• Pre-tax profit of £70.2 million, after £165 million net loss from 2005 hurricane season
• Hiscox Bermuda formed, financed by successful £170.0 million Rights Issue (net of expenses)
• Hiscox Bermuda and Hiscox Guernsey awarded A- (Excellent) ratings from A.M. Best in addition to existing A- (Excellent) rating for the Hiscox Insurance Company
• Accelerated marketing activity in 2006 to stimulate growth for Hiscox UK
Profit before tax (£m) 70.2 89.5 Group combined ratio 96.0% 92.6% Earnings per share 15.6p 21.3p Dividend per share 7.00p 5.00p Shareholders’ equity (£m) 578.0 368.8 Net unearned premiums (£m) 361.9 373.1 Net asset value per share 147.7p 125.7p Return on equity 12.8% 20.6%
Anthony Howland Jackson Senior Independent Director and Chairman of Remuneration and Conflicts Committees (Aged 64) Anthony Howland Jackson was previously Chairman of Bain Hogg plc and Deputy Chairman of Aon UK Holdings Limited. He was Chairman of The General Insurance Standards Council until 3 January 2005. He joined the Group on 8 May 1997.
Derek Nigel Donald Netherton Non Executive Director and Chairman of Investment Committee (Aged 61) Derek Netherton was previously a Director of J. Henry Schroder & Co. Limited and is currently Chairman of Greggs plc and a Non Executive Director of Next plc and St James’s Place Capital plc. He was also a member of the Supervisory Board of the Schroder Exempt Property Unit Trust until February 2004 and a Non Executive Director of Plantation & General Investments plc until June 2004. He joined the Group on 6 August 1999.
Carol Franklin Engler Non Executive Director and Chairman of Nomination Committee (Aged 54) Carol Franklin Engler is the Ombudsman for the Swiss telecommunication industry and an Executive Director of the Swiss National Museum. She was the Chief Executive Officer of the World Wide Fund for Nature in Switzerland until the end of 2001. From 1979 to 1999 she was employed by Swiss Re in a variety of roles including Head of the Aviation Department and Head of Human Resources. She is currently a Non Executive Director of Citron AG and Prime Forestry Switzerland AG. She joined the Group on 12 August 1999.
Adrian Auer Non Executive Director and Chairman of Audit Committee (Aged 57) Adrian Auer was previously Group Finance Director for the RMC Group plc from 2003 to 2005. He is Chairman of Readymix plc, and his other directorships include Bespak plc, Foseco plc, Filtrona plc, and Shanks plc. He joined the Group on 1 July 2005.
Bankers Lloyds TSB Bank plc 113-116 Leadenhall Street London EC3A 4AX
Results The result for the year ending 31 December 2005 is a pre-tax profit of £70.2 million (2004: £89.5 million). The net assets per share increased to 147.7p per share (2004: 125.7p per share) and the earnings per share on profit after tax were 15.6p per share (2004: 21.3p per share).
We thought that 2004 was a turbulent year, but 2005 well surpassed it with 400 catastrophic natural and man-made events officially recorded causing an estimated $83 billion of insured damage. The four hurricanes in the US and the Caribbean included Katrina, the most expensive in history. In the circumstances, a profit of £70.2 million (after a net loss of £165 million from the hurricanes) is satisfactory, and made possible by our strategy of building a book of regional specialist business (sometimes called ‘retail’ business) to balance the global business written in London (and Bermuda in future) that can be buffeted by catastrophes.
Corporate events The hurricanes of 2005 stopped the slide in rates in those lines of business affected by the losses and generally stiffened the resolve of underwriters in some other areas. In order to take advantage of the improved conditions in one of our core areas, international reinsurance, we raised £170.0 million through a Rights Issue to help create Hiscox Bermuda, which was formed in time for the end of year renewal season. Bermuda is now a prime market for international reinsurance and large internationally traded business, and Hiscox Bermuda will widen the distribution of our skill in those areas. The new venture will write reinsurances of some of our specialist regional business as well as direct reinsurance to give a properly balanced account.
The success story of the year was our specialist regional business in the UK which achieved a combined ratio of 84.1 per cent. We are clearly selling good products at a fair price, so to sell more and accelerate our growth we intend to increase our marketing substantially in 2006. Our European offices turned in a decent profit this year and Guernsey made its usual excellent result. Since 1989 we have spent considerable management time and money on building a regional presence throughout the UK and Europe, and now in the USA. The investment is paying off with the UK showing highly satisfactory results and Europe showing strong potential. The USA is a new venture with proven management that has succeeded in the past and I am sure will do so again.
The Hiscox brand The extra marketing and advertising in 2006 should not only give a powerful boost to our direct business which continues to grow well, but is aimed to increase awareness of our brand across all sectors of insurance we want to underwrite. In a world where insurance is often seen as a commodity which sells on price alone, we want Hiscox to be a premium brand which reflects our values of integrity and quality of product and service. Any insurer can issue a standard policy, but we want to be trusted to provide superior service around our policies – flexible underwriting giving the policyholders the cover they need rather than the cover we want to give them, flexible, rapid and fair settlement of claims and cracking good service to all who come into contact with Hiscox. We want to be chosen because we offer quality, not the cheapest price.
People Bronek’s report shows the business in great detail, and I think it is a great credit to him and the team he has gathered round him. Bronek joined a small private Lloyd’s agency in 1993 since when his dynamism, intellect and vision have led a very focused but well spread expansion in the public arena. I know it is unfashionable for a Chief Executive to spend more than a couple of years in the post, but I consider many of them just mercenaries who join with a huge signing on fee, demand a loyalty bonus to stay, and then leave with a huge pay-off when they are found to be wanting. I prefer executives (and shareholders) who feel like long-term owners of the business and want to build it well into the future. All the staff at Hiscox contribute with cheerful enthusiasm as we strive to create a great business, and I am very grateful to them. They are a pleasure to work with.
In our journey we have applied the following key principles: 1. recruit and retain quality people and reward them fairly 2. maintain a clear preference for profitability over size 3. focus on specialist products backed by first-class service 4. balance the volatility of the London Market with specialist regional business 5. broaden distribution to access new markets 6. increase efficiency and reduce intermediation costs.
It is this consistent vision that has allowed us to grow steadily, moving from a single location in 1993 to 20 offices across three continents, building regional specialist businesses and growing market capitalisation from £15 million in 1993 to almost £1 billion, with the share price rising from 33p to today’s level.
I believe the current shape of our business can drive the development of the Group for the next decade. We aim to build significant businesses in the UK, Europe and the USA which will focus on specialist regional risks, with local underwriters and local customer service and claims payment. Hiscox Guernsey will focus on specialist regional business for international customers. Hiscox Global Markets in London and Hiscox Bermuda will underwrite internationally traded reinsurance and big ticket business in these locations, but will use the rest of the Hiscox network for marketing and business development.
Group performance The pre-tax profit this year of £70.2 million (2004: £89.5 million) is equal to 15.6p per share (2004: 21.3p per share). This profit should be judged in the context of the most expensive year of natural catastrophes ever in the history of our industry.
Gross written premium increased to £555.2 million (2004: £511.5 million) and the division made a pre-tax profit of £20.7 million. The overwhelming financial events of the year which affected this division were the hurricanes. These cost us $730 million on a gross basis and $285 million net of reinsurance. The impact to Hiscox plc was to reduce pre-tax profit by £85 million. Our prudent purchase of reinsurance has significantly mitigated our loss, but we have very limited cover remaining for these events. This is not surprising after the biggest insured event in the history of insurance and the most expensive year of insured natural catastrophes ever.
During 2005 our broker partners continued to restructure their businesses as they responded to the changes wrought by Elliot Spitzer, the New York Attorney General. We in turn are responding in two ways: • first, we are establishing Hiscox Global Markets business development and marketing teams in Paris, New York and San Francisco. Underwriting expertise will remain concentrated in London. Initial indications are that this will pay off with an increased flow of attractive business
Hiscox Global Markets remains our core business. At the end of the year Richard Watson assumed leadership of the unit. Richard has been with Hiscox for 20 years and has had experience in underwriting most classes of Hiscox business during his career. Richard’s disciplined underwriting skills and leadership capability will ensure that Hiscox Global Markets adapts to the changing market environment in ways which maximise our profits within reasonable risk parameters.
Hiscox UK and Hiscox Europe These two divisions focus on selling personal and commercial products to similar customers in different countries. In personal lines both businesses aim to insure the wealthiest five per cent of the population – seeking clients who are ‘rich, careful and honest’. On the commercial side, they seek to insure service-based businesses with 50 or fewer employees or ‘professionally run professional firms’.
The muted top line growth reflects our focus on profits over volume. In 2005 we reduced our participation in the UK solicitors’ professional indemnity market – a drop of £14 million of written premiums – but this underwriting discipline will be rewarded at the bottom line. The UK business has made a greater profit than the original cost of purchasing it in 1996. We must remember the result is assisted by the absence of any significant natural catastrophes in the UK over the past 12 months. Mother Nature decided to focus on the USA and, as a Group, we have benefited from our geographic spread.
Building a balanced business Gross written premium at 100% level (£m)
London Market – Syndicate 33�� Regional – Syndicate 33�� Regional – Hiscox Insurance Company *
In May last year we employed Marc Van der Veer, an experienced Directors and Officers underwriter, to become Managing Director of this business unit. We have subsidiaries in France, Germany and the Benelux and Marc and his team will be focused on developing major businesses in these countries. We do serve other European markets in Spain, Portugal and Sweden on a small scale, managed out of London and served through partnerships with local brokers with local Hiscox representation. Over the longer term these relationships may become stepping stones for greater activity in these countries.
Hiscox International Hiscox International covers our offshore activities in Guernsey and Bermuda, and our nascent business in the United States. The division made a pre-tax profit of £6.2 million (2004: £2.9 million), achieved a combined ratio of 91.3 per cent (2004: 92.0 per cent) and had revenues of £43.7 million (2004: £37.3 million). All the profit in this division was made by Hiscox Guernsey as the other two businesses only commenced underwriting in 2006.
Hiscox Bermuda was created in November last year and funded with the proceeds of our Rights Issue and bank debt to take advantage of the improving market conditions following the impact of the 2005 catastrophes. We had to move fast and the regulatory authorities in Bermuda, our shareholders, bankers and brokers, were very supportive for which I would like to thank them. Hiscox Bermuda is led by Robert Childs, Chief Underwriting Officer, who was previously Managing Director of Hiscox Global Markets. Robert’s leadership reflects the seriousness with which we take this opportunity and the role that we feel Bermuda can play in our future. At the end of February 2006, Hiscox Bermuda had gross committed income of US$155 million of which US$46 million was to external clients and the balance reinsurance support of other Group companies. We believe we are on track to achieve the full year target of US$325 million announced at the time of the Rights Issue.
Investment management The fair value of all financial investments and cash holdings under Group management at 31 December 2005 (including the Group’s share of syndicate assets) was £1,651.5 million (2004: £1,100.3 million). During 2005 these funds generated a return of £50.3 million (2004: £34.5 million).
The Group’s funds are overseen by our team at Hiscox Investment Management (HIM). The HIM team supervise our external fund managers.
In addition to this supervisory role, the team also manages £165 million in six specialist funds for third-party investors. The Hiscox Insurance Portfolio, managed by Alec Foster, has performed outstandingly over the past five years. Alec remains as Managing Director and David Astor 12 Hiscox plc Report and Accounts 2005
became the Group Investment Officer during the year. Since joining Hiscox in 2002, David has run three financial funds, each of which has significantly outperformed its benchmarks since launch. The Hiscox US Financial Fund has beaten the Standard & Poor’s 500 index by 55 per cent since launch in 1994.
At the time of the Rights Issue we announced that as such a substantial amount of the Group’s business could originate from the Bermudan and US markets the Board was considering a potential redomicile of the parent company to Bermuda. This work is ongoing.
Conclusion 2006 is a year of challenges. Rates are at an attractive level so our ambition is to grow the business. During 2005 we created the business shape which I believe has the potential to take Hiscox forward with steady growth and profitability for Hiscox UK, Europe, Guernsey and USA, balancing the more opportunistic expansion and contraction required within Hiscox Global Markets and Hiscox Bermuda. Over time this should create substantial value for our shareholders.
Hiscox Global Markets underwrites internationally traded business and other specialist business from around the world, via the Lloyd’s insurance market. The Lloyd’s market gives Hiscox Syndicate 33 the ability to write worldwide business using Lloyd’s licences and credit rating and to source specialist business such as technology, media, kidnap and ransom through an international network of brokers.
Appointment of new business development representatives in New York, San Francisco and Paris.
Marine and Energy 12% Key product areas: marine hull; cargo; liability; upstream-midstream energy.
Technology, Media and Telecoms 5% Key product areas: errors and omissions; cyberliability, hacker damage and business interruption for technology, media and telecoms organisations.
London Market 21% Key product areas: terrorism; professional indemnity; directors and officers; political risks; financial institutions.
Stunning results with pre-tax profit of £40.4 million and combined ratio of 84.1 per cent.
Direct and Partnerships 4% Key product areas: executive home and contents insurance.
Carrier Hiscox UK primarily uses Hiscox Insurance Company Limited as its risk carrier.
Security A- (Excellent) from A.M. Best and A- (Strong) from Standard & Poor’s.
• Executive household and small professional risks marketed direct to the consumer.
Hiscox Europe underwrites local specialty insurance from offices in Amsterdam, Brussels, Cologne, Lisbon, Madrid, Munich and Paris. This business is sourced through local brokers and has two main product streams covering: • The personal property of wealthy individuals
• The liabilities and property of professional or advisory and service-led businesses.
