Back to GetFilings.com
===============================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
--------------
For the fiscal year ended December 31, 2003 Commission File Number 1-15259
PXRE GROUP LTD.
(Exact name of registrant as specified in its charter)
Bermuda 98-0214719
(State of other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
Swan Building P.O. Box HM 1282
26 Victoria Street Hamilton HM FX
Hamilton HM 12 Bermuda
Bermuda
(Address, including zip code, of (Mailing address)
principal executive offices)
(441) 296-5858
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: COMMON SHARES, par value $1.00 per share
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: NONE
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, and (2) has been subject to such filing requirements
for the past 90 days.
Yes X No
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes X No
--- ---
The aggregate market value of the voting and non-voting common equity held by
non-affiliates of the registrant as of June 30, 2003 computed by reference to
the closing price of such common equity as of the close of business on June 30,
2003 was $240,950,615. As of March 11, 2004, 14,063,868 of the registrant's
common shares were issued and outstanding.
===============================================================================
DOCUMENTS INCORPORATED BY REFERENCE
Portions of PXRE Group Ltd.'s definitive Proxy Statement for the Annual General
Meeting of Shareholders to be held on May 5, 2004 are incorporated by reference
into Part III of this Form 10-K to the extent stated herein. Additionally,
certain documents are incorporated by reference into Part IV of this Form 10-K
as stated therein.
2
PART I
Unless the context otherwise requires, references in this Form 10-K to
"PXRE", "we", "us" and "our" include PXRE Group Ltd., a Bermuda company (the
"Company") and its subsidiaries, which principally include PXRE Corporation
("PXRE Delaware"), PXRE Reinsurance Company ("PXRE Reinsurance"), PXRE
Reinsurance Ltd. ("PXRE Bermuda"), PXRE Reinsurance (Barbados) Ltd. ("PXRE
Barbados"), PXRE Solutions Inc. ("PXRE Solutions"), PXRE Solutions, S.A. ("PXRE
Europe"), PXRE Capital Trust I, PXRE Capital Statutory Trust II, PXRE Capital
Trust III, PXRE Capital Statutory Trust V, PXRE Capital Trust VI and PXRE
Limited. References to GAAP refer to accounting principles generally accepted in
the United States ("GAAP"). References to SAP refer to statutory accounting
principles ("SAP") in either the State of Connecticut where PXRE Reinsurance is
domiciled or Bermuda where PXRE Bermuda is domiciled, as applicable.
Cautionary Statement Regarding Forward-Looking Statements
This report contains various forward-looking statements and includes
assumptions concerning our operations, future results and prospects. Statements
included herein, as well as statements made by or on our behalf in press
releases, written statements or other documents filed with the Securities and
Exchange Commission (the "SEC"), or in our communications and discussions with
investors and analysts in the normal course of business through meetings, phone
calls and conference calls, which are not historical in nature are intended to
be, and are hereby identified as, "forward-looking statements" for purposes of
the safe harbor provided by Section 21E of the Securities Exchange Act of 1934
as amended. These forward-looking statements, identified by words such as
"intend," "believe," "anticipate," or "expects" or variations of such words or
similar expressions are based on current expectations, speak only as of the date
hereof, and are subject to risk and uncertainties. In light of the risks and
uncertainties inherent in all future projections, these forward-looking
statements in this report should not be considered as a representation by us or
any other person that our objectives or plans will be achieved. We caution
investors and analysts that actual results or events could differ materially
from those set forth or implied by the forward-looking statements and related
assumptions, depending on the outcome of certain important factors including,
but not limited to, the following:
(i) because of exposure to catastrophes, our financial results may
vary significantly from period to period;
(ii) we may be overexposed to losses in certain geographic areas
for certain types of catastrophe events;
(iii) we operate in a highly competitive environment;
(iv) reinsurance prices may decline, which could affect our
profitability;
(v) underwriting reinsurance includes the application of judgment,
the assessment of probabilities and outcomes, and assumption
of correlations, which are subject to inherent uncertainties;
3
(vi) reserving for losses includes significant estimates which are
also subject to inherent uncertainties;
(vii) a decline in the credit rating assigned to our claim-paying
ability may impact our potential to write new or renewal
business;
(viii) a decline in our ratings may require us to transfer premiums
retained by us into a beneficiary trust or may allow clients
to terminate their contract with us;
(ix) our investment portfolio is subject to market and credit risks
which could result in a material adverse impact on our
financial position or results;
(x) because we depend on a few reinsurance brokers for a large
portion of revenue, loss of business provided by them could
adversely affect us; and our reliance on reinsurance brokers
exposes us to their credit risk;
(xi) we may be adversely affected by foreign currency fluctuations;
(xii) retrocessional reinsurance subjects us to credit risk and may
become unavailable on acceptable terms;
(xiii) the impairment of our ability to provide collateral to cedents
could affect our ability to offer reinsurance in certain
markets;
(xiv) the reinsurance business is historically cyclical, and we may
experience periods with excess underwriting capacity and
unfavorable premium rates; conversely, we may have a shortage
of underwriting capacity when premium rates are strong;
(xv) regulatory constraints may restrict our ability to operate our
business;
(xvi) contention by the United States Internal Revenue Service that
we or our offshore subsidiaries are subject to U.S. taxation
could result in a material adverse impact on our financial
position or results; and
(xvii) changes in tax laws, tax treaties, tax rules and
interpretations could result in a material adverse impact on
our financial position or results.
In addition to the factors outlined above that are directly related to
our business, we are also subject to general business risks, including, but not
limited to, adverse state, federal or foreign legislation and regulation,
adverse publicity or news coverage, changes in general economic factors and the
loss of key employees. The factors listed above should not be construed as
exhaustive. See Management's Discussion and Analysis of Financial Condition and
Results of Operations - Certain Risks and Uncertainties.
We undertake no obligation to release publicly the results of any
future revisions we may make to forward-looking statements to reflect events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
4
Item 1. Business
Business: Overview
PXRE Group Ltd. is an insurance holding company domiciled in Bermuda.
We provide reinsurance products and services to a worldwide marketplace through
our wholly owned subsidiary operations located in Bermuda, Barbados, Europe and
the United States. Our primary business is catastrophe and risk excess
reinsurance, which accounted for 93% of net premiums written and substantially
all of our underwriting income for the year ended December 31, 2003.
Our property catastrophe and risk excess business includes property
catastrophe excess of loss, property catastrophe retrocessional, property risk
excess, marine excess and aerospace excess and pro rata reinsurance products.
Catastrophe and risk excess business has been our primary focus since our
predecessor company was formed in 1986. This focus on short-tail, high-severity,
and low frequency lines of business exposes us to short term volatility. We have
been able to successfully underwrite these products over the long term, as
evidenced by our cumulative average catastrophe and risk excess loss ratio of
47.0% for the period from 1987 to December 31, 2003. Our strong growth in net
premiums written in our catastrophe and risk excess segment of 46% for the year
ended December 31, 2003 as compared with the year earlier period has served as a
catalyst for our recent increase in net income of 50% for the year ended
December 31, 2003 as compared with 2002. Our growth in 2003 builds on the prior
growth of net premiums written in the catastrophe and risk excess segment during
the year ended December 31, 2002 of 202%, as compared with 2001.
Property catastrophe reinsurance generally covers claims arising from
large catastrophes around the world such as hurricanes, windstorms, hailstorms,
earthquakes, volcanic eruptions, fires, industrial explosions, freezes, riots,
floods and other man-made or natural disasters. In underwriting our property
catastrophe portfolio, we seek to diversify our exposures geographically and by
peril in order to manage the risk assumed and maximize the return on our
portfolio. Substantially all of our property catastrophe reinsurance products
are offered on an excess-of-loss basis with aggregate limits on our exposure to
losses. This means that we do not begin to pay a client's claims until its
claims exceed a certain contractually specified amount and our obligation to pay
those claims is limited to a contractually specified aggregate amount. For the
year ended December 31, 2003, approximately 77% of our property catastrophe and
risk excess net premiums written emanated from clients located outside of North
America, including clients located in the United Kingdom, Continental Europe,
Latin America, the Caribbean, Australia and Asia.
We provide property catastrophe products to both insurers and
reinsurers. The reinsurance of a reinsurer or retrocedent is referred to as
retrocessional reinsurance. As of December 31, 2003, insurance and reinsurance
companies comprise approximately 78% and 22%, respectively, of our total number
of clients, based on client count. Retrocessional business generally carries
substantially higher risk premiums than property catastrophe reinsurance
business. We believe this risk premium is required because retrocessional
coverage is characterized by higher volatility, principally due to the fact that
retrocessional contracts expose a reinsurer to an aggregation of losses from a
single catastrophic event. In addition, the information available to
retrocessional underwriters concerning the original primary risk is often less
precise than the information received from primary insurers directly. Moreover,
exposures from retrocessional business can change within a contract term as a
retrocedent alters its book of business after retrocessional coverage has been
bound. Relative to catastrophe reinsurance, there are substantially fewer
competitors offering this type of coverage due to the risks entailed in
underwriting retrocessional business.
5
We have been able to achieve a significant position in the property
catastrophe retrocessional market and have considerable experience in
successfully underwriting property catastrophe retrocessional business. We have
developed proprietary risk models that take into account the lack of
transparency in the underwriting information and allow us to view this business
within the context of our entire portfolio. Our tenure in this business has
allowed us to develop the relationships and market knowledge necessary to manage
the risk associated with a retrocedent's alteration of its book of business
after we have bound coverage.
We also offer our clients property-per-risk, marine and aerospace
reinsurance and retrocessional products. Unlike property catastrophe
reinsurance, which protects against the accumulation of a large number of
related losses arising out of one catastrophe, per-risk reinsurance protects our
clients against a large loss arising from a single risk or location.
Substantially all of our property-per-risk and marine and aerospace business is
also written on an excess-of-loss basis with contractual aggregate limits on our
exposure to losses. Our aerospace reinsurance business includes both excess of
loss aviation business and excess of loss and pro rata satellite reinsurance
business.
We also provide, to a lesser extent and on an opportunistic basis,
finite reinsurance products to a small number of clients. Finite reinsurance
contracts are highly customized for each transaction. If the loss experience
with respect to the risks assumed by us is as expected or better than expected,
our finite clients may share in the profitability of the underlying business
through premium adjustments or profit commissions. If the loss experience is
worse than expected, our finite clients may participate in this negative outcome
through, for example, increased premiums or reductions in profit commissions. In
addition, we offer finite reinsurance products where investment returns on the
funds transferred to us affect the profitability of the contract and the amount
of any premium or commission adjustments.
Recent events in the insurance marketplace, including large losses
resulting from catastrophic events, recognized industry-wide reserve
deficiencies, poor investment performance and the continued exit of insurance
industry players, have resulted in considerable increases in pricing in
conjunction with improved terms and conditions for the insurance industry.
Importantly, this has impacted our markets considerably. As a direct result, we
experienced significant rate increases and strong profitability in our core
property catastrophe and risk excess segment for the years ended December 31,
2003 and 2002.
Following a diversification effort into Lloyd's of London ("Lloyd's")
and the casualty sectors during the soft reinsurance market of the late 1990's,
we decided during 2000 and 2001 to exit these businesses, and are today focused
on our traditional core property reinsurance operations. We have exited or have
significantly de-emphasized all of our other lines of business in order to
concentrate our management and financial resources on our core operations. We
believe that this strategic and financial realignment positions us to capitalize
on opportunities in our most profitable business segments, based on our
underwriting strength and industry experience. While our core businesses are
volatile due to significant potential loss severity, we have been a successful
underwriting organization over the long term.
6
As of December 31, 2003, we had 413 clients, including many of the
leading insurance and reinsurance companies in the world. Our clients include
both primary insurance companies and other reinsurance companies. In 2003,
approximately 67% of our clients were based outside of the United States.
We conduct our business primarily through our principal operating
subsidiaries, PXRE Reinsurance, PXRE Bermuda, PXRE Barbados, PXRE Solutions and
PXRE Europe. PXRE Reinsurance is a broker-market reinsurer with approximately
$425.2 million of statutory capital and surplus as of December 31, 2003, which
principally underwrites treaty reinsurance for property (including marine and
aerospace) risks. PXRE Reinsurance is licensed, accredited or permitted to do
business in each of the 50 states and the District of Columbia, Puerto Rico,
Bermuda, Colombia, Mexico and until January 31, 2003 operated a branch in
Belgium, which we refer to as PXRE's Brussels Branch.
PXRE Bermuda is a broker-market reinsurer with approximately $425.8
million of statutory capital and surplus as of December 31, 2003, which
principally underwrites treaty reinsurance for property (including marine and
aerospace) risks. PXRE Bermuda's reinsurance business is also supported by a
parental guarantee from the Company and an aggregate excess of loss reinsurance
treaty from PXRE Reinsurance that provides $80.0 million of reinsurance
protection. PXRE Bermuda is neither licensed nor admitted as an insurer in any
jurisdiction other than Bermuda.
PXRE Barbados was licensed as an insurance company in March 2001 under
Barbados' Insurance Act, 1996 and changed its name at that time from PXRE
(Barbados) Ltd. to PXRE Reinsurance (Barbados) Ltd. It is neither licensed nor
admitted as an insurer in any jurisdiction other than Barbados. PXRE Barbados
commenced underwriting business in 2001. PXRE Barbados provides finite
reinsurance coverages to clients and provides reinsurance coverage to other PXRE
entities.
PXRE Europe, a Belgian reinsurance intermediary, and PXRE Solutions, a
U.S. reinsurance intermediary, perform reinsurance intermediary activities on
behalf of PXRE Bermuda, PXRE Reinsurance and PXRE Barbados.
Business: History
The Company was formed in 1999 as part of the reorganization of PXRE
Delaware, a Delaware corporation. Prior to the reorganization, PXRE Delaware was
the ultimate parent holding company of the various PXRE companies and its common
shares were publicly-traded on the New York Stock Exchange. As a result of the
reorganization, the Company became the ultimate parent holding company of PXRE
Delaware and the holders of PXRE Delaware common stock automatically became
holders of the same number of the Company's common shares. The reorganization
was consummated at the close of business on October 5, 1999 and, on October 6,
1999 the Company's common shares commenced trading on the New York Stock
Exchange under the symbol "PXT." The reorganization also involved the
establishment of a Bermuda-based reinsurance subsidiary, PXRE Bermuda, and a
Barbados based reinsurance subsidiary, PXRE Barbados, and the formation of a
reinsurance intermediary, PXRE Solutions.
7
The Company's predecessor, PXRE Delaware, was organized in July 1986 to
succeed, through PXRE Reinsurance, to the property and casualty reinsurance
business carried on since 1982 by Phoenix General Insurance Company.
In the third quarter of 2001, we announced that we were returning our
focus to our core property catastrophe, property per-risk, marine and aerospace
reinsurance and retrocessional products. Prior to 1998, these were our only
significant lines of coverage. Beginning in 1997, the pricing and terms in our
core property reinsurance markets began to deteriorate, resulting in a soft
reinsurance market that only began to recover in late 2000. We decided to pursue
a variety of diversification efforts to enhance our competitiveness and growth
opportunities in that soft reinsurance market environment that included: the
establishment of a Lloyd's underwriting syndicate and managing agent; the
establishment of an excess and surplus lines operation; the addition of a
reinsurance platform offering primarily casualty products directly to insurance
companies (rather than through reinsurance brokers); the enhancement of our
international broker market reinsurance platform to include additional lines of
business, including casualty and credit risks; an acceleration of business
offerings to one of our managed business participants; and the formation of a
finite reinsurance unit.
As a result of this strategic realignment in the third quarter of 2001,
we discontinued or deemphasized each of those initiatives and since have
returned our focus to our core property catastrophe, property per-risk, marine
and aerospace reinsurance and retrocessional products and have reduced the
number of our employees from a high of 103 in December 1999 to 72 at December
31, 2003.
Business: Operating Segments
We operate in four reportable property and casualty segments -
catastrophe and risk excess, finite business, other lines and exited lines -
based on our approach to managing the business. Commencing with the 2002
underwriting renewal season, we returned our focus to our core property
catastrophe and risk excess business. Businesses that were not continued in 2002
are reported as exited lines. PXRE's segments for 2001 were reclassified to be
comparable to the 2003 and 2002 segments used for our method of managing the
business. In addition, we operate in two geographic segments - North American,
representing North American based risks written by North American based clients,
and International (principally the United Kingdom, Continental Europe, Latin
America, the Caribbean, Australia and Asia), representing all other premiums
written.
There are no differences among the accounting policies of the segments
as compared to PXRE's consolidated financial statements.
PXRE does not maintain separate balance sheet data for each of its
operating segments nor does it allocate net investment income, net realized
investment gains or losses, operating expenses and financing costs to these
segments. Accordingly, PXRE does not review and evaluate the financial results
of its operating segments based upon balance sheet data and these other income
statement items.
8
Operating Segments-Catastrophe and Risk Excess
Our key business is our catastrophe and risk excess business. Our
catastrophe and risk excess portfolio consists principally of property
catastrophe excess of loss, property catastrophe retrocessional, property risk
excess, marine excess and aerospace excess reinsurance coverages, which together
account for approximately 79% and 65%, respectively, of net premiums earned for
the year ended December 31, 2003 and 2002 and virtually all of the net
underwriting income for each of those periods. This portfolio can be
characterized as being comprised of coverages involving higher expected margins
and greater volatility than the other coverages that we underwrite.
Net premiums written in this key segment were $257.6 million and $176.0
million for the year ended December 31, 2003 and 2002, respectively. In 2003 and
2002, this segment produced an underwriting profit of $156.3 million and $108.1
million, respectively. In 2001, this segment produced underwriting losses of
$10.3 million, largely as a result of the September 11, 2001 terrorist attacks
in 2001. The increase in premium volume for catastrophe and risk excess
coverages in 2003 and 2002 was largely attributable to increases in the volume
of business written and price increases in the aftermath of the events of
September 11, 2001. The increase in premium volume for catastrophe and risk
excess coverages in 2001 was largely attributable to increases in the volume of
business written in the aftermath of the 1999 winter wind storms in France.
Our property catastrophe and risk excess business is diversified
geographically. For 2003 and 2002, approximately 77% and 75%, respectively, of
our catastrophe and risk excess net premiums written were derived from clients
located outside of North America, including clients located in the United
Kingdom, Continental Europe, Latin America, the Caribbean, Australia and Asia.
9
The following table presents net premiums written, net premiums earned,
losses incurred, commission and brokerage, net of fee income and our
underwriting income (loss) for the periods indicated under our catastrophe and
risk excess segment.
Catastrophe and risk excess segment: Year Ended December 31,
-------------------------------------------------
2003 2002 2001
------------ ------------ --------------
($000's)
Net Premiums Written (1)
North American $ 64,560 $ 51,657 $ 27,981
International 220,380 153,038 90,714
Excess of Loss Cessions (27,320) (28,652) (60,485)
------------ ------------ --------------
$ 257,620 $ 176,043 $ 58,210
============ ============ ==============
Net Premiums Earned (1)
North American $ 64,212 $ 50,487 $ 26,916
International 217,310 148,650 92,407
Excess of Loss Cessions (27,325) (23,052) (58,839)
------------ ------------ --------------
$ 254,197 $ 176,085 $ 60,484
============ ============ ==============
Losses Incurred
North American $ 20,090 $ 2,586 $ 57,537
International 49,606 53,086 102,640
Excess of Loss Cessions (625) (2,901) (86,758)
------------ ------------ --------------
$ 69,071 $ 52,771 $ 73,419
============ ============ ==============
Commissions and Brokerage,
Net of Fee Income
North American $ 5,952 $ 4,262 $ 1,119
International 19,794 14,697 6,425
Excess of Loss Cessions 3,062 (3,768) (10,198)
------------ ------------ --------------
$ 28,808 $ 15,191 $ (2,654)
============ ============ ==============
Underwriting Income (Loss) (2)
North American $ 38,170 $ 43,639 $ (31,740)
International 147,910 80,867 (16,658)
Excess of Loss Cessions (29,762) (16,383) 38,117
------------ ------------ --------------
$ 156,318 $ 108,123 $ (10,281)
============ ============ ==============
================================================================================
(1) Premiums written and earned are expressed on a net basis in order
to more accurately reflect business written for our own account.
The amounts shown in the North American and International
geographic segments are presented net of proportional reinsurance
and allocated excess of loss reinsurance cessions, but gross of
corporate catastrophe excess of loss reinsurance cessions, which
are separately itemized where applicable.
(2) Underwriting income (loss) includes premiums earned, losses
incurred and commission and brokerage net of fee income, but does
not include investment income, net realized investment gains or
losses, interest expense, or operating expenses. See Note 12 of
our consolidated financial statements for additional information
regarding our reportable segments and geographic areas.
10
Property Catastrophe Excess of Loss Reinsurance. Our property
catastrophe excess of loss reinsurance business reinsures catastrophic perils
for insurance companies on a treaty basis and provides protection for most
catastrophic losses that are covered in the underlying insurance policies
written by our clients. The perils in our portfolio underlying the North
American portion of this segment emanate principally from East Coast and Gulf
hurricanes and Midwest and West Coast earthquakes. The perils underlying the
International portion of this segment emanate principally from European,
Japanese and Caribbean windstorm, flood and earthquake risks, and similar risks.
Although we generally seek to exclude coverage for terrorist events, we are
potentially exposed to losses arising from terrorist attacks. This business is
generally comprised of reinsurance contracts that incur losses only when events
occur that impact more than one risk or insured. Coverage for other perils may
be negotiated on a case-by-case basis. Protection under property catastrophe
treaties is generally provided on an occurrence basis, allowing our ceding
company clients to combine losses that have been incurred in any single event
from multiple underlying policies. The multiple claimant nature of property
catastrophe reinsurance requires careful monitoring and control of cumulative
aggregate exposure.
The property catastrophe excess of loss reinsurance business operates
on a subscription basis, with the reinsurance intermediaries seeking
participation for specific treaties among a number of reinsurers. All
subscribing reinsurers participate at substantially the same pricing and terms
and conditions.
Property Catastrophe Retrocessional Reinsurance. We enter into
retrocessional contracts that provide property catastrophe coverage to other
reinsurers or retrocedents. In providing retrocessional coverage, we focus on
reinsurance that covers the retrocedent on an excess of loss basis when
aggregate claims and claim expenses from a single occurrence of a covered peril
and from a multiple number of reinsureds exceed a contractually specified
attachment point. The coverage provided under excess of loss retrocessional
contracts may be on a worldwide basis or limited in scope to selected geographic
areas. Coverage can also vary from "all property" perils to limited coverage on
selected perils, such as "earthquake only" coverage.
Retrocessional coverage is characterized by high volatility,
principally because retrocessional contracts expose a reinsurer to an
aggregation of losses from a single catastrophic event. In addition, the
information available to retrocessional underwriters concerning the original
primary risk can be less precise than the information received from primary
companies directly. Moreover, exposures from retrocessional business can change
more quickly than on catastrophe business within a contract term if a
retrocedent alters its book of business after retrocessional coverage has been
bound.
We have been able to achieve a significant position in the property
catastrophe retrocessional market and have considerable experience in
successfully underwriting property catastrophe retrocessional business. We have
developed proprietary risk models that take into account the lack of
transparency in the underwriting information and allow us to view this business
within the context of our entire portfolio. Our tenure in this business has
allowed us to develop the relationships and market knowledge necessary to manage
the risk associated with a retrocedent's alteration of its book of business
after we have bound coverage.
11
Property Risk Excess Reinsurance. Our property risk excess business
reinsures individual property risks of ceding companies on a treaty basis. This
business is comprised of a highly diversified portfolio of property risk excess
reinsurance contracts covering claims from individual insurance policies issued
by our ceding company clients. Loss exposures in this business include the
perils of fire, explosion, collapse, riot, vandalism, wind, tornado, flood and
earthquake. For the year ended December 31, 2003, approximately 22% of the
clients reinsured by us in this business were located in North America and
approximately 78% were located internationally, based on net premiums written.
Because the reinsurance contracts written in this business are exposed
to losses on an individual policy basis, we underwrite and price the agreements
based on anticipated claims frequency. We use actuarial techniques to examine
our ceding companies' underwriting results as well as the underwriting results
from ceding companies with comparable books of business and pertinent industry
results. These experience analyses are compared against actuarial exposure
analyses to refine our pricing assumptions. Our pricing also takes into account
our variable and fixed expenses and our assessment of an appropriate return on
the capital required to support each individual contract relative to our
portfolio of risks.
Reinsurance contracts that provide coverage of individual underlying
insurance policies may contain significant risk of accumulation of exposures to
natural or other perils. Our underwriting process explicitly recognizes these
exposures. Natural perils, such as windstorm, earthquake and flood, are analyzed
through our catastrophe modeling system. Other perils, such as fire and
terrorism events, are considered on a contract-by-contract basis and monitored
for cumulative aggregate exposure.
This property per risk business operates as a subscription market.
Those reinsurers that ultimately subscribe to any given treaty participate at
substantially the same pricing and terms and conditions.
Aerospace Reinsurance. Our aerospace business includes hull, aircraft
liability, aircraft products and space coverages. We write all of these
exposures as reinsurance and retrocessional coverages. In all cases, we track
our exposures by original insured in order to monitor our maximum exposures by
major airline and by major manufacturer. The space business includes satellite
launch and limited in-orbit coverage. We write space business on an excess of
loss and on a proportional reinsurance basis where we seek to provide
retrocessional support to underwriters that have demonstrated a positive track
record in this business.
Marine Reinsurance. The marine portfolio is currently very limited and
provides retrocessional coverage primarily against large insured market losses
in the offshore energy, protection and indemnity, and pollution business
segments.
Operating Segments-Finite Business
We entered the finite business in mid-1999 with products combining
elements of insurance risk transfer and financing to manage certain risks of our
clients. Due to our small size, we pursued a niche focus on smaller to
medium-sized clients. We believe we have maintained a disciplined underwriting
approach, eschewing riskier transactions and opportunistically ceding business
to other reinsurers to reduce timing and investment risks where appropriate.
12
Our finite business involves a relatively small number of large
reinsurance transactions. The risks reinsured are primarily casualty risks and
are subject to some of the same risks as our casualty coverages included in our
exited lines segment. Net premiums written of $8.1 million and $102.8 million
were attributable to our finite business in 2003 and 2002, respectively. In
2003, the finite segment produced an underwriting loss of $10.0 million compared
to underwriting profits of $2.5 million and $2.9 million in 2002 and 2001,
respectively. Included in the finite segment in 2002 were net premiums written
of $83.8 million and underwriting income of $3.0 million, assumed pursuant to
various finite reinsurance contracts with one insurance company, Tower Insurance
Company of New York ("Tower"). In 2003, there were no net premiums written and
an underwriting loss of $0.1 million pursuant to various finite reinsurance
contracts with Tower.
The significant decrease in net premiums written in the finite segment
during 2003 is a result of our decision to emphasize our core property
reinsurance business and to de-emphasize our finite segment. This business is
currently focused on a limited group of cedents as well as on policies that do
not contain significant risk transfer. As a result, finite premiums are expected
to be less than in prior periods. Finite contracts that do not contain
sufficient risk transfer are not recorded as reinsurance arrangements but are
treated as deposits for accounting purposes. As such, the income related to
these transactions is recorded as fee income, and liabilities, if any, are
recorded as deposit liabilities. As of December 31, 2003, we have $7.6 million
of unearned fee income and $80.6 million of deposit liabilities to ceding
companies on this deposit accounting basis compared to $3.0 million of unearned
fee income and $35.1 million of deposit liabilities as of December 31, 2002.
13
The following table presents net premiums written, net premiums earned,
losses incurred, commissions and brokerage, net of fee income and our
underwriting income (loss) for the periods indicated under our finite segment.
Finite segment: Year Ended December 31,
-------------------------------------------------
2003 2002 2001
------------ ------------ --------------
($000's)
Net Premiums Written (1)
North American $ 8,064 $ 102,754 $ 33,651
International - - -
------------ ------------ --------------
$ 8,064 $ 102,754 $ 33,651
============ ============ ==============
Net Premiums Earned (1)
North American $ 53,689 $ 57,107 $ 32,365
International - - -
------------ ------------ --------------
$ 53,689 $ 57,107 $ 32,365
============ ============ ==============
Losses Incurred
North American $ 52,253 $ 31,346 $ 20,261
International - - -
------------ ------------ --------------
$ 52,253 $ 31,346 $ 20,261
============ ============ ==============
Commissions and Brokerage,
Net of Fee Income
North American $ 11,475 $ 23,217 $ 9,160
International - - -
------------ ------------ --------------
$ 11,475 $ 23,217 $ 9,160
============ ============ ==============
Underwriting Income (Loss) (2)
North American $ (10,039) $ 2,544 $ 2,944
International - - -
------------ ------------ --------------
$ (10,039) $ 2,544 $ 2,944
============ ============ ==============
================================================================================
(1) Premiums written and earned are expressed on a net basis (after
deduction for ceded reinsurance premiums) in order to more accurately
reflect business written for our own account.
(2) Underwriting income (loss) includes premiums earned, losses incurred
and commission and brokerage net of fee income, but does not include
investment income, net realized investment gains or losses, interest
expense, or operating expenses. See Note 12 of our consolidated
financial statements for additional information regarding our
reportable segments and geographic areas.
Operating Segments-Other Lines
In 2003 and 2002, our other lines segment primarily consisted of a
single property pro rata reinsurance treaty between us and the FM Global group
of companies that generated $8.6 million and $7.9 million, respectively, in net
premiums written. Our other lines segment produced underwriting income of $3.1
million and $4.3 million, in 2003 and 2002, respectively compared to an
underwriting loss of $1.3 million for 2001. With the return to our core lines of
business, we do not currently expect to write a significant volume of premium in
our other lines segment in the future.
14
The following table presents net premiums written, net premiums earned,
losses incurred, commissions and brokerage, net of fee income and our
underwriting income (loss) for the periods indicated under our other lines
segment.
Other lines segment: Year Ended December 31,
-------------------------------------------------
2003 2002 2001
------------ ------------ --------------
($000's)
Net Premiums Written (1)
North American $ 7,361 $ 7,822 $ 4,086
International 1,242 83 404
------------ ------------ --------------
$ 8,603 $ 7,905 $ 4,490
============ ============ ==============
Net Premiums Earned (1)
North American $ 6,911 $ 8,002 $ 3,434
International 955 143 479
------------ ------------ --------------
$ 7,866 $ 8,145 $ 3,913
============ ============ ==============
Losses Incurred
North American $ 2,789 $ 900 $ 2,760
International 192 111 1,404
------------ ------------ --------------
$ 2,981 $ 1,011 $ 4,164
============ ============ ==============
Commissions and Brokerage,
Net of Fee Income
North American $ 1,679 $ 2,724 $ 1,059
International 128 90 9
------------ ------------ --------------
$ 1,807 $ 2,814 $ 1,068
============ ============ ==============
Underwriting Income (Loss) (2)
North American $ 2,443 $ 4,378 $ (385)
International 635 (58) (934)
------------ ------------ --------------
$ 3,078 $ 4,320 $ (1,319)
============ ============ ==============
================================================================================
(1) Premiums written and earned are expressed on a net basis (after
deduction for ceded reinsurance premiums) in order to more accurately
reflect business written for our own account.
(2) Underwriting income (loss) includes premiums earned, losses incurred
and commission and brokerage net of fee income, but does not include
investment income, net realized investment gains or losses, interest
expense, or operating expenses. See Note 12 of our consolidated
financial statements for additional information regarding our
reportable segments and geographic areas.
Operating Segments-Exited Lines
Our exited lines segment consists principally of North American general
liability, commercial and personal auto liability, risk excess and other
liability coverages and International pro rata casualty coverages, all business
written through PXRE Lloyd's Syndicate 1224, and credit coverages. During the
third quarter of 2000, we ceased accepting new and renewal risks at PXRE Lloyd's
Syndicate 1224. We ceased underwriting virtually all of the other business
within the exited lines segment in 2001 and all premiums written and earned
relate to reinsurance contracts that were entered into prior to September 2001,
but for which coverage had not expired. The exited lines segment accounted for
$4.1 million and $7.8 million of net premiums written in 2003 and 2002,
respectively. Net premiums written for the year ended December 31, 2002 for this
segment decreased 87% from net premiums written for 2001. The premiums for
virtually all of these contracts have now been earned and we do not expect to
report a material amount of premiums in this segment in 2004. In 2003, 2002 and
2001, the exited lines segment produced underwriting losses of $29.2 million,
$22.4 million and $5.0 million, respectively.
15
The following table presents net premiums written, net premiums earned,
losses incurred, commissions and brokerage, net of fee income and our
underwriting income (loss) for the periods indicated under our exited lines
segment.
Exited lines segment: Year Ended December 31,
-------------------------------------------------
2003 2002 2001
------------ ------------ --------------
($000's)
Net Premiums Written (1)
North American $ 997 $ 8,501 $ 33,679
International 3,127 (720) 24,448
------------ ------------ --------------
$ 4,124 $ 7,781 $ 58,127
============ ============ ==============
Net Premiums Earned (1)
North American $ 1,982 $ 18,844 $ 33,109
International 3,199 9,179 32,254
------------ ------------ --------------
$ 5,181 $ 28,023 $ 65,363
============ ============ ==============
Losses Incurred
North American $ 23,905 $ 33,831 $ 24,346
International 10,278 7,903 29,512
------------ ------------ --------------
$ 34,183 $ 41,734 $ 53,858
============ ============ ==============
Commissions and Brokerage,
Net of Fee Income
North American $ (121) $ 5,295 $ 6,740
International 357 3,351 9,738
------------ ------------ --------------
$ 236 $ 8,646 $ 16,478
============ ============ ==============
Underwriting Income (Loss) (2)
North American $ (21,802) $ (20,282) $ 2,023
International (7,436) (2,075) (6,996)
------------ ------------ --------------
$ (29,238) $ (22,357) $ (4,973)
============ ============ ==============
================================================================================
(1) Premiums written and earned are expressed on a net basis (after
deduction for ceded reinsurance premiums) in order to more accurately
reflect business written for our own account.
(2) Underwriting income (loss) includes premiums earned, losses incurred
and commission and brokerage net of fee income, but does not include
investment income, net realized investment gains or losses, interest
expense, or operating expenses. See Note 12 of our consolidated
financial statements for additional information regarding our
reportable segments and geographic areas.
16
Business: Underwriting
We pursue a core strategy of leveraging the specialized analytical and
underwriting expertise of our reinsurance professionals in short-tail,
high-severity, and low frequency lines of business. Our underwriting process
emphasizes a team approach among our underwriters and is strictly geared toward
profitability rather than market share, with a resulting willingness to reduce
underwriting commitments in a soft market.
Reinsurance treaties are reviewed for compliance with our general
underwriting standards and certain treaties are evaluated in part based upon our
internal actuarial analysis. We manage our risk of loss through a combination of
aggregate exposure limits, underwriting guidelines that take into account risks,
prices and coverage and retrocessional agreements. As we underwrite risks from a
large number of clients based on information generally supplied by reinsurance
brokers, there is a risk of developing a concentration of exposure to loss in
certain geographic areas prone to specific types of catastrophes. We have
developed systems and software tools to monitor and manage the accumulation of
our exposure to such losses. We have established guidelines for maximum
tolerable losses from a single or multiple catastrophic events based on
historical data. However, no assurance can be given that these maximums will not
be exceeded in some future catastrophe.
We utilize a two-tier approach to risk management, including both a
portfolio optimization system and overall risk limits. Our portfolio
optimization system incorporates third-party catastrophe modeling software and
internally developed models. Our software tools use exposure data provided by
our ceding company clients to simulate catastrophic losses. We have high
standards for the quality and level of detail of the exposure data that we
require and have an expressed preference for data at the zip code or postal code
level or finer.
Data output from the commercial modeling software is incorporated in
our proprietary model for multiple purposes. First, the data is used to estimate
the amount of reinsurance premium that is required to pay the long-term expected
losses under the proposed contracts. Second, the data is used to estimate
correlation among the contracts we have written. The degree of correlation is
used to estimate the incremental capital required to support our participation
on each proposed contract. Finally, the data is used to monitor and control our
cumulative exposure to individual perils across all of our businesses. This
system is used to price each reinsurance contract based on marginal capital
requirements, and enables our underwriters to dynamically evaluate potential new
business and exposures against the background of our existing business to
optimize the overall portfolio. Any new business bound is incorporated in this
analytical approach to enable a real-time assessment of the portfolio.
Our pricing of property catastrophe reinsurance contracts is based on a
combination of modeled loss estimates, actual ceding company loss history,
surcharges for potential unmodeled exposures, fixed and variable expense
estimates and profit requirements. The profit requirements are based on
incremental capital usage estimates described above and our required return on
consumed capital.
Our portfolio is also subject to management-specified probabilistic
risk limits for the business as a whole, by territory and by type of event. Our
management believes that the portfolio model is a valuable tool to supplement
the experience and judgment of our underwriters.
17
Business: Marketing
We provide reinsurance for international insurance and reinsurance
companies headquartered, principally, in the United Kingdom, Continental Europe,
Latin America, the Caribbean, Australia and Asia. In the United States, we
currently reinsure both national and regional insurance and reinsurance
companies and specialty insurance companies.
Historically, we have obtained substantially all of our reinsurance
business through reinsurance intermediaries, which represent our clients in
negotiations for the purchase of reinsurance. None of the reinsurance
intermediaries through whom we obtain this business is authorized to arrange any
business in our name without our approval. We pay commissions to these
intermediaries or brokers that vary in size based on the amount of premiums and
type of business ceded. These commission payments constitute part of our total
acquisition costs and are included in our underwriting expenses. We generally
pay reinsurance brokerage commissions believed to be comparable to industry
norms.
In 2003 and 2002, approximately 96% and 97%, respectively, of gross
premiums written were written in the broker market. Approximately 78% of gross
premiums written for the year ended December 31, 2003 were arranged through
brokers individually representing 10% or more of gross premiums written
including Benfield Greig Ltd. (approximately 27%), the worldwide branch offices
of Guy Carpenter & Company, Inc., a subsidiary of Marsh & McLennan Companies,
Inc. (approximately 21%), Willis Re Inc. (approximately 16%), and Aon Group Ltd.
(approximately 15%). The commissions we paid to these intermediaries are
generally at the same rates as those paid to other intermediaries.
Business: Competition
Competitive forces in the property and casualty reinsurance and
insurance industry are substantial. We operate in an industry that is highly
competitive and is undergoing a variety of challenging developments. The
industry has in recent years placed increased importance on size and financial
strength in the selection of reinsurers. This trend became more pronounced in
the wake of September 11, 2001, with the formation of a number of large,
well-capitalized reinsurance companies in Bermuda and the significant level of
additional capital raised by existing competitors. Additionally, reinsurers are
tapping new markets and complementing their range of traditional reinsurance
products with innovative new products that bring together capital markets and
reinsurance experience. We compete with numerous major reinsurance and insurance
companies. These competitors, many of which have substantially greater
financial, marketing and management resources than us, include independent
reinsurance companies, subsidiaries or affiliates of established worldwide
insurance companies, reinsurance departments of certain commercial insurance
companies and underwriting syndicates. We also may face competition from new
market entrants or from market participants that decide to devote greater
amounts of capital to the types of business written by us.
18
Competition in the types of reinsurance business that we underwrite is
based on many factors, including the perceived overall financial strength of a
reinsurer, premiums charged, other terms and conditions, ratings of A.M. Best
Company ("A.M. Best"), an independent insurance industry rating organization,
Standard & Poor Ratings Services ("S&P"), a division of the McGraw-Hill
Companies, Inc. and Moody's Investors Service, Inc. ("Moody's"), service
offered, speed of service (including claims payment), and perceived technical
ability and experience of staff.
In particular, we compete with reinsurers that provide property-based
lines of reinsurance, such as ACE Tempest Reinsurance Ltd., Arch Reinsurance
Ltd., Aspen Insurance Holdings Limited, AXIS Reinsurance Company, Converium
Reinsurance (North America), Inc., Endurance Specialty Insurance Ltd., Everest
Reinsurance Company, IPC Re Limited, Lloyd's of London syndicates, Montpelier
Reinsurance Ltd., Munich Reinsurance Company, Partner Reinsurance Company Ltd.,
Platinum Underwriters Reinsurance, Inc., Renaissance Reinsurance Ltd., Swiss
Reinsurance Company and XL Re Ltd. Competition varies depending on the type of
business being insured or reinsured and whether we are in a leading position or
acting on a following basis.
It is difficult to accurately measure the annual industry premium
related to catastrophe and risk excess reinsurance; and therefore, difficult to
measure PXRE's share of this market. Several factors contribute to this lack of
market information, including the fact that catastrophe reinsurance is often
written by non-public reinsurance companies and public multi-line reinsurance
companies often do not disclose the amount that they write. While we have access
to the transactions presented to us, we do not have access to all of the
transactions in the market. Furthermore, we may not know the final outcomes of
all business submitted to PXRE due to (i) not receiving allocations on all
business authorized and (ii) not authorizing all business submitted. We do know
however our share of business that we have bound. For the recent January 1, 2004
renewals, our dollar weighted average is approximately 4% of the total. We
believe our market share is significantly less than 4% due to the reasons listed
above, especially related to PXRE not having access to all business transacted.
Business: Ceded Reinsurance Agreements
We selectively increase our underwriting commitments and generate fee
income by retroceding some of our underwritten risks to other reinsurers through
various retrocessional arrangements. Our underwriting committee is responsible
for the selection of reinsurers as quota share reinsurers or as participating
reinsurers in the catastrophe coverage protecting us. Proposed reinsurers are
evaluated at least annually based on consideration of a number of factors
including the management, financial statements and the historical experience of
the reinsurer. This procedure is followed whether or not a rating has been
assigned to a proposed reinsurer by any rating organization. All reinsurers,
whether obtained through direct contact or the use of reinsurance
intermediaries, are subject to our approval. Although management carefully
selects our retrocessionaires, we are subject to credit risk with respect to our
retrocessionaires because the ceding of risk to retrocessionaires does not
relieve us of our liability to clients.
The following table sets forth certain information regarding the volume
of premiums we ceded to other reinsurers pursuant to retrocessional agreements
for the periods indicated:
19
Year Ended December 31,
-----------------------------------------------
($000's) 2003 2002 2001
------------ ------------ ------------
Gross premiums written $ 339,140 $ 366,768 $ 290,213
Reinsurance premiums ceded:
Quota share reinsurers (27,919) (31,699) (50,271)
Finite segment 584 (7,466) (13,573)
Catastrophe coverage, surplus reinsurance and other (33,394) (33,120) (71,891)
------------ ------------ ------------
Total reinsurance premiums ceded (60,729) (72,285) (135,735)
------------ ------------ ------------
Net premiums written $ 278,411 $ 294,483 $ 154,478
============ ============ ============
In 2001, we incurred significant reinstatement and additional premium
obligations to retrocessionaires as a result of the cession of losses arising
from the events of September 11, 2001.
