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MRH > SEC Filings for MRH > Form 10-Q on 7-Aug-2014All Recent SEC Filings

Show all filings for MONTPELIER RE HOLDINGS LTD

Form 10-Q for MONTPELIER RE HOLDINGS LTD


7-Aug-2014

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

General

The following is a discussion and analysis of our results of operations for the three and six month periods ended June 30, 2014 and 2013, and our financial condition as of June 30, 2014 and December 31, 2013. This discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and related notes thereto included in Part I, Item 1 of this report and with our audited consolidated financial statements and related notes thereto contained in the 2013 Form 10-K, as filed with the SEC.

This Report on Form 10-Q contains forward-looking statements within the meaning of the U.S. federal securities laws, pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, that are not historical facts, including statements about our beliefs and expectations. These statements are based upon current plans, estimates and projections. Forward-looking statements rely on a number of assumptions concerning future events and are subject to a number of uncertainties and various risk factors, many of which are outside our control. See Item 1A "Risk Factors" contained in the 2013 Form 10-K, as filed with the SEC, for specific important factors that could cause actual results to differ materially from those contained in forward looking statements. In particular, statements using words such as "may," "should," "estimate," "expect," "anticipate," "intend," "believe," "predict," "potential," or words of similar meaning generally involve forward-looking statements.

Important events and uncertainties that could cause our results, future dividends on, or repurchases of, Common Shares or Preferred Shares to change include, but are not limited to: market conditions affecting the prices of our Common Shares or Preferred Shares; the possibility of severe or unanticipated losses from natural or man-made catastrophes, including those that may result from changes in climate conditions, including, but not limited to, global temperatures and expected sea levels; the effectiveness of our loss limitation methods; our dependence on principal employees; our ability to effectively execute the business plans of the Company, its subsidiaries and any new ventures that it may enter into; the cyclical nature of the insurance and reinsurance business; the levels of new and renewal business achieved; opportunities to increase writings in our core property and specialty insurance and reinsurance lines of business and in specific areas of the casualty reinsurance market and our ability to capitalize on those opportunities; the sensitivity of our business to financial strength ratings established by independent rating agencies; the inherent uncertainty of our risk management processes, which is subject to, among other things, industry loss estimates and estimates generated by modeling techniques; the accuracy of written premium estimates reported by cedants and brokers on pro-rata contracts and certain excess-of-loss contracts where a deposit or minimum premium is not specified in the contract; the inherent uncertainties of establishing reserves for loss and loss adjustment expenses, including our dependency on the loss information we receive from cedants and brokers; unanticipated adjustments to premium estimates; changes in the availability, cost or quality of reinsurance or retrocessional coverage; changes in general economic and financial market conditions; changes in and the impact of governmental legislation or regulation, including changes in tax laws in the jurisdictions where we conduct business; the amount and timing of reinsurance recoverables and reimbursements we actually receive from our reinsurers; the overall level of competition, and the related demand and supply dynamics in our markets relating to growing capital levels in our industry; declining demand due to increased retentions by cedants and other factors; the impact of terrorist activities on the Company and the economy; rating agency policies and practices; unexpected developments concerning the small number of insurance and reinsurance brokers upon whom we rely for a large portion of revenues; our dependence as a holding company upon dividends or distributions from our operating subsidiaries; and the impact of foreign currency and interest rate fluctuations.

We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the dates on which they are made.


Table of Contents

A widely-used measure of relative underwriting performance for an insurance or reinsurance company is the combined ratio. Our combined ratio is calculated by adding: (i) the ratio of incurred losses and LAE to earned premiums (known as the "loss and LAE ratio"); (ii) the ratio of acquisition costs to earned premiums (known as the "acquisition cost ratio"); and (iii) the ratio of general and administrative expenses to earned premiums (known as the "general and administrative expense ratio"), with each component determined in accordance with GAAP (the "GAAP combined ratio"). A GAAP combined ratio under 100% indicates that an insurance or reinsurance company is generating an underwriting profit. A GAAP combined ratio over 100% indicates that an insurance or reinsurance company is generating an underwriting loss.