Hiscox International consists of Hiscox Guernsey, Hiscox Bermuda and Hiscox USA.
Hiscox USA Hiscox USA opened in March 2006 and underwrites specialist business including professional indemnity, fine art, terrorism and technology, media and telecoms. The office, based in Armonk in New York State, is focused on rolling out Hiscox’s specialist products for middle market USA businesses.
The Hiscox distribution network widened significantly over the last decade. Today, the Group operates from 20 different geographic locations.
• sponsorship from a senior Hiscox underwriter who then retains a degree of responsibility for the broker
• ranked first in the personal lines speed of settlement on claims category. Achieved 4.4 out of possible 5, where average was 3.6
• equal first for quality of underwriting in commercial lines • for brand perception, in personal lines, first for acting with integrity, reliable and trustworthy and delivers on promises • the strongest brand identity of the companies named in the survey, especially within the personal lines market.
Value enhancing acquisitions The Group’s overriding preference is for organic growth in core product areas. However, it will always consider opportunities with the potential to strengthen core areas or achieve other strategic objectives.
Renewal rights to Chartwell Underwriting’s regional business – forming the basis of Hiscox offices in Leeds, Birmingham and Glasgow.
Renewal rights to XL London Market’s Denham Direct professional indemnity book.
Renewal rights to fine art business of Ascot Underwriting Limited – AIG’s Lloyd’s operation.
The Group’s focus has been on acquisitions outside of the Lloyd’s market with the potential to grow the Hiscox UK and Europe business and improve geographic distribution.
Direct Hiscox launched executive household insurance in 2000. This product is sold directly to customers via the internet and telephone. This business has grown through developing partnerships with affinity groups, including The Law Society and the Institute of Directors, who exclusively endorse our household insurance for their members. This approach has led to more than 50 successful partnerships.
Hiscox offices 1901 London 1993 Paris 1994 Munich 1998 Harrogate (relocated to Leeds in 2001) and Guernsey 1999 Amsterdam 2000 Birmingham and Glasgow 2001 Brussels 2001 Dublin 2002 Maidenhead 2003 Colchester 2004 Madrid 2005 Tunbridge Wells 2005 Bermuda 2006 Bristol 2006 Armonk, USA 2006 New York, USA 2006 San Francisco, USA 2006 Cologne
Integrity is the most deeply rooted Hiscox quality of all, reflected in the direct and honest way that Hiscox goes about its business.
These core brand values are the compass that steers Hiscox internally and externally.
Another reason why independent market researchers, Defaqto, awarded us 5 stars for our buildings and contents insurance.
Recognition and reward Advancement within Hiscox depends on the ability of the individual and the initiative they show in putting their knowledge to work.
Staff performance is evaluated annually. Performance reviews seek to allow open feedback between management and staff.
Recruitment Hiscox seeks to attract smart, driven people to all of its positions. The Group’s recruitment philosophy is based on a genuine interest in what applicants can do, not who they are or where they have come from. The recruitment process is designed to be challenging, so that applicants are stretched in ways that reflect the demanding environment in which they will work should they be successful.
Personal development The Group believes that there is a strong correlation between the personal growth of its staff and the growth of the business. Each employee therefore has a personal development plan, which is created annually through one to one meetings with their manager.
Staff are encouraged to continue their professional education and gain appropriate qualifications. All underwriters are required to pass the ACII examinations. Hiscox supports the professional education process by paying tuition fees and providing study leave.
Hiscox makes a further contribution to employees’ professional development by providing in-house technical underwriting training. All underwriters are required to acquire an underwriting passport to show that they have a wide range of knowledge on the different parts of the Group. This is supplemented by personal impact training and management development courses.
Capital and performance One of the main advantages of trading through Lloyd’s is the considerably lower capital ratios that are available due to the diversification of business written in Syndicate 33 and in Lloyd’s as a whole. Syndicate 33 has a capital requirement ratio of approximately 41 per cent of gross premium after brokers’ commission for 2006.
The size of the Syndicate is increased or reduced according to the strength of the insurance environment in its main classes. At present, Hiscox owns 73 per cent of the Syndicate, with 27 per cent being owned by Lloyd’s Names. Hiscox receives a fee and a profit commission of approximately 17.5 per cent on the element it does not own.
The amounts and ratios for all periods prior to 2004 are those previously published on a UK GAAP basis, the Group’s primary reporting framework at that time. The figures reported for 2004 and 2005 are prepared in accordance with IFRSs as adopted by the EU. The main differences arising on the Group’s transition to IFRSs are outlined at note 3 to the financial statements.
Syndicate 33 Hiscox can trace its origins in the Lloyd’s Market to 1901. Today, Hiscox Syndicate 33 is one of the largest composite syndicates at Lloyd’s, and has an A.M. Best syndicate rating of A (Excellent).
Hiscox Insurance Company Hiscox purchased Hiscox Insurance Company Limited in 1996. Previously known as the Economic Insurance Company, it was formed in 1901 and wrote a diversified portfolio, including general household, travel and pet insurance. In keeping with its aim of diversifying its activities outside of Lloyd’s and writing a focused book of regional specialist risks, the Group has since comprehensively reshaped the portfolio to concentrate on high value household and smaller premium professional indemnity business. The Hiscox Insurance Company has licences throughout Europe. It is the primary carrier used by the UK and mainland Europe offices for their business.
The success of this strategy can be seen in the chart below. Hiscox Insurance Company Limited has achieved average compound growth in gross written premium of 15.1 per cent since its purchase, despite discontinuing almost all of its original business. It has also significantly improved its combined ratio.
Hiscox Insurance Company Limited is rated A- (Excellent) by A.M. Best and A- (Strong) by Standard & Poor’s. At the end of 2005, net assets were £123.6 million.
Hiscox Insurance Company (Bermuda) Formed by Hiscox in late 2005, Hiscox Insurance Company (Bermuda) Limited commenced writing risks in January 2006. Capitalised at US$500 million, it was formed to access reinsurance business shown to the growing Bermudan market and also to become a carrier for certain other Group income.
Global Markets Consolidated Global Markets Consolidated and Corporate UK and Group and Corporate UK and Group
International: The results of Hiscox Insurance Company (Guernsey) Limited, Hiscox Insurance Company (Bermuda) Limited, and the US agency, Hiscox Inc.
UK Europe Total UK Europe Total 2005 2005 2005 2004 2004 2004
• Gross written premium remained steady. The effects of lower rates were offset by the increased ownership of the syndicate to 71.1 per cent for the 2005 year of account (2004: 65.0 per cent) and a stronger US dollar.
• The net claims ratio decreased from 72.9 per cent to 70.8 per cent. This is predominantly the result of the significant hurricane losses being offset by foreign exchange movements arising from the application of IFRS.
Hiscox UK performance This comprises business written by the Hiscox Insurance Company in the UK and Ireland, excluding Irish surety business. It also includes the results of Syndicate 33’s specie, fine art and non-US household business, together with income and expenses arising from the Group’s retail agency activities in the UK.
Hiscox Europe performance This comprises business written in mainland Europe by Hiscox Insurance Company and the Irish surety company, together with the income and expenses arising from the Group’s retail agency activities in Continental Europe.
• The performance of the Irish surety company continued to exceed expectations.
• The expense ratio deteriorated from 46.5 per cent to 48.2 per cent following the earnings trend of net premiums.
Underwriting performance – International International comprises the results of Hiscox Insurance Company (Guernsey) Limited (which mainly writes kidnap and ransom and offshore fine art business); in future it will include the results of Hiscox Insurance Company (Bermuda) Limited which commenced trading on 1 January 2006 and Hiscox Inc., the newly formed agency in the USA, which commenced business in March 2006.
• Gross written premium increased by 17 per cent to £43.7 million as market conditions remained firm.
• Investment income increased to £1.6 million (2004: £0.4 million) as investments and cash grew to £21.3 million from £9.5 million due to the good trading and cash from the sale of shares in Heritage, an associated undertaking.
• The combined ratio improved to 91.3 per cent from 92.0 per cent.
Group investment performance Bonds are the largest proportion of the Group’s investments at 62.3 per cent and returned +3.1 per cent for the year. Two thirds of the bond portfolios are in US and Canadian fixed interest securities where returns were lower than in the UK. Bond portfolios in all currencies had short durations in order to protect the underlying assets against rising interest rates in the US and UK during 2005. The equities are invested for absolute returns and our weighting was 7.2 per cent. We invest in a number of pooled funds covering UK, US and global mandates and the return of +13.1 per cent reflected the spread of risk and the defensiveness of the portfolios. The cash weighting at 30.5 per cent was high at year end due to the money raised from the Rights Issue in November 2005 being held on deposit. This high weighting will fall in 2006 as the cash is invested in predominantly fixed interest securities.
The primary sources of cash flow for the Group’s business are insurance and reinsurance premium receipts and net investment returns. The Group is also able to access ready funds through the sale of investments.
The letter of credit and debt facilities outlined overleaf on page 30, together with the £170 million of additional funds raised through the successful Rights Issue in November 2005, have increased the Group’s already considerable cash resources.
Group cash outflows included £2.6 million (2004: £1.4 million) of interest payments. Capital expenditure was £4.5 million (2004: £5.6 million) and dividend payments for the year totalled £16.9 million
It should be noted that length of contract does not preclude the Group from realising the value of its securities for cash in a prompt and reasonable manner as and when required.
Overview Hiscox is strongly capitalised with a stable asset and shareholder base. Its activities are funded by a mixture of equity, retained earnings, letters of credit, bank debt and other third-party insurance capital. Group assets are invested predominantly in bonds with high credit ratings, to ensure a high liquidity and to limit investment risk in the capital base.
Gearing The Group’s ability to increase or decrease the volumes of business that it can underwrite relates directly to its level of capital. Hiscox utilises short to medium-term gearing as an additional source of funds to maximise the opportunities from strong markets and to de-risk the business when the rating environment shows a weaker model for the more volatile business.
The Group’s gearing is obtained from a number of sources, including: • letters of credit – in November 2005 the Group secured a £137.5 million facility from a syndicate of banks at a margin of 1.1 per cent
• external Names – 27 per cent of Syndicate 33’s capacity is capitalised by third parties paying a profit share of approximately 17.5 per cent
• gearing quota shares – historically the Group has used reinsurance capital to fund its capital requirement for short-term expansions in the volume of business underwritten by the syndicate
The funds raised through letters of credit and loan facilities in 2005 have been applied to support both the 2006 year of account for Syndicate 33 and the capital requirements of the new insurance company in Bermuda.
Capital position Strategic expansion in its existing business and the entry into Bermuda during the year afforded the Group opportunities to further optimise its capital position. In view of the favourable rating outlook and market conditions for raising additional equity, the Group completed a Rights Issue on 8 November 2005 that raised £170 million, net of expenses. The Board was particularly pleased with the support shown by shareholders in taking up some 98.7 per cent of the offer, and also with the low level of discount reflected in the issue price. All of the proceeds have been used to establish the Group’s new insurance operation in Bermuda, which has a capital base of approximately US$500 million.
Financial strength Standard & Poor’s and A.M. Best’s ratings of the financial strength of the UK insurance company were unchanged at A- during the year. On 12 December 2005, A.M. Best initiated an A- (Excellent) rating for the newly established Hiscox Insurance Company (Bermuda) Limited. On 31 March 2006, A.M. Best initiated an A- (Excellent) rating for Hiscox Insurance Company (Guernsey) Limited. Syndicate 33 benefits from the Lloyd’s A global rating. The Group is confident of maintaining these excellent ratings.
Capital performance The Group’s main capital performance measure is the achieved return on capital employed (ROCE). This marker best aligns the aspirations of employees and shareholders. As variable remuneration, the vesting of options and longer-term investment plans all relate directly to ROCE, this concept is embedded in the workings and culture of Hiscox.
Capital modelling and regulation The capital requirements of an insurance group are determined by its exposure to risk and the solvency criteria established by management and statutory regulations. Hiscox is compliant by a significant margin on every prescribed capital test.
The estimated regulatory capital position of the Group under IGD at 31 December 2005 was a surplus of £343 million (2004: surplus of £168 million), which is calculated as below. The final audited regulatory capital position will be submitted to the FSA before 30 April 2006 in accordance with the required regulatory timetable.
Group capital resources 494 310 Group capital resources requirement (151) (142)
The committees oversee the procedures for delegating authority and powers to accept risk to the Group’s staff. They are tasked with embedding strategies to identify and manage all significant risks relevant to their respective areas. The committees report separately into a formal oversight committee that comprises executive Board Directors and other senior management. This mechanism enables the Board to be quick and decisive in dealing with unacceptable levels of risk when they arise.
In parallel with these direct risk management processes, the Board uses Internal Audit and a dedicated risk management function to monitor and review the effectiveness of risk management throughout the organisation.
The failure to manage concentrations of exposure is therefore the single greatest risk to Hiscox.
The design of the underwriting and reinsurance programmes, and the associated control of aggregate exposures around the Group, are fundamental to the risk profile of Hiscox. The modelling and monitoring systems are deployed both in the underwriting process and by independent risk specialists. The models are used to design the insurance and reinsurance programmes and control the business that is written to ensure that the risk profiles of contracts match the exposures for which the programmes were devised.
Aggregation and modelling resources are shared across the entire Group. Management at the new Hiscox operation in Bermuda is therefore able to adopt the Group’s existing methodologies and models, albeit tailored to the intricacies of that particular market.
Hiscox also runs realistic disaster scenario projections for each Group entity and for the Group as a whole. The Group’s maximum net retentions based on the estimated losses from these scenarios are outlined in note 4.1 to the financial statements.
