UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C.  20549

 

FORM 10-Q

 

(Mark One)

 

ARCH CAPITAL GROUP LTD.

(Exact name of registrant as specified in its charter)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes ý  No o

 

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes ý  No o

 

Indicate the number of shares outstanding of each of the issuer’s classes of common shares.

 

 

 

ARCH CAPITAL GROUP LTD.

 

INDEX

 

PART I.  Financial Information
Item 1 — Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm	2
Consolidated Balance Sheets June 30, 2004 and December 31, 2003	3
Consolidated Statements of Income For the three and six month periods ended June 30, 2004 and 2003	4
Consolidated Statements of Changes in Shareholders’ Equity For the six month periods ended June 30, 2004 and 2003	5
Consolidated Statements of Comprehensive Income For the six month periods ended June 30, 2004 and 2003	6
Consolidated Statements of Cash Flows For the six month periods ended June 30, 2004 and 2003	7
Notes to Consolidated Financial Statements	8
Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations	26
Item 3 — Quantitative and Qualitative Disclosures About Market Risk	64
Item 4 — Controls and Procedures	64
PART II.  Other Information	65
Item 1 — Legal Proceedings	65
Item 2 – Changes in Securities, Use of Proceeds and Issuer Purchase of Equity Securities	66
Item 4 – Submission of Matters to a Vote of Security Holders	66
Item 5 — Other Information	67
Item 6 — Exhibits and Reports on Form 8-K	67

 

1

 

Report of Independent Registered Public Accounting Firm

 

To the Board of Directors and Shareholders of
Arch Capital Group Ltd.:

 

We have reviewed the accompanying consolidated balance sheet of Arch Capital Group Ltd. and its subsidiaries as of June 30, 2004, and the related consolidated statements of income for each of the three and six month periods ended June 30, 2004 and 2003, and the consolidated statements of comprehensive income, changes in shareholders equity and cash flows for each of the six month periods ended June 30, 2004 and 2003. These interim consolidated financial statements are the responsibility of the Company’s management.

 

We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States).  A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters.  It is substantially less in scope than an audit conducted in accordance with standards of the Public Company Accounting Oversight Board, the objective of which is the expression of an opinion regarding the consolidated financial statements taken as a whole.  Accordingly, we do not express such an opinion.

 

Based on our review, we are not aware of any material modifications that should be made to the accompanying consolidated interim financial information for it to be in conformity with accounting principles generally accepted in the United States of America.

 

We previously audited in accordance with standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet as of December 31, 2003, and the related consolidated statements of income, comprehensive income, changes in shareholders equity, and cash flows for the year then ended (not presented herein), and in our report dated February 14, 2004, we expressed an unqualified opinion on those consolidated financial statements.  In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of December 31, 2003, is fairly stated in all material respects in relation to the consolidated balance sheet from which it has been derived.

 

 

/s/ PricewaterhouseCoopers LLP
New York, New York
August 3, 2004

 

2

 

ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(U.S. dollars in thousands, except share data)

 

		(Unaudited)
		June 30, 2004			December 31, 2003
Assets
Investments:
Fixed maturities available for sale, at fair value (amortized cost:  2004, $4,486,543; 2003, $3,363,193)		$	4,461,137		$	3,398,424
Short-term investments available for sale, at fair value (amortized cost:  2004, $84,031; 2003, $228,616)		84,031			229,348
Privately held securities (cost:  2004, $18,848; 2003, $27,632)		24,229			32,476
Total investments		4,569,397			3,660,248
Cash		188,121			56,899
Accrued investment income		42,219			30,316
Premiums receivable		602,862			477,032
Funds held by reinsureds		206,796			211,944
Unpaid losses and loss adjustment expenses recoverable		506,715			409,451
Paid losses and loss adjustment expenses recoverable		23,183			18,549
Prepaid reinsurance premiums		232,329			236,061
Goodwill and intangible assets		31,423			35,882
Deferred income tax assets, net		53,875			33,979
Deferred acquisition costs, net		302,069			275,696
Other assets		157,144			139,264
Total Assets		$	6,916,133		$	5,585,321
Liabilities
Reserve for losses and loss adjustment expenses		$	2,702,358		$	1,951,967
Unearned premiums		1,529,275			1,402,998
Reinsurance balances payable		104,382			117,916
Senior notes		300,000			—
Revolving credit agreement borrowings		—			200,000
Deposit accounting liabilities		41,495			25,762
Other liabilities		201,119			175,949
Total Liabilities		4,878,629			3,874,592
Commitments and Contingencies
Shareholders’ Equity
Preference shares ($0.01 par value, 50,000,000 shares authorized, issued: 2004, 38,364,972; 2003, 38,844,665)		384			388
Common shares ($0.01 par value, 200,000,000 shares authorized, issued: 2004, 33,548,012; 2003, 28,200,372)		335			282
Additional paid-in capital		1,548,442			1,361,267
Deferred compensation under share award plan		(11,792		)	(15,004		)
Retained earnings		519,700			327,963
Accumulated other comprehensive (loss) income, net of deferred income tax		(19,565		)	35,833
Total Shareholders’ Equity		2,037,504			1,710,729
Total Liabilities and Shareholders’ Equity		$	6,916,133		$	5,585,321