Overview

Summary Financial Results

Three Month Periods Ended June 30, 2014 and 2013

We ended the second quarter of 2014 with a FCBVPCS of $31.74, an increase of 2.8% for the quarter after taking into account dividends declared on Common Shares during the period. The increase in our FCBVPCS incorporated positive contributions from both our underwriting and investing operations. Our comprehensive income available to the Company for the second quarter of 2014 was $41.7 million and our GAAP combined ratio was 76.7%.

Our underwriting results for the second quarter of 2014 included $23.5 million of net losses from European windstorm Ela and U.S. tornadoes (not including the benefit of reinstatement premiums), and benefitted from $37.5 million of net prior year favorable loss reserve development. Our investment results for the second quarter of 2014 included $19.8 million of net realized and unrealized investment gains, which were comprised of $12.7 million in net gains from fixed maturity investments, $6.2 million in net gains from equity securities and $0.9 million in net gains from other investments.

We ended the second quarter of 2013 with a FCBVPCS of $27.03, a decrease of 1.3% for the quarter after taking into account dividends declared on Common Shares during the period. The decrease in our FCBVPCS was primarily the result of net realized and unrealized investment losses, partially offset by solid underwriting results. Our comprehensive loss available to the Company for the second quarter of 2013 was $23.6 million and our GAAP combined ratio was 69.0%.

Our underwriting results for the second quarter of 2013 included $26.3 million of net losses from flooding in Europe and Canada, and U.S. tornadoes (not including the benefit of reinstatement premiums), and benefitted from $47.7 million of net prior year favorable loss reserve development. Our investment results for the second quarter of 2013 included $61.2 million of net realized and unrealized investment losses, which were comprised of $58.3 million in net losses from fixed maturity investments, $2.3 million in net losses from equity securities and $0.6 million in net losses from other investments.

Six Month Periods Ended June 30, 2014 and 2013

We experienced an increase in FCBVPCS of 8.7% during the first half of 2014 after taking into account dividends declared on Common Shares during the period. The increase in our FCBVPCS was primarily the result of solid underwriting and investment results. Our comprehensive income available to the Company for the first half of 2014 was $135.1 million and our GAAP combined ratio was 63.8%.

Our underwriting results for the first half of 2014 contained no significant net catastrophe losses other than the second quarter losses noted above, and benefitted from $72.7 million of net prior year favorable loss reserve development. Our investment results for the first half of 2014 included $42.5 million of net realized and unrealized investment gains, which were comprised of $28.0 million in net gains from fixed maturity investments, $9.8 million in net gains from equity securities and $4.7 million in net gains from other investments.

We experienced an increase in FCBVPCS of 4.3% during the first half of 2013 after taking into account dividends declared on Common Shares during the period. The increase in our FCBVPCS was primarily the result of solid underwriting results, partially offset by net realized and unrealized investment losses. Our comprehensive income available to the Company for the first half of 2013 was $68.3 million and our GAAP combined ratio was 65.5%.


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Our underwriting results for the first half of 2013 contained no significant net catastrophe losses other than the second quarter losses noted above, and benefitted from $66.1 million in net prior year favorable loss reserve development. Our investment results for the first half of 2013 included $61.9 million of net realized and unrealized investment losses which were comprised of $61.4 million in net losses from fixed maturity investments, $1.2 million in net losses from equity securities and $0.7 million in net gains from other investments.

