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AXS > SEC Filings for AXS > Form 10-K on 21-Feb-2014All Recent SEC Filings

Show all filings for AXIS CAPITAL HOLDINGS LTD

Form 10-K for AXIS CAPITAL HOLDINGS LTD


21-Feb-2014

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS


The following is a discussion and analysis of our results of operations for the years ended December 31, 2013, 2012 and 2011 and our financial condition at December 31, 2013 and 2012. This should be read in conjunction with the Consolidated Financial Statements and related notes included in Item 8 of this report. Tabular dollars are in thousands, except per share amounts. Amounts in tables may not reconcile due to rounding differences.
Page

2013 Financial Highlights 44

Executive Summary 45

Underwriting Results - Group 50

Results by Segment: Years ended December 31, 2013, 2012 and 2011 58

i) Insurance Segment                                               58

ii) Reinsurance Segment                                            61

Other Expenses, Net                                                64

Net Investment Income and Net Realized Investment Gains/Losses     65

Cash and Investments                                               69

Liquidity and Capital Resources                                    80

Critical Accounting Estimates                                      87

i) Reserves for Losses and Loss Expenses                           88

ii) Reinsurance Recoverable                                        98

iii) Premiums                                                      99

iv) Fair Value Measurements                                        101

v) Other-Than-Temporary Impairments                                103

Recent Accounting Pronouncements                                   105

Off-Balance Sheet and Special Purpose Entity Arrangements          105

Non-GAAP Financial Measures                                        105



2013 FINANCIAL HIGHLIGHTS

2013 Consolidated Results of Operations

Net income available to common shareholders of $684 million, or $6.02 per common share and $5.93 per diluted common share

Operating income of $633 million, or $5.49 per diluted common share(1)

Gross premiums written of $4.7 billion

Net premiums written of $3.9 billion

Net premiums earned of $3.7 billion

Net favorable prior year reserve development of $219 million

Estimated aggregate natural catastrophe and weather-related pre-tax net losses (net of related reinstatement premiums)

of $198 million
Underwriting income of $428 million and combined ratio of 91.0%

Net investment income of $409 million

Net realized investment gains of $76 million

2013 Consolidated Financial Condition

Total cash and investments of $14.8 billion; fixed maturities, cash and short-term securities comprise 88% of total cash and investments and have an average credit rating of AA-

Total assets of $19.6 billion

Reserve for losses and loss expenses of $9.6 billion and reinsurance recoverable of $1.9 billion

Total debt of $996 million and a debt to total capital ratio of 14.6%

Repurchased 10.8 million common shares for total cost of $472 million; remaining authorization under the repurchase program approved by our Board of Directors of $723 million at February 20, 2014

Common shareholders' equity of $5.2 billion; diluted book value per common share of $45.80

(1) Operating income (loss) is a non-GAAP financial measure as defined in SEC Regulation G. See 'Non-GAAP Financial Measures' for reconciliation to nearest GAAP financial measure (net income available to common shareholders).



EXECUTIVE SUMMARY

Business Overview
We are a Bermuda-based global provider of specialty lines insurance and treaty reinsurance products with operations in Bermuda, the United States, Europe, Singapore, Canada, Australia and Latin America. Our underwriting operations are organized around our two global underwriting platforms, AXIS Insurance and AXIS Reinsurance.
Our mission is to provide our clients and distribution partners with a broad range of risk transfer products and services and meaningful capacity, backed by significant financial strength. We manage our portfolio holistically, aiming to construct the optimum consolidated portfolio of funded and unfunded risks, consistent with our risk appetite and development of our franchise. We nurture an ethical, entrepreneurial and disciplined culture that promotes outstanding client service, intelligent risk taking and the achievement of superior risk-adjusted returns for our shareholders. We believe that the achievement of our objectives will position us as a leading global, diversified specialty insurance and reinsurance company, as measured by quality, sustainability and profitability. Our execution on this mission in 2013 included:

expansion of our agriculture reinsurance business;

continued expansion of our accident and health line, which launched in 2010 and is focused on specialty accident and health products;

the addition of a number of underwriting and support staff, including growth in specialized areas such as surety, primary casualty, weather and commodity markets and third party capital, as we continue to build-out the Company's global platform, explore opportunities in new and existing lines of business and grow our business internationally;

the expansion of the Company's global underwriting platform, facilitated through the establishment of a new syndicate at Lloyd's which commenced operations on January 1, 2014 and provides us with access to Lloyd's worldwide licenses and an extensive distribution network; and

the continued focus on lines of business with attractive rates.