At December 31, 2003, estimated losses recoverable (including incurred
but not reported losses ("IBNR")), from retrocessionaires were $162.4 million,
including $15.5 million of paid loss recoverables. As of December 31, 2003,
approximately 91% of our reinsurance recoverables are either fully
collateralized or reside with entities rated "A-" or its equivalent or higher by
A.M. Best or S&P.
In the past, we have been able to increase our underwriting commitments
and to generate management fee income by retroceding some of our underwritten
risks to other reinsurers through various retrocessional arrangements whereby we
managed business for such participants. In 2003, 2002 and 2001, we were a party
to a retrocessional agreement with Select Re (as amended from time to time, the
"Select Re Quota Share Agreement"), pursuant to which we offer to cede a
proportional share of our non-casualty reinsurance business. The proportional
share of our non-casualty business ceded to Select Re under that agreement was
8% in 2003 and 2002 and 16.5% in 2001. As a complement to the Select Re Quota
Share Agreement, we cede an additional proportional share to Select Re on
certain agreed risks under a variable quota share agreement. In connection with
the Select Re Quota Share Agreement, we have entered into an undertaking to use
commercially reasonable efforts, subject to PXRE's business needs, to present
Select Re with aggregate annual premiums equal to a minimum of 20% of Select
Re's shareholders' equity (as defined in the undertaking). This undertaking was
amended in November 2002 and extended until 2005. In return, Select Re is
obligated to pay us a management fee of 15% based on the gross premiums ceded to
them under these quota share agreements, which resulted in fee income of $3.8
million, $3.0 million and $4.0 million for the years ended December 31, 2003,
2002 and 2001 respectively.
In addition to the Select Re Quota Share Agreement, we have entered
into several other reinsurance transactions with Select Re whereby: (i) Select
Re provided retrocessional support on several reinsurance transactions, (ii)
Select Re provided us with aggregate excess of loss retrocessional coverage in
2001 that protected us against large losses arising from a single catastrophe
event and against the accumulation of aggregate losses arising from a number of
events; and (iii) we provided Select Re with catastrophe excess of loss
retrocessional coverage that protects them in the event they incur significant
losses arising from a single catastrophe event which involved premiums of $1.5
million in 2003, $1.7 million in 2002 and $0.7 million in 2001.
20
In 2003, 2002 and 2001, we ceded reinsurance premiums of $26.1 million,
$30.5 million and $58.0 million to Select Re and as of December 31, 2003 net
assets of $64.6 million were due in the aggregate to us from Select Re, all of
which are secured by way of reinsurance trusts. In addition to the
collateralization requirements, we have various additional protections to ensure
Select Re's performance of its obligations to us. In this regard, pursuant to
the Select Re Quota Share Agreement, among other rights, we have the right to
designate one member of Select Re's board of directors and we have the right to
limit the amount of non-PXRE reinsurance business assumed by Select Re.
Select Re is a Class 3 Bermuda reinsurance company that was formed in
1997. As of December 31, 2003, it had shareholders' equity of approximately
$113.0 million and is privately owned by approximately 70 shareholders. In
accordance with our contractual rights under the Select Re Quota Share
Agreement, we had designated Jeffrey L. Radke, our President and Chief Executive
Officer, to serve on Select Re's board of directors. Jeffrey Radke received no
remuneration for serving on Select Re's board. Prior to joining us in 1999,
Jeffrey Radke had served as the President of Select Re. On January 6, 2004,
Jeffrey Radke resigned from Select Re's board of directors; however, we have
retained our right to designate a person to serve on Select Re's board of
directors.
Mr. William Michaelcheck is a member of the Board of Select Re and also
one of its founding shareholders. Mr. Michaelcheck is also the President and a
major shareholder of Mariner Investment Group, Inc. ("Mariner"). Mariner acts as
the investment manager for our hedge fund and alternative investment portfolio.
In 2003 and 2002, we incurred investment management fees of $0.8 million and
$0.7 million, respectively, relating to services provided by Mariner.
PXRE's Board of Directors reviews the various transactions with Select
Re at each of its meetings. In addition, the Board requires the prior approval
of our Chief Financial Officer for any transaction entered into with Select Re.
The following table sets forth our earned commissions from our quota
share reinsurers for the periods indicated:
Year Ended December 31,
------------------------------------------------
($000's) 2003 2002 2001
------------- ------------- -------------
Commission $ 5,209 $ 3,540 $ 5,130
Contingent profit commission (1) (195) (108) 624
------------- ------------- -------------
Total $ 5,014 $ 3,432 $ 5,754
============= ============= =============
================================================================================
(1) Contingent profit commission is paid after a three-year period and is
subject to adjustment based on cumulative experience under the various
quota share arrangements.
Business: Loss Liabilities and Claims
We establish loss and loss expense liabilities (to cover expenses
related to settling claims, including legal and other fees) to provide for the
ultimate cost of settlement and administration of claims for losses, including
claims that have been reported to us by our reinsureds and claims for losses
that have occurred but have not yet been reported to us. Under GAAP, we are not
permitted to establish loss reserves until an event that may give rise to a
claim occurs.
21
For reported losses, we establish liabilities when we receive notice of
the claim. It is our general policy to establish liabilities for reported losses
in an amount equal to the liability set by the reinsured. In certain instances,
we will conduct an investigation to determine if the amount established by the
reinsured is appropriate or if it should be adjusted.
For incurred but not reported losses, a variety of methods have been
developed in the insurance industry for use in determining our provision for
such liabilities. In general, these methods involve the extrapolation of
reported loss data to estimate ultimate losses. Our loss calculation methods
generally rely upon a projection of ultimate losses based upon the historical
patterns of reported loss development. Additionally, we make provision through
our liabilities for incurred but not reported losses for any identified
deficiencies in the liabilities for reported losses set by our reinsureds.
In reserving for catastrophe losses, our estimates are influenced by
underwriting information provided by our clients, industry catastrophe models
and our internal analyses of this information. This reserving approach can cause
significant development for an accident year when events occur late in the year,
as happened in 1999. As an event matures, we rely more and more on our own
development patterns by type of event as well as contract information to project
ultimate losses for the event.
In reserving for non-catastrophe losses from recent years, we are
required to make assumptions concerning the expected loss ratio usually for
broad lines of business, but sometimes on an individual contract basis. We
consider historical loss ratios for each line of business and utilize
information provided by our clients and estimates provided by underwriters and
actuaries concerning the impact of pricing and coverage changes. As experience
emerges, we revise our prior estimates concerning pricing adequacy and
non-catastrophe loss potential for our coverages and we will eventually rely
solely on our estimated development pattern in projecting ultimate losses.
Management believes that our overall liability for losses and loss
expenses recorded as of December 31, 2003 is adequate. There is a risk that our
liability for losses and loss expenses could prove to be greater or less than
expected in any year, because of the inherent uncertainty in the reserving
process with a consequent adverse impact on future earnings and shareholders'
equity. Estimating the ultimate liability for losses and loss expenses is an
imprecise science subject to variables that are influenced by both internal and
external factors. Historically, we have focused on property related coverages.
In contrast to casualty losses, which frequently are slow to be reported and may
be determined only through the lengthy, unpredictable process of litigation,
property losses tend to be reported more promptly and usually are settled within
a shorter time period. However, the estimation of losses for catastrophe
reinsurers is inherently less reliable than for reinsurers of risks that have an
established historical pattern of losses. In addition, we are required to make
estimates of losses based on limited information from ceding companies as well
as our own underwriting data due to the significant reporting delays that
normally occur under our retrocessional book of business and with respect to
insured losses that occur near the end of a reporting period.
22
Historically, we have underwritten a small amount of casualty
reinsurance. In 1998, we began underwriting new casualty lines of business and,
in 1999 and 2000 we substantially expanded our casualty and finite businesses.
In September 2001, we ceased underwriting non-finite casualty business. With
respect to casualty business, significant delays, ranging up to several years or
more, can be expected between the reporting of a loss to us and settlement of
our liability for that loss. As a result, such future claim settlements could be
influenced by changing rates of inflation and other economic conditions,
changing legislative, judicial and social environments and changes in our claims
handling procedures. In addition, most of the risks reinsured in our finite
business are also casualty risks and are subject to some of the same risks as
our casualty business. While the reserving process is difficult and subjective
for ceding companies, the inherent uncertainties of estimating such reserves are
even greater for a reinsurer, due primarily to the longer time between the date
of the occurrence and the reporting of any attendant claims to the reinsurer,
the diversity of development patterns among different types of reinsurance
treaties, the necessary reliance on the ceding companies for information
regarding reported claims and differing reserving practices among ceding
companies.
Our difficulty in accurately predicting casualty losses may also be
exacerbated by the limited amount of statistically significant historical data
regarding losses on our casualty lines of business. We must therefore rely on
the inherently less reliable historical loss patterns reported by ceding
companies and industry loss standards in calculating our casualty reserves.
Thus, the actual casualty losses and loss expenses may deviate, perhaps
substantially, from estimates of liabilities reflected in our consolidated
financial statements.
The following table provides a reconciliation of beginning and ending
loss and loss expense liabilities under GAAP for the fiscal years ended December
31, 2003, 2002 and 2001. Except with respect to certain workers' compensation
liabilities, discounted by $0.6 million and $0.8 million at December 31, 2003
and 2002, respectively, we do not discount our loss and loss expense
liabilities; that is, we do not calculate them on a present value basis.
23
Years Ended December 31,
------------------------------------------------
($000's) 2003 2002 2001
------------- ------------- -------------
Gross GAAP liability for losses and loss expenses, beginning of
year....................................................... $ 447,829 $ 453,705 $ 251,620
Gross provision for losses and loss expenses:
Occurring in current year................................ 119,889 118,345 318,373
Occurring in prior years................................. 58,121 41,352 34,339
------------- ------------- -------------
Total gross provision (1)................................ 178,010 159,697 352,712
------------- ------------- -------------
Gross payments for losses and loss expenses:
Occurring in current year................................ (27,304) (19,753) (63,960)
Occurring in prior years................................. (142,803) (151,264) (85,904)
------------- ------------- -------------
Total gross payments..................................... (170,107) (171,017) (149,864)
------------- ------------- -------------
Retroactive reinsurance adjustment............................ (8,074) 2,818 (763)
Foreign exchange and other adjustments........................ 2,977 2,626 -
------------- ------------- -------------
Gross GAAP liability for losses and loss expenses, end of year $ 450,635 $ 447,829 $ 453,705
============= ============= =============
Ceded GAAP liability for losses and loss expenses, end of year (146,924) (207,444) (245,906)
------------- ------------- -------------
Net GAAP liability for losses and loss expenses, end of year.. $ 303,711 $ 240,385 $ 207,799
============= ============= =============
================================================================================
(1) The GAAP provision for losses and loss expenses includes net foreign
currency exchange (losses) gains of $(3,272), $(7) and $981 for 2003,
2002, and 2001, respectively.
The following table presents the development of our GAAP balance sheet
liability for losses and loss expenses for the period 1993 through 2003. The top
line of the table shows the liabilities at the balance sheet date for each of
the indicated years. This reflects the estimated amount of losses and loss
expenses for claims arising in that year and all prior years that are unpaid at
the balance sheet date, including losses incurred but not yet reported to us.
The upper portion of the table shows the cumulative amounts subsequently paid as
of successive years with respect to such liabilities. The lower portion of the
table shows the re-estimated amount of previously recorded liabilities based on
experience as of the end of each succeeding year. These estimates change as more
information becomes known about the frequency and severity of claims for
individual years. A redundancy (deficiency) exists when the re-estimated
liability at each December 31 is less (greater) than the prior liability
estimate. The "cumulative redundancy (deficiency)" depicted in the table, for
any particular calendar year, represents the aggregate change in the initial
estimates over all subsequent calendar years.
Each amount in the table below includes the effects of all changes in
amounts for prior periods. For example, if a loss determined in 1996 to be
$150,000 was first reserved in 1993 at $100,000, the $50,000 deficiency (actual
loss minus original estimate) would be included in the cumulative redundancy
(deficiency) in each of the years 1993-1995 shown below. This table does not
present accident or policy year development data.
24
Year Ended December 31,
---------------------------------------------------------------------------------------------
($000's, except percentages) 2003 2002 2001 2000 1999 1998 1997 1996 1995 1994 1993
-------- -------- -------- -------- -------- -------- ------- ------- ------- ------- -------
Gross liabilities for losses
and loss expenses $450,635 $447,829 $453,705 $251,620 $261,551 $102,592 $57,189 $61,389 $72,719 $81,836 $71,442
Cumulative amount of liability
paid through:
One year later 142,803 151,264 85,904 210,519 75,814 29,108 23,708 42,698 41,601 37,820
Two years later 262,860 140,051 265,904 102,526 39,853 40,673 55,620 58,968 54,400
Three years later 172,147 294,211 112,966 47,373 46,545 67,296 67,630 60,850
Four years later 308,432 118,441 50,085 52,220 70,676 76,762 64,566
Five years later 124,796 52,181 54,144 74,533 79,433 69,414
Six years later 54,615 55,863 75,741 82,930 70,392
Seven years later 57,324 76,376 84,049 71,091
Eight years later 77,104 84,672 71,773
Nine years later 85,339 71,901
Ten years later 72,522
Liabilities reestimated as of:
One year later 500,643 499,773 285,959 338,881 135,227 57,280 66,257 83,228 87,818 78,188
Two years later 552,169 307,042 344,773 141,087 52,271 63,292 85,162 87,750 76,902
Three years later 330,963 351,349 139,220 63,151 61,178 83,178 90,409 74,683
Four years later 359,604 140,178 62,664 66,137 82,129 89,284 75,392
Five years later 143,745 63,973 65,819 85,820 88,326 74,880
Six years later 63,706 66,724 85,842 91,663 74,173
Seven years later 65,717 86,268 93,116 73,934
Eight years later 84,592 93,526 75,126
Nine years later 91,848 75,053
Ten years later 75,222
Gross reserves of TREX at date
of merger 9,589 5,242 2,067 26
Gross reserve for elimination of
one quarter lag for UK subsidiary (1,191)
Gross retroactive accounting (8,074) 2,817 2,055
Foreign exchange and other
adjustments 2,767 1,805 1,196 734 73 176 171 132 58 21
Gross cumulative redundancy
(deficiency) through December 31,
2003:
Amount (58,121) (93,842) (76,092) (97,319) (42,271) (6,341) 5,432 (6,499) (7,887) (3,733)
Percentage (13%) (21%) (30%) (37%) (41%) (11%) 9% (9%) (10%) (5%)
Retrocessional recoveries 12,325 23,471 21,609 25,504 10,381 5,353 (732) 7,386 3,240 2,480
Net cumulative redundancy
(deficiency) through December 31,
2003:
Amount (45,796) (70,371) (54,483) (71,815) (31,890) (988) 4,700 887 (4,647) (1,253)
Percentage (19%) (34%) (35%) (45%) (46%) (2%) 8% 2% (9%) (3%)
25
In calendar years 2003, 2002, 2001, 2000 and 1999 we experienced
adverse development of $45.8 million, $25.4 million, $17.9 million, $58.2
million and $19.8 million, respectively.
During 2003, we experienced net adverse development of $45.8 million
for prior-year loss and loss expenses, $21.8 million of which was due to loss
development on our exited direct casualty reinsurance operations, $8.8 million
adverse development from aerospace claims arising to a significant degree from
our first receipt of notice that the increase in industry losses related to a
1998 air crash had resulted in the exhaustion of deductibles under three
aerospace contracts between PXRE and Reliance Insurance Company and $8.2 million
of development from finite contracts, $7.3 million of which related to the
aggregate excess of loss reinsurance agreement referred to in Item 3. Pending
Legal Proceedings.
During 2002, we experienced net adverse development of $25.4 million
for prior-year loss and loss expenses, with $16.9 million from our exited lines
segment, $16.2 million of which was due to loss development on our exited direct
casualty reinsurance operations.
During 2001, we experienced net adverse development of $17.9 million
for prior-year loss and loss expenses. The adverse development was due primarily
to international casualty ($4.5 million), marine excess ($2.7 million), winter
storm Anatol ($2.7 million) and exited direct casualty reinsurance ($2.4
million).
In each of the calendar years 2001 to 2003, our direct casualty
business has sustained losses beyond what was originally estimated. We
underwrote this business primarily from 1999 to 2001. Initially, as described in
"Management's Discussion and Analysis - Critical Accounting Policy Disclosures -
Loss and Loss Expenses," we utilized several loss reserving techniques,
including those which were dependent on industry loss reporting patterns as
provided by various industry sources, estimates of pricing adequacy as measured
by the expected loss ratio, and earned premiums. As the data and the business
have matured, we have placed more weight on loss development techniques that
rely on the loss reporting pattern and reported losses. As a result of shifting
to actuarial methodologies more appropriate to a seasoned portfolio as well as
new information from both the industry and clients, we have re-estimated our
incurred losses recorded related to our direct casualty business for several
years.
During 2000, we experienced net adverse development of $58.2 million
for prior-year loss and loss expenses, $43.4 million of which was due to loss
development from catastrophic events that occurred late in 1999; during 1999, we
experienced net adverse development of $19.8 million for prior-year loss and
loss expenses, $8.1 million of which was due to loss development from
catastrophic events that occurred late in 1998.
In the last week of December 1999, French storms Lothar and Martin
resulted in significant losses to several of our reinsureds. Because of the
lateness in the year of the storms' occurrences and the unprecedented nature of
the catastrophes, only limited relevant data could be obtained from both our
clients and the industry by the time the loss reserving estimates were required
to be determined. As a result, our reserves (which utilize industry data as a
check on client-supplied data) were increased in subsequent years due to the
events that occurred at year-end 1999. There was a similar result in the
estimation of losses due to Hurricane George, which occurred in 1998, in that
industry wide losses were significantly underestimated.
26
A large portion of our adverse development during the previous five
years is due to significant industry-wide underpricing of underwriting years
1998 to 2001. The complete effect of the soft market during that period was not
initially reflected in the historical industry loss ratios. We estimate that the
underpricing of these three underwriting years amounted to $21.2 million of the
$45.8 million of 2003 adverse development, $17.0 million of the $25.4 million of
2002 adverse development, $9.0 million of the $17.9 million of adverse
development in 2001, $10.5 million of the $58.2 million of adverse development
in 2000 and $4.3 million of the $19.8 million of adverse development in 1999.
The balance of the adverse development in each of the years discussed
above is due to a variety of factors outlined in the section "Loss Liabilities
and Claims" and in "Management Discussion and Analysis - Critical Accounting
Policy Disclosures - Loss and Loss Expenses", including late reporting by
clients (particularly retrocedents) and the imprecise nature of the actuarial
science accentuated when the risk is catastrophe coverage rather than large
numbers of homogeneous small dollar risks. Our reserving assumptions are updated
on an ongoing basis as new information becomes available to minimize this
residual adverse development, which arises from many causes.
Conditions and trends that have affected reserve development in the
past may not necessarily occur in the future. Accordingly, it would not be
appropriate to extrapolate the future adequacy or inadequacy of our reserves
based on the foregoing.
Business: Investments
Our investment strategy focuses on maintaining the majority of our
investment portfolio in high quality fixed income investments while allocating a
percentage of the portfolio to a well diversified portfolio of hedge fund
investments. As of December 31, 2003, approximately 86% of the carrying value of
our investment portfolio was comprised of fixed maturity and short-term
securities with a weighted average credit rating of AA+ and approximately 14% of
the carrying value of our portfolio was comprised of investments in 24 different
hedge funds and other limited partnerships. Our current diversified managed
hedge fund strategy has generated only one quarter of negative returns over the
past seven years. Our goal is to achieve a low correlation between risks in our
underwriting operation and risks in our investment portfolio. Management of all
our investments is outsourced to third parties, with strict oversight by
management and our Board.
We have established general procedures and guidelines for our
investment portfolio. General Re-New England Asset Management, Inc ("NEAM") and
Mariner, a specialist in alternative investments, are our principal investment
managers. Our investment policies stress conservation of principal,
diversification of risk and liquidity. Our invested assets consist primarily of
bonds with fixed maturities, hedge funds, and short-term investments, but also
include limited amounts of other non-hedge fund limited partnership investments.
Our investments are subject to market-wide risks and fluctuations, as well as to
risks inherent in particular securities.
27
As of December 31, 2003, we had, at fair value, $639.1 million in fixed
maturities, $175.8 million in short-term investments (which we define as being
investments which have an original maturity of one year or less), $121.5 million
in hedge fund limited partnerships, and $10.2 million in other invested assets
that are comprised primarily of other limited partnerships. As at December 31,
2003, hedge fund investments were allocated among eighteen managers, with fair
values ranging from $1.4 million to $16.6 million. Hedge funds and other limited
partnership investments are accounted for under the equity method whereby both
the investment income and any change in the fair value are recorded through the
investment income line of the income statement. The fair value of hedge funds,
which approximate their redemption values, are established by the individual
hedge fund managers based on the underlying contractual agreements for such
hedge funds. Foreign denominated fixed maturities are accounted for as part of a
trading portfolio, whereby both the investment income and a portion of the
change in the fair value are recorded through the investment income line of the
income statement. Included in investments in limited partnerships are
investments actively managed by Mariner. See Note 4 of Notes to Consolidated
Financial Statements. See also, Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations -Critical Accounting Policy
Disclosures - Valuation of Investments" for further information regarding our
investment portfolio, including our hedge fund portfolio.
The following table summarizes our investments at December 31, 2003 and
2002 at carrying value:
Analysis of Investments
December 31, 2003 December 31, 2002
----------------------- ----------------------
($000's, except percentages) Amount Percent Amount Percent
----------- ------- ----------- -------
Fixed maturities:
United States treasury securities $ 40,237 4.2% $ 46,165 6.1%
Foreign denominated securities 21,451 2.3 21,871 2.9
Foreign government securities - - 315 -
United States government sponsored agency debentures 115,440 12.2 38,062 5.0
United States government sponsored agency
mortgage-backed securities 134,323 14.2 42,467 5.6
Other mortgage and asset-backed securities 146,196 15.4 143,736 19.0
Municipal securities 18,584 2.0 76,522 10.1
Corporate securities 162,878 17.2 131,611 17.3
----------- ------- ----------- -------
Total fixed maturities 639,109 67.5 500,749 66.0
Short-term investments 175,771 18.6 133,318 17.6
----------- ------- ----------- -------
Total 814,880 86.1 634,067 83.6
Hedge funds 121,466 12.8 113,105 14.9
Other invested assets 10,173 1.1 11,529 1.5
----------- ------- ----------- -------
Total investment portfolio $ 946,519 100.0% $ 758,701 100.0%
=========== ======= =========== =======
At December 31, 2003, the fair value of our investment portfolio
exceeded its cost by $39.5 million, of which $35.7 million related to limited
partnerships and the trading portfolio and $3.8 million related to unrealized
appreciation on fixed maturities. At December 31, 2002, the fair value of our
investment portfolio exceeded its cost by $44.5 million, of which $31.6 million
related to limited partnerships and the trading portfolio and $12.9 million
related to unrealized appreciation on fixed maturities.
28
We regularly monitor the difference between the estimated fair value of
our investments and their cost or book values to identify underperforming
investments and whether declines in value are temporary in nature, or "other
than temporary". If we believe a decline in the value of a particular investment
is temporary, we record the decline as an unrealized loss, net of tax, in our
shareholders' equity. If we believe the decline is "other than temporary", we
write down the carrying value of the investment and record a realized loss on
our statement of income and comprehensive income. We formally review each
quarter the unrealized losses by value, and all investments that have been in an
unrealized loss position for more than six months. In assessing whether an
investment is suffering a decline in value that is other than temporary we pay
particular attention to those trading at 80% or less of original cost, and those
investments that have been downgraded by any of the major ratings agencies,
general market conditions, and the status of principal and interest payments. If
we conclude that a decline is other than temporary we recognize a realized
investment loss for the impairment. In 2003, we recognized $0.2 million of
impairment losses on an asset-backed security whose value had fallen below 80%
of face value for more than six months.
The following table indicates the composition of our fixed maturity
investments, including short-term investments, at fair value, by time to
maturity at December 31, 2003 and 2002:
Composition of Investments By Maturity
December 31, 2003 December 31, 2002
----------------------- ----------------------
($000's, except percentages) Amount Percent Amount Percent
----------- ------- ----------- -------
Maturity (1)
One year or less $ 197,757 24.3% $ 195,487 30.8%
Over 1 year through 5 years 435,373 53.4 227,583 35.9
Over 5 years through 10 years 172,737 21.2 195,287 30.8
Over 10 years through 20 years 392 - 7,089 1.1
Over 20 years 8,621 1.1 8,621 1.4
----------- ------- ----------- -------
Total fixed maturities and short-term investments $ 814,880 100.0% $ 634,067 100.0%
=========== ======= =========== =======
===============================================================================
(1) Based on expected maturity dates, which consider call options and prepayment
assumptions.
The average yield to maturity of our fixed maturities portfolio,
including short-term investments at December 31, 2003 and 2002 was 3.2% and
3.3%, respectively.
The following table summarizes investments with unrealized losses at
fair value by length of continuous unrealized loss position:
29
One Year or Less Over One Year
------------------------- --------------------------
Unrealized Unrealized
($000's) Fair Value Loss Fair Value Loss
----------- ----------- ----------- -----------
United States treasury securities $ 30,614 $ (61) $ - $ -
United States government sponsored agency debentures 34,384 (1,439) - -
United States government sponsored agency mortgage-backed
securities 52,337 (222) - -
Other mortgage and asset-backed securities 71,545 (985) - -
Corporate securities 54,656 (1,501) - -
----------- ----------- ----------- -----------
Total temporarily impaired securities $ 243,536 $ (4,208) $ - $ -
=========== =========== =========== ===========
30
The following table indicates the composition of our fixed maturities
portfolio, at fair value, excluding short-term investments, by rating at
December 31, 2003 and 2002:
Composition of
Fixed Maturities Portfolio By Rating (1)
December 31, 2003 December 31, 2002
--------------------------- --------------------------
($000's, except percentages) Amount Percent Amount Percent
--------------- ------- ------------- -------
United States treasury securities $ 40,237 6.3% $ 46,165 9.2%
Foreign denominated securities
Aaa and/or AAA 15,808 2.5 21,871 4.4
Aa2 and/or AA 5,643 0.9 - -
Foreign government securities
Aa2 and/or AA - - 315 0.1
United States government sponsored agency debentures
Aaa and/or AAA 114,926 18.0 38,062 7.6
Aa2 and/or AA 514 0.1 - -
United States government sponsored agency mortgage-
backed securities 134,323 21.0 42,467 8.5
Other mortgage and asset-backed securities
Aaa and/or AAA 130,256 20.4 111,788 22.3
Aa2 and/or AA 12,271 1.9 7,510 1.5
A2 and/or A 3,447 0.5 23,920 4.8
Baa2 and/or BBB - - 343 0.1
Not rated or below BB 222 0.1 175 -
Municipal securities
Aaa and/or AAA 11,540 1.8 53,659 10.7
Aa2 and/or AA 7,044 1.1 22,863 4.6
Corporate securities
Aaa and/or AAA 5,332 0.8 7,846 1.6
Aa2 and/or AA 16,918 2.6 14,104 2.8
A2 and/or A 123,588 19.3 87,358 17.4
Baa2 and/or BBB 16,811 2.6 21,680 4.3
Ba2 and/or BB 229 0.1 623 0.1
--------------- ------- ------------- -------
Total fixed maturities $ 639,109 100.0% $ 500,749 100.0%
=============== ======= ============= =======
Aaa and/or AAA $ 452,422 70.8% $ 321,858 64.3%
Aa2 and/or AA 42,390 6.6 44,792 8.9
A2 and/or A 127,035 19.9 111,278 22.2
Baa2 and/or BBB 16,811 2.6 22,023 4.4
Ba2 and/or BB and/or below 451 0.1 798 0.2
--------------- ------- ------------- -------
Total fixed maturities $ 639,109 100.0% $ 500,749 100.0%
=============== ======= ============= =======
================================================================================
(1) Ratings as assigned by Moody's and S&P, respectively. Such ratings are
generally assigned upon the issuance of the securities, subject to
revision on the basis of ongoing evaluations. Where Moody's and S&P
have different ratings for a security, the lower rating is used for
classification.
Set out below are the actual total returns of the different elements of
our investment portfolio, together with the indices against which we benchmark
the portfolio's performance. We use a composite of U.S. Lehman Bond indices for
fixed maturities, 1-month LIBOR for short-term investments and the CISDM Fund of
Funds Index for hedge funds and other investments. The composite used for fixed
maturities is derived from the Lehman Aggregate Index, the Lehman Government 1-3
Year Index, and the Lehman AA Credit Index. Since we do not have an equity
portfolio, the Standard & Poors 500 Index is not used as a comparative measure
of performance.
31
Actual vs. Benchmark Total Return Year Ended December 31,
-----------------------------------------------------
2003 2002
----------------------- -----------------------
Actual Benchmark Actual Benchmark
------ --------- ------ ---------
Fixed maturities 3.3% 3.2% 11.1% 10.9%
Short-term investments 1.1% 1.2% 1.4% 1.8%
Total fixed maturities and short-term investments 2.8% 2.7% 8.6% 8.7%
Hedge funds 11.8% 9.9% 7.1% 1.0%
Other invested assets 0.0% 9.9% 13.0% 1.0%
Total investment portfolio 4.0% 3.8% 8.5% 7.2%
The investment committee of our Board of Directors and management
periodically evaluate the composition of the investment portfolio and reposition
the portfolio in response to market conditions in order to improve total
risk-adjusted returns while maintaining liquidity and superior credit quality.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Investments - Market Risk."
Business: Ratings
A.M. Best maintains a letter scale rating system ranging from "A++"
(superior) to "F" (in liquidation). S&P maintains a letter scale rating system
ranging from "AAA" (extremely strong) to "R" (under regulatory supervision).
PXRE Group Ltd., including its main operating subsidiaries, PXRE Reinsurance and
PXRE Bermuda, is rated "A" (excellent) by A.M. Best, which is the third highest
of fifteen rating levels, and "A" (strong) by S&P, which is the sixth highest of
twenty-one rating levels.
The property catastrophe reinsurance market is highly sensitive to the
ratings assigned by the rating agencies. If A.M. Best or S&P were to downgrade
us, such downgrade would likely have a material negative impact on our ability
to expand our reinsurance portfolio and renew our existing reinsurance
portfolio, especially if we were to be downgraded more than one level. These
ratings are based upon factors that may be of concern to policyholders, agents
and intermediaries, but may not reflect the considerations applicable to an
investment in a reinsurance or insurance company. A change in any such rating is
at the discretion of the respective rating agencies.
It is increasingly common for our assumed reinsurance contracts to
contain terms that would allow our clients to cancel the contract if we are
downgraded below various rating levels by one or more rating agencies. Typically
such cancellation clauses are triggered if A.M. Best or S&P were to downgrade us
below "A-." Whether a client would exercise such rights would depend, among
other things, on the reasons for such a downgrade, the extent of the downgrade,
the prevailing market conditions, the degree of unexpired coverage, and the
pricing and availability of replacement reinsurance coverage. We cannot predict
in advance whether and how many of our clients would actually exercise such
rights or what effect such cancellations would have on our financial condition
or future prospects, but such an effect could potentially be materially adverse.
For new or renewed contracts at January 1, 2004, 57% (by premium volume) contain
provisions allowing clients additional rights upon a decline in PXRE's ratings.
32
In addition, certain of our excess of loss reinsurance contracts
require us to transfer premiums currently retained by us on a funds withheld
basis into a trust for the benefit of the reinsurers if A.M. Best were to
downgrade us below "A-." In addition, certain other ceded excess of loss
reinsurance contracts contain provisions that give the reinsurer the right to
cancel the contract and require us to pay a termination fee. The amount of the
termination fee would be dependent upon various factors, including level of loss
activity.
Business: Regulation
United States
PXRE Reinsurance is subject to regulation under the insurance statutes
of various U.S. states, including Connecticut, the domiciliary state of PXRE
Reinsurance. The regulation and supervision to which PXRE Reinsurance is subject
relate primarily to the standards of solvency that must be met and maintained,
licensing requirements for reinsurers, the nature of and limitations on
investments, deposits of securities for the benefit of a reinsured, methods of
accounting, periodic examinations of the financial condition and affairs of
reinsurers, the form and content of reports of financial condition required to
be filed, reserves for losses and other matters. In general, such regulation is
for the protection of the reinsureds and policyholders, rather than investors.
In addition, the Company and PXRE Delaware are subject to regulation
under the insurance holding company statutes of various U.S. states, including
Connecticut. These laws and regulations vary from state to state, but generally
require an insurance holding company and reinsurers that are subsidiaries of an
insurance holding company to register with the state regulatory authorities and
to file with those authorities certain reports including information concerning
their capital structure, ownership, financial condition, and general business
operations. Moreover, PXRE Reinsurance may not enter into certain transactions,
including certain reinsurance agreements, management agreements, and service
contracts, with members of its insurance holding company system, unless it has
first notified the Connecticut Insurance Commissioner of its intention to enter
into any such transaction and the Connecticut Insurance Commissioner does not
disapprove of such transaction within the period specified by the Connecticut
insurance statute. Among other things, such related company transactions are
subject to the requirements that their terms be fair and reasonable, charges or
fees for services performed be reasonable and the interests of policyholders not
be adversely affected.
State laws also require prior notice or regulatory agency approval of
direct or indirect changes in control of an insurer, reinsurer, or its holding
company, and of certain significant inter-corporate transfers of assets within
the holding company structure. An investor who acquires or attempts to acquire
shares representing or convertible into more than 10% of the voting power of the
securities of the Company would become subject to at least some of such
regulations, would require approval by the Connecticut Insurance Commissioner
prior to acquiring such shares and would be required to file certain notices and
reports with the Connecticut Insurance Commissioner prior to such acquisition.
See "Market for Registrant's Common Equity and Related Stockholder Matters" for
a discussion of other limitations on voting and ownership of the Company's
securities contained in the Company's Bye-Laws.
33
The principal sources of cash for the payment of operating expenses,
debt service obligations, and dividends by the Company are the receipt of
dividends from PXRE Reinsurance, PXRE Bermuda and PXRE Barbados. Under the
Connecticut insurance laws, the maximum amount of dividends or other
distributions that PXRE Reinsurance may declare or pay within any twelve-month
period, without regulatory approval, is limited to the lesser of (a) earned
surplus or (b) the greater of 10% of policyholders' surplus at December 31 of
the preceding year or 100% of net income for the twelve-month period ended
December 31 of the preceding year, all determined in accordance with SAP.
Accordingly, the Connecticut insurance laws could limit the amount of dividends
available for distribution by PXRE Reinsurance without prior regulatory
approval, depending upon a variety of factors outside our control, including the
frequency and severity of catastrophe and other loss events and changes in the
reinsurance market, in the insurance regulatory environment and in general
economic conditions. The maximum amount of dividends or distributions that PXRE
Reinsurance may declare and pay without regulatory approval during 2004 is
limited to approximately $42.5 million. During 2003, PXRE Reinsurance paid
dividends of $65.7 million. See below for a discussion of dividend restrictions
applicable to PXRE Bermuda and PXRE Barbados. See also "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Financial
Condition - Capital Resources."
Additionally, Connecticut has adopted regulations respecting certain
minimum capital requirements for property and casualty companies, based upon a
model adopted by the National Association of Insurance Commissioners (the
"NAIC"). The NAIC assists state insurance supervisory officials in achieving
insurance regulatory objectives, including the maintenance and improvement of
state regulation. The risk-based capital regulations adopted provide for the use
of a formula to measure statutory capital and surplus needs based on the risk
characteristics of a company's products and investment portfolio to identify
weakly capitalized companies. As of December 31, 2003, PXRE Reinsurance's
surplus was $425.2 million and substantially exceeded its calculated risk-based
capital authorized control level, which was $29.1 million.
The NAIC's Insurance Regulatory Information System ("IRIS") was
developed by a committee of state insurance regulators and is primarily intended
to assist state insurance departments in executing their statutory mandates to
oversee the financial condition of insurance companies operating in their
respective states. IRIS identifies twelve industry ratios and specifies "usual
values" for each ratio. Departure from the usual values on four or more of the
ratios can lead to inquiries from individual state insurance commissioners as to
certain aspects of an insurer's business. For the years ended December 31, 2003,
2002 and 2001, PXRE Reinsurance's results were within the usual values for each
of the twelve ratios, except for three ratios in 2003, three ratios in 2002 and
one ratio in 2001. The three ratios that fell outside the range in 2003 were due
to (a) decreases in net writings in 2003 due to a decrease in finite premiums in
2003 compared to 2002 and net premiums written by PXRE Bermuda previously
written by PXRE Reinsurance, (b) decreased investment yield associated with
general market conditions and (c) decreased surplus primarily due to dividends
paid. The three ratios that fell outside of the range in 2002 were due to (a)
increases in net writings in 2002 due to the hardening market following
September 11, 2001 and the decreased net writings in 2001 due to premiums ceded
as a result of September 11, 2001, (b) decreased investment yield associated
with general market interest rate levels in 2002 and interest on funds held, and
(c) reserve deficiencies relative to surplus due to deficiencies in PXRE's
exited lines segment which included its direct writing unit. The one ratio that
fell outside the usual range in 2001 was due to an increase in excess of loss
ceded premiums written and the statutory accounting effect of one retroactive
contract.
34
From time to time, various regulatory and legislative changes have been
proposed in the U.S. insurance industry, some of which could have an effect on
reinsurers and insurers. Among the proposals that have in the past been or are
at present being considered are the possible introduction of federal regulation
in addition to, or in lieu of, the current system of state regulation of
insurers, an initiative to create a federally guaranteed disaster reinsurance
pool pre-funded by insurers and proposals in various state legislatures (some of
which have been enacted) to conform portions of their insurance laws and
regulations to various model acts adopted by the NAIC. We are unable to predict
what effect, if any, the foregoing developments may have on our operations and
financial condition in the future.
Bermuda
The Insurance Act 1978 of Bermuda and related regulations
(collectively, the "Act") impose on Bermuda insurance companies, including PXRE
Bermuda, solvency and liquidity standards and auditing and reporting
requirements, and grants to the Bermuda Monetary Authority ("BMA") powers to
supervise, investigate and intervene in the affairs of insurance companies.
The Act provides that the value of the general business assets of a
Class 3 insurer must exceed the amount of its general business liabilities by a
prescribed minimum solvency margin. PXRE Bermuda, as a Class 3 insurer, is
required to maintain a minimum solvency margin equal to the greatest of: (a)
$1.0 million, (b) 20% of net premiums written up to $6.0 million, or where net
premiums are projected to exceed $6.0 million, $1.2 million plus 15% of net
premiums written over $6.0 million or (c) 15% of loss reserves. In addition,
PXRE Bermuda is prohibited from declaring or paying any dividends during any
financial year it is in breach of its minimum solvency margin or minimum
liquidity ratio or if the declaration or payment of such dividends would cause
it to fail to meet such margin or ratio. If it fails to meet its minimum
solvency margin or minimum liquidity ratio on the last day of any financial
year, the insurer will be prohibited, without the approval of the BMA, from
declaring or paying any dividends during the next financial year.
As a Class 3 insurer, PXRE Bermuda also is prohibited, without the
approval of the BMA, from reducing by 15% or more its total statutory capital,
as set out in its previous year's financial statements, and if it appears to the
BMA that there is a risk of the insurer becoming insolvent or that it is in
breach of the Act or any conditions imposed upon its registration, the BMA may,
in addition to the restrictions specified above, direct the insurer not to
declare or pay any dividends or any other distributions or may restrict it from
making such payments to such extent as the BMA may think fit.
35
The Act provides a minimum liquidity ratio for general business. An
insurer engaged in general business is required to maintain the value of its
relevant assets at not less than 75% of the amount of its relevant liabilities.
Relevant assets include cash and time deposits, quoted investments, unquoted
bonds and debentures, first liens on real estate, investment income due and
accrued, accounts and premiums receivable and reinsurance balances receivable.
There are certain categories of assets that, unless specifically permitted by
the BMA, do not automatically qualify as relevant assets such as unquoted equity
securities, investments in and advances to affiliates, real estate and
collateral loans. The relevant liabilities are total general business insurance
reserves and total other liabilities less deferred income tax and sundry
liabilities (by interpretation, those not specifically defined).
Under Bermuda law, PXRE Bermuda may not lawfully declare or pay a
dividend unless there are reasonable grounds for believing that it is, or will
after payment of the dividend be, able to pay its liabilities as they become
due, and that the realizable value of its assets will, after payment of the
dividend, be greater than the aggregate value of its liabilities, issued share
capital and share premium accounts.
At December 31, 2003, PXRE Bermuda's solvency and liquidity margins and
statutory capital and surplus were in excess of the minimum levels required by
the Act.
Barbados
PXRE Barbados is subject to regulation under Barbados' Insurance Act,
1996, (the "Barbados Act"). Under the Barbados Act, PXRE Barbados may only pay a
dividend out of the realized profits of the company and may not pay a dividend
unless (a) after payment of the dividend it is able to pay its liabilities as
they become due, and (b) the realizable value of its assets is greater than the
aggregate value of its liabilities and (c) the stated capital accounts are
maintained in respect of all classes of shares.
PXRE Barbados is also required to maintain assets in an amount that
permits it to meet the prescribed minimum solvency margin for the net premium
income level of its business. In respect of its general insurance business, PXRE
Barbados is required to maintain the following margin of solvency:
(i) to the extent that premium income of the preceding financial
year did not exceed US$750,000, assets must exceed liabilities
by US$125,000;
(ii) to the extent that premium income of the preceding financial
year exceeds US$750,000 but is equal to or less than US$5.0
million, the assets must exceed liabilities by 20% of the
premium income of the preceding financial year; and
(iii) to the extent that premium income of the preceding financial
year exceeds US$5.0 million, the assets must exceed
liabilities by the aggregate of US$1.0 million and 10% of the
premium income of the preceding financial year.
PXRE Barbados is not required at the present time to maintain any
additional statutory deposits or reserves relative to its business.
