PROPERTIES Everest Re's corporate offices are located in approximately 112,000 square feet of leased office space in Liberty Corner, New Jersey. Bermuda Re's corporate offices are located in approximately 3,600 total square feet of leased office space in Hamilton, Bermuda. The Company's other eleven locations occupy a total of approximately 69,500 square feet, all of which are leased. Management believes that the above-described office space is adequate for its current and anticipated needs.
The following selected consolidated GAAP financial data of the Company as of and for the years ended December 31, 2000, 1999, 1998, 1997 and 1996 were derived from the consolidated financial statements of the Company, which were audited by PricewaterhouseCoopers LLP. The following financial data should be read in conjunction with the Consolidated Financial Statements and accompanying notes.
- ------------ (1) After-tax operating income, before after-tax net realized capital gains or losses, was $185.9 million (or $4.05 per basic share and $4.01 per diluted share), $169.0 million (or $3.48 per basic and $3.47 per diluted share), $165.7 million (or $3.29 per basic and $3.27 per diluted share), $144.6 million (or $2.86 per basic and $2.85 per diluted share) and $108.3 million (or $2.14 per basic and diluted share) for the years ended December 31, 2000, 1999, 1998, 1997 and 1996, respectively. (2) Catastrophe losses are net of reinsurance. A catastrophe is defined, for purposes of the Selected Consolidated Financial Data, as an event that causes a pre-tax loss on property exposures before reinsurance of at least $5.0 million and has an event date of January 1, 1988 or later. (3) Some amounts may not reconcile due to rounding. (4) Based on weighted average basic shares outstanding of 45.9 million, 48.5 million, 50.4 million, 50.5 million and 50.6 million for 2000, 1999, 1998, 1997 and 1996, respectively. (5) Based on weighted average diluted shares outstanding of 46.4 million, 48.7 million, 50.7 million, 50.8 million and 50.7 million for 2000, 1999, 1998, 1997 and 1996, respectively. (6) Loss ratio is the GAAP losses and LAE incurred as a percentage of GAAP net premiums earned. Underwriting expense ratio is the GAAP commissions, borkerage, taxes, fees and general expenses as a percentage of GAAP net premiums earned. Combined ratio is the sum of the loss ratio and underwriting expense ratio. (7) Excluding net unrealized appreciation (depreciation) of investments, shareholder's equity was $1,502.1 million, $1,337.2 million, $1,281.6 million, $1,147.1 million and $1,008.3 million as of December 31, 2000, 1999, 1998, 1997 and 1996, respectively. (8) Based on 46.0 million shares outstanding for December 31, 2000, 46.5 million shares outstanding for December 31, 1999, 50.0 million shares outstanding for December 31, 1998 and 50.5 million shares outstanding for December 31, 1997 and 1996.
Mt. McKinley, a run-off property and casualty insurer in the United States, has had a long relationship with Holdings and its principal operating company, Everest Reinsurance Company ("Everest Re"). Mt. McKinley was formed in 1978 by Everest Re and wrote insurance until 1985, when it was placed in run-off. In 1991, Mt. McKinley became a subsidiary of The Prudential. Mt. McKinley is also a reinsurer of Everest Re. Under a series of transactions dating to 1986, Mt. McKinley reinsured several components of Everest Re's business. In particular, Mt. McKinley provided stop-loss reinsurance protection, in connection with the Company's October 5, 1995 IPO, for any adverse loss development on Everest Re's June 30, 1995 (December 31, 1994 for catastrophe losses) reserves, with $375.0 million in limits, of which $89.4 million remains available (the "Stop Loss Agreement"). The Stop Loss Agreement and other reinsurance contracts between Mt. McKinley and Everest Re remain in effect following the acquisition. However, these contracts have become transactions with affiliates, with the financial impact eliminated in consolidation.
On January 18, 2000, Everest Re purchased all of the issued and outstanding shares of Cra-Co Holdings Ltd., the Georgia holding company parent of Southeastern Security Insurance Company ("SSIC") for $10.1 million, which approximated book value. SSIC is a Georgia property and casualty insurance company, whose primary line of business is non-standard auto coverage.
