UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-K

 

 

Commission file number 001-31909

 

 

 

 

ASPEN INSURANCE HOLDINGS LIMITED

(Exact name of registrant as specified in its charter)

 

 

 

Registrant’s telephone number, including area code:

(441) 295-8201

 

Securities registered pursuant to Section 12(b) of the Exchange Act:

 

 

Securities registered pursuant to Section 12(g) of the Exchange Act: None.

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes þ     No o

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.  Yes o     No þ

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes þ     No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in the definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  þ

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ

 

The aggregate market value of the ordinary shares held by non-affiliates of the registrant, as of June 30, 2010, was approximately $1.9 billion based on the closing price of the ordinary shares on the New York Stock Exchange on that date, assuming solely for the purpose of this calculation that all directors and employees of the registrant were “affiliates.” The determination of affiliate status is not necessarily a conclusive determination for other purposes and such status may have changed since June 30, 2010.

 

As of February 1, 2011, 70,579,959 ordinary shares were outstanding.

 

 

ASPEN INSURANCE HOLDINGS LIMITED
INDEX TO FORM 10-K

TABLE OF CONTENTS

 

Aspen Holdings and Subsidiaries

 

Unless the context otherwise requires, references in this Annual Report to the “Company,” “we,” “us” or “our” refer to Aspen Insurance Holdings Limited (“Aspen Holdings”) or Aspen Holdings and its wholly-owned subsidiaries, Aspen Insurance UK Limited (“Aspen U.K.”), Aspen (UK) Holdings Limited (“Aspen U.K. Holdings”), Aspen Insurance UK Services Limited (“Aspen UK Services”), AIUK Trustees Limited (“AIUK Trustees”), Aspen Insurance Limited (“Aspen Bermuda”), Aspen Underwriting Limited (“AUL”, corporate member of Lloyd’s Syndicate 4711, “Syndicate 4711”), Aspen Managing Agency Limited (“AMAL”), Aspen U.S. Holdings, Inc. (“Aspen U.S. Holdings”), Aspen Specialty Insurance Company (“Aspen Specialty”), Aspen Specialty Insurance Management Inc. (“Aspen Management”), Aspen Re America, Inc. (“Aspen Re America”), Aspen Insurance U.S. Services Inc. (“Aspen U.S. Services”), Aspen Re America California, LLC (“ARA — CA”), Aspen Specialty Insurance Solutions LLC (“ASIS”), Aspen Re America Risk Solutions LLC (“Aspen Solutions”), Acorn Limited (“Acorn”), APJ Continuation Ltd. (“APJ”), APJ Asset Protection Jersey Limited (“APJ Jersey”), APJ Services Limited (“APJ Services”), Aspen Risk Management Limited (“ARML”), Aspen American Insurance Company (“AAIC”) and any other direct or indirect subsidiary collectively, as the context requires. Aspen U.K., Aspen Bermuda, Aspen Specialty, AAIC, and AUL, as corporate member of Syndicate 4711, are each referred to herein as an “Insurance Subsidiary,” and collectively referred to as the “Insurance Subsidiaries.” References in this report to “U.S. Dollars,” “dollars,” “$” or “¢” are to the lawful currency of the United States of America, references to “British Pounds,” “pounds” or ‘‘£” are to the lawful currency of the United Kingdom, and references to “euros” or “€” are to the lawful currency adopted by certain member states of the European Union (the “E.U.”), unless the context otherwise requires.

 

Forward-Looking Statements

 

This Form 10-K contains, and the Company may from time to time make other verbal or written, forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) that involve risks and uncertainties, including statements regarding our capital needs, business strategy, expectations and intentions. Statements that use the terms “believe,” “do not believe,” “anticipate,” “expect,” “plan,” “estimate,” “project,” “seek,” “will,” “may,” “aim,” “continue,” “intend,” “guidance” and similar expressions are intended to identify forward-looking statements. These statements reflect our current views with respect to future events and because our business is subject to numerous risks, uncertainties and other factors, our actual results could differ materially from those anticipated in the forward-looking statements, including those set forth below under Item 1, “Business,” Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this report and the differences could be significant. The risks, uncertainties and other factors set forth below and under Item 1A, “Risk Factors” and other cautionary statements made in this report should be read and understood as being applicable to all related forward-looking statements wherever they appear in this report.

 

All forward-looking statements address matters that involve risks and uncertainties. Accordingly, there are or will be important factors that could cause actual results to differ materially from those indicated in these statements. We believe that these factors include, but are not limited to, those set forth under “Risk Factors” in Item 1A, and the following:

 

 

 

In addition, any estimates relating to loss events involve the exercise of considerable judgment and reflect a combination of ground-up evaluations, information available to date from brokers and cedants, market intelligence, initial tentative loss reports and other sources. Due to the complexity of factors contributing to losses and the preliminary nature of the information used to prepare estimates, there can be no assurance that our ultimate losses will remain within stated amounts.

The foregoing review of important factors should not be construed as exhaustive and should be read in conjunction with the other cautionary statements that are included in this report. We undertake no obligation to publicly update or review any forward-looking statement, whether as a result of new information, future developments or otherwise or disclose any difference between our actual results and those reflected in such statements.

 

If one or more of these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may vary materially from what we projected. Any forward-looking statements you read in this report reflect our current views with respect to future events and are subject to these and other risks, uncertainties and assumptions relating to our operations, results of operations, growth strategy and liquidity. All subsequent written and oral forward-looking statements attributable to us or individuals acting on our behalf are expressly qualified in their entirety by the points made above. You should specifically consider the factors identified in this report which could cause actual results to differ before making an investment decision.