36
United Kingdom
PXRE Limited and PXRE Lloyd's Syndicate 1224 are subject to regulation
by Lloyd's. The form of that regulation is prescribed by the Lloyd's Act of 1982
and Lloyd's internal regulatory bye-laws and directions. The regulation and
supervision to which PXRE Limited is subject relates primarily to the
maintenance of a risk based capital requirement (by way of a deposit of
securities with Lloyd's to support its underwriting) and prescribed methods of
accounting. PXRE Lloyd's Syndicate 1224 has to comply with accounting
regulation, internal reporting, and is subject to periodic examinations of
compliance. The Lloyd's market is regulated externally by the Financial Services
Authority, although the day-to-day regulation of the market remains the
responsibility of the Council of Lloyd's. All cash and invested assets of PXRE
Lloyd's Syndicate 1224, amounting to approximately $9.2 million at December 31,
2003, are restricted from being paid as a dividend until the run off is
completed.
Business: Taxation of PXRE and its Subsidiaries
The following summary of the taxation of the Company, PXRE Bermuda,
PXRE Barbados and our U.S. subsidiaries, including PXRE Reinsurance
(collectively, the "PXRE U.S. Companies") is based upon current law.
Legislative, judicial or administrative changes may be forthcoming that could
affect this summary. See, for example, "Legislation" below. Certain subsidiaries
and branch offices of PXRE are subject to taxation related to our operations in
the United Kingdom and Belgium.
Bermuda
Under current Bermuda law, no income, withholding or capital gains
taxes are imposed on the Company or PXRE Bermuda. The Company and PXRE Bermuda
have each received an assurance from the Minister of Finance under The Exempted
Undertakings Tax Protection Act, 1966 of Bermuda, to the effect that in the
event of there being enacted in Bermuda any legislation imposing tax computed on
profits or income, or computed on any capital asset, gain or appreciation, or
any tax in the nature of estate duty or inheritance tax, then the imposition of
any such tax shall not be applicable to the Company or PXRE Bermuda or to any of
their operations or their shares, debentures or other obligations until March
28, 2016. These assurances are subject to the proviso that they are not to be
construed so as to prevent the application of any tax or duty to such persons as
are ordinarily resident in Bermuda (the Company and PXRE Bermuda are not
currently so designated) or to prevent the application of any tax payable in
accordance with the provisions of The Land Tax Act of 1967 of Bermuda or
otherwise payable in relation to the land leased to the Company or PXRE Bermuda.
The Company and PXRE Bermuda each pay annual Bermuda government fees and PXRE
Bermuda pays annual insurance license fees. In addition, all entities employing
individuals in Bermuda are required to pay a payroll tax and other sundry fees
and levies, directly or indirectly, to the Bermuda government.
Barbados
Under Barbados law, PXRE Barbados is subject to tax on its worldwide
income at the normal corporation tax rate of 37.5%. PXRE Barbados is allowed a
tax credit in respect of premiums from insurance business and investment income
that does not originate in Barbados ("foreign business"). To the extent that the
foreign business constitutes more than 81% of the aggregate total insurance
business and investment returns of PXRE Barbados, PXRE Barbados will be allowed
a tax credit of 93%, thereby reducing the effective tax rate in Barbados to
2.6%.
37
United States
The PXRE U.S. Companies carry on business in, and are subject to
taxation in, the United States. The Company believes that it and its
subsidiaries, other than the PXRE U.S. Companies, have operated and will
continue to operate their business in a manner that will not cause them to be
treated as engaged in a trade or business within the United States. Tax
conventions between the United States and Bermuda or Barbados may provide relief
to PXRE Bermuda and PXRE Barbados, respectively, if either such company is
deemed to be engaged in the conduct of a U.S. trade or business. Under the tax
convention between Bermuda and the United States (the "Bermuda Treaty"), a
Bermuda company predominantly engaged in the insurance business, such as PXRE
Bermuda, is subject to U.S. income tax on its insurance income found to be
effectively connected with a U.S. trade or business only if that trade or
business is conducted through a permanent establishment in the United States. As
a holding company that is not predominantly engaged directly in an insurance
business, the Company is not entitled to the benefits of the Bermuda Treaty.
Similarly, under the tax convention between Barbados and the United States (the
"Barbados Treaty"), a corporation that is a Barbados resident will not be
subject to U.S. income tax on income that is effectively connected with a U.S.
business, unless such business is conducted through a permanent establishment in
the United States. Each of the Company, PXRE Bermuda and PXRE Barbados operate
under guidelines that are intended to minimize the risk that they will be
treated as engaged in a U.S. trade or business; and each of PXRE Bermuda and
PXRE Barbados operate under guidelines that are intended to minimize the risk
that they will be found to have a U.S. permanent establishment.
On this basis, we do not expect that the Company and our subsidiaries,
other than the PXRE U.S. Companies, will be required to pay U.S. federal
corporate income taxes (other than withholding taxes on certain U.S. source
investment income and excise taxes on reinsurance premiums as described below).
However, irrespective of such guidelines, there can be no assurance that PXRE
Bermuda and PXRE Barbados will qualify for the Bermuda Treaty and the Barbados
Treaty, respectively, now or in the future, or that the Bermuda Treaty or the
Barbados Treaty will not be terminated or revised in a manner that could
adversely affect any protection from U.S. corporate tax that they currently
provide. In fact, according to U.S. Treasury Department News Release JS-945 of
October 27, 2003, negotiators from the United States and Barbados have been
meeting on a priority basis to discuss revisions to the current tax treaty "to
ensure that it operates in the manner intended, providing relief from double
taxation for cross-border trade and investment between the two countries." We
are not in a position at this time to anticipate what, if any, changes might be
made to the Barbados Treaty as a result of these discussions or how any such
changes might impact the Company. In addition, we note that a single-sponsor
bill was introduced in the U.S. House of Representatives on September 17, 2003
that would, by its terms, override the Barbados Treaty for purposes of applying
the Internal Revenue Code with respect to taxable years ending after the date of
enactment. If such legislation were enacted, dividends paid by PXRE Delaware to
PXRE Barbados would be subject to the 30% withholding tax. Such a result may
have a materially adverse effect on our financial condition and results of
operations.
38
In addition, because there is uncertainty as to the activities that
constitute being engaged in a trade or business in the United States, there can
be no assurances that the U.S. Internal Revenue Service will not contend
successfully that the Company or a non-U.S. subsidiary is engaged in a trade or
business in the United States. The maximum federal tax rates currently are 35%
for a corporation's income that is effectively connected with a trade or
business in the United States. In addition, the U.S. branch profits tax of 30%
is imposed each year on a foreign (or non-U.S.) corporation's earnings and
profits (with certain adjustments) effectively connected with its U.S. trade or
business that are deemed repatriated out of the United States, for a potential
maximum effective tax rate of approximately 55% on the net business connected
with a U.S. trade or business.
The Company and its non-U.S. subsidiaries are subject to U.S.
withholding tax at the 30% rate on certain income from U.S. sources which is not
considered effectively connected with the conduct of a U.S. trade or business.
This rate is generally reduced to 5% under the Barbados Treaty which, as
discussed above, we believe should be applicable to dividends paid to PXRE
Barbados by our U.S. subsidiaries.
The United States also imposes an excise tax on insurance and
reinsurance premiums paid to foreign insurers or reinsurers with respect to
risks located in the United States. The rate of tax applicable to reinsurance
premiums paid to PXRE Bermuda and PXRE Barbados is 1% of gross premiums.
Legislation
Bills remain under consideration and continue to be introduced in both
houses of the U.S. Congress that might adversely affect the federal income tax
treatment of persons involved in so- called "inversion" or "expatriation"
transactions similar to the October 1999 reorganization of the Company described
herein under "Business: History." Among the potentially adverse tax consequences
of certain of these bills, a foreign corporation such as the Company would be
taxed as a U.S. domestic corporation under the Internal Revenue Code if it
participated in an "inversion" or "expatriation" transaction, subsequent
transaction among "related" parties could require prior Internal Revenue Service
approval and/or expanded "earnings stripping" rules could result in the
disallowance of interest deductions by related U.S. borrowers. "Anti inversion"
provisions such as these were deleted from the Jobs and Growth Tax Relief Act of
2003 (P.L.108-27) signed into law on May 28, 2003, and most, if not all, of the
currently pending "anti-inversion" bills would not apply to "inversion" or
"expatriation" transactions which took place as long ago as October 1999. In
addition, legislation has been proposed which would allow the IRS to reallocate
the amount of income between related persons who are parties to a reinsurance
transaction. However, we are unable to predict whether any such current or
future "anti-inversion" reallocation legislative proposals will be enacted, the
exact form any such legislation may ultimately take and what impact any such
legislation would have on us.
39
Business: Employees
We employed 72 full-time employees at December 31, 2003. No employees
are represented by a labor union, and management considers its relationship with
our employees to be excellent.
A significant number of the PXRE's Bermuda based employees, including
senior management of the Company and PXRE Bermuda, are employed pursuant to work
permits granted by Bermuda authorities. The Bermuda government will issue a work
permit for a specific period of time, which may be extended upon showing that,
after proper public advertisements, no Bermudian (or spouse of a Bermudian) is
available who meets the minimum standards for the advertised position. The
Bermuda government has a policy that limits the duration of work permits to six
years, subject to certain exemptions for key employees. Substantially all of our
key officers, including our Chief Executive Officer, Chief Financial Officer,
most executive vice presidents and key reinsurance underwriters are working in
Bermuda under work permits that will expire over the next three years. The
Bermuda government could refuse to extend these work permits. If any of our
senior executive officers were not permitted to remain in Bermuda, our
operations could be disrupted and our financial performance could be adversely
affected.
Business: Available Information
We file annual, quarterly and current reports, proxy statements and
other information with the SEC. You may read and copy any documents we file at
the SEC's public reference room at room 1024, 450 Fifth Street, NW, Washington,
D.C. 20549. Please call the SEC at 1-800-SEC-0330 for information on the public
reference room. The SEC maintains a website that contains annual, quarterly and
current reports, proxy statements and other information that we file
electronically with the SEC. The SEC's website is http://www.sec.gov.
We maintain an Internet website at http://www.pxre.com. We make
available free of charge on our website our annual report on Form 10-K, our
quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to
those reports filed or furnished pursuant to Section 13(a) of the Securities
Exchange Act of 1934 as soon as practicable after we electronically file such
material with, or furnish it to, the SEC.
We also post the following PXRE corporate governance documents on our
website:
o Corporate Governance Guidelines
o Audit Committee Charter
o Nominating/Corporate Governance Committee Charter
o Human Resources Charter
o Code of Business Conduct and Ethics for Directors, Officers
and Employees
40
We will deliver any of these corporate governance documents free of
charge upon request by any investor. Investors should contact The Ruth Group,
our regularly retained investor relations consultant by calling Stephanie
Carrington, 646-536-7017, to request any of those documents.
The information on our website is not incorporated by reference into
this report.
Item 2. Properties
PXRE leases office space in Bermuda where our principal executive
offices are located, and in Edison, New Jersey, where PXRE Reinsurance's
principal offices are located. We also lease office space in Brussels, Belgium.
Our properties are leased on terms and for durations that are reflective of
commercial standards in the communities where these properties are located. PXRE
believes the facilities it occupies are adequate for the purposes for which they
are currently used and are well maintained.
Item 3. Pending Legal Proceedings
We are subject to litigation and arbitration in the ordinary course of
business. Except as disclosed below, management does not believe that the
eventual outcome of any such pending litigation or arbitration is likely to have
a material effect on our financial condition or business. Pursuant to our
insurance and reinsurance arrangements, disputes are generally required to be
finally settled by binding arbitration.
In April 2000, PXRE Reinsurance entered into an aggregate excess of
loss retrocessional reinsurance agreement with a U.S. based cedent. In the
agreement, PXRE Reinsurance reinsured a portfolio of treaties underwritten by a
former business unit of the cedent, which had been divested. Pursuant to this
excess of loss retrocessional agreement, PXRE Reinsurance agreed to indemnify
the cedent for losses in excess of a 75% paid loss ratio on this underlying
portfolio of treaties up to a 100% paid loss ratio, subject to an aggregate
limit of liability of $50.0 million. The latest loss reports related to the
agreement provided by the cedent forecast an ultimate net loss ratio in excess
of 100%, which could result in a full limit loss to PXRE.
In June 2003, PXRE Reinsurance performed an audit of this portfolio of
treaties reinsured under the agreement. As a result of this audit, management
identified problems and believes that the cedent breached its contractual
obligations and fiduciary duties under the agreement. PXRE Reinsurance therefore
filed suit against the cedent on July 24, 2003 in a United Stated District Court
seeking rescission of the agreement and/or compensatory and punitive damages.
Although the ultimate outcome of the litigation cannot presently be
determined, management believes that PXRE Reinsurance's claims are meritorious
and intends to vigorously prosecute its suit. As of December 31, 2003, we have
recorded $34.4 million of loss reserves related to the agreement. If our lawsuit
is unsuccessful, we could potentially incur additional losses under the
agreement of up to $10.2 million on an after-tax basis.
41
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of the Company's shareholders
during the fourth quarter of 2003.
PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder
Matters
Common Shares
The Company's common shares are listed on the New York Stock Exchange
under the symbol "PXT." The following table sets forth, for the periods
indicated, the high and low closing sale prices for the Company's common shares
as reported by the New York Stock Exchange and cash dividends per common share
declared and subsequently paid:
Closing Price
---------------------------
High Low Dividends
--------- --------- ---------
2003:
First Quarter $ 26.00 $ 19.00 $ 0.06
Second Quarter 22.00 19.05 0.06
Third Quarter 19.90 16.90 0.06
Fourth Quarter 24.20 17.75 0.06
2002:
First Quarter $ 24.00 $ 16.88 $ 0.06
Second Quarter 26.65 22.73 0.06
Third Quarter 24.20 18.60 0.06
Fourth Quarter 24.50 18.86 0.06
As of March 11, 2004, there were 14,063,868 common shares issued and
outstanding, which shares were held by approximately 153 shareholders of record
and, based on the Company's best information, by approximately 1,200 beneficial
owners of the common shares. See Notes 10 and 11 of Notes to Consolidated
Financial Statements for information with respect to shares reserved for
issuance under employee benefit and stock option plans.
In April 2002, the Company issued 15,000 Convertible Voting Preferred
Shares (the "Preferred Stock"). As of December 31, 2003, there were 17,219
shares of Preferred Stock outstanding that are ultimately convertible into
12,100,347 common shares, representing approximately 46.2% of the Company's
outstanding common shares on a fully diluted basis as of March 11, 2004. See
"Market for Registrant's Common Equity and Related Shareholder
Matters--Preferred Shares" below.
42
The payment of dividends on the common shares is subject to the
discretion of the Company's Board of Directors, which will consider, among other
factors, our operating results, overall financial condition, capital
requirements and general business conditions. There can be no assurance that
dividends will be paid in the future. Under the terms of the Preferred Stock,
the payment of dividends on the Company's common shares is subject to the
following limitations: (i) no dividend may be paid upon the common shares if the
dividends payable upon the Preferred Stock are overdue, (ii) the amount of
dividends paid with respect to the common shares may not be increased by a
cumulative annualized rate of more than 10% at any time prior to April 4, 2005
(the "Permitted Dividend Amount") without the consent of the majority of holders
of the Preferred Stock; and (iii) at any time on or after April 4, 2005, no
dividend may be paid that would result in payment of any dividend or other
distribution with respect to common shares or result in a redemption, offer to
purchase, tender offer or other acquisition of capital shares of the Company
involving consideration having an aggregate fair value in excess of the greater
of the Permitted Tender Offer Amount and the Permitted Dividend Amount. For this
purpose, the term "Permitted Tender Offer Amount" means an amount equal to 20%
of the cumulative amount by which our consolidated net income in any calendar
year commencing with the year ending December 31, 2002 exceeds $50.0 million
minus the sum of all cash and the fair value of all non-cash consideration paid
in respect of redemptions, offers to purchase, tender offers or other
acquisitions of our capital shares on or after December 10, 2001.
As a holding company, the Company is dependent upon dividend payments
from its subsidiaries, including PXRE Reinsurance and PXRE Bermuda, to pay
dividends to the Company's shareholders. PXRE Reinsurance is subject to U.S.
state laws, and PXRE Bermuda is subject to Bermuda law, which may restrict their
ability to distribute dividends. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital Resources"
and "Business - Regulation" for further information concerning restrictions
under U.S. and Bermuda law.
Under the Company's Bye-Laws, subject to certain exceptions and to
waiver by the Company's Board of Directors on a case by case basis, no transfer
of the Company's shares is permitted if such transfer would result in a
shareholder owning, directly or indirectly, more than 9.9% of the voting power
of the outstanding shares, including common shares, of the Company or more than
9.9% of the outstanding shares of any class of the Company's shares. Ownership
is broadly defined in the Company's Bye-Laws.
The Company may refuse to register any such transfer on the Company's
share transfer records. A transferee will be permitted to promptly dispose of
any of the Company's shares purchased that violate the restriction and as to the
transfer of which registration is refused. The transferor of such shares of the
Company will be deemed to own such shares for dividend, voting and reporting
purposes until a transfer of such shares has been so registered.
In addition, in the event that the Company becomes aware of a
shareholder owning more than 9.9% of the voting power of the Company's
outstanding shares after a transfer of shares has been registered, the Company's
Bye-Laws provide that, subject to the same exceptions and waiver procedures, the
voting rights with respect to the shares of the Company owned by any such
shareholder will be limited to a voting power of 9.9%. The Board has determined
to waive this requirement with respect to Capital Z Financial Services Fund II,
L.P. (including, for such purpose, certain of its affiliates).
43
Preferred Shares
As of December 31, 2003 there were 17,219.023 shares of Preferred
Shares outstanding. These shares are allocated to three series, Series A, Series
B and Series C. The issuance of 8,609.512 Series A Preferred Shares, are
allocated to two sub-series of shares, 5,739.675 shares allocated to sub-series
Al (Al Preferred Shares) and 2,869.837 shares allocated to sub-series A2 (A2
Preferred Shares); the issuance of 5,739.674 shares of Series B Preferred
Shares, are allocated to two sub-series of shares, 3,826.449 shares allocated to
Series B1 (B1 Preferred Shares) and 1,913.225 shares allocated to Series B2 (B2
Preferred Shares); and the issuance of 2,869.837 shares of Series C Preferred
Shares, are allocated to two sub-series of shares, 1,913.225 shares allocated to
Series Cl (Cl Preferred Shares) and 956.612 shares allocated to Series C2 (C2
Preferred Shares). The material terms and provisions of the rights, preferences
and privileges of the Preferred Shares and Convertible Common Shares are
contained in the Description of Stock for Series A Convertible Voting Preferred
Shares, Series B Convertible Voting Preferred Shares, Series C Convertible
Voting Preferred Shares, Class A Convertible Voting Common Shares, Class B
Convertible Voting Common Shares and Class C Convertible Voting Common Shares.
For each series, each Preferred Share, in whole or in part, is
convertible at any time at the option of the holder into Convertible Common
Shares for such series. The number of Convertible Common Shares per Preferred
Share issuable upon any conversion will be determined by dividing a liquidation
preference for the series equal to the aggregate original purchase price of the
Preferred Shares plus accrued but unpaid dividends thereon, by the conversion
price then in effect. The current conversion price is $14.23. The conversion
price is subject to adjustment to avoid dilution in the event of
recapitalization, reclassification, stock split, consolidation, merger,
amalgamation or other similar event or an issuance of additional Common Shares
in a private placement below the fair market value or in a registered public
offering below 95% of fair market value (in each case, fair market value being
the value immediately prior to the date of announcement of such issuance) or
without consideration. In addition, the conversion price is subject to
adjustment, for certain loss and loss expense development on reserves for losses
incurred on or before September 30, 2001 (and loss adjustment expenses related
thereto) and for any liability or loss arising out of pending material
litigation (other than legal fees and expenses), on an after-tax basis, equal to
an amount computed in accordance with a formula as set forth in the Description
of Stock. Adjustments occur if the development exceeds a deductible after-tax
threshold of $7.0 million and, with respect to all reserves other than reserves
for certain discontinued operations and the events of September 11, 2001 and
liability arising out of pending litigation, the adjustment is limited to $12.0
million of further development. At December 31, 2003, PXRE has incurred $21.7
million of net adverse development above this $7.0 million threshold resulting
in the adjusted conversion price of $14.23.
44
Al Preferred Shares, Bl Preferred Shares and Cl Preferred Shares will
be mandatorily convertible into Class A Common Shares, Class B Common Shares and
Class C Common Shares, respectively, on April 4, 2005, and all remaining
Preferred Shares will be mandatorily convertible into Convertible Common Shares
on April 4, 2008. The conversion price used in connection with the mandatory
conversion of Al Preferred Shares, B1 Preferred Shares and Cl Preferred Shares
includes price protection. Notwithstanding the foregoing, on any conversion
date, to the extent necessary to prevent the initial Purchasers of Preferred
Shares and their affiliates from owning more than 49.9% of the capital shares of
the Company following conversion, we shall have the right (but not the
obligation) to make a cash payment in lieu of Convertible Common Shares equal to
the fair market value of the Convertible Common Shares that would have been
received in excess of the 49.9% limitation in connection with any conversion,
plus an additional tax gross-up amount to take into account in appropriate
circumstances the difference between the federal income tax rate on long-term
capital gains and the federal ordinary income tax rate that might apply to the
recipient on the receipt of a cash payment in lieu of Convertible Common Shares.
Convertible Common Shares
Except as otherwise provided, each class of Convertible Common Shares
shall have the same rights, preferences and restrictions as common shares. The
Convertible Common Shares shall automatically convert into common shares on a
one-for-one basis upon a transfer of record ownership thereof to any person
other than the original purchasers, or any of their respective affiliates or
limited partners (including, without limitation, in connection with a public
offering of such shares), or a person approved by our Board of Directors in its
sole discretion. Convertible Common Shares may be converted at the option of the
holder thereof into common shares on a one-for-one basis at any time that such
holder would be entitled to vote Preferred Shares generally in the election of
directors in accordance with the Description of Stock.
The aggregate purchase price paid for the shares of Preferred Stock
issued totaled $150.0 million. The Company's shareholders approved the issuance
on February 12, 2002.
45
Item 6. Selected Financial Data.
Year Ended December 31,
---------------------------------------------------------------
2003 2002 2001 2000 1999
($000's except per share data and ratios) (1) (1)(5) (1) (1) (1)(2)
----------- ----------- ----------- ----------- -----------
Income Statement Data:
Gross premiums written $ 339,140 $ 366,768 $ 290,213 $ 268,990 $ 221,349
Premiums ceded (60,729) (72,285) (135,735) (96,289) (82,504)
----------- ----------- ----------- ----------- -----------
Net premiums written 278,411 294,483 154,478 172,701 138,845
Change in unearned premiums 42,522 (25,123) 7,647 (12,495) (10,342)
----------- ----------- ----------- ----------- -----------
Net premiums earned 320,933 269,360 162,125 160,206 128,503
Net investment income 26,931 24,893 30,036 30,037 47,173
Net realized investment gains (losses) 2,447 8,981 4,023 3,191 (3,766)
Fee income 5,014 3,432 5,786 5,483 3,590
----------- ----------- ----------- ----------- -----------
Total revenues 355,325 306,666 201,970 198,917 175,500
----------- ----------- ----------- ----------- -----------
Losses and loss expenses incurred 158,488 126,862 151,703 137,765 159,259
Commissions and brokerage 47,360 53,391 30,350 34,899 27,702
Other operating expenses 38,954 32,454 29,606 35,407 30,053
Interest expense 2,506 2,939 4,424 4,778 3,915
Minority interest in consolidated subsidiaries 10,528 8,646 8,877 8,875 8,790
----------- ----------- ----------- ----------- -----------
Total losses and expenses 257,836 224,292 224,960 221,724 229,719
----------- ----------- ----------- ----------- -----------
Income (loss) before income taxes and cumulative
effect of accounting change 97,489 82,374 (22,990) (22,807) (54,219)
Income tax provision (benefit) 841 17,829 (4,704) (12,007) (12,775)
----------- ----------- ----------- ----------- -----------
Income (loss) before cumulative effect of
accounting change 96,648 64,545 (18,286) (10,800) (41,444)
Cumulative effect of accounting change, net of tax - - 319 - (695)
----------- ----------- ----------- ----------- -----------
Net income (loss) before convertible preferred
share dividends $ 96,648 $ 64,545 $ (17,967) $ (10,800) $ (42,139)
=========== =========== =========== =========== ===========
Convertible preferred share dividends 13,113 9,077 - - -
----------- ----------- ----------- ----------- -----------
Net income (loss) available to common shareholders $ 83,535 $ 55,468 $ (17,967) $ (10,800) $ (42,139)
=========== =========== =========== =========== ===========
46
Year Ended December 31,
---------------------------------------------------------------
2003 2002 2001 2000 1999
($000's except per share data and ratios) (1) (1)(5) (1) (1) (1)(2)
---------- ----------- ---------- ---------- ----------
Ratio of earnings to fixed charges (3) 5.22 4.64 - - -
Ratio of earnings to combined fixed charges and
convertible preferred dividends (3) 3.32 3.07 - - -
Basic earnings per common share:
Income (loss) before cumulative effect of
accounting change and convertible preferred
share dividends $ 8.06 $ 5.47 $ (1.58) $ (0.95) $ (3.58)
Cumulative effect of accounting change - - 0.03 - (0.06)
Convertible preferred share dividends (1.09) (0.77) - - -
---------- ----------- ---------- ---------- ----------
Net income (loss) available to common
shareholders $ 6.97 $ 4.70 $ (1.55) $ (0.95) $ (3.64)
========== =========== ========== ========== ==========
Average common shares outstanding 11,992 11,802 11,578 11,394 11,568
========== =========== ========== ========== ==========
Diluted earnings per common share:
Income (loss) before cumulative effect of
accounting change $ 4.10 $ 3.28 $ (1.58) $ (0.95) $ (3.58)
Cumulative effect of accounting change - - 0.03 - (0.06)
---------- ----------- ---------- ---------- ----------
Net income (loss) $ 4.10 $ 3.28 $ (1.55) $ (0.95) $ (3.64)
========== =========== ========== ========== ==========
Average common shares outstanding 23,575 19,662 11,578 11,394 11,568
========== =========== ========== ========== ==========
Cash dividends per common share $ 0.24 $ 0.24 $ 0.24 $ 0.24 $ 0.64
Other Operating Data:
GAAP loss ratio (4) 49.4% 47.1% 93.6% 86.0% 123.9%
GAAP underwriting expense ratio (4) 25.3 30.6 33.4 40.5 43.0
---------- ----------- ---------- ---------- ----------
GAAP combined ratio (4) 74.7% 77.7% 127.0% 126.5% 166.9%
========== =========== ========== ========== ==========
As of December 31,
---------------------------------------------------------------
($000's except per share data) 2003 2002 2001 2000 1999
---------- ----------- ---------- ---------- ----------
Balance Sheet Data:
Cash and investments $ 1,012,327 $ 805,331 $ 531,233 $ 505,101 $ 524,303
Total assets 1,359,647 1,237,142 1,005,938 784,747 780,180
Losses and loss expenses 450,635 447,829 453,705 251,619 261,551
Minority interest in consolidated subsidiaries 156,841 94,335 99,530 99,525 99,521
Debt payable - 30,000 55,000 65,000 75,000
Total shareholders' equity 564,516 453,464 239,780 259,386 263,279
Book value per common share $22.24 $20.33 $20.20 $21.94 $22.54
Statutory capital and surplus:
PXRE Reinsurance $ 425,210 $ 457,217 $ 331,959 $ 348,858 $ 399,007
PXRE Bermuda 425,839 70,609 34,332 29,982 24,598
================================================================================
(1) The Company was incorporated on June 1, 1999 as a Bermuda exempted
company and a wholly owned subsidiary of PXRE Purpose Trust, a purpose
trust established under the laws of Bermuda. On October 5, 1999, PXRE
Delaware completed a reorganization pursuant to which the Company
became the ultimate parent holding company of PXRE Delaware. PXRE
Delaware and its subsidiaries provide property and casualty reinsurance
and insurance products to a national and international marketplace. In
connection with the reorganization, the Company repurchased for $1.00
per share 100% of the common shares owned by PXRE Purpose Trust and
each outstanding share of PXRE Delaware common stock (other than shares
held by PXRE Delaware and its subsidiaries) was converted into one
common share of the Company. After the consummation of the
reorganization the Company commenced carrying on the holding company
functions previously conducted by PXRE Delaware.
47
(2) In the fourth quarter of 1999, PXRE changed the reporting period for
its U.K. operations from a fiscal year ending September 30 to a
calendar year ending December 31. The results of operations for the
period from October 1, 1998 to December 31, 1998, amounted to a loss of
approximately $0.1 million. This loss was charged to retained earnings
during 1999 in order to report only twelve months' operating results.
The U.K. operations of PXRE Limited and PXRE Managing Agency are
included in the consolidated results on a one-quarter lag basis through
the third quarter of 1999.
(3) The ratios of earnings to fixed charges were determined by dividing
consolidated earnings by total fixed charges. For purposes of these
computations, (i) earnings consist of consolidated income before
considering income taxes, fixed charges and minority interest, and (ii)
fixed charges consist of interest on indebtedness, interest expense on
premiums withheld under certain ceded reinsurance contracts and that
portion of rentals which is deemed by PXRE's management to be an
appropriate interest factor. Earnings were inadequate to cover fixed
charges by $22.5 million, $22.8 million and $55.3 million for the years
ended December 31, 2001, 2000, and 1999 respectively. The ratios of
earnings to combined fixed charges and preferred dividends were
determined by dividing consolidated earnings by total fixed charges and
preferred dividends. Earnings were inadequate to cover fixed charges
and preferred dividends by $22.5 million, $22.8 million and $55.3
million for the years ended December 31, 2001, 2000, and 1999
respectively.
(4) The loss, underwriting expense and combined ratios included under
"Other Operating Data" have been derived from our consolidated
statements of income prepared in accordance with GAAP.
(5) FASB issued Statement of Financial Accounting Standard ("FASB") No.
145, "Rescission of FASB Statements Nos. 4 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections", on April 30, 2002, which
rescinds the requirement to present gains and losses from
extinguishment of debt as an extraordinary item. PXRE adopted the new
standard effective January 1, 2002. As a result, a gain of $1.4 million
on the repurchase of $5.2 million of Minority Interest in Consolidated
Subsidiaries was classified with net realized investment gains during
2002.
48
Item 7 . Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following discussion and analysis is comprised of an overview of
the Company, critical accounting policy disclosures, comparisons of operating
results between periods, a discussion of our financial condition at December 31,
2003 and disclosure of certain risks and uncertainties. This discussion and
analysis should be read in conjunction with the audited consolidated financial
statements and related notes included in this filing. This filing contains
forward-looking statements that involve risks and uncertainties. Actual results
may vary materially from the results described or implied by these
forward-looking statements.
Overview
PXRE Group Ltd. is an insurance holding company domiciled in Bermuda.
We provide reinsurance products and services to a worldwide marketplace through
our wholly owned subsidiary operations located in Bermuda, Barbados, Europe and
the United States. Our primary business is catastrophe and risk excess
reinsurance, which accounted for 93% of net premiums written and virtually all
of our underwriting income for the year ended December 31, 2003. Our catastrophe
and risk excess business includes property catastrophe excess of loss, property
catastrophe retrocessional, property risk excess, marine excess and aerospace
excess and pro rata reinsurance products. We also provide, to a lesser extent
and on an opportunistic basis, finite reinsurance products to a small number of
clients.
We generated net income of $96.6 million in 2003, which represents a
50% increase from the net income of $64.5 million in the 2002. These favorable
results were primarily driven by the 44% growth in the net premiums earned in
our catastrophe and risk excess segment during 2003 as compared to 2002 and by
the 27.2% loss ratio experienced in that segment during 2003.
As a reinsurer, we generate income primarily through the premiums from
clients who purchase our reinsurance contracts and the investment income
generated by our portfolio of invested assets. Our primary expenses are the
losses incurred under our reinsurance contracts, commissions and brokerage paid
to reinsurance brokers who place reinsurance contracts with us, our general
operating expenses such as salaries and rent, and interest expense on our debt
and trust preferred securities. The two largest variables that determine our
profitability of our business from period to period are generally the amount of
premiums generated and the size of losses incurred.
Our ability and willingness to generate significant premium volume is
highly dependent upon the premium pricing levels in the reinsurance market.
Demand for reinsurance depends on numerous factors, including the frequency and
severity of catastrophic events, levels of capacity, general economic conditions
and underwriting results of primary property insurers. The supply of reinsurance
is related to prevailing prices, recent loss experience and levels of surplus
capacity. All of these factors fluctuate and have historically caused cyclical
increases and declines in premium rates.
49
Recent events in the reinsurance marketplace, including large losses
resulting from catastrophic events (including the events of September 11, 2001),
recognized industry-wide reserve deficiencies, poor investment performance and
the continued exit of insurance industry players, have resulted in considerable
increases in pricing in conjunction with improved terms and conditions for the
insurance industry. Importantly, this has impacted our markets considerably and
has created attractive opportunities for us.
These favorable market conditions have driven our strong growth in net
premiums written in our catastrophe and risk excess segment of 46% for the year
ended December 31, 2003 as compared with the year earlier period. Our growth in
2003 builds on the prior growth in 2002 of 202% of net premiums written in the
catastrophe and risk excess segment as compared with 2001.
Although pricing in the property catastrophe reinsurance market remains
healthy in 2004, we expect that the pricing will remain generally flat in 2004,
with modest rate decreases in certain geographic zones. As a result, we do not
expect that we will be able to sustain in 2004 the significant growth rates
achieved in our catastrophe and risk excess business in 2003 and 2002. We do,
however, believe that we have opportunities to achieve additional growth in 2004
through the expansion of our client base and through additional penetration with
existing clients.
Since the primary focus of our business is on property catastrophe
reinsurance, the size of our losses during any annual period depends, to a large
extent, on the number and magnitude of natural and man-made catastrophes such as
hurricanes, windstorms, hailstorms, earthquakes, volcanic eruptions, fires,
industrial explosions, freezes, riots and floods. This focus on short-tail,
high-severity, and low frequency lines of business exposes us to short term
volatility in our operating results. We have been able to successfully
underwrite these products over the long term, as evidenced by our cumulative
average catastrophe and risk excess loss ratio of 47.0% for the period from 1987
to December 31, 2003.
There was a relatively low incidence of catastrophe events in 2003. As
a result, our loss experience in our catastrophe and risk excess segment was
very favorable. Given our focus on catastrophe coverages, we are unable to
predict the size or scope of losses we might experience in 2004.
The favorable results achieved in our catastrophe and risk excess
segment were somewhat offset in 2003 by net adverse development of $45.8 million
in prior-year loss and loss expenses reserves, primarily arising from our exited
direct casualty operations. Following a reserve review during the third quarter
of 2003, which included a review by a nationally recognized third party
actuarial firm of the most troublesome area, the general liability line of
business written by our exited casualty business, and further internal actuarial
review of our loss reserve estimates during the fourth quarter of 2003,
management believes that our overall liability for losses and loss expenses
recorded as of December 31, 2003 is adequate.
Critical Accounting Policy Disclosures
We disclose our significant accounting policies in the notes to the
consolidated financial statements. Certain of these policies are critical to the
portrayal of our financial condition and results since they require management
to establish estimates based on complex and subjective judgments. Our critical
accounting policies include the estimation of reserves for loss and loss
expenses, estimation and recognition of assumed and ceded premiums and valuation
of investments.
50
Estimation of Loss and Loss Expenses
As a property catastrophe reinsurer, our estimates of losses are
inherently less reliable than for reinsurers of risks that have an established
historical pattern of losses. In addition, with respect to insured events that
occur near the end of a reporting period, as well as with respect to our
retrocessional book of business, the significant delay in losses being reported
to insurance carriers, reinsurers and finally retrocessionaires require us to
make estimates of losses based on limited information from our clients, industry
loss estimates and our own underwriting data. Because of the uncertainty in the
process of estimating our losses from insured events, there is a risk that our
liabilities for losses and loss expenses could prove to be inadequate, with a
consequent adverse impact on our future earnings and shareholders' equity.
In reserving for catastrophe losses, our estimates are influenced by
underwriting information provided by our clients, industry catastrophe models
and our internal analyses of this information. This reserving approach can cause
significant development for an accident year when events occur late in the year,
as happened in 1999. As an event matures, we rely more and more on our
development patterns by type of event as well as contract information to project
ultimate losses for the event. This process can cause our ultimate estimates to
differ significantly from initial projections. The French Storm Martin that
occurred on December 27, 1999 presents an extreme example of these potential
uncertainties. We based our reserves to a significant degree on industry
estimates, which were approximately $1.0 billion. In 2001, the cost was
estimated to be $2.5 billion by SIGMA, a widely used industry publication. Our
gross loss estimate at December 31, 1999 for this event was $31.3 million. Our
gross loss estimate at December 31, 2003 for this event was $69.5 million. Thus,
the original industry loss estimate increased by 150%, and our loss estimate has
increased by 122%.
In reserving for non-catastrophe losses from recent years, we are
required to make assumptions concerning the expected loss ratio usually for
broad lines of business, but sometimes on an individual contract basis. We
consider historical loss ratios for each line of business and utilize
information provided by our clients and estimates provided by underwriters and
actuaries concerning the impact of pricing and coverage changes. As experience
emerges, we will revise our prior estimates concerning pricing adequacy and
non-catastrophe loss potential for our coverages and we will eventually rely
solely on our estimated development pattern in projecting ultimate losses.
Excluding the extraordinary development of French storms Martin and
Lothar in 2000, during the last 10 years, reserve development in any single year
from prior year losses, expressed as a percentage of shareholders' equity,
ranged from 15% adverse development in 1993 (primarily arising from Hurricane
Andrew) to 4% favorable development in 1996.
51
In addition, the risk for recent underwriting years includes the
increased casualty exposures assumed by us through our casualty and finite
businesses. Unlike property losses that tend to be reported more promptly and
usually are settled within a shorter time period, casualty losses are frequently
slower to be reported and may be determined only through the lengthy,
unpredictable process of litigation. Moreover, given our limited experience in
the casualty and finite businesses, we do not have established historical loss
development patterns that can be used to establish these loss liabilities. We
must therefore rely on the inherently less reliable historical loss development
patterns reported by our clients and industry loss development data in
calculating our liabilities.
During 2003, we experienced net adverse development of $45.8 million
for prior-year loss and loss expenses, $21.8 million of which was due to loss
development on our exited direct casualty reinsurance operations, $8.8 million
adverse development from aerospace claims arising to a significant degree from
our first receipt of notice that the increase in industry losses related to a
1998 air crash had resulted in the exhaustion of deductibles under three
aerospace contracts between PXRE and Reliance Insurance Company and $8.2 million
of development from finite contracts, $7.3 million of which related to the
aggregate excess of loss reinsurance referred to in Financial Condition -
Liquidity - Commitments, Contingencies and Contractual Obligations.
The $21.8 million of 2003 adverse development attributable to our
exited direct casualty reinsurance operations was primarily caused by $16.4
million of general liability development, with $15.3 million of this development
attributable to the 2001 and 2000 accident years. In addition to the explicit
recognition of more than expected reported losses during the year, there was a
shift in actuarial methods with the maturing of the underwriting years.
For the year ended December 31, 2002, we experienced net adverse
development of $25.4 million for prior-year loss and loss expense, $16.9 million
of which was due to loss development in our exited lines segment relating
primarily to the 2000 and 2001 underwriting years. Adverse development of $16.2
million was primarily caused by larger than expected reported claims under our
direct reinsurance contracts and corroborated by revised industry data. We
ceased underwriting this business in September 2001.
The $16.2 million of adverse development attributable to PXRE's former
direct operation in 2002 was primarily associated with the recent 2001 accident
year ($9.9 million of adverse development) and recent 2000 accident year ($5.4
million of adverse development). As of each financial reporting date, PXRE
records its best estimate of the ultimate amount of losses incurred but not yet
paid.
With respect to actuarial techniques for loss reserving, PXRE places
more weight on the Bornhuetter-Ferguson approach for recent accident years and,
for earlier years, relies more on loss development approaches. At year-end 2000
and 2001, PXRE placed more weight on the Bornhuetter-Ferguson technique, which
relied on industry loss ratios and premiums which, with hindsight,
underestimated the amount of underpricing for the 1998 to 2001 underwriting
years, in its actuarial analysis of the direct casualty business. When the
amount of reported losses became a more reliable means for setting reserve
estimates, PXRE started to place more weight on these reported losses to
estimate its loss reserves and less weight on the Bornhuetter-Ferguson
technique.
52
PXRE's loss reserve estimation process takes into consideration the
facts and circumstances related to reported losses; however, for immature
accident years, reported casualty losses are relatively insignificant when
compared to ultimate losses. As such, it is difficult to determine how facts and
circumstances related to early-notified claims will impact future reported
losses. When reported losses grow to a magnitude at which they suggest a trend,
PXRE can, and does, re-estimate loss reserves for periods which will appear to
be affected by such trend.
Loss and loss expense liabilities as estimated by PXRE's actuaries and
recorded by management in the statement of financial position as of December 31,
2003 were as follows:
($000's) Gross Net
---------------- ----------------
Catastrophe and Risk Excess $ 193,826 $ 94,439
Finite Business 130,239 97,420
Other Lines 5,888 4,981
Exited Lines 120,682 106,871
---------------- ----------------
Total $ 450,635 $ 303,711
================ ================
On an overall basis, the low and high ends of a range of reasonable net
loss reserves are $32.2 million below and $35.7 million above the $303.7 million
best estimate displayed above. Note that the range around the overall estimate
is not the sum of the ranges about the component segments due to the impact of
diversification when the reserve levels are considered in total. The low and
high ends of a range of reasonable net loss reserves around the best estimate
displayed in the table above with respect to each segment are as follows:
($000's) Low End Net High End
----------- ----------- ------------
Catastrophe and Risk Excess $ 79,750 $ 94,439 $ 110,725
Finite Business 80,055 97,420 117,218
Other Lines 4,354 4,981 5,662
Exited Lines 95,028 106,871 119,603
Estimation and Recognition of Assumed and Ceded Premiums
Our premiums on reinsurance business assumed are recorded as earned on
a pro rata basis over the contract period based upon estimated subject premiums.
Management must estimate the subject premiums associated with the treaties in
order to determine the level of earned premiums for a reporting period. These
estimates are based on information from brokers and are subject to change as new
information becomes available. Because of the inherent uncertainty in this
process, there is the risk that premiums and related receivable balances may
turn out to be higher or lower than reported.