Book Value Per Common Share



The following table presents our computation of book value per Common Share
("BVPCS") and FCBVPCS as of selected balance sheet dates:



                                        June 30,     March 31,     Dec. 31,     June 30,
                                          2014          2014         2013         2013
Book value numerator (in millions):

Total Shareholders' Equity available
to the Company                          $ 1,667.8    $  1,657.2    $ 1,642.1    $ 1,570.0
Less: Preferred Shareholders' Equity       (150.0 )      (150.0 )     (150.0 )     (150.0 )
[A] Common Shareholders' Equity
available to the Company                $ 1,517.8    $  1,507.2    $ 1,492.1    $ 1,420.0

Book value denominators (in
thousands):

[B] Common Shares outstanding              46,175        47,018       49,274       51,020
RSUs outstanding                            1,644         1,589        1,449        1,521
[C] Common Shares and RSUs
outstanding                                47,819        48,607       50,723       52,541

BVPCS [A] / [B]                         $   32.87    $    32.05    $   30.28    $   27.83
FCBVPCS [A] / [C]                           31.74         31.01        29.42        27.03

Increase in FCBVPCS: (1)

From March 31, 2014                           2.8 %
From December 31, 2013                        8.7 %
From June 30, 2013                           19.4 %



(1) Computed as the change in FCBVPCS after taking into account dividends declared on Common Shares of $0.125, $0.25 and $0.49 during the three, six and twelve month periods ended June 30, 2014, respectively.

Our computations of FCBVPCS and the increase in FCBVPCS are non-GAAP measures which we believe are important to our investors, analysts and other interested parties who benefit from having an objective and consistent basis for comparison with other companies within our industry.

The Company's increase in FCBVPCS serves as the performance measure for both the portion of our annual employee cash bonuses that are based on Company performance and for our Variable RSU awards in the Initial RSU Period. We believe that this performance measure: (i) directly aligns our interests and motivations with those of our stakeholders; and (ii) provides our employees with the ability to easily understand, and identify with, their incentive hurdle, and allows our stakeholders to easily track the Company's performance with respect to this goal, since we present our calculations of FCBVPCS and the increase in our FCBVPCS in our quarterly earnings releases and our annual and quarterly filings with the SEC.

Executive Overview

We provide customized and innovative insurance and reinsurance solutions to the global market through our underwriting platforms in Bermuda, the U.K. and the U.S. Through our affiliates in Bermuda, we also provide institutional and retail investors with the opportunity to directly invest in global property catastrophe reinsurance risks.


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During the six month period ended June 30, 2014, each of our operating segments, Montpelier Bermuda, Montpelier at Lloyd's and Collateralized Reinsurance, have executed well with combined ratios of 41%, 87% and 46%, respectively. Overall, we achieved an 8.7% increase in our FCBVPCS for the period while returning $108.1 million to holders of Common Shares through share repurchases and dividends.

BCRH, our newest Collateralized Reinsurance vehicle which is traded on the New York Stock Exchange, has had a profitable initial six months of operations, achieving a 4.1% increase in its FCBVPCS for the period, including dividends declared. BCRH and its subsidiaries have further expanded our presence in the collateralized reinsurance market. Our total capital under the management of Blue CapitalŪ currently stands at $615 million, enabling us to provide a broader product mix and increased line sizes to select clients.

We experienced increased competition during the January 1, June 1 and July 1, 2014 renewal seasons, particularly within our Property Catastrophe-Treaty and Property Specialty-Treaty classes, due to an increase in industry capacity from both: (i) new sources of capital flowing into property catastrophe reinsurance; and (ii) relatively light industry catastrophe losses experienced over the past several quarters. Through July 1, our internal calculations indicate an average renewal price index of approximately minus 12% for Montpelier Bermuda and minus 1% for Montpelier at Lloyd's, year-to-date.

Looking ahead, despite the competitive market conditions we currently face, through our efforts thus far in 2014 we believe that we have: (i) benefitted from a strong business flow with established relationships; (ii) strengthened our relationships with key business partners; and (iii) expanded our product
mix. As a result, with our strong consolidated balance sheet, disciplined underwriting and specialist approach, we are positioned to perform well in 2014 and beyond. Further, at current risk exposure levels, we believe we have retained the ability to quickly adapt and respond to new market opportunities while continuing our strategic focus on property, marine and other short-tail lines.