PART I

 

 

General

 

We are a Bermuda holding company, incorporated on May 23, 2002, and conduct insurance and reinsurance business through our wholly-owned subsidiaries in three major jurisdictions: Aspen U.K. and AUL, corporate member of Syndicate 4711 at Lloyd’s of London (United Kingdom), Aspen Bermuda (Bermuda), Aspen Specialty and AAIC (United States). Aspen U.K. also has branches in Paris (France), Zurich (Switzerland), Dublin (Ireland), Cologne (Germany), Singapore, Australia and Canada. We operate in the global markets for property and casualty insurance and reinsurance.

 

For the year ended December 31, 2010, we wrote $2,076.8 million in gross premiums and at December 31, 2010, we had total capital employed, including long-term debt, of $3,740.7 million.

 

Our corporate structure as at February 15, 2011 was as follows:

 

 

We have historically managed our business in four segments: property reinsurance, casualty reinsurance, international insurance and U.S. insurance. On January 14, 2010, we announced a new organizational structure according to the way in which we manage our insurance and reinsurance businesses as two underwriting segments, Aspen Insurance and Aspen Reinsurance (“Aspen Re”), to enhance and better serve our global customer base.

 

Our insurance segment is comprised primarily of the former international insurance and U.S. insurance segments, with Rupert Villers and John Cavoores acting as Co-CEOs of Aspen Insurance. Our reinsurance segment is comprised of property reinsurance (catastrophe and other), casualty reinsurance and specialty reinsurance (a portion of the latter previously included in international

insurance). The reinsurance segment is led by Brian Boornazian, CEO of Aspen Reinsurance and James Few, President of Aspen Reinsurance.

 

Our insurance segment consists of property insurance, casualty insurance, marine, energy and transportation insurance and financial and professional lines insurance. Property insurance, casualty insurance and financial and professional lines business is written primarily in the London Market through Aspen U.K. and Aspen Specialty. Our marine, energy and transportation insurance business is written mainly through Aspen U.K. and AUL, which is the sole corporate member of Syndicate 4711 at Lloyd’s of London (“Lloyd’s”), managed by AMAL. We also write some casualty business through AUL. In the U.S., we write property and casualty insurance, predominantly through the U.S. wholesale surplus lines broker network. In 2010, we received regulatory approval to write U.S. insurance business on an admitted basis through our acquisition of AAIC, which will complement our existing U.S. insurance business written on an excess and surplus lines basis. In 2011, we intend to write property, casualty, marine and financial and professional lines through AAIC in the U.S.

 

Our reinsurance segment consists of property catastrophe reinsurance, other property reinsurance (risk excess, pro rata, risk solutions and facultative), casualty reinsurance (U.S. treaty, international treaty, and global facultative) and specialty reinsurance (credit and surety, structured, agriculture and specialty).

 

Property reinsurance business is assumed by Aspen Bermuda and Aspen U.K. and written by teams located in Bermuda, London, Paris, Singapore, Cologne, the U.S. and Zurich. The property reinsurance business written in the U.S is written exclusively by Aspen Re America and ARA-CA as reinsurance intermediaries with offices in Connecticut, Illinois, Miami, New York, Georgia and California.

 

Casualty reinsurance is mainly assumed by Aspen U.K. and written by teams located in London, Zurich and the U.S. A small number of casualty reinsurance contracts is written by Aspen Bermuda. The business written in the U.S. is produced by Aspen Re America.

 

Specialty reinsurance is assumed by Aspen Bermuda and Aspen U.K. and written by teams located in London, Zurich and Bermuda. We started writing credit and surety reinsurance out of our Zurich branch for business incepting on or after January 1, 2009. We also started writing agriculture reinsurance out of our Zurich office in 2010.

 

Our Business Strategy

 

We are both an insurer and reinsurer of specialty and similar lines and our underwriting operations are organized and presented under two distinct brands — Aspen Re and Aspen Insurance.

 

We aim to grow the Company over time, but with the caution that growth opportunities are currently severely limited by weak market conditions. Growth may be by recruitment of underwriters with complementary skills and experience or by acquisition. Our key evaluation criteria for any acquisition proposal will include strategic fit, financial attractiveness, manageable execution risks and consistency with our risk appetite.

 

Key strategies for Aspen Re.  Aspen Re’s strategy is to identify clients with sound underwriting which are transparent in respect of their risks and exposures and which have a commitment to viewing trading relationships over the longer-term. We offer reinsurance globally for property risks, both fire, natural peril and otherwise, casualty risks including professional liability, management liability, workers compensation and general casualty in addition to marine, aviation, credit and other. From time to time, the underwriting cycle allows us to deploy additional capacity on a more opportunistic basis and a key part of our strategy is to maintain the ability to identify special situations and take advantage of them however and whenever they arise.

 

Our largest market is the United States which at this time is not a market that offers significant growth opportunities. The markets in Latin America and Asia-Pacific have historically been less significant for us, but we believe they offer significant growth potential, especially in the medium and longer-term. We also believe that we have opportunity to increase our ultimate market share in Europe

and we expect to see some growth in this region, conditional upon the currently challenging market environment.

 

We aim to maintain sufficient capital strength and access to capital markets to ensure that if market conditions harden significantly following a major loss (or for any other reason), we are able to rapidly expand capacity for existing reinsurance clients and provide opportunistic capacity to new clients.

 

Key strategies for Aspen Insurance.  Aspen Insurance from its London-market base is a significant global market for energy, marine, aviation, financial, professional, specie and political risks and for excess casualty. This requires specialized expertise, innovative underwriting and the financial strength to offer meaningful capacity in these lines.

 

Aspen Insurance will not generally seek to offer retail personal lines, including homeowners, private auto and health insurance.