The Group’s performance relative to the unprecedented impact of catastrophes on the industry in recent years highlights the ability of its models to suggest precise and logical reinsurance placements. It also shows the distinctive benefits that Hiscox derives from its diversification in coverage and geography. By writing a well diversified book with a large focus on uncorrelated retail business, Hiscox is able to offset losses on its more volatile accounts.
In common with all insurers, the Group is exposed to this price volatility. Accordingly, prolonged periods of low premium rating levels or high levels of competition in the insurance markets are likely to have a negative impact on the Group’s financial performance. However, pricing levels are monitored on a continuous basis with monthly reports showing both current levels and trends over the past 12 months throughout a wide range of products.
The Group’s executives have long recognised that the future of Hiscox is linked, in some part, to the fortunes and conduct of its competitors. Consequently, the Group participates in many industry bodies, associations and task force initiatives in order to monitor developments and influence their strategic direction. In particular, the involvement of the Group’s executives in the reshaping of the Lloyd’s market over the last decade underscores that commitment.
Binding authorities and other outsourcing Hiscox writes a considerable amount of premium income through agents to whom binding authority is given to accept risks on behalf of Hiscox Group carriers. Binder management exists as a separate discipline outside of the underwriting process at Hiscox. All delegations are strictly controlled through tight underwriting guidelines and limits and extensive monitoring, review and auditing of the agencies.
Other business areas where the Group is to some extent reliant on the timely and effective supply of services from third parties include back office policy processing, data entry and cash collection. Although the Group manages these relationships to ensure continuity and quality of service, events could occur beyond its control that could affect these third parties and in turn impact on the Group’s performance.
Credit risk with reinsurance counterparties The Group purchases reinsurance protection to contain exposure against its capital from single claims and the aggregation of claims from catastrophic events.
Claims volatility The Group establishes provisions for unpaid claims, defence costs and related expenses to cover its ultimate liability in respect of both reported claims and incurred but not reported (IBNR) claims. These provisions take into account both the Group’s and the industry’s experience of similar business, historical trends in reserving patterns and loss payments and pending levels of unpaid claims and awards.
Business continuity It is critical for Hiscox that the key resources required to support insurance underwriting and other essential business activities continue to be available. Consequently, the Group has taken significant steps to mitigate the impact of business interruptions that may result from a variety of events, including the loss of key individuals and facilities such as premises, computer networks and telephony.
The business also relies to a significant extent on IT and telecommunications systems. Whilst the Group considers its systems to be resilient, their failure or impairment, or the inability to transfer data onto any new systems introduced, could cause a loss of business and/or damage to the reputation of the Hiscox Group, as well as remedial costs.
The most difficult continuity risk for Hiscox to manage is the loss of key staff. The recruitment and retention of high quality people is of fundamental importance to Hiscox and the Group takes the risk of losing such assets very seriously. To maintain the loyalty of staff, the Group provides competitive remuneration packages and benefits and a unique culture that embraces the individual and their aspirations.
In the event that key staff do leave, the Group’s contingency plans ensure continuity of service both internally and to policyholders. These include cross-training and rotation of duties to ensure that staff can perform multiple roles. Most staff work in teams rather than in isolation, which lessens the impact of normal staff turnover on the business.
Hiscox has a formal disaster recovery plan that addresses its premises and technology related risks. Robust contingency strategies are in place for both workspace recovery and back up of data-centres and telephony. In the event of an outage, these procedures will enable the Group to move operations to alternative facilities within very short periods of time. The alternative facilities are supplied by separate localised utility grids and telecommunications carriers.
Currency fluctuations The US dollar is the Group’s largest underwriting currency. A significant proportion of the Group’s US dollar insurance liabilities are supported by investments held in the same currency. However, as a significant proportion of the Group’s operational cost base is located in the UK and Europe, movements in foreign exchange rates may have a material adverse effect on its financial performance and position.
The Group has a detailed investment strategy that seeks to minimise the concentration of investment risk in any one particular sector or issuer. It retains the majority of its assets in high quality short duration debt securities and fixed term deposits, further details of which are provided in notes 4 and 19 to the financial statements.
Hiscox devotes considerable resources throughout the Group to meet its regulatory obligations. The senior management of each Hiscox business maintain constructive, productive and valuable relationships with all of the regulatory bodies in their respective territories. Furthermore, the Group debates all current regulatory issues and encourages the development of new initiatives in areas such as risk management and reporting that will help safeguard the future of the industry.
Management has always believed that a reputation for integrity and decent behaviour in all dealings, be they within the Group or with those from outside who come in contact with the Group, will be good for morale and for the results of the business. Robert Hiscox
The Group’s commitment to responsible business practices is reflected in: • being placed in The Sunday Times 100 Best Companies To Work For for the last four years
• pioneering plain English insurance policies with a culture of rapid and fair claims handling
Helping customers and treating them fairly Hiscox is dedicated to advising customers on risk management to prevent burglary and fire in the home and other distressing losses. Should a loss occur, we appreciate that insurance is a promise to pay, and our claims service aims to support our customers and make them whole as soon as possible.
Employees Hiscox wants to employ the best people and provide them with the means and the motivation to excel. Obviously, this will be achieved with fair rewards and by providing staff with an environment in which they can enjoy their work and reach their full potential.
Hiscox recognises how important it is for employees to maintain a healthy work-life balance and gives staff the option of flexible and home working wherever possible.
Rewards and benefits Hiscox encourages employees to identify with the success of the Group through performance-related pay and bonus schemes, savings-related share option schemes and executive share option schemes. Competitive benefits packages contain health, fitness, flexible working and career break opportunities. Salary packages are benchmarked by Watson Wyatt against the financial services industry as a whole and against the Lloyd’s market specifically.
Communication and participation Employees are kept informed of business developments through formal briefings, team meetings, intranet bulletins, video conferences and informal routes. Management takes these opportunities to listen to staff and involve them in taking the business forward. A quarterly staff magazine provides updates on issues and social events.
Culture The Hiscox culture is underpinned by a set of core values that determine the standard of behaviour expected of employees. These core values guide everything that Hiscox does in its business. By conducting its business with these core values in mind, the Group recognises that it is more likely to achieve business success and create value for its shareholders.
Hiscox strives for the highest standards of corporate governance while being in essence a non-bureaucratic organisation. An effective and firm system of internal controls ensures that risks are managed within acceptable limits, but not at the expense of innovation or speed of response. The Group believes that it has got this balance right and that it is one of its greatest strengths.
The Group’s policies ensure that it continues to follow a best practice approach to managing its people and remains a fair and professional employer. In the unlikely event of an employee having a material concern relating to the operations of the business, a whistleblowing policy explains to staff how they can confidentially raise their misgivings. Hiscox also subscribes to Public Concern at Work, which provides free legal advice to any employee with a concern about possible danger or malpractice in the workplace.
Community involvement The Group has maintained its involvement in its local communities with the strong support of its employees. The reading partners scheme has continued, through which staff assist pupils at the Elizabeth Selby Infants School in Tower Hamlets. Employees also mentor students at Morpeth School in Tower Hamlets.
Hiscox Art Projects continues to provide talented artists with opportunities to exhibit their art. In 2005 Hiscox sponsored the Glasgow School of Arts and The École Nationale Supérieur des Beaux-Arts in Paris, degree shows. It also supported the Paintings in Hospitals charity.
Brokers are an important Hiscox stakeholder. Hiscox endeavours to have good relationships with them to create a competitive advantage in the marketplace. Clear communications are key to good relations and a quarterly Hiscox broker magazine keeps brokers informed of developments at Hiscox and in the insurance industry.
Energy and the environment The way our insureds conduct their business is of paramount importance to us, due to our core philosophy that for high-quality underwriting we need high-quality insureds. In considering underwriting, the insureds’ attitudes to all aspects of their business, including their care of the environment, are considered.
The Combined Code Hiscox is committed to high standards of corporate governance, and for the year ended 31 December 2005 and the period up to the date of approving the accounts, the Group has applied the principles and complied with the provisions set out in section 1 of the revised Combined Code published in July 2003, with the following exceptions: Stephen Hall, Senior Independent Director for the year until his retirement on 31 December 2005, had served for more than nine years but was nevertheless considered independent by the Board by virtue of his character and objectivity.
With the exception of the unavoidable absence of Carol Franklin Engler, all the Directors attended the Annual General Meeting.
The Board meets at least four times a year and operates within established terms of reference. It is supplied with appropriate and timely information to enable it to review business strategy, trading performance, business risks and opportunities. During 2005 the Board met six times.
The Board delegates operational management of the trading entities and divisions to their own Boards but reserves certain matters for itself, including: setting group strategy, approving significant mergers or acquisitions, approving the financial statements, declaration of the interim dividend and recommendation of the final dividend, approving group business plans and budgets, approving major new areas of business, approving capital raising, setting Group investment guidelines, approving the Directors’ remuneration, approving significant expenditure or projects, and approving the issue of share options.
The Audit Committee The Audit Committee comprised Stephen Hall as Chairman of the Committee together with Anthony Howland Jackson, Derek Netherton and Carol Franklin Engler until July 2005 at which time Adrian Auer joined the Committee. Adrian Auer succeeded Stephen Hall as Committee Chairman on 1 January 2006 and is considered by the Board to have recent and relevant financial experience.
The internal and external auditors have unrestricted access to the Audit Committee, which monitors the scope, results and cost effectiveness of the internal and external audit functions, the independence and objectivity of the external auditors, and the nature and extent of nonaudit work undertaken by the external auditors together with the level of related fees. All non-audit work undertaken by the Group’s external auditors with fees greater than £50,000 must be pre-approved by the Audit Committee. KPMG Audit Plc has confirmed to the Audit Committee that in its opinion it remains independent. The Committee is satisfied that this is the case.
The Nomination Committee The Nomination Committee is chaired by Carol Franklin Engler and comprises the Group Chairman, Robert Hiscox, and all the non executive directors. It meets as and when required to deal with appointments to the Board and employs external search and recruitment agencies when considering new appointments. The Committee met twice during the year.
The Remuneration Committee The Remuneration Committee comprised Anthony Howland Jackson as Committee Chairman, Stephen Hall, Derek Netherton and Carol Franklin Engler between 1 January and 30 June 2005. Adrian Auer and Sir Mervyn Pedelty were appointed to the Committee on 1 July 2005. Stephen Hall retired on 31 December 2005.
Conflicts arise from time to time because Syndicate 33 is managed by a Hiscox-owned Lloyd’s Managing Agency. 27 per cent of the Names in the Syndicate are third parties; 73 per cent of the Syndicate is owned by a Hiscox Group company. The Conflict Committee serves to protect the interests of the third-party Syndicate Names.
The Executive Group and the Group Management Team Two key management committees, the Executive Group and the Group Management Team, sit at the heart of the Group’s organisational structure. These committees meet weekly and manage the Group’s business operations in order to achieve the Board’s strategic business objectives.
Having received input from each of the Executive Directors, the Non Executive Directors met under the chairmanship of the Senior Independent Director to discuss and evaluate the Chairman’s performance.
The Chief Executive held one-to-one meetings with each of the Executive Directors to discuss their performance over the year and to set targets for the year ahead. Similarly, the Chairman evaluated the performance of the Chief Executive and of the Non Executive Directors.
All Directors endeavour to attend the Annual General Meeting. With the exception of the unavoidable absence of Carol Franklin Engler from the Annual General Meeting, all the Directors attended both the general meetings held during the year.
Sir Mervyn Pedelty 4 3 N/A N/A – – – –
An alert service is available on www.hiscox.com to notify any stakeholder of new stock exchange announcements.
This management system has been in place throughout the year and up to the date of approval of the Annual Report, and includes a variety of processes to identify, assess and manage the different classes of risk in the manner most appropriate to each class. The Board has reviewed the effectiveness of internal controls during 2005 and confirms there is an ongoing process for identifying, evaluating and managing the significant risks faced by the Company, and that it accords with the guidance in the document, ‘Internal Control: Guidance for Directors on the Combined Code’.
Hiscox acknowledges that it is neither possible, nor desirable, to eliminate risk completely. The system is designed to manage rather than eliminate the risk of failure to achieve business objectives, and can only provide reasonable and not absolute assurance against material misstatement or loss. The constant aim is to be fully aware of the risks to which the business is exposed and to manage these risks to acceptable levels.
Key senior management responsibilities are clearly identified together with their reporting lines to the relevant Executive Directors. Terms of reference and reporting lines are in place for all key decision making and monitoring committees including the committees mentioned above. In addition, there is a dedicated Risk Department which liaises regularly with Internal Audit, and the Head of Risk reports to the respective Boards and committees on a regular basis.
The internal audit function is responsible for providing independent assurance directly to the Audit Committee on the adequacy and effectiveness of the Board’s system of risk management and internal control. This assurance is provided by means of an agreed programme of review, responsive work and direct reporting of significant issues.
The Turnbull Guidance, ‘Internal Control: Guidance for Directors on the Combined Code’, was updated by the Financial Reporting Council in October 2005 and is effective for financial years beginning on or after 1 January 2006. The Board welcomes the revised guidance and confirms its intention to follow its recommendations throughout 2006.
This report sets out the remuneration policies for the Group’s senior executives for the next and future financial years. The members of the Remuneration Committee are identified on page 38.
None of the Committee has any personal financial interest (other than as shareholders) or conflicts of interests arising from cross-directorships or day-to-day involvement in running the business. The Remuneration Committee makes recommendations to the Board. No Director plays a part in any discussion about his or her own remuneration.
