SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended: Commission File Number:
SEPTEMBER 30, 2002 1-15731
- ---------------------- -----------------------
EVEREST RE GROUP, LTD.
------------------------------------------------------
(Exact name of Registrant as specified in its charter)
BERMUDA 98-0365432
- ------------------------ ----------------------------
(State or other juris- (IRS Employer Identification
diction of incorporation Number)
or organization)
c/o ABG FINANCIAL & MANAGEMENT SERVICES, INC.
PARKER HOUSE
WILDEY BUSINESS PARK, WILDEY ROAD
ST. MICHAEL, BARBADOS
(246) 228-7398
(Address,including zip code, and telephone number, including area
code, of registrant's principal executive office)
- --------------------------------------------------------------------------------
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 the filing
requirements for at least the past 90 days.
YES X NO
------- -------
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
Number of Shares Outstanding
Class at NOVEMBER 1, 2002
----- ----------------------------
COMMON SHARES, $.01 PAR VALUE 50,873,931
EVEREST RE GROUP, LTD.
INDEX TO FORM 10-Q
PART I
FINANCIAL INFORMATION
---------------------
PAGE
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ITEM 1. FINANCIAL STATEMENTS
--------------------
Consolidated Balance Sheets at September 30, 2002 (unaudited)
and December 31, 2001 3
Consolidated Statements of Operations and Comprehensive Income
for the three months and nine months ended
September 30, 2002 and 2001 (unaudited) 4
Consolidated Statements of Changes in Shareholders'
Equity for the three months and nine months ended
September 30, 2002 and 2001 (unaudited) 5
Consolidated Statements of Cash Flows for the three
months and nine months ended
September 30, 2002 and 2001 (unaudited) 6
Notes to Consolidated Interim Financial Statements (unaudited) 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
------------------------------------
OF FINANCIAL CONDITION AND RESULTS OF
-------------------------------------
OPERATIONS 18
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
----------------------------------------
ABOUT MARKET RISK 33
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ITEM 4. CONTROLS AND PROCEDURES 34
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PART II
OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS 35
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ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS None
-----------------------------------------
ITEM 3. DEFAULTS UPON SENIOR SECURITIES None
-------------------------------
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF
----------------------------------
SECURITY HOLDERS None
----------------
ITEM 5. OTHER INFORMATION None
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 35
--------------------------------
Part I - Item 1
EVEREST RE GROUP, LTD.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except par value per share)
September 30, December 31,
------------- ------------
2002 2001
------------- ------------
(unaudited)
ASSETS:
Fixed maturities - available for sale,
at market value (amortized cost:
2002, $5,840,073; 2001, $5,288,860) $ 6,144,162 $ 5,461,584
Equity securities, at market value
(cost: 2002, $56,431; 2001, $66,357) 44,236 67,311
Short-term investments 387,429 148,851
Other invested assets 43,540 33,899
Cash 120,226 71,878
------------- ------------
Total investments and cash 6,739,593 5,783,523
Accrued investment income 91,873 83,088
Premiums receivable 622,929 468,897
Reinsurance receivables 988,673 895,061
Funds held by reinsureds 116,551 149,969
Deferred acquisition costs 189,107 130,709
Prepaid reinsurance premiums 46,020 47,185
Deferred tax asset 144,418 178,507
Other assets 76,606 59,221
------------- ------------
TOTAL ASSETS $ 9,015,770 $ 7,796,160
============= ============
LIABILITIES:
Reserve for losses and adjustment expenses $ 4,542,622 $ 4,278,267
Future policy benefit reserve 236,732 238,753
Unearned premium reserve 766,872 489,171
Funds held under reinsurance treaties 308,833 267,105
Losses in the course of payment 63,130 89,492
Contingent commissions 3,917 2,119
Other net payable to reinsurers 56,897 66,462
Current federal income taxes (11,579) (30,459)
8.5% Senior notes due 3/15/2005 249,758 249,694
8.75% Senior notes due 3/15/2010 199,137 199,077
Revolving credit agreement borrowings 125,000 105,000
Accrued interest on debt and borrowings 2,274 11,944
Other liabilities 174,051 109,013
------------- ------------
Total liabilities 6,717,644 6,075,638
------------- ------------
SHAREHOLDERS' EQUITY:
Preferred shares, par value: $0.01;
50 million shares authorized;
no shares issued and outstanding - -
Common shares, par value: $0.01;
200 million shares authorized;
50.9 million shares issued in 2002
and 46.3 million shares
issued in 2001 513 463
Additional paid-in capital 617,980 269,945
Unearned compensation (83) (115)
Accumulated other comprehensive income,
net of deferred income taxes of $72.1
million in 2002 and $40.8 million in
2001 202,800 113,880
Retained earnings 1,499,866 1,336,404
Treasury shares, at cost; 0.5 million
shares in 2002 and 0.0 million shares
in 2001 (22,950) (55)
------------- ------------
Total shareholders' equity 2,298,126 1,720,522
------------- ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 9,015,770 $ 7,796,160
============= ============
The accompanying notes are an intergral part of the consolidated financial
statements.
3
EVEREST RE GROUP, LTD.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(Dollars in thousands, except per share amounts)
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- --------------------------
2002 2001 2002 2001
--------- --------- ----------- -----------
(unaudited) (unaudited)
REVENUES:
Premiums earned $ 555,600 $ 347,229 $ 1,549,138 $ 1,068,519
Net investment income 86,412 83,993 262,782 257,243
Net realized
capital (loss) (7,680) (6,525) (42,543) (7,646)
Net derivative (expense) (12,466) (800) (17,606) (1,484)
Other income (expense) 1,136 (1,309) (435) 679
--------- --------- ----------- -----------
Total revenues 623,002 422,588 1,751,336 1,317,311
--------- --------- ----------- -----------
CLAIMS AND EXPENSES:
Incurred loss and loss
adjustment expenses 392,082 365,065 1,097,765 900,138
Commission, brokerage,
taxes and fees 127,956 109,694 369,285 288,773
Other underwriting
expenses 17,299 15,246 48,148 42,841
Interest expense
on senior notes 9,730 9,726 29,186 29,176
Interest expense
on credit facility 966 1,574 2,728 6,090
--------- --------- ----------- -----------
Total claims and
expenses 548,033 501,305 1,547,112 1,267,018
--------- --------- ----------- -----------
INCOME (LOSS)
BEFORE TAXES 74,969 (78,717) 204,224 50,293
Income tax expense
(benefit) 13,699 (34,952) 28,486 (13,363)
--------- --------- ----------- -----------
NET INCOME (LOSS) $ 61,270 $ (43,765) $ 175,738 $ 63,656
========= ========= =========== ===========
Other comprehensive
income, net of tax 117,718 57,557 88,920 73,903
--------- --------- ----------- -----------
COMPREHENSIVE INCOME $ 178,988 $ 13,792 $ 264,658 $ 137,559
========= ========= =========== ===========
PER SHARE DATA:
Average shares
outstanding (000's) 50,977 46,228 50,139 46,143
Net income (loss)
per common share
- basic $ 1.20 $ (0.95) $ 3.51 $ 1.38
========= ========= =========== ===========
Average diluted
shares outstanding
(000's) 51,627 46,228 50,974 47,064
Net income (loss)
per common share
- diluted $ 1.19 $ (0.95) $ 3.45 $ 1.35
========= ========= =========== ===========
The accompanying notes are an intergral part of the consolidated financial
statements.
4
EVEREST RE GROUP, LTD.
CONSOLIDATED STATEMENTS OF CHANGES
IN SHAREHOLDERS' EQUITY
(Dollars in thousands, except per share amounts)
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
2002 2001 2002 2001
---------- ---------- ---------- ----------
(unaudited) (unaudited)
COMMON SHARES
(SHARES OUTSTANDING):
Balance, beginning
of period 51,319,539 46,205,633 46,269,015 46,029,354
(Repurchased) issued
during the period, net (449,208) 43,254 4,601,316 219,533
---------- ---------- ---------- ----------
Balance, end of period 50,870,331 46,248,887 50,870,331 46,248,887
========== ========== ========== ==========
COMMON SHARES
(PAR VALUE):
Balance, beginning
of period $ 513 $ 462 $ 463 $ 460
Issued during
the period - 1 50 3
---------- ---------- ---------- ----------
Balance, end of period 513 463 513 463
---------- ---------- ---------- ----------
ADDITIONAL PAID
IN CAPITAL:
Balance, beginning
of period 616,508 267,252 269,945 259,958
Common shares issued
during the period 1,472 1,696 348,035 8,990
---------- ---------- ---------- ----------
Balance, end of period 617,980 268,948 617,980 268,948
---------- ---------- ---------- ----------
UNEARNED COMPENSATION:
Balance, beginning
of period (103) (136) (115) (170)
Net increase
during the period 20 7 32 41
---------- ---------- ---------- ----------
Balance, end of period (83) (129) (83) (129)
---------- ---------- ---------- ----------
ACCUMULATED OTHER
COMPREHENSIVE INCOME,
NET OF DEFERRED
INCOME TAXES:
Balance, beginning
of period 85,082 89,192 113,880 72,846
Net increase
during the period 117,718 57,557 88,920 73,903
---------- ---------- ---------- ----------
Balance, end of period 202,800 146,749 202,800 146,749
---------- ---------- ---------- ----------
RETAINED EARNINGS:
Balance, beginning
of period 1,442,665 1,351,281 1,336,404 1,250,313
Net income 61,270 (43,765) 175,738 63,656
Dividends declared
($0.08 and $0.24
per share in 2002
and $0.07 and $0.21
per share in 2001) (4,069) (3,236) (12,276) (9,689)
---------- ---------- ---------- ----------
Balance, end of period 1,499,866 1,304,280 1,499,866 1,304,280
---------- ---------- ---------- ----------
TREASURY SHARES
AT COST:
Balance, beginning
of period (55) (55) (55) (55)
Treasury shares
acquired during
the period (22,895) - (22,895) -
---------- ---------- ---------- ----------
Balance, end of period (22,950) (55) (22,950) (55)
---------- ---------- ---------- ----------
TOTAL SHAREHOLDERS'
EQUITY, END OF PERIOD $2,298,126 $1,720,256 $2,298,126 $1,720,256
========== ========== ========== ==========
The accompanying notes are an intergral part of the consolidated financial
statements.
