For the year ended December 31, 2014, we reported net income of $183.2 million, or $6.90 per fully diluted share. For the year ended December 31, 2013, we reported net income of $143.2 million, or $5.14 per fully diluted share. For the year ended December 31, 2012, we reported net income of $52.3 million, or $1.83 per fully diluted share.
The following is a comparison of select data from our results of operations:
Consolidated net investment income decreased for the year ended December 31, 2014 as compared to the same periods ended 2013 and 2012 due primarily to the continued reinvestment at market yields below the portfolio’s book yield and an increased focus on total portfolio returns relative to investment income. Additionally, the decline in consolidated net investment income was impacted by the transfer of invested assets used to settle a quota share reinsurance agreement within our Syndicate 1200 segment. Total invested assets at December 31, 2014 were $4,022.7 million, net of $75.2 million of invested assets attributable to ArgoGlobal Syndicate 1200’s trade capital providers. Total invested assets at December 31, 2013 were $3,991.9 million, net of $87.3 million of invested assets attributable to ArgoGlobal Syndicate 1200’s trade capital providers. Total invested assets at December 31, 2012 were $4,056.8 million, net of $143.9 million of invested assets attributable to such trade capital providers.
Consolidated losses and loss adjustment expenses were $747.4 million, $742.0 million and $747.6 million for the years ended December 31, 2014, 2013 and 2012, respectively. Included in losses and loss adjustment expenses during 2014 were $25.6 million in large losses for the current accident year along with $18.7 million in catastrophe losses resulting from storm activity in the U.S., various hailstorms, Typhoon Rammasum and Hurricane Odile. Partially offsetting these current accident year losses was $37.7 million of net favorable development on prior year accident loss reserves, primarily attributable to favorable development in our general liability line and our Syndicate 1200 liability and property lines, partially offset by unfavorable development in the commercial multi-peril and commercial automobile lines.
Included in losses and loss adjustment expenses during 2013 were $16.8 million in current accident year large losses in our Excess and Surplus Lines, Commercial Specialty and International Specialty segments. There was also $24.6 million in catastrophe losses
primarily attributable to storm activity in the U.S. and Germany and flooding in Europe and Canada. Offsetting these 2013 accident year losses was $33.6 million in net favorable loss reserve development on prior accident years, primarily within our general liability lines of business.
Included in losses and loss adjustment expenses for the year ended December 31, 2012 was $75.2 million in catastrophe losses from storm activity in the United States, including Superstorm Sandy and Hurricane Isaac. Partially offsetting these catastrophe losses was $32.9 million in net favorable loss reserve development on prior accident years. The net favorable development was primarily attributable to our general liability, workers compensation and Syndicate 1200 segment property lines, partially offset by unfavorable development in our commercial multi-peril lines.
The following table summarizes the above referenced loss reserve development as respects to prior year loss reserves by line of business for the year ended December 31, 2014:
Consolidated gross reserves for loss and loss adjustment expenses were $3,042.4 million (including $80.3 million of reserves attributable to ArgoGlobal Syndicate 1200’s trade capital providers), $3,230.3 million (including $128.6 million of reserves attributable to the trade capital providers) and $3,223.5 million (including $161.6 million of reserves attributable to the trade capital providers) as of December 31, 2014, 2013 and 2012, respectively. Management has recorded its best estimate of loss reserves at each date based on current known facts and circumstances. Due to the significant uncertainties inherent in the estimation of loss reserves, there can be no assurance that future loss development, favorable or unfavorable, will not occur.
The decline in the expense ratio for the year ended December 31, 2014 as compared to the same period in 2013 was primarily attributable to an increase in ceding commission received coupled with a decline in agent contingent commissions. Fixed expenses were comparable between the periods. The decline in the expense ratio for the year ended December 31, 2013 as compared to the same period in 2012 was primarily attributable to the increase in earned premiums, without a corresponding increase in fixed costs.
The increase in gross written premiums for the year ended December 31, 2014 as compared to the same period ended 2013 was primarily attributable to increased underwriting in our surety, commercial mining and state funds units. Partially offsetting these increases was reduced underwriting in our retail business, commercial programs and public entity units due to planned reductions as we exited unprofitable accounts and implemented underwriting initiatives. The decline in gross written premiums for the year ended December 31, 2013 as compared to 2012 was primarily due to reduced writings in our retail business and public entity units due to planned reductions noted above. The decline in earned premiums was attributable to the reduced gross written premiums for the years presented.