YEAR ENDED DECEMBER 31, 2000 COMPARED TO YEAR ENDED DECEMBER 31, 1999 PREMIUMS. Gross premiums written increased 21.4% to $1,385.6 million in 2000 from $1,141.8 million in 1999 as the Company took advantage of selected growth opportunities, while continuing to maintain a disciplined underwriting approach. Premium growth areas included a 255.9% ($180.1 million) increase in the U.S. Insurance operation, principally attributable to growth in worker's compensation insurance, an 18.5% ($49.7 million) increase in the Specialty Underwriting operation, attributable to growth in A&H writings, a 3.6% ($11.2 million) increase in the International operation, mainly attributable to growth in North and South America and the markets served from the Company's London branch and $11.6 million of writings through the Bermuda operation which produced its first business during the quarter ended December 31, 2000. These increases were partially offset by a 1.8% ($8.9 million) decrease in the U.S. Reinsurance operation where growth across property and casualty lines was offset by reductions in non-standard auto writings. The Company continued to decline business that did not meet its objectives regarding underwriting profitability.
Ceded premiums increased to $166.7 million in 2000 from $46.3 million in 1999. This increase was principally attributable to the higher utilization of contract specific cessions in the U.S. Insurance and U.S. Reinsurance operations, including a new 100% ceded U.S. Longshore and Harbor Worker's Compensation Act and state act workers' compensation program in the U.S. Insurance operation, which contributed $37.0 million to the increase. In addition, adjustment premiums of $35.2 million were ceded in 2000 relating to losses ceded under the 1999 accident year aggregate excess of loss element of the Company's corporate retrocessional program.
Net premiums written increased by 11.3% to $1,218.9 million in 2000 from $1,095.6 million in 1999. This increase was consistent with the increase in gross premiums written and the increase in ceded premiums.
PREMIUM REVENUES. Net premiums earned increased by 9.6% to $1,174.2 million in 2000 from $1,071.5 million in 1999. Contributing to this increase was a 75.8% ($43.8 million) increase in the U.S. Insurance operation, a 14.1% ($37.3 million) increase in the Specialty Underwriting operation, a 3.3% ($15.1 million) increase in the U.S. Reinsurance operation and $11.6 million of net premiums earned from the Bermuda operation as the operation began writing business during the quarter ended December 31, 2000. These increases were partially offset by a 1.7% ($5.0 million) decrease in the International operation. All of these changes reflect period to period variability in gross written and ceded premiums, and business mix, together with normal variability in earnings patterns. Business mix changes occur not only as the Company shifts emphasis between products, lines of business, distribution channels and markets but also as individual contracts renew or non-renew, almost always with changes in coverage, structure, prices and/or terms, and as new contracts are accepted with coverages, structures, prices and/or terms different from those of expiring contracts. As premium reporting and earnings and loss and commission characteristics derive from the provisions of individual contracts, the continuous turnover of individual contracts, arising from both strategic shifts and day to day underwriting, can and does introduce appreciable background variability in various underwriting line items.
Interest expense was $39.4 million for 2000 compared to $1.5 million in 1999. Interest expense for 2000 reflects $30.9 million relating to Holdings' issuance
Other income was $3.3 million in 2000 compared to other expense of $1.0 million in 1999. Significant contributors to other income for 2000 were foreign exchange gains as well as financing fees from SSIC, offset by net derivative income and fair value adjustments and expenses relating to Holdings' issuance of senior notes. Other expense for 1999 principally included foreign exchange losses. The foreign exchange gains and losses are attributable to fluctuations in foreign currency exchange rates.
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998 PREMIUMS. Gross premiums written increased 9.2% to $1,141.8 million in 1999 from $1,045.9 million in 1998 as the Company took advantage of selected growth opportunities, while continuing to maintain a disciplined underwriting approach. Contributing to this premium increase was a 77.8% ($117.5 million) increase in
the Specialty Underwriting operation, mainly attributable to growth in A&H business where the Company's relatively recent entry to this line allowed it to selectively grow from a relatively small base. This increase was partially offset by a 10.5% ($8.3 million) decrease in the U.S. Insurance operation, a 3.8% ($12.3 million) decrease in the International operation and a 0.2% ($1.0 million) decrease in the U.S. Reinsurance operation. These decreases principally reflected the highly competitive market conditions. The Company continued to decline business that did not meet its objectives regarding underwriting profitability.
Ceded premiums increased to $46.3 million in 1999 from $29.3 million in 1998. Ceded premiums in 1998 reflected a $32.3 million return premium relating to a restructuring of the Company's catastrophe retrocessional protection. Absent the impact of this return premium, the Company would have had lower ceded premiums in 1999 as a result of the impact of the changes in the Company's catastrophe retrocessional protections, partially offset by increased utilization of contract specific cessions, including common account protections.