5
EVEREST RE GROUP, LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- ------------------------
2002 2001 2002 2001
--------- --------- --------- ---------
(unaudited) (unaudited)
CASH FLOWS FROM
OPERATING ACTIVITIES:
Net income (loss) $ 61,270 $ (43,765) $ 175,738 $ 63,656
Adjustments to reconcile
net income to net cash
provided by operating
activities:
(Increase) in premiums
receivable (63,152) (32,872) (148,507) (75,674)
Decrease in funds held,
net 44,384 79,288 77,295 97,216
(Increase) in reinsurance
receivables (39,843) (198,791) (82,767) (265,907)
Decrease (increase) in
deferred tax asset 16,099 4,679 7,019 (27,222)
Increase in reserve for
losses and loss
adjustment expenses 89,380 291,236 227,587 362,696
(Decrease) increase in
future policy benefit
reserve (6,562) 5,015 (2,021) 27,990
Increase in unearned
premiums 107,840 23,137 275,855 128,492
(Increase) in other
assets and liabilities (35,559) (60,583) (112,151) (97,350)
Non cash compensation
expense 20 7 32 41
Accrual of bond
discount/amortization
of bond premium (1,701) (2,235) (5,769) (6,233)
Amortization of
underwriting discount
on senior notes 42 38 124 113
Realized capital losses 7,680 6,525 42,543 7,646
--------- --------- --------- ---------
Net cash provided by
operating activities 179,898 71,679 454,978 215,464
--------- --------- --------- ---------
CASH FLOWS FROM
INVESTING ACTIVITIES:
Proceeds from fixed
maturities matured/called
- available for sale 201,891 48,563 477,886 343,657
Proceeds from fixed
maturities sold
- available for sale 250,444 238,632 1,296,275 454,085
Proceeds from equity
securities sold - - 19,940 28,949
Proceeds from other
invested assets sold 3 261 3,268 284
Cost of fixed maturities
acquired -
available for sale (572,209) (305,450) (2,345,368) (1,147,188)
Cost of equity
securities acquired (83) (9,048) (9,381) (29,075)
Cost of other
invested assets acquired (9,413) (298) (12,889) (2,105)
Net (purchases) sales
of short-term securities (42,376) 63,593 (237,272) 219,692
Net (decrease) increase
in unsettled securities
transactions (9,232) (52,069) 59,566 20,757
--------- --------- --------- ---------
Net cash (used in)
investing activities (180,975) (15,816) (747,975) (110,944)
--------- --------- --------- ---------
CASH FLOWS FROM
FINANCING ACTIVITIES:
Common shares
issued during
the period 100 1,697 348,085 8,993
Dividends paid
to shareholders (4,069) (3,236) (12,276) (9,689)
Purchase of
treasury stock (22,895) - (22,895) -
Borrowing on revolving
credit agreement 25,000 - 45,000 22,000
Repayments on revolving
credit agreement (5,000) - (25,000) (123,000)
--------- --------- --------- ---------
Net cash (used in)
provided by financing
activities (6,864) (1,539) 332,914 (101,696)
--------- --------- --------- ---------
EFFECT OF EXCHANGE
RATE CHANGES ON CASH 3,236 7,270 8,431 68
--------- --------- --------- ---------
Net (decrease)
increase in cash (4,705) 61,594 48,348 2,892
Cash, beginning of
period 124,931 18,121 71,878 76,823
--------- --------- --------- ---------
Cash, end of period $ 120,226 $ 79,715 $ 120,226 $ 79,715
========= ========= ========= =========
SUPPLEMENTAL CASH
FLOW INFORMATION
Cash transactions:
Income taxes paid, net $ 12,806 $ 47 $ 6,213 $ 54,564
Interest paid $ 20,291 $ 20,621 $ 41,461 $ 45,278
Non-cash financing
transaction:
Issuance of common shares $ 20 $ 7 $ 32 $ 41
The accompanying notes are an intergral part of the consolidated financial
statements.
6
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
1. GENERAL
As used in this document, "Group" means Everest Re Group, Ltd., "Holdings" means
Everest Reinsurance Holdings, Inc., "Everest Re" means Everest Reinsurance
Company and the "Company" means Everest Re Group, Ltd. and its subsidiaries.
The consolidated financial statements of the Company for the three and nine
months ended September 30, 2002 and 2001 include all adjustments, consisting of
normal recurring accruals, which, in the opinion of management, are necessary
for a fair presentation of the results on an interim basis. Certain financial
information, which is normally included in annual financial statements prepared
in accordance with generally accepted accounting principles in the United States
of America, has been omitted since it is not required for interim reporting
purposes. The year-end consolidated balance sheet data was derived from audited
financial statements, but does not include all disclosures required by generally
accepted accounting principles in the United States of America. The results for
the three and nine months ended September 30, 2002 and 2001 are not necessarily
indicative of the results for a full year. These financial statements should be
read in conjunction with the audited consolidated financial statements and notes
thereto for the years ended December 31, 2001, 2000 and 1999 included in the
Company's most recent Form 10-K filing.
2. UNIVERSAL SHELF REGISTRATION STATEMENT
On July 30, 2002, the Company filed a shelf registration statement on Form S-3
with the Securities and Exchange Commission, which provides for the issuance of
up to $475.0 million of securities. Generally, under this shelf registration
statement, Group may issue common shares, preferred shares, debt, warrants and
hybrid securities, Holdings may issue debt securities and warrants and Everest
Re Capital Trust may issue trust preferred securities. This shelf registration
statement became effective on September 26, 2002 and has replaced the existing
common equity shelf registration statement of the Company.
3. SECONDARY COMMON SHARE ISSUANCE
On November 7, 2001, the Company filed a shelf registration statement on Form
S-3 with the Securities and Exchange Commission, which provided for the issuance
of up to $575 million of common equity. On February 27, 2002, pursuant to this
registration statement, the Company completed a secondary offering of 5,000,000
of its common shares at a price of $69.25 per share, which resulted in $346.3
million of proceeds, before expense of approximately $0.5 million, related to
the offering. The Company has used the net proceeds for working capital and
general corporate purposes. The remaining amount available under this shelf
registration statement as of September 30, 2002 was $228.7 million. On October
2, 2002, the Company filed a Post-Effective Amendment to this registration
statement that removed the remaining securities from registration.
7
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
4. EARNINGS PER SHARE
Net income per common share has been computed as follows:
(shares and dollar amounts in thousands
except per share amounts)
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
---------------------------------------------------------------
Net income (loss) $ 61,270 ($ 43,765) $ 175,738 $ 63,656
===============================================================
Weighted average common and effect of
dilutive shares used in the computation
of net income per share:
Average shares outstanding -
basic 50,977 46,228 50,139 46,143
Effect of dilutive shares 650 869 835 921
---------------------------------------------------------------
Average shares outstanding -
diluted 51,627 47,097 50,974 47,064
Weighted average common equivalent shares
when anti-dilutive 50,977 46,228 50,139 46,143
Net income (loss) per common share:
Basic $ 1.20 ($ 0.95) $ 3.51 $ 1.38
Diluted $ 1.19 ($ 0.95) $ 3.45 $ 1.35
On a pro-forma basis, net income per common share on a fully diluted basis,
excluding the anti-dilutive effect, which arises from a net loss, was ($0.93)
for the three months ended September 30, 2001.
Options to purchase 694,000 shares of common stock and 222,000 shares of common
stock were outstanding for the three months and nine months ended September 30,
2002, respectively, but were not included in the computation of diluted earnings
per share for the three and nine month periods ended on such dates, because the
options' exercise price was greater than the average market price of the common
shares during the period. As of September 30, 2001, all outstanding options to
purchase common shares were included in the computation of diluted earnings per
share for the three and nine month periods ended on such dates, because the
average market price of the common shares was greater than the exercise price of
the options during these periods.
8
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
On May 22, 2002, shareholders of the Company approved the 2002 Stock Incentive
Plan ("The 2002 Plan"), which replaces the 1995 stock incentive plan for key
employees ("The 1995 Employee Plan"). The 2002 Plan provides for a maximum of
4,000,000 shares of common stock to be awarded to employees of the Company. With
the adoption of The 2002 Plan, no further awards will be granted under The 1995
Employee Plan.
During the three months ended September 30, 2002, the Company adopted
prospectively Financial Accounting Standards Board ("FASB") FAS No. 123, as
amended, "Accounting for Stock-Based Compensation - Transition and Disclosure".
The pre-tax impact of adopting this standard on the Company's statement of
operations for the three and nine months ended September 30, 2002 was $37,047 or
$0.00 per diluted share.
5. CONTINGENCIES
The Company continues to receive claims under expired contracts which assert
alleged injuries and/or damages relating to or resulting from toxic torts, toxic
waste and other hazardous substances, such as asbestos. The Company's asbestos
claims typically involve potential liability for bodily injury from exposure to
asbestos or for property damage resulting from asbestos or products containing
asbestos. The Company's environmental claims typically involve potential
liability for (a) the mitigation or remediation of environmental contamination
or (b) bodily injury or property damages caused by the release of hazardous
substances into the land, air or water.
The Company's reserves include an estimate of the Company's ultimate liability
for asbestos and environmental claims for which ultimate value cannot be
estimated using traditional reserving techniques. There are significant
uncertainties in estimating the amount of the Company's potential losses from
asbestos and environmental claims. Among the complications are: (a) potentially
long waiting periods between exposure and manifestation of any bodily injury or
property damage; (b) difficulty in identifying sources of asbestos or
environmental contamination; (c) difficulty in properly allocating
responsibility and/or liability for asbestos or environmental damage; (d)
changes in underlying laws and judicial interpretation of those laws; (e)
potential for an asbestos or environmental claim to involve many insurance
providers over many policy periods; (f) long reporting delays, both from
insureds to insurance companies and ceding companies to reinsurers; (g)
historical data on asbestos and environmental losses, which is more limited and
variable than historical information on other types of casualty claims; (h)
questions concerning interpretation and application of insurance and reinsurance
coverage; and (i) uncertainty regarding the number and identity of insureds with
potential asbestos or environmental exposure.
