ACE LTD - 10-Q Quarterly Report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x	QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended March 31, 2004

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period from to

Commission File No. 1-11778

I.R.S. Employer Identification No. 98-0091805

ACE LIMITED

(Incorporated in the Cayman Islands)

ACE Global Headquarters

17 Woodbourne Avenue

Hamilton HM 08

Bermuda

Telephone 441-295-5200

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

YES þ NO ¨

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

YES þ NO ¨

The number of registrant’s Ordinary Shares ($0.041666667 par value) outstanding as of May 5, 2004 was 283,143,342.

ACE LIMITED

INDEX TO FORM 10-Q


		Page No.

Part I. FINANCIAL INFORMATION

Item 1.	Financial Statements:

	Consolidated Balance Sheets March 31, 2004 (Unaudited) and December 31, 2003	3

	Consolidated Statements of Operations (Unaudited) Three Months Ended March 31, 2004 and 2003	4

	Consolidated Statements of Shareholders’ Equity (Unaudited) Three Months Ended March 31, 2004 and 2003	5

	Consolidated Statements of Comprehensive Income (Unaudited) Three Months Ended March 31, 2004 and 2003	7

	Consolidated Statements of Cash Flows (Unaudited) Three Months Ended March 31, 2004 and 2003	8

	Notes to Interim Consolidated Financial Statements (Unaudited)	9

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	29

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	50

Item 4.	Controls and Procedures	51

Part II. OTHER INFORMATION

Item 1.	Legal Proceedings	52

Item 5.	Other Information	52

Item 6.	Exhibits and Reports on Form 8-K	52

ACE LIMITED

PART I FINANCIAL INFORMATION

Item 1.

Financial Statements

ACE LIMITED AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS


	March 31 2004			December 31 2003
	(Unaudited)
	(in thousands of U.S. dollars, except share and per share data)
Assets
Investments and cash
Fixed maturities, at fair value (amortized cost - $19,128,774 and $18,006,405)	$	19,919,523		$	18,645,267
Equity securities, at fair value (cost - $413,635 and $401,237)		538,861			543,811
Securities on loan, at fair value (amortized cost/cost - $1,112,667 and $650,160)		1,183,380			684,629
Short-term investments, at fair value		3,290,342			2,927,407
Other investments (cost - $595,557 and $602,176)		642,511			645,085
Cash		613,886			561,650

Total investments and cash		26,188,503			24,007,849
Accrued investment income		275,888			258,379
Insurance and reinsurance balances receivable		3,492,535			2,836,616
Accounts and notes receivable		170,083			191,519
Reinsurance recoverable		14,062,255			14,080,716
Deferred policy acquisition costs		1,108,456			1,004,753
Prepaid reinsurance premiums		1,578,228			1,372,568
Funds withheld		238,833			255,587
Value of reinsurance business assumed		328,039			346,365
Goodwill		2,699,525			2,710,830
Deferred tax assets		997,034			1,089,805
Other assets		1,339,170			1,397,806

Total assets	$	52,478,549		$	49,552,793

Liabilities
Unpaid losses and loss expenses	$	27,696,872		$	27,154,838
Unearned premiums		6,929,562			6,050,788
Future policy benefits for life and annuity contracts		495,780			491,837
Funds withheld		188,275			208,728
Insurance and reinsurance balances payable		2,145,287			1,902,622
Deposit liabilities		217,443			212,335
Securities lending collateral		1,207,953			698,587
Payable for securities purchased		569,861			369,105
Accounts payable, accrued expenses and other liabilities		1,194,625			1,206,046
Dividends payable		53,717			53,182
Short-term debt		545,713			545,727
Long-term debt		1,349,268			1,349,202
Trust preferred securities		487,373			475,000

Total liabilities		43,081,729			40,717,997

Commitments and contingencies
Shareholders’ equity
Preferred Shares ($1.00 par value, 2,300,000 shares authorized, issued and outstanding)		2,300			2,300
Ordinary Shares ($0.041666667 par value, 500,000,000 shares authorized; 282,714,909 and 279,897,193 shares issued and outstanding)		11,781			11,662
Additional paid-in capital		4,863,868			4,765,355
Unearned stock grant compensation		(97,888	)		(44,912	)
Retained earnings		3,762,514			3,380,619
Deferred compensation obligation		16,648			16,687
Accumulated other comprehensive income		854,245			719,772
Ordinary Shares issued to employee trust		(16,648	)		(16,687	)

Total shareholders’ equity		9,396,820			8,834,796

Total liabilities and shareholders’ equity	$	52,478,549		$	49,552,793

See accompanying notes to the interim consolidated financial statements.