 

A further part of Aspen Insurance’s strategy is to create a profitable specialty insurer in the U.S. domestic market. Our approach is highly focused and in the past 18 months, we have hired teams with specialized focus on underwriting opportunities in inland marine and ocean risks, professional liability, management liability and directors’ and officers’ insurance (“D&O”), which are underwritten in addition to our established lines of property, general casualty and environmental liability on an excess and surplus lines basis. We have also invested significantly in terms of IT infrastructure, actuarial resource, claims staff, legal, human resource and other functions in order to provide the right infrastructural base on which to build our U.S. operations.

 

In addition to our U.S. and London-market insurance operations, we offer focused capacity from our Bermuda and Dublin operations for certain global casualty risks and management liability and from our Zurich branch we offer certain specialized risks within the Swiss market.

 

Targets and constraints.  We aim to generate returns on average common equity (“ROE”) which exceed the prevailing three-year risk free rate (yield from U.S. Treasury with 3-year duration) by an average of at least 8% measured on a time-weighted basis over the preceding 10 years, or from inception of the Company if a shorter period, and with a target of 10.5% measured on the same basis.

 

We aim to meet our return objective while limiting the risks we take so as to restrict the chance of an ROE which is 5 percentage points worse than plan, to a probability of less than 25% (i.e., 1 in 4 years).

 

We intend to maintain a level of qualifying equity capital at least equal to the highest of:

 

 

For a discussion of risks and uncertainties impacting our ability to achieve our targets and the related constraints, see Part I, Item 1A, “Risk Factors,” and “Forward-Looking Statements.”

 

Capital Management.  We also set targets for financial leverage which we believe provide an appropriate balance between improving returns to our ordinary shareholders while maintaining the levels of financial strength expected by our customers and by the rating agencies. For this purpose we define financial leverage as the ratio of long-term debt and ‘hybrid’ capital to total capital. The term ‘hybrid’ refers to securities, such as our preference shares, which have characteristics of both debt and equity.

Strategic developments in 2010.  Aspen Re progressed its strategy of creating new platforms and marketing new products by:

 

 

We also progressed several efforts in respect of Aspen Insurance’s strategy in 2010 including:

 

 

Business Segments

 

We are organized into two business segments: reinsurance and insurance. We have considered similarities in economic characteristics, products, customers, distribution, the regulatory environment of our operating segments and quantitative thresholds to determine our reportable segments.

 

We have provided additional disclosures for corporate and other (non-underwriting) income and expenses. Corporate and other income includes net investment income, net realized and unrealized investment gains or losses, corporate expense, interest expense, net realized and unrealized foreign exchange gains or losses and income taxes, which are not allocated to the underwriting segments.

 

The gross written premiums are set forth below by business segment for the twelve months ended December 31, 2010, 2009 and 2008:

 

 

For a review of our results by segment, see Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 5 of our consolidated financial statements.

 

Reinsurance

 

Our reinsurance segment consists of property catastrophe reinsurance, other property reinsurance (risk excess, pro rata, risk solutions and facultative), casualty reinsurance (U.S. treaty, international treaty, and global facultative) and specialty reinsurance (credit and surety, structured, agriculture and specialty).

The reinsurance business we write can be analyzed by geographic region, reflecting the location of the reinsured risks, as follows for the twelve months ended December 31, 2010, 2009 and 2008:

 

 

 

 

Our gross written premiums by our principal lines of business within our reinsurance segment for the twelve months ended December 31, 2010, 2009 and 2008 are as follows:

 

 

Property Catastrophe Reinsurance:  Property catastrophe reinsurance is generally written on a treaty excess of loss basis where we provide protection to an insurer for an agreed portion of the total losses from a single event in excess of a specified loss amount. In the event of a loss, most contracts provide for coverage of a second occurrence following the payment of a premium to reinstate the coverage under the contract, which is referred to as a reinstatement premium. The coverage provided under excess of loss reinsurance contracts may be on a worldwide basis or limited in scope to selected regions or geographical areas.

 

Other Property Reinsurance:  Other property reinsurance is written on excess of loss, pro rata and facultative basis (U.S. and international) and includes our risk solutions business. Treaty excess of loss reinsurance provides coverage to a reinsured where it experiences a loss in excess of its retention level on a single “risk” basis. A “risk” in this context might mean the insurance coverage on one building or a

group of buildings for fire or explosion or the insurance coverage under a single policy which the reinsured treats as a single risk. This line of business is generally less exposed to accumulations of exposures and losses but can still be impacted by natural catastrophes, such as earthquakes and hurricanes.

 

Our treaty pro rata reinsurance product provides proportional coverage to the reinsured. We share original losses in the same proportion as our share of premium and policy amounts within contractual terms. Pro rata contracts typically involve close client relationships including regular audits of the cedants’ data and is written for primary insurers in the U.S. as well as worldwide. Our risk solutions business writes property insurance risks for a select group of U.S. program managers.

 

Casualty Reinsurance:  Casualty reinsurance is written on an excess of loss, pro rata and facultative basis and consists of U.S. treaty, international treaty, and casualty facultative. Our U.S. treaty business comprises exposures to workers’ compensation (including catastrophe), medical malpractice, general liability, auto liability, professional liability and excess liability including umbrella liability. Our international treaty business reinsures exposures mainly with respect to general liability, auto liability, professional liability, workers’ compensation and excess liability. We also write casualty facultative reinsurance, both U.S. and international. Our excess of loss positions come most commonly from layered reinsurance structures with underlying ceding company retentions.