9
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
With respect to asbestos claims in particular, several additional factors have
emerged fairly recently that further compound the difficulty in estimating the
Company's liability. These developments include: (a) continued growth in the
number of claims filed, in part reflecting a much more aggressive plaintiff bar;
(b) a disproportional percentage of claims filed by individuals with no
functional injury from asbestos, claims with little to no financial value but
that have increasingly been considered in jury verdicts and settlements; (c) the
growth in the number and significance of bankruptcy filings by companies as a
result of asbestos claims; (d) the growth in claim filings against defendants
formerly regarded as "peripheral"; (e) the concentration of claims in a small
number of states that favor plaintiffs; (f) the growth in the number of claims
that might impact the general liability portion of insurance policies rather
than the product liability portion; (g) responses in which specific courts have
adopted measures to ameliorate the worst procedural abuses; and (h) the
potential that the U. S. Congress may consider legislation to address the
asbestos litigation issue.
Management believes that these factors continue to render reserves for asbestos
and environmental losses significantly less subject to traditional actuarial
methods than are reserves on other types of losses. Given these uncertainties,
management believes that no meaningful range for such ultimate losses can be
established. The Company establishes reserves to the extent that, in the
judgement of management, the facts and prevailing law reflect an exposure for
the Company or its ceding companies. In connection with the acquisition of Mt.
McKinley Insurance Company ("Mt. McKinley"), which has significant exposure to
asbestos and environmental claims, Prudential Property and Casualty Insurance
Company ("Prupac"), a subsidiary of The Prudential Insurance Company of America
"(The Prudential"), provided reinsurance to Mt. McKinley covering 80% ($160.0
million) of the first $200.0 million of any adverse development of Mt.
McKinley's reserves as of September 19, 2000 and The Prudential guaranteed
Prupac's obligations to Mt. McKinley. Through September 30, 2002, cessions under
this reinsurance agreement have reduced the available remaining limits to $126.4
million net of coinsurance. Due to the uncertainties discussed above, the
ultimate losses may vary materially from current loss reserves and, depending on
coverage under the Company's various reinsurance arrangements, could have a
material adverse effect on the Company's future financial condition, results of
operations and cash flows.
10
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
The following table shows the development of prior year asbestos and
environmental reserves on both a gross and net of retrocessional basis for the
three and nine months ended September 30, 2002 and 2001:
(dollar amounts in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
------------------------------------------------------------------
Gross basis:
Beginning of period reserves $ 639,102 $ 673,927 $ 644,390 $ 693,704
Incurred losses - 12,563 30,000 29,673
Paid losses (22,148) (18,830) (57,436) (55,717)
-------------------------------------------------------------------
End of period reserves $ 616,954 $ 667,660 $ 616,954 $ 667,660
===================================================================
Net basis:
Beginning of period reserves $ 544,199 $ 606,496 $ 568,592 $ 628,535
Incurred losses - 2,218 7,309 4,921
Paid losses (21,937) (17,230) (53,639) (41,972)
-------------------------------------------------------------------
End of period reserves $ 522,262 $ 591,484 $ 522,262 $ 591,484
===================================================================
At September 30, 2002, the gross reserves for asbestos and environmental losses
were comprised of $107.9 million representing case reserves reported by ceding
companies, $49.6 million representing additional case reserves established by
the Company on assumed reinsurance claims, $165.5 million representing case
reserves established by the Company on direct excess insurance claims, including
Mt. McKinley, and $294.0 million representing incurred but not reported ("IBNR")
reserves.
In the ordinary course of business, the Company is involved in lawsuits,
arbitrations and other formal and informal dispute resolution procedures, the
outcomes of which will determine the Company's rights and obligations under
insurance and reinsurance agreements and other more general contracts. In some
disputes, the Company seeks to enforce its rights under an agreement or to
collect funds owing to it. In other matters, the Company is resisting attempts
by others to collect funds or enforce alleged rights. Such disputes are resolved
through formal and informal means, including litigation and arbitration.
In all such matters, the Company believes that its positions are legally and
commercially reasonable. The Company also regularly evaluates those positions
including, where appropriate, consideration during the processes by which it
establishes it insurance reserves. The Company's aggregate reserves take into
account the possibility that the Company may not ultimately prevail in each and
every disputed matter. The Company believes its aggregate reserves reduce the
potential that an adverse resolution of one or more of these matters, at any
point in time, would have a material impact on the Company's financial condition
11
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
or results of operations. However, there can be no assurances that adverse
resolutions of such matters in any one period or in the aggregate will not
result in a material impact.
The Company does not believe that there are any other material pending legal
proceedings to which it or any of its subsidiaries or their properties are
subject.
The Prudential sells annuities which are purchased by property and casualty
insurance companies to settle certain types of claim liabilities. In 1993 and
prior years, the Company, for a fee, accepted the claim payment obligation of
these property and casualty insurers, and, concurrently, became the owner of the
annuity or assignee of the annuity proceeds. In these circumstances, the Company
would be liable if The Prudential were unable to make the annuity payments. The
estimated cost to replace all such annuities for which the Company was
contingently liable at September 30, 2002 was $149.6 million.
The Company has purchased annuities from an unaffiliated life insurance company
with an A+ (Superior) rating from A.M. Best to settle certain claim liabilities
of the Company. Should the life insurance company become unable to make the
annuity payments, the Company would be liable for those claim liabilities. The
estimated cost to replace such annuities at September 30, 2002 was $14.5
million.
6. OTHER COMPREHENSIVE INCOME
The Company's other comprehensive income is comprised as follows:
(dollar amounts in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
----------------------------------------------------------------
Net unrealized appreciation of
investments, net of deferred
income taxes $ 118,502 $ 58,549 $ 87,559 $ 75,686
Currency translation adjustments, net
of deferred income taxes
(784) (992) 1,361 (1,783)
----------------------------------------------------------------
Other comprehensive income, net of
deferred income taxes $ 117,718 $ 57,557 $ 88,920 $ 73,903
================================================================
7. CREDIT LINE
On December 21, 1999, Holdings entered into a three-year senior revolving credit
facility with a syndicate of lenders (the "Credit Facility"). First Union
National Bank is the administrative agent for the Credit Facility. The Credit
Facility is used for liquidity and general corporate purposes. The Credit
Facility provides for the borrowing of up to $150.0 million with interest at
12
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
a rate selected by the Company equal to either (i) the Base Rate (as defined
below) or (ii) an adjusted London InterBank Offered Rate ("LIBOR") plus a
margin. The Base Rate is the higher of the rate of interest established by First
Union National Bank from time to time as its prime rate or the Federal Funds
rate plus 0.5% per annum. On December 18, 2000, the Credit Facility was amended
to extend the borrowing limit to $235.0 million for a period of 120 days. This
120-day period expired during the three months ended March 31, 2001, after which
the limit reverted to $150.0 million. The amount of margin and the fees payable
for the Credit Facility depend upon Holdings' senior unsecured debt rating.
Group has guaranteed Holdings' obligations under the Credit Facility.
The Credit Facility requires Group to maintain a debt to capital ratio of not
greater than 0.35 to 1, Holdings to maintain a minimum interest coverage ratio
of 2.5 to 1 and Everest Re to maintain its statutory surplus at $850.0 million
plus 25% of aggregate net income and 25% of aggregate capital contributions. As
of September 30, 2002, the Company was in compliance with these covenants.
During the three and nine months ended September 30, 2002, Holdings made
payments on the Credit Facility of $5.0 million and $25.0 million, respectively,
compared to $0.0 million and $123.0 million during the three and nine months
ended September 30, 2001. During the three and nine months ended September 30,
2002, Holdings had new Credit Facility borrowings of $25.0 million and $45.0
million, respectively, compared to $0.0 million and $22.0 million during the
three and nine months ended September 30, 2001. As of September 30, 2002 and
2001, Holdings had outstanding Credit Facility borrowings of $125.0 million and
$134.0 million, respectively. Interest expense incurred in connection with these
borrowings was $1.0 million and $1.6 million for the three months ended
September 30, 2002 and 2001, respectively, and $2.7 million and $6.1 million for
the nine months ended September 30, 2002 and 2001, respectively.
8. SENIOR NOTES
During the first quarter of 2000, Holdings completed a public offering of $200.0
million principal amount of 8.75% senior notes due March 15, 2010 and $250.0
million principal amount of 8.5% senior notes due March 15, 2005.
Interest expense incurred in connection with these senior notes was $9.7 million
for the three months ended September 30, 2002 and 2001, and $29.2 million for
the nine months ended September 30, 2002 and 2001.
9. Segment Reporting
The Company, through its subsidiaries, operates in five segments: U.S.
Reinsurance, U.S. Insurance, Specialty Reinsurance, International Reinsurance
and Bermuda. The U.S. Reinsurance operation writes property and casualty treaty
reinsurance through reinsurance brokers as well as directly with ceding
companies within the United States, in addition to property, casualty and
specialty facultative reinsurance through brokers and directly with ceding
companies within the United States. The U.S. Insurance operation writes property
13
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
and casualty insurance primarily through general agent relationships and surplus
lines brokers within the United States. The Specialty Reinsurance operation
writes accident and health, marine, aviation and surety business within the
United States and worldwide through brokers and directly with ceding companies.
The International Reinsurance operation writes property and casualty reinsurance
through the Company's branches in London, Canada and Singapore, in addition to
foreign "home-office" business. The Bermuda operation writes property, casualty,
life and annuity business through brokers and directly with ceding companies.
The non-Bermuda segments are managed in a carefully coordinated fashion with
strong elements of central control, including with respect to capital,
investments and support operations. The Bermuda segment is managed independently
with strong alignment with respect to capital, investment and support operation
strategies. As a result, management monitors and evaluates the financial
performance of all of the Company's operating segments principally based upon
their underwriting gain or loss ("underwriting results"). The Company utilizes
inter-affiliate reinsurance and such reinsurance does not impact segment results
as business is reported in the unit responsible for the business as initially
written with third parties, generally within the segment in which the business
was first produced. Underwriting results include earned premium less incurred
loss and loss adjustment expenses, commission and brokerage expenses and other
underwriting expenses.
The following tables present the relevant underwriting results for the operating
segments for the three and nine months ended September 30, 2002 and 2001, with
all dollar values presented in thousands.