In addition, we issued $225 million of 5.50% Series D preferred shares and used a portion of the net proceeds to redeem the $100 million of 7.25% Series A preferred shares outstanding. The execution of these transactions reduced the weighted average annual dividend rate on our preferred equity capital base by 57 basis points to 6.385%, with a minimal impact on our financial leverage.

During September 2013, A.M. Best upgraded the financial strength rating of each of our principal operating insurance and reinsurance subsidiaries to a financial strength rating of A+ (Stable) (see 'Liquidity and Capital Resources - Financial Strength Ratings' for more detail).


Results of Operations

  Year ended December 31,            2013       % Change      2012       % Change       2011

  Underwriting income (loss):
  Insurance                       $  84,749       29%      $  65,477       87%      $   35,034
  Reinsurance                       343,220       74%        197,660        nm        (362,260 )
  Net investment income             409,312        7%        380,957        5%         362,430
  Net realized investment gains      75,564      (41%)       127,469        5%         121,439
  Other expenses, net              (185,380 )    (17%)      (224,322 )     103%       (110,338 )
  Net income                        727,465       33%        547,241        nm          46,305
  Preferred share dividends         (40,474 )      6%        (38,228 )      4%         (36,875 )
  Loss on repurchase of preferred    (3,081 )    (78%)       (14,009 )      -%               -
  shares
  Net income available to common  $ 683,910       38%      $ 495,004        nm      $    9,430
  shareholders

  Operating income (loss)         $ 633,072       50%      $ 421,523        nm      $ (153,912 )

nm - not meaningful
Underwriting Results
2013 versus 2012: The $165 million improvement in our underwriting result during 2013 was primarily due to a reduction in the frequency and severity of natural catastrophe and weather-related losses. In 2012 we recognized pre-tax net losses (net of related reinstatement premiums) of $331 million for Storm Sandy and an aggregate $105 million for the impact of severe drought conditions on U.S. crops, Hurricane Isaac and first and second quarter 2012 U.S. weather events. Comparatively, in 2013, we recognized pre-tax net aggregate losses (net of related reinstatement premiums) of $198 million related to worldwide natural catastrophe and weather-related events. Growth in net premiums earned across both segments also contributed favorably. These improvements were partially offset by increases in the current accident year loss ratios, exclusive of the natural catastrophe and weather-related losses, for both segments and a $25 million reduction in net favorable prior year reserve development. Our insurance segment's underwriting income increased by $19 million in 2013. Underwriting income for 2012 included pre-tax net losses (inclusive of related premiums to reinstate reinsurance protection) of $178 million for Storm Sandy and an aggregate $44 million for Hurricane Isaac and first and second quarter 2012 U.S. weather events. Comparatively, in 2013, we incurred $93 million of pre-tax aggregate net losses related to worldwide natural catastrophe and weather-related events. Growth in net premiums earned (driven by the expansion of our business over the past year) also benefited the segment's results. The increases were partially offset by a $72 million decrease in net favorable prior year reserve development and the increase in the current accident year loss ratio, exclusive of natural catastrophe and weather-related losses. Our reinsurance segment's underwriting result improved by $146 million in 2013. The increase was primarily attributable to the significantly lower level of natural catastrophe and weather-related losses. In 2012, we recognized pre-tax net losses (net of related reinstatement premiums) of $153 million for Storm Sandy and an aggregate $60 million for the impact of severe drought conditions on U.S. crops, Hurricane Isaac and first and second quarter 2012 U.S. weather events. Comparatively, in 2013, we incurred $105 million of pre-tax aggregate net losses (net of related reinstatement premiums) related to worldwide natural catastrophe and weather-related events. Other positive factors included a $46 million increase in net favorable prior year reserve development and an increase in net premiums earned. These were partially offset by an increases in the current accident year loss ratio, exclusive of the natural catastrophe and weather-related losses, and an increase in general and administrative expenses. 2012 versus 2011: The $590 million improvement in our underwriting result during 2012 was largely due to a reduction in the frequency and severity of natural catastrophe and weather-related losses. During 2011, we recognized aggregate pre-tax net losses (net of related reinstatement premiums) of $931 million for numerous catastrophe and weather events, including: the 2011 New Zealand earthquakes, the Japanese earthquake and tsunami, the series of severe U.S. storms and tornadoes in April/May 2011, Australian weather events (January floods and Cyclone Yasi), floods in Thailand and Denmark, Hurricane Irene and Tropical Storm Lee. Comparatively, in 2012, we recognized pre-tax aggregate natural catastrophe and weather-related net losses (net of related reinstatement premiums) of $436 million. Growth in net premiums earned in our insurance segment and improvements in the current accident year loss ratios, exclusive of the natural catastrophe and weather-related losses, for both segments further contributed; this was partially offset by a $13 million reduction in net favorable prior year reserve development and growth in general and administrative expenses.


