and gain sufficient historical experience of our own that allows us to further refine our estimate of the reserve for losses and loss expenses. We believe utilizing only the Bornhuetter-Ferguson reported loss method for certain older loss years will more accurately reflect the reported loss activity we have had thus far in our ultimate loss ratio selections, and will better reflect how the ultimate losses will develop over time. We will continue to utilize the expected loss ratio method for the most recent loss years until we have sufficient experience to utilize other acceptable actuarial methodologies.
estimated for each year due to lower frequency and severity of reported losses. As a result of this change, we recognized net favorable prior year reserve development in both 2014 and 2013.
The selection of the expected loss ratios for the long-tail lines is our most significant assumption. Due to the lengthy reporting pattern of long-tail lines, we supplement our own experience with industry benchmarks of expected loss ratios and reporting patterns in addition to our own experience. For our older loss years that are long-tail lines, the primary assumption that changed during both 2014 as compared to 2013 and 2013 as compared to 2012 as it relates to prior year losses was using the Bornhuetter-Ferguson loss development method for certain casualty lines of business and loss years as discussed previously. This method calculated a lower projected loss ratio based on loss emergence patterns to date. As a result of the change in the expected loss ratio, we recognized net favorable prior year reserve development in 2014, 2013 and 2012. For the years ended December 31, 2014, and 2013, we recorded a decrease in losses and loss expenses of $159.7 million and $110.5 million, respectively, as a result of shifting from the expected loss ratio method to the Bornhuetter-Ferguson method for older loss years. Also during 2014, actual paid and reported loss emergence was more severe than estimated in our North American Insurance segment for the 2011 through 2013 loss years. The additions to the 2011 through 2013 loss years are consistent with our practice of addressing unfavorable loss emergence early in our long-tail lines of business. We believe that recognition of the reserve changes in the period they were recorded was appropriate since a pattern of reported losses had not emerged and the loss years were previously too immature to deviate from the expected loss ratio method in prior periods.
additional development of losses. As we gain more information and experience about our losses we are able to refine our estimate of the ultimate loss and as a result the reasonably possible variance in our losses is reduced. We believe the reasonably possible change in our loss reserves for the recent years is appropriate as we are relying on less information and experience about how the losses will ultimately develop compared to the older loss years. The total reasonably possible variance of our expected loss ratio for all loss years for our casualty insurance and casualty reinsurance lines of business was five percentage points as of December 31, 2014. Because we expect a small volume of large claims, it is more difficult to estimate the ultimate loss ratios, so we believe the variance of our loss ratio selection could be relatively wide.
Our selection of the actual carried reserves has typically been above the midpoint of the range. As of December 31, 2014, we were 4.0% above the midpoint of the consolidated net loss reserve range. We believe that we should be prudent in our reserving practices due to the lengthy reporting patterns and relatively large limits of net liability for any one risk of our direct excess casualty business and of our casualty reinsurance business. Thus, due to this uncertainty regarding estimates for reserve for losses and loss expenses, we have carried our consolidated reserve for losses and loss expenses, net of reinsurance recoverable, above the midpoint of the low and high estimates for the consolidated net losses and loss expenses. We believe that relying on the more prudent actuarial indications is appropriate for these lines of business.
The examples below illustrate the types of treaty reinsurance arrangements in force at December 31, 2014:
General Casualty: We have purchased quota share reinsurance for our general casualty business in our North American Insurance and Global Markets Insurance segments. At year-end 2014, the percentage ceded varied by location of writing office, with a larger cession being effective for policies written in our Global Markets Insurance segment.
The following table illustrates our reinsurance recoverable as of December 31, 2014 and 2013:
As of December 31, 2014, approximately 99% of ceded case reserves and ceded IBNR were recoverable from reinsurers who had an A.M. Best rating of “A-” or higher. The following table shows a breakdown of our reinsurance recoverables by credit rating as of December 31, 2014:
If our final casualty insurance ceded loss ratios vary by seven percentage points from the expected loss ratios in aggregate, our required reinsurance recoverable would increase or decrease by approximately $196.1 million. Excluding the impact of income taxes, this would result in either an increase or decrease to net income and shareholders’ equity of approximately $196.1 million. As of December 31, 2014, this amount represented approximately 5% of total shareholders’ equity.