 

Specialty Reinsurance:  Specialty reinsurance is written on an excess of loss and pro rata basis and consists of credit and surety reinsurance, structured risks, agriculture reinsurance and specialty lines. Our credit and surety reinsurance business consists of trade credit reinsurance, international surety reinsurance (mainly European, Japanese and Latin American risks and excluding the U.S.) and a political risks reinsurance portfolio. In February 2010, we started writing agricultural reinsurance out of our Zurich office. This business consists of European and Latin American agriculture reinsurance primarily written on a treaty basis covering crop and multi-peril business. Our specialty line of business is composed principally of reinsurance treaties covering interests similar to those underwritten in marine, energy, liability and aviation insurance, as well as contingency, terrorism, nuclear, personal accident and crop reinsurance. We also write satellite insurance and reinsurance.

 

A very high percentage of the property reinsurance contracts that we write excludes coverage for losses arising from the peril of terrorism. Within the U.S., our reinsurance contracts generally exclude or limit our liability to acts that are certified as “acts of terrorism” by the U.S. Treasury Department under the Terrorism Risk Insurance Act (“TRIA”), the Terrorism Risk Insurance Extension Act of 2005 (“TRIEA”) and now the Terrorism Risk Insurance Program Reauthorization Act of 2007 (“TRIPRA”), which is currently set to expire on December 31, 2014. With respect to personal lines risks, losses arising from the peril of terrorism that do not involve nuclear, biological or chemical attack are usually covered by our reinsurance contracts. Such losses relating to commercial lines risks are generally covered on a limited basis; for example, where the covered risks fall below a stated insured value or into classes or categories we deem less likely to be targets of terrorism than others. We have written a limited number of reinsurance contracts in this segment, both on a pro rata and risk excess basis, specifically covering the peril of terrorism. These contracts typically exclude coverage protecting against nuclear, biological or chemical attack.

Insurance

 

Insurance Segment.  Our insurance segment consists of property insurance, casualty insurance, marine, energy and transportation insurance and financial and professional lines insurance.

 

The insurance business we write can be analyzed by geographic region, reflecting the location of the insured risk, as follows for the twelve months ended December 31, 2010, 2009 and 2008:

 

 

 

 

Our gross written premiums by our principal lines of business within our insurance segment for the twelve months ended December 31, 2010, 2009 and 2008 are as follows:

 

 

Property Insurance:  Our property insurance line comprises U.K. commercial property and construction and U.S. commercial property (excess and surplus lines basis), written on a primary, excess, quota share and facultative basis. In 2010, we established ARML, which will primarily distribute U.K. regional commercial property and liability business.

 

 

 

Casualty Insurance:  Our casualty insurance line comprises U.K. commercial liability, global excess casualty and U.S. casualty insurance, written on a primary, quota share and facultative basis. In 2010, we significantly reduced the amount of contractor business written in the U.S.

 

 

Marine, Energy and Transportation Insurance:  Our marine, energy and transportation insurance line comprises marine, energy and construction (“M.E.C.”) liability, energy physical damage, marine hull, specie, and aviation, written on a primary, quota share and facultative basis. In 2010, we hired a team in the U.S. which writes U.S. inland marine and ocean risks.

 

 

Financial and Professional Lines Insurance:  Our financial and professional lines comprise financial institutions, professional liability (including management & technology liability) and financial and political risks, written on a primary, quota share and facultative basis.

 

 

 

Underwriting and Reinsurance

 

Our objective is to create a diversified portfolio with balanced non-correlated risks through a portfolio of insurance and reinsurance risks, diversified across lines of business, products, geographic areas of coverage, cedants and sources. The acceptance of appropriately priced risk is the core of our business. Underwriting requires judgment, based on important assumptions about matters that are inherently unpredictable and beyond our control, and for which historical experience and probability analysis may not provide sufficient guidance. We view underwriting quality and risk management as critical to our success.

 

Underwriting.  In 2010, our underwriting activities were managed in two product areas: reinsurance and insurance. Under our organizational structure, our insurance segment is led by Rupert Villers and John Cavoores as Co-CEO’s of Aspen Insurance. Our reinsurance segment is led by Brian Boornazian, CEO of Aspen Reinsurance and James Few, President of Aspen Reinsurance.

 

Our Chief Executive Officer is supported by our Director of Underwriting, Kate Vacher. Our Director of Underwriting assists in the management of the underwriting process by developing our underwriting strategy, monitoring our underwriting principles and acting as an independent reviewer of underwriting activity across our businesses.

 

We underwrite according to the following principles:

 

 

 

We also have two additional subsidiary underwriting committees, one focusing on insurance and the other on reinsurance, which report to the Group Underwriting Committee mentioned above.

 

Reinsurance.  We purchase reinsurance and retrocession to limit and diversify our own risk exposure and to increase our own insurance and reinsurance underwriting capacity. These agreements provide for recovery of a portion of losses and loss expenses from reinsurers.

 

In respect of our insurance lines of business, we have reinsurance covers in place for many of our lines of business, the majority of which are on an excess of loss basis. In 2011, we anticipate renewing much of the reinsurance protecting our insurance business that we bought in 2010 which is comprised of specific excess of loss reinsurance on portfolios of property insurance, casualty insurance, financial and professional insurance, aviation insurance and marine, energy and liability insurance. These covers provide protection in various layers and excess of varying attachment points according to the scope of cover provided. We have elected to take co-reinsurance participations within some of these programs. We also have a limited number of proportional treaty arrangements on specific lines of business and we anticipate continuing with these in most instances. Natural perils catastrophe coverage was included within excess of loss programs purchased for two portfolios. For our onshore U.S. insurance business, in 2010, we bought protection of $82 million for natural catastrophe events. For 2011, we increased the limit purchased to $110 million. For our offshore exposures, excluding Gulf of Mexico hurricane losses, we bought catastrophe cover of $80 million excess of $20 million which expires February 28, 2011.