Our insurance segment's underwriting income for 2011 included aggregate pre-tax net losses (inclusive of premiums to reinstate reinsurance protection) of $157 million related to the 2011 natural catastrophe and weather-related events noted above. Comparatively, underwriting income for 2012 included pre-tax net losses (inclusive of related premiums to reinstate reinsurance protection) of $222 million for 2012 natural catastrophe and weather-related events. Despite increased catastrophe and weather-related losses in 2012, underwriting income for the segment improved due to growth in net premiums earned, an improvement in the current accident year loss ratio, exclusive of catastrophe and weather activity and a $19 million increase in net favorable prior year reserve development. This was partially offset by commensurate growth in acquisition costs and general and administrative expenses.
The improvement in the reinsurance segment's underwriting result of $560 million was primarily attributable to the significantly lower level of natural catastrophe and weather-related losses. The segment's underwriting loss for 2011 included aggregate pre-tax natural catastrophe and weather-related net losses (net of related reinstatement premiums) of $774 million for the 2011 events noted above. Comparatively, in 2012, we recognized pre-tax natural catastrophe and weather-related net losses (net of related reinstatement premiums) of $214 million. An improvement in the current accident year loss ratio, exclusive of these catastrophe and weather-related losses, further contributed to the improvement in 2012. Partially offsetting these improvements was a $32 million reduction in net favorable prior year reserve development, a reduction in net premiums earned and increases in acquisition costs and general and administrative expenses.
Net Investment Income
The net investment income increase in 2013 compared to 2012 and in 2012 compared 2011, respectively, was primarily due to the performance of our Other investments. Income from this portfolio increased by $41 million in 2013 compared to 2012, driven by the continued strong performance of our hedge funds, which reflected the strong performance of both global equities and bank loans. Similarly, income from other investments increased $56 million in 2012 compared to 2011, due to improved performance of both global equities and bank loans over the prior year.
Excluding income from our other investments, net investment income decreased by $13 million and $37 million in 2013 and 2012, respectively. These decreases were largely attributable to our fixed maturity portfolio, where lower reinvestment yields drove reductions in income despite higher investment balances. Net Realized Investment Gains
During each period presented, we realized net investment gains. During 2013, sales of equities were the largest contributor to the net realized gains while sales of fixed maturities were the primary driver in 2012 and 2011. Other-than-temporary impairment ("OTTI") charges were $9 million, $24 million and $16 million in 2013, 2012 and 2011, respectively. Other Expenses, Net
Appreciation in the euro and the Sterling against the U.S. dollar drove foreign exchange losses of $26 million and $30 million in 2013 and 2012, related to the remeasurement of our foreign-denominated net insurance-related liabilities. The 2013 loss was partially offset by the depreciation in the Australian dollar. In 2011, depreciation in the euro and the Sterling resulted in foreign exchange gains of $45 million.
Excluding these foreign exchange-related amounts, other expenses were $159 million, $195 million and $155 million in 2013, 2012 and 2011 respectively. A $53 million increase in corporate expenses impacted other expenses in 2012. Separation payments and accelerated and incremental share-based compensation costs related to our second quarter 2012 senior leadership transition totaled $34 million and were the primary driver of this increase. Partially offsetting the increase in corporate expenses was a $12 million reduction in tax expense, as the impact of Storm Sandy led to minimal taxable income in the U.S. for 2012. The $36 million decrease in 2013 was primarily driven by the reduction in corporate expenses and reflected the impact of the senior leadership transition costs discussed above on 2012.