53
The premiums on reinsurance business ceded are recorded as incurred on
a pro rata basis over the contract period. Certain ceded reinsurance contracts
contain provisions requiring us to pay additional premiums or reinstatement
premiums in the event that losses of a significant magnitude are ceded under
such contracts. Under GAAP, we are not permitted to establish reserves for
potential additional premiums or record such amounts until a loss occurs that
would trigger the obligation to pay such additional or reinstatement premiums.
As a result, the net amount recoverable from our reinsurers in the event of a
loss may be reduced by the payment of additional premiums and reinstatement
premiums. Frequently, the impact of such premiums will be offset by additional
premiums and reinstatement premiums payable to us by our clients on our assumed
reinsurance business. No assurance can be given, however, that assumed
reinstatement and additional premiums will offset ceded reinstatement and
additional premiums. For example, in the case of the September 11, 2001
terrorist attacks, our net premiums earned during 2001 were reduced by $26.3
million as a result of net additional premiums and reinstatement premiums due to
that loss.
Valuation of Investments
Fair values for our investments in hedge funds and other privately held
fixed income and equity securities generally are established on the basis of the
valuations provided monthly or quarterly by the managers of such investments.
These valuations generally are determined based upon the valuation criteria
established by the governing documents of such investments or utilized in the
normal course of such manager's business. Such valuations may differ
significantly from the values that would have been used had readily available
markets existed.
We utilize the valuations provided to us by managers of our hedge funds
and other privately held fixed income and equity securities in preparing our
financial statements. The carrying values used in such financial statements may
not reflect the value we receive when liquidating our investment in a hedge fund
or other privately held security. If liquidity is by redemption, the valuations
supplied quarterly by the manager of the hedge fund or other privately held
security will generally be the values used by the manager to set the redemption
prices. However, to the extent a manager has discretion in pricing holdings,
should substantial redemptions occur in a limited period of time, that
discretion may be used to price at lower values than would otherwise be used,
thus reducing the redemption price. If liquidation of our investment occurs by
virtue of a liquidation of a hedge fund or other privately held securities, we
may receive substantially less than the valuation method used by the manager
because the valuation method used by the manager is unlikely to use liquidation
values. Accordingly, the estimated fair value of our hedge fund and other
privately held investments does not necessarily represent the amount that could
be realized upon future sale, including in the event we need liquidity to fund
catastrophic losses.
We regularly monitor the difference between the estimated fair value of
our investments and their cost or book values to identify underperforming
investments and whether declines in value are temporary in nature, or "other
than temporary." If we believe a decline in the value of a particular investment
is temporary, we record the decline as an unrealized loss, net of tax, in our
shareholders' equity. If we believe the decline is "other than temporary," we
write down the carrying value of the investment and record a realized loss on
our statement of income and comprehensive income. We formally review each
quarter the unrealized losses by value, and all investments that have been in an
unrealized loss position for more than six months. In assessing whether an
investment is suffering a decline in value that is other than temporary we pay
particular attention to those trading at 80% or less of original cost, and those
investments that have been downgraded by any of the major ratings agencies,
general market conditions, and the status of principal and interest payments. If
we conclude that a decline is other than temporary we recognize a realized
investment loss for the impairment. In 2003 and 2002, we recognized $0.2 million
and $0.7 million of impairment losses, respectively.
54
Comparison of Operating Results between Periods
Comparison of 2003 with 2002
For the year ended December 31, 2003, net income before convertible
preferred share dividends was $96.6 million compared to $64.5 million for 2002.
The net income per diluted common share was $4.10 for 2003 compared to $3.28 for
2002, based on diluted average shares outstanding of approximately 23.6 million
in 2003 and 19.7 million in 2002.
Premiums
Gross and net premiums written for 2003 and 2002 were as follows:
Year Ended December 31,
-------------------------------- % Increase
($000's) 2003 2002 (Decrease)
------------- ------------- ----------
Gross premiums written $ 339,140 $ 366,768 (8)%
Ceded premiums written (60,729) (72,285) (16)
------------- -------------
Net premiums written $ 278,411 $ 294,483 (5)%
============= =============
Gross premiums written for the year ended December 31, 2003 decreased
8% to $339.1 million from $366.8 million in 2002. This decrease in gross
premiums written is primarily due to a planned decrease in our finite segment of
$102.7 million, or 93%, compared to 2002. Partially offsetting the decrease in
finite gross premiums written was an increase in the catastrophe and risk excess
segment of $76.7 million, or 32%, compared to 2002. This increase is
attributable to improved pricing, increased participation with long-standing
clients and increased amounts of new business.
As part of our efforts to return to our core catastrophe and risk
business, we have intentionally de-emphasized our finite business. This business
is currently focused on a limited group of cedents and on policies that do not
contain significant risk transfer. Finite contracts that do not contain
sufficient risk transfer are not recorded as reinsurance arrangements but are
treated as deposits for accounting purposes. As such, the income related to
these transactions is recorded as fee income, and liabilities, if any, are
recorded as deposit liabilities. As a result, finite premiums are expected to be
less than in prior periods.
Ceded premiums written decreased by 16% to $60.7 million for the year
ended December 31, 2003 compared to $72.3 million for 2002, primarily as a
result of an $8.1 million decrease in finite business ceded and cessions on the
per-risk portion of the catastrophe and risk excess segment.
55
Net premiums written for the year ended December 31, 2003 decreased 5%
to $278.4 million from $294.5 million in 2002. Net premiums written in our
finite segment decreased by $94.7 million, or 92%, compared to 2002. Partially
offsetting the decrease in finite net premiums written was an increase in the
catastrophe and risk excess segment of $81.6 million, or 46%, compared to 2002.
The changes in these segments are due to the same factors as those discussed
above in gross premiums written. Net premiums written in the exited lines
segment decreased $3.7 million during the year ended December 31, 2003 compared
to 2002. Since we have decided to focus on our core catastrophe and risk excess
segment and have ceased writing the businesses we have classified as exited
lines, we do not expect to report material premiums written and earned in the
exited lines segment during 2004.
Gross and net premiums earned for the year ended December 31, 2003 and
2002 were as follows:
($000's) Year Ended December 31,
--------------------------- % Increase
2003 2002 (Decrease)
------------ ------------ ----------
Gross premiums earned $ 381,705 $ 349,312 9%
Ceded premiums earned (60,772) (79,952) (24)
------------ ------------
Net premiums earned $ 320,933 $ 269,360 19%
============ ============
Gross premiums earned for the year ended December 31, 2003 increased 9%
to $381.7 million from $349.3 million in 2002. This increase is due to an
increase in the catastrophe and risk excess segment of $78.1 million, or 33%,
compared to 2002. Partially offsetting this increase was a decrease in our
exited lines segment of $23.8 million, or 77%, and a decrease in our finite
segment of $18.8 million, or 26%, compared to 2002. The changes in these
segments are due to the same factors as discussed above in gross and net
premiums written.
Ceded premiums earned decreased by 24% to $60.8 million for the year
ended December 31, 2003 compared to $80.0 million for 2002, primarily as a
result of a $15.4 million decrease in finite business ceded and cessions on the
per-risk portion of the catastrophe and risk excess segment.
Net premiums earned in the year ended December 31, 2003 increased 19%
to $320.9 million from $269.4 million for 2002. Net premiums earned in the
catastrophe and risk excess segment increased $78.1 million, or 44%, for the
year ended December 31, 2003 compared to 2002. Net premiums earned in the exited
lines segment experienced a decline of $22.8 million, or 82%, for the year ended
December 31, 2003 as compared to 2002. The changes in net premiums earned for
the catastrophe and risk excess segment and the exited lines segment are due to
the same factors as discussed above in gross and net premiums written.
A summary of our 2003 and 2002 net premiums written and earned by
business segment is included in Note 12 to the Consolidated Financial
Statements.
Fee Income
Fee income was $5.0 million for the year ended December 31, 2003
compared to $3.4 million for 2002. This income is comprised primarily of
override commissions on quota share reinsurance cessions as well as fees earned
from certain finite contracts accounted for as deposits.
56
Ratios
The underwriting results of a property and casualty insurer are
discussed frequently by reference to its loss ratio, expense ratio (including
the commission and brokerage ratio, net of fee income, if any, and the operating
expense ratio) and combined ratio. The loss ratio is the result of dividing
losses and loss expenses incurred by net premiums earned. The expense ratio is
the result of dividing underwriting expenses (including commission and
brokerage, net of fee income, if any, and the operating expenses) by net
premiums earned. The combined ratio is the sum of the loss ratio and the expense
ratio. A combined ratio less than 100% indicates underwriting profits and a
combined ratio greater than 100% indicates underwriting losses. The combined
ratio does not reflect the effect of investment income on underwriting results.
The ratios discussed below have been calculated on a GAAP basis.
The following table summarizes the loss ratio, expense ratio and
combined ratio for the year ended December 31, 2003 and 2002, respectively:
(%) Year Ended December 31,
-----------------------
2003 2002
---- ----
Loss ratio 49.4 47.1
Expense ratio 25.3 30.6
---- ----
Combined ratio 74.7 77.7
==== ====
Catastrophe and Risk Excess loss ratio 27.2 30.0
==== ====
Losses and Loss Expenses
Losses incurred for the year ended December 31, 2003 amounted to $158.5
million compared to $126.9 million in 2002. Our loss ratio was 49.4% for the
year ended December 31, 2003 compared to 47.1% in 2002.
We did not experience any significant catastrophe activity in 2003. The
largest losses were related to the winter storms in the Midwest and the
wildfires in California, but we incurred less than $10.0 million with respect to
each of these losses. The loss ratio for 2002 was affected by the 2002 European
flood losses of $17.8 million. During 2003, we experienced net adverse
development of $45.8 million for prior-year loss and loss expenses, $21.8
million of which was due to loss development on our exited direct casualty
reinsurance operations, $8.8 million adverse development from aerospace claims
arising to a significant degree from our first receipt of notice that the
increase in industry losses related to a 1998 air crash had resulted in the
exhaustion of deductibles under three aerospace contracts between PXRE and
Reliance Insurance Company and $8.2 million of development from finite
contracts, $7.3 million of which related to the aggregate excess of loss
reinsurance agreement referred to in Financial Condition - Liquidity -
Commitment, Contingencies and Contractual Obligations. In 2002, we experienced
net adverse development of $25.4 million for prior-year loss and loss expenses,
$16.9 million of which was due to loss development on our exited lines segment
relating primarily to the 2000 and 2001 underwriting years.
57
Underwriting Expenses
The expense ratio was 25.3% for 2003 compared with 30.6% for 2002. The
decrease was primarily due to reduced commissions associated with finite
contracts and exited lines business, offset, in part, by a fee on the
commutation of a reinsurance agreement with P-1 Re Ltd., an exempted Bermuda
Class 3 insurance company. The commission and brokerage ratio, net of fee
income, was 13.2% for 2003, compared with 18.6% in 2002. During the year ended
December 31, 2003, we incurred $4.0 million of structuring fees related to a
reinsurance agreement with P-1 Re Ltd. and the subsequent commutation thereof.
The operating expense ratio was 12.1% for 2003 compared with 12.0% for 2002.
Other operating expenses increased 20% to $39.0 million for 2003 from $32.5
million in 2002. The increase is largely due to $3.0 million of expenses
associated with hiring new underwriters and relocating other underwriters to our
Bermuda office, various compensation costs of $1.2 million relating to the
retirement of PXRE's former Chief Executive Officer, Gerald L. Radke, on June
30, 2003 and his transition into a consulting role, a $1.0 million change in net
foreign exchange and a $0.5 million increase in our director and officer
liability insurance.
Net Investment Income
Net investment income for the year ended December 31, 2003 increased 8%
to $26.9 million from $24.9 million for 2002, primarily as a result of a $6.2
million increase in income from hedge funds, as well as an increase in the
average invested balance due to cash flows from operations. Investment income
related to our hedge fund portfolio increased to $13.4 million in 2003 from $7.2
million in 2002. Investment in hedge funds produced a return of 11.8% for the
year ended December 31, 2003 compared with 7.0% in 2002. Partially offsetting
these increases was a decrease in the book yield of our fixed maturity and
short-term investment portfolios for the year ended December 31, 2003 to 3.6%
during 2003 from 4.5% in 2002. In addition, there were two non-recurring items
during the year ended December 31, 2002, $1.5 million of judgment interest from
the Terra Nova Insurance Company Limited ("Terra Nova") lawsuit and a $3.0
million special distribution from a private limited partnership.
Investment income for the year ended December 31, 2003 was also
affected by various finite and other reinsurance contracts where premiums
payable under such contracts were retained on a funds withheld basis. In order
to reduce credit risk or to comply with regulatory credit for reinsurance
requirements, a portion of premiums paid under such reinsurance contracts is
retained by the cedent pending payment of losses or commutation of the contract.
Investment income on such withheld funds is typically for the benefit of the
reinsurer and the cedent may provide a minimum investment return on such funds.
We have both ceded and assumed reinsurance contracts that involve the
withholding of premiums by the cedent. On assumed reinsurance contracts, cedents
held premiums and accrued investment income due to us of $26.4 million and $24.9
million as of December 31, 2003 and 2002, respectively, for which we have
recognized $1.7 million of investment income for both the years ended December
31, 2003 and 2002. On ceded reinsurance contracts, we held premiums and accrued
investment income of $124.1 million and $122.2 million due to reinsurers as of
December 31, 2003 and 2002, respectively, for which we recognized a charge to
investment income of $9.1 million and $9.8 million during the year ended
December 31, 2003 and 2002, respectively. On a net basis, this reduction to
investment income was $2.5 million and $3.2 million for the year ended December
31, 2003 and 2002, respectively, representing the difference between the stated
investment return under such contracts and the overall yield achieved on our
total investment portfolio for the period. The weighted average contractual
investment return on the funds held by PXRE is 6.8% and 7.8% for the year ended
December 31, 2003 and 2002, respectively, and we expect to be obligated for this
contractual investment return for the life of the underlying liabilities, which
is expected to be six years as of December 31, 2003 on a weighted average basis.
58
Net Realized Investment Gains
Net realized investment gains for 2003 were $2.4 million compared to
gains of $9.0 million for 2002. Included in the net realized investment gains
for the year ended December 31, 2002 were gains of $1.4 million realized on the
repurchase of $5.2 million of our capital trust pass-through securities and
gains realized on shortening of the average maturity of securities in our
investment portfolio.
Interest Expense
Interest expense, other than minority interest expense in consolidated
subsidiaries, decreased to $2.5 million for 2003 compared to $2.9 million in
2002. During 2003 we made repayments of $20.0 million on March 31, 2003 and
$10.0 million on May 16, 2003 under a bank credit facility. As a result this
bank facility was paid in full and terminated. An interest rate swap previously
accounted for as a cash flow hedge was no longer effective. Consequently $1.1
million has been charged as interest expense in the year ended December 31, 2003
as a result of the termination of the bank facility. This charge did not impact
shareholders' equity because it was previously recorded as a component of other
comprehensive income. In addition, there was an acceleration of the amortization
of expenses related to this bank facility of $0.3 million during the year ended
December 31, 2003. PXRE incurred minority interest expense of $10.5 million
related to PXRE's capital trust pass-through securities during the year ended
December 31, 2003 (see "Liquidity" below for a full description of the capital
trust pass-through securities). In 2002, PXRE only incurred $8.6 million of
minority interest expense on the capital trust pass-through securities. Minority
expense on the capital trust pass-through securities increased because $62.5
million of additional capital trust pass-through securities were issued during
the year ended December 31, 2003.
Taxation
PXRE recognized a tax expense of $0.8 million in 2003 compared to a tax
expense of $17.8 million in 2002. The tax expense for the year ended December
31, 2003 differed from the U.S. statutory rate primarily due to the significant
increase in reinsurance business written in Bermuda as a percentage of our total
amount written, as well as the losses incurred from our exited lines segment
which related primarily to reinsurance business written in the United States.
Comparison of 2002 with 2001
For the year ended December 31, 2002, net income before convertible
preferred share dividends was $64.5 million compared to a net loss before
convertible preferred share dividends of $18.0 million for 2001. The net income
per diluted common share was $3.28 for 2002 compared to a net loss per diluted
share of $1.55 for 2001, based on diluted average shares outstanding of
approximately 19.7 million in 2002 and 11.6 million in 2001.
59
Premiums
Gross and net premiums written for 2002 and 2001 were as follows:
Year Ended December 31,
-------------------------------- % Increase
($000's) 2002 2001 (Decrease)
------------- -------------- ----------
Gross premiums written $ 366,768 $ 290,213 26%
Ceded premiums written (72,285) (135,735) (47)
------------- --------------
Net premiums written $ 294,483 $ 154,478 91%
============= ==============
Gross premiums written for the year ended December 31, 2002 increased
26% to $366.8 million from $290.2 million in 2001. This increase in gross
premiums written primarily reflected growth in the catastrophe and risk excess
and finite segments. Improved pricing, increased participation with
long-standing clients and substantial amounts of new business in our core
catastrophe and risk excess segment resulted in a $71.0 million, or 42% increase
in gross premiums written during 2002 in this key segment as compared to the
prior year. The finite segment increased $63.0 million, or 133% during 2002
versus the prior year on a gross written basis primarily due to one large finite
reinsurance contract with Tower. With respect to our finite segment, we take an
opportunistic approach to this business and do not believe this business is best
measured by premiums written or earned from period to period. Compared to our
other lines of business, our finite business involves a relatively small number
of large reinsurance contracts. Therefore, we expect that the finite segment
premiums written and earned will vary widely from period to period as a result
of this strategy. Offsetting the increases in the catastrophe and risk excess
and finite segments was a decrease in the exited lines gross premiums written of
$55.3 million, or 85% compared to 2001.
Ceded premiums written decreased 47% to $72.3 million for the year
ended December 31, 2002 compared to $135.7 million in 2001. If additional ceded
premiums written of $56.6 million in connection with the September 11, 2001
terrorist attacks are excluded, the decrease is only $6.9 million or 8.7%.
Net premiums written for the year ended December 31, 2002 increased 91%
to $294.5 million from $154.5 million in 2001. Net premiums written in our
catastrophe and risk excess segment increased by $117.8 million, or 202%,
compared to 2001. Net premium written in our finite segment increased by $69.1
million, or 205%, compared to 2001. Net premiums written in the exited lines
segment decreased $50.3 million during the year ended December 31, 2002 compared
to 2001. The changes in these segments are due to the same factors as those
discussed above in gross premiums written.
Finite contracts that do not meet accounting requirements of SFAS No.
113 and other accounting literature, that generally define a reinsurance
transaction, are not booked as premiums, but rather are treated as deposits. We
have entered into contracts in 2002 and 2001 that have $35.1 million of deposit
liabilities to ceding companies at December 31, 2002 on this deposit accounting
basis. We also have two finite retrocessional agreements in place with Select Re
that are accounted for as deposits pursuant to SFAS No. 113 and other accounting
literature, totaling $21.4 million in deposit assets including investment income
earned to December 31, 2002. We believe these retrocessional agreements will
enhance the long-term profitability of the finite contracts to which they
relate.
60
Gross and net premiums earned for 2002 and 2001 were as follows:
Year Ended December 31,
------------------------------- % Increase
($000's) 2002 2001 (Decrease)
------------- ------------- ----------
Gross premiums earned $ 349,312 $ 293,442 19%
Ceded premiums earned (79,952) (131,317) (39)
------------- -------------
Net premiums earned $ 269,360 $ 162,125 66%
============= =============
Gross premiums earned for the year ended December 31, 2002 increased
19% to $349.3 million from $293.4 million in 2001. The catastrophe and risk
excess segment increased $65.5 million, or 39%, while the finite segment
increased $31.5 million, or 78%, compared to 2001. Offsetting these increases
was a decrease in our exited lines segment of $43.6 million, or 58%, compared to
the prior year. The changes in these segments are due to the same factors as
discussed above in gross premiums written.
Ceded premiums earned decreased 39% to $80.0 million for the year ended
December 31, 2002 compared to $131.3 million for 2001. If additional ceded
premiums earned of $56.6 million in connection with the September 11, 2001
terrorist attacks are excluded, the increase is only $5.3 million or 7.1%.
Net premiums earned for 2002 increased 66% to $269.4 million from
$162.1 million for 2001. The catastrophe and risk excess segment increased
$115.6 million, or 191% on a net earned basis while the finite segment increased
$24.7 million, or 76% on a net earned basis versus the prior year. The exited
lines segment experienced a decrease of $37.3 million, or 57% on a net earned
basis during 2002 compared to 2001. The changes in net premiums earned for these
segments are due to the same factors as discussed above in gross premiums
written.
A summary of our 2002 and 2001 net premiums written and earned by
business segment is included in Note 12 to the Consolidated Financial
Statements.
Fee Income
Fee income for the year ended December 31, 2002 decreased 41% to $3.4
million from $5.8 million for 2001, reflecting the reduction in the share of
business ceded to quota share reinsurers, and the effect of the September 11,
2001 terrorist attacks.
Ratios
The following table summarizes the loss ratio, expense ratio and
combined ratio for the years ended December 31, 2002 and 2001, respectively:
61
(%) Year Ended December 31,
--- -----------------------
2002 2001
---- -----
Loss ratio 47.1 93.6
Expense ratio 30.6 33.4
---- -----
Combined ratio 77.7 127.0
==== =====
Catastrophe and Risk Excess loss ratio 30.0 121.4
==== =====
Losses and Loss Expenses
Losses incurred for the year ended December 31, 2002 amounted to $126.9
million compared to $151.7 million for the year ended December 31, 2001. Our
loss ratio was 47.1% for the year ended December 31, 2002 reflecting reduced
loss activity. The only significant catastrophe in 2002 was a $17.8 million loss
arising from the European floods. The year ended December 31, 2001 was impacted
by the September 11, 2001 terrorist attacks and the sinking of the Petrobras Oil
Rig.
During 2002, we experienced net adverse development of $25.4 million
for prior-year loss and loss expenses, $16.9 million of which was due to loss
development on our exited lines segment relating primarily to the 2000 and 2001
underwriting years. Adverse development of $16.7 million was primarily caused by
larger than expected reported claims under our direct reinsurance contracts,
corroborated by revised industry data. The loss ratio for 2001 was adversely
affected by net development of $17.9 million for prior-year loss and loss
expenses primarily due to strengthening of reserves in casualty, marine and
aerospace lines of business, and development on a number of historical
catastrophe events.
The most significant factor affecting our results in 2001 was the
losses arising from the terrorist attacks on September 11, 2001. Our estimated
net loss after-tax arising from the September 11, 2001 terrorist attacks was
$32.6 million or $2.82 per diluted share for 2001. During 2002 the net loss
after tax decreased to $31.9 million. This loss estimate was developed through a
contract-by-contract review of our entire book of business and assumed
full-limit losses on all reinsurance contracts deemed affected except where
credibly advised to the contrary by our clients. The following table describes
the impact of the September 11, 2001 terrorist attacks on the year ended
December 31, 2001:
62
Results Excluding
September 11th September 11th
($000's) Results as Reported Event Event
------------------- ------------------ -----------------
Gross premiums written $ 290,213 $ 30,290 $ 259,923
Net premiums written 154,478 (26,295) 180,773
Net premiums earned 162,125 (26,295) 188,420
Fee income 5,786 856 4,930
Net losses incurred 151,703 (26,070) 125,633
Commission and brokerage 30,350 10,557 40,907
------------------- ------------------ -----------------
Underwriting results before taxes $ (14,142) $ (40,952) $ 26,810
=================== ================== =================
Gross losses and loss expenses arising from the September 11, 2001
terrorist attacks totaled $181.7 million at December 31, 2001. This gross loss
was reduced by specific and corporate retrocessional recoverables of $155.6
million. In this regard, proportional and specific excess coverages provided
recoveries of $65.3 million and our general corporate excess of loss coverages
provided a further benefit of $90.3 million. The net result of these covers
reduced our gross loss from $181.7 million to $26.1 million. Many of these
retrocessional covers on both an assumed and ceded basis have either
reinstatement or additional premiums, resulting in a net premium reduction of
$26.3 million. These additional costs are partially reduced by approximately
$11.4 million of lower commission and brokerage expense and increased fee
income, bringing the net impact to approximately $41.0 million before tax.
Underwriting Expenses
The expense ratio was 30.6% for 2002 compared with 33.4% for 2001. This
decrease was largely due to an increase in premiums earned. The commission and
brokerage ratio, net of fee income, was 18.6% for 2002, compared with 15.2% in
2001. The operating expense ratio was 12.0% for 2002 compared with 18.3% for
2001.
Other operating expenses increased 10% to $32.5 million for 2002 from
$29.6 million in 2001. The increase primarily reflects incentive compensation
expense that varies with return on equity, to be paid under PXRE's Restated
Employee Annual Incentive Bonus Plan and $1.3 million of costs incurred in
connection with the establishment of a reinsurance facility with P-1 Re Ltd.
Net Investment Income
Net investment income for the year ended December 31, 2002 declined 17%
to $24.9 million from $30.0 million for 2001, primarily as a result of an
increase in interest expense related to funds held in connection with certain
finite reinsurance transactions as compared to the prior year. Investment income
related to the fixed maturity and short-term investment portfolios increased to
$24.3 million for 2002 from $19.0 million in 2001 primarily due to an increase
in invested assets attributable to the proceeds of the Preferred Stock issuance
as well as cash flow from operations. The fixed maturity portfolio book yield
for the year ended December 31, 2002 was approximately 4.5% compared to 5.8%
during 2001. Investment income related to our hedge fund portfolio decreased to
$7.2 million in 2002 from $10.4 million in 2001. Investment in hedge funds
produced a return of 7.0% for the year ended December 31, 2002 compared with
9.0% in 2001. In addition, during 2002, we recognized $3.0 million related to a
special distribution by one of our alternative investments and $1.5 million in
interest related to the judgment entered in our favor in our lawsuit against
Terra Nova.
63
Investment income was also affected by various finite and other
reinsurance contracts where premiums payable under such contracts were retained
on a funds withheld basis. In order to reduce credit risk or to comply with
regulatory credit for reinsurance requirements, a portion of premiums paid under
such reinsurance contracts is retained by the cedent pending payment of losses
or commutation of the contract. Investment income on such withheld funds is
typically for the benefit of the reinsurer and the cedent may provide a minimum
investment return on such funds. We have both ceded and assumed reinsurance
contracts that involve the withholding of premiums by the cedent. On assumed
reinsurance contracts, cedents held premiums and accrued investment income due
to us of $24.9 million as of December 31, 2002, for which we have recognized
$1.7 million of investment income for the year ended December 31, 2002. On ceded
reinsurance contracts, we held premiums and accrued investment income of $122.2
million due to reinsurers as of December 31, 2002, for which we recognized a
charge to investment income of $9.8 million during the year ended December 31,
2002. On a net basis, this charge to investment income was only $3.2 million,
representing the difference between the stated investment return under the
contracts and the overall yield achieved on our total investment portfolio for
such period. As of December 31, 2002, the weighted average contractual
investment return on the funds held by PXRE was 7.8% and we expected to be
obligated for this contractual investment return for the life of the underlying
liabilities, which was expected to be 7 years on a weighted average basis.
Net Realized Investment Gains
Net realized investment gains for 2002 were $9.0 million compared to
gains of $4.0 million for 2001. This increase resulted primarily due to the
liquidation of bonds in 2002 to implement our decision to shorten the duration
of our fixed income portfolio. Included in the 2002 net realized investment
gains were gains of $1.4 million realized on the repurchase of $5.2 million of
our capital trust pass-through securities.
Interest Expense
Interest expense decreased to $2.9 million for 2002 compared to $4.4
million in 2001. The decrease in interest expense primarily relates to repayment
of $25.0 million on our primary bank credit facility in 2002, on March 31, 2002
by $10.0 million, April 4, 2002 by $10.0 million and July 1, 2002 by $5.0
million reducing the outstanding amount to $30.0 million on December 31, 2002
from $55.0 million as of December 31, 2001. The interest rate on the $30.0
million outstanding was fixed at 7.34% as a result of a cash flow hedge interest
rate swap that is part of PXRE Delaware's Credit Agreement with a syndicate of
lenders. Included in other comprehensive income is a decrease in the fair value
of the cash flow hedge at December 31, 2002 of $0.2 million, net of tax. We
incurred minority interest expense amounting to $8.6 million and $8.9 million
related to our 8.85% PXRE Capital Trust Pass-through Securities (TRUPS) during
2002 and 2001, respectively (see "Liquidity" below for a full description of the
TRUPS).
64
Our London operations, which are winding down, resulted in a loss
before taxes of $1.3 million for 2002 compared to a loss before taxes of $6.5
million in 2001.
Taxation
We recognized a tax expense of $17.8 million in 2002 compared to a
benefit of $4.5 million in 2001. The tax expense for the year ended December 31,
2002 differed from the statutory rate primarily due to the mix of business
between the U.S. and Bermuda, as well as tax-exempt income.
FINANCIAL CONDITION
Capital Resources
The Company relies primarily on dividend payments from its
subsidiaries, including PXRE Reinsurance and PXRE Bermuda, to pay its operating
expenses, to meet its debt service obligations and to pay dividends. During
2003, PXRE Reinsurance paid $65.7 million in dividends and PXRE Bermuda did not
pay dividends. These dividends were primarily used to retire bank debt, meet
interest payments on bank and trust preferred securities, increase the capital
of PXRE Bermuda and pay dividends to the Company's shareholders. Based on the
statutory surplus as of December 31, 2003, the aggregate dividends that are
available to be paid during 2004, without prior regulatory approval, by PXRE
Reinsurance and PXRE Bermuda are $106.4 million. We anticipate that this
available dividend capacity will be sufficient to fund our liquidity needs
during 2004.
Liquidity
The primary sources of liquidity for our principal operating
subsidiaries are net cash flows from operating activities (including interest
income from investments), the maturity or sale of investments, borrowings,
capital contributions and advances. Funds are applied primarily to the payment
of claims, operating expenses, income taxes and to the purchase of investments.
Premiums are typically received in advance of related claim payments.
Financings
On April 4, 2002, the Company raised $150.0 million of additional
capital through the issuance of 15,000 Convertible Voting Preferred Shares (the
"Preferred Share Investment"). As of December 31, 2003, 17,219 shares of
Preferred Shares were issued and outstanding. The issuance of the Preferred
Shares is not expected to have a material effect on our liquidity during the
three-year period following the issuance. In this regard, the Preferred Shares
will be entitled to receive, when, as and if declared by our Board of Directors
and to the extent of funds legally available for the payment of dividends,
cumulative dividends per share at the rate per annum of 8% of the sum of the
stated value on each share plus any accrued and unpaid dividends thereon,
payable on a quarterly basis. Such dividends, shall be payable in additional
Preferred Shares until April 4, 2005 and in cash thereafter. We, at our sole
election, may decide, in substitution in whole or in part for dividends payable
in shares, to pay dividends in cash to the extent of any dividends that, if paid
in additional shares of Preferred Shares, would otherwise cause the Purchasers
and their affiliates to own more than 49.9% of the capital shares of the Company
on a fully-diluted and fully-converted basis.
65
The A1 Preferred Shares, B1 Preferred Shares and C1 Preferred Shares
will be mandatorily convertible into Class A Common Shares, Class B Common
Shares and Class C Common Shares, respectively, on April 4, 2005, and all
remaining Preferred Shares will be mandatorily convertible into Convertible
Common Shares on April 4, 2008. Notwithstanding the foregoing, on any conversion
date, to the extent necessary to prevent the initial purchasers of Preferred
Shares and their affiliates from owning more than 49.9% of the capital shares of
the Company following conversion, we shall have the right (but not the
obligation) to make a cash payment in lieu of Convertible Common Shares equal to
the fair market value of the Convertible Common Shares that would have been
received in excess of the 49.9% limitation in connection with any conversion,
plus an additional tax gross up amount to take into account in appropriate
circumstances the difference between the federal income tax rate on long-term
capital gains and the federal ordinary income tax rate that might apply to the
recipient on the receipt of a cash payment in lieu of Convertible Common Shares.
If the A2 Preferred Shares, B2 Preferred Shares and C2 Preferred Shares are not
voluntarily converted on or prior to the third anniversary of their issuance, an
annual 8% dividend, payable in cash, will accrue until these Preferred Shares
are converted.
On January 29, 1997, PXRE Capital Trust I ("PXRE Capital Trust"), a
Delaware statutory trust and a wholly-owned subsidiary of PXRE Delaware, issued
$100.0 million principal amount of its 8.85% TRUPS due February 1, 2027 in an
institutional private placement. Proceeds from the sale of these securities were
used to purchase PXRE Delaware's 8.85% Junior Subordinated Deferrable Interest
Debentures due February 1, 2027 (the "Subordinated Debt Securities"). On April
23, 1997, PXRE Delaware and PXRE Capital Trust completed the registration with
the SEC of an exchange offer for these securities and the securities were
exchanged for substantially similar securities (the "Capital Securities").
Distributions on the Capital Securities (and interest on the related
Subordinated Debt Securities) are payable semi-annually, in arrears, on February
1 and August 1 of each year, commencing August 1, 1997. On or after February 1,
2007, PXRE Delaware has the right to redeem the Subordinated Debt Securities, in
whole at any time or in part from time to time, subject to certain conditions,
at call prices of 104.180% at February 1, 2007, declining to 100.418% at
February 1, 2016, and 100% thereafter. During 2002 we purchased $5.2 million
TRUPS and recognized a gain of $1.4 million.
On May 15, 2003, PXRE Capital Statutory Trust II, a Connecticut
statutory trust and subsidiary of the Company, sold $17.5 million principal
amount of capital trust pass-through securities due May 15, 2033. The securities
bear interest payable quarterly at an initial rate of 7.35% until May 15, 2008,
and thereafter at an annual rate of 3 month LIBOR plus 4.1% reset quarterly. The
Company has the option right to redeem the securities at any quarterly interest
payment date after May 15, 2008 at 100%. The Company used the net proceeds of
the sale to repay the balance of $10.0 million outstanding under its credit
agreement, and to provide additional capital to PXRE Bermuda.
66
On May 23, 2003, PXRE Capital Trust III, a Delaware statutory trust and
a subsidiary of the Company, sold $15.0 million principal amount of capital
trust pass-through securities due May 23, 2033. The securities bear interest
payable quarterly at a rate of 9.75%. The Company has the right to redeem the
securities at call prices of 104.875% on May 23, 2008, declining to 100.975% on
May 23, 2012 and 100% on May 23, 2013 or thereafter. The Company used the net
proceeds to provide additional capital to PXRE Bermuda.
On October 29, 2003, PXRE Capital Statutory Trust V, a Connecticut
statutory trust and a subsidiary of the Company, sold $20.0 million principal
amount of capital trust pass-through securities due October 29, 2033. The
securities bear interest payable quarterly at an initial rate of 7.70% until
October 29, 2008, and thereafter at an annual rate of 3 month LIBOR plus 3.85%
reset quarterly. The Company has the right to redeem the securities at any
quarterly interest payment date after October 29, 2008 at 100%. The Company used
the net proceeds to provide additional capital to PXRE Bermuda.
On November 6, 2003, PXRE Capital Trust VI, a Delaware capital trust
and a subsidiary of the Company, sold $10.0 million principal amount of capital
trust pass-through securities due September 30, 2033. The securities bear
interest payable quarterly at an initial rate of 7.58% until September 30, 2008,
and thereafter at an annual rate of 3 month LIBOR plus 3.90% reset quarterly.
The Company has the right to redeem the securities an any quarterly interest
payment date after September 30, 2008 at 100%. The Company used the net proceeds
to provide additional capital to PXRE Bermuda.
Share Dividends and Book Value
Dividends declared to common shareholders were $2.9 million in both
2003 and 2002. Book value per common share was $22.24 at December 31, 2003 after
considering convertible preferred shares.
On December 16, 2003, the Company completed an offering of 2.2 million
of its common shares at $21.75 per share, pursuant to a Shelf Registration on
Form S3, filed in 2003 for $150 million. Of the 2.2 million shares sold, 1.1
million were offered by PXRE and 1.1 million were offered by Phoenix Life
Insurance Company ("Phoenix"), one of the Company's common shareholders.
The Company did not receive any of the proceeds from the sale of shares
by Phoenix. Net proceeds to the Company, from the sale of the common shares sold
by the Company, were approximately $20.4 million. We used the net proceeds from
the sale of common shares for general corporate purposes, including
contributions to the capital of PXRE Bermuda to support growth in its business.
On January 22, 2004, the underwriters of the above mentioned share
offering exercised in-full the over-allotment option to purchase 0.3 million
additional common shares at $21.75 per share. As a result of the exercise of the
option, the Company received additional net proceeds of approximately $6.8
million, resulting in total net proceeds from the offering of approximately
$27.2 million. We again used the net proceeds for general corporate purposes,
including contributions to the capital of PXRE Bermuda. After giving effect to
the sale of the over-allotment shares, a total of 2.5 million shares were sold
in the offering.
67
Cash Flows
Net cash flows provided by operations were $154.3 million in 2003
compared to $139.4 million in 2002 primarily due to the effects of timing of
collection of receivables and reinsurance recoverables and payments of losses.
Because of the nature of the coverages we provide, which typically can produce
infrequent losses of high severity, it is not possible to accurately predict our
future cash flows from operating activities. As a consequence, cash flows from
operating activities may fluctuate, perhaps significantly, between years.
Net cash used by investing activities were $184.3 million in 2003
compared to $226.5 million in 2002 due primarily to purchases of securities for
investment partially offset by proceeds received on sale or maturity of
investments.
Off-Balance Sheet Arrangements
We do not have any material off-balance sheet arrangements. We do have
the following commitments, contingencies and contractual obligations.
Commitments, Contingencies and Contractual Obligations
PAYMENTS DUE BY PERIOD
Contractual Obligations Less Than 1 1 - 3 More Than
($000's) Total Year Years 3 - 5 Years 5 Years
---------- ------------ ----------- ----------- -----------
Long-term debt obligations $ 156,841 $ - $ - $ - $ 156,841
Interest on debt obligations 357,392 13,897 27,794 27,793 287,908
Capital (finance) lease
obligations - - - - -
Operating lease obligations 7,451 1,330 2,881 2,727 513
Purchase obligations 1,100 1,100 - - -
Other long-term liabilities
reflected on the balance
sheet under GAAP - - - - -
---------- ------------ ----------- ----------- -----------
Total $ 522,784 $ 16,327 $ 30,675 $ 30,520 $ 445,262
========== ============ =========== =========== ===========
As noted under Capital Resources, we expect to be able to meet the
contractual obligations over 2004 with the dividend paying capacity of the
Company's subsidiaries. PXRE Reinsurance and PXRE Bermuda expect to be able to
meet their contractual obligations over 2004 with operating and investing cash
flows.
Other commitments and pledged assets include: (a) letters of credit
amounting to $17.3 million, which are secured by cash and securities amounting
to $19.6 million, (b) securities with a par value of $10.7 million on deposit
with various state insurance departments in order to comply with insurance laws,
(c) securities with a fair value of $57.8 million deposited into a trust for the
benefit of a cedent in connection with a finite reinsurance transaction, (d)
funding commitments to certain limited partnerships of $0.9 million included in
the table above, (e) a commitment to lend a further $0.2 million to finance the
construction of an office building that we intend to use as our headquarters in
Bermuda, included in the table above and (f) a contingent liability amounting to
$3.1 million under the 1992 Restated Employee Annual Incentive Bonus Plan.
68
In connection with the capitalization of PXRE Lloyd's Syndicate 1224,
PXRE Reinsurance has placed on deposit a $30.6 million par value U.S. Treasury
security as collateral for Lloyd's. In addition, cash and invested assets
amounting to $9.2 million at December 31, 2003, are restricted from being paid
as a dividend until the run-off has been completed.
We entered into a joint venture agreement, dated June 2001 (the "JV
Agreement"), with BF&M Properties Limited to form a Bermuda corporation, Barr's
Bay Properties Limited ("Barr's Bay"). Barr's Bay was formed to construct an
office building in Hamilton, Bermuda, in which we will have the option to lease
office space for three consecutive five-year terms. We own 40% of the
outstanding shares of Barr's Bay. Pursuant to the JV Agreement, we have agreed
to lend up to $7.0 million to Barr's Bay to finance the construction of the
subject office building of which $6.8 million has been advanced as of December
31, 2003. The loans are secured by a first mortgage on the property.
In April 2000, PXRE Reinsurance entered into an aggregate excess of
loss retrocessional reinsurance agreement with a U.S. based cedent. In the
agreement, PXRE Reinsurance reinsured a portfolio of treaties underwritten by a
former business unit of the cedent, which had been divested. Pursuant to this
excess of loss retrocessional agreement, PXRE Reinsurance agreed to indemnify
the cedent for losses in excess of a 75% paid loss ratio on this underlying
portfolio of treaties up to a 100% paid loss ratio, subject to an aggregate
limit of liability of $50.0 million. The latest loss reports related to the
agreement provided by the cedent forecast an ultimate net loss ratio in excess
of 100%, which could result in a full limit loss to PXRE.
In June 2003, PXRE Reinsurance performed an audit of this portfolio of
treaties reinsured under the agreement. As a result of this audit, management
identified problems and believes that the cedent breached its contractual
obligations and fiduciary duties under the agreement. PXRE Reinsurance therefore
filed suit against the cedent on July 24, 2003 in a United Stated District Court
seeking rescission of the agreement and/or compensatory and punitive damages.
Although the ultimate outcome of the litigation cannot presently be
determined, management believes that PXRE Reinsurance's claims are meritorious
and intends to vigorously prosecute its suit. As of December 31, 2003, we have
recorded $34.4 million of loss reserves related to the agreement. If our lawsuit
is unsuccessful, we could potentially incur additional losses under the
agreement of up to $10.2 million on an after-tax basis.
On October 6, 2003, the United States Court of Appeals for the Third
Circuit affirmed a $9.8 million judgment awarded in June 2002 after a jury trial
of its dispute against Terra Nova. The dispute concerned PXRE's claims under two
insurance policies that had been issued by an agent of Terra Nova. Terra Nova
paid the full amount of the judgment on October 16, 2003. PXRE had previously
recorded this amount as a receivable and as a result there was no income
statement impact.
69
All amounts classified as reinsurance recoverable at December 31, 2003
are considered by our management to be collectible in all material respects.