PREMIUM REVENUES. Net premiums earned increased by 0.3% to $1,071.5 million in 1999 from $1,068.0 million in 1988 consistent with the growth in premiums written. Contributing to this increase was an 87.8% ($124.1 million) increase in the Specialty Underwriting operation. This increase was partially offset by a 14.6% ($49.8 million) decrease in the International operation, a 12.2% ($63.2 million) decrease in the U.S. Reinsurance operation and an 11.8% ($7.7 million) decrease in the U.S. Insurance operation. All of these changes reflect period to period changes in net written premiums and business mix, together with normal variability in earnings patterns.
EXPENSES. Incurred losses and LAE decreased by 0.9% to $771.6 million in 1999 from $778.4 million in 1998. Incurred losses and LAE include catastrophe losses, which reflect the impact of both current period events and favorable and unfavorable development on prior period events and are net of reinsurance. Net catastrophe losses for 1999 were $45.9 million mainly arising from European storms ($19.5 million) and from the Rouge Steel Plant Fire ($13.0 million), together with lesser losses related to Hurricane Floyd, the Turkish Earthquakes and the Oklahoma Tornadoes compared to net catastrophe losses of $30.6 million for 1998. Net incurred losses and LAE for 1999 reflected ceded losses and LAE of $7.4 million, including $7.2 million ceded under the Stop Loss Agreement for 1999 and a $60.8 million reduction of the Company's previous cessions to the Stop Loss Agreement resulting from the resolution of a dispute with Gibraltar, compared to ceded losses and LAE of $357.4 million in 1998, including $153.9 million ceded under the Stop Loss Agreement.
Underwriting expenses increased by 4.0% to $337.0 million in 1999 from $324.1 million in 1998. Commission, brokerage, taxes and fees increased by $11.4 million attributable to increases in written premium and changes in the Company's business mix. Other underwriting expenses increased by $1.5 million, primarily attributable to $2.8 million of non-recurring reorganization expenses in 1999, principally relating to the Company's restructuring to a Bermuda parent holding company. Contributing to these underwriting expense increases were a 73.4% ($34.2 million) increase in the Specialty Underwriting operation and a 2.7% ($0.6 million) increase in the U.S. Insurance operation. These underwriting expense increases were partially offset by a 12.4% ($18.5 million) decrease in the U.S. Reinsurance operation and a 5.8% ($5.9 million) decrease in the International operation. The changes for each operation's expenses were principally the result of changes in commission expenses relating to changes in premium volume and business mix by class and type. The Company's expense ratio increased by 1.2 percentage points to 31.5% in 1999 from 30.3% in 1998.
INVESTMENTS. Net investment income increased 3.3% to $253.0 million in 1999 from $244.9 million in 1998, principally reflecting the effect of investing the $203.4 million of cash flow from operating activities in 1999. The following table shows a comparison of various investment yields as of December 31, 1999 and 1998, respectively, and for the periods then ended.
FINANCIAL CONDITION Cash and Invested Assets. Aggregate invested assets, including cash and short-term investments, were $5,493.0 million at December 31, 2000, $4,139.2 million at December 31, 1999 and $4,325.8 million at December 31, 1998. The increase in cash and invested assets from 1999 to 2000 resulted primarily from Holdings' issuance of senior notes totaling $450.0 million, the proceeds of which have been invested, $349.7 million of new cash from the acquisition of Mt. McKinley, $204.8 million of new invested assets from the acquisition of AFC Re, $176.0 million in credit facility borrowings, $158.0 million in net unrealized appreciation of the Company's fixed maturity investments and $90.0 million in cash flows from operations generated in 2000. These increases were partially offset by $26.6 million in net unrealized depreciation of the Company's equity investments and $16.4 million in share repurchases. The decrease in cash and invested assets from 1998 to 1999 resulted primarily from net realized and unrealized losses on investments of $318.9 million and $96.4 million in share repurchases, partially offset by $203.4 million in cash flows from operations generated during the period and $59.0 million in credit facility borrowings.
the number and identity of insureds with potential asbestos or environmental exposure. Management believes that these factors continue to render reserves for asbestos and environmental losses significantly less subject to traditional actuarial methods than are reserves on other types of losses. Given these uncertainties, management believes that no meaningful range for such ultimate losses can be established. The Company establishes reserves to the extent that, in the judgment of management, the facts and prevailing law reflect an exposure for the Company or its ceding company. Due to the uncertainties discussed above, the ultimate losses may vary materially from current loss reserves and could have a material adverse effect on the Company's future financial condition, results of operations and cash flows.