Preferred Share Dividends and Loss on Repurchase of Preferred Shares

The increase in preferred share dividends in 2013 and 2012 was driven by the increase in preferred equity capital.

During the first half of 2013 we issued $225 million of 5.50% Series D preferred shares. The increase in preferred share dividends for 2013 includes the accrual and payment of dividends relating to the new Series D issue and is partially offset by the reduction in the weighted average annual dividend rate on our preferred equity capital base described above (see 'Business Overview'). The Series D preferred share proceeds were partially used to redeem the $100 million of 7.25% Series A preferred shares outstanding. The redemption of the Series A preferred shares resulted in a recognition of a loss on repurchase of preferred shares, reflecting initial issue costs of $3 million.

During 2012, in conjunction with the issuance of our 6.875% Series C preferred shares in the first quarter of 2012, we redeemed $150 million of our 7.25% Series A preferred shares and repurchased $247 million of our 7.50% Series B preferred shares via tender offer. The Series B tender offer resulted in the recognition of a $9 million loss, with $7 million of the loss relating to the premium paid to repurchase the shares in advance of the first eligible redemption date. The remaining $2 million loss, as well as a $5 million loss associated with the Series A redemption, related to the recognition of the proportionate share of issue costs as an expense; as these issue costs were recognized in shareholders' equity in the period of issuance, these amounts did not impact book value.

See Item 8, note 13 to the Consolidated Financial Statements for further details.
Outlook

Management expects gross premiums written to increase across both of our segments in 2014 with a continued focus on diversification and pursuit of opportunities to expand our reach in areas where we believe returns are most attractive.

In the primary insurance market we observed a slowdown in the favorable pricing momentum observed in the recent years. Despite the reduction in pricing trends, we continue to observe good fundamentals in many of our insurance lines and markets. Noting variations between different lines of business, we believe that the United States market will continue to provide opportunities for growth, with the international markets coming under increasing pricing pressures.

We believe that the global reinsurance market is currently showing signs of a supply and demand imbalance with an increase in new alternative capacity entering the market, coupled with strong capital positions of established reinsurers having a negative impact on both pricing and terms and conditions. While we believe that established insurers maintain an advantage in the access to attractively-priced business, it will be the focus on targeted lines of business such as agriculture that will provide the key drivers for premium growth. Management expects the competitive market conditions to remain for the rest of the year.
Financial Measures
We believe that the following financial indicators are important in evaluating our performance and measuring the overall growth in value generated for our common shareholders:

  Year ended and at December 31,                    2013           2012           2011

  ROACE(1)                                            13.1 %          9.7 %          0.2 %
  Operating ROACE(2)                                  12.1 %          8.2 %         (3.1 %)
  Diluted book value per common share(3)        $    45.80     $    42.97     $    38.08
  Cash dividends declared per common share            1.02           0.97           0.93
  Increase (decrease) in diluted book value per $     3.85     $     5.86     $    (0.36 )
  common share adjusted for dividends

(1) Return on average common equity ("ROACE") is calculated by dividing net income available to common shareholders for the period by the average shareholders' equity determined by using the common shareholders' equity balances at the beginning and end of the period.

(2) Operating ROACE is calculated by dividing operating income (loss) for the period by the average common shareholders' equity determined by using the common shareholders' equity balances at the beginning and end of the period. Operating ROACE is a non-GAAP financial measure, as defined in SEC Regulation G. See 'Non-GAAP Financial Measures' for additional information and a reconciliation to the nearest GAAP financial measure (ROACE).

(3) Diluted book value per common share represents total common shareholders' equity divided by the number of common shares and diluted common share equivalents outstanding, determined using the treasury stock method.