Taxation
PXRE Delaware files U.S. income tax returns for itself and all of its
direct or indirect subsidiaries that satisfy the stock ownership requirements
for consolidation (collectively, the "Subsidiaries"). PXRE Delaware is party to
an Agreement Concerning Filing of Consolidated Federal Income Tax Returns (the
"Tax Allocation Agreement") pursuant to which each U.S. Subsidiary makes tax
payments to PXRE Delaware in an amount equal to the federal income tax payment
that would have been payable by such Subsidiary for such year if it had filed a
separate income tax return for such year. PXRE Delaware is required to provide
for payment of the consolidated federal income tax liability for the entire
group. If the aggregate amount of tax payments made in any tax year by a U.S.
Subsidiary is less than (or greater than) the annual tax liability for such
Subsidiary on a stand-alone basis for such year, such Subsidiary will be
required to make up such deficiency to PXRE Delaware (or will be entitled to
receive a credit if payments exceed the separate return tax liability of the
Subsidiary).
Certain Risks and Uncertainties
Factors Affecting Future Results of Operations
Our future results of operations involve a number of risks and
uncertainties, some of which are discussed below.
Because of exposure to catastrophes, our financial results may vary
significantly from period to period.
As a reinsurer of property catastrophe-type coverages in the worldwide
marketplace, our operating results in any given period depend to a large extent
on the number and magnitude of natural and man-made catastrophes such as
hurricanes, windstorms, hailstorms, earthquakes, volcanic eruptions, fires,
industrial explosions, freezes, riots and floods. For example, the terrorist
attacks on September 11, 2001 resulted in a $35.3 million net loss, after tax,
in the third quarter of 2001, which subsequently decreased to a $32.1 million
net loss, after tax, by December 31, 2003. While we may, depending on market
conditions, purchase catastrophe retrocessional coverage for our own protection,
the occurrence of one or more major catastrophes in any given period could
nevertheless have a material adverse impact on our results of operations and
financial condition and result in substantial liquidation of investments and
outflows of cash as losses are paid.
We may be overexposed to losses in certain geographic areas for certain
types of catastrophe events.
As we underwrite risks from a large number of insurers based on
information generally supplied by reinsurance brokers, we may develop a
concentration of exposure to loss in certain geographic areas prone to specific
types of catastrophes. For example, we are significantly exposed to losses
arising from hurricanes in the southeastern United States, earthquakes in
California, the midwest United States and Japan, and to windstorms in northern
Europe. We have developed systems and software tools to monitor and manage the
accumulation of our exposure to such losses and have established guidelines for
maximum tolerable losses from a single event or multiple catastrophic events
based on historical data. However, no assurance can be given that these maximums
will not be exceeded in some future catastrophe.
70
We operate in a highly competitive environment.
The reinsurance industry has been consolidating in recent years through
mergers and other acquisitions. We compete with numerous companies, many of
which have substantially greater financial, marketing and management resources.
The level of competition has increased in the wake of the September 11, 2001
terrorist attacks with the formation of a number of large and well-capitalized
Bermuda reinsurance companies. In addition, a number of our pre-existing
competitors were successful in raising substantial levels of additional capital.
Although we increased our capital as well, we remain smaller than most of our
competitors.
In particular, we compete with reinsurers that provide property-based
lines of reinsurance, such as ACE Tempest Reinsurance Ltd., Arch Reinsurance
Ltd., AXIS Reinsurance Company, Converium Reinsurance (North America), Inc.,
Endurance Specialty Insurance Ltd., Everest Reinsurance Company, IPCRe Limited,
Lloyd's of London syndicates, Montpelier Reinsurance Ltd., Munich Reinsurance
Company, Partner Reinsurance Company Ltd., Platinum Underwriters Reinsurance,
Inc., Renaissance Reinsurance Ltd., Swiss Reinsurance Company and XL Re Ltd.
Competition varies depending on the type of business being insured or reinsured
and whether we are in a leading position or acting on a following basis.
Reinsurance prices may decline, which could affect our profitability.
Demand for reinsurance depends on numerous factors, including the
frequency and severity of catastrophic events, levels of capacity, general
economic conditions and underwriting results of primary property insurers. The
supply of reinsurance is related to prevailing prices, recent loss experience
and levels of surplus capacity. All of these factors fluctuate and may
contribute to price declines generally in the reinsurance industry. Our recent,
and anticipated, growth relates, in part to improved industry pricing. Premium
rates or other terms and conditions of trade may vary in the future. If any of
these factors were to cause the demand for reinsurance to fall or the supply to
rise, our profitability could be adversely affected.
71
Underwriting reinsurance includes the application of judgment, the
assessment of probabilities and outcomes, and assumption of correlations, which
are subject to inherent uncertainties; reserving for losses includes significant
estimates which are also subject to inherent uncertainties.
Our success is dependent upon our ability to assess accurately the
risks associated with the businesses that we insure and reinsure. Claim reserves
represent estimates involving actuarial and statistical projections, at a given
point in time, of our expectations of the ultimate settlement and administration
costs of claims incurred. We utilize actuarial models as well as historical
insurance industry loss development patterns to assist in the establishment of
appropriate claim reserves. In our casualty and finite business, given our
limited experience we do not have established historical loss development
patterns that can be used to establish these loss liabilities. For these lines,
we rely on loss development patterns that have been estimated from industry or
client data, which may not accurately represent the true development pattern for
the business we wrote. For property lines, reserves may differ from ultimate
settlement values due to the infrequency of some types of catastrophe losses,
the incompleteness of information in the wake of a major catastrophe and delay
in receiving that information. Actual claims and claim expenses paid may
deviate, perhaps substantially, from the reserve estimates reflected in our
financial statements.
If our claim reserves are determined to be inadequate, we will be
required to increase claim reserves at the time of such determination with a
corresponding reduction in our net income in the period in which the deficiency
is rectified. It is possible that claims in respect of events that have occurred
could exceed our claim reserves and have a material adverse effect on our
results of operations, in a particular period, or our financial condition in
general. As a compounding factor, although most insurance contracts have policy
limits, the nature of property and casualty insurance and reinsurance is that
losses can exceed policy limits for a variety of reasons and could significantly
exceed the premiums received on the underlying policies, thereby further
adversely affecting our financial condition.
A decline in the rating assigned to our claim-paying ability may impact
our potential to write new and renewal business.
The property catastrophe reinsurance market is highly sensitive to the
ratings assigned by the rating agencies. If either of S&P or A.M. Best were to
downgrade us, such downgrade would likely have a material negative impact on our
ability to expand our reinsurance portfolio and renew all of our existing
reinsurance agreements, especially if we were to be downgraded more than one
level from the "A" category to the "B" category. In 1999, we were downgraded
from A+ to A, which downgrade was considered by us to have no material effect on
our core short tail property business. Although impossible to quantify, we
believe the downgrade did have some impact on our ability to expand the direct
casualty reinsurance business that we have since discontinued.
72
A decline in our ratings may require us to transfer premiums retained
by us into a beneficiary trust.
Certain of our ceded excess of loss reinsurance contracts require us to
transfer premiums currently retained by us on a funds withheld basis into a
trust for the benefit of the reinsurers if A.M. Best were to downgrade us below
"A-." In addition, certain of our other ceded excess of loss reinsurance
contracts contain provisions that give the reinsurer the right to cancel the
contract and require us to pay a termination fee. The amount of the termination
fee would be dependent upon various factors, including level of loss activity.
A decline in our ratings may allow clients to terminate their contract
with us.
It is increasingly common for our assumed reinsurance contracts to
contain terms that would allow our clients to cancel the contract if we are
downgraded below various rating levels by one or more rating agencies and a
majority of our contracts now contain such clauses. Typically such cancellation
clauses are triggered if A.M. Best or S&P were to downgrade us below "A-."
Currently our rating is "A" by A.M. Best and S&P. Whether a client would
exercise such rights would depend, among other things, on the reasons for such a
downgrade, the extent of the downgrade, the prevailing market conditions, the
degree of unexpired coverage, and the pricing and availability of replacement
reinsurance coverage. We cannot predict in advance whether and how many of our
clients would actually exercise such rights or what effect such cancellations
would have on our financial conditions or future prospects, but such an effect
could potentially be materially adverse. A downgrade, therefore, could result in
a substantial loss of business if insurers, ceding companies and brokers that
place such business move to other insurers and reinsurers with higher ratings.
For new or renewed contracts at January 1, 2004, 57% (by premium volume) contain
provisions allowing clients additional rights upon a decline in PXRE's ratings.
Our investment portfolio is subject to significant market and credit
risks which could result in an adverse impact on our financial position or
results.
Our invested assets consist primarily of debt instruments with fixed
maturities, short-term investments, a diversified portfolio of hedge funds and,
to a lesser extent mezzanine bond and equity limited partnerships. At December
31, 2003, 86% of PXRE's investment portfolio consisted of fixed maturities and
short-term investments and 14% consisted of hedge funds and other investments.
These investments are subject to market-wide risks and fluctuations as well as
to risks inherent in particular securities. Although we seek to preserve our
capital, we have invested in a portfolio of hedge funds and other privately held
securities. These investments are designed to provide diversification of risk;
however, such investments entail substantial risks. There can be no assurance
that our investment objectives will be achieved, and results may vary
substantially over time. In addition, although we seek to employ investment
strategies that are not correlated with our reinsurance exposures, losses in our
investment portfolio may occur at the same time as underwriting losses and,
therefore, exacerbate such losses' adverse effect on us. To our knowledge, few
other publicly-traded reinsurers follow our strategy of investing a significant
portion of invested assets in hedge funds and other privately held securities.
See "Investments."
73
Risks Related to our Fixed Maturity Investments. We are exposed to
potential losses from the risks inherent in our fixed maturity investments. The
two most significant risks inherent in our fixed income portfolio are interest
rate risk and credit risk:
o Interest Rate Risk
Our principal fixed maturity market risk exposure is to changes in U.S.
interest rates. Changes in interest rates may affect the fair value of our fixed
maturity portfolio, borrowings (in the form of trust preferred securities) and
an interest rate swap. Our holdings subject us to exposures in the treasury,
municipal, and various asset-backed sectors. Changes in interest rates could
also cause a potential underperformance in our finite coverages and shortfalls
in cash flows necessary to pay fixed rate amounts due to finite contract
counterparties.
o Credit Risk
We are also exposed to potential losses from changes in probability of
default and from defaulting counter-parties with respect to our investments. A
majority of our investment portfolio consists of fixed maturities and short-term
investments rated "A" or better by Moody's, or S&P. Our investment portfolio
also contains privately held fixed maturities that are not traded on a
recognized exchange. Deterioration in the credit quality of our investments or
our ability to liquidate any of our privately held investments promptly could
have an adverse effect on our financial condition.
Risks Related to our Hedge Fund Investments. We are exposed to
potential losses from the risks inherent in our portfolio of hedge funds. Our
investment policies with respect to our hedge fund investments generally do not
restrict us from participating in particular markets, strategies or investments.
Further, our hedge fund investments may generally be deployed and redeployed in
whatever investment strategies are deemed appropriate under prevailing economic
and market conditions in an attempt to achieve capital appreciation, including,
if appropriate, a concentration of investments in a relatively small group of
strategies or hedge fund managers.
The three most significant risks inherent in our hedge fund portfolio
are liquidity risk, credit risk and market risk:
o Liquidity Risk
Liquidity risk exists in the hedge fund portfolio in that there are
delays between giving notice to redeem a hedge fund investment and receiving
proceeds. The redemption terms are defined in the offering documents and
generally require notice periods and time scales for settlement. We remain at
risk during the notice period, which typically specifies a month or quarter end
reference point at which to calculate redemption proceeds. The risk also exists
that a hedge fund may be unable to meet its redemption obligations. A hedge fund
may be faced with excessive redemption notices and illiquid underlying
investments.
74
o Credit Risk
Credit risk exists in the hedge fund portfolio where hedge funds are
net long in a particular security, or group of correlated securities. Where a
hedge fund is net long in a security that defaults, or suffers an adverse credit
event, we are exposed to loss. Our exposure to any individual hedge fund is
limited to the carrying value of the investment, and we invest in a diversified
portfolio of hedge funds that utilize different strategies and markets, to
reduce this risk. However, different hedge funds in the portfolio may be net
long in the same or correlated securities at the same time, which could have an
adverse effect on the value of the portfolio and thus our financial condition.
o Market Risk
We invest in hedge funds that trade in securities using strategies that
are generally market neutral. The hedge fund investments do not generally
benefit from rising equity or bond markets, and have demonstrated historically
low correlation of returns to equity market indices. However, the hedge funds
may maintain leveraged net long positions, and this can expose us to market
risks.
Because we depend on a few reinsurance brokers for a large portion of
revenue, loss of business provided by them could adversely affect us.
We market our reinsurance products worldwide exclusively through
reinsurance brokers. Four, five and four brokerage firms accounted for 78%, 84%,
and 60% of our gross premiums written for the years ended December 31, 2003,
2002, and 2001, respectively. Approximately 27%, 21%, 16%, and 15% of gross
premiums written in fiscal year 2003 were arranged through Benfield Greig Ltd.,
the worldwide branch offices of Guy Carpenter & Company, Inc. (a subsidiary of
Marsh & McLennan Companies, Inc.), Willis Re. Inc., and Aon Group Ltd.,
respectively. Loss of all or a substantial portion of the business provided by
these brokers could have a material adverse effect on our business.
Our reliance on reinsurance brokers exposes us to their credit risk.
In accordance with industry practice, we frequently pay amounts owed on
claims under our policies to reinsurance brokers, and these brokers, in turn,
pay these amounts over to the insurers that have reinsured a portion of their
liabilities with us (we refer to these insurers as ceding insurers). In some
jurisdictions, if a broker fails to make such a payment, we might remain liable
to the ceding insurer for the deficiency. Conversely, in certain jurisdictions,
when the ceding insurer pays premiums for these policies to reinsurance brokers
for payment over to us, these premiums are considered to have been paid and the
ceding insurer will no longer be liable to us for those amounts, whether or not
we have actually received the premiums. We are aware of one instance in recent
years, involving an insignificant amount, in which a broker did not forward
premiums to us. Consequently, in connection with the settlement of reinsurance
balances, we assume a degree of credit risk associated with brokers around the
world.
We may be adversely affected by foreign currency fluctuations.
Although our functional currency is the U.S. dollar, premium
receivables and loss reserves include business denominated in currencies other
than U.S. dollars. We are exposed to the possibility of significant claims in
currencies other than U.S. dollars. We may, from time to time, experience losses
resulting from fluctuations in the values of these non-U.S. currencies, which
could adversely affect our operating results. While we hold positions
denominated in foreign currencies to mitigate, in part, the effects of currency
fluctuations on our results of operations, we currently do not hedge our
currency exposures before a catastrophic event that may produce a claim.
75
Retrocessional reinsurance subjects us to credit risk and may become
unavailable on acceptable terms.
In order to limit the effect of large and multiple losses upon our
financial condition, we buy reinsurance for our own account. This type of
insurance is known as retrocessional reinsurance. From time to time, market
conditions have limited, and in some cases have prevented, reinsurers from
obtaining the types and amounts of reinsurance, which they consider adequate for
their business needs. Accordingly, we may not be able to obtain our desired
amounts of retrocessional reinsurance. In addition, even if we are able to
obtain such retrocessional reinsurance, we may not be able to negotiate terms as
favorable to us as in prior years. In difficult market conditions, pricing for
our retrocessional reinsurance products may improve, but conversely, obtaining
retrocessional reinsurance for our own account on favorable terms can become
more difficult.
A retrocessionaire's insolvency or its inability or unwillingness to
make payments under the terms of a retrocessional reinsurance treaty with us
could have a material adverse effect on us. Therefore our retrocessions subject
us to credit risks because the ceding of risk to retrocessionaires does not
relieve us of our liability to our clients. In the event that we cede business
to a retrocessionaire, we must still pay on claims of our cedent even if we are
not paid by the retrocessionaire.
Our inability to provide the necessary collateral could affect our
ability to offer reinsurance in certain markets.
PXRE Bermuda is not licensed or admitted as an insurer in any
jurisdiction other than Bermuda. Because many jurisdictions do not permit
insurance companies to take credit for reinsurance obtained from unlicensed or
non- admitted insurers on their statutory financial statements unless
appropriate security mechanisms are in place, we anticipate that our reinsurance
clients will typically require PXRE Bermuda to post a letter of credit or other
collateral. If we are unable to arrange for security on commercially reasonable
terms, PXRE Bermuda could be limited in its ability to write business for
certain of our clients.
The insurance and reinsurance business is historically cyclical, and we
may experience periods with excess underwriting capacity and unfavorable premium
rates; conversely, we may have a shortage of underwriting capacity when premium
rates are strong.
76
Historically, insurers and reinsurers have experienced significant
fluctuations in operating results due to competition, frequency and severity of
catastrophic events, levels of capacity, general economic conditions and other
factors. The supply of insurance and reinsurance is related to prevailing
prices, the level of insured losses and the level of industry surplus which, in
turn, may fluctuate in response to changes in rates of return on investments
being earned in the insurance and reinsurance industry. As a result, the
insurance and reinsurance business historically has been a cyclical industry
characterized by periods of intense price competition due to excessive
underwriting capacity as well as periods when shortages of capacity permitted
favorable premium levels. Our recent, and anticipated, growth relates in part to
improved industry pricing, but the supply of insurance and reinsurance may
increase, either by capital provided by new entrants or by the commitment of
additional capital by existing insurers or reinsurers, which may cause prices to
decrease. Any of these factors could lead to an adverse effect on our profits.
In addition to these considerations, changes in the frequency and severity of
losses suffered by insureds and insurers may affect the cycles of the insurance
and reinsurance business significantly, and we expect to experience the effects
of such cyclicality.
Risks Related to Regulation
Regulatory constraints may restrict our ability to operate our
business.
General. Our insurance and reinsurance subsidiaries may not be able to
obtain or maintain necessary licenses, permits, authorizations or accreditations
in locales where we currently engage in business or in new locales, or may be
able to do so only at significant cost. In addition, we may not be able to
comply fully with, or obtain appropriate exemptions from, the wide variety of
laws and regulations applicable to insurance or reinsurance companies or holding
companies. Failure to comply with or to obtain appropriate authorizations and/or
exemptions under any applicable laws could result in restrictions on our ability
to do business or certain activities that are regulated in one or more of the
jurisdictions in which we operate and could subject us to fines and other
sanctions, which could have a material adverse effect on our business.
PXRE Bermuda. PXRE Bermuda is a registered Class 3 Bermuda insurance
and reinsurance company. Among other matters, Bermuda statutes, regulations and
policies of the BMA, require PXRE Bermuda to maintain minimum levels of
statutory capital, surplus and liquidity, to meet solvency standards, to obtain
prior approval of ownership and transfer of shares and to submit to certain
periodic examinations of its financial condition. These statutes and regulations
may, in effect, restrict PXRE Bermuda's ability to write insurance and
reinsurance policies, to make certain investments and to distribute funds.
The offshore insurance and reinsurance regulatory environment has
become subject to increased scrutiny in many jurisdictions, including the United
States and various states within the United States. Compliance with any new laws
or regulations regulating offshore insurers or reinsurers could have a material
adverse effect on our business. In addition, although PXRE Bermuda does not
believe it is or will be in violation of insurance laws or regulations of any
jurisdiction outside Bermuda, inquiries or challenges to PXRE Bermuda's
insurance or reinsurance activities may still be raised in the future.
PXRE U.S. Subsidiaries. PXRE Delaware and PXRE Reinsurance are subject
to regulation under the insurance statutes of various U.S. states, including
Connecticut, the domiciliary state of PXRE Reinsurance. The regulation and
supervision to which PXRE Reinsurance is subject relates primarily to the
standards of solvency that must be met and maintained, licensing requirements
for reinsurers, the nature of and limitations on investments, deposits of
securities for the benefit of a reinsured, methods of accounting, periodic
examinations of the financial condition and affairs of reinsurers, the form and
content of reports of financial condition required to be filed, reserves for
losses and other matters. In general, such regulation is for the protection of
the reinsureds and policyholders, rather than investors.
77
In recent years, the U.S. insurance regulatory framework has come under
increased federal scrutiny, and some state legislators have considered or
enacted laws that may alter or increase state regulation of insurance and
reinsurance companies and holding companies. Moreover, the NAIC, which is an
association of the insurance commissioners of all 50 states and the District of
Columbia, and state insurance regulators regularly reexamine existing laws and
regulations.
Barbados. PXRE Barbados is subject to regulation under Barbados'
Insurance Act, 1996. Under the Barbados Act, PXRE Barbados may only pay a
dividend out of the realized profits of the company and may not pay a dividend
unless (a) after payment of the dividend it is able to pay its liabilities as
they become due, and (b) the realizable value of its assets is greater than the
aggregate value of its liabilities and (c) the stated capital accounts are
maintained in respect of all classes of shares.
PXRE Barbados is also required to maintain assets in an amount that
permits it to meet the prescribed minimum solvency margin for the net premium
income level of its business. In respect of its general insurance business, PXRE
Barbados is required to maintain margins of solvency. PXRE Barbados is not
required at the present time to maintain any additional statutory deposits or
reserves relative to its business.
Changes in the laws and regulations to which our insurance and
reinsurance subsidiaries are subject or the interpretation of these laws and
regulations could have a material adverse effect on our business or results of
operations.
If PXRE Bermuda becomes subject to insurance statutes and regulations
in jurisdictions other than Bermuda or there is a change to Bermuda law or
regulations or application of Bermuda law or regulations, there could be a
significant and negative impact on our business.
As a registered Bermuda Class 3 insurer, PXRE Bermuda is subject to
regulation and supervision in Bermuda. Bermuda insurance statutes, regulations
and policies of the BMA require PXRE Bermuda to, among other things:
o maintain a minimum level of capital, surplus and liquidity;
o satisfy solvency standards;
o restrict dividends and distributions;
o obtain prior approval of ownership and transfer of shares;
o maintain a principal office and appoint and maintain a
principal representative in Bermuda; and
78
o provide for the performance of certain periodic examinations
of PXRE Bermuda and its financial condition.
These statutes and regulations may, in effect, restrict our ability to
write reinsurance policies, to distribute funds and to pursue our investment
strategy.
We do not presently intend that PXRE Bermuda will be admitted to do
business in any jurisdiction in the United States, the United Kingdom or
elsewhere (other than Bermuda). However, we cannot assure you that insurance
regulators in the United States, the United Kingdom or elsewhere will not review
the activities of PXRE Bermuda, or related companies or its agents and claim
that PXRE Bermuda is subject to such jurisdiction's licensing requirements. If
any such claim is successful and PXRE Bermuda must obtain a license, we may be
subject to taxation in such jurisdiction. In addition PXRE Bermuda is subject to
indirect regulatory requirements imposed by jurisdictions that may limit its
ability to provide insurance or reinsurance. For example, PXRE Bermuda's ability
to write insurance or reinsurance may be subject, in certain cases, to
arrangements satisfactory to applicable regulatory bodies. Proposed legislation
and regulations may have the effect of imposing additional requirements upon, or
restricting the market for, alien insurers or reinsurers with whom domestic
companies place business.
Generally, Bermuda insurance statues and regulations applicable to PXRE
Bermuda are less restrictive than those that would be applicable if it were
governed by the laws of any state in the United States. In the past, there have
been congressional and other initiatives in the United States regarding
proposals to supervise and regulate insurers domiciled outside the United
States. If in the future PXRE Bermuda becomes subject to any insurance laws of
the United States or any state thereof or of any other jurisdiction, we cannot
assure you that PXRE Bermuda would be in compliance with those laws or that
coming into compliance with those laws would not have a significant and negative
effect on PXRE Bermuda's business.
The process of obtaining licenses is very time consuming and costly,
and we may not be able to become licensed in a jurisdiction other than Bermuda,
should we choose to do so. The modification of the conduct of our business
resulting from our becoming licensed in certain jurisdictions could
significantly and negatively affect our business. In addition our inability to
comply with insurance statutes and regulations could significantly and adversely
affect our business by limiting our ability to conduct business as well as
subjecting us to penalties and fines.
Because we are incorporated in Bermuda, we are subject to changes of
Bermuda law and regulation that may have an adverse impact on our operations,
including imposition of tax liability or increased regulatory supervision. In
addition, we will be exposed to changes in the political environment in Bermuda.
The Bermuda insurance and reinsurance regulatory framework recently has become
subject to increased scrutiny in many jurisdictions, including in the United
States and in various states within the United States. We cannot predict the
future impact on our operations of changes in the laws and regulations to which
we are or may become subject.
79
We may be unable to obtain extensions of work permits for our
employees, which may cause our business to be adversely affected.
Under Bermuda law, non-Bermudians (other than spouses of Bermudians)
may not engage in any gainful occupation in Bermuda without the specific
permission of the appropriate government authority. The Bermuda government will
issue a work permit for a specific period of time, which may be extended upon
showing that, after proper public advertisements, no Bermudian (or spouse of a
Bermudian) is available who meets the minimum standards for the advertised
position. The Bermuda government has a policy that limits the duration of work
permits to six years, subject to certain exemptions for key employees.
Substantially all of our key officers, including our Chief Executive Officer,
Chief Financial Officer, most executive vice presidents and key reinsurance
underwriters are working in Bermuda under work permits that will expire over the
next three years. The Bermuda government could refuse to extend these work
permits. If any of our senior executive officers were not permitted to remain in
Bermuda, our operations could be disrupted and our financial performance could
be adversely affected.
Risks Related to Taxation
We and our Bermuda subsidiaries may become subject to Bermuda taxes in
the future.
Bermuda currently imposes no income tax on corporations. We have
obtained an assurance from the Bermuda Minister of Finance, under The Exempted
Undertakings Tax Protection Act 1966 of Bermuda, that if any legislation is
enacted in Bermuda that would impose tax computed on profits or income, or
computed on any capital asset, gain or appreciation, or any tax in the nature of
estate duty or inheritance tax, then the imposition of any such tax will not be
applicable to our Bermuda subsidiaries until March 28, 2016. We cannot assure
you that we or our Bermuda subsidiaries will not be subject to any Bermuda tax
after that date.
We and our non-U.S. subsidiaries may be subject to U.S. tax, which may
have a material adverse effect on our financial condition and results of
operation.
We and our non-U.S. subsidiaries intend to operate our business in a
manner that will not cause us to be treated as engaged in a trade or business in
the United States (and, in the case of those non-U.S. companies qualifying for
treaty protection, in a manner that will not cause us to be doing business
through a permanent establishment in the United States) and, thus, will not
subject us to U.S. federal corporate income taxes or branch profits tax (other
than withholding taxes on certain U.S. source investment income, dividends from
PXRE Delaware to PXRE Barbados and excise taxes on insurance or reinsurance
premiums). However, because there is uncertainty as to the activities that
constitute being engaged in a trade or business within the United States, and
what constitutes a permanent establishment under the applicable tax treaties,
there can be no assurances that the U.S. Internal Revenue Service ("IRS") will
not contend successfully that we or our non-U.S. subsidiary is engaged in a
trade or business, or carrying on business through a permanent establishment in
the United States.
80
We and/or our non U.S. subsidiaries could be subject to U.S. tax on a
portion of our income that is earned from U.S. sources if we or our non U.S.
subsidiaries are considered to be a personal holding company, or a PHC, for U.S.
federal income tax purposes. This status will depend on whether more than 50% of
our shares could be deemed to be owned by five or fewer individuals and the
percentage of our income, or that of our subsidiaries, that consists of
"personal holding company income," ("PHCI threshold"), as determined for U.S.
federal income tax purposes. We believe, based upon information made available
to us regarding our existing shareholder base, that neither we nor any of our
subsidiaries should be considered a PHC. Additionally, we intend to operate our
business to minimize the possibility that we will meet the PHCI threshold.
However, due to the lack of complete information regarding our ultimate share
ownership, we cannot be certain that we will not be characterized as a PHC, or
that the amount of U.S. tax that would be imposed if it were not the case would
be minimal.
There is a risk that dividends paid by PXRE Delaware to PXRE Barbados
may not be eligible for benefits under the US-Barbados income tax treaty.
PXRE Delaware is a Delaware corporation wholly owned by PXRE Barbados.
Under U.S. federal income tax law, dividends paid by a U.S. corporation to a
non-U.S. shareholder are generally subject to a 30% withholding tax, unless
reduced by treaty. The income tax treaty between Barbados and the United States
reduces the rate of withholding tax to 5%. Were the IRS to successfully contend
that PXRE Delaware and/or PXRE Barbados are not eligible for benefits under the
Barbados Treaty, dividends paid by PXRE Delaware to PXRE Barbados would be
subject to the 30% withholding tax. Such tax may be applied retroactively to all
previous tax years for which the statute of limitations has not expired, with
interest and penalties. Such a result may have a material adverse effect on our
financial condition and results of operation.
In addition, negotiators from the United States and Barbados have been
meeting on a priority basis to discuss revisions to the current tax treaty.
While we are not in a position at this time to anticipate what, if any, changes
might be made to the Barbados Treaty as a result of these discussions or how any
such changes might impact the Company, any such changes could have a significant
adverse impact. Futhermore, legislation has been introduced in Congress which
would "override" the Barbados Treaty. If such legislation were enacted,
dividends paid by PXRE Delaware to PXRE Barbados would be subject to the 30%
withholding tax. Such a result may have a materially adverse effect on our
financial condition and results of operations.
If we are classified as a foreign personal holding company ("FPHC"),
your taxes would increase.
Although it is not anticipated that we or any of our non-U.S.
subsidiaries are or will be classified as a FPHC for U.S. federal income tax
purposes, if we or any of our non-U.S. subsidiaries are classified as a FPHC, a
United States person that directly or indirectly owns our common shares would be
subject to adverse tax consequences.
If you acquire more than 10% of our shares and we or our non-U.S.
subsidiaries are classified as a controlled foreign corporation ("CFC"), your
taxes would increase.
81
Each U.S. Holder (as defined in Section 7701(a)(30) of the Internal
Revenue Code of 1986, as amended (the "Code")) of a foreign corporation that is
a CFC for an uninterrupted period of 30 days or more during a taxable year, and
who owns, directly or indirectly through foreign entities, on the last day of
the CFC's taxable year, at least 10% of the total combined voting power of all
classes of shares of the CFC entitled to vote, must include in its gross income
for U.S. federal income tax purposes its pro rata share of the CFC's "subpart F
income," even if the subpart F income is not distributed. A foreign corporation
is considered a CFC if "10% U.S. Shareholders" own (directly, indirectly through
foreign entities or by attribution by application of the constructive ownership
rules (i.e., "constructively")) more than 50% of the total combined voting power
of all classes of voting stock of such foreign corporation or the total value of
all stock of such corporation. A "10% U.S. Shareholder" is a U.S. Holder who
owns (directly, indirectly through foreign entities or constructively) at least
10% of the total combined voting power of all classes of stock entitled to vote
of the foreign corporation. For purposes of taking into account insurance
income, a CFC also includes a foreign insurance company in which more than 25%
of the total combined voting power of all classes of stock (or more than 25% of
the total value of the stock) is owned by 10% U.S. Shareholders, on any day
during the taxable year of such corporation, if the gross amount of premiums or
other consideration for the reinsurance or the issuing of insurance or annuity
contracts exceeds 75% of the gross amount of all premiums or other consideration
in respect of all risks.
We believe that because of the anticipated dispersion of our share
ownership, provisions in our organizational documents that limit voting power
and other factors, no U.S. person who owns our shares directly or indirectly
through one or more foreign entities should be treated as owning (directly,
indirectly through foreign entities or constructively) 10% or more of the total
voting power of all classes of our shares. However, due to the attribution
provisions of the Code regarding determination of beneficial ownership, there is
a risk that the IRS could assert that one or more of our non-U.S. subsidiaries
are CFCs and that U.S. holders of our common shares who own 10% or more of the
value of our common shares should be treated as owning 10% or more of the total
voting power of all classes of our shares notwithstanding the reduction of
voting power discussed above.
If we or a non-U.S. subsidiary is determined to have "related party
insurance income" ("RPII"), you may be subject to U.S. taxation on your pro rata
share of such income.
If the RPII of any of our non-U.S. insurance subsidiaries were to equal
or exceed 20% of such company's gross insurance income in any taxable year and
direct or indirect insureds (and persons related to such insureds) own (or are
treated as owning directly or indirectly through entities) 20% or more of our
voting power or value, then a U.S. person who owns our shares (directly or
indirectly through foreign entities) on the last day of the taxable year would
be required to include in its income for U.S. federal income tax purposes such
person's pro rata share of such non-U.S. insurance subsidiary's RPII for the
entire taxable year, determined as if such RPII were distributed proportionately
only to U.S. persons at that date regardless of whether such income is
distributed. In addition, any RPII that is includible in the income of a U.S.
tax-exempt organization may be treated as unrelated business taxable income. The
amount of RPII earned by the non-U.S. insurance subsidiaries (generally, premium
and related investment income from the direct or indirect insurance or
reinsurance of any direct or indirect U.S. holder of common shares or any person
related to such holder) will depend on a number of factors, including the
geographic distribution of the non-U.S. insurance subsidiaries' business and the
identity of persons directly or indirectly insured or reinsured by the non-U.S.
insurance subsidiaries. We believe that the gross RPII of each non-U.S.
insurance subsidiary did not in prior years of operation and is not expected in
the foreseeable future to equal or exceed 20% of such subsidiary's gross
insurance income, and we do not expect the direct or indirect insureds of the
non-U.S. insurance subsidiaries (and related persons) to directly or indirectly
own 20% or more of either the voting power or value of our common shares, but we
cannot be certain that this will be the case because some of the factors that
determine the existence or extent of RPII may be beyond our knowledge and/or
control.
82
The RPII rules provide that if a U.S. person disposes of shares in a
foreign insurance corporation in which U.S. persons own 25% or more of the
shares (even if the amount of RPII is less than 20% of the corporation's gross
insurance income and the ownership of its shares by direct or indirect insureds
and related persons is less than the 20% threshold), any gain from the
disposition will generally be treated as ordinary income to the extent of the
holder's share of the corporation's undistributed earnings and profits that were
accumulated during the period that the holder owned the shares (whether or not
such earnings and profits are attributable to RPII). In addition, such a holder
will be required to comply with certain reporting requirements, regardless of
the amount of shares owned by the holder. These RPII rules should not apply to
dispositions of our common shares because we will not ourselves be directly
engaged in the insurance business. The RPII provisions, however, have never been
interpreted by the courts or the U.S. Treasury Department in final regulations,
and regulations interpreting the RPII provisions of the Code exist only in
proposed form. It is not certain whether these regulations will be adopted in
their proposed form or what changes or clarifications might ultimately be made
thereto or whether any such changes, as well as any interpretation or
application of RPII by the IRS, the courts or otherwise, might have retroactive
effect. The U.S. Treasury Department has authority to impose, among other
things, additional reporting requirements with respect to RPII. Accordingly, the
meaning of the RPII provisions and the application of those provisions to us and
our subsidiaries is uncertain.
If we are classified as a passive foreign investment company ("PFIC"),
your taxes would increase.
Although it is not anticipated that we will be classified as a PFIC for
U.S. income tax purposes, if we are classified as a PFIC, it would have material
adverse tax consequences for U.S. persons that directly or indirectly own our
common shares, including subjecting such U.S. persons to a greater tax liability
than might otherwise apply and subjecting such U.S. persons to tax on amounts in
advance of when tax would otherwise be imposed. There are currently no
regulations regarding the application of the PFIC provisions to an insurance
company. New regulations or pronouncements interpreting or clarifying these
rules may be forthcoming. We cannot predict what impact, if any, such guidance
would have on persons subject to U.S. federal income tax that directly or
indirectly own our common shares.
Changes in U.S. federal income tax law could be retroactive and may
subject us or our non-U.S. subsidiaries to U.S. federal income taxation.
The tax laws and interpretations regarding whether a company is engaged
in a U.S. trade or business or whether a company is a CFC, PHC, FPHC, or PFIC,
or has RPII are subject to change, possibly on a retroactive basis. There are
currently no regulations regarding the application of the PFIC rules to an
insurance company. The IRS recently announced that it intends to scrutinize
insurance companies domiciled outside the U.S., and apply the PFIC rules to
companies that are not active insurance companies and to the portion of a
non-U.S. insurance company's income not derived in the active conduct of an
insurance business. Additionally, the regulations regarding RPII are still in
proposed form. New regulations or pronouncements interpreting or clarifying such
rules will likely be forthcoming from the IRS. We are not able to predict if,
when or in what form such guidance will be provided and whether such guidance
will be applied on a retroactive basis.
83
Legislation has been proposed in the U.S. Congress which would continue
to treat certain U.S. corporations which reincorporate in non-U.S. jurisdictions
as U.S. corporations for U.S. federal income tax purposes or would, among other
things, require such corporations to obtain pre-approval for certain related
party transactions from the IRS. In addition, legislation has been proposed that
would allow the IRS to reallocate the amount of income between related persons
who are parties to a reinsurance transaction. As proposed, certain of these
provisions would apply on a retroactive basis and could cause us or our U.S.
subsidiaries to be subject to increased taxation in the U.S. We cannot predict
whether or not these or similar proposals will be enacted in the future.
The Organization for Economic Cooperation and Development and the
European Union are considering measures that might increase our taxes and reduce
our net income.
A number of multinational organizations, including the European Union,
the Organization for Economic Cooperation and Development ("OECD"), the
Financial Action Task Force and the Financial Stability Forum ("FSF"), have all
recently identified some countries as not participating in adequate information
exchange, engaging in harmful tax practices or not maintaining adequate controls
to prevent corruption, such as money laundering activities. Recommendations to
limit such harmful practices are under consideration by these organizations, and
a report published on November 27, 2001 by the OECD at the behest of FSF titled
"Behind the Corporate Veil: Using Corporate Entities for Illicit Purposes,"
contains an extensive discussion of specific recommendations. The OECD has
threatened non-member jurisdictions that do not agree to cooperate with the OECD
with punitive sanctions by OECD member countries, though specific sanctions have
yet to be adopted by OECD member countries. It is as yet unclear what these
sanctions will be, who will adopt them and when or if they will be imposed. In a
June 26, 2000 report, Bermuda was not listed as a tax haven jurisdiction by the
OECD because it previously signed a letter committing itself to eliminating
harmful tax practices by the end of 2005 and to embrace international tax
standards for transparency, exchange of information, and the elimination of
regimes for financial and other services that attract businesses with no
substantial domestic activity. We cannot assure you, however, that the action
taken by Bermuda would be sufficient to preclude all effects of the measures or
sanctions described above, which, if ultimately adopted, could adversely affect
Bermuda companies such as us.
84
The anti-dilution protection afforded to the holders of our outstanding
preferred shares could cause substantial dilution to the holders of our common
shares. The sale, following conversion, of substantial amounts of our common
shares by the holders of the preferred shares could cause the market price of
our common shares to decline significantly.
In April 2002, we privately placed Series A, Series B and Series C
preferred shares to several private equity investors. These investors have the
right to nominate four directors for election to the board of directors, and
were granted demand and other registration rights. The interests of the
preferred share investors may differ materially from the interests of our common
shareholders, and these investors could take actions or make decisions that are
not in the best interests of our common shareholders.
The anti-dilution protections afforded to the preferred shareholders
could have a material dilutive effect on our common shareholders. Each preferred
share, in whole or in part, is convertible at any time at the option of the
holder into convertible common shares for that series according to a formula set
forth in the description of stock filed as an exhibit to this form 10-K. The
convertible common shares are, in turn, convertible into common shares on a
one-for-one basis. The number of convertible common shares per preferred shares
issuable upon any conversion will be determined by dividing a liquidation
preference for the series equal to the aggregate original purchase price of the
preferred share plus accrued but unpaid dividends thereon, by the conversion
price then in effect. The conversion price is subject to adjustment to avoid
dilution in the event of recapitalization, reclassification, stock split,
consolidation, merger, amalgamation or other similar event or an issuance of
additional common shares in a private placement below the fair market value or
in a registered public offering below 95% of fair market value or without
consideration. In addition, the conversion price is subject to adjustment for
certain loss and loss expense development on reserves for losses incurred on or
before September 30, 2001 and for any liability or loss arising out of pending
material litigation on December 10, 2001. As of March 1, 2004, the outstanding
preferred shares were ultimately convertible into 12,100,347 common shares, or
47.7% of our outstanding common shares on a fully converted basis and using the
adjusted conversion price of $14.23 in effect as of December 31, 2003. However,
because the conversion price for the preferred shares is subject to adjustment
for a variety of reasons, including if we have certain types of adverse loss
development, the number of our common shares into which the preferred shares are
ultimately convertible and, accordingly, the amount of dilution experienced by
our common shareholders, could increase.
Furthermore, upon conversion, sales of substantial amounts of common
shares by these investors, or the perception that these sales could occur, could
adversely affect the market price of the common shares, as well as our ability
to raise additional capital in the public equity markets at a desirable time and
price.
85
Item 7 A.
Investments
As of December 31, 2003, our investment portfolio, at fair value, was
allocated 67.5% in fixed maturity debt instruments, 18.6% in short-term
investments, 12.8% in hedge funds and 1.1% in other invested assets.
At December 31, 2003, 97.9% of the fair value of our fixed maturities
and short-term investments portfolio was in obligations rated "A" or better by
Moody's or S&P. Mortgage and asset-backed securities accounted for 34.4% of
fixed maturities and short-term investments or 29.6% of our total investment
portfolio based on fair value at December 31, 2003. The average yield on our
fixed maturities and short-term investments at December 31, 2003 and 2002 was
3.2% and 3.3%, respectively.
We had no direct investments in real estate or commercial mortgage
loans as of December 31, 2003, other than $7.8 million of notes receivable and
an equity investment in the JV agreement described earlier.
Fixed maturity investments, other than trading securities, are reported
at fair value, with the net unrealized gain or loss, net of tax, reported as a
separate component of shareholders' equity. Fixed maturity investments
classified as trading securities are reported at fair value, with the net
unrealized gain or loss reported as investment income. At December 31, 2003, an
after-tax unrealized gain of $1.7 million (gain of 7 cents per share, after
considering convertible preferred shares) was included in shareholders' equity.
Short-term investments are carried at amortized cost, which
approximates fair value. Our short-term investments, principally treasury bills
and agency securities, amounted to $175.8 million at December 31, 2003, compared
to $133.3 million at December 31, 2002.
A significant component of our investment strategy is investing a
portion of our invested assets in a diversified portfolio of hedge funds. At
December 31, 2003, total hedge fund investments amounted to $121.5 million,
representing 12.8% of the total investment portfolio. For the year ended
December 31, 2003, our hedge funds yielded a return of 11.8% as compared to 7.0%
in 2002. As of December 31, 2003, hedge fund investments with fair values
ranging from $1.4 million to $16.6 million were administered by eighteen
managers.