U.S. REINSURANCE
- --------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
----------------------------------------------------------
Earned premiums $ 179,173 $ 90,961 $ 496,359 $ 338,625
Incurred losses and loss adjustment
expenses 127,953 168,479 348,009 351,871
Commission and brokerage 39,571 42,592 122,705 106,444
Other underwriting expenses 5,058 4,049 13,701 11,383
----------------------------------------------------------
Underwriting gain (loss) $ 6,591 ($ 124,159) $ 11,944 ($ 131,073)
==========================================================
14
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
U.S. INSURANCE
- --------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
----------------------------------------------------------
Earned premiums $ 151,487 $ 82,901 $ 394,119 $ 203,399
Incurred losses and loss adjustment
expenses 110,500 58,919 290,456 145,183
Commission and brokerage 33,763 18,751 84,956 46,279
Other underwriting expenses 5,862 4,919 16,527 12,836
----------------------------------------------------------
Underwriting gain (loss) $ 1,362 $ 312 $ 2,180 ($ 899)
==========================================================
SPECIALTY REINSURANCE
- --------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
----------------------------------------------------------
Earned premiums $ 100,683 $ 103,242 $ 331,332 $ 296,050
Incurred losses and loss adjustment
expenses 78,723 90,027 253,402 238,123
Commission and brokerage 26,682 28,778 93,428 76,343
Other underwriting expenses 1,584 1,350 4,476 4,300
----------------------------------------------------------
Underwriting (loss) ($ 6,306) ($ 16,913) ($ 19,974) ($ 22,716)
==========================================================
INTERNATIONAL REINSURANCE
- --------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
----------------------------------------------------------
Earned premiums $ 114,173 $ 65,917 $ 309,945 $ 222,321
Incurred losses and loss adjustment
expenses 67,217 41,064 190,779 154,300
Commission and brokerage 26,092 19,310 63,585 59,044
Other underwriting expenses 3,053 3,960 9,374 10,573
----------------------------------------------------------
Underwriting gain (loss) $ 17,811 $ 1,583 $ 46,207 ($ 1,596)
==========================================================
15
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
BERMUDA
- --------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
----------------------------------------------------------
Earned premiums $ 10,084 $ 4,208 $ 17,383 $ 8,124
Incurred losses and loss adjustment
expenses 7,689 6,576 15,119 10,661
Commission and brokerage 1,848 263 4,611 663
Other underwriting expenses 795 357 1,622 1,098
----------------------------------------------------------
Underwriting (loss) ($ 248) ($ 2,988) ($ 3,969) ($ 4,298)
==========================================================
The following table reconciles the underwriting results for the operating
segments to income before tax as reported in the consolidated statements of
operations and comprehensive income, with all dollar values presented in
thousands:
-------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
-------------------------------------------------------------------
Underwriting gain (loss) $ 19,210 ($ 142,165) $ 36,388 ($ 160,582)
Net investment income 86,412 83,993 262,782 257,243
Realized (loss) (7,680) (6,525) (42,543) (7,646)
Net derivative (expense) (12,466) (800) (17,606) (1,484)
Corporate expenses (947) (611) (2,448) (2,651)
Interest expense (10,696) (11,300) (31,914) (35,266)
Other income (expense) 1,136 (1,309) (435) 679
-------------------------------------------------------------------
Income before taxes $ 74,969 ($ 78,717) $ 204,224 $ 50,293
===================================================================
The Company writes premium in the United States, Bermuda and international
markets. The revenues, net income and identifiable assets of the individual
foreign countries in which the Company writes business are not material to the
Company's financial condition, results of operations and cash flows.
10. DERIVATIVES
The Company has in its product portfolio three credit default swaps, which it no
longer offers, and five specialized equity put options. These products meet the
definition of a derivative under Statement of Financial Accounting Standards No.
133, "Accounting for Derivative Instruments and Hedging Activities" ("FAS 133").
The Company's position in these contracts is unhedged and is accounted for as a
derivative in accordance with FAS 133. Accordingly, these contracts are carried
at fair value with changes in fair value recorded in the statement of
operations.
16
EVEREST RE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(continued)
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
11. NEW ACCOUNTING PRONOUNCEMENT
In June 2001, the FASB issued FAS 142, "Goodwill and Other Intangible Assets".
FAS 142 established new accounting and reporting standards for acquired goodwill
and other intangible assets. It requires that an entity determine if other
intangible assets have an indefinite useful life or a finite useful life.
Goodwill and those intangible assets with indefinite useful lives are not
subject to amortization and must be tested at least annually for impairment.
Those with finite useful lives are subject to amortization and must be tested
annually for impairment. This statement is effective for all fiscal quarters of
all fiscal years beginning after December 15, 2001. The Company adopted FAS 142
on January 1, 2002. The implementation of this statement has not had a material
impact on the financial position, results of operations or cash flows of the
Company.
12. RELATED-PARTY TRANSACTIONS
During the normal course of business, the Company, through its affiliates,
engages in what management believes to be arm's-length reinsurance and brokerage
and commission business transactions with companies controlled by or affiliated
with one of its outside directors. Such transactions, individually and in the
aggregate, are immaterial to the Company's financial condition, results of
operations and cash flows.
17
PART I - ITEM 2
EVEREST RE GROUP, LTD.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
INDUSTRY CONDITIONS
The worldwide reinsurance and insurance businesses are highly competitive yet
cyclical by product and market. The terrorist attacks on September 11, 2001 (the
"September 11 attacks") resulted in losses which reduced industry capacity and
were of sufficient magnitude to cause most individual companies to reassess
their capital position, tolerance for risk, exposure control mechanisms and the
pricing terms and conditions at which they are willing to take on risk. The
gradual and variable improving trend that had been apparent through 2000 and
earlier in 2001 firmed significantly. This firming generally took the form of
immediate and significant upward pressure on prices, more restrictive terms and
conditions and a reduction of coverage limits and capacity availability. Such
pressures were widespread with variability depending on the product and markets
involved, but mainly depending on the characteristics of the underlying risk
exposures. The magnitude of the changes was sufficient to create temporary
disequilibrium in some markets as individual buyers and sellers adapted to
changes in both their internal and market dynamics.
Thus far in 2002, our markets, and reinsurance and insurance markets in general,
have continued to firm. This firming reflects the continuing implications of
losses arising from the September 11 attacks as well as aggregate company
reactions to broad and growing recognition that competition in the late 1990's
reached extremes in many classes and markets, which ultimately led to inadequate
pricing and overly broad terms, conditions and coverages. The effect of these
extremes, which is only now becoming apparent through excessive loss emergence,
varies widely by company depending on product offerings, markets accessed,
underwriting and operating practices, competitive strategies and business
volumes. Across all market participants, however, the aggregate effect has been
impaired financial results and erosion of the industry capital base. Coupled
with deteriorating investment market conditions and results, and renewed
concerns regarding longer term industry specific issues, including asbestos
exposure and sub-par capital returns, these financial impacts have introduced
substantial, and in some cases extreme, pressure for the initiation and/or
strengthening of corrective action by individual market participants. These
pressures, aggregating across industry participants, have resulted in firming
prices, terms and conditions and tightened coverage availability across most
classes and markets.
These changes reflect a clear reversal of the general trend from 1987 through
1999 toward increasingly competitive global market conditions across most lines
of business as reflected by decreasing prices and broadening contract terms. The
earlier trend resulted from a number of factors, including the emergence of
significant reinsurance capacity in Bermuda, changes in the Lloyds market,
consolidation and increased capital levels in the insurance and reinsurance
industries, as well as the emergence of new reinsurance and financial products
addressing traditional exposures in alternative fashions. Many of these factors
18
continue to exist and may take on additional importance as the result of the
firming conditions which have emerged. As a result, although the Company is
encouraged by the recent improvements, and more generally, current market
conditions, the Company cannot predict with any reasonable certainty whether and
to what extent these improvements will persist.
SEGMENT INFORMATION
The Company, through its subsidiaries, operates in five segments: U.S.
Reinsurance, U.S. Insurance, Specialty Reinsurance, International Reinsurance
and Bermuda. The U.S. Reinsurance operation writes property and casualty treaty
reinsurance through reinsurance brokers as well as directly with ceding
companies within the United States, in addition to property, casualty and
specialty facultative reinsurance through brokers and directly with ceding
companies within the United States. The U.S. Insurance operation writes property
and casualty insurance primarily through general agent relationships and surplus
lines brokers within the United States. The Specialty Reinsurance operation
writes accident and health ("A&H"), marine, aviation and surety business within
the United States and worldwide through brokers and directly with ceding
companies. The International Reinsurance operation writes property and casualty
reinsurance through the Company's branches in London, Canada and Singapore, in
addition to foreign "home-office" business. The Bermuda operation writes
property, casualty, life and annuity business through brokers and directly with
ceding companies.
The non-Bermuda segments are managed in a carefully coordinated fashion with
strong elements of central control, including with respect to capital,
investments and support operations. The Bermuda segment is managed independently
with strong alignment with respect to capital, investment and support operation
strategies. As a result, management monitors and evaluates the financial
performance of all of the Company's operating segments principally based upon
their underwriting results. The Company utilizes inter-affiliate reinsurance and
such reinsurance does not impact segment results as business is reported in the
unit responsible for the business as initially written with third parties,
generally within the segment in which the business was first produced.
THREE MONTHS ENDED SEPTEMBER 30, 2002 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 2001
PREMIUMS. Gross premiums written increased 41.1% to $708.0 million in the three
months ended September 30, 2002 from $501.9 million in the three months ended
September 30, 2001 as the Company took advantage of selected growth
opportunities, while continuing to maintain a disciplined underwriting approach.
Premium growth areas included a 65.2% ($100.2 million) increase in the U.S.
Reinsurance operation principally attributable to growth across property and
casualty lines, a 56.4% ($47.0 million) increase in the International
Reinsurance operation, mainly attributable to growth in the London, Canada and
Latin American markets, a 41.6% ($57.7 million) increase in the U.S. Insurance
operation, principally attributable to growth in workers' compensation insurance
and a 13.7% ($2.2 million) increase in the Bermuda operation. These increases
were partially offset by a 1.0% ($1.1 million) decrease in the Specialty
Reinsurance operation. The Company continued to decline business that did not
meet its objectives regarding underwriting profitability.