 

For our reinsurance business, we expect to continue the philosophy first implemented in 2006 of limited and strategic retrocession purchasing to manage within our risk tolerances. We entered into various retrocession agreements to protect our property reinsurance lines through 2010. The $100 million limit purchased provided protection against frequency and severity of natural perils events in the U.S. and Europe for wind and earthquake, with flood coverage provided in addition for European exposures. For 2011, we have renewed $50 million of this limit and have expanded the territories protected. In addition, in 2010, we renewed 12-month reciprocal arrangements with two major reinsurers accepting Japanese earthquake exposure and ceding our exposures to windstorms in parts of the U.S. The total aggregate event limit of these agreements is $120 million with both reinsurances responding on an index trigger basis.

 

During 2010, we purchased reinsurance excess of $50 million in respect of accumulation of losses arising out from all classes of casualty and liability resulting from a common cause. The total limit of cover provided by this reinsurance is $58 million.

 

As is the case with most reinsurance treaties, we remain liable to the extent that reinsurers do not meet their obligations under these agreements, and therefore, in line with our risk management objectives, we evaluate the financial condition of our reinsurers and monitor concentrations of credit risk. Of our reinsurers who have been rated by A.M. Best, 100% of our uncollateralized reinsurance is provided by those who have been assigned a rating of “A−” (Excellent) (the fourth highest of fifteen rating levels) or better. In 2010, $123 million of reinsurance capacity was secured from reinsurance markets unrated by A.M. Best, of which $100 million was fully collateralized with funds and securities. Of the remaining $23 million, 58% was provided by reinsurers rated A or better by S&P. Our total reinsurance recoverables for all years were $85.0 million.

Risk Management

 

Risk Governance.  The Board of Directors considers effective identification, assessment, monitoring and mitigation of the risks facing our business to be key elements of its responsibilities and those of the CEO and management. The Board’s responsibility for oversight of the group’s risk management framework is enabled by management reporting processes that are designed to provide visibility to the Board and its Committees about key risks. Senior management regularly attend the Board meetings and are available to address any questions or concerns raised by the Board on risk management matters. The Board and its Committees also receive presentations from senior management on risk management efforts. In summary, the Board through its Committees oversees key risks to the business through a well established and comprehensive approach, which is described in greater detail below.

 

Board Committees.  The Board manages the key risks to the organization primarily through its Risk, Audit and Investment Committees. Each of the Committees is chaired by an independent director of the Company who also reports to the Board on the committees’ discussions and matters arising. Every director also receives all of the papers for each of the Committees.

 

The membership of the Board Committees is set out under Item 10 “Directors, Executive Officers of the Registrant and Corporate Governance.”

 

Risk Committee:  The purpose of the Committee is to assist the Board in its oversight duties in respect of the management of risk, including:

 

 

Audit Committee:  This Committee is primarily responsible for assisting the Board in its oversight of the integrity of the financial statements. It is also responsible for reviewing the adequacy and effectiveness of the Company’s internal controls and receives regular reports from both internal and external audit in this regard.

 

Investment Committee:  This Committee is responsible for, among other things, setting and monitoring the group’s investment risk and asset allocation policies and ensuring that the Chairman of the Risk Committee is kept informed of such matters.

 

Management Committees.  The group also has a number of executive management committees which have oversight of risk and control effectiveness.

 

Group Executive Committee:  This is the main executive committee responsible for making proposals to the Board relating to the strategy and conduct of the business of the group. To assist in these duties, it receives regular reports from the Group Chief Risk Officer.

 

Capital Allocation Group:  This committee is primarily responsible for determining and allocating capital for the different lines of business. It also considers appropriate levels of risk limits for underwriting and other exposures for recommendation to the Risk Committee.

 

Reserve Committee:  This committee is responsible for managing reserving risk and recommending to executive management who then recommend to the Board and the Audit Committee the appropriate level of reserves to include in the group’s financial statements.

 

Underwriting Committee:  The purpose of the Underwriting Committee is to assist the Group Chief Executive Officer in his oversight duties in respect of underwriting risk and to advise insurance subsidiaries as to whether proposed risks comply with group policies.

 

Reinsurance Credit Committee:  This committee sets credit limits, reviews our credit analysts’ evaluation of insurance and reinsurance counterparties and approves acceptable financial strength ratings

of our counterparties. Our risk management function monitors individual exposures in addition to credit and market risk accumulations compared to set tolerances.

 

Group Chief Risk Officer.  Our Group Chief Risk Officer, Julian Cusack, is a member of the Board and a member of the Risk Committee. His role includes providing the Board of Directors and the Risk Committee with input directly on risk management issues.

 

Risk Strategy.  We operate an integrated risk management strategy designed to deliver shareholder value in a sustainable manner while providing a high level of policyholder protection. The use of the word ‘integrated’ emphasizes that risk management is not simply a support function but is a way of thinking about and managing the business which is central to the formulation of strategy and annual business planning. The execution of our integrated risk management strategy is based on:

 

 

Risk Appetite.  In 2010, the Board approved a group risk appetite statement, which it intends to review on an annual basis.

 

The risk appetite statement is a central component of the group’s overall risk management framework. It sets out, at a high level, how we think about risk in the context of our business model, group objectives and strategy. It sets out boundary conditions for the level of risk we assume, together with a statement of what reward we aim to receive for this level of risk.

 

It comprises the following components:

 

 

In 2010, S&P reaffirmed our Enterprise Risk Management rating as “Strong” for the fourth year in succession. We believe that this rating is an attestation of the strength of our risk management processes.