As of December 31, 2014, our changes in quota share premium estimates have been adjustments of 2%, 7% and 15% for the 2013, 2012 and 2011 treaty years, respectively. For the 2014 treaty year, if we assume the average change of premium estimates for the past three years was a 8% change then it is reasonably likely that our gross premiums written in our Reinsurance segment would increase or decrease by $35.5 million over the next three years. There would also be a related increase or decrease in loss and loss expenses and acquisition costs due to the increase or decrease in gross premiums written.
Total premiums estimated on quota share reinsurance contracts for the years ended December 31, 2014, 2013 and 2012 represented approximately 15%, 16% and 13%, respectively, of consolidated gross premiums written.
In accordance with U.S. GAAP, we are required to recognize certain assets at their fair value in our consolidated balance sheets. This includes our fixed maturity investments and "other invested assets". Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. There is a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy is based upon whether the inputs to the valuation of an asset or liability are observable or unobservable in the market at the measurement date, with quoted market prices being the highest level (Level 1) and unobservable inputs being the lowest level (Level 3). A fair value measurement will fall within the level of the hierarchy based on the input that is significant to determining such measurement. The three levels are defined as follows:
U.S. government and U.S. government agencies: Comprised primarily of bonds issued by the U.S. Treasury, the Federal Home Loan Bank, the Federal Home Loan Mortgage Corporation and the Federal National Mortgage Association. The fair values of U.S. government securities are based on quoted market prices in active markets, and are included in the Level 1 fair value hierarchy. We believe the market for U.S. Treasury securities is an actively traded market given the high level of daily trading volume. The fair values of U.S. government agency securities are priced using the spread above the risk-free yield curve. As the yields for the risk-free yield curve and the spreads for these securities are observable market inputs, the fair values of U.S. government agency securities are included in the Level 2 fair value hierarchy.
States, municipalities and political subdivisions: Comprised of fixed income obligations of U.S. domiciled state and municipality entities. The fair values of these securities are based on prices obtained from the new issue market, and are included in the Level 2 fair value hierarchy.
The following table shows the pricing sources of our fixed maturity investments held as of December 31, 2014 and 2013:
The following summarizes the valuation techniques used by each each of our major pricing sources:
We utilize independent pricing sources to obtain market quotations for securities that have quoted prices in active markets. In general, the independent pricing sources use observable market inputs, including, but not limited to, investment yields, credit risks and spreads, benchmarking of like securities, non-binding broker-dealer quotes, reported trades and sector groupings to determine the fair value. For a majority of the portfolio, we obtained two or more prices per security as of December 31, 2014. When multiple prices are obtained, a price source hierarchy is utilized to determine which price source is the best estimate of the fair value of the security. The price source hierarchy emphasizes more weighting to significant observable inputs such as index pricing and less weighting towards non-binding broker quotes. In addition, to validate all prices
Other relevant events such as changes in management, key personnel, strategy, or costumers; contemplation of bankruptcy; or litigation;
As a result of our evaluation, we determined that there was no impairment to the carrying value of our intangible assets with finite lives for the year ended December 31, 2014.
During 2014, we elected to bypass the qualitative assessment and performed the first step of the goodwill impairment testing on the goodwill.
Global Markets Insurance : Gross premiums written in our Global Markets Insurance segment increased by $47.9 million, or 20.6%, for the year ended December 31, 2014 compared to 2013. The increase was primarily due to continued growth across all existing lines of business and new lines of business, such as marine cargo and onshore construction. This growth was partially offset by the non-renewal of business across several lines of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition; and
The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables:
Other expense represents the expenses of our third-party claims administration services that we acquired in the current year and the transaction-related costs incurred for the expected acquisition of the Hong Kong and Singapore operations of RSA.