Ceded premiums decreased to $47.3 million in the three months ended September
30, 2002 from $123.1 million in the three months ended September 30, 2001. This
19
decrease was principally attributable to a decrease in cessions made under the
Company's corporate retrocessional program and by a decrease in ceded premiums
in the U.S. Insurance operation as a result of changes in this segment's
specific reinsurance programs. Ceded premiums for the three months ended
September 30, 2002 included $4.5 million and $11.9 million in adjustment
premiums relating to claims made under the 2001 and 2000 accident year aggregate
excess of loss elements of the Company's corporate retrocessional programs,
respectively. Ceded premiums for the three months ended September 30, 2001
included $59.9 million and $10.9 million in adjustment premiums relating to
claims made under the 2001 and 1999 accident year aggregate excess of loss
element of the Company's corporate retrocessional programs, respectively, with
the 2001 accident year cessions relating to losses incurred as a result of the
September 11 attacks.
Net premiums written increased by 74.4% to $660.6 million in the three months
ended September 30, 2002 from $378.8 million in the three months ended September
30, 2001. This increase reflects the increase in gross premiums written together
with the decrease in ceded premiums.
PREMIUM REVENUES. Net premiums earned increased by 60.0% to $555.6 million in
the three months ended September 30, 2002 from $347.2 million in the three
months ended September 30, 2001. Contributing to this increase was a 139.6%
($5.9 million) increase in the Bermuda operation, a 97.0% ($88.2 million)
increase in the U.S. Reinsurance operation, a 82.7% ($68.6 million) increase in
the U.S. Insurance operation and a 73.2% ($48.3 million) increase in the
International Reinsurance operation. These increases were partially offset by a
2.5% ($2.6 million) decrease in the Specialty Reinsurance operation. All of
these changes reflect period to period changes in net written premiums and
business mix together with normal variability in earnings patterns. Business mix
changes occur not only as the Company shifts emphasis between products, lines of
business, distribution channels and markets but also as individual contracts
renew or non-renew, almost always with changes in coverage, structure, prices
and/or terms, and as new contracts are accepted with coverages, structures,
prices and/or terms different from those of expiring contracts. As premium
reporting and earnings and loss and commission characteristics derive from the
provisions of individual contracts, the continuous turnover of individual
contracts, arising from both strategic shifts and day to day underwriting, can
and does introduce appreciable background variability in various underwriting
line items.
EXPENSES. Incurred loss and loss adjustment expenses ("LAE") increased by 7.4%
to $392.1 million in the three months ended September 30, 2002 from $365.1
million in the three months ended September 30, 2001. The increase in incurred
losses and LAE was principally attributable to the increase in net premiums
earned, partially offset by a decrease in catastrophe losses and also reflects
the impact of changes in the Company's mix of business. Incurred losses and LAE
include catastrophe losses, which include the impact of both current period
events and favorable and unfavorable development on prior period events, and are
net of reinsurance. A catastrophe is an event that causes a pre-tax loss on
property exposures of at least $5.0 million and has an event date of January 1,
1988 or later. Catastrophe losses, net of contract specific cessions but before
cessions under the corporate retrocessional program, were $10.2 million in the
three months ended September 30, 2002, principally relating to European flood
losses, compared to net catastrophe losses of $192.8 million in the three months
ended September 30, 2001, which was principally related to the September 11
attacks. Incurred losses and LAE for the three months ended September 30, 2002
reflected ceded losses and LAE of $71.6 million compared to ceded losses and LAE
in the three months ended September 30, 2001 of $225.5 million. The ceded losses
and LAE for the three months ended September 30, 2002 included $9.6 million and
20
$22.0 million of losses ceded under the 2001 and 2000 accident year aggregate
excess of loss component of the Company's corporate retrocessional program,
respectively. The ceded losses and LAE for the three months ended September 30,
2001 included $130.0 million and $20.0 million of losses ceded under the 2001
and 1999 accident year aggregate excess of loss component of the Company's
corporate retrocessional program, respectively, with the 2001 accident year
cessions relating to losses incurred as the result of the September 11 attacks.
Contributing to the increase in incurred losses and LAE in the three months
ended September 30, 2002 from the three months ended September 30, 2001 were an
87.6% ($51.6 million) increase in the U.S. Insurance operation principally
reflecting increased premium volume coupled with changes in this segment's
specific reinsurance programs, a 63.7% ($26.2 million) increase in the
International operation reflecting increased premium volume, partially offset by
lower catastrophe losses and a 16.9% ($1.1 million) increase in the Bermuda
operation. These increases were partially offset by a 24.1% ($40.5 million)
decrease in the U.S. Reinsurance operation, principally reflecting lower
catastrophe losses, partially offset by increased premium volume, and a 12.6%
($11.3 million) decrease in the Specialty Reinsurance operation, principally
reflecting lower catastrophe losses. Incurred losses and LAE for each operation
were also impacted by variability relating to changes in the level of premium
volume and mix of business by class and type.
The Company's loss and LAE ratio ("loss ratio"), which is calculated by dividing
incurred losses and LAE by premiums earned, decreased by 34.5 percentage points
to 70.6% in the three months ended September 30, 2002 from 105.1% in the three
months ended September 30, 2001 reflecting the incurred losses and LAE discussed
above. The following table shows the loss ratios for each of the Company's
operating segments for the three months ended September 30, 2002 and 2001. The
loss ratios for all operations were impacted by the factors noted above.
Operating Segment Loss Ratios
- -------------------------------------------------------------------------------------
Segment 2002 2001
- -------------------------------------------------------------------------------------
U.S. Reinsurance 71.4% 185.2%
U.S. Insurance 72.9% 71.1%
Specialty Reinsurance 78.2% 87.2%
International Reinsurance 58.9% 62.3%
Bermuda 76.2% 156.3%
Underwriting expenses increased by 16.3% to $145.3 million in the three months
ended September 30, 2002 from $124.9 million in the three months ended September
30, 2001. Commission, brokerage, taxes and fees increased by $18.3 million,
principally reflecting increases in premium volume and changes in the mix of
business. Other underwriting expenses increased by $2.1 million as the Company
expanded operations to support its increased business volume. Contributing to
these underwriting expense increases were a 67.4% ($16.0 million) increase in
the U.S. Insurance operation, a 25.2% ($5.9 million) increase in the
International operation and a $2.0 million increase in the Bermuda operation.
These increases were partially offset by a 6.2% ($1.9 million) decrease in the
Specialty Reinsurance operation, and a 4.3% ($2.0 million) decrease in the U.S.
Reinsurance operation. The changes for each operation's expenses principally
resulted from changes in commission expenses related to changes in premium
volume and business mix by class and type and, in some cases, changes in the use
of specific reinsurance and the underwriting performance of the underlying
business. The Company's expense ratio, which is calculated by dividing
21
underwriting expenses by premiums earned, was 26.1% for the three months ended
September 30, 2002 compared to 36.0% for the three months ended September 30,
2001.
The Company's combined ratio, which is the sum of the loss and expense ratios,
decreased by 44.4 percentage points to 96.7% in the three months ended September
30, 2002 compared to 141.1% in the three months ended September 30, 2001. The
following table shows the combined ratios for each of the Company's operating
segments for the three months ended September 30, 2002 and 2001. The combined
ratios for all operations were impacted by the loss and expense ratio
variability noted above, and for certain operations, by the impact of adjustment
premiums ceded under the accident year aggregate excess of loss element of the
Company's retrocessional program, principally relating to losses incurred as the
result of the September 11 attacks.
Operating Segment Combined Ratios
- -------------------------------------------------------------------------------------
Segment 2002 2001
- -------------------------------------------------------------------------------------
U.S. Reinsurance 96.3% 236.5%
U.S. Insurance 99.1% 99.6%
Specialty Reinsurance 106.3% 116.4%
International Reinsurance 84.4% 97.6%
Bermuda 102.5% 171.0%
INVESTMENT RESULTS. Net investment income increased 2.9% to $86.4 million in the
three months ended September 30, 2002 from $84.0 million in the three months
ended September 30, 2001, principally reflecting the effects of investing the
$645.5 million of cash flow from operations in the twelve months ended September
30, 2002, and $345.8 million of net proceeds from a secondary stock offering in
February 2002, partially offset by the effects of the lower interest rate
environment. The following table shows a comparison of various investment yields
as of September 30, 2002 and December 31, 2001, respectively, and for the
periods ended September 30, 2002 and 2001, respectively.
2002 2001
-----------------------
Imbedded pre-tax yield of cash and invested
assets at September 30, 2002 and December 31, 2001 5.6% 6.0%
Imbedded after-tax yield of cash and invested
assets at September 30, 2002 and December 31, 2001 4.7% 5.0%
Annualized pre-tax yield on average cash and
invested assets for the three months ended September 30,
2002 and 2001 5.4% 6.1%
Annualized after-tax yield on average cash and
invested assets for the three months ended September 30,
2002 and 2001 4.5% 5.1%
Net realized capital losses were $7.7 million in the three months ended
September 30, 2002, reflecting realized capital losses on the Company's
investments of $26.9 million, which included $15.1 million relating to
write-downs in the value of securities deemed to be impaired on an other than
temporary basis, partially offset by $19.2 million of realized capital gains,
compared to net realized capital losses of $6.5 million in the three months
ended September 30, 2001. The net realized capital losses in the three months
22
ended September 30, 2001 reflected realized capital losses of $13.1 million,
partially offset by $6.6 million of realized capital gains, which included $5.8
million relating to write-downs in the value of securities deemed to be impaired
on an other than temporary basis.
Interest expense for the three months ended September 30, 2002 was $10.7 million
compared to $11.3 million for the three months ended September 30, 2001.
Interest expense for the three months ended September 30, 2002 reflects $9.7
million relating to Holdings' issuance of senior notes and $1.0 million relating
to Holdings' borrowings under its revolving credit facility. Interest expense
for the three months ended September 30, 2001 reflects $9.7 million relating to
Holdings' issuance of senior notes and $1.6 million relating to Holdings'
borrowings under its revolving credit facility.
Other income for the three months ended September 30, 2002 was $1.1 million
compared to other expense of $1.3 million for the three months ended September
30, 2001. Significant contributors to other income for the three months ended
September 30, 2002 were foreign exchange gains and fee income, partially offset
by normal provision for uncollectible audit premium in the U.S. Insurance
operation and the amortization of deferred expenses relating to Holdings'
issuance of senior notes. Other expense for the three months ended September 30,
2001 principally included foreign exchange losses and the amortization of
deferred expenses relating to Holdings' issuance of senior notes, partially
offset by fee income. The foreign exchange gains and losses for both periods are
attributable to fluctuations in foreign currency exchange rates.