 

Risk Components.  The main types of risks that we face are:

 

Insurance risk:  The risk that claims occurring or reported in a period exceed the expected amounts (“underwriting risk”) or that reserves established in respect of prior periods are understated (“reserving risk”).

 

Credit risk:  The risk that a firm is exposed to if another party fails to perform its obligations. This principally comprises credit risks relating to premiums receivable and outward reinsurance. We include credit risks related to our investment portfolio under market risk.

Market risk:  The risk that arises from changes in the value of our investment portfolio from fluctuations in interest rates, bond yields, credit spreads and foreign currency exchange rates. This includes the risk of issuer default or ratings downgrades.

 

Operational risk:  The risk of loss resulting from inadequate or failed internal processes including the failure to comply with procedures and regulations.

 

Liquidity risk:  The risk that a firm fails to maintain sufficient liquid financial resources to meet its liabilities as they fall due, or can only secure them at excessive costs resulting in realized losses.

 

Key Risk Limits.  The Risk Committee of our Board of Directors reviews and approves the risk limits proposed by management. Only the relevant governing committees can make decisions to accept risks above agreed levels. Any risks accepted above agreed levels are reported to the Risk Committee.

 

For a further description of the risks that impact our business, refer to “Risk Factors” below.

 

We set out below our approach to establishing and monitoring risk limits for underwriting risk and market risk. Reserving risk is discussed elsewhere within “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies — Reserving Approach”.

 

Underwriting risk.  In addition to our risk limits for natural catastrophes described below, we also establish limits for our exposures to the risks of terrorism and to events other than natural catastrophes where claims may rise from multiple policies of insurance and reinsurance.

 

 

 

 

Natural catastrophe risk metrics are estimated using exposure based models driven by key assumptions relating, inter alia, to windstorm and earthquake frequencies and severities and the damageability of buildings in events of varying severity. These models are subject to unknown levels of model error and so our assurance that catastrophe events will be consistent with our risk limits cannot be absolute.

 

We seek to manage our exposure to the risk that premium levels are insufficient to meet expected loss costs by requiring all our pricing models to comply with our Group Pricing Standard which includes requirements as to data standards, technical pricing methods and independent quality control by our pricing actuaries. In recognizing that pricing is a core part of our underwriting approach, we manage pricing risk by continuously developing and enforcing our Group Pricing Standards within our Group Underwriting Control framework required for each portfolio. Our Group Pricing Standard sets out the minimum underwriting information and requires that all pricing decisions are made with the knowledge of a technical price benchmark which includes appropriate allowances for expected claims, internal expenses and external costs. We seek to monitor how the actual prices achieved compare to our technical price benchmarks over time for each portfolio and for segments therein. Finally we seek to improve the

quality of our pricing decisions by complimenting our underwriting skills and expertise with robust actuarial analyses both pre-and post- underwriting and also by developing high quality pricing models and deploying them in an appropriately controlled environment.

 

Market risk.  We manage risk in our investment portfolio in a number of ways including concentration limits and single issuer limits, minimum average rating standards and stress tests.

 

In addition, we monitor Value-at-Risk (“VaR”) at the 95% confidence level against a limit of 7% using a model which estimates the sensitivity of a portfolio to a broad set of market risk factors model and is calibrated from historical market observations. In other words, 95% of the time, should the portfolio perform in accordance with the VaR model, the portfolio’s loss in any one-year period is expected to be less than or equal to the calculated VaR, stated as a percentage of the measured portfolio’s initial value.

 

We measure VaR for our portfolio on two different bases that place lower (short VaR) or higher (long VaR) weights on older price observations. As at December 31, 2010, our short VaR was 3.8% and our long VaR was 3.7%.

 

Like all such models, the VaR model we use suffers from limitations particularly in relation to extreme tail risk and in periods of extreme market volatility. Therefore, our policy for the management of investment risk does not provide for automatic action if VaR on either measure exceeds our risk limit. Other considerations are taken into account when determining our asset allocation policy. However, if VaR does move above the risk limits management provides a report accordingly to the Risk and Investment Committees where any appropriate action will be determined.

 

Economic Capital Model.  Since inception, we have continually expanded our internal capabilities in terms of supporting and developing our ECM and the model now plays a central part in our risk management strategy.

 

The model has many and varied uses including helping us to:

 

 

The ECM aims to capture all material and quantifiable risk types faced within the business plan. We have identified the most material types of risks at various points within the risk distribution as:

 

 

The model has been constructed based around a number of key underlying principles. The model aligns directly to the business plan and planning assumptions for the current underwriting year are assumed as ‘best estimate’ for the model.

 

Limitations.  Although the ECM is used widely in the business to help evaluate the risk return trade offs of various actions, we are aware of the limitations from the use of this and other models. Therefore other considerations, including, where appropriate, stress and scenarios testing, are invariably taken into account when making business decisions.

In general we recognize that sound risk management systems reduce, but cannot eliminate, the possibility of human error, subjective judgment in decision-making, the deliberate overriding of controls or the occurrence of unforeseeable circumstances. As a result, our risk management strategy including our risk capital modeling can only provide a reasonable level of assurance rather than an absolute level. An investor must therefore carefully consider all the risks. These include the risk factors described elsewhere in this report under “Item 1A, Risk Factors”, and which could cause our actual results to differ materially from those in the forward-looking and other statements contained in this report and other documents that we file with the U.S. Securities and Exchange Commission (“SEC”).