The gross and net IBNR reserves for asbestos and environmental exposures increased in 2000. The increase was mainly attributable to Holdings' acquisition of Mt. McKinley in September of 2000. The gross and net IBNR reserves for asbestos and environmental exposures decreased in 1999. The decrease resulted primarily from management's belief that there had been no material change in the ultimate asbestos and environmental loss exposures. As a result, the reported incurred losses in 1999 were offset with corresponding reductions in IBNR reserves. The gross and net IBNR reserves for asbestos and environmental exposures increased in 1998. During 1998, the Company reviewed all relevant data in considering the estimate of ultimate reserves for asbestos and environmental exposures. This included analysis of incurred and paid loss development, qualitative assessments of claims, claimants, judgements and emerging trend information. Overall, these analytical activities concluded that the underlying ultimate exposures were greater than previously estimated, principally with respect to continuing shifts in loss emergence and payment patterns, including the unexpectedly large impact of newly reported claims for insureds/defendants not previously expected to have significant exposures.
consideration of the factors noted above, are generally consistent with expectations given changes in the Company's mix of business over the past few years toward products with shorter loss development and payout periods and normal variability in the payout of loss reserves.
The Company employs various techniques, including licensed software modeling, to assess its accumulated exposure to property catastrophe losses and summarizes that exposure in terms of the probable maximum loss ("PML"). The Company defines PML as its anticipated maximum property loss, taking into account contract limits, caused by a single catastrophe affecting a broad contiguous geographic area, such as that caused by a hurricane or earthquake of such a magnitude that it is expected to occur once in every 100 years. Management estimates that the Company's greatest catastrophe exposure worldwide from any single event is to hurricanes and earthquakes in the coastal regions of the United States, where the Company estimates it has a PML exposure, before reinsurance, of approximately $203 million in each such region based on its current book of business. Similarly, management estimates that the largest current PML exposure, before reinsurance, outside the United States is approximately $102 million. There can be no assurance that the Company will not experience losses from one or more catastrophic events that exceed, perhaps by a substantial amount, its estimated PML.
twelve-month period beginning June 6, 2000 and the continuation or replacement of such coverage in June 2001 cannot be assured. All aspects of the retrocession program have been structured to permit the program to be accounted for as reinsurance under SFAS No. 113. See ITEM 1 - "Risk Management and Retrocession Arrangements" for further details.
DIVIDENDS During 2000, 1999 and 1998 the Company declared and paid shareholder dividends of $11.0 million, $11.6 million and $10.1 million, respectively.
HOLDINGS. Holdings is a holding company whose only material assets are the capital stock of Everest Re and Mt. McKinley. Holdings' cash flow consists primarily of dividends and other permissible payments from Everest Re and Mt. McKinley and borrowings under credit facilities. Holdings depends upon such payments for funds for general corporate purposes, including its debt and operating expense obligations.
On December 21, 1999, Holdings entered into a three-year senior revolving credit facility with a syndicate of lenders (the "Credit Facility"), which replaced its prior credit facility which had been extended in June 1999 and increased from $50.0 million to $75.0 million on November 9, 1999. First Union National Bank is the administrative agent for the Credit Facility. The Credit Facility will be used for liquidity and general corporate purposes and to refinance existing debt under Holding's prior credit facility, which has been terminated. The Credit Facility provides for the borrowing of up to $150.0 million with interest at a rate selected by Holdings equal to either (1) the Base Rate (as defined below) or (2) an adjusted London InterBank Offered Rate ("LIBOR") plus a margin. The Base Rate is the higher of the rate of interest established by First Union National Bank from time to time as its prime rate or the Federal Funds rate plus 0.5% per annum. On December 18, 2000, the Credit Facility was amended to extend the borrowing limit to $235.0 million for a period of 120 days, at which time the limit reverts to $150.0 million. The amount of margin and the fees payable for the Credit Facility depend upon Holding's senior unsecured debt rating. Group has guaranteed Holdings' obligations under the Credit Facility.