The Company has a small number of credit default swaps, which it no longer
offers, and specialized equity put options in its product portfolio. These
products meet the definition of a derivative under FAS 133. Net derivative
expense from these derivative transactions for the three months ended September
30, 2002, essentially reflecting changes in fair value, was $12.5 million,
relating to the specialized equity put options, compared to $0.8 million for the
three months ended September 30, 2001.
INCOME TAXES. The Company recognized income tax expense of $13.7 million in the
three months ended September 30, 2002 compared to a tax benefit of $35.0 million
in the three months ended September 30, 2001. The tax benefit in the three
months ended September 30, 2001 resulted primarily from the losses relating to
the September 11 attacks, for which the benefit was calculated based on the
specific impacts of the event.
NET INCOME. Net income was $61.3 million in the three months ended September 30,
2002 compared to a net loss of $43.8 million in the three months ended September
30, 2001. The net loss in the three months ended September 30, 2001 resulted
primarily from the losses relating to the September 11 attacks.
NINE MONTHS ENDED SEPTEMBER 30, 2002 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
2001
PREMIUMS. Gross premiums written increased 37.6% to $1,934.3 million in the nine
months ended September 30, 2002 from $1,405.6 million in the nine months ended
September 30, 2001 as the Company took advantage of selected growth
opportunities, while continuing to maintain a disciplined underwriting approach.
Premium growth areas included a 60.6% ($11.9 million) increase in the Bermuda
operation, a 58.0% ($226.4 million) increase in the U.S. Insurance
23
operation, principally attributable to growth in workers' compensation
insurance, a 41.5% ($102.7 million) increase in the International Reinsurance
operation, mainly attributable to growth in the London, Canada and Latin
American markets, a 34.5% ($151.3 million) increase in the U.S. Reinsurance
operation primarily reflecting growth across property and casualty lines, and an
11.8% ($36.5 million) increase in the Specialty Reinsurance operation,
principally attributable to growth in marine and aviation business. The Company
continued to decline business that did not meet its objectives regarding
underwriting profitability.
Ceded premiums decreased to $108.0 million in the nine months ended September
30, 2002 from $221.1 million in the nine months ended September 30, 2001. This
decrease was principally attributable to a decrease in cessions made under the
Company's corporate retrocessional program and by a decrease in ceded premiums
in the U.S. Insurance operation as a result of changes in this segment's
specific reinsurance programs. Ceded premiums for the nine months ended
September 30, 2002 included $5.1 million and $11.9 million in adjustment
premiums relating to claims made under the 2001 and 2000 accident year aggregate
excess of loss elements of the Company's corporate retrocessional programs,
respectively. Ceded premiums for the nine months ended September 30, 2001
included $59.9 million and $26.3 million in adjustment premiums relating to
claims made under the 2001 and 1999 accident year aggregate excess of loss
element of the Company's corporate retrocessional programs, respectively, with
the 2001 accident year cessions relating to losses incurred as a result of the
September 11 attacks.
Net premiums written increased by 54.2% to $1,826.3 million in the nine months
ended September 30, 2002 from $1,184.6 million in the nine months ended
September 30, 2001. This increase reflects the increase in gross premiums
written together with the decrease in ceded premiums.
PREMIUM REVENUES. Net premiums earned increased by 45.0% to $1,549.1 million in
the nine months ended September 30, 2002 from $1,068.5 million in the nine
months ended September 30, 2001. Contributing to this increase were a 114.0%
($9.3 million) increase in the Bermuda operation, a 93.8% ($190.7 million)
increase in the U.S. Insurance operation, a 46.6% ($157.7 million) increase in
the U.S. Reinsurance operation, a 39.4% ($87.6 million) increase in the
International Reinsurance operation and an 11.9% ($35.3 million) increase in the
Specialty Reinsurance operation. All of these changes reflect period to period
changes in net written premiums and business mix together with normal
variability in earnings patterns.
EXPENSES. Incurred loss and LAE increased by 22.0% to $1,097.8 million in the
nine months ended September 30, 2002 from $900.1 million in the nine months
ended September 30, 2001. The increase in incurred losses and LAE was
principally attributable to the increase in net premiums earned and lower
catastrophe losses and also reflects the impact of changes in the Company's mix
of business. Incurred losses and LAE include catastrophe losses, which include
the impact of both current period events, and favorable and unfavorable
development on prior period events and are net of reinsurance. A catastrophe is
an event that causes a pre-tax loss on property exposures of at least $5.0
million and has an event date of January 1, 1988 or later. Catastrophe losses,
net of contract specific cessions but before cessions under the corporate
retrocessional program, were $11.9 million in the nine months ended September
30, 2002, principally relating to European flood losses, compared to net
catastrophe losses of $222.1 million in the nine months ended September 30,
2001, which was principally related to the September 11 attacks. Incurred losses
and LAE for the nine months ended September 30, 2002 reflected ceded losses and
LAE of $144.5 million compared to ceded losses and LAE in the nine
24
months ended September 30, 2001 of $332.1 million. The ceded losses and LAE for
the nine months ended September 30, 2002 included $11.0 million and $22.0
million of losses ceded under the 2001 and 2000 accident year aggregate excess
of loss component of the Company's corporate retrocessional program,
respectively. The ceded losses and LAE for the nine months ended September 30,
2001 included $130.0 million and $49.0 million of losses ceded under the 2001
and 1999 accident year aggregate excess of loss component of the Company's
corporate retrocessional program, respectively, with the 2001 accident year
cessions relating to losses incurred as the result of the September 11 attacks.
Contributing to the increase in incurred losses and LAE in the nine months ended
September 30, 2002 from the nine months ended September 30, 2001 were a 100.1%
($145.3 million) increase in the U.S. Insurance operation principally reflecting
increased premium volume coupled with changes in this segment's specific
reinsurance programs, a 41.8% ($4.5 million) increase in the Bermuda operation,
a 23.6% ($36.5 million) increase in the International operation reflecting
increased premium volume, partially offset by lower catastrophe losses and a
6.4% ($15.3 million) increase in the Specialty Reinsurance operation,
principally attributable to increased premium volume, partially offset by lower
catastrophe losses. These increases were partially offset by a 1.1% ($3.9
million) decrease in the U.S. Reinsurance operation, principally attributable to
lower catastrophe losses, partially offset by increased premium volume. Incurred
losses and LAE for each operation were also impacted by variability relating to
changes in the level of premium volume and mix of business by class and type.
The Company's loss ratio decreased by 13.3 percentage points to 70.9% in the
nine months ended September 30, 2002 from 84.2% in the nine months ended
September 30, 2001 reflecting the incurred losses and LAE discussed above. The
following table shows the loss ratios for each of the Company's operating
segments for the nine months ended September 30, 2002 and 2001. The loss ratios
for all operations were impacted by the factors noted above.
Operating Segment Loss Ratios
- -------------------------------------------------------------------------------------------
Segment 2002 2001
- -------------------------------------------------------------------------------------------
U.S. Reinsurance 70.1% 103.9%
U.S. Insurance 73.7% 71.4%
Specialty Reinsurance 76.5% 80.4%
International Reinsurance 61.6% 69.4%
Bermuda 87.0% 131.2%
Underwriting expenses increased by 25.9% to $417.4 million in the nine months
ended September 30, 2002 from $331.6 million in the nine months ended September
30, 2001. Commission, brokerage, taxes and fees increased by $80.5 million,
principally reflecting increases in premium volume and changes in the mix of
business. Other underwriting expenses increased by $5.3 million as the Company
expanded its operations to support its increased business volume. Contributing
to these underwriting expense increases were a 71.7% ($42.4 million) increase in
the U.S. Insurance operation, a 21.4% ($17.3 million) increase in the Specialty
Reinsurance operation, a 15.8% ($18.6 million) increase in the U.S. Reinsurance
operation, a 4.8% ($3.3 million) increase in the International operation and a
$4.5 million increase in the Bermuda operation. The changes for each operation's
expenses principally resulted from changes in commission expenses related to
changes in premium volume and business mix by class and type and, in some cases,
25
changes in the use of specific reinsurance and the underwriting performance of
the underlying business. The Company's expense ratio was 26.9% for the nine
months ended September 30, 2002 compared to 31.0% for the nine months ended
September 30, 2001.
The Company's combined ratio decreased by 17.5 percentage points to 97.8% in the
nine months ended September 30, 2002 compared to 115.3% in the nine months ended
September 30, 2001. The following table shows the combined ratios for each of
the Company's operating segments for the nine months ended September 30, 2002
and 2001. The combined ratios for all operations were impacted by the loss and
expense ratio variability noted above, and for certain operations, by the impact
of adjustment premiums ceded under the accident year aggregate excess of loss
element of the Company's retrocessional program, principally relating to losses
incurred as the result of the September 11 attacks.
Operating Segment Combined Ratios
- -------------------------------------------------------------------------------------------
Segment 2002 2001
- -------------------------------------------------------------------------------------------
U.S. Reinsurance 97.6% 138.7%
U.S. Insurance 99.4% 100.4%
Specialty Reinsurance 106.0% 107.7%
International Reinsurance 85.1% 100.7%
Bermuda 122.8% 152.9%
INVESTMENT RESULTS. Net investment income increased 2.2% to $262.8 million in
the nine months ended September 30, 2002 from $257.2 million in the nine months
ended September 30, 2001, principally reflecting the effects of investing the
$645.5 million of cash flow from operations in the twelve months ended September
30, 2002, and $345.8 million of net proceeds from a secondary stock offering in
February 2002, partially offset by the effects of the lower interest rate
environment. The following table shows a comparison of various investment yields
as of September 30, 2002 and December 31, 2001, respectively, and for the
periods ended September 30, 2002 and 2001, respectively.
2002 2001
-----------------------
Imbedded pre-tax yield of cash and invested
assets at September 30, 2002 and December 31, 2001 5.6% 6.0%
Imbedded after-tax yield of cash and invested
assets at September 30, 2002 and December 31, 2001 4.7% 5.0%
Annualized pre-tax yield on average cash and
invested assets for the nine months ended September 30,
2002 and 2001 5.8% 6.3%
Annualized after-tax yield on average cash and
invested assets for the nine months ended September 30,
2002 and 2001 4.8% 5.1%
Net realized capital losses were $42.5 million in the nine months ended
September 30, 2002, reflecting realized capital losses on the Company's
investments of $102.3 million, which included $80.2 million relating to
write-downs in the value of securities deemed to be impaired on an other than
temporary basis, of which $33.0 million were for WorldCom, partially offset by
$59.8 million of realized capital gains, compared to net realized capital losses
26
of $7.6 million inthe nine months ended September 30, 2001. The net realized
capital losses in the nine months ended September 30, 2001 reflected realized
capital losses of $35.7 million, which included $22.6 million relating to
write-downs in the value of securities deemed to be impaired on an other than
temporary basis, partially offset by $28.1 million of realized capital gains.