 

Business Distribution

 

Our business is produced principally through brokers and reinsurance intermediaries. The brokerage distribution channel provides us with access to an efficient, variable cost and global distribution system without the significant time and expense which would be incurred in creating wholly-owned distribution networks. The brokers and reinsurance intermediaries typically act in the interest of ceding clients or insurers; however, they are instrumental to our continued relationship with our clients.

 

The following tables show our gross written premiums by broker for each of our segments for the twelve months ended December 31, 2010, 2009 and 2008:

 

 

 

 

 

Claims Management

 

We have a staff of experienced claims professionals organized into insurance and reinsurance teams and managed separately. We have developed processes and internal business controls for identifying, tracking and settling claims, and authority levels have been established for all individuals involved in the reserving and settlement of claims.

 

The key responsibilities of our claims management departments are to:

 

 

On those accounts where it is applicable, a team of in-house claims professionals oversees and regularly audits claims handled under outsourcing agreements and manages those large claims and coverage issues on referral as required under the terms of those agreements.

 

Senior management receives a regular report on the status of our reserves and settlement of claims. We recognize that fair interpretation of our reinsurance agreements and insurance policies with our customers, and timely payment of valid claims, are a valuable service to our clients and enhance our reputation.

 

Reserves

 

Loss & Loss Expense Reserves.  Under U.S. Generally Accepted Accounting Principles (“U.S. GAAP”), we are required to establish loss reserves for the estimated unpaid portion of the ultimate liability for losses and loss expenses under the terms of our policies and agreements with our insured and reinsured customers. These loss reserves consist of the following:

 

 

Case Reserves.  For reported claims, reserves are established on a case-by-case basis within the parameters of coverage provided in the insurance policy or reinsurance agreement. The method of establishing case reserves for reported claims differs among our operations. With respect to our insurance operations, we are advised of potential insured losses and our claims handlers record reserves for the estimated amount of the expected indemnity settlement, loss adjustment expenses and cost of defense where appropriate. The reserve estimate reflects the judgment of the claims personnel and is based on claim information obtained to date, general reserving practices, the experience and knowledge of the

claims personnel regarding the nature of the specific claim and where appropriate and available, advice from legal counsel, loss adjusters and other claims experts.

 

With respect to our reinsurance claims operations, claims handlers set case reserves for reported claims generally based on the claims reports received from our ceding companies and take into consideration our cedants’ own reserve recommendations and prior loss experience with the cedant. Additional case reserves (“ACR”), in addition to the cedants’ own recommended reserves, may be established by us to reflect our estimated ultimate cost of a loss. ACR’s are generally the result of either a claims handler’s own experience and knowledge of handling similar claims, general reserving practices or the result of reserve recommendations following an audit of cedants’ reserves.

 

Case reserves are based on a subjective judgment of facts and circumstances and are established for the purposes of internal reserving only. Accordingly, they do not represent a commitment to any course of conduct or admission of liability on our behalf in relation to any specific claim.

 

IBNR Reserves.  The need for IBNR reserves arises from time lags between when a loss occurs and when it is actually reported and settled. By definition on most occasions, we will not have specific information on IBNR claims; they need to be estimated by actuarial methodologies. IBNR reserves are therefore generally calculated at an aggregate level and cannot generally be identified as reserves for a particular loss or contract. We calculate IBNR reserves by line of business. IBNR reserves are calculated by projecting our ultimate losses on each class of business and subtracting paid losses and case reserves.

 

The main projection methodologies that are used by our actuaries are:

 

 

In addition to these methodologies, our actuaries may use other approaches depending upon the characteristics of the line of business and available data.

 

In general terms, the IELR method is most appropriate for lines of business and/or accident years where the actual paid or reported loss experience is not yet mature enough to override our initial expectations of the ultimate loss ratios. Typical examples would be recent accident years for lines of business in the casualty reinsurance segment. The BF method is generally appropriate where there are few reported claims and a relatively less stable pattern of reported losses. Typical examples would be our treaty risk excess line of business in our reinsurance segment and marine hull line of business in our insurance segment. The Chain Ladder method is appropriate when there is a relatively stable pattern of loss emergence and a relatively large number of reported claims. Typical examples are the U.K. commercial property and U.K. commercial liability lines of business in the insurance segment. There are

no differences between our year end and our quarterly reserving procedures in the sense that our actuaries perform the basic projections and analyses described above for each line of business.

 

While our actuaries calculate the IELR, BF and Chain Ladder methods for each line of business and each accident year, they provide a range of ultimates within which management’s best estimate is most likely to fall. This range will usually reflect a blend of the various methodologies. These methodologies do involve significant subjective judgments reflecting many factors such as changes in legislative conditions, changes in judicial interpretation of legal liability policy coverages and inflation. Our actuaries collaborate with underwriting, claims, legal and finance in identifying factors which are incorporated in their range of ultimates in which management’s best estimate is most likely to fall. The actuarial ranges are not intended to include the minimum or maximum amount that the claims may ultimately settle at, but are designed to provide management with ranges from which it is reasonable to select a single best estimate for inclusion in our financial statements.

 

Management through its Reserve Committee then reviews the range of actuarial estimates and any other evidence before selecting its best estimate of reserves for each line of business and accident year. Management may select outside the range provided by the actuaries but to date gross reserves are within the range of actuarial estimates. This provides the basis for the recommendation made by management to the Audit Committee and Board of Directors regarding the reserve amount to be recorded in the Company’s financial statements. The Reserve Committee is a management committee consisting of the Chief Risk Officer (Chair of the Reserve Committee), the Group Chief Actuary, the Chief Financial Officer and senior members of our underwriting and claims staff.