Included in losses and loss adjustment expense for the year ended December 31, 2014 was $5.7 million in catastrophe losses for storm activity in the United States. Included in losses and loss adjustment expense for the year ended December 31, 2014 was $2.4 million related to current accident year large losses primarily within the property lines. Additionally, included in losses and loss adjustment expenses was $6.8 million in net unfavorable loss reserve development on prior accident years, primarily attributable to $19.5 million of unfavorable development in general liability due to increases in claim severity, partially offset by favorable development of $7.9 million of favorable development in short-tail lines and $5.8 million in workers compensation.
The slight decline in gross written premiums for the year ended December 31, 2014 as compared to the same period in 2013 was primarily attributable to declines in our property reinsurance unit due to increased competition and declining rates. Partially offsetting this decline was increased gross written premiums in our casualty, professional liability and Brazil units. The increase in earned premiums for the year ended December 31, 2014 as compared to 2013 was due to premium growth in the first half of 2014. Gross written and earned premiums increased for the year ended December 31, 2013 in comparison to the same period in 2012 primarily as a result of continued growth in our Brazil operations and in our excess casualty and professional lines units, while gross written premiums for the property reinsurance lines remained consistent.
Losses and loss adjustment expenses for the year ended December 31, 2014 included $8.2 million in catastrophe losses primarily attributable to hail and other storms. Loss reserve development on prior accident years was negligible.
Losses and loss adjustment expenses for the year ended December 31, 2012 included $24.7 million in catastrophe losses from storm activity in the U.S., including $23.6 million from Superstorm Sandy. In addition, International Specialty experienced $6.0 million in losses related to crop exposures. Partially offsetting these current accident year losses was $7.2 million in net favorable loss reserve development on prior accident years primarily attributable to favorable development in short-tail non-catastrophe losses.
In 2014, we decreased our direct participation in the syndicate managed by ArgoGlobal Syndicate 1200 to 69%, down from 79% in both 2013 and 2012, which resulted in a reduction in gross written premiums. Additionally, the decline in gross written premiums for the year ended December 31, 2014 as compared to 2013 was attributable to reductions in the property and general liability lines as we exited certain unprofitable accounts. Partially offsetting these declines were increased gross written premiums in the marine and energy and political risk lines. The Syndicate 1200 segment has been adversely impacted by increased competition in 2014. The increase in earned premiums was due to increased gross written premiums in the fourth quarter of 2013 and continuing into the first half of 2014. The increase in gross written and earned premiums for the year ended December 31, 2013 as compared to 2012 was primarily attributable to increases in certain liability lines and in the personal accident lines.
The Syndicate 1200 segment reported no catastrophe losses for the year ended December 31, 2013. Included in losses and loss adjustment expense for the year ended December 31, 2013 were current accident year large losses of $4.4 million resulting from two onshore energy losses. The Syndicate 1200 segment had net favorable loss development of $6.2 million primarily attributable to $12.8 million of favorable development in various property classes, partially offset by $6.3 million of unfavorable development in liability lines associated with municipality business.
Included in losses and loss adjustment expenses for the year ended December 31, 2012 was $21.2 million of catastrophe losses consisting of $18.2 million from Superstorm Sandy and $3.0 million from Hurricane Isaac. The Syndicate 1200 segment had net favorable loss development of $9.7 million primarily attributable to favorable development in the property facultative, North American binder and Directors and Officers classes of business, partially offset by unfavorable development in the general liability property class of business.
Fee income (expense), net represents fees and profit commission derived from the management of third party capital for our underwriting syndicate at Lloyd’s. The fee income, net for the year ended December 31, 2014 was primarily due to the reduced
syndicate participation maintained by Argo Group, which resulted in increased commissions for managing the business for the trade capital providers. The fee expense, net for the year ended December 31, 2013 was primarily due to the allocation of certain compensation expense not borne by the Syndicate.
Earned premiums for the years ended December 31, 2014, 2013 and 2012 were primarily attributable to adjustments resulting from final audits, reinstatement premiums and other adjustments on policies previously underwritten.