ACE LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

For the three months ended March 31, 2004 and 2003

(Unaudited)


	Three Months Ended March 31
	2004			2003
	(in thousands of U.S. dollars, except per share data)
Revenues
Gross premiums written	$	4,415,475		$	4,112,764
Reinsurance premiums ceded		(1,177,309	)		(1,182,712	)

Net premiums written		3,238,166			2,930,052
Change in unearned premiums		(638,489	)		(858,520	)

Net premiums earned		2,599,677			2,071,532
Net investment income		237,920			206,412
Net realized gains (losses)		57,261			(40,089	)

Total revenues		2,894,858			2,237,855

Expenses
Losses and loss expenses		1,542,597			1,282,833
Life and annuity benefits		41,724			48,499
Policy acquisition costs		364,914			295,894
Administrative expenses		314,905			259,672
Interest expense		44,272			44,929
Other (income) expense		17,080			6,154

Total expenses		2,325,492			1,937,981

Income before income tax		569,366			299,874
Income tax expense		122,541			52,430

Net income	$	446,825		$	247,444

Basic earnings per share	$	1.56		$	0.92

Diluted earnings per share	$	1.53		$	0.90

See accompanying notes to the interim consolidated financial statements.

ACE LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

For the three months ended March 31, 2004 and 2003

(Unaudited)


	2004			2003
	(in thousands of U.S. dollars)
Preferred Shares
Balance – beginning of period	$	2,300		$	—
Shares issued		—			—

Balance – end of period		2,300			—

Ordinary Shares
Balance – beginning of period		11,662			10,945
Shares issued		64			68
Exercise of stock options		60			7
Issued under Employee Stock Purchase Plan (ESPP)		5			6
Cancellation of shares		(10	)		(6	)

Balance – end of period		11,781			11,020

Additional paid-in capital
Balance – beginning of period		4,765,355			3,781,112
Ordinary Shares issued		65,591			44,819
Exercise of stock options		34,346			3,134
Ordinary Shares issued under ESPP		3,678			3,381
Cancellation of Ordinary Shares		(10,531	)		(3,901	)
Tax benefit on employee stock options		5,429			11,109

Balance – end of period		4,863,868			3,839,654

Unearned stock grant compensation
Balance – beginning of period		(44,912	)		(42,576	)
Stock grants awarded		(66,421	)		(44,882	)
Stock grants forfeited		1,736			650
Amortization		11,709			5,520

Balance – end of period		(97,888	)		(81,288	)

Retained earnings
Balance – beginning of period		3,380,619			2,199,313
Net income		446,825			247,444
Dividends declared on Ordinary Shares		(53,717	)		(44,964	)
Dividends declared on Preferred Shares		(11,213	)		—
Dividends declared on Mezzanine equity		—			(6,415	)

Balance – end of period		3,762,514			2,395,378

Deferred compensation obligation
Balance – beginning of period		16,687			18,361
(Decrease) increase to obligation		(39	)		(248	)

Balance – end of period	$	16,648		$	18,113

See accompanying notes to the interim consolidated financial statements.

ACE LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (cont’d)

For the three months ended March 31, 2004 and 2003

(Unaudited)


	2004			2003
	(in thousands of U.S. dollars)
Accumulated other comprehensive income
Net unrealized appreciation (depreciation) on investments
Balance – beginning of period	$	684,267		$	476,411
Change in period, net of income tax		126,843			79,316

Balance – end of period		811,110			555,727

Minimum pension liability
Balance – beginning of period		(35,684	)		—
Change in period, net of income tax		(1,122	)		—

Balance – end of period		(36,806	)		—

Cumulative translation adjustment
Balance – beginning of period		71,189			(36,519	)
Change in period, net of income tax		8,752			18,473