Interest expense for the nine months ended September 30, 2002 was $31.9 million
compared to $35.3 million for the nine months ended September 30, 2001. Interest
expense for the nine months ended September 30, 2002 reflects $29.2 million
relating to Holdings' issuance of senior notes and $2.7 million relating to
Holdings' borrowings under its revolving credit facility. Interest expense for
the nine months ended September 30, 2001 reflects $29.2 million relating to
Holdings' issuance of senior notes and $6.1 million relating to Holdings'
borrowings under its revolving credit facility.
Other expense for the nine months ended September 30, 2002 was $0.4 million
compared to other income of $0.7 million for the nine months ended September 30,
2001. Significant contributors to other expense for the nine months ended
September 30, 2002 were foreign exchange losses, normal provision for
uncollectible audit premium in the U.S. Insurance operation and the amortization
of deferred expenses relating to Holdings' issuance of senior notes, partially
offset by fee income. Other income for the nine months ended September 30, 2001
principally included foreign exchange gains and fee income, partially offset by
the amortization of deferred expenses relating to Holdings' issuance of senior
notes. The foreign exchange gains and losses for both periods are attributable
to fluctuations in foreign currency exchange rates.
The Company has a small number of credit default swaps, which it no longer
offers, and specialized equity put options in its product portfolio. These
products meet the definition of a derivative under FAS 133. Net derivative
expense from these derivative transactions for the nine months ended September
30, 2002, essentially reflecting changes in fair value, was $17.6 million,
principally relating to the specialized equity put options, compared to $1.5
million for the nine months ended September 30, 2001, principally relating to
the credit default swaps. Net after tax exposure remaining on the credit default
agreements is $2.0 million.
INCOME TAXES. The Company recognized income tax expense of $28.5 million in the
nine months ended September 30, 2002 compared to a tax benefit of $13.4 million
in the nine months ended September 30, 2001. The tax benefit in the three months
ended September 30, 2001 resulted primarily from the losses relating to the
September 11 attacks, for which the benefit was calculated based on the specific
impacts of the event.
NET INCOME. Net income was $175.7 million in the nine months ended September 30,
2002 compared to $63.7 million in the nine months ended September 30, 2001. This
increase generally reflects the improved underwriting and investment results and
decreased interest expense, partially offset by increased tax expense, realized
capital losses and net derivative losses.
FINANCIAL CONDITION
INVESTED ASSETS. Aggregate invested assets, including cash and short-term
investments, were $6,739.6 million at September 30, 2002 and $5,783.5 million at
December 31, 2001. The increase in invested assets between December 31, 2001 and
27
September 30, 2002 resulted primarily from $455.0 million in cash flows from
operations generated during the nine months ended September 30, 2002, $346.3
million of proceeds from the Company's secondary offering of 5,000,000 common
shares on February 27, 2002, $118.1 million in net unrealized appreciation of
the Company's investments and $20.0 million in net borrowings on the Company's
credit facility.
LOSS AND LAE RESERVES. Gross loss and LAE reserves totaled $4,542.6 million at
September 30, 2002 and $4,278.3 million at December 31, 2001. The increase
during the nine months ended September 30, 2002 was primarily attributable to
increased earned premiums and normal variability in claim settlements.
The Company's net loss and LAE reserves relating to asbestos and environmental
exposures were $522.3 million and $568.6 million at September 30, 2002 and
December 31, 2001, respectively. Industry analysts have developed a measurement,
known as the survival ratio, to compare the asbestos and environmental reserves
among companies with such liabilities. The survival ratio is typically
calculated by dividing a company's current reserves by the three-year average of
paid losses, and therefore measures the number of years that it would take to
exhaust the current reserves based on historical payment patterns. Using this
measurement, the Company's net three-year asbestos and environmental survival
ratio was 8.4 years and 9.8 years at September 30, 2002 and December 31, 2001,
respectively. Adjusting these to include the effect of $126.4 million of
available reinsurance on the next $160.0 million of potential future reserve
strengthening at September 30, 2002 and $137.8 million of available reinsurance
on the next $160.0 million of potential future reserve strengthening at December
31, 2001, the measures rise to the equivalent of 10.4 years and 12.1 years,
respectively. Because the survival ratio was developed as a measure of reserve
strength and not of absolute reserve adequacy, the Company considers, but does
not rely on, the survival ratio when evaluating its reserves.
SHAREHOLDERS' EQUITY. The Company's shareholders' equity increased to $2,298.1
million as of September 30, 2002, from $1,720.5 million as of December 31, 2001,
principally reflecting $346.3 million of proceeds from the Company's secondary
offering of 5,000,000 common shares on February 27, 2002 and net income of
$175.7 million for the nine months ended September 30, 2002, together with $87.6
million of net unrealized appreciation on the Company's investments. Dividends
of $12.3 million were declared and paid by the Company in the nine months ended
September 30, 2002. During the three months ended September 30, 2002, Holdings
repurchased 450,000 shares of Group's common stock for $22.9 million at an
average price of $50.86 per share. The Company has 1.73 million shares remaining
under its existing repurchase authorization.
LIQUIDITY AND CAPITAL RESOURCES
CAPITAL. The Company's business operations are in part dependent on the
Company's financial strength, and the market's perception thereof, as measured
in part by shareholders' equity, which was $2,298.1 million and $1,720.5 million
at September 30, 2002 and December 31, 2001, respectively. The Company has
flexibility with respect to capitalization as the result of its perceived
financial strength, including its financial strength ratings as assigned by
independent rating agencies, and its access to the debt and equity markets. The
Company continuously monitors its capital and financial position, as well as
investment and security market conditions in general and with respect to the
Company's securities, and responds accordingly.
28
On July 30, 2002, the Company filed a shelf registration statement on Form S-3
with the Securities and Exchange Commission, which provides for the issuance of
up to $475.0 million of securities. Generally, under this shelf registration
statement, Group may issue common shares, preferred shares, debt, warrants and
hybrid securities, Holdings may issue debt securities and warrants and Everest
Re Capital Trust may issue trust preferred securities. This shelf registration
statement became effective on September 26, 2002.
On November 7, 2001, the Company filed a shelf registration statement on Form
S-3 with the Securities and Exchange Commission, which provided for the issuance
of up to $575.0 million of common equity. On February 27, 2002, pursuant to this
registration statement, the Company completed an offering of 5,000,000 of its
common shares at a price of $69.25 per share, which resulted in $346.3 million
of proceeds before expenses of approximately $0.5 million related to the
offering. The Company has used the net proceeds for working capital and general
corporate purposes. The remaining amount available under this shelf registration
statement as of September 30, 2002 was $228.7 million. On October 2, 2002, the
Company filed a Post- Effective Amendment to this registration statement that
removed the remaining securities from registration.
LIQUIDITY. The Company's current investment strategy seeks to maximize after-tax
income through a high quality, diversified, taxable bond and tax-preferenced
fixed maturity portfolio, while maintaining an adequate level of liquidity. The
Company's mix of taxable and tax-preferenced investments is adjusted
continuously, consistent with the Company's current and projected operating
results, market conditions and tax position. Additionally, the Company invests
in equity securities, which it believes will enhance the risk-adjusted total
return of the investment portfolio.
The Company's liquidity requirements are met on both a short- and long-term
basis by funds provided by premiums collected, investment income, collected
reinsurance receivables balances and from the sale and maturity of investments
together with the availability of funds under the Company's revolving credit
facility. The Company's net cash flows from operating activities were $179.9
million and $455.0 million in the three and nine months ended September 30,
2002, respectively, compared to $71.7 million and $215.5 million in the three
and nine months ended September 30, 2001, respectively. The following table
shows cash flows from operating activities, as well as the impacts of select
transactions on those cash flows, for the three and nine months ended September
30, 2002 and 2001.
- ---------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
- ---------------------------------------------------------------------------------------------------------
Cash flow from operations $ 179.9 $ 71.7 $ 455.0 $ 215.5
Catastrophe loss payments 17.4 7.4 48.9 21.4
Derivative settlement payments 1.9 0.0 25.7 0.0
Net tax payments * 12.8 0.1 6.2 54.6
-----------------------------------------------------
Cash flow from operations, net of adjustments $ 212.0 $ 79.2 $ 535.8 $ 291.5
-----------------------------------------------------
* Net tax payments for the nine months ended September 30, 2001 include a
$35.0 million payment to the Internal Revenue Service in connection with
the Company's 1997 tax year liabilities. This one time payment effectively
settled a deferred tax liability relating to the tax basis losses incurred
for the 1997 tax year. This payment, which relates to a timing item, had no
impact to the Company's results of operations for the period.
29
Management believes that net cash flows from operating activities are generally
consistent with expectations given the Company's investment strategies, mix of
business and the normal variability of premium collections and the payout of
loss reserves.
Proceeds from sales, calls and maturities and investment asset acquisitions were
$1,856.9 million and $2,604.9 million, respectively, in the nine months ended
September 30, 2002, compared to $1,067.4 million and $1,178.4 million,
respectively, in the nine months ended September 30, 2001. Proceeds from sales,
calls and maturities and investment asset acquisitions were $452.3 million and
$633.3 million, respectively, in the three months ended September 30, 2002,
compared to $351.0 million and $366.9 million, respectively, in the three months
ended September 30, 2001.
On December 21, 1999, Holdings entered into a three-year senior revolving credit
facility with a syndicate of lenders (the "Credit Facility). First Union
National Bank is the administrative agent for the Credit Facility. The Credit
Facility is used for liquidity and general corporate purposes. The Credit
Facility provides for the borrowing of up to $150.0 million with interest at a
rate selected by Holdings equal to either (i) the Base Rate (as defined below)
or (ii) an adjusted London InterBank Offered Rate ("LIBOR") plus a margin. The
Base Rate is the higher of the rate of interest established by First Union
National Bank from time to time as its prime rate or the Federal Funds rate plus
0.5% per annum. On December 18, 2000, the Credit Facility was amended to extend
the borrowing limit to $235.0 million for a period of 120 days. This 120-day
period expired during the three months ended March 31, 2001 after which the
limit reverted to $150.0 million. The amount of margin and the fees payable for
the Credit Facility depend upon Holdings' senior unsecured debt rating. Group
has guaranteed Holdings' obligations under the Credit Facility.