 

See Notes to Consolidated Financial Statements

 

3

 

ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(U.S. dollars in thousands, except share data)

 

		(Unaudited)						(Unaudited)
		Three Months Ended June 30,						Six Months Ended June 30,
		2004			2003			2004			2003
Revenues
Net premiums written		$	677,646		$	560,002		$	1,561,234		$	1,336,865
Decrease (increase) in unearned premiums		45,753			(51,146		)	(130,009		)	(423,558		)
Net premiums earned		723,399			508,856			1,431,225			913,307
Net investment income		32,811			19,772			57,384			38,210
Net realized (losses) gains		(2,321		)	3,889			6,580			10,088
Fee income		4,304			4,934			8,298			10,610
Other (loss) income		(4,385		)	587			(3,343		)	1,726
Total revenues		753,808			538,038			1,500,144			973,941
Expenses
Losses and loss adjustment expenses		436,895			331,333			866,509			594,461
Acquisition expenses		136,889			95,620			289,745			173,772
Other operating expenses		69,155			40,995			125,248			72,075
Interest expense		4,642			—			6,016			—
Net foreign exchange gains		(5,503		)	(1,761		)	(184		)	(2,811		)
Non-cash compensation		2,756			3,498			5,394			7,762
Total expenses		644,834			469,685			1,292,728			845,259
Income Before Income Taxes		108,974			68,353			207,416			128,682
Income tax expense		4,692			6,569			15,679			14,412
Net Income		$	104,282		$	61,784		$	191,737		$	114,270
Net Income Per Share Data
Basic		$	3.26		$	2.36		$	6.47		$	4.38
Diluted		$	1.42		$	0.91		$	2.69		$	1.70
Weighted Average Shares Outstanding
Basic		32,023,865			26,185,445			29,650,932			26,101,843
Diluted		73,500,041			67,728,798			71,336,798			67,381,859

 

See Notes to Consolidated Financial Statements

 

4

 

ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(U.S. dollars in thousands)

 

		(Unaudited)
		Six Months Ended June 30,
		2004			2003
Preference Shares
Balance at beginning of year		$	388		$	388
Converted to common shares		(4		)	—
Balance at end of period		384			388
Common Shares
Balance at beginning of year		282			277
Common shares issued		49			3
Converted from preference shares		4			—
Balance at end of period		335			280
Additional Paid-in Capital
Balance at beginning of year		1,361,267			1,347,165
Common shares issued		184,437			3,585
Exercise of stock options		3,592			4,887
Common shares retired		(2,708		)	(645		)
Other		1,854			1,022
Balance at end of period		1,548,442			1,356,014
Deferred Compensation Under Share Award Plan
Balance at beginning of year		(15,004		)	(25,290		)
Restricted common shares issued		(2,142		)	(2,686		)
Deferred compensation expense recognized		5,354			7,655
Balance at end of period		(11,792		)	(20,321		)
Retained Earnings
Balance at beginning of year		327,963			47,372
Net income		191,737			114,270
Balance at end of period		519,700			161,642
Accumulated Other Comprehensive Income (Loss)
Balance at beginning of year		35,833			41,332
Change in unrealized (decline) appreciation in value of investments, net of deferred income tax		(53,958		)	27,007
Foreign currency translation adjustments		(1,440		)	—
Balance at end of period		(19,565		)	68,339
Total Shareholders’ Equity		$	2,037,504		$	1,566,342

 

See Notes to Consolidated Financial Statements

 

5

 

ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(U.S. dollars in thousands)

 