Our hedge fund managers invest in a variety of markets utilizing a
variety of strategies, generally through the medium of private investment
companies or other entities. Criteria for the selection of hedge fund managers
include, among other factors, the historical performance and/or recognizable
prospects of the particular manager and a substantial personal investment by the
manager in the investment program. However, managers without past trading
histories or substantial personal investment may also be considered. Generally,
our hedge fund managers may be compensated on terms that may include fixed
and/or performance-based fees or profit participations.
86
Through our hedge fund managers, we may invest or trade in any
securities or instruments including, but not limited to, U.S. and non-U.S.
equities and equity-related instruments, currencies, commodities and
fixed-income and other debt-related instruments and derivative instruments.
Hedge fund managers may use both over-the-counter and exchange traded
instruments (including derivative instruments such as swaps, futures and forward
agreements), trade on margin and engage in short sales. Substantially all hedge
fund managers are expected to employ leverage, to varying degrees, which
magnifies both the potential for gain and the exposure to loss, which may be
substantial. Leverage may be obtained through margin arrangements, as well as
repurchase, reverse repurchase, securities lending and other techniques. Trades
may be on or off exchanges and may be in thinly traded securities or
instruments, which creates the risk that attempted purchases or sales may
adversely affect the price of a particular investment or its liquidation and may
increase the difficulty of valuing particular positions.
While we seek capital appreciation with respect to our hedge fund
investments, we are also concerned with preservation of capital. Therefore, our
hedge fund portfolio is designed to take advantage of broad market opportunities
and diversify risk. Nevertheless, our investment policies with respect to our
hedge fund investments generally do not restrict us from participating in
particular markets, strategies or investments. Further, our hedge fund
investments may generally be deployed and redeployed in whatever investment
strategies are deemed appropriate under prevailing economic and market
conditions in an attempt to achieve capital appreciation, including, if
appropriate, a concentration of investments in a relatively small group of
strategies or hedge fund managers. Accordingly, the identity and number of hedge
fund managers is likely to change over time.
Mariner, as investment advisor, allocates assets to the hedge fund
managers. Mariner monitors hedge fund performance and periodically reallocates
assets in its discretion. Mariner is familiar with a number of hedge fund
investment strategies utilized by our hedge fund managers. Mariner has invested
in some of these strategies and has a varying level of knowledge of others. New
strategies, or strategies not currently known to Mariner, may come to Mariner's
attention and may be adopted from time to time.
As of December 31, 2003, our investment portfolio also included $10.2
million of other invested assets of which 98% is in two mezzanine bond funds.
The remaining aggregate cash call commitments in respect of such investments are
$0.9 million.
Hedge funds and other limited partnership investments are accounted for
under the equity method. Total investment income for the year ended December 31,
2003, included $13.4 million attributable to hedge funds and other investments.
Our hedge fund and other privately held securities program should be
viewed as exposing us to the risk of substantial losses, which we seek to reduce
through our multi-asset and multi-management strategy. There can be no
assurance, however, that this strategy will prove to be successful.
Market Risk
We are exposed to certain market risks, including interest rate and
credit risks. The potential for losses from changes in interest rates with
respect to our investments, borrowings, and a related interest rate swap exists.
We are exposed to potential losses from changes in probability of default with
respect to our investments. We believe our exposure to foreign exchange risk is
not material with respect to our fixed income portfolio.
87
One of our risk management strategies is to bear market risks that do
not correlate with underwriting risks, and limit our exposures to market risks
that may prevent us from servicing our insurance obligations. Our Board of
Directors approves investment guidelines and the selection of external
investment advisers who manage our portfolios. The investment managers make
tactical investment decisions within the established guidelines. Management
monitors the external advisers through written reports that are reviewed and
approved by our Board of Directors or committee thereof. Management also manages
diversification strategies across the portfolios in order to limit our potential
loss from any single market risk. The performance and risk profiles of the
portfolio are reported in various forms throughout the fiscal year to
management, our Board of Directors, rating agencies, regulators, and to
shareholders.
Our investment portfolio is summarized in Item 1, Business, Item 15,
Notes to the Financial Statements and in this Item 7A under the heading
"Investments".
Interest Rate Risk
Our principal fixed maturity market risk exposure is to changes in U.S.
interest rates. Changes in interest rates may affect the fair value of our fixed
maturity portfolio, borrowings (trust preferred) and an interest rate swap. Our
holdings subject us to exposures in the treasury, municipal, and various
asset-backed sectors. These sectors consist primarily of investment grade
securities whose fair value is subject to interest rate, credit, prepayment and
extension risk. All fixed maturity investment positions are net long with no
"short" or derivative positions.
We believe that reinsurance recoverables and payables do not expose us
to significant interest rate risk and are excluded from the analysis below.
In order to measure our exposure to changes in interest rates a
sensitivity analysis was performed. Potential loss is measured as a change in
fair value, net of applicable taxes. The fair value of the fixed maturity
portfolio, borrowings and related interest rate swap at year-end was remeasured
from the fair values reported in the financial statements assuming a 100 basis
point increase in interest rates using various analytics and models. The
potential loss in fair value measured as a proportion of total shareholders'
equity, due to interest rate exposure was estimated at 1.3% at December 31, 2003
and 1.6% at December 31, 2002. There was no significant change in net exposure
during the year.
The estimated potential loss is net of prepayment risk associated with
the mortgage-related securities. The mortgage sector represents 34.4% of our
portfolio of fixed maturities and short-term investments at December 31, 2003.
The estimate assumes a similar change in fair value across security sectors with
no adjustment for change in value due to credit risk. The interest rate risk
related to the short-term investments is not material. The average maturity of
these investments is under one year.
88
Credit Risk
As of December 31, 2003, 86.1% of our investment portfolio, at fair
value, consisted of fixed maturities and short-term investments. At December 31,
2003, 97.9% of the fair value of our fixed maturities and short-term investment
portfolio was in obligations rated "A" or better by Moody's or S&P. With respect
to diversification, at December 31, 2003 we own 407 individual fixed maturity
investments. Non-agency mortgage and asset-backed securities accounted for 15.4%
of our investment portfolio based on fair value at December 31, 2003. At
December 31, 2003, we had $16.1 million at fair value of privately held fixed
maturities that are not traded on a recognized exchange.
Foreign Exchange Risk
Our exposure to foreign exchange risk from our foreign denominated
securities is not material. Only a small portion of our investment portfolio is
denominated in currencies other than U.S. dollars. Additionally, the carrying
value of certain receivables and payables denominated in foreign currencies are
carried at fair value. For these reasons, these items have been excluded from
the market risk disclosure. We may, however, be exposed to material foreign
exchange risks in the event that a significant non-U.S. catastrophe event
occurs.
Equity Price Risk
We are not materially exposed to equity price risk other than through
our hedge fund investments.
Diversification Benefit
Our risk management strategy includes investments that are expected to
reflect offsetting changes in fair value in response to various changes in
market risks.
We also hold other investments that are excluded from this disclosure
that are expected to provide positive returns under most market conditions
representing adverse changes in interest rates and other market factors (See
Note 4 of Notes to Consolidated Financial Statements).
Item 8. Financial Statements and Supplementary Data
The following financial statements are filed as part of this Form 10-K:
Page
----
PXRE Group Ltd.:
Independent Auditor's Report F-1
Consolidated Balance Sheets at December 31, 2003 and 2002 F-2
89
Page
----
Consolidated Statements of Income and Comprehensive
Income for the years ended December 31, 2003, 2002 and 2001 F-3
Consolidated Statements of Shareholders' Equity for the years ended December 31,
2003, 2002 and 2001 F-4
Consolidated Statements of Cash Flow for the years ended December 31, 2003, 2002 and
2001 F-5
Notes to Consolidated Financial Statements F-6
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
Not applicable
Item 9A. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures
PXRE's management, with the participation of our Chief Executive
Officer and Chief Financial Officer, evaluated the effectiveness of our
disclosure controls and procedures as of the end of the period covered by this
report. Based on that evaluation, our Chief Executive Officer and Chief
Financial Officer concluded that our disclosure controls and procedures as of
the end of the period covered by this report were designed and functioning
effectively to provide reasonable assurance that the information required to be
disclosed by us in reports filed under the Securities Exchange Act of 1934, as
amended, is recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms. We believe that a controls system, no
matter how well designed and operated, cannot provide absolute assurance that
the objectives of the controls system are met, and no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if
any, within a company have been detected.
(b) Change in Internal Control over Financial Reporting
No change in our internal control over financial reporting occurred
during PXRE's most recent fiscal quarter that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting.
90
PART III
Item 10. Directors and Executive Officers of the Registrant
The information required with respect to our directors and executive
officers is incorporated herein by reference to the information contained in the
section of our definitive proxy statement for our annual meeting of shareholders
to be held May 5, 2004, to be filed with the Securities and Exchange Commission,
entitled "Information Concerning Directors and Executive Officers."
The information with respect to our audit committee financial expert is
incorporated herein by reference to the information contained in the section of
the proxy statement entitled "Corporate Governance." We have undertaken to
provide to any person, without charge and upon request, a copy of our code of
ethics applicable to our chief executive officer and senior financial officers
as well as some of our other corporate governance documents. See "Available
Information" in the Business section of this Form 10-K.
The information regarding filings under Section 16(a) of the Exchange
Act is incorporated herein by reference to the section captioned "Section 16(a)
Beneficial Ownership Reporting Compliance" of the Proxy Statement.
Item 11. Executive Compensation
The information required by Item 11 of Form 10-K is incorporated by
reference to the information contained in the section of the proxy statement
entitled "Executive Compensation."
Item 12. Security Ownership of Certain Beneficial Owners and Management
The stock ownership information required by Item 12 of Form 10-K is
incorporated by reference to the information contained in the proxy statement in
the sections entitled "Outstanding Stock and Voting Rights - Security Ownership
of Certain Beneficial Owners" and "Outstanding Stock and Voting Rights -
Security Ownership by Management."
The information about our equity compensations plans required by Item
12 of Form 10-K is incorporated by reference to the information contained in the
proxy statement in the section entitled "Equity Compensation Plan Information."
Item 13. Certain Relationships and Related Transactions
The information required by Item 13 of Form 10-K is incorporated by
reference to the information contained in the proxy statement in the sections
entitled "Executive Compensation" and "Certain Business Relationships."
Item 14. Principal Accountants' Fees and Services
The information required by Item 14 of Form 10-K is incorporated by
reference to the information contained in the proxy statement in the section
entitled "Principal Accountants' Fees and Services."
91
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) The following documents are filed as part of this Form 10-K:
(1) Financial Statements.
Page
----
PXRE Group Ltd.:
Independent Auditor's Report F-1
Consolidated Balance Sheets at December 31, 2003 and 2002 F-2
Consolidated Statements of Income and Comprehensive Income for the years ended December 31, 2003,
2002 and 2001 F-3
Consolidated Statements of Shareholders' Equity for the years ended December 31, 2003, 2002 and
2001 F-4
Consolidated Statements of Cash Flow for the years ended December 31, 2003, 2002 and 2001 F-5
Notes to Consolidated Financial Statements F-6
(2) Financial Statements Schedules.
Page
----
Schedule I - Summary of Investments (The information required by this Schedule is presented
in the financial statements and the notes thereto included in this Form 10-K.) -
Schedule II - Condensed Financial Information of Registrant F-37
Schedule III - Supplementary Insurance Information F-38
Schedule IV - Reinsurance (The information required by this Schedule is
presented in the financial statements and the notes thereto included in
this Form 10-K.)
Schedule V - Valuation and Qualifying Accounts and Reserves F-39
92
Page
----
Schedule VI - Supplementary Information Concerning Property/Casualty Insurance Operations F-40
Independent Auditors' Report on the Financial Statement Schedules and Independent Auditors'
Consent F-41
All other financial statement schedules have been omitted as inapplicable.
(3) Exhibits.
A list of exhibits required to be filed as a part of this report is set
forth in the Exhibit Index of this Form 10-K, which immediately precedes such
exhibits, and is incorporated herein by reference.
(b) Reports on Form 8-K.
Current Report on Form 8-K filed with the Securities and Exchange
Commission on December 12, 2003; Purchase Agreement, dated December 10, 2003, by
and among PXRE Group Ltd., Phoenix Life Insurance Company, as the selling
shareholder, and the several underwriters named in Schedule A thereto (Exhibit
1.1 to PXRE Group Ltd.'s 8-K filed December 12, 2003).
93
(c) Exhibits
See Item 15(a)(3) above.
(d) Financial Statements
See Item 15(a)(2) above.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, PXRE Group Ltd. has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
PXRE GROUP LTD.
By: /s/Jeffrey L. Radke
-------------------
Jeffrey L. Radke
Its President and Chief Executive Officer
Date: March 11, 2004
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of PXRE
Group Ltd. and in the capacity and on the dates indicated:
By: /s/ Jeffrey L. Radke By: /s/ John M. Modin
---------------- -------------
Jeffrey L. Radke John M. Modin
President and Chief Executive Officer Executive Vice President and Chief Financial
(Principal Executive Officer) and Director Officer
(Principal Financial Officer
and Principal Accounting Officer)
Date: March 11, 2004 Date: March 11, 2004
*By: /s/ Gerald L. Radke *By: /s/ F. Sedgwick Browne
------------------------------- ------------------
Gerald L. Radke F. Sedgwick Browne
Director Director
Date: March 8, 2004 Date: March 8, 2004
94
*By: /s/ Bradley E. Cooper *By: /s/ Robert W. Fiondella
------------------------------- -------------------
Bradley E. Cooper Robert W. Fiondella
Director Director
Date: March 8, 2004 Date: March 8, 2004
*By: /s/ Susan S. Fleming *By: /s/ Franklin D. Haftl
------------------------------- -----------------
Susan S. Fleming Franklin D. Haftl
Director Director
Date: March 8, 2004 Date: March 8, 2004
*By: /s/ Craig A. Huff *By: /s/ Wendy Luscombe
------------------------------- --------------
Craig A. Huff Wendy Luscombe
Director Director
Date: March 8, 2004 Date: March 8, 2004
*By: /s/ Philip R. McLoughlin *By: /s/ Robert M. Stavis
------------------------------- ----------------
Philip R. McLoughlin Robert M. Stavis
Director Director
Date: March 8, 2004 Date: March 8, 2004
*By /s/ Jeffrey L. Radke
--------------------
Jeffrey L. Radke
Attorney-in-Fact
95
Independent Auditors' Report
The Board of Directors and Shareholders
PXRE Group Ltd.
We have audited the accompanying consolidated balance sheets of PXRE Group Ltd.,
and subsidiaries as of December 31, 2003 and 2002, and the related consolidated
statements of income and comprehensive income, shareholders' equity and cash
flows for each of the years in the three-year period ended December 31, 2003.
These consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of PXRE Group Ltd., and
subsidiaries as of December 31, 2003 and 2002, and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 2003, in conformity with accounting principles generally
accepted in the United States of America.
As discussed in Note 1 to the consolidated financial statements, PXRE Group Ltd.
adopted the provisions of FAS 133 "Accounting for Derivative Instruments and
Hedging Activities," during 2001.
KPMG LLP
New York, New York
February 10, 2004
F-1
PXRE Consolidated Balance Sheets
Group Ltd. (Dollars in thousands, except par value per share)
- --------------------------------------------------------------------------------
December 31,
2003 2002
---- ----
Assets Investments:
Fixed maturities:
Available-for-sale (amortized cost $613,833 and $465,963, respectively) $ 617,658 $ 478,878
Trading (cost $20,370 and $19,521, respectively) 21,451 21,871
Short-term investments 175,771 133,318
Hedge funds (cost $87,691 and $84,915, respectively) 121,466 113,105
Other invested assets (cost $9,365 and $10,522, respectively) 10,173 11,529
------------ ------------
Total investments 946,519 758,701
Cash 65,808 46,630
Accrued investment income 5,490 5,788
Premiums receivable, net 79,501 77,290
Other receivables 30,695 27,052
Reinsurance recoverable on paid losses 15,494 29,653
Reinsurance recoverable on unpaid losses 146,924 207,444
Ceded unearned premiums 10,454 10,496
Deferred acquisition costs 2,495 22,721
Income tax asset 14,133 -
Other assets 42,134 51,367
------------- -------------
Total assets $ 1,359,647 $ 1,237,142
============= =============
Liabilities Losses and loss expenses $ 450,635 $ 447,829
Unearned premiums 21,566 63,756
Debt payable - 30,000
Reinsurance balances payable 53,373 81,090
Deposit liabilities 80,583 35,149
Income tax liability - 2,486
Other liabilities 32,133 29,033
------------- -------------
Total liabilities 638,290 689,343
------------- -------------
Minority interest in consolidated subsidiary:
Company-obligated mandatorily redeemable capital trust
pass-through securities of subsidiary trust holding solely a
company-guaranteed related subordinated debt 156,841 94,335
------------- -------------
Shareholders' Serial convertible preferred shares, $1.00 par value, $10,000
Equity stated value -- 10 million shares authorized, 0.02 million
shares issued and outstanding 172,190 159,077
Common shares, $1.00 par value -- 50 million shares
authorized, 13.3 million and 12.0 million shares
issued and outstanding, respectively 13,277 12,030
Additional paid-in capital 192,078 168,866
Accumulated other comprehensive income net of deferred income
tax expense of $1,242 and $2,866, respectively 1,692 7,142
Retained earnings 188,670 108,062
Restricted shares at cost (0.3 million and 0.2 million shares, respectively) (3,391) (1,713)
------------- -------------
Total shareholders' equity 564,516 453,464
------------- -------------
Total liabilities and shareholders' equity $ 1,359,647 $ 1,237,142
============= =============
The accompanying notes are an integral part of these statements.
F-2
PXRE Consolidated Statements of Income and Comprehensive Income
Group Ltd. (Dollars in thousands, except per share amounts)
- --------------------------------------------------------------------------------
Years Ended December 31,
2003 2002 2001
--------- --------- ---------
Revenues Net premiums earned $320,933 $269,360 $ 162,125
Net investment income 26,931 24,893 30,036
Net realized investment gains 2,447 8,981 4,023
Fee income 5,014 3,432 5,786
---------- ---------- ----------
355,325 306,666 201,970
---------- ---------- ----------
Losses and Losses and loss expenses incurred 158,488 126,862 151,703
Expenses Commissions and brokerage 47,360 53,391 30,350
Other operating expenses 38,954 32,454 29,606
Interest expense 2,506 2,939 4,424
Minority interest in consolidated subsidiaries 10,528 8,646 8,877
---------- ---------- ----------
257,836 224,292 224,960
---------- ---------- ----------
Income (loss) before income taxes and cumulative
effect of accounting change 97,489 82,374 (22,990)
Income tax provision (benefit) 841 17,829 (4,704)
---------- ---------- ----------
Income (loss) before cumulative effect of accounting change 96,648 64,545 (18,286)
Cumulative effect of accounting change, net of $172
tax expense - - 319
---------- ---------- ----------
Net income (loss) before convertible preferred share dividends $ 96,648 $ 64,545 $ (17,967)
========== ========== ==========
Convertible preferred share dividends 13,113 9,077 -
---------- ---------- ----------
Net income (loss) available to common shareholders $ 83,535 $ 55,468 $ (17,967)
========== ========== ==========
Comprehensive Net income (loss) before convertible preferred share dividends $ 96,648 $ 64,545 $ (17,967)
Income, Net of Net unrealized (depreciation) appreciation on investments (6,396) 7,664 493
Tax Net unrealized appreciation (depreciation) on cash flow hedge 946 (223) (722)
---------- ---------- ----------
Comprehensive income (loss) $ 91,198 $ 71,986 $ (18,196)
========== ========== ==========
Per Share Basic:
Net income (loss) before cumulative effect of
accounting change and convertible preferred share dividends $ 8.06 $ 5.47 $ (1.58)
Cumulative effect of accounting change - - 0.03
Convertible preferred share dividends (1.09) (0.77) -
---------- ---------- ----------
Net income (loss) available to common shareholders $ 6.97 $ 4.70 $ (1.55)
========== ========== ==========
Average shares outstanding (000's) 11,992 11,802 11,578
========== ========== ==========
Diluted:
Net income (loss) before cumulative effect of accounting change $ 4.10 $ 3.28 $ (1.58)
Cumulative effect of accounting change - - 0.03
---------- ---------- ----------
Net income (loss) $ 4.10 $ 3.28 $ (1.55)
========== ========== ==========
Average shares outstanding (000's) 23,575 19,662 11,578
========== ========== ==========
The accompanying notes are an integral part of these statements.
F-3
PXRE Consolidated Statements of Shareholders' Equity
Group Ltd. (Dollars in thousands)
- -------------------------------------------------------------------------------
Years Ended December 31, 2003, 2002 and 2001
Accumulated
Convertible Additional Other Total
Preferred Common Paid-in Comprehensive Retained Restricted Shareholders'
Shares Shares Capital Income Earnings Shares Equity
------- ------- -------- ------- -------- ------- ------
Balance at December 31, 2000 $ - $ 11,820 $ 175,014 $ (69) $ 76,302 $ (3,680) $ 259,387
Net loss (17,967) (17,967)
Unrealized appreciation on investments, net 492 492
Unrealized depreciation on cash flow hedge, net (722) (722)
Issuance of common shares 53 3,368 3,421
Repurchase/cancellation of common shares (2,937) (2,937)
Issuance of restricted shares (1,642) (1,642)
Amortization of restricted shares 2,404 2,404
Dividends paid to common shareholders (2,862) (2,862)
Other (40) 246 206
-------------------------------------------------------------------------------
Balance at December 31, 2001 - 11,873 175,405 (299) 55,473 (2,672) 239,780
Net income before preferred shares dividends 64,545 64,545
Unrealized appreciation on investments, net 7,664 7,664
Unrealized depreciation on cash flow hedge, net (223) (223)
Issuance of preferred shares 150,000 (9,112) 140,888
Issuance of common shares 157 3,000 3,157
Repurchase/cancellation of common shares (671) (671)
Issuance of restricted shares (886) (886)
Amortization of restricted shares 1,845 1,845
Dividends to convertible preferred shareholders 9,077 (9,077) -
Dividends paid to common shareholders (2,879) (2,879)
Other 244 244
-------------------------------------------------------------------------------
Balance at December 31, 2002 159,077 12,030 168,866 7,142 108,062 (1,713) 453,464
Net income before preferred shares dividends 96,648 96,648
Unrealized depreciation on investments, net (6,396) (6,396)
Unrealized appreciation on cash flow hedge, net 946 946
Issuance of common shares 1,247 25,084 26,331
Repurchase/cancellation of common shares (2,058) (2,058)
Issuance of restricted shares (4,582) (4,582)
Amortization of restricted shares 2,904 2,904
Dividends to convertible preferred shareholders 13,113 (13,113) -
Dividends paid to common shareholders (2,927) (2,927)
Other 186 186
-------------------------------------------------------------------------------
Balance at December 31, 2003 $ 172,190 $ 13,277 $ 192,078 $ 1,692 $ 188,670 $ (3,391) $ 564,516
===============================================================================
The accompanying notes are an integral part of these statements.
F-4
PXRE
Group Ltd. Consolidated Statements of Cash Flows
- -------------------------------------------------------------------------------
Years Ended December 31,
2003 2002 2001
---- ---- ----
Cash Flows Net income (loss) before convertible preferred share dividends $ 96,648 $ 64,545 $ (17,967)
from Operating Adjustments to reconcile net income to net cash
Activities provided (used) by operating activities:
Losses and loss expenses 2,807 (5,876) 202,086
Unearned premiums (42,148) 25,088 (7,612)
Deferred acquisition costs 20,226 (15,409) 2,385
Receivables (5,855) 3,143 (9,305)
Reinsurance balances payable (27,717) 2,913 43,866
Reinsurance recoverable 74,678 25,018 (144,918)
Income taxes (14,808) 25,017 (6,955)
Equity in earnings of limited partnerships (13,373) (9,323) (10,629)
Trading portfolio purchased (21,607) (30,886) -
Trading portfolio disposed 25,183 38,123 3,504
Deposit liability 45,434 21,818 13,331
Other 14,789 (4,789) (39,186)
---------- ----------- -----------
Net cash provided by operating activities 154,257 139,382 28,600
---------- ----------- -----------
Cash Flows Fixed maturities available for sale purchased (527,249) (430,722) (215,454)
from Investing Fixed maturities available for sale disposed or matured 378,996 189,969 282,218
Activities Payable for securities (4) (82) 105
Net change in short-term investments (42,453) 20,185 (105,400)
Hedge funds purchased (35,000) (30,366) (24,000)
Hedge funds disposed 40,009 14,265 25,076
Other invested assets purchased (314) (8) (4,802)
Other invested assets disposed 1,673 10,283 30,467
---------- ----------- -----------
Net cash used by investing activities (184,342) (226,476) (11,790)
---------- ----------- -----------
Cash Flows Proceeds from issuance of convertible preferred shares - 140,888 -
from Financing Proceeds from issuance of common shares 21,538 2,128 1,104
Activities Proceeds from issuance of minority interest in consolidated subsidiaries 62,500 - -
Cash dividends paid to common shareholders (2,927) (2,879) (2,862)
Repayment of debt (30,000) (25,000) (10,000)
Repurchase of minority interest in consolidated subsidiary - (3,773) -
Cost of shares repurchased (1,848) (528) (1,173)
---------- ----------- -----------
Net cash provided (used) by financing activities 49,263 110,836 (12,931)
---------- ----------- -----------
Net change in cash 19,178 23,742 3,879
Cash, beginning of year 46,630 22,888 19,009
---------- ----------- -----------
Cash, end of year $ 65,808 $ 46,630 $ 22,888
========== =========== ===========
Supplemental disclosure of cash flow information:
Interest paid $ 11,229 $ 11,136 $ 13,066
Income taxes paid (refund) $ 15,680 $ (7,123) $ 3,082
The accompanying notes are an integral part of these statements.
F-5
PXRE Notes to Consolidated Financial Statements
Group Ltd. Years Ended December 31, 2003, 2002 and 2001
- --------------------------------------------------------------------------------
1. Organization
PXRE Group Ltd. (the "Company" or collectively with its subsidiaries,
"PXRE") is an insurance holding company domiciled in Bermuda. We provide
reinsurance products and services to a worldwide marketplace through subsidiary
operations in Bermuda, Barbados, Europe and the United States. Our primary focus
is providing property catastrophe reinsurance and retrocessional coverage. We
also provide marine, aviation and aerospace products and services.
The Company was formed in 1999 as part of the reorganization of PXRE
Delaware, a Delaware corporation ("PXRE Delaware"). Prior to the reorganization,
PXRE Delaware was the ultimate parent holding company of the various PXRE
companies and its common shares were publicly traded on the New York Stock
Exchange. As a result of the reorganization, the Company became the ultimate
parent holding company of PXRE Delaware and the holders of PXRE Delaware common
stock automatically became holders of the same number of the Company's common
shares. The reorganization was consummated at the close of business on October
5, 1999 and, on October 6, 1999, the Company's common shares commenced trading
on the New York Stock Exchange under the symbol "PXT." The reorganization also
involved the establishment of a Bermuda based reinsurance subsidiary, PXRE
Reinsurance Ltd. ("PXRE Bermuda"), and a Barbados based reinsurance subsidiary,
PXRE Reinsurance (Barbados) Ltd. ("PXRE Barbados") and the formation of a
reinsurance intermediary, PXRE Solutions, Inc. ("PXRE Solutions").
2. Significant Accounting Policies
Basis of Presentation and Consolidation
The consolidated financial statements have been prepared in U.S.
dollars in conformity with accounting principles generally accepted ("GAAP") in
the United States of America. These statements reflect the consolidated
operations of the Company and its wholly owned subsidiaries, including PXRE
Delaware, PXRE Reinsurance Company ("PXRE Reinsurance"), PXRE Bermuda, PXRE
Barbados, PXRE Solutions, PXRE Solutions S.A. ("PXRE Europe"), PXRE Limited,
PXRE Capital Trust I, PXRE Capital Statutory Trust II, PXRE Capital Trust III,
PXRE Capital Statutory Trust V and PXRE Capital Trust VI. All material
intercompany transactions have been eliminated in preparing these consolidated
financial statements.
GAAP requires management to make estimates and assumptions that affect
the reported amount of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amount of revenues and expenses during the reporting period. Actual results
could differ from those estimates.
Certain reclassifications have been made for 2001 and 2002 to conform
to the 2003 presentation.
F-6
Premiums Assumed and Ceded
Premiums on assumed and ceded reinsurance business are recorded as
earned on a pro rata basis over the contract period based on estimated subject
premiums. Adjustments based on actual subject premiums are recorded once
ascertained. The portion of assumed and ceded premiums written relating to
unexpired coverages at the end of the period are recorded as unearned premiums
and ceded unearned premiums, respectively.
Assumed and ceded reinstatement premiums on reinsurance business are
estimated and recorded as earned following a loss event based on contract terms
and estimated losses incurred.
Assumed reinsurance and retrocessional contracts that do not both
transfer significant insurance risk and result in the reasonable possibility
that PXRE or its retrocessionaires may realize a significant loss from the
insurance risk assumed are accounted for as deposits with interest income or
expense credited or charged to the contract deposits and included in net
investment income or fee income. These contract deposits are included in other
assets and deposit liabilities in the Consolidated Balance Sheets. Premiums on
assumed and ceded retroactive reinsurance contracts are earned when written.
Deferred Acquisition Costs
Acquisition costs consist of commission and brokerage expenses incurred
in connection with contract issuance, net of acquisition costs ceded and fee
income. These costs are deferred and amortized over the period in which the
related premiums are earned. Deferred acquisition costs are reviewed to
determine that they do not exceed recoverable amounts, after considering
investment income.
Fee Income
Fee income is recorded as earned on a pro rata basis over the contract
period under various arrangements whereby PXRE acts as underwriting manager for
other insurers and reinsurers. These fees are initially based on premium volume,
but are adjusted in some cases through contingent profit commissions related to
underwriting results. In addition, fees are earned from certain finite contracts
accounted for as deposits.
Liabilities for Losses and Loss Expenses
Liabilities for losses and loss expenses are established in amounts
estimated to settle incurred losses. These liabilities are based on individual
case estimates provided for reported losses for known events and estimates of
incurred but not reported losses. Losses and loss expense liabilities are
necessarily based on estimates and the ultimate liabilities may vary from such
estimates. Any adjustments to these estimates are reflected in income when
known. Reinsurance recoverable on paid and unpaid losses are reported as assets.
Reinsurance recoverable on paid losses represent amounts recoverable from
retrocessionaires at the end of the period for gross losses previously paid.
Reinsurance recoverables are recognized in a manner consistent with the
underlying loss and loss expense reserve. Provisions are established for all
reinsurance recoveries that are considered doubtful.
F-7
Liabilities on assumed retroactive reinsurance contracts are
established for the estimated loss PXRE ultimately expects to payout. If such
losses are greater than the related assumed earned premium, a deferred charge is
recorded and included in other assets in the Consolidated Balance Sheets.
Reinsurance recoverables on ceded retroactive reinsurance contracts are recorded
for the estimated recovery that PXRE ultimately expects to receive. If such
recoverables are greater than the related ceded earned premium, a deferred gain
is recorded and included in other liabilities in the Consolidated Balance
Sheets. The deferred charge and gain are amortized over the estimated remaining
settlement periods using the interest method. When changes in the amount or the
timing of payments on retroactive balances occur, a cumulative amortization
adjustment is recognized in earnings in the period of the change.
Investments
Fixed maturity investments are considered available-for-sale or trading
and are reported at fair value. Unrealized gains and losses associated with the
available-for-sale portfolio, as a result of temporary changes in fair value
during the period such investments are held, are reflected net of income taxes
in shareholders' equity. Unrealized losses associated with the
available-for-sale portfolio that are deemed other than temporary are charged to
operations. Unrealized gains and losses associated with the trading portfolio
are recognized in investment income.
Short-term investments, which have an original maturity of one year or
less, are carried at amortized cost, which approximates fair value.
Investments in limited partnership hedge funds and other limited
partnerships are reported under the equity method, which includes the cost of
the investment and subsequent proportional share of the partnership earnings.
Under the equity method, earnings are recorded in investment income.
Realized gains or losses on disposition of investments are determined
on the basis of specific identification. The amortization of premiums and
accretion of discounts for fixed maturity investments are computed utilizing the
interest method. The effective yield under the interest method is adjusted for
anticipated prepayments and extensions.
Fair Value of Financial Instruments
Fair values of certain assets and liabilities are based on published
market values, if available, or estimates based upon fair values of similar
issues. Fair values are reported in Notes 4 and 5.
Debt Issuance Costs
Debt issuance costs associated with the issuance of $100.0 million
8.85% PXRE Capital Trust Pass-through Securities ("TRUPS"), the $17.5 million
7.35% PXRE Capital Statutory Trust II, the $15.0 million 9.75% PXRE Capital
Trust III, the $20.0 million 7.70% PXRE Capital Statutory Trust V, and the $10.0
million 7.58% PXRE Capital Trust VI are being amortized over the term of the
related outstanding debt using the interest method.
F-8
Foreign Exchange
Foreign currency assets and liabilities are translated at the exchange
rate in effect at the balance sheet date. Resulting gains and losses are
reflected in income for the period.
Federal Income Taxes
Deferred tax assets and liabilities reflect the expected future tax
consequences of temporary differences between carrying amounts and the tax bases
of PXRE's assets and liabilities.
Comprehensive Income
Comprehensive income is comprised of net income before convertible
preferred share dividends and other comprehensive income. Other comprehensive
income consists of the change in the net unrealized appreciation or depreciation
of investments and a cash flow hedge, net of tax, during the period it was
deemed to be effective.
Earnings Per Share
Basic earnings per share is determined by dividing net earnings by the
weighted average number of common shares outstanding. On a diluted basis both
net earnings and shares outstanding are adjusted to reflect the potential
dilution that could occur if securities or other contracts to issue common
shares were exercised or converted into common shares or resulted in the
issuance of common shares that then shared in the earnings of the entity, unless
the effect of the assumed conversion is anti-dilutive.
Share-Based Compensation
At December 31, 2003, PXRE has share option plans, which are accounted
for under the recognition and measurement principles of the Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees", and
related Interpretations. No share-based compensation cost is reflected in net
income, as all options granted under those plans had an exercise price equal to
the market value of the underlying common shares on the date of grant. The
following table illustrates the effect on net income and earnings per share if
PXRE had applied the fair value recognition provisions of the Financial
Accounting Standards Board ("FASB") Statement of Financial Accounting Standards
("SFAS") No 123, "Accounting for Stock-Based Compensation" to share-based
employee compensation.
F-9
($000's, except per share data) 2003 2002 2001
--------- ---------- ----------
Net income (loss) before convertible preferred share
dividends:
As reported $ 96,648 $ 64,545 $ (17,967)
--------- --------- ---------
Deduct:
Total share-based compensation expense
determined under fair value based method for all
awards, net of related tax effects (2,927) (2,464) (1,630)
--------- --------- ---------
Pro-forma $ 93,721 $ 62,081 $ (19,597)
========= ========= =========
Basic income (loss) per share:
As reported $ 6.97 $ 4.70 $ (1.55)
Pro-forma $ 6.72 $ 4.49 $ (1.69)
Diluted income (loss) per share:
As reported $ 4.10 $ 3.28 $ (1.55)
Pro-forma $ 3.98 $ 3.16 $ (1.69)
Accounting for Derivative Instruments and Hedging Activities
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities" establishes accounting and reporting standards for derivative
instruments, including certain instruments embedded in other contracts.
Accordingly, all derivatives are recognized as either assets or liabilities in
the balance sheet and measured at fair value. Gains or losses from changes in
the derivative values are accounted for based on how the derivative was used and
whether it qualifies for hedge accounting.
During the first quarter of 2001, PXRE adopted SFAS No. 133. The
cumulative effect of adoption was income of $0.3 million, net of tax.
Accounting for Extinguishment of Debt
FASB issued SFAS No. 145, "Rescission of FASB Statements Nos. 4 and 64,
Amendment of FASB Statement No. 13, and Technical Corrections", on April 30,
2002, which rescinds the requirement to present gains and losses from
extinguishment of debt as an extraordinary item. PXRE adopted the new standard
effective January 1, 2002. As a result, a gain of $1.4 million on the repurchase
of $5.2 million of Minority Interest in Consolidated Subsidiary was classified
with net realized investment gains during 2002.
Debt and Equity Classification
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." This
statement establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. It requires that an issuer classify a financial instrument that is
within the scope of the statement as a liability or an asset in some
circumstances. PXRE adopted this statement during the quarter ended September
30, 2003 however, due to certain parts of this statement being deferred
indefinitely by the FASB, the adoption of this statement did not have any impact
on PXRE's Consolidated Financial Statements, financial position or results of
operations.
F-10
Consolidation of Variable Interest Entities
In January 2003, the FASB issued FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities" ("FIN 46"), which requires
consolidation of all "Variable Interest Entities" ("VIE") by the "primary
beneficiary," as these terms are defined in FIN 46, effective immediately for
VIEs created after January 31, 2003. However, on October 9, 2003 the FASB issued
FASB Staff Position FIN 46-6, "Effective Date of FASB Interpretation No. 46,
Consolidation of VIE's", which deferred the effective date until March 31, 2004.
The adoption of this statement will result in PXRE deconsolidating the five
trusts which previously issued our trust preferred securities. As a result, the
subordinated loans from the trusts will be reflected as debt. Investments in
such trusts, including equity and debt, of approximately $10.3 million will be
reflected as assets with a corresponding increase in debt. In addition, the
gain, net of tax of $1.1 million previously accounted for as an extinguishment
of debt, will be reversed and presented as a cumulative effect of an accounting
change.
3. Underwriting
Premiums written and earned for the years ended December 31, 2003, 2002
and 2001 are as follows:
($000's) 2003 2002 2001
- -------- --------- ---------- ------------
Premiums written
- ----------------
Gross premiums written $ 339,140 $ 366,768 $ 290,213
Ceded premiums written (60,729) (72,285) (135,735)
---------- ---------- -----------
Net premiums written $ 278,411 $ 294,483 $ 154,478
========== ========== ===========
Premiums earned
- ---------------
Gross premiums earned $ 381,705 $ 349,312 $ 293,442
Ceded premiums earned (60,772) (79,952) (131,317)
---------- ---------- -----------
Net premiums earned $ 320,933 $ 269,360 $ 162,125
========== ========== ===========
Premiums written were assumed principally through reinsurance brokers
or intermediaries. In 2003, 2002 and 2001, four, five and four reinsurance
intermediaries, respectively, individually accounted for more than 10% of gross
premiums written, and collectively accounted for approximately 78%, 84% and 60%
of gross premiums written, respectively.
Included in ceded premiums written are $26.1 million, $30.5 million and
$58.0 million of premiums ceded in 2003, 2002 and 2001, respectively to one
reinsurer, Select Reinsurance Ltd. ("Select Re"). Fees earned from Select Re
were $3.8 million, $3.0 million and $4.0 million in 2003, 2002 and 2001,
respectively. Net assets due from Select Re at December 31, 2003, are $64.6
million, all of which are secured by trust agreements. The President and a major
shareholder of Mariner Investment Group ("Mariner"), one of our investment
managers, is also a member of the Board of Select Re and one of its founding
shareholders.
F-11
PXRE from time to time purchases catastrophe retrocessional coverage
for its own protection, depending on market conditions. PXRE purchases
reinsurance primarily to reduce its exposure to severe losses related to any one
event or catastrophe. PXRE currently has reinsurance treaties in place with
several different coverages, territories, limits and retentions that serve to
reduce a large gross loss emanating from any one event. In addition, primarily
related to our exposure assumed on per-risk treaties, we purchase clash
reinsurance protection which allows us to recover losses ceded by more than one
reinsured related to any one particular property. In the event that
retrocessionaires are unable to meet their contractual obligations, PXRE would
remain liable for the underlying covered claims.
At December 31, 2003, PXRE had balances with an insurer, Legion
Insurance Company ("Legion"), which has been in liquidation, amounting to $8.7
million of premiums receivable net of contingent commission. PXRE also had
losses and loss expense liabilities due to Legion of $16.4 million at December
31, 2003. PXRE's reinsurance contracts with Legion contain offset clauses whose
enforceability is subject to Pennsylvania law.
PXRE has both ceded and assumed reinsurance contracts that involve the
withholding of premiums by the cedent or PXRE, as the case may be. PXRE held
premiums and accrued investment income due to reinsurers at December 31, 2003
and 2002 of $124.1 million and $122.2 million, respectively. These amounts are
included, net of related receivables, under the caption, "Reinsurance balances
payable" in the Company's Consolidated Balance Sheets. PXRE owes fixed rates of
interest to the retrocessionaires for these funds withheld arrangements, and on
a weighted average basis such rates during the years ended December 31, 2003 and
2002 were 6.8% and 7.8%, respectively. Under these arrangements, PXRE reduced
investment income during the years ended December 31, 2003 and 2002 by $9.1
million and $9.8 million, respectively. Additionally, PXRE was owed premiums and
accrued investment income due from reinsureds at December 31, 2003 and 2002 of
$26.4 million and $24.9 million, respectively. These amounts are included, net
of related payables, under the caption "Other Receivables" in the Company's
Consolidated Balance Sheets. PXRE is entitled to fixed rates of interest from
the cedents for these funds withheld arrangements, and on a weighted average
basis such rate during both the years ended December 31, 2003 and 2002 was 7.0%.
Under these arrangements, PXRE recognized investment income during both the
years ended December 31, 2003 and 2002 of $1.7 million.
Activity in the net losses and loss expense liability for the years
ended December 31, 2003, 2002 and 2001 is as follows:
F-12
($000's) 2003 2002 2001
--------- --------- ---------
Net balance at January 1 $ 240,385 $ 207,798 $ 155,503
Incurred related to:
Current year 112,692 101,456 133,852
Prior years 45,796 25,406 17,851
--------- --------- ---------
Total incurred 158,488 126,862 151,703
--------- --------- ---------
Paid related to:
Current year (26,058) (18,618) (46,961)
Prior years (66,957) (81,259) (52,505)
--------- --------- ---------
Total paid (93,015) (99,877) (99,466)
--------- --------- ---------
Retroactive reinsurance adjustment (5,571) 2,976 58
Foreign exchange adjustments 3,424 2,626 -
--------- --------- ---------
Net balance at December 31 303,711 240,385 207,798
Reinsurance recoverable on unpaid losses and
loss expenses 146,924 207,444 245,907
--------- --------- ---------
Gross balance at December 31 $ 450,635 $ 447,829 $ 453,705
========= ========= =========
During 2003, we incurred net adverse development of $45.8 million for
prior-year loss and loss expenses, $21.8 million of which was due to loss
development on our exited direct casualty reinsurance operations, $8.8 million
adverse development from aerospace claims arising to a significant degree from
our first receipt of notice that the increase in industry losses related to a
1998 air crash had resulted in the exhaustion of deductibles under three
aerospace contracts between PXRE and Reliance Insurance Company and $8.2 million
of development from finite contracts, $7.3 million of which related to the
aggregate excess of loss reinsurance agreement referred to in Note 13. During
2002, we incurred net adverse development for prior-year losses amounting to
$25.4 million, $16.9 million of which was due to loss development in our exited
lines segment relating primarily to the 2000 and 2001 underwriting years.