The Credit Facility requires Group to maintain a debt to capital ratio of not
greater than 0.35 to 1, Holdings to maintain a minimum interest coverage ratio
of 2.5 to 1 and Everest Re to maintain its statutory surplus at $850.0 million
plus 25% of aggregate net income and 25% of aggregate capital contributions. As
of September 30, 2002, the Company was in compliance with these covenants.
During the three and nine months ended September 30, 2002, Holdings made
payments on the Credit Facility of $5.0 million and $25.0 million, respectively,
compared to $0.0 million and $123.0 million during the three and nine months
ended September 30, 2001. During the three and nine months ended September 30,
2002, Holdings had new Credit Facility borrowings of $25.0 million and $45.0
million, respectively, compared to $0.0 million and $22.0 million during the
three and nine months ended September 30, 2001. As of September 30, 2002 and
2001, Holdings had outstanding Credit Facility borrowings of $125.0 million and
$134.0 million, respectively. Interest expense incurred in connection with these
borrowings was $1.0 million and $1.6 million for the three months ended
September 30, 2002 and 2001, respectively, and $2.7 million and $6.1 million for
the nine months ended September 30, 2002 and 2001, respectively.
During the first quarter of 2000, Holdings completed a public offering of $200.0
million principal amount of 8.75% senior notes due March 15, 2010 and $250.0
million principal amount of 8.5% senior notes due March 15, 2005. Interest
expense incurred in connection with these senior notes was $9.7 million for the
three months ended September 30, 2002 and 2001, and $29.2 million for the nine
months ended September 30, 2002 and 2001.
30
MARKET SENSITIVE INSTRUMENTS. The Company's risks associated with market
sensitive instruments have not changed materially since the period ended
December 31, 2001. Although not considered material in the context of the
Company's aggregate exposure to market sensitive instruments, the Company has
issued five specialized equity put options based on the Standard & Poor's 500
("S&P 500") index that are market sensitive and sufficiently unique to warrant
supplemental disclosure.
During 2001, the Company sold five specialized equity put options based on the
S&P 500 index for total consideration, net of commission, of $16.9 million.
These contracts each have a single exercise date with maturities ranging from 18
to 30 years and strike prices ranging from $1,141.21 to $1,540.63. No amounts
would be payable under these contracts if the S&P 500 index is at or above the
strike price on the exercise dates. If the S&P 500 index is lower than the
strike price on the applicable exercise date, the amount due would vary
proportionately with the percentage the index was below the strike price. Based
on historical index volatilities and trends and the September 30, 2002 index
value, the Company estimates the probability for each contract of the S&P index
being below the strike price on the exercise date is less than 10%. The
theoretical maximum payouts under the contracts would occur if on each of the
exercise dates the S&P 500 index value were zero.
The duration and nature of these specialized instruments are such that no active
trading market exists. This was recognized at the time the transactions were
entered into and was the principal driver of the Company's use of a probability
weighted cash flow model for its analysis of the economics of these
transactions, an approach quite similar to analytical models used throughout the
Company's reinsurance business.
As these specialized equity put options are derivatives within the framework of
SFAS No.133, the Company is required to report the fair value of these
instruments in its balance sheet and record any changes to fair value in its
statement of operations. The Company has recorded fair values for its
obligations on these specialized equity put options at September 30, 2002 and
December 31, 2001 of $25.5 million and $13.0 million, respectively; however, the
Company does not believe that the ultimate settlement of these transactions is
likely to require a payment that would exceed the initial consideration received
or any payment at all.
As there is no active market for these instruments, the determination of their
fair value is based on an accepted option pricing model which requires estimates
and assumptions, including those regarding volatility and expected rates of
return. The table below estimates the impact of potential movements in interest
rates and the S&P 500 index, the principal factors affecting fair value of these
instruments, looking forward from the fair value at September 30, 2002. These
are estimates and there can be no assurances regarding future market
performance.
31
As of September 30, 2002
S & P 500 Index Put Options - Sensitivity Analysis
(Dollar amounts in millions)
Interest Rate Shift in Basis Points: -100 -50 0 50 100
------------------------------------------------
Total Market Value $ 39.5 $ 31.8 $ 25.5 $ 20.3 $ 16.1
Market Value Change from Base (%) -55.1% -24.8% 0.0% 20.3% 36.8%
S & P Index Shift in Points: -200 -100 0 100 200
------------------------------------------------
Total Market Value $ 36.6 $ 30.4 $ 25.5 $ 21.5 $ 18.3
Market Value Change from Base (%) -43.6% -19.3% 0.0% 15.5% 28.1%
Combined Interest Rate / S & P Index Shift: -100/-200 -50/-100 0/0 50/100 100/200
------------------------------------------------
Total Market Value $ 54.5 $ 37.6 $ 25.5 $ 17.0 $ 11.2
Market Value Change from Base (%) -113.6% -47.4% 0.0% 33.3% 56.2%
SAFE HARBOR DISCLOSURE. This report contains forward-looking statements within
the meaning of the U.S. federal securities laws. The Company intends these
forward-looking statements to be covered by the safe harbor provisions for
forward-looking statements in the federal securities laws. In some cases, these
statements can be identified by the use of forward-looking words such as "may",
"will", "should", "could", "anticipate", "estimate", "expect", "plan",
"believe", "predict", "potential" and "intend". Forward-looking statements
contained in this report include information regarding the Company's reserves
for losses and LAE, including estimates of the Company's catastrophe exposure,
and the Company's belief regarding payment pursuant to its specialized equity
put options. Forward-looking statements only reflect the Company's expectations
and are not guarantees of performance. These statements involve risks,
uncertainties and assumptions. Actual events or results may differ materially
from the Company's expectations. Important factors that could cause the
Company's actual results to be materially different from its expectations
include the uncertainties that surround the estimating of reserves for losses
and LAE, those discussed in Note 4 to the Financial Statements included in this
report and the risks described under the caption "Risk Factors" in the Company's
most recent Report on Form 10-K. The Company undertakes no obligation to update
or revise publicly any forward-looking statements, whether as a result of new
information, future events or otherwise.
32
PART I - ITEM 3
EVEREST RE GROUP, LTD.
QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
MARKET RISK INSTRUMENTS. See "Market Sensitive Instruments" in Part I - Item 2.
33
PART I - ITEM 4
EVEREST RE GROUP, LTD.
CONTROLS AND PROCEDURES
Within the 90-day period prior to the filing of this report, an evaluation was
carried out under the supervision and with the participation of the Company's
management, including the Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the disclosure controls and procedures ( as defined in
Rule 13a-14(c) under the Securities Exchange Act of 1934). Based on their
evaluation, the Chief Executive Officer and Chief Financial Officer have
concluded that the Company's disclosure controls and procedures are, to the best
of their knowledge, effective to ensure that information required to be
disclosed by the Company in reports that it files or submits under the Exchange
Act is recorded, processed, summarized and reported within the time periods
specified in Securities and Exchange Commission rules and forms. Subsequent to
the date of their evaluation, there were no significant changes in the Company's
internal controls or in other factors that could significantly affect these
controls, including any corrective actions with regard to significant
deficiencies and material weaknesses.
34
EVEREST RE GROUP, LTD.
OTHER INFORMATION
PART II - ITEM 1. LEGAL PROCEEDINGS
In the ordinary course of business, the Company is involved in lawsuits,
arbitrations and other formal and informal dispute resolution procedures, the
outcomes of which will determine the Company's rights and obligations under
insurance and reinsurance agreements and other more general contracts. In some
disputes, the Company seeks to enforce its rights under an agreement or to
collect funds owing to it. In other matters, the Company is resisting attempts
by others to collect funds or enforce alleged rights. Such disputes are resolved
through formal and informal means, including litigation and arbitration.
In all such matters, the Company believes that its positions are legally and
commercially reasonable. The Company also regularly evaluates those positions
including, where appropriate, consideration during the processes by which it
establishes it insurance reserves. The Company's aggregate reserves take into
account the possibility that the Company may not ultimately prevail in each and
every disputed matter. The Company believes its aggregate reserves reduce the
potential that an adverse resolution of one or more of these matters, at any
point in time, would have a material impact on the Company's financial condition
or results of operations. However, there can be no assurances that adverse
resolutions of such matters in any one period or in the aggregate will not
result in a material impact.
The Company does not believe that there are any other material pending legal
proceedings to which it or any of its subsidiaries or their properties are
subject.
PART II - ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibit Index:
Exhibit No. Description Location
----------- ----------- --------
11.1 Statement regarding computation of Filed herewith
per share earnings
99.1 CEO and CFO certification of Form 10-Q Filed herewith
b) A report on Form 8-K dated August 13, 2002 was filed on August 13, 2002,
reporting the voluntary certification by Joseph V. Taranto, the Company's
Chief Executive Officer, and Stephen L. Limauro, the Company's Chief
Financial Officer, of the Company's 2001 annual report on Form 10-K and all
subsequent reports filed prior to such date.
Omitted from this Part II are items which are inapplicable or to which the
answer is negative for the period covered.
35
EVEREST RE GROUP, LTD.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Everest Re Group, Ltd.
(Registrant)
/S/ STEPHEN L. LIMAURO
--------------------------------------
Stephen L. Limauro
Executive Vice President and Chief
Financial Officer
(Duly Authorized Officer and Principal
Financial Officer)
Dated: November 1, 2002
I, Joseph V. Taranto, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Everest Re Group Ltd;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have;
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
November 1, 2002 /S/ JOSEPH V. TARANTO
- ---------------- ---------------------
Joseph V. Taranto
Chairman and Chief
Executive Officer
I, Stephen L. Limauro, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Everest Re Group,
Ltd;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have;
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
November 1, 2002 /S/ STEPHEN L. LIMAURO
- ---------------- ----------------------------
Stephen L. Limauro
Executive Vice President and
Chief Financial Officer