		(Unaudited)
		Six Months Ended June 30,
		2004			2003
Comprehensive Income
Net income		$	191,737		$	114,270
Other comprehensive (loss) income, net of deferred income tax
Unrealized (decline) appreciation in value of investments:
Unrealized holding (losses) gains arising during period		(50,987		)	35,868
Reclassification of net realized gains, net of income taxes, included in net income		(2,971		)	(8,861		)
Foreign currency translation adjustments		(1,440		)	—
Comprehensive Income		$	136,339		$	141,277

 

See Notes to Consolidated Financial Statements

 

6

 

ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(U.S. dollars in thousands)

 

		(Unaudited)
		Six Months Ended June 30,
		2004			2003
Operating Activities
Net income		$	191,737		$	114,270
Adjustments to reconcile net income to net cash provided by operating activities:
Net realized gains		(5,630		)	(10,088		)
Other loss (income)		3,343			(1,726		)
Provision for non-cash compensation		5,394			7,762
Changes in:
Reserve for losses and loss adjustment expenses, net of unpaid losses and loss adjustment expenses recoverable		653,127			497,825
Unearned premiums, net of prepaid reinsurance premiums		130,009			423,558
Premiums receivable		(125,830		)	(217,145		)
Deferred acquisition costs, net		(26,373		)	(91,340		)
Funds held by reinsureds		5,148			(57,687		)
Reinsurance balances payable		(13,534		)	(7,600		)
Accrued investment income		(11,903		)	(8,411		)
Paid losses and loss adjustment expenses recoverable		(4,634		)	(4,039		)
Deferred income tax asset		(13,213		)	27
Deposit accounting liabilities		15,733			8,780
Other liabilities		24,360			12,010
Other items, net		15,671			1,657
Net Cash Provided By Operating Activities		843,405			667,853
Investing Activities
Purchases of fixed maturity investments		(3,413,832		)	(1,602,839		)
Sales of fixed maturity investments		2,277,089			683,660
Sales of equity securities		11,043			7,019
Net sales of short-term investments		148,182			235,943
Acquisitions, net of cash		—			(11,774		)
Purchases of furniture, equipment and other		(10,878		)	(12,802		)
Net Cash Used For Investing Activities		(988,396		)	(700,793		)
Financing Activities
Proceeds from common shares issued		182,090			3,882
Proceeds from issuance of senior notes		296,442			—
Repayment of revolving credit agreement borrowings		(200,000		)	—
Repurchase of common shares		(879		)	(646		)
Net Cash Provided By Financing Activities		277,653			3,236
Effects of exchange rate changes on foreign currency cash		(1,440		)	—
Increase (decrease) in cash		131,222			(29,704		)
Cash beginning of year		56,899			91,717
Cash end of period		$	188,121		$	62,013
Income taxes paid, net		$	22,663		$	22,213
Interest paid		$	1,861		—

 

See Notes to Consolidated Financial Statements

 

7

 

ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

1.                   General

 

Arch Capital Group Ltd. (“ACGL”) is a Bermuda public limited liability company which provides insurance and reinsurance on a worldwide basis through its wholly owned subsidiaries.

 

The interim consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”) and include the accounts of ACGL and its subsidiaries (together with ACGL, the “Company”). All significant intercompany transactions and balances have been eliminated in consolidation. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates and assumptions. In the opinion of management, the accompanying unaudited interim consolidated financial statements reflect all adjustments necessary for a fair statement of results on an interim basis. The results of any interim period are not necessarily indicative of the results for a full year or any future periods.

 

Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations; however, management believes that the disclosures are adequate to make the information presented not misleading. This report should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2003, including the Company’s audited consolidated financial statements and related notes and the section entitled “Business—Risk Factors.”

 

To facilitate period-to-period comparisons, certain amounts in the 2003 consolidated financial statements have been reclassified to conform to the 2004 presentation. Such reclassifications had no effect on the Company’s consolidated net income, shareholders’ equity or cash flows.

 

2.                   Stock Options

 

The Company has adopted the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No. 25”), and related interpretations in accounting for its employee stock options. Accordingly, under APB No. 25, compensation expense for stock option grants is recognized by the Company to the extent that the fair value of the underlying stock exceeds the exercise price of the option at the measurement date. As provided under Statement of Financial Accounting Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation,” the Company has elected to continue to account for stock-based compensation in accordance with APB No. 25 and has provided the required additional pro forma disclosures.