Third-Party Fees and Expense Reimbursements

We have entered into specialized quota share reinsurance contracts with unaffiliated third-parties with respect to a portion of Montpelier Re's Property Catastrophe - Treaty book of business, under which we are eligible to receive override and profit commissions.

We record the override and profit commissions associated with these specialized quota share reinsurance contracts (when earned) as a reduction to our acquisition costs which, in turn, reduces our acquisition cost and overall combined ratios. These benefits to us totaled $1.5 million during each of the three month periods ended June 30, 2014 and 2013, and totaled $4.2 million and $4.8 million during the six month periods ended June 30, 2014 and 2013, respectively.

We have also entered into similar intercompany quota share reinsurance contracts with certain of our affiliates, under which we are eligible to receive override and profit commissions, and we have been contracted to manage all, or substantially all, of the net assets of BCRH and the BCGR Listed Fund, under which we are entitled to receive fronting fees, management and performance fees and expense reimbursements.

Because the results of BCRH and the BCGR Cell are fully consolidated in our consolidated statements of operations and comprehensive income, we record these benefits (when earned) as decreases to the net income attributable to non-controlling interests, thereby increasing the net income and comprehensive income available to the Company. These benefits to us totaled $1.5 million and $0.2 million during the three month periods ended June 30, 2014 and 2013, respectively, and $3.6 million and $0.4 million during the six month periods ended June 30, 2014 and 2013, respectively.


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Natural Catastrophe Risk Management

We insure and reinsure exposures throughout the world against various natural catastrophe perils. We manage our exposure to these perils using a combination of methods, including underwriting judgment, CATMŪ (our proprietary risk management system), third-party models and third-party protection such as ceded reinsurance and derivative instrument protections.

Our multi-tiered risk management approach focuses on tracking exposed contract limits, estimating the potential impact of a single natural catastrophe event and simulating our yearly net operating result to reflect an aggregation of modeled underwriting, investment and other risks. Management routinely seeks to refine and improve our risk management system and the Board regularly reviews the outputs from this process.

The following discussion should be read in conjunction with Item 1A "Risk Factors" included in the 2013 Form 10-K, as filed with the SEC, in particular the specific risk factor entitled "Our stated catastrophe and enterprise-wide risk management exposures are based on estimates and judgments which are subject to significant uncertainties."

Exposure Management

We monitor our net reinsurance treaty contract limits that we believe are exposed to a single natural catastrophe occurrence within certain broadly defined major catastrophe zones. We provide these limits as a measure of our relative potential loss exposure across major zones in the event a natural catastrophe occurs.

Our June 1, 2014 net reinsurance treaty limits by zone were as follows:

                   Net Reinsurance Treaty Limits by Zone (1)



                                         Treaty Limits              Percentage of June 30, 2014
                                          (Millions)       Shareholders' Equity Available to the Company
U.S. Hurricane:

Mid-Atlantic hurricane                  $           525                                               31 %
Florida hurricane                                   434                                               26 %
Northeast hurricane                                 405                                               24 %
Gulf hurricane                                      383                                               23 %
Hawaii hurricane                                    141                                                8 %

U.S. Earthquake:

New Madrid earthquake                   $           550                                               33 %
California earthquake                               358                                               21 %
Northwest earthquake                                352                                               21 %

European Windstorm:

Western European windstorm              $           473                                               28 %
U.K. & Ireland windstorm                            398                                               24 %
Scandinavia windstorm                               171                                               10 %

Other Countries:

Japan earthquake                        $           292                                               18 %
Canada earthquake                                   267                                               16 %
Australia earthquake                                253                                               15 %
Australia cyclone                                   249                                               15 %
New Zealand earthquake                              174                                               10 %
Turkey earthquake                                   174                                               10 %
Chile earthquake                                    155                                                9 %
Japan windstorm                                     117                                                7 %