Underwriting, acquisition and insurance expenses for the Run-off Lines segment consists primarily of administrative expenses. Underwriting expense for the year ended December 31, 2014 was favorably impacted by a $1.1 million recovery of a
estimate of IBNR losses based on projections of future claims and the average severity for those future claims. The severities were calculated based on our specific data and in our opinion best reflect our liabilities based upon the insurance policies issued.
Because of the types of coverage within the Run-off Lines of business still being serviced by Argonaut Insurance Company, a significant amount of subjectivity and uncertainty exists in establishing the reserves for losses and loss adjustment expenses. Factors that increase these uncertainties are: (1) lack of historical data, (2) inapplicability of standard actuarial projection techniques, (3) uncertainties regarding ultimate claim costs, (4) coverage interpretations and (5) the judicial, statutory and regulatory environments under which these claims may ultimately be resolved. Significant uncertainty remains as to our ultimate liability due to the potentially long waiting period between exposure and emergence of any bodily injury or property damage and the resulting potential for involvement of multiple policy periods for individual claims. Due to these uncertainties, the current trends may not be indicative of future results. Although we have determined and recorded our best estimate of the reserves for losses and loss adjustment expenses for Run-off Lines, current judicial and legislative decisions continue to broaden liability, expand policy scopes and increase the severity of claims payments. As a result of these and other recent developments, the uncertainties inherent in estimating ultimate loss reserves are heightened, further complicating the already complex process of determining loss reserves. The industry as a whole is involved in extensive litigation over these coverages and liability issues continue to make it difficult to quantify these exposures.
For the years ended December 31, 2014, 2013 and 2012, net cash used by financing activities was $82.4 million, $59.5 million and $33.8 million, respectively. During 2014, 2013 and 2012, we repurchased approximately 1.0 million, 1.1 million and 1.5 million shares, respectively, of our common shares for a total cost of $50.8 million, $46.5 million and $44.2 million, respectively. We paid dividends to our shareholders totaling $18.2 million, $15.8 million and $12.3 million during the years ended December 31, 2014, 2013 and 2012, respectively. During 2014, we paid $18.0 million for the extinguishment of one of our fixed rate trust preferred securities. Additionally, during 2012, we used $117.2 million for the redemption of two of our fixed rate trust preferred securities and received $138.7 million in net cash proceeds from the issuance of senior unsecured fixed rate notes.
In addition, our ability to receive dividends from our downstream subsidiaries is subject to the ability of each parent corporation within the corporate ownership structure to receive dividends from its respective subsidiary(ies), based upon the subsidiary’s domiciliary regulations. Argo Re is the primary direct subsidiary of Argo Group and is subject to Bermuda insurance laws. Argo Ireland is indirectly owned by Argo Re and is a mid-level holding company subject to Irish laws, and its primary subsidiary is Argo Group US, Inc. Argo Group US, Inc. is a mid-level holding company subject to Delaware laws. Argo Group US, Inc. is the parent of all of our U.S. insurance subsidiaries.
During 2015, Argo Group US, Inc. may be permitted to receive dividends from its subsidiaries as follows: Colony - $71.7 million, Argonaut Insurance Company - $39.1 million and Rockwood - $13.3 million. Business and regulatory considerations may impact the amount of dividends actually paid and prior approval of dividend payments may be required.
On March 7, 2014, each of Argo Group, Argo Group US, Inc., Argo International Holdings Limited, and Argo Underwriting Agency Limited (the “Borrowers”) entered into a $175.0 million Credit Agreement (“New Credit Agreement”) with JPMorgan Chase Bank, N.A., as administrative agent. The New Credit Agreement replaced and terminated the original $150.0 million Credit Agreement. The New Credit Agreement provides for a $175.0 million revolving credit facility with a maturity date of March 7, 2018 unless extended in accordance with the terms of the New Credit Agreement. Borrowings under the New Credit Agreement may be used for general corporate purposes, including working capital and permitted acquisitions, and each of the Borrowers has agreed to be jointly and severally liable for the obligations of the other Borrowers under the New Credit Agreement.
The New Credit Agreement contains customary events of default. If an event of default occurs and is continuing, the Borrowers could be required to repay all amounts outstanding under the New Credit Agreement. Lenders holding at least a majority of the loans and commitments under the New Credit Agreement may elect to accelerate the maturity of the loans and/or terminate the commitments under the New Credit Agreement upon the occurrence and during the continuation of an event of default. No defaults or events of defaults have occurred as of the date of this filing.