Balance – end of period		79,941			(18,046	)

Accumulated other comprehensive income		854,245			537,681

Ordinary Shares issued to employee trust
Balance – beginning of period		(16,687	)		(18,361	)
Decrease (increase) in Ordinary Shares		39			248

Balance – end of period		(16,648	)		(18,113	)

Total shareholders’ equity	$	9,396,820		$	6,702,445

See accompanying notes to the interim consolidated financial statements

ACE LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

For the three months ended March 31, 2004 and 2003

(Unaudited)


	2004			2003
	(in thousands of U.S. dollars)
Net income	$	446,825		$	247,444
Other comprehensive income
Net unrealized appreciation (depreciation) on investments
Unrealized appreciation (depreciation) on investments		235,657			111,924
Reclassification adjustment for net realized (gains) losses included in net income		(60,830	)		(23,087	)

		174,827			88,837
Cumulative translation adjustment		2,177			26,322
Minimum pension liability		(1,991	)		—

Other comprehensive income, before income tax		175,013			115,159
Income tax expense related to other comprehensive income items		(40,540	)		(17,370	)

Other comprehensive income		134,473			97,789

Comprehensive income	$	581,298		$	345,233

See accompanying notes to the interim consolidated financial statements

ACE LIMITED AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the three months ended March 31, 2004 and 2003

(Unaudited)


	2004			2003
	(in thousands of U.S. dollars)
Cash flows from operating activities
Net income	$	446,825		$	247,444
Adjustments to reconcile net income to net cash flows from (used for) operating activities:
Net realized (gains) losses		(57,261	)		40,089
Amortization of premium/discounts on fixed maturities		25,972			15,724
Deferred income taxes		55,082			45,757
Unpaid losses and loss expenses		488,127			280,116
Unearned premiums		804,708			967,486
Future policy benefits for life and annuity contracts		3,943			16,293
Insurance and reinsurance balances payable		233,762			87,578
Accounts payable, accrued expenses and other liabilities		(19,736	)		(3,146	)
Insurance and reinsurance balances receivable		(653,206	)		(543,324	)
Reinsurance recoverable		57,899			(140,092	)
Deferred policy acquisition costs		(97,377	)		(79,286	)
Prepaid reinsurance premiums		(158,465	)		(68,546	)
Funds withheld, net		(3,788	)		40,071
Value of reinsurance business assumed		18,326			1,489
Other		27,311			(307,016	)

Net cash flows from operating activities	$	1,172,122		$	600,637

Cash flows from investing activities
Purchases of fixed maturities	$	(5,991,122	)	$	(4,511,425	)
Purchases of equity securities		(109,176	)		(35,988	)
Sales of fixed maturities		4,895,148			3,809,724
Sales of equity securities		105,369			29,244
Maturities of fixed maturities		160			3,180
Net realized gains (losses) on investment derivatives		(877	)		(31	)
Other		6,932			(37,279	)

Net cash flows used for investing activities	$	(1,093,566	)	$	(742,575	)

Cash flows from financing activities
Dividends paid on Ordinary Shares	$	(53,182	)	$	(44,659	)
Dividends paid on Preferred Shares		(11,213	)		—
Net proceeds from (repayment of) short-term debt		(14	)		498
Proceeds from exercise of options for Ordinary Shares		34,406			3,141
Proceeds from Ordinary Shares issued under ESPP		3,683			3,387
Dividends paid on Mezzanine equity		—			(6,415	)

Net cash flows used for financing activities	$	(26,320	)	$	(44,048	)

Net increase (decrease) in cash		52,236			(185,986	)
Cash – beginning of period		561,650			633,355

Cash – end of period	$	613,886		$	477,369

See accompanying notes to the interim consolidated financial statements

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1.	General

The interim unaudited consolidated financial statements, which include the accounts of the Company and its subsidiaries, have been prepared in accordance with accounting principles generally accepted in the United States of America and, in the opinion of management, reflect all adjustments (consisting of normally recurring accruals) necessary for a fair presentation of results for such periods. The results of operations and cash flows for any interim period are not necessarily indicative of results for the full year. These financial statements should be read in conjunction with the consolidated financial statements, and related notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2003.