Return on equity
Our objective is to generate superior returns on capital that appropriately reward our common shareholders for the risks we assume and to grow revenue only when we expect the returns will meet or exceed our requirements. We recognize that the nature of underwriting cycles and the frequency or severity of large loss events in any one year may make it difficult to achieve a profitability target in any specific period and, therefore, established a ROACE target of 15% over the full underwriting cycle. Our average annual ROACE since inception is approximately 14%, tracking closely to our long-term goal.
The improvement in our underwriting result, driven by the lower level of natural catastrophe and weather-related losses previously discussed, was the primary contributor to the improved operating ROACE in 2013 compared to 2012, and in 2012 compared to 2011. The increases in both periods were also aided by growth in net investment income. A decrease in corporate expenses contributed favorably to the increase in the ROACE for 2013. In contrast, in 2012, the increase in corporate expenses discussed above had a negative impact on the ROACE. In addition to the items noted above for operating ROACE, ROACE is also impacted by net realized investment gains, foreign exchange losses (gains) and the loss on repurchase of preferred shares. The magnitude of our net realized investment gains resulted in these amounts contributing favorably, in aggregate, to our results for both 2013 and 2012; thus ROACE exceeded operating ROACE. Our underwriting loss, driven by natural catastrophe and weather-related losses, was the primary driver of the negative operating ROACE for 2011. Our combined net realized investment gains and foreign exchange gains for 2011 were sufficient for us to recognize net income for the period; as such, our ROACE for the year was marginally positive.
Diluted book value per common share
We consider diluted book value per common share to be an appropriate measure of our returns to common shareholders, as we believe growth in our book value on a diluted basis will ultimately translate into appreciation of our stock price. During 2013, our diluted book value per common share appreciated by 7%, driven by $684 million in net income available to common shareholders. This was partially offset by the reduction in the unrealized gains on investments included in accumulated other comprehensive income due to the rise in sovereign yield curves during the year. During 2012, our diluted book value per common share appreciated by 13%, driven by $495 million in net income available to common shareholders, an overall improvement in valuations for our available-for-sale securities and, to a lesser extent, the execution of common share repurchases at a discount to book value. Cash dividends per common share
We believe in returning excess capital to our shareholders by way of dividends (as well as share repurchases) and, accordingly, our dividend policy is an integral part of the value we create for our shareholders. Our cumulatively strong earnings have permitted our Board of Directors to approve ten successive annual increases in quarterly common share dividends. Diluted book value per common share adjusted for dividends Taken together, we believe that growth in diluted book value per common share and common share dividends declared represent the total value created for our common shareholders. Despite the impact of catastrophe events, 2013 and 2012 reflected positive value creation for our shareholders. In 2013 our net income, in addition to the dividends declared, more than offset the impact of the upward shift in the sovereign yield curves. In 2012 our net income, combined with valuation improvements on our available-for-sale securities and common share repurchases executed at a discount to book value led the increases in diluted book value per common share; dividends declared provided additional value for our common shareholders. The global frequency and severity of catastrophe activity in 2011 drove a small reduction in shareholder value for that year.



UNDERWRITING RESULTS - GROUP
--------------------------------------------------------------------------------
The following table provides our group underwriting results for the periods
indicated. Underwriting income (loss) is a pre-tax measure of underwriting
profitability that takes into account net premiums earned and other insurance
related income as revenues and net losses and loss expenses, acquisition costs
and underwriting-related general and administrative costs as expenses.

  Year ended December 31,                    2013        % Change       2012        % Change       2011

  Revenues:
  Gross premiums written                 $ 4,697,041       13%      $ 4,139,643        1%      $ 4,096,153
  Net premiums written                     3,928,200       18%        3,337,456       (2%)       3,419,434
  Net premiums earned                      3,707,065        9%        3,415,463        3%        3,314,961
  Other insurance related income               4,424                      2,676                      2,396

  Expenses:
  Current year net losses and loss        (2,353,631 )               (2,340,868 )               (2,932,513 )
  expenses
  Prior year reserve development             219,436                    244,840                    257,461
  Acquisition costs                         (664,191 )                 (627,653 )                 (587,469 )
  Underwriting-related general and          (485,134 )                 (431,321 )                 (382,062 )
  administrative expenses(1)
  Underwriting income (loss)(2)          $   427,969       63%      $   263,137        nm      $  (327,226 )


  General and administrative             $   575,390                $   560,981                $   459,151
  expenses(1)
  Income before income taxes(2)          $   734,467                $   550,528                $    61,538

nm - not meaningful . . .

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