We have two additional LOC facilities totaling $500.0 million that allow us to provide LOCs to our ceding companies if such LOC is required under the terms of the contract and Lloyd’s to be filed on behalf of Argo (No. 604) Limited, our corporate member at Lloyd’s. All of the facilities require us to provide collateral in the form of fixed maturity securities or cash to the issuing bank as security for the outstanding LOCs. We also have a previously issued facility that has since been canceled under which we still have outstanding LOCs. We no longer have the ability to issue new LOCs from this facility. We must transfer eligible assets to collateral accounts prior to each respective bank issuing an LOC. Since eligible assets include fixed maturity investments, such securities need not be sold in order to qualify as eligible collateral. At December 31, 2014, we have pledged assets with a fair value of $56.3 million to support outstanding LOCs.
On July 16, 2014, Argo Group US, Inc. purchased the outstanding PXRE Capital Trust V $20,000,000 Junior Subordinated Debt Securities (“Capital Trust V”) at a discount equal to 90.0% of the principal amount plus accrued and unpaid interest through the date of purchase for a total price of $18.2 million. As of December 31, 2014, the Capital Trust V has not yet been redeemed and interest will continue to accrue and be paid until the redemption date. In accordance with ASC Topic 405, “Liabilities,” we have eliminated the outstanding debt, associated interest and intercompany balances related to the purchase of the Capital Trust V since the purchase was made by Argo Group Us, Inc. In essence, this reduces our outstanding debt related to the Junior Subordinated Debentures.
We assumed debt through the acquisition of ArgoGlobal Syndicate 1200. These notes are unsecured. All are redeemable subject to certain terms and conditions at a price up to 100% of the principal plus accrued and unpaid interest. Interest on the U.S. Dollar and Euro notes is due semiannually and quarterly, respectively. A summary of the notes outstanding at December 31, 2014 is presented below:
Throughout 2014, 2013 and 2012, we had no preferred shares outstanding.
On November 5, 2013, our Board authorized the repurchase of up to $150.0 million of our common shares (“2013 Repurchase Authorization”). The 2013 Repurchase Authorization supersedes all the previous repurchase authorizations. These shares are being held as treasury shares in accordance with the provisions of the Bermuda Companies Act 1981. As of December 31, 2014, availability under the 2013 Repurchase Authorization for future repurchases of our common shares was $92.8 million.
We maintain a comprehensive reinsurance program at levels management considers adequate to diversify risk and safeguard our financial position. Increases in the costs of this program, or the failure of our reinsurers to meet their obligations in a timely fashion, may have a negative impact on liquidity.
Interest only on Junior Subordinated Debentures through 2033. Interest calculated based on the rate in effect at December 31, 2014. Principal due beginning May 2033.
Interest only on Floating Rate Loan Stock through 2034. Interest calculated based on the rate in effect at December 31, 2014. Principal due beginning November 2034.
Contingent consideration for asset purchases is estimated at the maximum payout if profit targets are met.
Multi-year reinsurance contract’s base terms, as reflected in the above table, include premium per annum of $26.5 million during the remaining coverage period of January 1, 2015 to December 31, 2017. Based on the loss results of risks covered by the contract, additional annual premium installments ranging between $13.0 million and $39.0 million may be due beginning January 1, 2015. The contract contains an early termination clause whereby we may terminate the contract at December 31, 2015 or December 31, 2016, subject to meeting certain contractual stipulations.
We establish reserves for the estimated total unpaid costs of losses including loss adjustment expenses (“LAE”), for losses that occurred in 2014 and prior. Unless otherwise specified below, the term “loss reserves” encompasses reserves for both losses and LAE. Loss reserves reflect management’s best estimate of the total cost of (i) claims that have been incurred, but not yet paid and (ii) IBNR claims. Loss reserves established are not an exact calculation of our liability. Rather, loss reserves represent management’s best estimate of our liability based on application of actuarial techniques and other projection methodologies and taking into consideration other facts and circumstances known at the balance sheet date. The process of establishing loss reserves is complex and necessarily imprecise, as it involves using judgment that is impacted by many internal and external variables such as past loss experience, current claim trends and the prevailing social, economic and legal environments. In determining loss reserves, we give careful consideration to all available data and actuarial analyses and this process involves significant judgment.