Bonuses The Remuneration Committee believes that a significant portion of the total remuneration should be attained through an incentive bonus, which links rewards directly with performance. A bonus pool is created when the business profits of the Group, based on the year’s pre-tax operating result, exceed a return on equity linked to the longer term rate of return (‘Hurdle Return’). The bonus pool is limited to a percentage of profits above the Hurdle Return. Similarly, the bonus pools allocated to each major business division are calculated based on the business profits generated by that division above the Hurdle Return. This pool is utilised to award annual bonuses to all staff, including Executive Directors based upon the performance of their business area and upon their individual performance. In this way, the bonus scheme aligns the interests of Executive Directors and employees with shareholders. The actual amount to be paid to Executive Directors is determined by the Remuneration Committee and is based on the performance of the Group and an assessment of individual performance.
Awards were made during the year to Executive Directors, senior executives and other staff under the Hiscox Approved Share Option Scheme and the Hiscox Unapproved Share Option Scheme (the ‘Option Schemes’). The exercise of options under these schemes depends upon achieving certain performance targets over a period of three years. These options are not offered at a discount and conform with institutional investor dilution guidelines. All Directors entitled to share options are subject to these same performance criteria.
No awards were made during the year under the Hiscox Performance Share Plan (the ‘Performance Share Plan’) although special awards were subsequently made on 12 January 2006 which were subject to more stretching performance conditions (the ‘Special Award’), as approved at the Extraordinary General Meeting of the Company on 6 December 2005.
(c) an award will vest on a straight-line basis if the operating EPS growth is between the minimum target and the maximum target.
Group’s Return on Equity (‘ROE’) average is ten per cent over the three year performance period (the ‘maximum target’)
(iii) no grants will vest unless the Group’s ROE average over the period equals or exceeds eight per cent at which point 40 per cent of the grant will vest (the ‘minimum target’)
(iv) a grant will vest on a straight-line basis if the Group’s ROE average is between the minimum target and the maximum target.
The Remuneration Committee believes that these notice periods provide an appropriate balance having regard to prevailing market conditions and current practice amongst public companies. No external appointment may be accepted by an Executive Director where it may give rise to a conflict of interest. The consent of the Chairman is required in any event.
External non executive directorships During the year Robert Hiscox has been a Non Executive Director of Grainger Trust plc and is paid £25,000 for his services.
Remuneration of Executive Directors The emoluments received by each person who served as an Executive Director during the year are set out below: salary/fees Benefits Bonus Total salary/fees Benefits Bonus Total
The Directors have pleasure in submitting their Annual Report and financial statements for the year ended 31 December 2005.
The review of the year and likely future developments are described further in the Chairman’s statement and the report on Group financial performance.
Financial results The Group achieved a pre-tax profit for the year of £70.2 million (2004: £89.5 million). Detailed results for the year are shown in the consolidated income statement on page 50.
Dividends An interim dividend of 2.25p (net) per share (2004: 1.5p (net)) was paid on 24 October 2005 in respect of the year ended 31 December 2005. The Directors recommend the payment of a final dividend of 4.75p (net) per share (2004: 3.5p (net)). If approved this will be paid on 26 June 2006 to shareholders on the register at the close of business on 21 April 2006.
The Company provides Directors and Officers’ insurance for all of its Directors. The Directors have the benefit of “qualifying third party indemnity provisions” for the purposes of sections 309A to 309C of the Companies Act 1985 pursuant to the Company’s Articles of Association. A copy of the Articles of Association is available for inspection at the Company’s registered office.
Going concern After making enquiries, the Directors have a reasonable expectation that the Company and the Group have adequate resources to continue in operational existence for the foreseeable future. For this reason they continue to adopt the going concern basis in preparing the accounts.
The Board recognises the potential impact of socio-economic issues upon the short and long-term value of the Company. The Head of Risk oversees the risk management framework through which the business units report relevant risks to the Board and Audit Committee throughout each year.
Directors’ interests 5p ordinary shares 5p ordinary shares 5p ordinary shares 5p ordinary shares Number of shares Number of shares Number of shares Number of shares beneficial non-beneficial beneficial non-beneficial
Political and charitable contributions The Group made no political contributions during the year (2004: £nil). Charitable donations totalled £78,650 (2004: £78,300) of which £50,000 (2004: £50,000) was donated to the Hiscox Foundation, a UK registered charity. The policy of the Hiscox Foundation is to assist and improve education, the arts and independent living for disabled and disadvantaged members of society. Further information concerning the Group’s charitable activities is contained in the report on Corporate responsibility on pages 36 to 37.
Payment is then made on these terms, subject to the other terms and conditions being met by the supplier. The Group had 17.1 (2004: 15.4) days’ purchases outstanding at 31 December 2005 based on the average daily amount invoiced by suppliers during the year ended 31 December 2005. The Company is a holding company and accordingly has no days’ purchases outstanding at 31 December 2005.
In addition, the individual accounts of the parent company have also been prepared for the first occasion in accordance with IFRSs as adopted by the EU, as permitted by Statutory Instrument 2004 No. 2947 ‘The Companies Act 1985 (International Accounting Standards and Other Accounting Amendments) Regulations 2004’.
Annual General Meeting The notice of the Annual General Meeting is contained on pages 102 and 103. In addition to the ordinary business, the following items of special business will be considered at the meeting.
This authority will terminate no later than the earlier of the conclusion of the next Annual General Meeting or a date falling 15 months after the date of the passing of the resolution. The Directors presently have no intention of exercising this authority.
Resolution 12, which will be proposed as a special resolution, seeks to renew the authority conferred on the Board to issue equity securities of the Company for cash without application of pre-emption rights as provided by Section 89 of the Companies Act 1985. The authority contained in this resolution will be limited to an aggregate nominal value of £979,984.78, representing 5.0 per cent of the issued ordinary share capital as at 13 March 2006. This authority will terminate no later than the earlier of the conclusion of the next Annual General Meeting or a date falling 15 months after the date of the passing of the resolution.
Any ordinary shares purchased pursuant to this authority may either be held as treasury shares or cancelled by the Company, depending on which course of action is considered by the Directors to be in the best interests of the shareholders at the time.
The authority contained in the resolution will be limited to a purchase of own shares up to a maximum number of 19,500,000 shares, representing 4.97 per cent of the issued capital of the Company as at 13 March 2006, and the price to be paid for the shares will be limited to a minimum share price of £0.50 per share and a maximum price per share that is not more than five per cent above the average of the closing middle market quotations for an ordinary share as derived from the London Stock Exchange Daily Official List for the five business days immediately preceding the date on which the ordinary share is purchased. This authority will terminate on the earlier of the conclusion of the next Annual General Meeting or a date falling 15 months after the date of the passing of the resolution.
Save to the extent purchased pursuant to the Companies (Acquisition of Own Shares) (Treasury Shares) Regulations 2003 (the ‘Regulations’), any shares purchased under this resolution will be cancelled. Shares purchased by the Company pursuant to the Regulations may be subsequently transferred to an employees’ share scheme, and such transfers will not exceed five per cent of the issued ordinary share capital of the Company (adjusted for scrip/bonus and Rights Issues) in any rolling ten year period. The Company does not currently hold any treasury shares. Hiscox Holdings Limited and Hiscox Trustees Limited, subsidiaries of the Company, own 54,560 and 135,782 shares respectively in the Company at 13 March 2006.
Your Directors consider that each of the resolutions described above and in the notice of Annual General Meeting will be of benefit to and is in the best interest of the Company and shareholders as a whole. Your Directors unanimously recommend that you vote in favour of the resolutions. Those Directors who hold ordinary shares in the Company intend to do so in respect of their own beneficial holdings, except with regard to Resolution 10 (relating to the remuneration report) on which they will not vote.
SJ Bridges Secretary 1 Great St Helen’s, London EC3A 6HX 13 March 2006
(d) prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Group and the parent Company will continue in business.
Basis of audit opinion We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) issued by the Auditing Practices Board.
An audit includes examination, on a test basis, of evidence relevant to the amounts and disclosures in the financial statements and the part of the Directors’ remuneration report to be audited. It also includes an assessment of the significant estimates and judgments made by the Directors in the preparation of the financial statements, and of whether the accounting policies are appropriate to the Group’s and Company’s circumstances, consistently applied and adequately disclosed.
• the financial statements and the part of the Directors’ remuneration report to be audited have been properly prepared in accordance with the Companies Act 1985 and, as regards the financial statements, Article 4 of the IAS Regulation.
KPMG Audit Plc Chartered Accountants Registered Auditor London 13 March 2006
Income Gross premiums written 5 861,174 816,609 Outward reinsurance premiums (179,938) (112,524)
Insurance premiums earned 879,344 847,524 Insurance premiums ceded to reinsurers (186,045) (132,672)
Expenses Claims and claim adjustment expenses, net of reinsurance 25 (457,025) (382,063) Expenses for the acquisition of insurance contracts 9 (199,979) (177,960) Administration expenses (41,197) (43,198) Other operating expenses 10 (46,973) (71,440)
Profit for the year (all attributable to equity shareholders of the Company) 48,630 63,948
Property, plant and equipment 15 12,128 10,691 Investments in associates 17 18 1,109 Deferred acquisition costs 9 106,747 109,970
Current tax 16,581 7,855 Trade and other payables 26 271,176 145,530
The consolidated Group financial statements were approved by the Board of Directors on 13 March 2006 and signed on its behalf by: RRS Hiscox Chairman
The Company financial statements were approved by the Board of Directors on 13 March 2006 and signed on its behalf by: RRS Hiscox Chairman
SJ Bridges Group Finance Director 52 Hiscox plc Report and Accounts 2005
Currency Capital Share Share Merger translation redemption Retained capital premium reserve reserve reserve earnings Total
Change in own shares – – – – – 254 254 Dividends to shareholders 32 – – – – – (12,833) (12,833)
Currency translation differences 24 – – – 1,290 – – 1,290
Net income/(expenses) recognised directly in equity – – – 1,290 – – 1,290 Profit for the year – – – – – 48,630 48,630
Capital Share Share Merger redemption Retained capital premium reserve reserve earnings Total
Employee share options: Equity settled share based payments – – – – 2,059 2,059 Proceeds from shares issued 23 67 1,522 – – – 1,589
Rights Issue of equity shares 23 4,818 171,550 – – – 176,368 Expenses related to Rights Issue of equity shares 23 – (5,974) – – – (5,974) Dividends to shareholders 32 – – – – (16,917) (16,917)
Changes in operational assets and liabilities: Insurance and reinsurance contracts 212,462 193,591 Financial assets (256,280) (230,913) Other assets and liabilities 13,048 (19,469)
Cash and cash equivalents at 1 January 119,563 102,712 Net increase in cash and cash equivalents 292,785 17,727 Effect of exchange rate fluctuations on cash and cash equivalents 1,411 (876)
Profit before tax 19,433 25,605 Interest received (6,015) (5,676) Net (gains)/losses on financial assets 2,974 (2,369)
Cash generated from operations 21,372 (4,173) Interest received 6,015 5,676 Interest paid (711) – Current tax paid (3,899) –
Cash flows from the acquisition and sale of subsidiaries and associates (291,540) (200) Cash flows from the sale/(purchase) of property, plant and equipment (14) (3,019)
The purchase, maturity and disposal of financial assets is part of the Company’s operating activities and is therefore classified as an operating cashflow.
1 General information The Hiscox Group, which is headquartered in London, United Kingdom, comprises Hiscox plc (the parent Company, referred to herein as the “Company”) and its subsidiaries (collectively, the Hiscox Group or the “Group”). The Group provides insurance, reinsurance and investment management services to its clients worldwide. It has operations in the UK, Europe, USA and Bermuda and employs over 600 people worldwide.
The financial statements were authorised for issue by the Directors on 13 March 2006.
2.1 Statement of compliance These consolidated Group and Company financial statements have been prepared in accordance with International Financial Reporting Standards as adopted by the EU and in accordance with the provisions of the Companies Act 1985. The Company has also applied the provisions of Statutory Instrument 2004 No. 2947 “The Companies Act 1985 (International Accounting Standards and Other Accounting Amendments) Regulations 2004.”
These are the Group and Company’s first financial statements prepared in accordance with IFRSs as adopted by the EU. The disclosures required by IFRS 1 First-time Adoption of International Financial Reporting Standards concerning the transition from UK GAAP to IFRSs, and its effect on the reported financial position, financial performance and cash flows, are given in note 3.
The Group and Company have taken advantage of the following exemptions set out in IFRS 1: – IFRS 3 Business Combinations has not been applied retrospectively to business combinations that occurred before 1 January 2004. Accumulated amortisation on goodwill arising before 1 January 2004 has not, therefore, been reversed
– cumulative translation differences for all foreign operations are deemed to be zero at 1 January 2004
The Group has elected to apply the transitional arrangements contained in IFRS 4 that permit the disclosure of only five years of data in claims development tables, in the year of adoption. The number of years of data presented will be increased in each succeeding additional year, up to a maximum of ten years, if material outstanding claims exist for such periods.
The accounting policies set out below have been applied consistently to all periods presented in these consolidated Group and Company financial statements and in preparing an opening balance sheet at 1 January 2004 for the purposes of the transition to IFRSs as adopted by the EU.
The accounting policies have been applied consistently by all Group entities solely for the purpose of producing the consolidated Group and Company financial statements.
The Directors have considered recently published IFRSs, new interpretations and amendments to existing standards that are mandatory to the Group and Company’s accounting periods commencing on or after 1 January 2006 and which have not been subject to early adoption. The main developments that are expected to be of relevance to forthcoming financial years are: – IAS 39 (Amendment), the Fair Value Option (effective 1 January 2006).
that are currently exercisable or convertible are taken into account. The consolidated financial statements include the assets, liabilities and results of the Company and subsidiaries up to 31 December each year. The financial statements of subsidiaries are included in the consolidated financial statements only from the date that control commences until the date that control ceases.