 

8

 

If compensation expense for stock-based employee compensation plans had been determined using the fair value recognition provisions of SFAS No. 123, the Company’s net income and earnings per share would have instead been reported as the pro forma amounts indicated below:

 

 

		(Unaudited)						(Unaudited)
		Three Months Ended June 30,						Six Months Ended June 30,
(U.S. dollars in thousands, except share data)		2004			2003			2004			2003
Net income, as reported		$	104,282		$	61,784		$	191,737		$	114,270
Total stock-based employee compensation expense under fair value method, net of income taxes		(427		)	(1,547		)	(937		)	(3,292		)
Pro forma net income		$	103,855		$	60,237		$	190,800		$	110,978
Earnings per share – basic:
As reported		$	3.26		$	2.36		$	6.47		$	4.38
Pro forma		$	3.24		$	2.30		$	6.43		$	4.25
Earnings per share – diluted:
As reported		$	1.42		$	0.91		$	2.69		$	1.70
Pro forma		$	1.41		$	0.89		$	2.67		$	1.65

 

3.                   Accounting Pronouncements

 

In December 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46R (“FIN 46R”), “Consolidation of Variable Interest Entities.” This interpretation of Accounting Research Bulletin No. 51 (“ARB 51”), “Consolidated Financial Statements”, which replaces FASB Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities”, addresses consolidation by business enterprises of variable interest entities (“VIEs”). FIN 46R clarifies the application of ARB 51 to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support. In addition, FIN 46R modified FIN 46 to address certain technical corrections and implementation issues relating to FIN 46. Pursuant to FIN 46, if an enterprise has a controlling financial interest in a VIE, the assets, liabilities and results of operations of the variable interest entity must be included in the consolidated financial statements with those of the business enterprise. An enterprise with an interest in an entity to which the provisions of FIN 46 have not been applied as of December 24, 2003, shall apply the provisions of FIN 46R no later than the end of the first reporting period that ends after March 15, 2004. The provisions of FIN 46 applied immediately to VIEs created after January 31, 2003; however, for VIEs created prior to January 31, 2003 the provisions of FIN 46R are effective for the first year or interim period beginning after March 15, 2004. The provisions of FIN 46R are required to be applied to financial statements of public entities that have interests in VIEs, commonly referred to as special-purpose entities, for periods ending after December 15, 2003.

 

The Company concluded that, under FIN 46R, it is required to consolidate the assets, liabilities and results of operations (if any) of a certain managing general agency in which one of the Company’s subsidiaries has an investment. Such agency ceased producing business in 1999 and is currently running-off its operations. Based on current information, there are no assets or liabilities of such agency required to be reflected on the face of the Company’s consolidated financial statements that are not, or have not been previously, otherwise reflected therein. Therefore, the adoption of FIN 46R did not have a material impact on the Company’s consolidated financial statements as of or for the six months ended June 30, 2004.

 

9

 

In March 2004, the FASB’s Emerging Issues Task Force (“EITF”) reached a consensus regarding EITF 03-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.” The consensus provides guidance for evaluating whether an investment is other-than-temporarily impaired. The EITF 03-1 guidance for determining other-than-temporary impairment will be effective beginning with the 2004 third quarter. The Company is currently evaluating the impact that EITF 03-1 may have on its consolidated financial statements.

 

4.                   Segment Information

 

The Company classifies its businesses into two underwriting segments – reinsurance and insurance – and a corporate and other segment (non-underwriting). The Company’s reinsurance and insurance operating segments each have segment managers who are responsible for the overall profitability of their respective segments and who are directly accountable to the Company’s chief operating decision makers, the President and Chief Executive Officer of ACGL and the Chief Financial Officer of ACGL. The chief operating decision makers do not assess performance, measure return on equity or make resource allocation decisions on a line of business basis. The Company determined its reportable operating segments using the management approach described in SFAS No. 131, “Disclosures About Segments of an Enterprise and Related Information.”

 

Management measures segment performance based on underwriting income or loss. The Company does not manage its assets by segment and, accordingly, investment income is not allocated to each underwriting segment. In addition, other revenue and expense items are not evaluated by segment. The accounting policies of the segments are the same as those used for the preparation of the Company’s consolidated financial statements. Inter-segment insurance business is allocated to the segment accountable for the underwriting results.