Global Markets Insurance: Gross premiums written in our Global Markets Insurance segment increased by $39.6 million, or 20.5%, for the year ended December 31, 2013 compared to 2012. The increase was primarily due to new business from existing lines and from newer initiatives, such as small- to medium-sized enterprise ("SME") insurance products, and our expansion into aviation in 2013, which generated $30.5 million in premiums. The professional liability and healthcare lines of business added $10.7 million and $5.7 million, respectively, with increased participations on renewing business, as well as new business. However, this growth was partially offset by non-recurring premiums in our trade credit line of business recorded in 2012 and lower rates across most lines of business; and
Net premiums written increased by $282.7 million, or 15.4%, for the year ended December 31, 2013 compared to the year ended December 31, 2012. The increase in net premiums written was due to the increase in gross premiums written. The difference between gross and net premiums written is the cost to us of purchasing reinsurance coverage, including the cost of property catastrophe reinsurance coverage. We ceded 22.6% of gross premiums written for the year ended December 31, 2013 compared to 21.1% in 2012. The increase was primarily due to our purchase of a new collateralized retrocessional catastrophe cover in our Reinsurance segment and a new property catastrophe coverage for North American Insurance and Global Markets Insurance segments, as well as quota share reinsurance treaties on new product lines. Both of these reinsurance coverages increased the ceded percentage by 1.2% percentage points.
The book yield of the investment portfolio for the years ended December 31, 2013 and 2012 was 1.9% and 2.1%, respectively. The decrease in the book yield was due to the reinvestment of cash at lower rates and an increased allocation to asset classes that carry little or no current yield, combined with lower market yields. Our average duration increased from 2.0 years as of December 31, 2012 to 2.4 years as of December 31, 2013.
We recorded net favorable reserve development related to prior years of $180.3 million during the year ended December 31, 2013 compared to net favorable reserve development of $170.3 million for the year ended December 31, 2012, as shown in the tables below.
The favorable reserve development for our Reinsurance segment was due to lower than expected reported losses in our property reinsurance line of business, including favorable loss reserve development related to catastrophic events that occurred in 2010 through 2012.
The net favorable reserve development was a result of actual loss emergence being lower than anticipated. The unfavorable reserve development in our North American Insurance segment for the 2010 and 2011 loss years was primarily due to adverse development of $25.1 million on a program that commenced writing in 2008 and was terminated during 2011. We also experienced adverse development for the 2011 loss year for certain products and a loss on an individual claim, estimated to reach our full limit of $20 million, net of reinsurance.
The increase in net losses paid was due to higher net paid losses for catastrophe losses incurred in prior periods during 2013 compared to 2012. The remaining increase in net paid losses was consistent with the growth of our operating segments.
Acquisition costs increased by $47.0 million, or 22.8%, for the year ended December 31, 2013 compared to the year ended December 31, 2012. The increase in acquisition costs was primarily due to higher acquisition costs in our North American Insurance and Reinsurance segments. Acquisition costs as a percentage of net premiums earned were 12.6% for the year ended December 31, 2013 compared to 11.8% for 2012. The increase in the acquisition cost ratio was driven by the increased profit commission and other acquisition cost accruals in our North American Insurance and Reinsurance segments, as well as the impact of the retrocessional reinsurance catastrophe cover in our Reinsurance segment put in place in the current year. The retrocessional reinsurance catastrophe cover reduced net premiums earned but did not have any offsetting ceding commission income, and therefore caused the acquisition costs ratio to increase.
General and administrative expenses increased by $45.0 million, or 14.6%, for the year ended December 31, 2013 compared to the year ended December 31, 2012. The increase in general and administrative expenses was primarily due to increased salary and related costs as average headcount increased by 14% to support our continued growth, combined with increased stock-based compensation expense related to awards that are settled in cash resulting from a 43% increase in our share price during the year and higher performance-based compensation expense as profitability exceeded target levels. We have granted cash equivalent restricted stock units and performance-based equity awards to certain key employees, and we measure the value of each award at the period ending share price.
Our general and administrative expense ratio was 17.6% for both the years ended December 31, 2013 and December 31, 2012.
Reinsurance Segment. Our Reinsurance segment has operations in Bermuda, Europe, Singapore and the United States. This segment includes the reinsurance of property, general casualty, professional liability, specialty lines and property catastrophe coverages written by insurance companies. We presently write reinsurance on both a treaty and a facultative basis, targeting several niche reinsurance markets.
The following table summarizes the underwriting results and associated ratios for the North American Insurance segment for each of the years ended December 31, 2014, 2013 and 2012.
Net losses and loss expenses. Net losses and loss expenses increased by $32.5 million, or 5.0%, for the year ended December 31, 2014 compared to the year ended December 31, 2013. Overall, the increase in net losses and loss expenses was primarily due to overall growth of the U.S. direct insurance operations of the North American Insurance segment. This was partially offset by higher net favorable prior year development during 2014 compared to 2013.