The Credit Facility requires the Company to maintain a debt to capital ratio of not greater than 0.35 to 1, Holdings to maintain a minimum interest coverage ratio of 2.5 to 1 and Everest Re to maintain its statutory surplus at $850.0 million plus 25% of future aggregate net income and 25% of future aggregate capital contributions. The Company was in compliance with these requirements at December 31, 2000.
EVEREST RE. The payment of dividends to Holdings by Everest Re is subject to limitations imposed by the Delaware Insurance Code. Based upon these restrictions, the maximum amount that will be available for payment of dividends to Holdings by Everest Re in 2001 without the prior approval of regulatory authorities is $165.1 million, of which $100.0 million was paid in January 2001. Everest Re's future cash flow available to Holdings may be influenced by a variety of factors, including changes in the property and casualty reinsurance market, Everest Re's financial results, insurance regulatory changes and changes in general economic conditions. The availability of such cash flow to Holdings could also be influenced by, among other things, changes in the limitations imposed by the Delaware Insurance Code on the payment of dividends by Everest Re. Holdings expects that, absent significant catastrophe losses, such restrictions should not affect Everest Re's ability to declare and pay dividends sufficient to support Holdings' general corporate needs.
Interest rate risk is the potential change in value of the fixed maturity portfolio due to change in market interest rates. Further, it includes prepayment risk in a declining interest rate environment on the $821.1 million of the $5.0 billion fixed maturity portfolio, which consists of mortgage-backed securities. Prepayment risk results from potential accelerated principal payments that shorten the average life and thus, the expected yield of the security.
The tables below display the potential impact of a parallel 20% increase and decrease in foreign exchange rates on the valuation of invested assets subject to foreign currency exposure in 10% increments as of December 31, 2000 and 1999. This analysis includes the after-tax impact of translation from transactional currency to functional currency as well as the after-tax impact of translation from functional currency to the U.S. dollar reporting currency. During 1999, the Company redenominated into the Euro all invested assets denominated in the eleven currencies committed to convert to the Euro. The impact of the Euro conversion was not material to the Company's business, operations or financial condition. All amounts are in U.S. dollars and are presented in millions.
Equity risk is the potential change in market value of the common stock and preferred stock portfolios arising from changing equity prices. The Company invests in predominately high quality preferred and common stocks that are traded on the major exchanges in the United States. The primary objective in managing the $36.5 million equity portfolio is to provide long-term capital growth through market appreciation and income.
SAFE HARBOR DISCLOSURE In connection with the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995 (the "Act"), the Company sets forth below cautionary statements identifying important factors that, among others, in some cases have affected and that could cause its actual results to differ materially from those which might be projected, forecasted, or estimated in its forward-looking statements, as defined in the Act, made by or on behalf of the Company in press releases, written statements or documents filed with the U.S. Securities and Exchange Commission, or in its communications and discussions with investors and analysts in the normal course of business through meetings, phone calls and conference calls. These cautionary statements supplement other
Such forward-looking statements may include, but are not limited to, projections of premium revenue, investment income, other revenue, losses, expenses, earnings (including earnings per share), cash flows, plans for future operations, common stockholders' equity (including book value per share), investments, financing needs, capital plans, dividends, plans relating to products or services of the Company, and estimates concerning the effects of litigation or other disputes, as well as assumptions for any of the foregoing and are generally expressed with words such as "believes," "estimates," "expects," "anticipates," "plans," "projects," "forecasts," "goals," "could have," "may have" and similar expressions. Undue reliance on any forward-looking statements should be avoided. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
2) Decrease in the demand for reinsurance and insurance products of the type offered by the Company and its ceding insurer customers;
4) Occurrence of catastrophic events or other insured or reinsured events with a frequency or severity exceeding the Company's estimates;
15) The impact of current and future regulatory environments, generally, and on the ability of the Company's subsidiaries to enter and exit reinsurance or insurance markets;
16) Adverse changes in tax treatment of the Company's business, including changes in tax treatment by the U.S., Bermuda or Barbados or other regulatory or political organizations with jurisdiction or potential jurisdiction over the Company or its affiliates;
17) Changes in the regulatory environment or regulatory challenges that may restrict the ability of Bermuda Re to conduct business; and
18) A contention by the U.S. Internal Revenue Service that Group or any of its Bermuda-based subsidiaries is engaged in the conduct of a trade or business within the United States.