 

The reinsurance segment, or division, consists of the Company’s reinsurance underwriting subsidiaries. The reinsurance segment generally seeks to write significant lines on specialty property and casualty reinsurance treaties. Classes of business include casualty, casualty clash, marine and aviation, non-traditional, other specialty, property catastrophe, and property excluding property catastrophe (losses on a single risk, both excess of loss and pro rata).

 

The insurance segment, or division, consists of the Company’s insurance underwriting subsidiaries which primarily write on a direct basis. The insurance segment consists of eight product lines, including casualty, construction and surety, executive assurance, healthcare, professional liability, programs, property, marine and aviation, and other (primarily non-standard auto, collateralized protection business and certain programs).

 

The corporate and other segment (non-underwriting) includes net investment income, other fee income, net of related expenses, other income, other expenses incurred by the Company, net realized gains or losses, net foreign exchange gains or losses and non-cash compensation. The corporate and other segment also includes the results of Hales & Company Inc. (“Hales”), the Company’s merchant banking operations. Included in other (loss) income for the 2004 second quarter and six months ended June 30, 2004 is a charge of $4.5 million resulting from a write down of the carrying value of Hales (see Note 14, “Goodwill and Intangible Assets”).

 

10

 

The following table sets forth an analysis of the Company’s underwriting income by segment, together with a reconciliation of underwriting income to net income:

 

		(Unaudited)
		Three Months Ended June 30, 2004
(U.S. dollars in thousands)		Reinsurance			Insurance			Total
Gross premiums written (1)		$	382,987		$	465,516		$	816,323
Net premiums written (1)		364,271			313,375			677,646
Net premiums earned		$	378,874		$	344,525		$	723,399
Policy-related fee income		—			3,608			3,608
Other underwriting-related fee income		56			296			352
Losses and loss adjustment expenses		(218,479		)	(218,416		)	(436,895		)
Acquisition expenses, net		(98,265		)	(38,624		)	(136,889		)
Other operating expenses		(10,380		)	(54,524		)	(64,904		)
Underwriting income		$	51,806		$	36,865		88,671
Net investment income								32,811
Net realized losses								(2,321		)
Other fee income, net of related expenses								344
Other (loss) income								(4,385		)
Other expenses								(4,251		)
Interest expense								(4,642		)
Net foreign exchange gains								5,503
Non-cash compensation								(2,756		)
Income before income taxes								108,974
Income tax expense								(4,692		)
Net income								$	104,282
Underwriting Ratios
Loss ratio		57.7		%	63.4		%	60.4		%
Acquisition expense ratio (2)		25.9		%	10.2		%	18.4		%
Other operating expense ratio		2.7		%	15.8		%	9.0		%
Combined ratio		86.3		%	89.4		%	87.8		%

 

(1)               Certain amounts included in the gross premiums written of each segment are related to intersegment transactions and are included in the gross premiums written of each segment. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total. The reinsurance segment and insurance segment results include $29.8 million and $2.4 million, respectively, of gross and net premiums written assumed through intersegment transactions.

(2)               The acquisition expense ratio is adjusted to include policy-related fee income.

 

11

 

The following table sets forth an analysis of the Company’s underwriting income by segment, together with a reconciliation of underwriting income to net income:

 

		(Unaudited)
		Three Months Ended June 30, 2003
(U.S. dollars in thousands)		Reinsurance			Insurance			Total
Gross premiums written (1)		$	337,038		$	379,607		$	676,005
Net premiums written (1)		323,520			236,482			560,002
Net premiums earned		$	317,504		$	191,352		$	508,856
Policy-related fee income		—			3,562			3,562
Other underwriting-related fee income		1,801			—			1,801
Losses and loss adjustment expenses		(203,797		)	(127,536		)	(331,333		)
Acquisition expenses, net		(73,702		)	(21,918		)	(95,620		)
Other operating expenses		(7,663		)	(30,402		)	(38,065		)
Underwriting income		$	34,143		$	15,058		49,201
Net investment income								19,772
Net realized gains								3,889
Other fee income, net of related expenses								(429		)
Other income								587
Other expenses								(2,930		)
Net foreign exchange gains								1,761
Non-cash compensation								(3,498		)
Income before income taxes								68,353
Income tax expense								(6,569		)
Net income								$	61,784
Underwriting Ratios
Loss ratio		64.2		%	66.6		%	65.1		%
Acquisition expense ratio (2)		23.2		%	9.6		%	18.1		%
Other operating expense ratio		2.4		%	15.9		%	7.5		%
Combined ratio		89.8		%	92.1		%	90.7		%

 

(1)               Certain amounts included in the gross premiums written of each segment are related to intersegment transactions and are included in the gross premiums written of each segment. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total. The reinsurance segment results include $40.6 million of gross and net premiums written assumed through intersegment transactions.