The increase in the current year non-catastrophe losses and loss expenses was primarily due to the growth of the U.S. direct insurance operations. The decrease in the current year non-catastrophe losses and loss expenses ratio was primarily due to the change in mix of business with more premiums written in our casualty lines of business in the current year compared to the prior period.
Overall, our North American Insurance segment recorded net favorable reserve development of $68.4 million during the year ended December 31, 2014 compared to net favorable reserve development of $46.0 million for the year ended December 31, 2013, as shown in the tables below.
Premiums. Gross premiums written increased by $196.4 million, or 14.3%, for the year ended December 31, 2013 compared to 2012. The increase in gross premiums written was primarily driven by higher production in our U.S. direct insurance operations. The higher gross premiums written in our U.S. direct insurance operations was due to new business across most lines that added $414.7 million during the year, combined with premium rate increases in all lines of business. This was particularly evident in our property and casualty lines of business that had an overall increase in gross premiums written of $183.1 million. This growth was partially offset by the non-renewal of business, particularly in our healthcare and private/not for profit D&O lines of business, that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and continued competition.
Net premiums earned increased by $130.3 million, or 14.6%, for the year ended December 31, 2013 compared to 2012. The increase was primarily due to the growth of our U.S. direct insurance operations during 2013 and 2012.
The following is a breakdown of the loss and loss expense ratio for the years ended December 31, 2013 and 2012:
During the year ended December 31, 2013, we did not incur any losses related to catastrophes. During the year ended December 31, 2012, we incurred $96.9 million of catastrophe-related losses, of which $93.0 million related to Superstorm Sandy and $3.9 million related to Hurricane Isaac.
Overall, our North American Insurance segment recorded net favorable reserve development of $46.0 million during the year ended December 31, 2013 compared to net favorable reserve development of $83.0 million for the year ended December 31, 2012, as shown in the tables below.
Net premiums earned increased by $36.6 million, or 29.0%, primarily due to the continued growth of the Global Markets Insurance operations.
Premiums. Gross premiums written increased by $39.6 million, or 20.5%, for the year ended December 31, 2013 compared to 2012. The increase was primarily due to new business from existing lines and from newer initiatives, such as SME, and the aviation business we took over from Markel International Limited during 2013. Effective October 1, 2013, we acquired the renewal rights to a book of aviation business from Markel International that was written through its Lloyd’s Syndicate 1400 and Markel Europe plc. In conjunction with the renewal rights agreement, in August 2013 we assumed the unexpired in-force aviation business from Markel International. The combined result of the renewal rights and the assumption of the unexpired in-force aviation business from Markel International resulted in gross premiums written of $30.5 million. This business encompasses airlines, aerospace (primarily airports and aviation products) and general aviation classes. The professional liability and healthcare lines of business added $10.7 million and $5.7 million, respectively, with increased participations on renewing business, as well as new business. However, this growth was partially offset by non-recurring premiums in our trade credit line of business recorded in 2012 and lower rates across most lines of business.
Net premiums earned increased by $10.3 million, or 8.9%, primarily due to higher net premiums written in 2013 and 2012.
Net losses and loss expenses. Net losses and loss expenses increased by $30.9 million for the year ended December 31, 2013 compared to the year ended December 31, 2012. The increase in net losses and loss expenses was primarily due to higher attritional property losses and lower net favorable prior year reserve development in 2013 compared to 2012.
The increase in the current year non-catastrophe losses and loss expense and related ratio was due to higher attritional property losses in 2013 compared to 2012.
The net favorable reserve development for loss years 2003 to 2011 was a result of actual loss emergence being lower than anticipated.
Acquisition costs. Acquisition costs increased by $1.5 million, or 17.6%, for the year ended December 31, 2013 compared to the year ended December 31, 2012. The acquisition cost ratio was 8.0% for the year ended December 31, 2013 and 7.3% for the year ended December 31, 2012. The increase was due to growth in lines of business with higher acquisition costs.
General and administrative expenses. General and administrative expenses increased by $14.8 million, or 30.6%, for the year ended December 31, 2013 compared to the year ended December 31, 2012. The increase in general and administrative expenses was primarily due to increased salary and related costs incurred as we continue to expand, combined with higher incentive compensation due to increased profitability and a higher stock price. The general and administrative expense ratios for the years ended December 31, 2013 and 2012 were 50.1% and 41.8%, respectively.