ACE Limited (ACE or the Company) is a holding company incorporated with limited liability under the Cayman Islands Companies Law and maintains its business office in Bermuda. The Company, through its various subsidiaries, provides a broad range of insurance and reinsurance products to insureds worldwide. ACE operates through four business segments: Insurance – North American, Insurance – Overseas General, Global Reinsurance and Financial Services. These segments are described in Note 15.

The following table summarizes the Company’s gross premiums written by geographic region for the three months ended March 31, 2004 and 2003. Allocations have been made on the basis of location of risk.


Three Months Ended	North America		Europe		Australia & New Zealand		Asia Pacific		Latin America
March 31, 2004	60	%	27	%	3	%	6	%	4	%
March 31, 2003	59	%	29	%	3	%	5	%	4	%

2.	New accounting pronouncements

In July 2003, the Accounting Standards Executive Committee of the American Institute of Certified Public Accountants issued Statement of Position 03-1, “Accounting and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate Accounts” (SOP 03-1). This Statement of Position provides guidance on accounting and reporting by insurance enterprises for certain nontraditional long-duration contracts and for separate accounts and is effective for financial statements for fiscal years beginning after December 15, 2003. At the date of initial application of this SOP, the Company is required to make certain determinations, such as significance of mortality and morbidity risk and adjustment to contract holder liabilities. SOP 03-1 may not be applied retroactively to prior years’ financial statements, and the initial application should be as of the beginning of the entity’s fiscal year. Through the Global Reinsurance segment, the Company reinsures annuitization benefits, principally related to guaranteed minimum death benefits (GMDBs) and guaranteed minimum income benefits (GMIBs). The valuation of insurance liabilities related to the Company’s GMDB reinsurance product is subject to certain provisions of the SOP whereas the Company’s GMIB reinsurance product meets the definition of a derivative for accounting purposes and is therefore carried at fair value with changes in fair value recognized in income in the period of the change pursuant to FAS 133. Pursuant to SOP 03-1, liabilities for annuitization benefits, such as the minimum death benefit guarantee, are generally based on cumulative assessments or premiums to date multiplied by a benefit ratio that is determined by estimating the expected value of benefit payments and related adjustment expenses divided by the present value of cumulative assessment or expected fees during the annuitization period. In the event the Company was to anticipate an ultimate loss on the business over the in-force period of the underlying annuities, an additional liability would be established to recognize such losses. The Company adopted SOP 03-1 on January 1, 2004. In its capacity as reinsurer, the Company’s valuation of insurance liabilities related to its GMDB reinsurance program has been materially consistent with the requirements of the SOP. Consequently, the adoption of SOP 03-1 did not have a material impact on the Company’s consolidated financial statements. See Note 5b for further details regarding the Company’s reinsurance programs involving minimum benefit guarantees under annuity contracts.

In December 2003, FASB revised FAS No. 132, “Employers’ Disclosures about Pensions and Other Postretirement Benefits” (FAS 132), to require additional disclosures related to pensions and postretirement benefits. While retaining the existing disclosure requirements for pensions and postretirement benefits, additional disclosures are required related to pension plan assets, obligations, contributions and net benefit costs, beginning with fiscal years ending after December 15, 2003. For foreign plans, these additional disclosures are required beginning with fiscal years ending after June 15, 2004. Additional disclosures pertaining to benefit payments are also required for fiscal years ending after June 15, 2004. FAS 132 revisions also include additional disclosure requirements for interim financial reports beginning after December 15, 2003. Given that all of the Company’s defined benefit plans cover foreign employees, the Company is required to implement the additional disclosures beginning in its 2004 consolidated financial statements. Interim disclosure requirements have been implemented this quarter. (See Note 9).

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

3.	Investments

a)	*Gross unrealized loss*

The following table summarizes, for all securities in an unrealized loss position at March 31, 2004 (including securities on loan), the aggregate fair value and gross unrealized loss by length of time the security has continuously been in an unrealized loss position.