Hiscox Dedicated Corporate Member Limited and the subsidiaries of Hiscox Select Holdings Limited underwrite as corporate members of Lloyd’s on the syndicate managed by Hiscox Syndicates Limited (the ‘managed syndicate’). In view of the several but not joint liability of underwriting members at Lloyd’s for the transactions of syndicates in which they participate, the Group’s attributable share of the transactions, assets and liabilities of the syndicate has been included in the financial statements.
The Group uses the purchase method of accounting to account for the acquisition of subsidiaries. The cost of an acquisition is measured as the fair value of the assets given, equity instruments issued and liabilities incurred or assumed at the date of exchange, plus costs directly attributable to the acquisition. Identifiable assets acquired and liabilities and contingent liabilities assumed in a business combination are measured initially at their fair values at the acquisition date, irrespective of the extent of any minority interest. The excess of the cost of acquisition over the fair value of the Group’s share of the identifiable net assets acquired is recorded as goodwill. If the cost of acquisition is less than the fair value of the net assets of the subsidiary acquired, the difference is recognised directly in the income statement. The Company recognises all investments in Group undertakings at cost less provisions for impairment in value.
(c) Transactions eliminated on consolidation Intragroup balances, transactions and any unrealised gains arising from intragroup transactions are eliminated in preparing the consolidated financial statements. Unrealised losses are also eliminated unless the transaction provides evidence of an impairment of the asset transferred.
Unrealised gains arising from transactions with associates and jointly controlled entities are eliminated to the extent of the Group’s interest in the entity. Unrealised gains arising from transactions in associates are eliminated against the investment in the associate.
The functional currency of all individual entities in the Group is deemed to be Sterling with the exception of the entities operating in France, Germany, the Netherlands and Belgium whose functional currency is Euros, those entities operating from the USA and Bermuda whose functional currency is US Dollars, and Hiscox Insurance Company (Guernsey) Limited whose functional currency is also US Dollars.
(b) Transactions and balances Foreign currency transactions are translated into the functional currency using the exchange rates prevailing at the dates of the transactions. Foreign exchange gains and losses resulting from the settlement of such transactions and from the retranslation at year end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the income statement, except when deferred in equity as qualifying net investment hedges.
(c) Group companies The results and financial position of all the Group entities that have a functional currency different from the presentation currency are translated into the presentation currency as follows: (i) assets and liabilities for each balance sheet presented are translated at the closing rate at the date of that balance sheet
2.5 Property, plant and equipment Property, plant and equipment are stated at historical cost less depreciation and any recognised impairment loss. Historical cost includes expenditure that is directly attributable to the acquisition of the items.
Subsequent costs are included in the asset’s carrying amount or recognised as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the Group or the Company and the cost of the item can be measured reliably. All other repairs and maintenance are charged to the income statement during the financial period in which they are incurred.
Land and Artwork assets are not depreciated as they are deemed to have an indefinite useful economic life. Depreciation on other assets is calculated using the straight-line method to allocate their cost or revalued amounts to their residual values over their estimated useful lives, as follows: – Buildings 50 years
2.6 Intangible assets (a) Goodwill Goodwill represents amounts arising on acquisition of subsidiaries, associates and joint ventures. In respect of acquisitions that have occurred since 1 January 2004, goodwill represents the excess of the cost of an acquisition over the fair value of the Group’s share of the net identifiable assets of the acquired subsidiary or associate at the acquisition date.
In respect of acquisitions prior to this date, goodwill is included on the basis of its deemed cost, which represents the amount recorded under previous GAAP.
Goodwill on acquisition of subsidiaries is included in intangible assets. Goodwill on acquisition of associates is included in investments in associates. Goodwill is not amortised but is tested annually for impairment and carried at cost less accumulated impairment losses. The impairment review process examines whether or not the carrying value of the goodwill attributable to individual cash generating units exceeds its implied value. Any excess of goodwill over implied value indicates impairment.
(c) Rights to customer contractual relationships Costs directly attributable to securing rights to customer contract relationships are recognised as an intangible asset where they can be identified separately and measured reliably and it is probable that they will be recovered by directly related future profits. These costs are amortised over the useful economic life which is deemed to be 20 years and are carried at cost less accumulated amortisation and impairment losses.
Management determines the classification of its financial investments at initial recognition and re-evaluates this at every reporting date. The decision by the Group and the Company to designate all financial investments at fair value through the income statement reflects the fact that the investment portfolios are managed, and their performance evaluated, on a fair value basis. Regular purchases and sales of investments are accounted for at the date of trade.
(a) Financial assets at fair value through income A financial asset is classified into this category at inception if acquired principally for the purpose of selling in the short-term, if it forms part of a portfolio of financial assets in which there is evidence of short-term profit taking, or if so designated by management.
2.9 Impairment of assets Assets that have an indefinite useful life are not subject to amortisation and are tested annually or whenever there is an indication of impairment.
Assets that are subject to amortisation are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. An impairment loss is recognised for the amount by which the asset’s carrying amount exceeds its recoverable amount. The recoverable amount is the higher of an asset’s fair value less costs to sell and value in use. For the purpose of assessing impairment, assets are grouped at the lowest levels for which there are separately identifiable cash flows (cash generating units).
2.11 Own shares Where any Group company purchases the parent Company’s equity share capital (own shares), the consideration paid, including any directly attributable incremental costs (net of income taxes), is deducted from equity attributable to the Company’s equity holders. Where such shares are subsequently sold, reissued or otherwise disposed of, any consideration received is included in equity attributable to the Company’s equity holders, net of any directly attributable incremental transaction costs and the related income tax effects.
2.12 Net revenue Net revenue comprises insurance premiums earned, net of reinsurance, together with profit commission, investment returns, agency fees and other income inclusive of foreign exchange gains. The accounting policies for insurance premiums and investment returns are outlined below. Profit commission and other sources of income are recognised on an accruals basis.
2.13 Insurance contracts (a) Classification The Group issues short-term casualty and property insurance contracts that transfer insurance risk. Such contracts may also transfer a limited level of financial risk.
(b) Recognition and measurement Gross premiums written comprise premiums on business incepting in the financial year together with adjustments to estimates of premiums written in prior accounting periods. Estimates are included for pipeline premiums and an allowance is also made for cancellations. Premiums are stated before the deduction of brokerage and commission but net of taxes and duties levied. Premiums are recognised as revenue (earned premiums) proportionally over the period of coverage. The portion of premium received on in-force contracts that relates to unexpired risks at the balance sheet date is reported as the unearned premium liability. Premiums are shown before deduction of commission.
(d) Liability adequacy test At each balance sheet date, liability adequacy tests are performed by each segment of the Group to ensure the adequacy of the contract liabilities net of related DAC. In performing these tests, current best estimates of future contractual cash flows and claims handling and administration expenses, as well as investment income from assets backing such liabilities, are used. Any deficiency is immediately charged to profit or loss initially by writing off DAC and by subsequently establishing a provision for losses arising from liability adequacy tests (“the unexpired risk provision”).
Any DAC written off as a result of this test cannot subsequently be reinstated.
The benefits to which the Group is entitled under outwards reinsurance contracts are recognised as reinsurance assets. These assets consist of short-term balances due from reinsurers (classified within loans and receivables) as well as longer-term receivables (classified as reinsurance assets) that are dependent on the expected claims and benefits arising under the related reinsured insurance contracts. Reinsurance liabilities primarily comprise premiums payable for “outwards” reinsurance contracts. These amounts are recognised in profit or loss proportionally over the period of the contract. Receivables and payables are recognised when due.
(g) Salvage and subrogation reimbursements Some insurance contracts permit the Group to sell property acquired in settling a claim (i.e. salvage). The Group may also have the right to pursue third parties for payment of some or all costs (i.e. subrogation).
Subrogation reimbursements are also considered as an allowance in the measurement of the insurance liability for claims and are recognised in other assets when the liability is settled. The allowance is the assessment of the amount that can be recovered from the action against the liable third party.
2.14 Deferred tax Deferred tax is provided in full, using the liability method, on temporary differences arising between the tax bases of assets and liabilities and their carrying amounts in the financial statements. However, if the deferred income tax arises from initial recognition of an asset or liability in a transaction other than a business combination that at the time of the transaction affects neither accounting nor taxable profit or loss, it is not recognised. Deferred tax is determined using tax rates and laws that have been enacted or substantively enacted by the balance sheet date and are expected to apply when the related deferred income tax asset is realised or the deferred tax liability is settled.
Deferred tax assets are recognised to the extent that it is probable that the future taxable profit will be available against which the temporary differences can be utilised.
A defined contribution plan is a pension plan under which the Group or Company pays fixed contributions into a separate entity and has no further obligation beyond the agreed contribution rate. A defined benefit plan is a pension plan that defines an amount of pension benefit that an employee will receive on retirement, usually dependent on one or more factors such as age, years of service and compensation.
Notes to the financial statements continued 60 Hiscox plc Report and Accounts 2005
The liability recognised in the balance sheet in respect of defined benefit pension plans is the present value of the defined benefit obligation at the balance sheet date less the fair value of plan assets, together with adjustments for unrecognised actuarial gains or losses and past service costs. Plan assets exclude any insurance contracts issued by the Group.
Actuarial gains and losses arising from experience adjustments and changes in actuarial assumptions are charged or credited to income over the employees’ expected average remaining working lives.
Actuarial gains and losses are only recognised when the net cumulative unrecognised actuarial gains and losses for each individual plan at the end of the previous accounting period exceeds 10% of the higher of the defined benefit obligation and the fair value of the plan assets at that date.
(b) Other long-term employee benefits The Group provides sabbatical leave to employees on completion of a minimum service period of ten years. The present value of the expected costs of these benefits is accrued over the period of employment.
The fair value of the employee services received in exchange for the grant of the options is recognised as an expense with the corresponding credit being recorded in equity. The total amount to be expensed over the vesting period is determined by reference to the fair value of the options granted, excluding the impact of any non market vesting conditions (e.g. profitability or net asset growth targets). Non market vesting conditions are included in assumptions about the number of options that are expected to become exercisable. At each balance sheet date, the Group revises its estimates of the number of options that are expected to vest. It recognises the impact of the revision of original estimates, if any, in the income statement, and a corresponding adjustment to equity over the remaining vesting period.
The proceeds received net of any directly attributable transaction costs are credited to share capital and share premium when the options are exercised.
(e) Profit sharing and bonus plans The Group recognises a liability and an expense for bonuses and profit sharing, based on a formula that takes into consideration the profit attributable to the Company’s shareholders after certain adjustments. The Group and the Company recognise a provision where contractually obliged or where there is a past practice that has created a constructive obligation.
2.18 Leases Leases in which significantly all of the risks and rewards of ownership are transferred by the Group and the Company are classified as finance leases. At the commencement of the lease term, finance leases are recognised as assets and liabilities at the lower of the fair value of the asset and the present value of the minimum lease payments. The minimum lease payments are apportioned between finance charges and repayments of the outstanding liability, finance charges being charged to each period of the lease term so as to produce a constant rate of interest on the outstanding balance of the liability.
Financial assets including loans and receivables 3b 1,159,275 (92,125) 1,067,150 1,399,200 (90,987) 1,308,213 Current tax 2,739 – 2,739 – – –
Liabilities Employee retirement benefit obligations 3f – 33,334 33,334 – 34,718 34,718
Note 25 to consolidated financial statements provides a greater analysis of the main methods used by the Group when formulating estimates of the insurance claims liabilities at each balance sheet date.
3 Explanation of transition to IFRSs as adopted by the EU As stated in note 2.1, these are the Group and Company’s first financial statements prepared in accordance with IFRSs as adopted by the EU. The accounting policies set out in note 2 have been applied in preparing the financial statements for the year ended 31 December 2005, the comparative information presented in these financial statements for the year ended 31 December 2004 and in the preparation of an opening IFRSs balance sheet at 1 January 2004 (the date of transition).
In preparing opening IFRSs balance sheets, the Group and Company have adjusted amounts reported previously in financial statements prepared in accordance with its previous basis of accounting (UK GAAP). An explanation of how the transition from UK GAAP to IFRSs has affected the Group and Company’s position, financial performance and cash flows is set out in the following tables and the notes that accompany the tables.
Consolidated Group income statement For the year ended 31 December 2004 Effect of transition UK GAAP to IFRSs IFRSs
Net premiums written 3g 681,566 22,519 704,085 Net change in provision for unearned premiums 3g (39,137) 49,904 10,767
Results of operating activities 78,621 12,488 91,109 Finance costs 3b (1,977) – (1,977) Share of profit of associates 390 – 390
The accounting for this category of financial asset is similar to the Group’s previous accounting policy under UK GAAP. However, under IFRSs listed investments are valued at bid price on the balance sheet date, or on the last stock exchange trading day before the balance sheet date. The accounting for this category of financial asset is different to the parent Company’s previous accounting policy under UK GAAP. In addition to being valued on a mid rather than bid price basis, the parent Company’s previous accounting policy was also to recognise unrealised fair value adjustments through a capital reserve on the balance sheet rather than through the income statement. This previous accounting treatment was in accordance with Section 226 of, and Schedule 4 to, the Companies Act 1985.
Under IFRSs cash equivalents are included with cash at bank and in hand as cash and cash equivalents. IAS 7 Cash Flow Statements defines cash equivalents as short-term, highly liquid investments that are readily convertible to known amounts of cash and which are subject to an insignificant risk of changes in value. An investment normally qualifies as a cash equivalent only when it has a short maturity of three months or less from the date of acquisition. All certificates of deposit which meet this criteria have been disclosed as cash equivalents in the IFRSs balance sheet. This adjustment has no impact on shareholders’ funds or profit after tax.