The following table summarizes the underwriting results and associated ratios for the Reinsurance segment for the years ended December 31, 2014, 2013 and 2012.
Net premiums written increased by $10.2 million, or 1.1%, for the year ended December 31, 2014 compared to the same period in 2013. The increase in net premiums written was primarily due to the increase in gross premiums written and not renewing the prior year's collateralized retrocessional catastrophe cover partially offset by ceded premiums written for the current year collateralized property catastrophe reinsurance protection.
During the year ended December 31, 2014, we incurred $50.0 million of catastrophe-related losses while during the year ended December 31, 2013, we incurred $13.5 million of catastrophe-related losses related to Typhoon Fitow in China. The $50.0 million of catastrophe-related losses related to a hailstorm in Brisbane, Australia ($12.5 million), PCS storm #45 ($12.5 million), Windstorm Ela ($12.0 million), Typhoon Rammasun ($10.0 million) and Hurricane Odile ($3.0 million).
Premiums. Gross premiums written increased by $173.5 million, or 22.8%, for the year ended December 31, 2013 compared to 2012. The increase in gross premiums written was primarily due to the growth in our property and specialty lines of business. The growth of the property reinsurance line of business primarily related to new business across all geographic locations, as well as increased business through our collateralized property catastrophe reinsurance program. Our specialty reinsurance line of business increased primarily due to our crop reinsurance gross premiums written increasing by $39.3 million due to new business, increased participations and rate increases and from our marine and aviation reinsurance gross premiums written also increasing by $5.5 million.
Net premiums written increased by $145.0 million, or 19.4%, for the year ended December 31, 2013 compared to the same period in 2012. The increase in net premiums written is lower than the increase in gross premiums due to purchasing a collateralized retrocessional catastrophe cover during 2013, which provided $25 million limit per occurrence on a worldwide basis, with attachment points varying by risk and geography and a maximum indemnity of $100 million. We did not purchase similar collateralized retrocessional catastrophe reinsurance during 2012.
Overall, our Reinsurance segment recorded net favorable reserve development of $96.0 million during the year ended December 31, 2013 compared to net favorable reserve development of $30.4 million for the year ended December 31, 2012, as shown in the tables below.
Acquisition costs. Acquisition costs increased by $28.3 million, or 23.7%, for the year ended December 31, 2013 compared to the year ended December 31, 2012. The increase in acquisition costs was due to the increase in net premiums written, as well as higher profit commission accruals. The increased profit commission accruals primarily relates to the profit commissions we pay related to our collateralized property catastrophe reinsurance program. The acquisition cost ratio was 17.2% for the year ended December 31, 2013 compared to 16.1% for the year ended December 31, 2012. The increase is due to the increase in profit commission accruals, as well as the impact of the retrocessional reinsurance catastrophe cover put in place in the current year. The retrocessional reinsurance catastrophe cover reduced net premiums earned but did not have any offsetting ceding commission income, and therefore resulted in the acquisition costs ratio to increase.
Historically, our operating subsidiaries have generated sufficient cash flows to meet all of their obligations. Because of the inherent volatility of our business, the seasonality in the timing of payments by insureds and cedents, the irregular timing of loss payments, and the impact of a change in interest rates and credit spreads on the investment income as well as seasonality in coupon payment dates for fixed income securities, cash flows from operating activities may vary between periods. In the unlikely event that paid losses exceed operating cash flows in any given period, we would use our cash balances available, liquidate a portion of our investment portfolio or borrow under our revolving loan facility (see “Credit Facility” below) in order to meet our short-term liquidity needs.
Our total investments and cash totaled $8.5 billion as of December 31, 2014, the main components of which were investment grade fixed income securities and cash and cash equivalents. As of December 31, 2014, we held $589.3 million of cash and cash equivalents and $250.4 million of fixed income securities with a maturity of less than one year to meet short-term liquidity needs. Our remaining fixed income securities, equity securities and "other invested assets" are available to meet our long-term liquidity needs.
We also have insurance subsidiaries that are the parent company for other insurance subsidiaries, which means that dividends and other distributions will be subject to multiple layers of regulations in order to dividend funds to Holdings. The inability of the subsidiaries of Holdings to pay dividends and other permitted distributions could have a material adverse effect on Holdings’ cash requirements and our ability to make principal, interest and dividend payments on the senior notes and common shares.