 

Each line of business is reviewed in detail by management, through its Reserve Committee, at least once a year; the timing of such reviews varies throughout the year. Additionally, for all lines of business, we review the emergence of actual losses relative to expectations every fiscal quarter. If warranted from these loss emergence tests, we may accelerate the timing of our detailed actuarial reviews.

 

We take all reasonable steps to ensure that we utilize all appropriate information and actuarial techniques in establishing our IBNR reserves. However, given the uncertainty in establishing claims liabilities, it is likely that the final outcome will prove to be different from the original provision established at the balance sheet date. Changes to our previous estimates of prior period loss reserves impact the reported calendar year underwriting results by worsening our reported results if the prior year reserves prove to be deficient or improving our reported results if the prior year reserves prove to be redundant. A five percent change in our net loss reserves equates to $177.0 million and represents 5.5% of shareholders’ equity at December 31, 2010.

 

Reinsurance recoveries.  In determining net reserves, we estimate recoveries due under our proportional and excess of loss reinsurance programs. For proportional reinsurance we apply the appropriate cession percentages to estimate how much of the gross reserves will be collectable. For excess of loss recoveries, individual large losses are modeled through our reinsurance program. An assessment is also made of the collectability of reinsurance recoveries taking into account market data on the financial strength of each of the reinsurance companies.

The following tables show an analysis of consolidated loss and loss expense reserve development net and gross of reinsurance recoverables as at December 31, 2010, 2009, 2008, 2007, 2006, 2005, 2004, 2003 and 2002. No adjustment has been made for foreign exchange movements.

 

Analysis of Consolidated Loss and Loss Expense Reserve Development Net of Reinsurance Recoverables

 

 

Analysis of Consolidated Loss and Loss Expense Reserve Development Gross of Reinsurance Recoverables

 

 

 

All our reserves relate to reinsurance or insurance policies incepting on or after January 1, 2002, except for the following amounts assumed as a result of acquisitions:

 

 

For additional information concerning our reserves, see Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Part II, Item 8, “Financial Statements and Supplementary Data.”

 

Investments

 

The Investment Committee of our Board of Directors establishes investment guidelines and supervises our investment activity. The Investment Committee regularly monitors our overall investment results and reviews compliance with our investment objectives and guidelines. These guidelines specify minimum criteria on the overall credit quality and liquidity characteristics of the portfolio. They include limitations on the size of certain holdings as well as restrictions on purchasing certain types of securities. Management and the Investment Committee review our investment performance and assess credit and market risk concentrations and exposures to issuers.

 

We follow an investment strategy designed to emphasize the preservation of invested assets and provide sufficient liquidity for the prompt payment of claims. As of December 31, 2010, our investments consisted of a diversified portfolio of highly-rated, liquid, fixed income securities and money market funds. In 2009, we invested $330.0 million into dedicated credit portfolios which we have classified as trading securities and which have an average credit rating of A.

 

For 2010, we engaged BlackRock Financial Management, Alliance Capital Management L.P., Credit Agricole Asset Management (Amundi), Deutsche Bank Asset Management, Pacific Investment Management Company and Goldman Sachs Asset Management to provide investment advisory and management services for our portfolio of fixed income assets. We have agreed to pay investment management fees based on the average market values of total assets held under management at the end of each calendar quarter. These agreements may be terminated generally by either party on short notice without penalty.

 

The total return of our portfolio of fixed income investments, cash and cash equivalents for the twelve months ended December 31, 2010 was 4.8% (2009 — 6.1%). Total return is calculated based on total net investment return, including interest on cash equivalents and any change in unrealized gains/losses on our investments, divided by the average market value of our investments and cash balances during the twelve months ended December 31, 2010.

 

Fixed Income Portfolio.  We employ an active investment strategy that focuses on the outlook for interest rates, the yield curve and credit spreads. In addition, we manage the duration of our fixed income portfolio having regard to the average liability duration of our reinsurance and insurance risks. In 2010, we did not make a strategic change in the fixed income portfolio duration which was 3.3 years as of December 31, 2010 (2009 — 3.3 years). As of December 31, 2010, the fixed income portfolio book yield was 3.7% compared to 4.2% as of December 31, 2009. We continuously monitor interest rate market developments with a view to managing portfolio duration accordingly. In this regard, the fixed income portfolio duration was approximately 2.9 years when taking into account the $500.0 million of interest rate swaps as at December 31, 2010.

 

We employ several third-party investment managers to manage our fixed income assets. We agree separate investment guidelines with each investment manager. These investment guidelines cover, among

other things, counterparty limits, credit quality, and limits on investments in any one sector. We expect our investment managers to adhere to strict overall portfolio credit and duration limits and a minimum
“AA−” portfolio credit rating for the portion of the assets they manage.

 

The following presents the cost, gross unrealized gains and losses, and estimated fair value of available for sale fixed maturities as at December 31, 2010 and 2009:

 

 

 

Certain securities are denominated in currencies other than the U.S. Dollar. Currency fluctuations are reflected in the estimated fair value presented above.

The scheduled maturity distribution of available for sale fixed maturity securities as of December 31, 2010 and December 31, 2009 is set forth below. Actual maturities may differ from contractual maturities because issuers of securities may have the right to call or prepay obligations with or without call or prepayment penalties.

 

 

The following table summarizes the pre-tax realized investment gains and losses, and the change in unrealized gains and losses on investments recorded in shareholders’ equity and in comprehensive income.

 

 

Proceeds from sales and maturities of fixed investments during the twelve months ended December 31, 2010 and 2009 were $2,712.0 million and $1,898.9 million, respectively.

 

Fixed Maturities — Trading.  The following presents the cost, gross unrealized gains and losses, and estimated fair value of trading investments in fixed maturities as at December 31, 2010 and 2009: