Everest Re's corporate offices are located in Liberty Corner, New Jersey, and occupy approximately 112,000 square feet of office space under a sublease with The Prudential Insurance Company of America that expires on November 29, 2003. Everest Re's other ten office locations occupy a total of approximately 62,600 square feet, all of which are leased. Management believes that the above described office space is adequate for its current and anticipated needs.
- ----------- (1) After-tax operating income (loss), before after-tax net realized capital gains or losses, was $144.6 million (or $2.86 per basic share and $2.85 per diluted share), $108.3 million (or $2.14 per basic and diluted share), ($21.2) million (or ($0.42) per basic and diluted share), $17.5 million (or $0.35 per basic and diluted share) and $75.2 million (or $1.50 per basic and diluted share) for the years ended December 31, 1997, 1996, 1995, 1994 and 1993, respectively. Supplemental after-tax operating income, before net realized gains and excluding IPO-related charges was, $78.4 million (or $1.56 per basic and diluted share) for the year ended December 31, 1995. (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 before reinsurance of at least $5.0 million and has an event date of January 1, 1988 or later. (3) Other catastrophe losses include adverse (favorable) development on loss reserves for other catastrophes occurring on or after January 1, 1988. (4) Some amounts may not reconcile due to rounding. (5) Based on weighted average basic shares outstanding of 50.5 million, 50.6 million, 50.2 million, 50.0 million and 50.0 million for 1997, 1996, 1995, 1994 and 1993, respectively. (6) Based on weighted average diluted shares outstanding of 50.8 million, 50.7 million, 50.2 million, 50.0 million and 50.0 million for 1997, 1996, 1995, 1994 and 1993, respectively. (7) GAAP losses and LAE incurred as a percentage of GAAP net premiums earned. (8) GAAP underwriting expenses as a percentage of GAAP net premiums earned. Including restructuring and early retirement costs, incurred in the fourth quarter of 1994, the Company's GAAP underwriting expense ratio in 1994 was 32.1%. (9) Statutory results are on a Everest Re legal entity basis; consequently, investments in subsidiary operations are accounted for on an equity basis. Effective January 1, 1997, the reinsurance operations of Everest Ltd. were transferred to Everest Re on a portfolio basis. Excluding the impact of the portfolio transaction, the 1997 ratio of net written premiums to surplus, the 1997 loss and LAE ratio, the 1997 underwriting expense ratio and the 1997 combined ratio were 1.1x, 70.5%, 32.2% and 102.7%, respectively. (10) Statutory net premiums written as a percentage of period-end surplus. (11) Statutory losses and LAE incurred as a percentage of SAP net premiums earned. (12) Statutory underwriting expenses as a percentage of SAP net premiums written. (13) Excluding net unrealized appreciation (depreciation) of investments, stockholder's equity was $1,147.1 million, $1,008.3 million, $899.9 million, $799.1 million and $794.6 million as of December 31, 1997, 1996, 1995, 1994 and 1993, respectively. (14) Based on 50.5 million shares outstanding for December 31, 1997 and 1996, 50.8 million shares outstanding for December 31, 1995 and 50.0 million shares outstanding for December 31, 1994 and 1993, respectively.
PREMIUMS. Gross premiums written increased 3.0% to $1,075.0 million in 1997 from $1,044.0 million in 1996, as the Company maintained a cautious approach to the increasingly competitive market conditions. Factors contributing to this increase included a 5.9% ($18.2 million) increase in U.S. broker treaty premiums, largely attributable to product line expansion, a 6.6% ($9.8 million) increase in U.S. direct treaty reinsurance and insurance due to the growth in primary insurance written through Everest National, a 2.6% ($8.8 million) increase in international premiums, and a 0.3% ($0.5 million) increase in marine, aviation, and surety premiums. These increases were partially offset by a 7.2% ($6.4 million) decrease in facultative premiums.
REVENUES. Net premiums earned increased by 7.8% to $1,049.8 million in 1997 from $973.6 million in 1996, with the increase attributable to normal earnings patterns coupled with a decrease in the rate of written premium growth.
EXPENSES. Incurred losses and loss adjustment expenses ("LAE") increased by 6.9% to $765.4 million in 1997 from $716.0 million in 1996. The Company's loss and LAE ratio decreased by 0.6 percentage points to 72.9% in 1997 from 73.5% in 1996. This improvement was attributable principally to changes in the Company's business mix consistent with the Company's underwriting strategy together with modest and comparable catastrophe losses in both years. Net incurred losses and LAE for 1997 reflected ceded losses and LAE of $109.6 million, including $45.0 million ceded under the Stop Loss Agreement, compared to ceded losses and LAE of $206.0 million in 1996, including $116.5 million ceded under the Stop Loss Agreement.
INCOME TAXES. The Company had income tax expense of $52.3 million in 1997 compared to $31.8 million in 1996, with the difference substantially attributable to the improvement in pre-tax income to $207.3 million in 1997 from $143.8 million in 1996.