3.c Taxation Current tax was provided in the UK GAAP financial statements for amounts expected to be paid (or recovered) using the tax rates and laws that had been enacted or substantially enacted at the balance sheet date.
Under IFRS 4, provisions for possible future claims arising from insurance contracts that are not in existence at the reporting date (such as catastrophe and equalisation provisions) are not recognised.
Contingent Liabilities and Contingent Assets. Accordingly only dividends approved (i.e. appropriately authorised and no longer at the discretion of the Group or Company) are recognised as receivable or payable at the balance sheet date. In addition, under IFRSs dividend distributions by the Company are debited directly to reserves instead of being reflected in the Income Statement for the year.
3.f Employee benefits Retirement benefit obligations Under IAS 19 Employee Benefits the present value of the defined benefit obligation is matched against the fair value of the plan assets out of which the obligations are to be settled directly and other unrecognised actuarial gains and losses. The resulting pension scheme asset or liability is recognised in the balance sheet. Previously under UK GAAP the assets and liabilities of defined benefit pension schemes were off-balance sheet items which were only disclosed by way of a footnote. Under SSAP 24 Accounting for Pension Costs, pension contributions were charged to the income statement so as to spread the cost of pensions over employees’ working lives with the Group. Differences between these amounts charged and payments made to the Group’s pension schemes were treated as an asset or liability in the UK GAAP balance sheet.
Share-based payments IFRS 2 Share-based Payment requires the recognition of an expense representing the fair value of employee services rendered in exchange for the grant of options. The amount to be expensed has been determined by reference to the fair value of the options granted. The impact of any non-market vesting conditions is not included in the calculation of the fair value but is included in the assumptions about the number of options that are expected to become exercisable.
In accordance with the transitional arrangements contained in the standard, only share options granted after 7 November 2002 but not yet vested at 1 January 2005 were included in the calculations.
Sabbatical leave After ten years of service, all permanent employees of the Group are eligible to take an eight week paid sabbatical leave. The present value of the cost of this compensated absence is expensed in the income statement over the period of service in accordance with IAS 19.
3.g Rates of exchange Functional currency The functional currency is the currency of the primary economic environment in which an entity operates. The functional currency of all entities in the Group has been deemed to be Sterling with the exception of the entities operating in France, Germany, the Netherlands and Belgium whose functional currency are Euros, and Hiscox Insurance Company (Guernsey) Limited, Hiscox Inc. and Hiscox Insurance Company (Bermuda) Limited, whose functional currency are US Dollars.
IAS 21 The Effects of Changes in Foreign Exchange Rates requires that foreign currency transactions are recorded, on initial recognition in the functional currency, by applying to the foreign currency amount the spot exchange rate between the functional currency and the foreign currency at the date of the transaction. Exchange differences
– income and expenses are translated at the exchange rates prevailing on the dates of transactions
Previously under UK GAAP, investments in foreign enterprises were translated by the Group using the net investment method which applies the closing rate to all assets and liabilities and income and expenses. All resulting exchange differences were similarly taken to reserves.
3.i Explanation of material adjustments to the cash flow statement The transition from UK GAAP to IFRSs necessitates significant presentational and other adjustments being made to the Group’s previously reported cash flow statement for the year ended 31 December 2004. IAS 7 Cash Flow Statements prescribes a format for presenting the Group’s cash flows that is more condensed than the comparable UK GAAP standard FRS 1 Cash Flow Statements. Previously the Group’s cash flows were classified under eight standard headings.
IAS 7 now requires that the Group’s cash flow statement be condensed into three standard headings: operating, investing and financing activities. The difference in format means that the Group’s UK GAAP and IFRSs cash flow statements are not comparable on a line by line basis. Cash flows from capital expenditure, acquisitions and disposals, shown separately under UK GAAP, are now included as part of investing activities under IFRSs. The payment of dividends is included as a financing activity under IFRSs.
Under UK GAAP the Group and Company’s cash comprises cash at bank. Under IFRSs, cash and cash equivalents include both cash at bank and other short-term highly liquid investments, such as certificates of deposit, with original maturities of three months or less.
4 Management of insurance and financial risk The Group enters into contracts that directly accept and transfer insurance risk, which in turn creates exposures to financial and other classes of risk. Consequently, Hiscox is fundamentally concerned with the identification and management of all significant risks. The Board has set Group-wide risk management policies which cover specific areas such as risk tolerance boundaries and procedures for communicating risk matters in a timely manner to management.
The Group’s overall appetite for accepting varying classes of insurance risk is set by the Group’s Board. Management of insurance risk on a day-to-day basis is the responsibility of the Chief Underwriting Officer, who receives assistance from the management information and risk modelling departments.
This means that the actual number and amount of claims will vary from the estimates established using statistical techniques. Other unpredictable factors that contribute towards the Group’s insurance risk accounting exposure include the emergence of latent risks and legal developments such as broadening judicial interpretations of coverage and the measurement of damages, none of which can be quantified with any absolute certainty at the balance sheet date.
However, significant geographical concentrations of risk can exist within individual segments of the portfolio. The Group’s reserves are calculated by an experienced in-house team of actuaries. The amounts reserved are subject to frequent peer reviews and, for the managed Syndicate, an annual actuarial audit is also performed by external actuaries.
To assist with the process of pricing and managing insurance risk the Group routinely performs a wide range of activities including the following: – regularly updating the Group’s risk models
– regularly aggregating risk exposures across individual underwriting portfolios and known accumulations of risk
– examining the aggregated exposures in advance of underwriting further large risks
All underwriting staff and binding agencies are set strict parameters in relation to the levels and types of business they can underwrite, based on individual levels of experience and competence. The delegation of underwriting authority to specific individuals, both internally and externally, is subject to regular review.
Regular meetings are held between the leaders of individual underwriting teams and the Chief Underwriting Officer, the risk modelling department and the actuarial department in order to monitor claim development patterns and discuss individual issues as they arise.
One tool for managing insurance risk is reinsurance. Considerable reinsurance protection such as excess of loss cover is purchased at an entity level and is also considered at an overall Group level to mitigate the effect of catastrophes. The scope and type of reinsurance protection purchased may change depending on the competitiveness of cover available in the market. Very large or complex risks are often shared with a number of other insurers under co-insurance arrangements.
The Board requires all underwriters to operate within an overall Group appetite for individual events. This defines the maximum exposure that the Group is prepared to retain on its own account for any one potential catastrophe event or disaster.
31 December 2004 Type of risk Property – Property – Casualty –
Reinsurance Marine and Other Professional Casualty – inwards major assets assets indemnity Other risks Other* Total
Territory of policyholder *Includes a diverse mix of certain specialty lines such as kidnap and ransom, terrorism, bloodstock and other risks which contain a mix of property and casualty exposures.
Frequency and severity of claims The specific insurance risks accepted by the Group fall into four main categories: reinsurance inwards, marine and major property risks, other property risks and casualty insurance risks. A discussion of the frequency and severity of claims for each of those categories is given below. The Group has no significant exposure to asbestos risks or life and health insurance business.
Reinsurance inwards The Group’s reinsurance inwards acceptances are primarily focused on large commercial property, homeowner and marine exposures held by other insurance companies predominantly in North America and other developed economies. This business is characterised more by large claims arising from individual events or catastrophes than the high frequency, low severity attritional losses associated with certain other business written by the Group. Multiple insured losses can periodically arise out of a single natural or man-made occurrence.
A significant proportion of the reinsurance inwards business provides cover on an excess of loss basis for individual events. The Group agrees to reimburse the cedant once their losses exceed a minimum level. Consequently the frequency and severity of reinsurance inwards’ claims is related not only to the number of significant insured events that occur but also to their individual magnitude. If numerous catastrophes occurred in any one year but the cedant’s individual loss on each was below the minimum stated, then the Group would have no liability under such contracts.
Maximum gross line sizes and aggregate exposures are set for each type of programme. At current exchange rates, the normal maximum individual line size that the Group would commit to is £20 million, and this would only apply to certain segments of the reinsurance inwards business such as catastrophe excess of loss cover. Line limits are strictly adhered to in order to cap the Group’s maximum exposure. In almost all cases the reinsurance inwards lines actually written are well below maximum levels.
Typical property covered by marine and other major property contracts include fixed and moveable assets such as ships and other vessels, cargo in transit, energy platforms and installations, pipelines, other subsea assets, satellites, commercial buildings and industrial plants and machinery. These assets are typically exposed to a blend of catastrophic and other large loss events, and attritional claims arising from conventional hazards such as collision, flooding, fire and theft.
Climatic changes may give rise to more frequent and severe extreme weather events (for example earthquakes, windstorms and river flooding etc.) and it may be expected that their frequency will increase over time.
The majority of the Group’s casualty exposures are on a claims made basis. However the final quantum of these claims may not be established for a number of years after the event. Consequently a significant proportion of the casualty insurance amounts reserved on the balance sheet may not be expected to settle within 12 months of the balance sheet date. A greater proportion of the casualty claims provision at the year end relates to IBNR losses than the provisions made for property and other categories of insurance risks.
4.2 Financial risk The Group and the Company are exposed to financial risk through their ownership of financial assets, financial liabilities, reinsurance assets and insurance liabilities. In particular the key financial risk for the Group is that the proceeds from its financial assets are not sufficient to fund the obligations arising from its insurance contracts. The most important components of this financial risk are interest rate risk, credit risk, liquidity risk and currency risk. The Group and the Company’s exposure to equity price risk is limited to a small proportion of the investment portfolio and is diversified over a number of companies and industries.
4.3 Interest rate risk Financial investments represent a significant proportion of the Group and the Company’s assets and the Board continually monitors investment strategy to minimise the risk of a fall in the portfolio’s market value which could affect the amount of business that the Group is able to underwrite or its ability to settle claims as they fall due. The vast majority of the Group and the Company’s investments comprise debt and fixed income securities. The fair value of the Group and the Company’s investment portfolio of debt and fixed income securities is inversely correlated to movements in market interest rates. If market interest rates fall, the fair value of the Group and the Company’s debt and fixed income investments would tend to rise and vice versa.
Debt and fixed income assets are predominantly invested in high quality corporate, government and municipal bonds. The investments typically have relatively short durations and terms to maturity.
The fair value of the Company’s debt and fixed income assets at 31 December 2005 was £95 million (2004: £96 million). A durationconvexation sensitivity analysis suggests that, if market interest rates had risen by 100 basis points at the balance sheet date, their fair value might have been expected to decrease by £1 million (2004: decrease of £1 million).
Insurance contract liabilities are not directly sensitive to the level of market interest rates, as they are undiscounted and contractually non-interest-bearing.
The Group and the Company’s major borrowing facility at 31 December 2005 totalled £120,930,000 (2004: nil) and incurred a fixed rate of interest of 5.61%. This interest rate has been reset several times subsequent to the year end, and is currently fixed at 6.06% until 31 July 2006. The Group and the Company have no other significant borrowings or other assets or liabilities carrying interest rate risk, other than the facilities and letters of credit outlined in note 33.
– amounts due from reinsurers in respect of claims already paid
– counterparty risk with respect to investments including deposits and derivative transactions.
The Group and the Company structure the levels of credit risk accepted by placing limits on their exposure to a single counterparty, or Groups of counterparties, and to geographical and industry segments. Such risks are subject to an annual or more frequent review. There is no significant concentration of credit risk with respect to loans and receivables, as the Group has a large number of internationally dispersed debtors. The Company’s loans and receivables are largely due from other Group companies.
Individual operating units maintain records of the payment history for significant brokers and contract holders with whom they conduct regular business. The exposure to individual counterparties is also managed by other mechanisms, such as the right of offset where counterparties are both debtors and creditors of the Group.
An analysis of the Group and Company’s major exposures to counterparty credit risk excluding loans and receivables, based on Standard & Poor’s or equivalent rating, is presented overleaf: Notes to the financial statements continued 70 Hiscox plc Report and Accounts 2005
Debt and fixed income securities 19 733,809 57,648 128,326 109,012 1,028,795 Assets arising from reinsurance contracts held 28,481 162,066 317,081 46,210 553,838
Deposits with credit institutions 19 – 7,466 82,110 – 89,576 Derivative financial assets/(liabilities) 19, 21 – (5,056) – – (5,056)
Debt and fixed income securities 19 63,549 10,243 7,149 14,398 95,339 Deposits with credit institutions 19 – 634 – – 634 Cash and cash equivalents 22 – 11,945 – – 11,945 Derivative financial assets/(liabilities) 19, 21 – (5,056) – – (5,056)
Debt and fixed income securities 19 68,557 8,269 15,267 4,156 96,249 Cash and cash equivalents 22 – 5,183 – – 5,183
The main focus of the investment portfolio is on high quality and frequently traded short duration debt and fixed income securities. Notwithstanding the regular interest receipts and also the Group and the Company’s ability to liquidate these securities for cash in a prompt and reasonable manner, the maturity profile of these securities at 31 December 2005 was as follows: Group Group Company Company
Property, plant and equipment 11,311 388 429 – 12,128 Intangible assets 33,099 – – – 33,099
Deferred tax 15,193 – – – 15,193 Employee retirement benefit obligations 16,677 – – – 16,677 Current tax 16,581 – – – 16,581
Notes to the financial statements continued 72 Hiscox plc Report and Accounts 2005
Property, plant and equipment 10,412 – 279 – 10,691 Intangible assets 29,989 – – – 29,989
Assets arising from reinsurance contracts held 69,009 149,843 19,840 179 238,871 Loans and receivables including insurance receivables 131,255 167,670 23,423 5,134 327,482
Deferred tax 14,517 – – – 14,517 Employee retirement benefit obligations 34,718 – – – 34,718 Current tax 7,855 – – – 7,855
The Company’s main foreign currency exposures relate to financial assets (note 19) and its net investment in the Bermudan operation. The Company hedges its net investment in the Bermuda operation by borrowing a proportion of the sum invested in US Dollars which is the functional currency of Hiscox Insurance Company (Bermuda) Limited (note 19). The Company’s remaining exposure is partially hedged by way of a forward contract derivative instrument (note 21).