The major causes of uncertainty will vary for each product line reviewed. For short-tail property lines of business, we are exposed to catastrophe losses, both natural and manmade. Due to the nature of certain catastrophic loss events, such as hurricanes, earthquakes or terrorist attacks, our normal claims resolution processes may be impaired due to factors such as difficulty in accessing impacted areas and other physical, legal and regulatory impediments. These factors can make establishment of accurate loss reserve estimates difficult and render such estimates subject to greater uncertainty. Additionally, if the catastrophe occurs near the end of a financial reporting period, there are additional uncertainties in loss reserve estimates due to the lack of sufficient time to conduct a thorough analysis. Long-tail casualty lines of business also present challenges in establishing appropriate loss reserves, particularly in the event of changes in the legal environment over time which may broaden our liability or scope of policy coverage and increase the magnitude of claim payments.
In all lines, final claim payments may differ from the established loss reserve. Due to the uncertainties discussed above, the ultimate losses may vary materially from current loss reserves and could have a material adverse effect on our future financial condition, results of operations and cash flows. Any adjustments to loss reserves are reflected in the results for the year during which the adjustments are made.
medical care. Although long-tail in nature, claims generally are not subject to long reporting lags, settlements are generally not complex and most of the liability exposure is characterized by high frequency and moderate severity. The largest reserve risks are generally associated with low frequency, high severity claims that require lifetime coverage for medical expense arising from a worker’s injury.
Our Syndicate 1200 segment loss reserves are analyzed quarterly by internal staff at ArgoGlobal Syndicate 1200. Additionally, we employ an independent actuary to conduct a detailed review of loss reserves annually. Management’s estimate of reserves is based on the internal study. The external study is completed to support the actuarial opinion for Lloyd’s reporting.
from the date of the catastrophic event, our reported losses relative to the event are assigned significant credibility. However, it may be several years before ultimate loss amounts are fully known as disputes over policy coverage or the relevant law governing a claim cause uncertainty in the estimation of outcomes. The observed large loss patterns are subsequently adjusted by changes in underlying exposures and risk characteristics.
Recorded gross reserves for the Syndicate 1200 segment were $600.0 million as of December 31, 2014. Estimation of our international liability reserves are subject to late emergence and mix shifts between smaller, more routine claims and larger, more complex claims. Our international property reserves are analyzed by the characteristics of the underlying exposures. Property loss reserves are characterized by relatively short periods between occurrence, reporting, determination of coverage and ultimate claims settlement. These property loss reserves tend to be the most predictable. Catastrophic loss reserves tend to exhibit more volatility due to the nature of the underlying loss event which may cause delays and complexity in estimating ultimate loss exposure.
The factors discussed above affect the variability of estimates for asbestos and environmental reserves including assumptions with respect to the frequency of claims, average severity of those claims settled with payment, dismissal rate of claims with no payment and expense to indemnity ratio. The uncertainty with respect to the underlying reserve assumptions for asbestos and environmental adds a greater degree of variability to these reserve estimates than reserve estimates for more traditional exposures. While this variability is reflected in part in the size of the range of reserves we have developed, that range may still not be indicative of the potential variance between the ultimate outcome and the recorded reserves. The process of estimating asbestos and environmental
After reviewing the output from various loss reserving methodologies, we select our best estimate of reserves. We believe that the aggregate loss reserves at December 31, 2014 were adequate to cover claims for losses that have occurred, including both known claims and claims yet to be reported. As of December 31, 2014, we recorded gross loss reserves of $3,042.4 million and loss reserves net of reinsurance of $2,137.1 million. Although our financial reports reflect our best estimate of reserves, it is unlikely that the final amount paid will exactly equal our best estimate. In order to provide an indication of the variability in loss reserve estimates, we develop reserve ranges by evaluating the variability implied by the results of the various methods and impact of changing the assumptions and factors used in the loss reserving process.