(2)               The acquisition expense ratio is adjusted to include policy-related fee income.

 

12

 

The following table sets forth an analysis of the Company’s underwriting income by segment, together with a reconciliation of underwriting income to net income:

 

		(Unaudited)
		Six Months Ended June 30, 2004
(U.S. dollars in thousands)		Reinsurance			Insurance			Total
Gross premiums written (1)		$	948,726		$	947,085		$	1,826,111
Net premiums written (1)		915,159			646,075			1,561,234
Net premiums earned		$	761,924		$	669,301		$	1,431,225
Policy-related fee income		—			7,393			7,393
Other underwriting-related fee income		376			424			800
Losses and loss adjustment expenses		(438,296		)	(428,213		)	(866,509		)
Acquisition expenses, net		(205,393		)	(84,352		)	(289,745		)
Other operating expenses		(19,651		)	(97,783		)	(117,434		)
Underwriting income		$	98,960		$	66,770		165,730
Net investment income								57,384
Net realized gains								6,580
Other fee income, net of related expenses								105
Other (loss) income								(3,343		)
Other expenses								(7,814		)
Interest expense								(6,016		)
Net foreign exchange gains								184
Non-cash compensation								(5,394		)
Income before income taxes								207,416
Income tax expense								(15,679		)
Net income								$	191,737
Underwriting Ratios
Loss ratio		57.5		%	64.0		%	60.5		%
Acquisition expense ratio (2)		27.0		%	11.5		%	19.7		%
Other operating expense ratio		2.6		%	14.6		%	8.2		%
Combined ratio		87.1		%	90.1		%	88.4		%

 

(1)               Certain amounts included in the gross premiums written of each segment are related to intersegment transactions and are included in the gross premiums written of each segment. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total. The reinsurance segment and insurance segment results include $64.5 million and $5.2 million, respectively, of gross and net premiums written assumed through intersegment transactions.

(2)               The acquisition expense ratio is adjusted to include policy-related fee income.

 

13

 

The following table sets forth an analysis of the Company’s underwriting income by segment, together with a reconciliation of underwriting income to net income:

 

		(Unaudited)
		Six Months Ended June 30, 2003
(U.S. dollars in thousands)		Reinsurance			Insurance			Total
Gross premiums written (1)		$	899,699		$	724,913		$	1,536,105
Net premiums written (1)		870,956			465,909			1,336,865
Net premiums earned		$	583,451		$	329,856		$	913,307
Policy-related fee income		—			6,775			6,775
Other underwriting-related fee income		3,728			—			3,728
Losses and loss adjustment expenses		(367,712		)	(226,749		)	(594,461		)
Acquisition expenses, net		(138,368		)	(35,404		)	(173,772		)
Other operating expenses		(13,782		)	(52,491		)	(66,273		)
Underwriting income		$	67,317		$	21,987		89,304
Net investment income								38,210
Net realized gains								10,088
Other fee income, net of related expenses								107
Other income								1,726
Other expenses								(5,802		)
Net foreign exchange gains								2,811
Non-cash compensation								(7,762		)
Income before income taxes								128,682
Income tax expense								(14,412		)
Net income								$	114,270
Underwriting Ratios
Loss ratio		63.0		%	68.7		%	65.1		%
Acquisition expense ratio (2)		23.7		%	8.7		%	18.3		%
Other operating expense ratio		2.4		%	15.9		%	7.3		%
Combined ratio		89.1		%	93.3		%	90.7		%

 

(1)               Certain amounts included in the gross premiums written of each segment are related to intersegment transactions and are included in the gross premiums written of each segment. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total. The reinsurance segment results include $88.5 million of gross and net premiums written assumed through intersegment transactions.

(2)               The acquisition expense ratio is adjusted to include policy-related fee income.