(1) For purposes of this presentation, "Mid-Atlantic" includes Georgia, South Carolina, North Carolina, Virginia, West Virginia, Maryland, Delaware, Pennsylvania, New Jersey and the District of Columbia; "Northeast" includes New York, Connecticut, Rhode Island, Massachusetts, New Hampshire, Vermont and Maine; "Gulf" includes Texas, Louisiana, Mississippi and Alabama; "New Madrid" includes Missouri, Tennessee, Arkansas, Illinois, Kentucky, Indiana, Ohio and Michigan; "Northwest" includes Washington and Oregon; "Western European" includes France, Belgium, Netherlands, Luxembourg, Germany, Switzerland and Austria; and "Scandinavia" includes Denmark, Norway and Sweden.


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The treaty limits presented are shown net of any ceded reinsurance or other third-party protection we purchase but have not been reduced by any reinstatement premiums. The treaty limits include all business coded as property catastrophe reinsurance (including retrocessional business), property pro-rata reinsurance, workers compensation catastrophe reinsurance and event-linked derivative securities. The treaty limits also include those exposures we have assumed through our investments in BCRH and the BCGR Listed Fund, but exclude those exposures attributable to non-controlling interests. The treaty limits do not include individual risk business and other reinsurance classes.

For U.S. earthquake, the regional limits shown are for earthquake ground motion damage only, i.e., excluding limits for contracts that do not specifically cover earthquake damage but may provide coverage for fire following an earthquake event. Contracts that provide coverage for multiple regions are included in the totals for each potentially exposed zone; therefore, the limits for a single multi-zone policy may be included within several different zone limits.

These treaty limits are a snapshot of our exposure as of June 1, 2014. As of that date, New Madrid earthquake represented our largest concentration of net reinsurance treaty limits among the selected zones. The relative comparison between zones and the absolute level of exposure may change materially at any time due to changes in the composition of our portfolio and changes in our ceded reinsurance program.

Single Event Losses

For certain defined natural catastrophe region and peril combinations, we assess the probability and likely magnitude of losses using a combination of industry third-party models, CATMŪ and underwriting judgment. We attempt to model the projected net impact from a single event, taking into account contributions from property catastrophe reinsurance (including retrocessional business), property pro-rata reinsurance, workers compensation catastrophe reinsurance, event-linked derivative securities and individual risk business, offset by the net benefit of any reinsurance or derivative protections we purchase and the benefit of reinstatement premiums.

The projected single event net impact figures also include those single event exposures we have assumed through our investments in BCRH and the BCGR Listed Fund, but exclude those exposures attributable to non-controlling interests.

There is no single standard methodology or set of assumptions utilized industry-wide in estimating property catastrophe losses. As a result, it may be difficult to accurately compare estimates of risk exposure among different insurance and reinsurance companies, due to, among other things, differences in modeling, modeling assumptions, portfolio composition and concentrations, and selected event scenarios.

The table below details the projected net impact from single event losses as of June 1, 2014 for selected zones at selected return period levels using AIR Worldwide Corporation's CLASIC/2 model version 15.0, one of several industry-recognized third-party vendor models. It is important to note that each catastrophe model contains its own assumptions as to the frequency and severity of loss events, and results may vary significantly from model to model.

Since we utilize a combination of third-party models, CATMŪ and underwriting judgement to project the net impact from single event losses, our internal projections may be higher or lower than those presented in the table below.

      Net Impact From Single Event Losses by Return Period (in years) (1)



                                      Net Impact                         Percentage of June 30, 2014
                                      (Millions)                Shareholders' Equity Available to the Company
                              100-year          250-year             100-year                   250-year
U.S. Hurricane             $           294    $         347                       18 %                       21 %
European windstorm                     235              298                       14 %                       18 %
U.S. Earthquake                        184              270                       11 %                       16 %

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