5 Segmental information At 31 December 2005, the Group was managed on a worldwide basis in three primary business segments: – Global Markets and Corporate Centre comprises the results of Syndicate 33, excluding Syndicate 33’s specie, fine art and non-US household business. It also includes the investment return and administrative costs associated with the Company and other Group management activities.
Investment result based on longer term rates of return 36,181 14,300 1,632 52,113 28,011 11,374 414 39,799
Amortisation of intangible assets 47 120 – 167 – – – – Impairment loss on investment in associate 182 – – 182 – – – –
*The majority of all UK based tangible assets, and their related financing arrangements, have been accounted for and are held by entities in the Global Markets and Corporate Centre segment. The UK and Europe business benefits from certain operational facilities and other tangible assets shared with the Global Market and Corporate Centre segment. The depreciation cost reflected for the UK and Europe segment is that primarily recharged internally by the Global Markets and Corporate Centre segment.
Notes to the financial statements continued 74 Hiscox plc Report and Accounts 2005
At 100% level (note 5c) 1% change in claims or expense ratio 6,268 2,565 234 7,436 2,304 185
At Group level 1% change in claims or expense ratio 4,289 2,416 234 4,826 2,124 185
For the 2005 year of account the Group owned 71% (2004: 65%) of the Syndicate. For the 2002 year of account, 8% of the capacity (2001 year of account: 7%) was reinsured to three leading European insurers via a quota share arrangement.
(c) 100% level underwriting results by segment Year to 31 December 2005 Year to 31 December 2004
Investment result based on longer term rates of return 51,287 14,300 1,632 67,219 34,018 11,374 414 45,806
Trading result based on longer term rates of return 52,950 45,763 3,668 102,381 103,710 13,892 1,905 119,507
(d) Segmental analysis of assets and liabilities The segment assets and liabilities at 31 December and the capital expenditure for the year then ended are as follows: Year to 31 December 2005 Year to 31 December 2004 Global Eliminations Global Eliminations
Segment assets and liabilities primarily consist of operating assets and liabilities, which represent the majority of the balance sheet. Inter-segmental assets and liabilities, together with taxation balances that are not allocated to specific segments, are presented under the separate category headed ‘Eliminations and unallocated items’.
Notes to the financial statements continued 76 Hiscox plc Report and Accounts 2005
Total segment assets At 31 December 2005 At 31 December 2004
Net asset NAV Net asset NAV value per share value per share £000 pence £000 pence
The net asset value per share is based on 391,216,294 shares (2004: 293,305,922), being the adjusted number of shares in issue at 31 December.
7 Investment result The total investment return for the Group before taxation comprises: Investment income including interest receivable 48,172 35,051 Net realised losses on investments at fair value through profit or loss (8,040) (6,608) Net fair value gains on investments at fair value through profit or loss 10,155 6,015
8 Analysis of return on investments The return on investments for the year by currency was: US Dollar 2.5 1.6
The deferred amount of insurance contract acquisition costs attributable to reinsurers of £2,496,000 (2004: £4,552,000) is not eligible for offset against the gross balance sheet asset and is included separately within accruals and deferred income (note 26).
Agency related income 3,044 6,212 Profit commission 9,807 3,508 Exchange gains 57,420 – Other income 11,026 5,392
11 Employee benefit expense The aggregate remuneration and associated costs were: Wages and salaries, including holiday pay and sabbatical leave charges 37,581 31,900 Social security costs 6,124 4,645 Share based payments cost of options granted to Directors and employees (note 23) 2,059 1,194 Pension costs – defined contribution 825 669 Pension costs – net expense arising on defined benefit plans (note 29) 4,047 4,457 Other employment benefits – –
Audit and assurance services: Statutory audit fee 305 230 Regulatory audit fee 25 15 Other* 53 –
**Non-audit services with fees greater than £50,000 must be pre-approved by the Audit Committee which is composed solely of independent non executive directors.
Other non-audit services*: Work performed in relation to corporate projects – –
Total auditors’ remuneration expense 115 119 *Non-audit services with fees greater than £50,000 must be pre-approved by the Audit Committee which is composed solely of independent non executive directors.
KPMG Audit Plc acted as auditors to the Group during the current and previous financial year. KPMG Audit Plc were also appointed as auditors to Syndicate 33 during the current financial year under review. The full fee payable for the Syndicate audit has been included for 2005 above, although an element of this is borne by the third-party participants in the Syndicate.
In addition to the above expenses, the auditors also earned fees of £245,000 exclusive of VAT (2004: nil) in relation to the Group’s Rights Issue which have been deducted from the share premium reserve (note 23).
Exchange gains/(losses) classified as a separate component of equity 1,290 (468)
Year ended 31 December 2004 Opening net book amount 407 – 271 7,072 7,750
Notes to the financial statements continued 80 Hiscox plc Report and Accounts 2005
(a) Group continued Furniture, fittings and Land and Leasehold equipment buildings improvements Vehicles and art Total
The Group’s land and buildings assets relate to freehold property in the United Kingdom. At 31 December 2005 and 2004 part of the buildings were occupied by third parties under separate operating lease arrangements (note 34).
Assets with a net book value of £476,000 were held under finance leases (2004: £397,000). The total depreciation charge for the year in respect of assets held under finance leases was £100,000 (2004: £86,000). The Company held no assets under finance leases during the current or prior year.
The Company’s land and buildings assets relate to freehold property in the United Kingdom. At 31 December 2005 and 2004 part of the buildings were occupied by third parties under separate operating lease arrangements (note 34).
The additions to syndicate capacity during 2005 and 2004 represent the amounts paid, inclusive of transaction costs, by the Group in acquiring an additional 1% of capacity of Syndicate 33 in open market auctions (2004: 6%). The Group’s intangible asset relating to syndicate capacity has been allocated, for impairment testing purposes, to one individual cash generating unit being the Lloyd’s corporate member entities. The Group has considered the recoverable amount from the Lloyd’s corporate member entities on a value in use basis. This calculation uses cash flow projections based on financial forecasts approved by management covering a five year period. Cash flows beyond the five year period are extrapolated based on an average level of return and annual growth. The results of this exercise indicate that the recoverable amount exceeds the intangible’s carrying value.
Goodwill is allocated to the Group’s cash generating units (‘CGUs’) identified according to country of operation and business segment. At 31 December 2005 and 2004 the Group’s goodwill balances are all attributable to UK based operations.
Notes to the financial statements continued 82 Hiscox plc Report and Accounts 2005
Investments acquired during year – 200 – 200 Investments disposed of during year (1,159) – – – Share of post tax profit for the period until disposal 250 390 – – Provision for impairment (182) (182)
Reinsurers’ share of insurance liabilities 514,248 248,554 Provision for non recovery and impairment (7,872) (9,683)
The amounts expected to be recovered before and after one year, based on historical experience, are estimated as follows: Within one year 189,258 117,137 After one year 317,118 121,734
Amounts due from reinsurers in respect of outstanding premiums, and claims already paid by the Group are included in loans and receivables (note 20).
19 Financial assets and liabilities Financial assets and liabilities are all measured at their bid price fair values with all changes from one accounting period to the next being recorded through the income statement as provided for by IAS 39.
Debt and fixed income securities 1,036,335 1,028,795 839,082 833,963 95,279 95,339 96,567 96,249 Equities and shares in unit trusts 101,895 119,407 80,065 86,783 44,555 48,972 38,338 39,985
An analysis of the credit risk and contractual maturity profiles of the Group and Company’s debt and fixed income securities is given in notes 4.4 and 4.5. The Group and the Company have no material exposure to financial assets not actively traded on recognised markets within their investment portfolios.
US Dollars – – – – Euro and other currencies 121 – – –
The table below illustrates the movements in financial assets during the year: Group Group Company Company
For additional details of the principal subsidiary undertakings, see note 35.
Gross receivables arising from insurance and reinsurance contracts 351,051 258,424 Less provision for impairment (1,018) (869)
Due from contract holders, brokers, agents and intermediaries 302,571 223,167 Due from reinsurance operations 47,462 34,388
Other loans and receivables: Prepayments and accrued income 8,632 8,201 Net profit commission receivable 17,410 11,458 Accrued interest 6,943 5,428 Right to reimbursement of defined benefit obligation (note 29) 5,462 7,345 Share of syndicate’s other debtors balances 40,579 33,735 Other debtors including related party amounts (note 36) 7,922 3,760 Less provision for impairment – –
Foreign exchange option contracts expiring: Within one year 160,000 297 4,010 – – – Between one and five years 50,000 472 1,651 75,000 2,126 778 After five years – – – – – –
The short-term bank deposits of the Group and the Company have an original maturity of three months or less. The carrying amount of these assets approximates to their fair value.
The total authorised number of ordinary shares at 31 December 2005 was 600,000,000 (2004: 410,000,000), with a nominal value of 5p per share. The increase in authorised share capital during the year was approved by shareholders on 6 December 2005. All issued shares are fully paid. The Company issued 96,376,553 new ordinary shares at a price of 183p per share as part of the Rights Issue which was completed during November 2005.
Movements in the number of share options during the year and details of the balances outstanding at 31 December 2005 are shown at note 31.
The currency translation reserve comprises foreign exchange differences arising from the translation of the financial statements of, and investments in, foreign operations.
The amounts expected to be earned and settled before and after one year, based on historical experience, are estimated as follows: Within one year 628,383 536,463 After one year 588,241 471,569
The gross claims reported, the loss adjustment expenses liabilities and the liability for claims incurred but not reported are net of expected recoveries from salvage and subrogation. The amounts for salvage and subrogation at the end of 2005 and 2004 are not material.
(a) Process used to decide on assumptions The risks associated with insurance contracts and in particular with casualty insurance contracts are complex and subject to a number of variables that complicate quantitative sensitivity analysis.
Notes to the financial statements continued 88 Hiscox plc Report and Accounts 2005
25.1 Insurance contracts assumptions continued Adjustments are made within the claims reserving methodologies to remove distortions in the historical claims development patterns from large or isolated claims not expected to reoccur in the future. In addition, the reserves determined for the managed syndicate are converted to annually accounted figures using earnings patterns that are consistent with those for the underlying syndicate business.
(b) Claims development tables The development of insurance liabilities provides a measure of the Group’s ability to estimate the ultimate value of claims. The Group analyses actual claims development compared with previous estimates on an accident year basis. This exercise is performed to include the liabilities of Syndicate 33 at the 100% level regardless of the Group’s actual level of ownership, which has increased significantly over the last five years. Analysis at the 100% level is required in order to avoid distortions arising from reinsurance to close arrangements which subsequently increase the Group’s share of ultimate claims for each accident year three years after the end of that accident year.
The top half of each table illustrates how estimates of ultimate claim costs for each accident year have changed at successive year-ends. The bottom half reconciles cumulative claim costs to the amounts still recognised as liabilities. A reconciliation of the liability at the 100% level to the Group’s share, as included in the Group balance sheet, is also shown.
Liability in respect of prior accident years at 100% level 82,193
Group share of current estimate of cumulative claims 535,741 291,402 297,530 512,360 778,691 2,415,724
Group share of cumulative payments (397,272) (200,318) (190,317) (253,065) (113,872) (1,154,844)
Liability for accident years before 2001 recognised on Group’s balance sheet – – – – – 61,613
Total Group liability – gross** 1,322,493 *The foreign exchange adjustment arises from the retranslation of the estimates at each date using the exchange rate ruling at 31 December 2005.
Estimate of ultimate claims costs as adjusted for foreign exchange*: at end of accident year 334,022 252,224 334,122 540,776 645,835 2,106,979 three years later 485,328 267,929 – – – 753,257 four years later 472,594 – – – – 472,594
Group share of current estimate of cumulative claims 330,710 200,314 234,599 406,822 481,725 1,654,170
Liability for 2001 to 2005 accident years recognised on Group’s balance sheet 106,952 69,565 78,345 199,245 385,852 839,959
Liability for accident years before 2001 recognised on Group’s balance sheet – – – – – 14,734
**This represents the claims element of the Group’s insurance liabilities and reinsurance assets.
Total at beginning of year (830,681) 195,730 (634,951) (656,820) 189,183 (467,637) Claims and claims handling expense for year (810,678) 353,653 (457,025) (447,753) 65,690 (382,063) Cash paid for claims settled in the year 391,710 (109,904) 281,806 240,200 (49,630) 190,570 Exchange differences and other movements (72,844) 28,321 (44,523) 33,692 (9,513) 24,179
Creditors arising out of direct insurance operations 30,945 28,399 Creditors arising out of reinsurance operations 150,947 60,368
The amounts expected to be settled before and after one year are estimated as follows: Within one year 269,246 143,550 After one year 1,930 1,980
The amounts expected to be settled after one year of the balance sheet date primarily relate to finance leases and the Group’s provision of sabbatical leave employee benefits.
The liabilities of the Company all fall due for payment within one year of the balance sheet date.