 

14

 

Set forth below is summary information regarding net premiums written and earned by major line of business and by client location for the reinsurance segment:

 

		(Unaudited)
		Three Months Ended June 30,
		2004					2003
REINSURANCE SEGMENT (U.S. dollars in thousands)		Amount			% of Total		Amount			% of Total
Net premiums written (1)
Casualty		$	223,626		61.4	%	$	141,864		43.9	%
Property excluding property catastrophe		65,987			18.1	%	69,248			21.4	%
Other specialty		42,234			11.6	%	67,926			21.0	%
Property catastrophe		13,019			3.6	%	23,337			7.2	%
Marine and aviation		12,067			3.3	%	14,349			4.4	%
Non-traditional		5,751			1.6	%	3,948			1.2	%
Casualty clash		1,587			0.4	%	2,848			0.9	%
Total		$	364,271		100.0	%	$	323,520		100.0	%
Net premiums earned (1)
Casualty		$	189,777		50.1	%	$	112,101		35.3	%
Other specialty		73,800			19.5	%	62,916			19.8	%
Property excluding property catastrophe		56,878			15.0	%	70,684			22.3	%
Property catastrophe		23,397			6.2	%	29,634			9.3	%
Marine and aviation		21,682			5.7	%	21,689			6.8	%
Non-traditional		10,743			2.8	%	16,423			5.2	%
Casualty clash		2,597			0.7	%	4,057			1.3	%
Total		$	378,874		100.0	%	$	317,504		100.0	%
Net premiums written by client location (1)
North America		$	239,841		65.9	%	$	206,364		63.8	%
Europe		78,079			21.4	%	79,308			24.5	%
Bermuda		26,282			7.2	%	13,973			4.3	%
Asia and Pacific		12,419			3.4	%	17,802			5.5	%
Other		7,650			2.1	%	6,073			1.9	%
Total		$	364,271		100.0	%	$	323,520		100.0	%

 

(1)               Reinsurance segment results include premiums written and earned assumed through intersegment transactions of $29.8 million and $34.7 million, respectively, for the 2004 second quarter and $40.6 million and $39.7 million, respectively, for the 2003 second quarter. Reinsurance segment results exclude premiums written and earned ceded through intersegment transactions of $2.4 million and $1.9 million, respectively, for the 2004 second quarter.

 

15

 

Set forth below is summary information regarding net premiums written and earned by major line of business and by client location for the reinsurance segment:

 

		(Unaudited)
		Six Months Ended June 30,
		2004					2003
REINSURANCE SEGMENT (U.S. dollars in thousands)		Amount			% of Total		Amount			% of Total
Net premiums written (1)
Casualty		$	452,177		49.4	%	$	305,824		35.1	%
Property excluding property catastrophe		174,576			19.1	%	181,848			20.9	%
Other specialty		148,531			16.2	%	203,941			23.4	%
Property catastrophe		71,223			7.8	%	72,110			8.3	%
Marine and aviation		42,710			4.7	%	45,770			5.3	%
Non-traditional		17,479			1.9	%	51,583			5.9	%
Casualty clash		8,463			0.9	%	9,880			1.1	%
Total		$	915,159		100.0	%	$	870,956		100.0	%
Net premiums earned (1)
Casualty		$	342,353		44.9	%	$	190,608		32.7	%
Other specialty		159,915			21.0	%	120,588			20.6	%
Property excluding property catastrophe		141,675			18.6	%	131,751			22.6	%
Property catastrophe		50,610			6.6	%	57,245			9.8	%
Marine and aviation		42,464			5.6	%	37,271			6.4	%
Non-traditional		19,522			2.6	%	38,451			6.6	%
Casualty clash		5,385			0.7	%	7,537			1.3	%
Total		$	761,924		100.0	%	$	583,451		100.0	%
Net premiums written by client location (1)
North America		$	580,739		63.5	%	$	551,428		63.3	%
Europe		236,681			25.9	%	230,664			26.5	%
Bermuda		63,407			6.9	%	48,297			5.5	%
Asia and Pacific		17,871			1.9	%	22,523			2.6	%
Other		16,461			1.8	%	18,044			2.1	%
Total		$	915,159		100.0	%	$	870,956		100.0	%

 

(1)               Reinsurance segment results include premiums written and earned assumed through intersegment transactions of $64.5 million and $68.7 million, respectively, for the six months ended June 30, 2004 and $88.5 million and $61.5 million, respectively, for the six months ended June 30, 2003. Reinsurance segment results exclude premiums written and earned ceded through intersegment transactions of $5.2 million and $3.5 million, respectively, for the six months ended June 30, 2004.