The primary sources of cash inflows from operating activities are premiums received, loss payments from reinsurers, return of funds held balances related to our assumed collaterlized property catastrophe reinsurance program through Aeolus Re and investment income. The primary sources of cash outflows from operating activities are ceded premiums paid to reinsurers, claims paid, contributions of funds held balances, commissions paid, operating expenses, interest expense and income taxes. The primary factor in our ability to generate positive operating cash flow is underwriting profitability. We have generated positive operating cash flow for more than 10 consecutive years.
The $302.4 million increase in cash flows from operations was primarily due to a lower increase in our funds held balance during 2014 compared to 2013. During 2014, we contributed $25.0 million and $325.0 million to Aeolus for the current and upcoming underwriting years, respectively, and received $212.3 million from Aeolus Re for prior underwriting
Cash flows used in investing activities consist primarily of payments for investments acquired, proceeds on the sale of investments and changes in restricted cash. Cash flows used in investing activities increased $78.9 million from $48.1 million for the year ended December 31, 2013 to $127.0 million for the year ended December 31, 2014. The increase was primarily due to the construction of a company-used office building in Zug, Switzerland for $44.5 million.
Cash flows used in financing activities consist primarily of capital raising activities, which include the issuance of common shares or debt, the repurchase of our shares, the payment of dividends and the repayment of debt. The $15.5 million increase in cash flows used in financing activities was primarily due to higher dividends paid to shareholders partially offset by the proceeds received from a mortgage and credit facility used to finance the construction of a company-used office building in Zug, Switzerland.
We have investments in “other invested assets”, comprising interests in hedge funds and private equity funds, the carrying value of which was $955.5 million as of December 31, 2014. Some of these funds have redemption notice requirements. For each of our funds, liquidity is allowed after certain defined periods based on the terms of each fund. See Note 3(b) “Investments - Other Invested Assets” to our consolidated financial statements for additional details on our "other invested assets".
Allied World Assurance Company, Ltd uses trust accounts primarily to meet security requirements for inter-company and certain reinsurance transactions. We also have cash and cash equivalents and investments on deposit with various state or government insurance departments or pledged in favor of ceding companies in order to comply with reinsurance contract provisions and relevant insurance regulations. In addition, Allied World Assurance Company, Ltd currently has access to up to
As of December 31, 2014 and 2013, $3,585.8 million and $2,894.4 million, respectively, of cash and cash equivalents and investments 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.
On June 7, 2012, Allied World Bermuda amended its existing secured credit facility. The amended $450 million four-year secured credit facility (the “Amended Secured Credit Facility”) is with a syndication of lenders and is primarily for the issuance of standby letters of credit to support obligations in connection with the insurance and reinsurance business of Allied World
Bermuda and its subsidiaries. The facility may also be used for revolving loans for general corporate and working capital purposes, up to a maximum of $150 million. Allied World Bermuda may request that existing lenders under the Amended Secured Credit Facility make additional commitments from time to time, up to $150 million, subject to approval by the lenders.
On November 12, 2014, Allied World Bermuda gave irrevocable notice to the administrative agent under the Amended Secured Credit Facility to reduce the aggregate commitment from $450 million to $150 million. All other material items of the Amended Secured Credit Facility remain unchanged.The Amended Secured Credit Facility contains representations, warranties and covenants customary for similar bank loan facilities, including certain covenants that, among other things, require us to maintain a certain leverage ratio and financial strength rating. We are in compliance with all covenants under the Amended Secured Credit Facility as of December 31, 2014.
As of December 31, 2014, we also have access to a $1 billion uncommitted letter of credit facility with Citibank Europe plc. The letters of credit issued under the credit facility with Citibank Europe plc are deemed to be automatically extended without amendment for twelve months from the expiry date, or any future expiration date unless at least 30 days prior to any expiration date Citibank Europe plc notifies us that they elect not to consider the letters of credit renewed for any such additional period.
As of December 31, 2014, we had a combined unused letters of credit capacity of $652.7 million from the Amended Secured Credit Facility and Citibank Europe plc. We believe that this remaining capacity is sufficient to meet our future letter of credit needs.
The following table shows our aggregate contractual obligations by time period remaining until due date as of December 31, 2014:
As of December 31, 2014, we did not have any off-balance sheet arrangements.