NET INCOME. Net income was $155.0 million in 1997 compared to $112.0 million in 1996. This improvement mainly reflects higher premiums earned, higher investment income, higher capital gains and a lower combined ratio, offset by higher income taxes.
The following discussion and analysis is focused on a comparison of 1996 results of operations to 1995 results of operations, as adjusted to exclude the IPO-related charges.
PREMIUMS. Gross premiums written increased 10.0% to $1,044.0 million in 1996 from $949.5 million in 1995. Factors contributing to this increase included a 21.8% ($55.0 million) increase in U.S. broker treaty premiums, principally from increased writings in specialty casualty, workers' compensation and substandard automobile lines, a 21.6% ($26.4 million) increase in U.S. direct treaty reinsurance and insurance due to the growth in primary insurance written through Everest National and a 28.9% ($19.9 million) increase in U.S. facultative premiums, reflecting growth in casualty and specialty casualty lines, as the unit completed its first full year after its major restructuring and took advantage of significant dislocation in the market. These increases were partially offset by a 3.5% ($5.8 million) decrease in marine, aviation and surety premiums and a 0.3% ($0.9 million) decrease in international premiums.
Ceded premiums, as adjusted, decreased by 48.7% to $13.5 million in 1996 from $26.3 million in 1995, principally as a result of a return premium under the Company's catastrophe retrocessional protection, partially offset by increases in common account retrocessions by ceding sources.
Net investment income increased 15.6% to $191.9 million in 1996 from $166.0 million in 1995, reflecting the effect of investing the $414.0 million of cash flow from operating activities in 1996. The Company's pre-tax yield on average cash and invested assets decreased to 5.6% in 1996 from 5.7% in 1995 reflecting the dilutive effect of new money investment rates.
EXPENSES. Incurred losses and LAE increased by 6.1% to $716.0 million in 1996 from $674.7 million in 1995. Catastrophe losses on events with ultimate gross losses estimated at $5.0 million or greater ("catastrophe losses") in 1996 were $7.1 million, which included $10.0 million estimated for Hurricane Fran and $2.9 million of net favorable development on prior year occurrences, compared with $31.4 million in 1995, which included $30.9 million estimated for the Kobe, Japan earthquake and Hurricanes Marilyn and Opal and $0.5 million of net adverse development on prior year occurrences. The Company's loss and LAE ratio, as adjusted, decreased by 2.0 percentage points to 73.5% in 1996 from 75.5% in 1995. This improvement was attributable principally to the lower catastrophe losses and changes in
the Company's business mix in line with the new underwriting strategy. Net incurred losses and LAE for 1996 reflected ceded losses and LAE of $206.0 million, including $116.5 million ceded under the Stop Loss Agreement, compared to ceded losses and LAE of $119.1 million in 1995, including $23.7 million ceded under the Stop Loss Agreement.
The Company's combined ratio, as adjusted, decreased by 2.4 points to 105.3% in 1996 from 107.7% in 1995, reflecting the lower loss and expense ratios and increased premiums.
FINANCIAL CONDITION CASH AND INVESTED ASSETS. Aggregate invested assets, including cash and short-term investments, were $4,163.3 million at December 31, 1997, $3,624.6 million at December 31, 1996 and $3,238.3 million at December 31, 1995. The change in invested assets resulted primarily from cash flows from operations generated during the period together with net realized and unrealized gains (losses) on investments.
LOSS AND LAE RESERVES GENERAL. Gross loss and LAE reserves totaled $3,437.8 million at December 31, 1997, $3,246.9 million at December 31, 1996 and $2,969.3 million at December 31, 1995. These increases were consistent with the continued growth in the Company's book of business.
Management believes that these issues are not likely to be resolved in the near future. Everest Re establishes reserves to the extent that, in the judgment of management, the facts and prevailing law reflect an exposure for Everest Re or its ceding company. Due to the uncertainties discussed above, the ultimate losses may vary materially from current loss reserves and, if coverage under the Stop Loss Agreement were exhausted, could have a material adverse effect on the Company's future financial condition, results of operations and cash flows.
STOP LOSS AGREEMENT AND PRUDENTIAL GUARANTEES. To the extent reserves as of June 30, 1995 (December 31, 1994 for catastrophe losses) for losses, allocated LAE and uncollectible reinsurance experience adverse development ("Adverse Development"), Everest Re is entitled, at the time reserves are increased, to payments under the Stop Loss Agreement, subject to the limit and other terms thereof. Gibraltar's obligations to make payments to Everest Re under the Stop Loss Agreement are guaranteed by The Prudential. Management expects that the general effect of the Stop Loss Agreement will be to protect the Company's consolidated earnings against up to $375.0 million of the first $400.0 million of Adverse Development. There can be no assurance, however, that the Company's net liability for such Adverse Development will be limited to $25.0 million. With respect to liquidity, the incurred loss reimbursement features of these agreements provide the Company with cash on or prior to the time it is required to make payment on account of such Adverse Development. Through December 31, 1997, cessions under the Stop Loss Agreement have aggregated $185.2 million with remaining limits available of $189.8 million as respects the next $210.9 million of Adverse Development.
increased to $1,086.0 million from $983.6 million as of December 31, 1995 principally reflecting an increase of $106.0 million in retained earnings. Dividends of $8.1 million, $6.1 million and $7.0 million were declared and paid by Holdings in 1997, 1996 and 1995, respectively.