 

16

 

Set forth below is summary information regarding net premiums written and earned by major line of business and by client location for the insurance segment:

 

		(Unaudited)
		Three Months Ended June 30,
		2004					2003
INSURANCE SEGMENT (U.S. dollars in thousands)		Amount			% of Total		Amount			% of Total
Net premiums written (1)
Programs		$	92,197		29.4	%	$	76,949		32.5	%
Casualty		52,712			16.8	%	50,992			21.5	%
Property, marine and aviation		35,792			11.4	%	20,503			8.7	%
Professional liability		34,329			11.0	%	28,845			12.2	%
Executive assurance		30,533			9.7	%	20,502			8.7	%
Construction and surety		27,745			8.9	%	22,504			9.5	%
Healthcare		10,367			3.3	%	(1,463		)	(0.6	)%
Other		29,700			9.5	%	17,650			7.5	%
Total		$	313,375		100.0	%	$	236,482		100.0	%
Net premiums earned (1)
Programs		$	102,496		29.8	%	$	61,328		32.1	%
Casualty		57,560			16.7	%	36,756			19.2	%
Construction and surety		41,260			12.0	%	15,901			8.3	%
Professional liability		37,630			10.9	%	14,752			7.7	%
Property, marine and aviation		33,643			9.8	%	17,124			8.9	%
Executive assurance		31,373			9.1	%	18,855			9.9	%
Healthcare		12,149			3.5	%	7,084			3.7	%
Other		28,414			8.2	%	19,552			10.2	%
Total		$	344,525		100.0	%	$	191,352		100.0	%
Net premiums written by client location (1)
North America		$	303,075		96.7	%	$	232,743		98.4	%
Other		10,300			3.3	%	3,739			1.6	%
Total		$	313,375		100.0	%	$	236,482		100.0	%

 

(1)               Insurance segment results include premiums written and earned assumed through intersegment transactions of $2.4 million and $1.9 million, respectively, for the 2004 second quarter. Insurance segment results exclude premiums written and earned ceded through intersegment transactions of $29.8 million and $34.7 million, respectively, for the 2004 second quarter and $40.6 million and $39.7 million, respectively, for the 2003 second quarter.

 

17

 

Set forth below is summary information regarding net premiums written and earned by major line of business and by client location for the insurance segment:

 

		(Unaudited)
		Six Months Ended June 30,
		2004					2003
INSURANCE SEGMENT (U.S. dollars in thousands)		Amount			% of Total		Amount			% of Total
Net premiums written (1)
Programs		$	181,977		28.2	%	$	147,576		31.7	%
Casualty		116,259			18.0	%	100,327			21.5	%
Professional liability		80,051			12.4	%	48,688			10.4	%
Construction and surety		65,988			10.2	%	42,214			9.1	%
Property, marine and aviation		65,523			10.1	%	34,741			7.5	%
Executive assurance		58,016			9.0	%	45,766			9.8	%
Healthcare		23,793			3.7	%	14,801			3.2	%
Other		54,468			8.4	%	31,796			6.8	%
Total		$	646,075		100.0	%	$	465,909		100.0	%
Net premiums earned (1)
Programs		$	190,567		28.6	%	$	101,160		30.7	%
Casualty		112,340			16.8	%	62,011			18.8	%
Construction and surety		91,172			13.6	%	25,730			7.8	%
Professional liability		72,416			10.8	%	23,127			7.0	%
Property, marine and aviation		68,355			10.2	%	29,619			9.0	%
Executive assurance		62,411			9.3	%	35,129			10.6	%
Healthcare		23,666			3.5	%	15,897			4.8	%
Other		48,374			7.2	%	37,183			11.3	%
Total		$	669,301		100.0	%	$	329,856		100.0	%
Net premiums written by client location (1)
North America		$	627,910		97.2	%	$	461,071		99.0	%
Other		18,165			2.8	%	4,838			1.0	%
Total		$	646,075		100.0	%	$	465,909		100.0	%

 

(1)               Insurance segment results include premiums written and earned assumed through intersegment transactions of $5.2 million and $3.5 million, respectively, for the six months ended June 30, 2004. Insurance segment results exclude premiums written and earned ceded through intersegment transactions of $64.5 million and $68.7 million, respectively, for the six months ended June 30, 2004 and $88.5 million and $61.5 million, respectively, for the six months ended June 30, 2003.

 

18