The tax expense on the Group’s profit before tax differs from the theoretical amount that would arise using the weighted average tax rate applicable to profits of the consolidated companies as follows: Profit before tax 70,221 89,522
Tax calculated at the standard UK Corporation tax rate of 30% (2004: 30%) 21,067 26,857 Effects of: Expenses not deductible for tax purposes 687 3,822 Income not subject to tax (113) (3,221) Foreign tax, income tax and excess tax on controlled foreign companies (2,535) (536) Tax losses for which no deferred tax asset is recognised 1,011 112 Other items (347) (1,339) Prior year current tax 1,632 1,615 Prior year deferred tax 189 (1,736)
The movement on the total net deferred tax asset/(liability) is as follows: Group Group Company Company
(a) Group and Company deferred tax assets analysed by balance sheet headings Group Group Company Company
(b) Group and Company deferred tax liabilities analysed by balance sheet headings and syndicate participation
Open years of account and Section 107 disclaimers (23,528) (21,675) – –
Deferred income tax assets are recognised for tax losses carried forward to the extent that the realisation of the related tax benefit through the future taxable profits is probable. The Group has not provided for deferred tax assets totalling £2,671,000 in relation to losses of overseas companies (2004: £1,661,000). The aggregate amount of temporary differences associated with investments in subsidiaries and associates for which no deferred tax liability has been recognised is £16,892,000 (2004: £8,275,000). These temporary differences are unlikely to reverse in the foreseeable future. In accordance with IAS 12, all deferred tax assets and liabilities are classified as non current.
Notes to the financial statements continued 92 Hiscox plc Report and Accounts 2005
Present value of unfunded obligations 36,124 34,209 Unrecognised actuarial gains/(losses) (19,447) 509 Unrecognised past service cost – –
Included within loans and receivables for the Group (note 20) is a right to reimbursement of £5,462,000 (2004: £7,345,000) recoverable from third-party names in Syndicate 33 representing their contribution to funding the defined benefit scheme obligation.
The plan assets are invested as follows: Equities and property 81,577 58,497 Debt and fixed income securities 4,993 4,750
The amounts recognised in the Group’s income statement are as follows: Current service cost 2,916 2,997 Interest cost 5,228 4,921 Expected return on plan assets (4,767) (3,461) Net actuarial (gains)/losses recognised during the year – – Past service cost 670 –
The movement in liability recognised in the Group and Company balance sheets are as follows: At beginning of year 34,718 33,334 Total expense charged in the income statement of the Group (note 11) 4,047 4,457 Contributions paid (22,088) (3,073)
Profit attributable to the Company’s equity holders (£000) 48,630 63,948 Weighted average number of ordinary shares (thousands) 310,797 300,653 Basic earnings per share (pence per share) 15.6p 21.3p
The comparative weighted average number of shares in issue for 2004 has been adjusted for the effects of the Rights Issue in November 2005, in accordance with IAS 33 Earnings per share.
Diluted earnings per share has been calculated after taking account of 11,829,000 (2004: 2,435,000) options under employee share schemes and 454,000 (2004: 940,000) options under SAYE schemes.
31 Directors’ emoluments and share option schemes Information regarding the remuneration and emoluments of Directors is given in the Directors’ remuneration report on pages 41 to 43.
31 Directors’ emoluments and share option schemes continued The interests of the Directors and employees under the UK and International Sharesave Schemes of the Group are set out below: Number of Number of Market price options at Number Number Number options at Exercise at date of Date from 1 January of options of options of options 31 December price* exercise* which 2005 granted lapsed exercised 2005 £/€ £/€ exercisable Expiry date
International Sharesave Scheme *International Sharesave Scheme prices are denominated in Euros.
In January 2006 approval was received from HM Revenue & Customs to adjust the entitlement of participants in the Employee Share Schemes in respect of both the number of shares under option and the option exercise price to take account of the Rights Issue. The adjustments have been calculated in accordance with a formula set out by HM Revenue & Customs and have the effect that the number of options that each option holder is entitled to has increased by 3% and the price of each option has decreased by 3%. The aggregate monetary value of options granted has not changed as a result of the adjustment. These adjustments have taken place subsequent to the balance sheet date and are not reflected in the above tables.
Final dividend for the year ended: 31 December 2003 of 2.9p (net) per share – 8,450 – 8,457 31 December 2004 of 3.5p (net) per share 10,286 – 10,286 –
Notes to the financial statements continued 96 Hiscox plc Report and Accounts 2005
The following guarantees have also been issued: (a) The Company has entered into a deed of covenant in respect of its corporate member subsidiaries, Hiscox Dedicated Corporate Member Limited, Hiscox Select A to J Limited, to meet the subsidiaries’ obligations to Lloyd’s. The total guarantee given by the Company under this deed of covenant (subject to limited exceptions) amounts to £118,831,798 (2004: £117,209,120). The obligations in respect of this deed of covenant are secured by a fixed and floating charge over certain of the investments and other assets of the Company in favour of Lloyd’s. Lloyd’s has a right to retain the income on the charged investments in circumstances where it considers there to be a risk that the covenant might need to be called and may be met in full
(b) The Company has an agreement with Lloyds TSB Bank, an agent for a syndicate of banks, for a £137,500,000 irrevocable standby Letter of Credit Facility and a US $225,000,000 Term and Revolving Credit Facility. Commencing 7 November 2005 £137,500,000 was drawn down on the Letter of Credit Facility to support part of the Group’s underwriting activities. Hiscox plc has given a fixed and floating charge over the Group’s assets as a guarantee to the group of banks led by Lloyds TSB Bank in connection with their Letter of Credit. On 5 December 2005, the Group drew down US $208,000,000 of the term and revolving credit facility to support its investment in the new Bermudan operations
(c) Hiscox Insurance Company Limited has arranged a Letter of Credit of £325,000 with Natwest Bank plc to support its consortium activities with Lloyd’s
(d) The managed syndicate is subject to the New Central Fund annual contribution, which is an annual fee calculated on capacity. This fee was 0.5% for 2005, and is 1.0% for 2006 with a further 0.75% being loaned to the New Central Fund. In addition to this fee, the Council of Lloyd’s has the discretion to call a further contribution of up to 3% of capacity if required.
Capital commitments The Group’s capital expenditure contracted for at the balance sheet date but not yet incurred is as follows: Property, plant and equipment 1,150 – Intangible assets – –
The Company had no capital commitments at 31 December 2005 or 2004.
Operating lease commitments The Group acts as both lessee and lessor in relation to various offices in the UK and overseas which are held under non–cancellable operating lease agreements. The leases have varying terms, escalation clauses and renewal rights. The Group also has payment obligations in respect of operating leases for certain items of office equipment. Operating lease rental expenses, net of recharges to the managed syndicate, for the year totalled £1,936,000 (2004: £2,041,000). Operating lease rental income for the year totalled £586,000 (2004: £241,000).
Later than one year and no later than five years Land and buildings 14,679 14,221 Office equipment 31 120
Finance lease interest expenses, net of recharges to the managed syndicate, for the year totalled £32,000 (2004: £25,000).
(b) Associates Certain companies within the Group received management and other commercial services from a number of wholly owned subsidiaries of Heritage Group Limited, which was an associate of the Group until 11 July 2005. These transactions arose in the normal course of business and are based on arms length arrangements. One Director of Heritage Group Limited is also a Director of Hiscox Insurance Company (Guernsey) Limited. The ultimate parent Company of Hiscox Insurance Company (Guernsey) Limited is Hiscox plc.
The Group’s debtors receivable at 31 December 2004 (note 20) included an amount due from Heritage Group Limited of £1,580,000 in respect of an original balance of £1,900,000 due to Hiscox Insurance Company Limited. Repayments of £1,580,000 (2004: £320,000) were received by the Group during the year. There were no amounts outstanding at 31 December 2005.
Certain companies within the Group conduct insurance and other business with Blyth Valley Limited, an associate. These transactions arise in the normal course of obtaining insurance business through brokerages, and are based on arms length arrangements. One Director of Blyth Valley Limited also served as a Director of Hiscox Insurance Company Limited. The ultimate parent Company of Hiscox Insurance Company Limited is Hiscox plc.
Gross premium income achieved through Blyth Valley Limited during year 1,808 1,146
Commission expense for year charged by Blyth Valley Limited 368 243
Amounts payable to Blyth Valley Limited at 31 December in respect of commissions 40 23
Amounts receivable from Blyth Valley Limited at 31 December in respect of insurance premiums 1 2
(c) Other BE Masojada is a Non Executive Director of Ins-sure Holdings Limited and its subsidiaries, appointed in October 2002. These companies operate in a joint venture between Lloyd’s, the International Underwriting Association (IUA) and Xchanging. These companies provide policy issuance, premium collection, claims settlement and clearing services to Lloyd’s and the London insurance company markets. Hiscox Underwriting Group Services Limited received the annual fee of £20,000 (2004: £20,000) in relation to this directorship. The balance due at 31 December 2005 was £10,000 (2004: £5,000).
Dividends receivable from other Group companies: Hiscox Dedicated Corporate Member Limited – 12,000 Hiscox Holdings Limited 18,000 2,500 Hiscox Select Insurance Fund PLC – 5,000
Amounts due (to)/from other Group companies at 31 December: Hiscox Dedicated Corporate Member Limited 14,634 47,553 Hiscox Holdings Limited 20,023 1,579 Hiscox Select Insurance Fund PLC and subsidiaries (23,387) (13,830) Hiscox Syndicates Limited (14,520) (5,968) Hiscox Underwriting Group Services Limited 50,677 45,403 Hiscox Insurance Holdings Limited 54,508 54,508
Notes to the financial statements continued 100 Hiscox plc Report and Accounts 2005
Profit/(loss) on ordinary activities before tax 70,221 89,522 83,408 20,739 (32,496) Profit/(loss) on ordinary activities after tax 48,630 63,948 60,491 14,399 (23,107)
The amounts and ratios for 2001 to 2003 are those previously published on a UK GAAP basis, the Group’s primary reporting framework at that time. The figures reported for 2004 and 2005 are prepared in accordance with IFRSs as adopted by the EU. The main differences arising on the Group’s transition to IFRSs are outlined at note 3 to the financial statements.
Notice is hereby given that the Annual General Meeting of Hiscox plc will be held at 1 Great St Helen’s, London EC3A 6HX on 20 June 2006 at 11:00 am for the following purposes: Ordinary business (1) To receive the accounts of the Company for the year ended 31 December 2005 together with the Directors’ and auditors’ reports thereon.
(3) To re-appoint AGC Howland Jackson who retires as a Director in accordance with the Articles of Association and the Combined Code.
(5) To appoint AR Auer who has been appointed as a Director since the previous Annual General Meeting, in accordance with the Articles of Association and the Combined Code.
(6) To appoint Sir Mervyn Pedelty who has been appointed as a Director since the previous Annual General Meeting, in accordance with the Articles of Association and the Combined Code.
(7) To re-appoint KPMG Audit Plc as auditors of the Company to hold office from the conclusion of this meeting until the conclusion of the next general meeting of the Company at which accounts are laid.
4. In accordance with Regulation 41 of the Uncertificated Securities Regulations 2001, only those members entered on the relevant register of members of the Company as at 6.00 pm on 18 June 2006 (or in the event that the Meeting is adjourned, 48 hours before the time of any adjourned Meeting) shall be entitled to attend or vote at the Meeting in respect of the number of shares registered in their name at that time. Changes to entries on the relevant register of members after 6.00 pm on 18 June 2006 (or in the event that the Meeting is adjourned, 48 hours before the time of any adjourned meeting) shall be disregarded in determining the rights of any person to attend or vote at the meeting.
Copies of the register of Directors’ interests and copies of Directors’ service contracts (including the terms and conditions of appointment of Non Executive Directors) kept by the Company will be available for inspection for at least 15 minutes before the commencement of the Meeting and will remain available during the continuance of the Meeting to any person attending the Meeting.
Binder (or binding authority) An authority granted by an underwriter to an agent (known as a coverholder) whereby that agent is entitled to accept, within certain limits, insurance business on behalf of the underwriter.
Cedant An insurer that transfers insurance risk to another insurer under a reinsurance contract.
Claims ratio Net claims incurred, including IBNR, as a percentage of net earned premiums.
Coverholder An agent authorised to accept, within certain limits, insurance business on behalf of an underwriter. The coverholder deals with premium collection, the issue of certificates and in certain instances the servicing of claims, and has full power to commit the underwriter within the terms of the authority.
Incurred loss ratio Paid and outstanding losses as a percentage of premiums. Gross incurred loss ratio is before deducting any reinsurance; the net loss ratio is after deducting reinsurance.
Member or Name An underwriting member of Lloyd’s. Groups of these individuals (‘Names’) collectively accept insurance risks through a Lloyd’s syndicate. Names are required to meet certain Lloyd’s solvency requirements and are responsible for their share of any losses made by the syndicates on which they participate, and are entitled to an equivalent share of any profits.
Quota shares Where insurance risks are re-insured on a proportional basis, premiums and claims are divided in the same proportions between the insurer and re-insurer.
Return on equity (‘ROE’) Net profit after tax expressed as a percentage of adjusted opening equity. This percentage measures profitability by expressing the efficiency of the Group’s utilisation of shareholders’ funds.
Short-tail A term used to describe an insurance risk where claims are expected to arise near to the dates on which a policy was current.
Stamp capacity or syndicate capacity The maximum amount of business that a syndicate in Lloyd’s can write per year, aggregated from all its members.
Hiscox Syndicates Limited, Hiscox Underwriting Limited, Hiscox Insurance Company Limited and Hiscox Investment Management Limited are authorised and regulated by the Financial Services Authority.