HOLDINGS. Holdings is a holding company whose only material asset is the capital stock of Everest Re. Holdings' cash flow will consist primarily of dividends and other permissible payments from Everest Re. Holdings depends upon such payments for funds for general corporate purposes and for the payment of any dividends on its common stock.
On June 16, 1997, the Company finalized a 364 day revolving line of credit with First Union National Bank. This credit facility, which will be used for liquidity and general corporate purposes, provides for the borrowing of up to $50 million with interest at a rate selected by the Company equal to either (i) the Base Rate (as defined below), (ii) an adjusted London InterBank Offered Rate ("LIBOR") plus a margin (the "Margin") or (iii) a Money Market Rate, which is a daily uncommitted advised rate. The Base Rate is the higher of the rate of interest established by the bank from time to time as its reference rate in making loans or the Federal Funds rate plus 0.5% per annum. The amount of the Margin and the commitment fee payable to the bank for the credit facility depend upon the insurance strength or claims paying ability ratings of Everest Re. The credit facility agreement requires that Everest Re maintain statutory surplus of not less than $575 million and that the Company not allow its ratio of certain debt to capital to be greater than a specified amount.
The payment of dividends to Holdings by Everest Re is subject to limitations imposed by the Delaware Code. Based upon these restrictions, the maximum amount that will be available for payment of dividends to Holdings by Everest Re in 1998 without the prior approval of regulatory authorities is $177.6 million. Everest Re's future cash flow available to Holdings may be influenced by a variety of factors, including cyclical changes in the property and casualty reinsurance market, Everest Re's financial results, insurance regulatory changes and changes in general economic conditions.
Within the Company's own processing environment, a review has been made of all the computer hardware and software the Company uses and whether such hardware and software is year 2000 compliant. With respect to computer hardware, the Company is upgrading or replacing hardware as necessary. Nearly all of the critical computerized business systems used by the Company are based on software products licensed from third parties that specialize in software development. For licensed software which is not yet compliant, the Company has been in contact with the vendors of such software to determine whether such products will be made compliant. Virtually all vendors contacted by the Company have indicated that their products will be made compliant on a timely basis. The Company believes that each of those vendors has a critical business need to make its products compliant and will therefore exercise its best efforts to make its products compliant on a timely basis. With respect to those few products which will not be made year 2000 compliant, the Company is planning to license replacement products which are compliant. The Company has, and expects to use beyond the year 2000, a number of application programs that it has developed internally; the Company has assessed which of those programs are critical to its business and its implemen- tation plan anticipates the modification of those programs. While the Company believes that its computer hardware, software licensed from third parties and internally developed software critical to its business will be made compliant on a timely basis, there can be no assurance that every such product will be compliant on a timely basis and there can be no assurance that there will
Because the Company's business relies upon data received from and given to many business partners (E.G., ceding companies) and service providers (E.G., banks), the Company's business could be disrupted if those entities are not year 2000 compliant. The Company has actively surveyed its significant business partners and service providers to determine their compliance status. With respect to entities with which the Company has direct electronic interfaces, meetings have been held to address the compliance issue. The information received to date from business partners and service providers has not identified any significant barriers to year 2000 compliance, and the Company believes that these entities will be sufficiently compliant that the year 2000 issue will not cause material disruption in the Company's business. However, there can be no assurance that there will not be material disruptions to the Company's business or an increase in the cost of the Company's doing business.
It is possible that individuals or entities which experience business disruption, increased costs or other problems associated with the year 2000 issue may assert claims against their own insurance carrier to recover such costs or against other entities for damages, which entities may in turn assert that such potential damages are covered by insurance. It is not yet possible to determine whether any such claims will be made against insurers, whether such claims will be held to have merit or whether such claims might be made against insurance or reinsurance contracts in which the Company participates.
5) Adverse development on claim and claim expense liabilities related to business written in prior years, including, but not limited to, evolving case law and its effect on environmental and other latent injury claims, changing government regulations, newly identified toxins, newly reported claims, new theories of liability, or new insurance and reinsurance contract interpretations, to the extent that such adverse development exceeds the limits available under or is not covered by the Stop Loss Agreement;
6) Greater than expected loss ratios on reinsurance or insurance written by the Company;
10) Changes in the reinsurance/retrocessional market impacting the Company's ability to cede risks above its desired level of retention.
21) Changes in the commission or brokerage levels that competitors are willing to offer to ceding companies, brokers or agents.