We estimate our range of reserves, net of reinsurance, at approximately $1,955 million to $2,365 million as of December 31, 2014. In determining this range, we evaluated the variability of the loss reserves for each of our major operating segments, comprising both ongoing operations and run-off businesses. Our estimated range does not make a specific provision for sources of unknown or unanticipated correlated events such as potential sources of liability not anticipated at the time coverage was afforded, such as asbestos. These events in combination with other events which may not be contemplated by management in developing our range may cause reserves to develop either more or less favorably than indicated by assumptions that we consider reasonable. This means that the range of reserve values does not represent the range of all possible favorable or unfavorable reserve outcomes, and actual ultimate paid losses may fall outside this range. No one risk factor has been isolated for the purpose of performing a sensitivity or variability analysis on that particular risk factor.
For additional information regarding our deferred tax assets and liabilities, please see Note 16 “Income Taxes” in the Notes to the Consolidated Financial Statements, included in Item 8, “Financial Statements and Supplementary Data” beginning on page.
At December 31, 2014, we had goodwill of $152.2 million assigned to the following reporting units: Excess and Surplus lines - $76.4 million, Commercial Specialty - $47.1 million and Syndicate 1200 - $28.7 million. Additionally, at December 31, 2014, we had intangible assets totaling $78.6 million, including indefinite-lived intangible assets of $60.5 million in the Syndicate 1200 segment. Due to the nature of the Syndicate 1200 segment’s business, for purposes of the annual impairment evaluation, we have aggregated the fair values between the indefinite-lived intangible asset and goodwill.
For purposes of evaluating goodwill for impairment, we determined that our reporting units are the same as our business segments because all components of each segment are similar and none of the components were determined to be separate reporting units. Additionally, each business segment has discrete financial information available that is regularly reviewed by the chief operating decision maker to make decisions about resources to be allocated and to assess performance. We allocated the assets, including goodwill, and liabilities of our reporting units consistent with our business segment reporting and prior periods. No material changes in the accounting methodology used to evaluate goodwill were made during 2014.
The fair value of reporting units was estimated using an average of three valuation methods: a comparable company analysis, precedent transaction analysis and discounted cash flow analysis. All three methods require us to make various judgments and assumptions including but not limited to: (i) market dynamics affecting each segment such as the competitive environment, pricing cycle and pricing outlook; the economy and interest rates, (ii) projections of earned premiums, losses, expenses and cash flows, and (iii) discount rates and valuation multiples. Assumptions about future cash flows are based on our budgets, business plans, economic projections, anticipated future cash flows and market data. Finally, the comparable company analysis and precedent transaction analysis required judgment in selecting comparable companies and comparable transactions for use in the calculations. These judgments and assumptions, and the outcomes in which they result, are potentially subject to material change based on factors, dynamics and influences outside our control. In all instances, future changes in these judgments and assumptions could cause impairment of goodwill.
On October 1, 2014, the resulting fair values of the reporting units were in excess of the carrying value, including goodwill, of the reporting units. Accordingly, management did not perform Step 2. However, a 39% decline in the fair value of the Excess and Surplus Lines reporting unit, 21% decline in the fair value of the Commercial Specialty reporting unit or 16% decline in the fair value of the Syndicate 1200 segment would have resulted in the carrying values of these reporting units being in excess of their respective fair values, resulting in the need to perform Step 2, which could have resulted in a material impairment to our goodwill. Any decline in the fair value of these reporting units could result in the carrying value of the reporting unit being in excess of fair value, triggering Step 2 of the impairment testing model. Step 2 could result in an impairment of goodwill.
Our market capitalization has increased in 2014; however, our stock continues to trade below book value. We considered the market capitalization below book value as a data point in performing our annual impairment test. We consider the decline in our market capitalization to be primarily attributable to global financial market conditions, including the credit crisis, as well as current trends within the insurance industry. The valuation analysis discussed above supports our view that goodwill and indefinite-lived intangible assets are not impaired at October 1, 2014. Through December 31, 2014, there have been no indicators of impairment of goodwill and indefinite-lived intangible assets. During 2015, we will monitor relevant internal and external factors and their potential impact on the fair value of our reporting segments, and if required, we will update our impairment analysis.
While we believe the estimates and assumptions are reasonable in determining the fair value of reporting units, it is possible a material change could occur. If our actual results are not consistent with our estimates and assumptions used to calculate fair value, we may be required to perform Step 2 in future periods and impairment of goodwill and/or indefinite-lived assets could result. We cannot predict future events that might impact the fair value of reporting units and goodwill impairment. Such events include, but are not limited to, increased competition in insurance markets and global economic changes.