Adverse development of $16.7 million was primarily caused by larger than
expected reported claims under our direct reinsurance contracts, corroborated by
revised industry data. Net losses and loss expenses were unfavorably affected by
an increase to reserves of $17.9 million in 2001 primarily due to strengthening
of reserves in casualty, marine and aerospace lines of business and development
of a number of historical catastrophe events.
4. Investments
The book value, gross unrealized gains, gross unrealized losses and
estimated fair value of investments in fixed maturities as of December 31, 2003
and 2002 are shown below:
F-13
Gross Gross Estimated
Book Unrealized Unrealized Fair
($000's) Value Gains Losses Value
-------- ---------- ---------- ----------
2003
- ----
Available for sale:
United States government securities $ 40,219 $ 79 $ 61 $ 40,237
United States government sponsored
agency debentures 115,375 1,504 1,439 115,440
United States government sponsored
agency mortgage-backed securities 133,723 822 222 134,323
Other mortgage and asset-backed
securities 145,772 1,409 985 146,196
Obligations of states and political
subdivisions 18,005 579 -- 18,584
Public utilities and industrial and
miscellaneous securities 160,739 3,640 1,501 162,878
-------- -------- -------- --------
613,833 8,033 4,208 617,658
-------- -------- -------- --------
Trading:
Foreign denominated securities 21,451 -- -- 21,451
-------- -------- -------- --------
Total fixed maturities $635,284 $ 8,033 $ 4,208 $639,109
======== ======== ======== ========
Gross Gross Estimated
Book Unrealized Unrealized Fair
($000's) Value Gains Losses Value
-------- ---------- ---------- ----------
2002
- ----
Available for sale:
United States government securities $ 45,640 $ 525 $ -- $ 46,165
Foreign government securities 310 5 -- 315
United States government sponsored
agency debentures 35,524 2,538 -- 38,062
United States government sponsored
agency mortgage-backed securities 40,161 2,306 -- 42,467
Other mortgage and asset-backed
securities 144,378 2,011 2,653 143,736
Obligations of states and political
subdivisions 72,983 3,617 78 76,522
Public utilities and industrial and
miscellaneous securities 126,967 4,956 312 131,611
-------- -------- -------- --------
465,963 15,958 3,043 478,878
-------- -------- -------- --------
Trading:
Foreign denominated securities 21,871 -- -- 21,871
-------- -------- -------- --------
Total fixed maturities $487,834 $ 15,958 $ 3,043 $500,749
======== ======== ======== ========
F-14
The following table summarizes investments with unrealized losses at
fair value by length of continuous unrealized loss position:
One Year or Less Over One Year
------------------- -------------------------
Unrealized Unrealized
($000's) Fair Value Loss Fair Value Loss
-------- -------- ----------- -----------
United States government securities $ 30,614 $ (61) $ -- $ --
United States government sponsored agency debentures 34,384 (1,439) -- --
United States government sponsored agency mortgage- backed
securities 52,337 (222) -- --
Other mortgage and asset-backed securities 71,545 (985) -- --
Corporate securities 54,656 (1,501) -- --
-------- -------- ----------- -----------
Total temporarily impaired securities $243,536 $ (4,208) $ -- $ --
======== ======== =========== ===========
Included in other comprehensive income in 2003 is $6.4 million of net
unrealized depreciation on investments which includes $8.8 million of unrealized
net losses arising during the year less $2.4 million of reclassification
adjustments for net gains, included in net income.
Proceeds, gross realized investment gains, and gross realized
investment losses from sales of fixed maturity investments before maturity or
securities that prepay and from sales of equity securities were as follows:
($000's) 2003 2002 2001
--------- --------- ---------
Proceeds from sales
Fixed maturities $ 348,884 $ 206,537 $ 279,218
========= ========= =========
Equity securities $ 328 $ 275 $ 18,154
========= ========= =========
Gross realized gains
Fixed maturities $ 6,546 $ 10,566 $ 7,307
Equity securities -- -- 101
Other -- -- 211
--------- --------- ---------
6,546 10,566 7,619
--------- --------- ---------
Gross realized losses
Fixed maturities (3,956) (1,352) (1,815)
Equity securities -- (123) (1,201)
Other (143) (110) (580)
--------- --------- ---------
(4,099) (1,585) (3,596)
--------- --------- ---------
Net realized investment gains $ 2,447 $ 8,981 $ 4,023
========= ========= =========
Included in gross realized losses is the other than temporary write
down of a fixed maturity bond in 2003 and 2002 of $0.2 million and $0.7 million,
respectively and an equity security and a fixed maturity bond in 2001 in the
amount of $0.8 million and $1.6 million, respectively.
F-15
The components of net investment income were as follows:
($000's) 2003 2002 2001
-------- -------- --------
Fixed maturity investments $ 23,325 $ 22,397 $ 16,331
Hedge funds and other limited
partnerships 13,373 9,343 10,629
Equity securities -- -- 269
Cash, short-term and other 3,313 4,653 6,737
-------- -------- --------
40,011 36,393 33,966
Less investment expenses (2,316) (1,954) (1,710)
Less interest expense on funds
held and deposit liabilities (10,764) (9,546) (2,220)
-------- -------- --------
Net investment income $ 26,931 $ 24,893 $ 30,036
======== ======== ========
Investment expenses principally represent fees paid to General Re-New
England Asset Management, Inc. as well as fees paid to Mariner.
Investment Maturity Distributions
The book value and estimated fair value of fixed maturity investments
at December 31, 2003 by expected maturity date are shown below. Expected
maturities may differ from contractual maturities because borrowers may have the
right to call or prepay obligations with or without call or prepayment
penalties.
Estimated
Book Fair
($000's) Value Value
-------- --------
Fixed Maturity:
One year or less $ 21,883 $ 21,986
Over 1 through 5 years 430,977 435,373
Over 5 through 10 years 173,439 172,737
Over 10 through 20 years 364 392
Over 20 years 8,621 8,621
-------- --------
Total fixed maturities $635,284 $639,109
======== ========
In addition to fixed maturities, PXRE held $175.8 million and $133.3
million of short-term investments at December 31, 2003 and 2002, respectively,
comprised principally of treasury bills and agency securities.
PXRE also held $121.5 million and $113.1 million of limited partnership
hedge fund assets including funds managed by Mariner, at December 31, 2003 and
2002, respectively, that are accounted for under the equity method, as follows:
F-16
2003 2002
---------------------------- ----------------------------
($000's) $ Ownership % $ Ownership %
---------- ---------- ---------- ----------
Mariner Partners, L.P. $ 16,557 3.6 $ 18,105 11.0
Mariner Select, L.P. 14,186 6.7 15,685 12.1
Caspian Capital Partners, L.P. (a Mariner
fund) 9,663 2.6 8,400 3.3
Mariner Opportunities, L.P. 9,708 11.6 8,350 14.3
Other 71,352 2.7 to 18.0 62,565 0.2 to 7.1
---------- ----------
Total hedge funds $ 121,466 $ 113,105
========== ==========
Restricted Assets
Under the terms of certain reinsurance agreements, irrevocable letters
of credit in the amount of $17.3 million were issued at December 31, 2003, in
respect of reported loss reserves and unearned premiums. Cash and investments
amounting to $19.6 million have been pledged as collateral with issuing banks.
In addition, securities with a par value of $10.7 million at December 31, 2003
were on deposit with various state insurance departments in order to comply with
insurance laws.
PXRE, in connection with the capitalization of PXRE's Lloyd's Syndicate
1224, has placed on deposit a $30.6 million par value U.S. Treasury security as
collateral for Lloyd's of London ("Lloyd's"). In addition, cash and invested
assets held by PXRE's Lloyd's Syndicate 1224, amounting to $9.2 million at
December 31, 2003, are restricted from being paid as a dividend until the
run-off of our exited Lloyd's business has been completed.
PXRE has outstanding commitments for funding investments in certain
limited partnerships of $0.9 million at December 31, 2003.
PXRE has deposited securities with a fair value of $57.8 million at
December 31, 2003 in a trust for the benefit of a cedent in connection with
certain finite reinsurance transactions.
5. Debt
In January 1997, PXRE Delaware issued $100.0 million of 8.85% TRUPS due
February 1, 2027. The fair value of the TRUPS is $91.0 million and $69.2 million
at December 31, 2003 and 2002, respectively. Interest is payable on the TRUPS
semi-annually. The notes are redeemable on or after February 1, 2007 at the
option of PXRE Delaware, initially at 104.180% declining to 100.418% at February
1, 2016, and 100% thereafter. During 2002, PXRE repurchased $5.2 million of the
TRUPS and recognized a realized investment gain of $1.4 million.
On May 15, 2003, PXRE Capital Statutory Trust II, a Connecticut
statutory trust and subsidiary of the Company, sold $17.5 million principal
amount of capital trust pass-through securities due May 15, 2033. The securities
bear interest payable quarterly at an initial rate of 7.35% until May 15, 2008
and thereafter at an annual rate of 3 month LIBOR plus 4.1% reset quarterly. The
Company has the right to redeem the securities at any quarterly interest payment
date after May 15, 2008 at 100%. The Company used the net proceeds of the sale
to repay the balance of the $10.0 million outstanding under its credit
agreement, and to provide additional capital to PXRE Bermuda.
F-17
On May 23, 2003, PXRE Capital Trust III, a Delaware statutory trust and
a subsidiary of the Company, sold $15.0 million principal amount of capital
trust pass-through securities due May 23, 2033. The securities bear interest
payable quarterly at a rate of 9.75%. The Company has the right to redeem the
securities at call prices of 104.875% on May 23, 2008, declining to 100.975% on
May 23, 2012 and 100% on May 23, 2013 or thereafter. The Company used the net
proceeds to provide additional capital to PXRE Bermuda.
On October 29, 2003, PXRE Capital Statutory Trust V, a Connecticut
statutory and a subsidiary of the Company, sold $20.0 million principal amount
of capital trust pass-through securities due October 29, 2033. The securities
bear interest payable quarterly at a rate of 7.70% until October 29, 2008, and
thereafter at an annual rate of 3 month LIBOR plus 3.85% reset quarterly. The
Company has the right to redeem the securities at any quarterly interest payment
date after October 29, 2008 at 100%. The Company used the net proceeds to
provide additional capital to PXRE Bermuda.
On November 6, 2003, PXRE Capital Trust VI, a Delaware capital trust
and a subsidiary of the Company, sold $10.0 million principal amount of capital
trust pass-through securities due September 30, 2033. The securities bear
interest payable quarterly at an initial rate of 7.58% until September 30, 2008,
and thereafter at an annual rate of 3 month LIBOR plus 3.90% reset quarterly.
The Company has the right to redeem the securities at any quarterly payment date
after September 30, 2008 at 100%. The Company used the net proceeds to provide
additional capital to PXRE Bermuda.
On December 30, 1998, PXRE Delaware entered into a Credit Agreement
with Wachovia Bank, National Association (formerly known as First Union National
Bank), ("Wachovia"), to arrange and syndicate for it a revolving credit facility
of up to $75.0 million. Commitments under this credit facility terminated on May
16, 2003 following a repayment of $20.0 million on March 31, 2003 and the final
payment of $10.0 million on May 16, 2003.
PXRE Delaware entered into a cash flow hedge interest rate swap
agreement with Wachovia that had the intended effect of converting the $30.0
million borrowings by PXRE Delaware to a fixed rate borrowing at an annual rate
of 7.34%. The fair value of the interest rate swap agreement at December 31,
2003 and 2002 was approximately $0.9 million and $1.6 million, respectively.
Following the repayments of $20.0 million on March 31, 2003 and the remaining
$10.0 million on May 16, 2003 under PXRE's credit facility with Wachovia
discussed above, this interest rate swap, previously accounted for as a cash
flow hedge, was no longer effective. Consequently $1.1 million has been charged
as interest expense in 2003. This charge did not impact shareholders' equity
because it was previously recorded as a component of other comprehensive income.
F-18
6. Taxation
PXRE is incorporated under the laws of Bermuda and, under current
Bermuda law, is not obligated to pay any taxes in Bermuda based upon income or
capital gains. PXRE has received an undertaking from the Supervisor of Insurance
in Bermuda pursuant to the provisions of the Exempted Undertakings Tax
Protection Act, 1966, which exempts PXRE from any Bermuda taxes computed on
profits, income or any capital asset, gain or appreciation, or any tax in the
nature of estate duty or inheritance tax, at least until the year 2016.
PXRE does not consider itself to be engaged in a trade or business in
the United States and, accordingly, does not expect to be subject to direct
United States income taxation.
The United States subsidiaries of PXRE file a consolidated U.S. federal
income tax return.
Income (loss) before income taxes and cumulative effect of accounting
change for the years ended December 31, 2003, 2002 and 2001 was as follows under
the following jurisdictions:
($000's) 2003 2002 2001
-------- -------- --------
U.S. $ 1,868 $ 50,619 $(14,351)
Bermuda and subsidiary 90,104 31,553 (5,005)
Barbados 5,517 202 (3,634)
-------- -------- --------
Total $ 97,489 $ 82,374 $(22,990)
======== ======== ========
The components of the provision (benefit) for income taxes for the
years ended December 31, 2003, 2002 and 2001 are as follows:
($000's) 2003 2002 2001
-------- -------- --------
Current
U.S $ 12,125 $ (867) $ 44
Foreign 566 389 1,103
-------- -------- --------
Subtotal 12,691 (478) 1,147
Deferred U.S. (11,850) 18,307 (5,851)
-------- -------- --------
Income tax provision (benefit) before
change in accounting 841 17,829 (4,704)
Income tax provision from change in
accounting -- -- 172
-------- -------- --------
Income tax provision (benefit) $ 841 $ 17,829 $ (4,532)
======== ======== ========
In March 2002, Congress passed the Job Creation and Worker Assistance
Act of 2002 (H.R. 3090), which affords greater opportunity to use net operating
losses. The legislation allowed an extension of the carryback period (pursuant
to Section 172) from two to five years. PXRE availed itself of this legislation
by electing to carryback its 2001 tax loss for five years. This enabled PXRE to
recoup $10.7 million of taxes paid in the prior year on 1996 taxable income. The
remaining losses were utilized in 2002.
F-19
The significant components of the net deferred income tax asset
(liability) are as follows:
($000's) 2003 2002
-------- --------
Deferred income tax asset:
Discounted reserves and unearned premiums $ 11,421 $ 12,062
Retroactive reinsurance contracts 2,842 --
Deferred compensation and benefits 2,585 2,071
Allowance for doubtful accounts 805 525
Cash flow hedge 122 631
Excess tax over book basis in invested assets 54 --
Other, net 535 350
-------- --------
Total deferred income tax asset $ 18,364 $ 15,639
-------- --------
Deferred income tax liability:
Excess book over tax basis in limited partnerships $ (1,905) $ (1,571)
Market discount (1,406) (1,305)
Investments and unrealized foreign exchange (1,125) (3,450)
Deferred acquisition costs (313) (7,633)
Retroactive reinsurance contracts -- (1,327)
Other, net (419) (633)
-------- --------
Total deferred income tax liability $ (5,168) $(15,919)
-------- --------
Net deferred income tax asset (liability) $ 13,196 $ (280)
======== ========
Management has reviewed PXRE's deferred tax asset, and has concluded
that it is realizable and no valuation allowance is necessary.
Income tax recoverable (payable) consists of the following:
($000's) 2003 2002
------- -------
Current tax asset (liability) $ 937 $(2,206)
Deferred tax asset (liability) 13,196 (280)
------- -------
Net income tax asset (liability) $14,133 $(2,486)
======= =======
The provision (benefit) for income taxes differs from the amount of
income tax determined by applying the applicable U.S. statutory Federal income
tax rate of 35% to pretax income from operations as a result of the following
differences:
F-20
($000's) 2003 2002 2001
-------- -------- --------
Statutory U.S. rate $ 34,122 $ 28,831 $ (8,047)
Tax exempt interest (678) (619) (781)
Bermuda and subsidiary (income)
loss (31,537) (11,044) 1,752
Foreign income - Barbados (1,931) (71) 1,272
Barbados tax 516 389 1,103
Other, net 349 343 169
-------- -------- --------
Income tax provision (benefit) $ 841 $ 17,829 $ (4,532)
======== ======== ========
7. Shareholders' Equity
On December 16, 2003, PXRE completed a public offering of 2.2 million
of its common shares at $21.75 per share, pursuant to a Shelf Registration on
Form S-3, filed in 2003 up to $150.0 million. Of the 2.2 million shares sold,
1.1 million were offered by PXRE and 1.1 million were offered by Phoenix Life
Insurance Company ("Phoenix"), one of the Company's common shareholders. The
underwriters were given an option to purchase up to an additional 0.3 million
common shares from the Company, solely to cover overallotments, if any (which
option they exercised January 22, 2004).
The Company did not receive any of the proceeds from the sale of shares
by Phoenix. Net proceeds to the Company from the sale of the common shares sold
by the Company were approximately $20.4 million. PXRE used its net proceeds from
the sale of common shares for general corporate purposes, including
contributions to the capital of PXRE Bermuda to support growth in its business.
Absent a specific waiver by PXRE's Board of Directors, the Company's
Bye-Laws restrict the ownership and voting rights of any shareholder who
directly or indirectly would own more than 9.9% of the outstanding common shares
of the Company. The restriction requires the prompt disposition of any shares
held in violation of the provision and limits the voting power of a shareholder
with more than 9.9% of the outstanding shares to the voting power of a
shareholder with 9.9% of the outstanding common shares.
On April 4, 2002, the Company issued $150.0 million of additional
capital comprised of 15,000 convertible voting preferred shares in a private
placement not involving a public offering under Section 4(2) of the Securities
Act of 1933, as amended. The convertible preferred share investment occurred
pursuant to a share purchase agreement, dated as of December 10, 2001, between
the Company and certain investors. On February 12, 2002, the shareholders
approved the sale and issuance of three series of convertible preferred shares
pursuant to the share purchase agreement, including 7,500 Series A convertible
preferred shares, 5,000 Series B convertible preferred shares, and 2,500 Series
C convertible preferred shares. Proceeds of the offering of the convertible
preferred shares, net of offering expenses of $9.1 million, amounted to $140.9
million.
F-21
The convertible preferred shares accrue cumulative dividends per share
at the rate per annum of 8% of the sum of the stated value of each share plus
any accrued and unpaid dividend thereon payable on a quarterly basis. The
shareholders also voted to approve the division of 20.0 million of PXRE's 50.0
million authorized common shares into three new classes of convertible common
shares including 10.0 million Class A convertible voting common shares, 6.7
million Class B convertible voting common shares, and 3.3 million Class C
convertible voting common shares. No convertible voting common shares of any
class are currently outstanding.
Convertible preferred shares are convertible into convertible common
shares at the option of the holder at any time at a conversion price equal to
the original conversion price, subject to adjustment if PXRE experiences adverse
development in excess of a $7.0 million after-tax threshold. The number of
convertible common shares issued upon the conversion of each convertible
preferred share would be equal to the sum of the original purchase price
($10,000) of such convertible preferred share plus accrued but unpaid dividends
divided by the adjusted conversion price. Certain adverse development, excluding
that related to most of the adverse development on loss reserves within the
exited lines segment and all of the losses arising from the events of September
11, 2001, is subject to a cap of $12.0 million after-tax. Adverse development on
the reserves excluded is not subject to any cap or limit. As of December 31,
2003, after giving effect to the $12.0 million cap referred to above, PXRE has
incurred $21.7 million of net after-tax adverse development above this $7.0
million threshold, resulting in an adjusted conversion price of $14.23.
Two-thirds of the convertible preferred shares mandatorily convert by April 4,
2005, and the balance by April 4, 2008. Convertible preferred shares vote on a
fully converted basis on all matters brought before the shareholders other than
the election of directors. As of December 31, 2003, 17,219 convertible preferred
shares were issued and outstanding.
Under the terms of the preferred shares, the payment of dividends on
the Company's common shares is subject to the following limitations: (i) no
dividend may be paid upon the common shares if the dividends payable upon the
preferred shares are overdue, (ii) the amount of dividends paid with respect to
the common shares may not be increased by a cumulative annualized rate of more
than 10% at any time prior to April 4, 2005 (the "Permitted Dividend Amount")
without the consent of the majority of holders of the preferred shares; and
(iii) at any time on or after April 4, 2005, no dividend may be paid that would
result in payment of any dividend or other distribution with respect to common
shares or result in a redemption, offer to purchase, tender offer or other
acquisition of capital stock of the Company involving consideration having an
aggregate fair value in excess of the greater of the Permitted Tender Offer
Amount and the Permitted Dividend Amount. For this purpose, the term "Permitted
Tender Offer Amount" means an amount equal to 20% of the cumulative amount by
which our consolidated net income in any calendar year commencing with the year
ended December 31, 2002 exceeds $50.0 million minus the sum of all cash and the
fair value of all non-cash consideration paid in respect of redemptions, offers
to purchase, tender offers or other acquisitions of our capital stock on or
after December 10, 2001.
8. Statutory Information
The Insurance Department of the State of Connecticut and the Bermuda
Monetary Authority, by which PXRE Reinsurance and PXRE Bermuda, respectively,
are regulated, recognize as net income and surplus those amounts determined in
conformity with statutory accounting principles ("SAP") prescribed or permitted
by those departments, which differ in certain respects from U.S. GAAP. The
amounts of statutory capital and surplus at December 31, and statutory net
income for the years ended December 31, 2003, 2002 and 2001, as filed with
insurance regulatory authorities are as shown in the table below:
F-22
($000's) 2003 2002 2001
--------- --------- ----------
PXRE Reinsurance
Statutory capital and surplus $ 425,210 $ 457,217 $ 331,959
Statutory net income (loss) $ 32,838 $ 39,517 $ (28,171)
PXRE Bermuda
Statutory capital and surplus $ 425,839 $ 70,609 $ 34,332
Statutory net income (loss) $ 93,497 $ 28,557 $ (5,489)
During the year ended December 31, 2003, the Company contributed 42.6%
of its ownership of PXRE Barbados to PXRE Bermuda. As a result of this
transaction, as of December 31, 2003, PXRE Bermuda has an asset on its statutory
balance sheet equal to $139.6 million, which upon consolidation is fully
eliminated. The balance of the increase in statutory capital and surplus of PXRE
Bermuda at December 31, 2003 was due to net income and contributions of capital
from its parent.
PXRE Reinsurance is subject to state regulatory restrictions, which
limit the maximum amount of annual dividends or other distributions, including
loans or cash advances, available to shareholders without prior approval of the
Insurance Commissioner of the State of Connecticut.
As of December 31, 2003, the maximum amount of dividends and other
distributions, which may be made by PXRE Reinsurance during 2004 without prior
approval, is limited to approximately $42.5 million. Accordingly, the remaining
amount of its capital and surplus is considered restricted.
The payment of dividends by PXRE Bermuda is limited under Bermuda
insurance laws, which require PXRE Bermuda to maintain certain measures of
solvency and liquidity. As of December 31, 2003, the statutory capital and
surplus of PXRE Bermuda was estimated to be $425.8 million and the amount
required to be maintained was estimated to be $29.9 million.
Under Barbados law, PXRE Barbados may only pay a dividend out of the
realized profits of the company. PXRE Barbados may not pay a dividend unless (a)
it is able to pay its liabilities as they become due after payment of the
dividend, (b) the realizable value of its assets is greater than the aggregate
value of its liabilities, and (c) the stated capital accounts are maintained in
respect of all classes of shares.
9. Earnings Per Share
A reconciliation of income (loss) before cumulative effect of
accounting change to earnings, and shares, which affect basic and diluted
earnings per share, is as follows:
F-23
(000's, except per share data) 2003 2002 2001
-------- -------- --------
Net income (loss) available to common shareholders:
Income (loss) before cumulative effect of accounting change $ 96,648 $ 64,545 $(18,286)
Cumulative effect of accounting change, net of tax -- -- 319
-------- -------- --------
Net income (loss) before convertible preferred
share dividends $ 96,648 $ 64,545 $(17,967)
======== ======== ========
Convertible preferred share dividends 13,113 9,077 --
-------- -------- --------
Net income (loss) available to common shareholders $ 83,535 $ 55,468 $(17,967)
======== ======== ========
Weighted average common shares outstanding:
Weighted average common shares outstanding (basic) 11,992 11,802 11,578
Equivalent shares of underlying options 287 308 133
Equivalent number of restricted shares 132 143 341
Equivalent number of convertible preferred shares 11,164 7,409 --
-------- -------- --------
Weighted average common equivalent shares
(diluted) 23,575 19,662 12,052
======== ======== ========
Weighted average common equivalent shares when
antidilutive -- -- 11,578
======== ======== ========
Per share amounts:
Basic:
Net income (loss) before cumulative effect of
accounting change and convertible preferred share
dividends $ 8.06 $ 5.47 $ (1.58)
Net income (loss) available to common shareholders $ 6.97 $ 4.70 $ (1.55)
Diluted:
Net income (loss) before cumulative effect of
accounting change $ 4.10 $ 3.28 $ (1.58)
Net income (loss) $ 4.10 $ 3.28 $ (1.55)
10. Employee Benefits
Benefit Plans
PXRE adopted a non-contributory defined benefit pension plan covering
all U.S. employees with one year or more of service and who had attained age 21.
Benefits are generally based on years of service and compensation. PXRE funds
the plan in amounts not less than the minimum statutory funding requirement nor
more than the maximum amount that can be deducted for U.S. income tax purposes.
PXRE also sponsors a supplemental executive retirement plan. This plan
is non-qualified and provides certain key employees with benefits in excess of
normal pension benefits.
The investment policy of the fund for the retirement plan seeks to
manage the fund with a long term objective, of seven years or more, and achieve
the highest practicable long-term rate of return without taking excessive risk
that could jeopardize PXRE's funding policy or subject PXRE to undue funding
volatility. The objective of the investment policy is for the assets funded to
achieve a rate of return over any seven year period that exceeds the rate of
inflation by 5% after the cost of managing and administering the plan.
F-24
Asset allocations of the fund at December 31, 2003 and 2002 and the
target allocation are as follows:
2003 2002 Target
-------- -------- --------
Equity assets:
Large cap 52% 45% 50%
Small cap 24 20 20
International 6 5 20
Fixed income assets 5 5 10
Money market assets 13 25 --
--- --- ---
100% 100% 100%
=== === ===
The components of net pension expense for the company-sponsored plans
for the years ended December 31, based on a January 1 valuation date (the latest
actuarial estimate) are as follows:
($000's) 2003 2002 2001
------- ------- -------
Components of net periodic cost:
Service cost $ 978 $ 984 $ 1,040
Interest cost 555 648 640
Expected return on assets (430) (197) (152)
Amortization of prior service costs 201 212 212
Recognized net actuarial costs (44) -- 77
Settlement 598 -- --
------- ------- -------
Net periodic benefit costs $ 1,858 $ 1,647 $ 1,817
======= ======= =======
The following table sets forth the funded status of the plans and
amounts recognized in the Consolidated Balance Sheets:
F-25
($000's) 2003 2002
-------- --------
Reconciliation of benefit obligation
Benefit obligation as of January 1 $(11,020) $(10,610)
Service cost (978) (984)
Interest cost (555) (648)
Amendments -- (80)
Actuarial gain (loss) (1,385) 1,302
Settlements 5,567 --
-------- --------
Benefit obligation as of December 31 $ (8,371) $(11,020)
======== ========
Reconciliation of plan assets
Fair value of plan assets as of January 1 $ 4,740 $ 2,217
Return on plan assets 1,043 6
Employer contributions 1,539 2,517
Benefits paid (2,005) --
-------- --------
Fair value of plan assets as of December 31 $ 5,317 $ 4,740
======== ========
Reconciliation of funded status
Funded status $ (3,054) $ (6,280)
Unrecognized prior service cost 1,490 1,691
Unrecognized net loss 1,176 957
-------- --------
Accrued cost $ (388) $ (3,632)
======== ========
Weighted average assumptions as of December 31:
Discount rate 6.25% 6.75%
Expected return on plan assets 8.00% 8.00%
Rate of compensation increase 5.00% 5.00%
During 2003, there were settlements upon retirement of the Company's
former Chief Executive Officer and two former employees with respect to their
vested benefits in which lump sum cash payments were made to these plan
participants in exchange for their rights to receive specified pension benefits.
Employee Share Purchase Plan
PXRE maintains an Employee Share Purchase Plan under which it has
reserved 0.1 million common shares for issuance to PXRE personnel. On the first
Monday of each calendar quarter (the "Grant Date"), plan participants are
granted the option to purchase shares on the first Monday of the next calendar
quarter (the "Exercise Date"). The exercise price of the option is the lesser of
85% of the fair market value of our common shares on the Grant Date or the
Exercise Date.
F-26
11. Stock Compensation
Under the Restated Employee Annual Incentive Bonus Plan, incentive
compensation to employees is based in part on return on equity compared to a
target return on equity and in part at the discretion of the Restated Bonus Plan
Committee. The maximum compensation paid in any year is limited to 150% of
target bonuses under the Plan. Amounts incurred above 150% of target up to a
maximum award at 240% of target represent contingent incentive compensation. At
December 31, 2003, the amount of the contingent liability was $3.1 million.
The Restated Employee Annual Incentive Bonus Plan was terminated
effective January 31, 2004. In February 2004, our Board of Directors approved
the adoption of the PXRE Group Ltd.'s Annual Incentive Bonus Compensation Plan
(the "Bonus Plan"), subject to the approval of our shareholders. If approved by
our shareholders, awards will be granted under the Bonus Plan with respect to
calendar year 2004. In each of 2002 and 2003, the bonus percentage under the
Restated Employee Annual Incentive Bonus Plan exceeded 150% and the portion of
the bonus in excess of 150% of the target bonus was deferred in accordance with
the terms of such plan. Commencing in March 2004 the Human Resources Committee
determined to pay out such deferred amounts in three equal annual installments
to officers and in a single lump sum for non-officers.
The Officer Incentive Plan provides for the grant of incentive share
options, non-qualified share options and awards of shares subject to certain
restrictions. Options granted under the plan have a term of 10 years and
generally become exercisable in four equal annual installments commencing one
year from the date of grant. The exercise price for the incentive share options
must be equal to or exceed the fair market value of the common shares on the
date the option is granted. The exercise price for the non-qualified options may
not be less than the fair market value of the common stock on the date of grant.
At December 31, 2003 and 2002, options for 1,178,989 and 754,155 shares,
respectively, were exercisable under this plan.
In 2003, 2002 and 2001, $7.7 million, $6.3 million and $2.0 million,
respectively were incurred under these plans, including bonuses granted to
certain levels of employees paid in restricted shares, which vest in 36 months
or pro rata over 48 months.
Information regarding the option plans described above is as follows:
F-27
Number of Range - Option
Shares Price per Share
---------------- ------------------------
Outstanding at December 31, 2000 1,250,224
Options granted 907,400 $15.95 - $19.80
Options exercised (72,658) $10.88 - $12.50
Options forfeited (442,357) $12.50 - $32.94
----------------
Outstanding at December 31, 2001 1,642,609
----------------
Options granted 538,238 $17.45 - $24.17
Options exercised (126,214) $10.88 - $19.80
Options forfeited (73,934) $12.50 - $32.94
----------------
Outstanding at December 31, 2002 1,980,699
----------------
Options granted 374,773 $19.88 - $23.78
Options exercised (60,625) $12.50 - $19.80
Options forfeited (47,248) $12.50 - $32.94
----------------
Outstanding at December 31, 2003 2,247,599
----------------
PXRE has adopted a non-employee Director Stock Plan, which provides for
an annual grant of 5,000 options and 1,000 restricted shares per non-employee
director from 2000 to 2002 and 5,000 options and 2,500 restricted shares per
director from 2003. Options granted under the plan have a term of 10 years from
the date of grant and are exercisable in three equal annual installments
commencing one year from the date of grant. The exercise price of the options is
the fair market value on the date of grant. As of December 31, 2003, options for
500,000 shares were authorized, 232,000 were outstanding and 147,217 were
exercisable, at exercise prices between $14.79 and $31.11.
PXRE allows its directors to elect to convert their Board of Directors
retainer fee to options under the Directors Equity and Deferred Compensation
Plan. At December 31, 2003, options for 250,000 shares were authorized and
127,050 were outstanding at prices ranging from $12.81 to $33.46 which are 100%
vested and immediately exercisable for a period of 10 years.
As of December 31, 2003, total authorized common shares reserved for
grants of employee and director share options and restricted shares under the
above plans are 4,033,596 shares. Total shares of 1,453,256 relate to share
options which are vested and exercisable at December 31, 2003 at exercise prices
between $12.50 and $33.46. All options become exercisable upon a change of
control of PXRE as defined by the plans.
As permitted by SFAS No. 123, PXRE has elected to continue to account
for its share option plans under the accounting rules prescribed by APB 25,
under which no compensation costs are recognized as an expense. Had compensation
costs for the share options been determined using the fair value method of
accounting as recommended by SFAS No. 123, net income (loss) and earnings per
share for 2003, 2002 and 2001 would have been reduced to the following pro-forma
amounts:
F-28
($000's, except per share data) 2003 2002 2001
---------- ---------- ----------
Net income (loss) before convertible preferred share
dividends:
As reported $ 96,648 $ 64,545 $ (17,967)
------------- ------------- --------------
Deduct:
Total share-based compensation expense
determined under fair value based method for all
awards, net of related tax effects (2,927) (2,464) (1,630)
------------- ------------- --------------
Pro-forma $ 93,721 $ 62,081 $ (19,597)
============= ============= ==============
Basic income (loss) per share:
As reported $ 6.97 $ 4.70 $ (1.55)
Pro-forma $ 6.72 $ 4.49 $ (1.69)
Diluted income (loss) per share:
As reported $ 4.10 $ 3.28 $ (1.55)
Pro-forma $ 3.98 $ 3.16 $ (1.69)
The fair value of each option granted in 2003, 2002 and 2001 was
estimated on the date of grant using a modified Black-Scholes option pricing
model with the following weighted average assumptions:
2003 2002 2001
---------- ---------- ----------
Risk-free rate 2.94% 4.23% 4.87%
Dividend yield 1.02% 0.98% 1.36%
Volatility factor 40.49% 40.43% 37.18%
Weighted average expected life 5 5 5
A summary of the status of the employee and director share option plans
at December 31, 2003 and 2002 and changes during the years then ended is
presented below:
2003 2002
---------------------------- ------------------------------
Weighted Weighted
Average Average
Shares Exercise Price Shares Exercise Price
--------- ------------- ------------ ---------------
Options outstanding at beginning of year 2,319,802 $18.49 1,935,620 $18.06
Options granted 435,081 22.69 614,841 18.64
Options exercised (64,958) 13.55 (140,725) 12.67
Options forfeited (83,276) 22.18 (89,934) 19.40
--------- ------------
Options outstanding at end of year 2,606,649 19.19 2,319,802 18.49
--------- ------------
Options exercisable at end of year 1,453,256 19.38 1,014,658 20.48
--------- ------------
Weighted average fair value of options granted 8.21 7.09
F-29
Options outstanding at December 31, 2003 included:
Number Number
Outstanding at Weighted Weighted Exercisable at Weighted
Range of December 31, Average Average December 31, Average
Exercise Prices 2003 Remaining Life Exercise Price 2003 Exercise Price
- ----------------------- ----------------- ---------------- ---------------- ----------------- ------------------
$12.50 to $20.70 1,852,161 7.53 $16.64 998,084 $16.10
$23.25 to $33.46 754,488 5.87 $25.46 455,172 $26.55
--------- ---------
2,606,649 1,453,256
========= =========
PXRE also has adopted a non-employee Director Deferred Share Plan
granting 2,000 shares to each non-employee Board member at the times specified
in the plan. At December 31, 2003, the 14,000 shares granted to eligible
non-employee Board members will be issued to Board members at or after their
termination, depending on whether such director elected to defer receipt of such
shares following termination.
12. Segment Information
PXRE operates in four reportable property and casualty segments -
catastrophe and risk excess, finite business, other lines and exited lines -
based on PXRE's approach to managing the business. Commencing with the 2002
underwriting renewal season, PXRE returned its focus to its core property
catastrophe and risk excess business. Businesses that were not continued in 2002
are reported as exited lines. PXRE's segments for 2001 were reclassified to be
comparable to the 2003 and 2002 segments used for PXRE's method of managing the
business. In addition, we operate in two geographic segments - North American,
representing North American based risks written by North American based clients,
and International (principally the United Kingdom, Continental Europe, Latin
America, the Caribbean, Australia and Asia), representing all other premiums
written.
There are no differences among the accounting policies of the segments
as compared to PXRE's consolidated financial statements.
PXRE does not maintain separate balance sheet data for each of its
operating segments nor does it allocate net investment income, net realized
investment gains or losses, operating expenses, and financing costs to these
segments. Accordingly, PXRE does not review and evaluate the financial results
of its operating segments based upon balance sheet data and these other income
statement items.
The following tables summarize the net premiums written and net
premiums earned by PXRE's business segments. The amounts shown for the North
American and International geographic segments are presented net of proportional
reinsurance and allocated excess of loss reinsurance cessions, but gross of
corporate catastrophe excess of loss reinsurance cessions, which are separately
itemized where applicable.
F-30
Net Premiums Written
Year Ended December 31,
-------------------------------------------------------------------------------
2003 2002 2001
----------------------- ------------------------ --------------------------
($000's except percentages) Amount Percent Amount Percent Amount Percent
------------ -------- ------------ ------- ------------- --------
Catastrophe and Risk Excess
North American $ 64,560 $ 51,657 $ 27,981
International 220,380 153,038 90,714
Excess of Loss Cessions (27,320) (28,652) (60,485)
------------ ----------- -------------
257,620 93% 176,043 60% 58,210 38%
------------ ----------- -------------
Finite Business
North American 8,064 102,754 33,651
International - - -
------------ ----------- -------------
8,064 3 102,754 35 33,651 22
------------ ----------- -------------
Other Lines
North American 7,361 7,822 4,086
International 1,242 83 404
------------ ----------- -------------
8,603 3 7,905 3 4,490 3
------------ ----------- -------------
Exited Lines
North American 997 8,501 33,679
International 3,127 (720) 24,448
------------ ----------- -------------
4,124 1 7,781 2 58,127 37
------------ --- ----------- --- ------------- ---
Total $ 278,411 100% $ 294,483 100% $ 154,478 100%
============ === =========== === ============= ===
F-31
Net Premiums Earned
Year Ended December 31,
-------------------------------------------------------------------------------
2003 2002 2001
----------------------- ------------------------ --------------------------
($000's except percentages) Amount Percent Amount Percent Amount Percent
------------ -------- ------------ ------- ------------- --------
Catastrophe and Risk Excess
North American $ 64,212 $ 50,487 $ 26,916
International 217,310 148,650 92,407
Excess of Loss Cessions (27,325) (23,052) (58,839)
------------ ------------ -------------
254,197 79% 176,085 65% 60,484 37%
------------ ------------ -------------
Finite Business
North American 53,689 57,107 32,365
International - - -
------------ ------------ -------------
53,689 17 57,107 21 32,365 20
------------ ------------ -------------
Other Lines
North American 6,911 8,002 3,434
International 955 143 479
------------ ------------ -------------
7,866 2 8,145 3 3,913 3
------------ ------------ -------------
Exited Lines
North American 1,982 18,844 33,109
International 3,199 9,179 32,254
------------ ------------ -------------
5,181 2 28,023 11 65,363 40
------------ --- ------------ --- ------------- ---
Total $ 320,933 100% $ 269,360 100% $ 162,125 100%
============ === ============ === ============= ===
F-32
The following table summarizes the underwriting income (loss) by
segment. The amounts shown in the North American and International geographic
segments are presented net of proportional reinsurance and allocated excess of
loss reinsurance cessions, but gross of corporate catastrophe excess of loss
reinsurance cessions, which are separately itemized where applicable.
Underwriting income (loss) includes premiums earned, losses incurred and
commission and brokerage net of fee income, but does not include investment
income, net realized investment gains or losses, interest expense, or operating
expenses.
Underwriting Income (Loss)
Year Ended December 31,
-------------------------------------------------------------------------------
2003 2002 2001
----------------------- ------------------------ --------------------------
($000's except percentages) Amount Percent Amount Percent Amount Percent
------------ -------- ------------ ------- ------------- --------
Catastrophe and Risk Excess
North American $ 38,170 $ 43,639 $ (31,740)
International 147,910 80,867 (16,658)
Excess of Loss Cessions (29,762) (16,383) 38,117
------------ ----------- -------------
156,318 130% 108,123 117% (10,281) 75%
------------ ----------- -------------
Finite Business
North American (10,039) 2,544 2,944
International - - -
------------ ----------- -------------
(10,039) (8) 2,544 3 2,944 (22)
------------ ----------- -------------
Other Lines
North American 2,443 4,378 (385)
International 635 (58) (934)
------------ ----------- -------------
3,078 3 4,320 4 (1,319) 10
------------ ----------- -------------
Exited Lines
North American (21,802) (20,282) 2,023
International (7,436) (2,075) (6,996)
------------ ----------- -------------
(29,238) (25) (22,357) (24) (4,973) 37
------------ --- ----------- --- ------------- ---
Total $ 120,119 100% $ 92,630 100% $ (13,629) 100%
============ === ============ === ============ ===
In 2003, there were no net premiums written and an underwriting loss of
$0.1 million pursuant to various finite reinsurance contracts with one insurance
company, Tower Insurance Company of New York ("Tower"). Included in the finite
segment in 2002 and 2001 were net premiums written of $83.8 million and $35.8
million and underwriting income of $3.0 million and $1.7 million, respectively,
pursuant to various finite reinsurance contracts with Tower.
The following table reconciles the underwriting income (loss) for the
operating segments to income before taxes as reported in the Consolidated
Statements of Income and Comprehensive Income:
F-33
($000's) 2003 2002 2001
------------- ------------ --------------
Net underwriting income (loss) $ 120,119 $ 92,630 $ (13,629)
Net investment income 26,931 24,893 30,036
Net realized investment gains 2,447 8,981 4,023
Interest expense (2,506) (2,939) (4,424)
Minority interest in consolidated subsidiaries (10,528) (8,646) (8,877)
Other operating expenses (38,954) (32,454) (29,606)
Other (loss) income (20) (91) (513)
--------------- ------------- --------------
Income (loss) before income taxes and
cumulative effect of accounting change $ 97,489 $ 82,374 $ (22,990)
=============== ============= ==============
13. Commitments and Contingencies
In April 2000, PXRE Reinsurance entered into an aggregate excess of
loss retrocessional reinsurance agreement with a U.S. based cedent. In the
agreement, PXRE Reinsurance reinsured a portfolio of treaties underwritten by a
former business unit of the cedent, which had been divested. Pursuant to this
excess of loss retrocessional agreement, PXRE Reinsurance agreed to indemnify
the cedent for losses in excess of a 75% paid loss ratio on this underlying
portfolio of treaties up to a 100% paid loss ratio, subject to an aggregate
limit of liability of $50.0 million. The latest loss reports related to the
agreement provided by the cedent forecast an ultimate net loss ratio in excess
of 100%, which could result in a full limit loss to PXRE.
In June, 2003, PXRE Reinsurance performed an audit of this portfolio of
treaties reinsured under the agreement. As a result of this audit, management
identified problems and believes that the cedent breached its contractual
obligations and fiduciary duties under the agreement. PXRE Reinsurance therefore
filed suit against the cedent on July 24, 2003 in a United States District Court
seeking rescission of the agreement and/or compensatory and punitive damages.
Although the ultimate outcome of the litigation cannot presently be
determined, management believes that PXRE Reinsurance's claims are meritorious
and intends to vigorously prosecute its suit. As of December 31, 2003, PXRE has
recorded $34.4 million of loss reserves related to the agreement. If the lawsuit
is unsuccessful, PXRE could potentially incur additional losses under the
agreement of up to $10.2 million on an after-tax basis.
On October 6, 2003, the United States Court of Appeals for the Third
Circuit affirmed a $9.8 million judgment awarded in June 2002 after a jury trial
of its dispute against Terra Nova Insurance Company Limited ("Terra Nova"). The
dispute concerned PXRE's claims under two insurance policies that had been
issued by an agent of Terra Nova. Terra Nova paid the full amount of the
judgment on October 16, 2003. PXRE had previously recorded this amount as a
receivable and as a result there was no income statement impact.
In June 2001, the Company entered into a joint venture agreement to
form a Bermuda corporation, Barr's Bay Properties Limited, which will construct
an office building in Hamilton, Bermuda, in which the Company will have the
option to lease office space for three consecutive five-year terms. The Company
owns 40% of the outstanding shares of the joint venture. Under the joint venture
agreement, the Company agreed to lend up to $7.0 million to finance the
construction of the office space, secured by a first mortgage on the property.
The remaining commitment at December 31, 2003 amounts to $0.2 million.
F-34
14. Quarterly Consolidated Results of Operations (Unaudited)
The following are unaudited quarterly results of operations on a
consolidated basis for the years ended December 31, 2003 and 2002. Quarterly
results necessarily rely heavily on estimates. This and certain other factors,
such as catastrophic losses, call for caution in drawing specific conclusions
from quarterly results. Due to changes in the number of average shares
outstanding, quarterly earnings per share may not add to the total for the year.
Three Months Ended
------------------------------------------------------------------------
($000's, except per share data) March 31 June 30 September 30 December 31
-------------- -------------- -------------- ----------------
2003
- ----
Net premiums written $ 93,344 $ 58,045 $ 70,042 $ 56,980
============= ============== ============== =============
Revenues:
Net premiums earned $ 84,772 $ 84,015 $ 69,082 $ 83,063
Net investment income 5,475 8,557 5,994 6,906
Net realized investment
(losses) gains (1) 110 502 1,836
Fee income 1,276 1,108 1,148 1,481
------------- -------------- -------------- -------------
Total revenues 91,522 93,790 76,726 93,286
------------- -------------- -------------- -------------
Losses and expenses:
Losses and loss expenses
incurred 32,854 44,799 35,387 45,447
Commissions and brokerage 20,027 14,618 3,218 9,497
Other operating expenses 9,162 9,851 10,573 9,369
Interest expense 2,259 245 - -
Minority interest in consolidated
subsidiaries 2,106 2,428 2,817 3,179
------------- -------------- -------------- -------------
Total losses and expenses 66,408 71,941 51,995 67,492
------------- -------------- -------------- -------------
Income before income taxes 25,114 21,849 24,731 25,794
Income tax provision (benefit) 1,507 371 1,007 (2,046)
------------- -------------- -------------- -------------
Net income before convertible preferred
share dividends $ 23,607 $ 21,478 $ 23,724 $ 27,840
============= ============== ============== =============
Convertible preferred share dividends 3,182 3,245 3,310 3,376
------------- -------------- -------------- -------------
Net income available to common
shareholders $ 20,425 $ 18,233 $ 20,414 $ 24,464
============= ============== ============== =============
Basic earnings per common share:
Net income available to common
shareholders $ 1.71 $ 1.53 $ 1.71 $ 2.02
============= ============== ============== =============
Average shares outstanding 11,894 11,921 11,925 12,123
============= ============== ============== =============
Diluted earnings per common share:
Net income $ 1.04 $ 0.93 $ 1.01 $ 1.14
============= ============== ============== =============
Average shares outstanding 22,664 23,183 23,583 24,462
============= ============== ============== =============
Dividends paid per common share $ 0.06 $ 0.06 $ 0.06 $ 0.06
F-35
Three Months Ended
------------------------------------------------------------------------
($000's, except per share data) March 31 June 30 September 30 December 31
-------------- -------------- -------------- ----------------
2002
- ----
Net premiums written $ 103,661 $ 20,723 $ 66,809 $ 103,290
Revenues:
Net premiums earned $ 59,156 $ 45,763 $ 75,741 $ 88,700
Net investment income 4,087 8,445 5,011 7,350
Net realized investment gains
(losses) 489 514 4,782 3,196
Fee income 1,253 586 928 665
------------- -------------- -------------- -------------
Total revenues 64,985 55,308 86,462 99,911
------------- -------------- -------------- -------------
Losses and expenses:
Losses and loss expenses incurred 17,223 18,863 48,264 42,512
Commissions and brokerage 12,443 5,276 13,489 22,183
Other operating expenses 8,870 6,223 6,696 10,664
Interest expense 745 754 698 742
Minority interest in consolidated
subsidiaries 2,224 2,199 2,127 2,095
------------- -------------- -------------- -------------
Total losses and expenses 41,505 33,315 71,274 78,196
------------- -------------- -------------- -------------
Income before income taxes 23,480 21,993 15,188 21,715
Income tax provision 5,247 2,949 4,179 5,454
------------- -------------- -------------- -------------
Net income before convertible
preferred share dividends $ 18,233 $ 19,044 $ 11,009 $ 16,261
============= ============== ============== =============
Convertible preferred share dividends - 2,900 3,058 3,119
------------- -------------- -------------- -------------
Net income available to common
shareholders $ 18,233 $ 16,144 $ 7,951 $ 13,142
============= ============== ============== =============
Basic earnings per common share:
Net income available to common
shareholders $ 1.56 $ 1.37 $ 0.67 $ 1.11
============= ============== ============== =============
Average shares outstanding 11,710 11,768 11,817 11,863
============= ============== ============== =============
Diluted earnings per common share:
Net income $ 1.51 $ 0.88 $ 0.50 $ 0.73
============= ============== ============== =============
Average shares outstanding 12,037 21,655 22,137 22,420
============= ============== ============== =============
Dividends paid per common share $ 0.06 $ 0.06 $ 0.06 $ 0.06
F-36
PARENT COMPANY INFORMATION Schedule II
PXRE Group Ltd.'s summarized financial information (parent company only) is as
follows:
($000's) December 31, December 31,
BALANCE SHEETS 2003 2002
------------- -------------
Assets:
Cash $ 155 $ 340
Short-term investments 1,099 3,273
Fixed maturities - 460
Receivable from subsidiaries - 3,040
Note receivable from subsidiary 4 94,756
Equity in subsidiaries 624,635 351,992
Other assets 3,374 779
----------- -----------
Total assets $ 629,267 $ 454,640
=========== ===========
Liabilities:
Liabilities to subsidiary $ 292 $ -
Other liabilities 1,959 1,176
Minority interest in consolidated subsidiaries 62,500 -
----------- -----------
Total liabilities 64,751 1,176
----------- -----------
Shareholders' equity 564,516 453,464
----------- -----------
Total liabilities and shareholders' equity $ 629,267 $ 454,640
=========== ===========
Years Ended December 31,
($000's) ----------------------------------------------------
INCOME STATEMENTS 2003 2002 2001
----------- ----------- ----------
Net investment income $ 3,662 $ 6,614 $ 3,861
Fee income 22 94 144
Minority interest in consolidated subsidiaries (1,795) - -
Other operating expenses (5,725) (4,201) (2,482)
----------- ----------- ----------
Income (loss) before equity in earnings of subsidiary (3,836) 2,507 1,523
Equity in earnings (losses) of subsidiary 100,484 62,039 (19,490)
----------- ----------- ----------
Net income (loss) $ 96,648 $ 64,546 $ (17,967)
=========== =========== ==========
CASH FLOW STATEMENTS
Cash flows from operating activities:
Net income (loss) $ 96,648 $ 64,546 $ (17,967)
Adjustments to reconcile net income (loss) to cash provided by
operating activities:
Equity in (earnings) losses of subsidiaries (100,484) (62,039) 19,490
Inter-company accounts 3,332 (3,631) 1,243
Other 874 3,216 (1,062)
----------- ----------- ----------
Net cash provided by operating activities 370 2,092 1,704
----------- ----------- ----------
Cash flows from investing activities:
Net change in short-term investments 2,174 (3,273) -
Fixed maturities disposed or matured 505 - -
Fixed maturities purchased - - (515)
Cash dividends from subsidiaries - - 12,568
Contribution of capital to subsidiaries (177,249) (140,000) (14,809)
Loan from subsidiary - - (1,000)
Notes to subsidiaries 94,752 1,596 3,648
----------- ----------- ----------
Net cash provided (used) by investing activities (79,818) (141,677) (108)
----------- ----------- ----------
Cash flows from financing activities:
Proceeds from issuance of common shares 21,538 2,129 1,104
Proceeds from issuance of convertible preferred shares - 140,888 -
Proceeds from issuance of minority interest in consolidated
subsidiaries 62,500 - -
Cash dividends paid to common shareholders (2,927) (2,879) (2,862)
Cost of shares repurchased (1,848) (529) (1,172)
----------- ----------- ----------
Net cash provided (used) by financing activities 79,263 139,609 (2,930)
----------- ----------- ----------
Net change in cash (185) 24 (1,334)
Cash, beginning of year 340 316 1,650
----------- ----------- ----------
Cash, end of year $ 155 $ 340 $ 316
=========== =========== ==========
Supplemental disclosure of non cash flow information:
Reduction of note receivable from subsidiary and contribution to
capital of subsidiary $ 43,393 $ - $ -
=========== =========== ==========
Reduction of investment in subsidiary and increase in note
receivable from subsidiary $ - $ - $ 100,000
=========== =========== ==========
Convertible preferred share dividends $ 13,133 $ 9,077 $ -
=========== =========== ==========
F-37
Schedule III
PXRE GROUP LTD. AND SUBSIDIARIES
SUPPLEMENTARY INSURANCE INFORMATION
($000's)
Column A Column B Column C Column D Column E Column F Column G
-------- -------- -------- -------- -------- -------- --------
Future
policy
benefits, Other
losses, policy
Segment- Deferred claims and Assumed claims and
property policy loss unearned benefits Net
and acquisition expenses premiums payable Premium investment
casualty cost (caption (caption (caption revenue income
insurance (caption 7) 13-a-1) 13-a-2) 13-a-3) (caption 1) (caption 2)
--------- ----------- ------- ------- ------- ----------- -----------
2003 North American $ 126,794
International 221,464
Corporate Wide (27,325)
----------------------------------------------------------------------------------------------
Total $ 2,495 $ 450,635 $ 21,566 $ - $ 320,933 $ 26,931
2002 North American $ 134,440
International 157,972
Corporate Wide (23,052)
----------------------------------------------------------------------------------------------
Total $ 22,721 $ 447,829 $ 63,756 $ - $ 269,360 $ 24,893
2001 North American $ 95,824
International 125,140
Corporate Wide (58,839)
----------------------------------------------------------------------------------------------
Total $ 7,312 $ 453,705 $ 46,335 $ - $ 162,125 $ 30,036
($000's)
Column A Column H Column I Column J Column K
-------- -------- -------- -------- --------
Benefits, Amortization
Segment- claims, of
property losses and deferred
and settlement policy Other
casualty expenses acquisition operating Premiums
insurance (caption 4) costs expense written
--------- ----------- ----- ------- -------
2003 North American $ 99,037 $ 21,376 $ 80,982
International 63,348 23,122 224,749
Corporate Wide (3,897) 2,862 (27,320)
--------------------------------------------------------------------
Total $ 158,488 $ 47,360 $ 38,954 $ 278,411
2002 North American $ 68,663 $ 36,618 $ 170,736
International 61,094 20,563 152,399
Corporate Wide (2,895) (3,790) (28,652)
--------------------------------------------------------------------
Total $ 126,862 $ 53,391 $ 32,454 $ 294,483
2001 North American $ 104,903 $ 19,390 $ 99,397
International 134,539 19,826 115,566
Corporate Wide (87,739) (8,866) (60,485)
--------------------------------------------------------------------
Total $ 151,703 $ 30,350 $ 29,606 $ 154,478
F-38
Schedule V
PXRE GROUP LTD. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
($000's)
Column A Column B Column C Column D Column E
Additions
---------------------------------------------
Balance at (1) (2) Balance at
beginning of Charged to costs Charged to other Deductions end of
Description year and expenses accounts - describe - describe year
- ------------------------------------------------------------------------------------------------------------------------------
Allowance for
doubtful accounts
2003 $ 1,600 $ 900 $ - $ - $ 2,500
2002 $ 1,200 $ 400 $ - $ - $ 1,600
2001 $ 700 $ 500 $ - $ - $ 1,200
F-39
SCHEDULE VI
PXRE GROUP LTD. AND SUBSIDIARIES
SUPPLEMENTARY INFORMATION CONCERNING
PROPERTY-CASUALTY INSURANCE OPERATIONS
($000's)
Column A Column B Column C Column D Column E Column F Column G
-------- -------- -------- -------- -------- -------- --------
Reserves for
unpaid
Deferred claims Discount,
Affiliation policy and claim if any Assumed Net
with acquisition adjustment deducted in unearned Earned investment
registrant costs expenses Column C premiums premiums Income
---------- ----- -------- -------- -------- -------- ------
2003 Consolidated $ 2,495 $ 450,635 $ - $ 21,566 $ 320,933 $ 26,931
2002 Consolidated 22,721 447,829 - 63,756 269,360 24,893
2001 Consolidated 7,312 453,705 (325) 46,335 162,125 30,036
($000's)
Column A Column H Column I Column J Column K
-------- -------- -------- -------- --------
Claims and claim Amortization
adjustment expenses of Paid
incurred related to deferred claims
Affiliation (1) (2) policy and claim
with Current Prior acquisition adjustment Premiums
registrant year years costs expenses written
---------- ---- ----- ----- -------- -------
2003 Consolidated $ 112,692 $ 45,796 $ 47,360 $ 93,015 $ 278,411
2002 Consolidated 101,456 25,406 53,391 99,877 294,483
2001 Consolidated 133,852 17,851 30,350 99,466 154,478
F-40
INDEPENDENT AUDITORS' REPORT ON
THE FINANCIAL STATEMENT SCHEDULES
The Board of Directors and Shareholders
PXRE Group Ltd.:
Under date of February 10, 2004, we reported on the consolidated balance sheets
of PXRE Group Ltd., and subsidiaries as of December 31, 2003 and 2002, and the
related consolidated statements of income and comprehensive income,
shareholders' equity and cash flows for each of the years in the three-year
period ended December 31, 2003, which are included in the Form 10-K. In
connection with our audits of the aforementioned consolidated financial
statements, we also audited the related consolidated financial statement
schedules listed in Item 15(a)(2) of this Form 10-K. These financial statement
schedules are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statement schedules based on our
audits.
In our opinion, such financial statement schedules, when considered in relation
to the basic consolidated financial statements taken as a whole, present fairly,
in all material respects, the information set forth therein.
As discussed in Note 1 to the consolidated financial statements, PXRE Group Ltd.
adopted the provisions of FAS 133 "Accounting For Derivative Instruments and
Hedging Activities," during 2001.
KPMG LLP
New York, New York
February 10, 2004
INDEPENDENT AUDITORS' CONSENT
The Board of Directors
PXRE Group Ltd.:
We consent to the incorporation by reference in the registration statement (No.
333-85451) on Form S-4 of PXRE Group Ltd. of our reports dated February 10,
2004, with respect to the consolidated balance sheets of PXRE Group Ltd., and
subsidiaries as of December 31, 2003 and 2002, and the related consolidated
statements of income and comprehensive income, shareholders' equity and cash
flows for each of the years in the three-year period ended December 31, 2003,
and all related financial statement schedules, which reports appear in the
December 31, 2003 annual report on Form 10-K of PXRE Group Ltd.
As discussed in Note 1 to the consolidated financial statements, PXRE Group Ltd.
adopted the provisions of FAS 133 "Accounting For Derivative Instruments and
Hedging Activities," during 2001.
KPMG LLP
New York, New York
March 11, 2004
F-41
EXHIBIT INDEX
Certain of the following exhibits, as indicated parenthetically, were
previously filed as exhibits to registration statements filed by PXRE Group Ltd.
or its predecessor companies under the Securities Act of 1933, as amended, or to
reports filed by PXRE Group Ltd. or its predecessor companies under the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and are hereby
incorporated by reference to such statements or reports. PXRE Group Ltd.'s
Exchange Act file number is 1-15259. Prior to the reorganization that resulted
in the formation of PXRE Group Ltd., PXRE Corporation's Exchange Act file
numbers were 1-12595 and 0-15428.
3.1 Memorandum of Association of PXRE Group Ltd. (Exhibit 3.1 to PXRE Group
Ltd.'s Form S-4 Registration Statement dated August 18, 1999 (File No.
333-85451)).
3.2 Bye-laws of PXRE Group Ltd. (Exhibit 3.2 to PXRE Group Ltd.'s Form S-4
Registration Statement dated August 18, 1999 (File No. 333-85451)).
3.3 Description of Stock of PXRE Group Ltd. (Appendix II to PXRE Group
Ltd.'s Proxy Statement for the February 12, 2002 Special Meeting of
Shareholders).
4.1 Form of Specimen Common Share certificate, par value $1.00 per share,
of PXRE Group Ltd. (Exhibit 4.1 to PXRE Group Ltd.'s Form S-4
Registration Statement dated August 18, 1999 (File No. 333-85451)).
4.2 Indenture, dated as of January 29, 1997, between PXRE Corporation and
First Union National Bank, as Trustee, in respect of PXRE Corporation's
8.85% Junior Subordinated Deferrable Interest Debentures due 2027
(Exhibit 4.3 to PXRE Corporation's Annual Report on Form 10-K for the
fiscal year ended December 31, 1996).
4.3 First Supplemental Indenture, dated as of January 29, 1997, between
PXRE Corporation and First Union National Bank, as Trustee, in respect
of PXRE Corporation's 8.85% Junior Subordinated Deferrable Interest
Debentures due 2027 (Exhibit 4.4 to the Annual Report on Form 10-K of
PXRE Corporation for the fiscal year ended December 31, 1996).
4.4 Amended and Restated Declaration of Trust of PXRE Capital Trust I,
dated as of January 29, 1997, among PXRE Corporation, as Sponsor, the
Administrators thereof, First Union Bank of Delaware, as Delaware
Trustee, First Union National Bank, as Institutional Trustee, and the
holders from time to time of undivided interests in the assets of PXRE
Capital Trust I (Exhibit 4.5 to the Annual Report on Form 10-K of PXRE
Corporation for the fiscal year ended December 31, 1996).
4.5 Capital Securities Guarantee Agreement, dated as of January 29, 1997,
between PXRE Corporation and First Union National Bank, as Guarantee
Trustee (Exhibit 4.6 to the Annual Report on Form 10-K of PXRE
Corporation for the fiscal year ended December 31, 1996).
4.6 Common Securities Guarantee Agreement, dated as of January 29, 1997,
executed by PXRE Corporation (Exhibit 4.7 to the Annual Report on Form
10-K of PXRE Corporation for the fiscal year ended December 31, 1996).
4.7 Registration Rights Agreement dated as of January 29, 1997, among PXRE
Corporation, PXRE Capital Trust I and Salomon Brothers Inc, as
Representative of the Initial Purchasers (Exhibit 10.1 to the Annual
Report on Form 10-K of PXRE Corporation for the fiscal year ended
December 31, 1996).
4.8 Share Purchase Agreement, dated as of December 10, 2001, between PXRE
Group Ltd. and certain Purchasers named therein (Appendix I to PXRE
Group Ltd.'s Proxy Statement for the February 12, 2002 Special Meeting
of Shareholders).
4.9 Investment Agreement, dated as of April 4, 2002 between PXRE Group Ltd.
and certain Investors named therein (Appendix III to PXRE Group Ltd.'s
Proxy Statement for the February 12, 2002 Special Meeting of
Shareholders).
4.10 Amended and Restated Declaration of Trust of PXRE Capital Statutory
Trust II, dated as of May 15, 2003, among PXRE Group Ltd., as Sponsor,
the Administrators thereof, U.S. Bank National Association, as
Institutional Trustee, and the holders from time to time of undivided
beneficial interests in the assets of PXRE Capital Statutory Trust II
(Exhibit 10.1 to PXRE Group Ltd.'s Quarterly Report on Form 10-Q for
the quarter ended June 30, 2003).
4.11 Indenture for Fixed/Floating Rate Junior Subordinated Deferrable
Interest Debentures due 2033, dated as of May 15, 2003, among PXRE
Group Ltd. as Issuer, and U.S. Bank National Association, as Trustee
(Exhibit 10.2 to PXRE Group Ltd.'s Quarterly Report on Form 10-Q for
the quarter ended June 30, 2003).
4.12 Guarantee Agreement, dated as of May 15, 2003, executed and delivered
by PXRE Group Ltd., as Guarantor, and Wilmington Trust Company, as
Trustee, for the benefit of the holders from time to time of the
Capital Securities of PXRE Capital Statutory Trust II (Exhibit 10.3 to
PXRE Group Ltd.'s Quarterly Report on Form 10-Q for the quarter ended
June 30, 2003).
4.13 Capital Securities Subscription Agreement, dated as of May 15, 2003,
among PXRE Capital Statutory Trust II and PXRE Group Ltd. as Offerors,
and I-Preferred Term Securities II, Ltd., as Purchaser (Exhibit 10.4 to
PXRE Group Ltd.'s Quarterly Report on Form 10-Q for the quarter ended
June 30, 2003).
4.14 Placement Agreement, dated as of April 25, 2003 among PXRE Group Ltd.
and PXRE Capital Statutory Trust II, as Offerors, and FTN Financial
Capital Markets and Keefe, Bruyette & Woods, Inc., as Placement Agents
(Exhibit 10.5 to PXRE Group Ltd.'s Quarterly Report on Form 10-Q for
the quarter ended June 30, 2003).
4.15 Amended and Restated Declaration of Trust of PXRE Capital Trust III,
dated as of May 22, 2003, among PXRE Group Ltd., as Sponsor, the
Administrators thereof, Wilmington Trust Company, as Delaware and
Institutional Trustee, and the holders from time to time of undivided
beneficial interests in the assets of PXRE Capital Trust III (Exhibit
10.6 to PXRE Group Ltd.'s Quarterly Report on Form 10-Q for the quarter
ended June 30, 2003).
4.16 Indenture for Fixed Rate Junior Subordinated Debt Securities due 2033,
dated as of May 22, 2003, among PXRE Group Ltd. as Issuer, and
Wilmington Trust Company, as Trustee (Exhibit 10.7 to PXRE Group Ltd.'s
Quarterly Report on Form 10-Q for the quarter ended June 30, 2003).
4.17 Guarantee Agreement, dated as of May 22, 2003, executed and delivered
by PXRE Group Ltd., as Guarantor, and Wilmington Trust Company, as
Trustee, for the benefit of the holders from time to time of the
Capital Securities of PXRE Capital Trust III (Exhibit 10.8 to PXRE
Group Ltd.'s Quarterly Report on Form 10-Q for the quarter ended June
30, 2003).
4.19 Common Securities Subscription Agreement, dated as of May 22, 2003
among PXRE Capital Trust III and PXRE Group Ltd., as Buyer of the
Common Securities of PXRE Capital Trust III (Exhibit 10.9 to PXRE Group
Ltd.'s Quarterly Report on Form 10-Q for the quarter ended June 30,
2003).
4.20 Capital Securities Subscription Agreement, dated as of May 13, 2003,
among PXRE Capital Trust III and PXRE Group Ltd. as Offerors, and
InCapS Funding I, Ltd., as Purchaser (Exhibit 10.10 to PXRE Group
Ltd.'s Quarterly Report on Form 10-Q for the quarter ended June 30,
2003).
4.21 Debenture Subscription Agreement, dated as of May 22, 2003 among PXRE
Group Ltd. and PXRE Capital Trust III (Exhibit 10.11 to PXRE Group
Ltd.'s Quarterly Report on Form 10-Q for the quarter ended June 30,
2003).
4.22 Placement Agreement, dated as of May 13, 2003 among PXRE Capital Trust
III and PXRE Group Ltd., as Offerors, and Sandler O'Neill & Partners,
L.P., as Placement Agents (Exhibit 10.12 to PXRE Group Ltd.'s Quarterly
Report on Form 10-Q for the quarter ended June 30, 2003).
4.23 Amended and Restated Declaration of Trust of PXRE Capital Statutory
Trust V, dated as of October 29, 2003, among PXRE Group Ltd., as
Sponsor, the Administrators thereof, U.S. Bank National Association, as
Institutional Trustee, and the holders from time to time of undivided
beneficial interests in the assets of PXRE Capital Trust V*.
4.24 Indenture for Fixed/Floating Rate Junior Subordinated Deferrable
Interest Debentures, Series D, due 2033, dated as of October 29, 2003,
among PXRE Group Ltd. as Issuer, and U.S. Bank National Association, as
Trustee*.
4.25 Guarantee Agreement, dated as of October 29, 2003, executed and
delivered by PXRE Group Ltd., as Guarantor, and U.S. Bank National
Association, as Guarantee Trustee, for the benefit of the holders from
time to time of the Capital Securities of PXRE Capital Statutory Trust
V*.
- --------
* Filed Herewith
4.26 Subscription Agreement, dated as of October 29, 2003, among PXRE
Capital Statutory Trust V and PXRE Group Ltd. as Offerors, and
I-Preferred Term Securities III, Ltd., as Purchaser*.
4.27 Placement Agreement, dated as of October 16, 2003, among PXRE Group
Ltd. and PXRE Capital Statutory Trust V, as Offerors, and FTN Financial
Capital Markets and Keefe, Bruyette & Woods, Inc., as Placement
Agents*.
4.28 Amended and Restated Trust Agreement of PXRE Capital Trust VI, dated as
of November 6, 2003, among PXRE Group Ltd., as Depositor, the
Administrators thereof, JP Morgan Chase Bank, as Property Trustee,
Chase Manhattan Bank USA, National Association, as Delaware Trustee,
and the several Holders as defined therein*.
4.29 Junior Subordinated Indenture, dated as of November 6, 2003, among PXRE
Group Ltd. and JP Morgan Chase Bank, as Trustee*.
4.30 Guarantee Agreement for PXRE Capital Trust VI, dated as of November 6,
2003, among PXRE Group Ltd., as Guarantor, and JPMorgan Chase Bank, as
Guarantee Trustee*.
4.31 Common Securities Subscription Agreement, dated as of November 6, 2003,
among PXRE Capital Trust VI, and PXRE Group Ltd*.
4.32 Purchase Agreement, dated as of November 6, 2003, among PXRE Group Ltd.
and PXRE Capital Trust VI (collectively, the Sellers), and Dekania CDO
I, Ltd. as Purchaser*.
10.1 Amended and Restated Facultative Obligatory Quota Share Retrocessional
Agreement between PXRE Reinsurance Company and Select Reinsurance Ltd.
and Variable Quota Share Retrocessional Agreement between PXRE
Reinsurance Company and Select Reinsurance Ltd. (Exhibit 10.36 to the
Annual Report on Form 10-K of PXRE Corporation for the fiscal year
ended December 31, 1998); and endorsement regarding Select Reinsurance
Ltd. participation for 2000 (Exhibit 10.3 to the Annual Report on Form
10-K of PXRE Group Ltd. for the fiscal year ended December 31, 1999);
and endorsement, dated January 1, 2001, regarding Select Reinsurance
Ltd. participation for 2001 (Exhibit 10.3 to the Annual Report on Form
10-K of PXRE Group Ltd. for the fiscal year ended December 31, 2000);
and endorsement dated March 21, 2002, regarding Select Reinsurance
Ltd.'s participation for 2002 (Exhibit 10.3 to the Annual Report on
Form 10-K of PXRE Group Ltd. for the fiscal year ended December 31,
2001), Amendment to the Amended and Restated Facultative Obligatory
Quota Share Retrocessional Agreement between Select Reinsurance Ltd.
and PXRE Reinsurance Company dated November 20, 2002 (Exhibit 10.3 to
the Annual Report on Form 10-K of PXRE Group Ltd. for the fiscal year
ended December 31, 2002) and letter to Select Reinsurance Ltd. from
PXRE Reinsurance Company dated November 20, 2002 (Exhibit 10.3 to the
Annual Report on Form 10-K of PXRE Group Ltd. for the fiscal year ended
December 31, 2002).
- --------
* Filed Herewith
10.2 Facultative Obligatory Quota Share Retrocessional Agreement, effective
October 1, 1999 between PXRE Reinsurance Company and PXRE Reinsurance
Ltd. (Exhibit 10.25 to the Annual Report on Form 10-K of PXRE Group
Ltd. for the fiscal year ended December 31, 1999).
10.3 Aggregate Excess of Loss Agreement effective October 1, 1999 between
PXRE Reinsurance Ltd. and PXRE Reinsurance Company (Exhibit 10.25 to
the Annual Report on Form 10-K of PXRE Group Ltd. for the fiscal year
ended December 31, 1999).
10.4 First Amendment to Facultative Obligatory Quota Share Retrocessional
Agreement, dated as of December 1, 2000, between PXRE Reinsurance Ltd.
and PXRE Reinsurance Company (Exhibit 10.22 to the Annual Report on
Form 10-K of PXRE Group Ltd. for the fiscal year ended December 31,
2000).
10.5 Endorsement to Facultative Obligatory Quota Share Retrocessional
Agreement, effective as of January 1, 2003, between PXRE Reinsurance
Ltd. and PXRE Reinsurance Company (Exhibit 10.6 to the Annual Report on
Form 10-K of PXRE Group Ltd. for the fiscal year ended December 31,
2002).
10.6 Annex to Aggregate Excess of Loss Agreement, effective as of January 1,
2003 between PXRE Reinsurance Company and PXRE Reinsurance Ltd.
(Exhibit 10.6 to the Annual Report on Form 10-K of PXRE Group Ltd. for
the fiscal year ended December 31, 2002).
10.7 Deed Poll Guarantee of PXRE Group Ltd. in respect of PXRE Reinsurance
Ltd., dated as of September 1, 2002 (Exhibit 10.3a to PXRE Group Ltd.'s
Quarterly Report on Form 10-Q for the quarter ended September 30,
2002.)
10.8 Reinsurance Agreement, effective January 1, 2001, between PXRE
Reinsurance Ltd. and Select Reinsurance Ltd. (Exhibit 10.33 to the
Annual Report on Form 10-K of PXRE Group Ltd. for the fiscal year ended
December 31, 2001).
10.9 Trust Agreement "The Patriot 2002 Trust" among Select Reinsurance Ltd.,
Capital G Trust Limited and PXRE Reinsurance Ltd. dated May 15, 2002
(Exhibit 10.9 to the Annual Report on Form 10-K of PXRE Group Ltd. for
the fiscal year ended December 31, 2002).
10.10 Swap Confirmation, effective as of June 29, 2001, between PXRE
Reinsurance Ltd. and Select Reinsurance Ltd. (Exhibit 10.34 to the
Annual Report on Form 10-K of PXRE Group Ltd. for the fiscal year ended
December 31, 2001).
10.11 Accident Year Aggregate Excess of Loss Reinsurance Agreement, effective
as of July 1, 2001, between PXRE Reinsurance Company and Select
Reinsurance Ltd. (Exhibit 10.32 to the Annual Report on Form 10-K of
PXRE Group Ltd. for the fiscal year ended December 31, 2001).
10.12 Endorsement to the Amended and Restated Facultative Obligatory
Retrocessional Agreement, effective January 1, 2003, between PXRE
Reinsurance Company, PXRE Reinsurance Ltd., and Select Reinsurance Ltd.
(Exhibit 10.1 to PXRE Group Ltd.'s Quarterly Report on Form 10-Q for
the quarter ended September 30, 2003).
10.13 Amendment to the Amended and Restated Facultative Obligatory
Retrocessional Agreement, effective January 1, 2003, between Select
Reinsurance Ltd., PXRE Reinsurance Company, and PXRE Reinsurance Ltd.
(Exhibit 10.2 to PXRE Group Ltd.'s Quarterly Report on Form 10-Q for
the quarter ended September 30, 2003).
10.14 Retrocession Contract, dated January 1, 2003, between PXRE Reinsurance
Ltd. and Select Reinsurance Ltd. (Exhibit 10.3 to PXRE Group Ltd.'s
Quarterly Report on Form 10-Q for the quarter ended September 30,
2003).
10.15 Amendment to the Retrocession Contract, effective October 1, 2003,
between PXRE Reinsurance Ltd., PXRE Reinsurance Company and Select
Reinsurance Ltd. (Exhibit 10.4 to PXRE Group Ltd.'s Quarterly Report on
Form 10-Q for the quarter ended September 30, 2003).
10.16 Amended and Restated Agreement Concerning Filing of Consolidated
Federal Income Tax Returns, dated as of August 23, 1993, between PXRE
Corporation and PXRE Reinsurance Company (Exhibit 10.8 to the Annual
Report on Form 10-K of PXRE Corporation for the fiscal year ended
December 31, 1993); Addendum No. 2, dated November 10, 1994 to the PXRE
Corporation Amended and Restated Agreement Concerning Filing of
Consolidated Federal Income Tax Returns (Exhibit 10.22 to the Annual
Report on Form 10-K of PXRE Corporation for the fiscal year ended
December 31, 1994); Addendum No. 3, dated as of December 11, 1996 to
the PXRE Corporation Amended and Restated Agreement Concerning Filing
of Consolidated Federal Income Tax Returns (Exhibit 10.22 to the Annual
Report on Form 10-K of PXRE Corporation for the fiscal year ended
December 31, 1996); and Addendum No. 4 to the PXRE Group Amended and
Restated Agreement Concerning Filing of Consolidated Federal Income Tax
Return between PXRE Corporation and Transnational Insurance Company
(Exhibit 10.9 to the Annual Report on Form 10-K of PXRE Group Ltd. for
the fiscal year ended December 31, 2000).
10.17 Investment Advisory Services Agreement between PXRE Reinsurance Ltd.
and Mariner Investment Group, Inc., dated October 1, 1999 (Exhibit
10.10 to the Annual Report on Form 10-K of PXRE Group Ltd. for the
fiscal year ended December 31, 1999).
10.18 Investment Advisory Services Agreement, dated March 14, 2000, between
PXRE Corporation and Mariner Investment Group, Inc., (Exhibit 10.34 to
the Annual Report on Form 10-K of PXRE Group Ltd. for the fiscal year
ended December 31, 1999).
10.19 NEAM Investment Management Agreement, dated April 8, 2002, between
General Re-New England Asset Management, Inc. and PXRE Reinsurance
Company; Investment Management Agreement, dated April 8, 2002, between
General Re-New England Asset Management, Inc. and PXRE Group Ltd.;
Investment Management Agreement, dated April 8, 2002 between General
Re-New England Asset Management, Inc. and PXRE Reinsurance Ltd.
(Exhibit 10.1 to PXRE Group Ltd.'s Quarterly Report on Form 10-Q for
the quarter ended June 30, 2002).
10.20 PXRE Group Ltd. Employee Stock Purchase Plan as amended (Appendix B to
PXRE Group Ltd.'s Proxy Statement for the 2002 Annual General Meeting
of Shareholders (File No. 33-08406)). (M)
10.21 Executive Severance Plan (Exhibit 10.10 to PXRE Group Ltd.'s Form S-4
Registration Statement dated August 18, 1999 (File No. 333-85451)). (M)
10.22 1988 Stock Option Plan as amended (Exhibit A to the first Prospectus
forming part of PXRE Corporation's Form S-8 and S-3 Registration
Statement dated June 21, 1990 (File No. 33-35521)). (M)
10.23 Restated Employee Annual Incentive Bonus Plan, as amended (Appendix A
to PXRE Group Ltd.'s Proxy Statement for the 2000 Annual General
Meeting of Shareholders (File No. 33-08406). (M)
10.24 1992 Officer Incentive Plan as amended (Appendix B to PXRE Group Ltd.'s
Proxy Statement for the 2000 Annual General Meeting of Shareholders
(File No. 33-08406)). (M)
10.25 2002 Officer Incentive Plan as amended (Appendix A to PXRE Group Ltd.'s
Proxy Statement for the 2002 Annual Meeting of Shareholders (File No.
33-08406)). (M)
10.26 Director Stock Plan (Appendix D to PXRE Group Ltd.'s Proxy Statement
for the 2002 Annual General Meeting of Shareholders (File No.
33-08406)). (M)
10.27 Director Equity and Deferred Compensation Plan (Appendix E to PXRE
Group Ltd's Proxy Statement for the 2000 Annual General Meeting of
Shareholders (File No. 33-08406)). (M)
10.28 Non-Employee Director Deferred Stock Plan (Exhibit 10.17 to the Annual
Report on Form 10-K of PXRE Group Ltd. for the fiscal year ended
December 31, 2000). (M)
10.29 Lease, dated May 9, 1994, between Thornall Associates, L.P. and PXRE
Corporation (Exhibit 10.24 to the Annual Report on Form 10-K of PXRE
Corporation for the fiscal year ended December 31, 1994); Lease, dated
November 1, 1999, between Thornall Associates, L.P. and PXRE
Corporation (Exhibit 10.26 to the Annual Report on Form 10-K of PXRE
Group Ltd. for the fiscal year ended December 31, 1999); and Sublease,
dated July 1, 2000, between I-many, Inc. and PXRE Corporation (Exhibit
10.23 to the Annual Report on Form 10-K of PXRE Group Ltd. for the
fiscal year ended December 31, 2000).
- --------------
(M) Indicates a management contract or compensation plan or arrangement in which
the directors and/or executive or PXRE participate.
10.30 Lloyd's Deposit Trust Deed (Third Party Deposit) dated November 29,
1996 between PXRE Limited and PXRE Reinsurance Company (Exhibit 10.32
to the Annual Report on Form 10-K of PXRE Corporation for the fiscal
year ended December 31, 1997).
10.31 Lloyd's Security Trust Deed (Letter of Credit and Bank Guarantee) dated
November 29, 1997, between PXRE Limited and Lloyd's of London (Exhibit
10.34 to the Annual Report on Form 10-K of PXRE Corporation for the
fiscal year ended December 31, 1997).
10.32 Joint Venture Agreement dated June 20, 2001, between BF&M Properties
Limited and PXRE Group Ltd. (Exhibit 10.31 to the Annual Report on Form
10-K of PXRE Group Ltd. for the fiscal year ended December 31, 2001).
10.33 Retention Bonus Letter Agreements dated December 12, 2001, between PXRE
Reinsurance Company and each of Michael Bleisnick, Gordon Forsyth III,
Gerald L. Radke, Jeffrey L. Radke and James F. Dore (Exhibit 10.35 to
the Annual Report on Form 10-K of PXRE Group Ltd. for the fiscal year
ended December 31, 2001) and Bruce J. Byrnes. (M)
10.34 Consulting Services Agreement, dated as of May 28, 2003 by and among
PXRE Group Ltd., and Gerald L. Radke (Exhibit 10.1 to PXRE Group Ltd's
Current Report on Form 8K dated June 4, 2003). (M)
10.35 Employment Agreement, dated as of June 30, 2003, among PXRE Group Ltd.
and Jeffrey L. Radke. (Exhibit 10.13 to PXRE Group Ltd.'s Quarterly
Report on Form 10-Q for the quarter ended June 30, 2003). (M)
10.36 Promissory note dated April 4, 2002 between PXRE Reinsurance (Barbados)
Ltd. and PXRE Corporation for $128 million (Exhibit 10.45 to the Annual
Report on Form 10-K of PXRE Group Ltd. for the fiscal year ended
December 31, 2002).
11 Statement setting forth computation of earnings per share. The
information required by this Exhibit is presented in the financial
statements and the notes thereto included in this Form 10-K.
12 Statement setting forth computation of ratios. Attached hereto as
Exhibit 12.
21 List of Subsidiaries. Attached hereto as Exhibit 21.
23 Consents of Experts and Counsel. The consent of KPMG LLP, independent
accountants to PXRE, are included as part of Item 15(a)(2) of this Form
10-K.
24 Power of Attorney. Copies of the powers of attorney executed by each of
Gerald L. Radke, F. Sedgwick Browne, Bradley E. Cooper, Robert W.
Fiondella, Susan S. Fleming, Franklin D. Haftl, Craig A. Huff, Wendy
Luscombe, Philip R. McLoughlin, and Robert M. Stavis are attached
hereto as Exhibit 24.
- --------------
(M) Indicates a management contract or compensation plan or arrangement in which
the directors and/or executive or PXRE participate.
31.1 Certification by the Chief Executive Officer Relating to a Periodic
Report Containing Financial Statements pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification by the Chief Financial Officer Relating to a Periodic
Report Containing Financial Statements Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification of Periodic Report Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.