	0 - 12 Months				Over 12 Months				Total
	Fair Value		Gross Unrealized Loss		Fair Value		Gross Unrealized Loss		Fair Value		Gross Unrealized Loss
	(in thousands of U.S. dollars)
U.S. Treasury and agency	$	279,982	$	1,430	$	—	$	—	$	279,982	$	1,430
Non-U.S. governments		435,594		10,105		—		—		435,594		10,105
Corporate securities		1,534,660		13,265		5,341		84		1,540,001		13,349
Mortgage-backed securities		817,222		5,982		11,779		118		829,001		6,100
States, municipalities and political subdivisions		172,840		816		692		11		173,532		827

Total fixed maturities		3,240,298		31,598		17,812		213		3,258,110		31,811
Equities		62,500		4,923		—		—		62,500		4,923
Other investments		59,030		4,710		—		—		59,030		4,710

Total	$	3,361,828	$	41,231	$	17,812	$	213	$	3,379,640	$	41,444

b)	*Variable interests related to equity investments in CDOs*

As a complement to the Company’s credit default swap business and with the objective of enhancing investment yield, the Company invested in the equity tranches of six CDOs from June 2001 through August 2002. While the underlying assets in all six CDOs aggregated to $2.6 billion, the Company’s aggregate maximum exposure was $43.8 million, which approximated the cost of these investments. For the three months ended March 31, 2004, the Company sold five of these six positions resulting in a realized loss of approximately $7 million. The five positions sold represented $2.3 billion of the aforementioned $2.6 billion of aggregate assets in all six CDOs. At March 31, 2004, the underlying assets in the remaining CDO of $0.3 billion are principally invested in asset-backed securities, including investments in the debt tranches of other CDOs. While management considers the related entity to be a variable interest entity, as defined by FIN 46, “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51”, the Company’s equity investment represents a small portion of the variable interest in the CDO. Accordingly, under FIN 46, the Company is not required to consolidate the entity. At March 31, 2004, the Company’s aggregate carrying value for the investments held is $1.2 million, which represents the Company’s remaining loss exposure related to these investments as of March 31, 2004.

4.	Goodwill

FAS No. 142, “Goodwill and Other Intangible Assets” (FAS 142) primarily addresses the accounting for goodwill and intangible assets subsequent to their acquisition. All goodwill recognized in the Company’s consolidated balance sheet at January 1, 2002 was assigned to one or more reporting units. FAS 142 requires that goodwill in each reporting unit be tested for impairment annually. The Company recognized a goodwill impairment loss of $11 million primarily relating to the Company’s Lloyd’s life syndicate. The following table details the movement in goodwill by segment for the three months ended March 31, 2004.


	Insurance – North American		Insurance – Overseas General		Global Reinsurance		Financial Services			ACE Consolidated
	(in thousands of U.S. dollars)
Goodwill at beginning of period	$	1,127,513	$	1,121,636	$	364,958	$	96,723		$	2,710,830
Goodwill impairment loss		—		—		—		(11,305	)		(11,305	)

Goodwill at end of period	$	1,127,513	$	1,121,636	$	364,958	$	85,418		$	2,699,525

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

5.	Reinsurance

a)	*Consolidated reinsurance*

The Company purchases reinsurance to manage various exposures including catastrophe risks. Although reinsurance agreements contractually obligate the Company’s reinsurers to reimburse it for the agreed-upon portion of its gross paid losses, they do not discharge the primary liability of the Company. The amounts for net premiums written and net premiums earned in the statements of operations are net of reinsurance. Direct, assumed and ceded amounts for these items for the three months ended March 31, 2004 and 2003 are as follows:


	Three Months Ended March 31
	2004			2003
	(in thousands of U.S. dollars)
Premiums written
Direct	$	3,389,396		$	3,084,049
Assumed		1,026,079			1,028,715
Ceded		(1,177,309	)		(1,182,712	)

Net	$	3,238,166		$	2,930,052

Premiums earned
Direct	$	3,046,488		$	2,598,802
Assumed		583,044			585,598
Ceded		(1,029,855	)		(1,112,868	)

Net	$	2,599,677		$	2,071,532

The composition of the Company’s reinsurance recoverable at March 31, 2004 and December 31, 2003, is as follows:


	March 31 2004			December 31 2003
	(in thousands of U.S. dollars)
Reinsurance recoverable on paid losses and loss expenses	$	1,191,877		$	1,277,119
Bad debt reserve on paid losses and loss expenses		(421,641	)		(402,680	)
Reinsurance recoverable on future policy benefits		15,484			14,668
Reinsurance recoverable on unpaid losses and loss expenses		13,817,518			13,749,189
Bad debt reserve on unpaid losses and loss expenses		(540,983	)		(557,580	)

Net reinsurance recoverable	$	14,062,255		$	14,080,716

The Company evaluates the financial condition of its reinsurers and potential reinsurers on a regular basis and also monitors concentrations of credit risk with reinsurers. The provision for unrecoverable reinsurance is established principally due to the anticipated failure of reinsurers to indemnify ACE, primarily because of disputes under reinsurance contracts and insolvencies. Provisions have been established for amounts estimated to be uncollectible.

Following is a breakdown of the Company’s reinsurance recoverable on paid losses at March 31, 2004 and December 31, 2003:


	March 31, 2004						December 31, 2003
Category	Amount		Bad Debt Reserve		% of Total Reserve		Amount		Bad Debt Reserve		% of Total Reserve
	(in millions of U.S. dollars)
General collections	$	639	$	44	6.9	%	$	730	$	45	6.2	%
Other		553		378	68.4	%		547		358	65.4	%

Total	$	1,192	$	422	35.4	%	$	1,277	$	403	31.6	%

General collections balances represents amounts in the process of collection in the normal course of business for which the Company has no indication of dispute or credit-related issues.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The other category includes amounts recoverable that are in dispute or are from companies who are in supervision, rehabilitation or liquidation. The Company’s estimation of this reserve considers the credit quality of the reinsurer and whether the Company has received collateral or other credit protections such as parental guarantees.

b)	*Reinsurance programs involving minimum benefit guarantees under annuity contracts*

Beginning in 2000, the Company has been engaged in reinsuring various death and living benefit guarantees associated with variable annuities issued primarily in the United States. Each reinsurance treaty covers variable annuities written during a limited period, typically not exceeding two years. The Company generally receives a monthly premium during the accumulation phase of the covered annuities (in-force) based on a percentage of the underlying accumulated account values. Depending on an annuitant’s age, the accumulation phase can last many years. To limit the Company’s exposure under these programs, all reinsurance treaties include aggregate claim limits and many include an aggregate deductible.

The guarantees which are payable on death, referred to as guaranteed minimum death benefits (GMDBs), principally cover shortfalls between accumulated account value at the time of an annuitant’s death and either i) an annuitant’s total deposits; ii) an annuitant’s total deposits plus a minimum annual return; or iii) the highest accumulated account value attained during any policy anniversary date. In addition, a death benefit may be based on a formula specified in the variable annuity contract that uses a percentage of the growth of the underlying contract value. Reinsurance programs covering GMDBs are accounted for pursuant to SOP 03-1. (See Note 2).

Under reinsurance programs covering living benefit guarantees, the Company assumes the risk of guaranteed minimum income benefits (GMIBs) associated with variable annuity contracts. The GMIB risk is triggered if, at the time the contract holder elects to convert the accumulated account value to a periodic payment stream (annuitize), the accumulated account value is not sufficient to purchase a guaranteed minimum level of monthly income. The Company’s GMIB reinsurance product meets the definition of a derivative for accounting purposes and is therefore carried at fair value with changes in fair value recognized in income in the period of the change pursuant to FAS 133. As the assuming entity, the Company is obligated to provide coverage until the expiration of the underlying annuities. Therefore, to best disclose the nature of the underlying risk over the exposure period within the statement of operations, the Company presents the change in fair value as follows. Premiums received under the reinsurance treaties are classified as premium. Expected losses allocated to premiums received are classified as life and annuity benefits and valued pursuant to SOP 03-1, similar to GMDB reinsurance. Other changes in fair value, principally arising from changes in expected losses allocated to expected future premiums, are classified as realized gains (losses). As fair value generally represents the cost to exit a business and thus includes a risk margin, the Company may recognize a loss for other changes in fair value during a given period due to temporary adverse changes in the capital markets (i.e., declining interest rates and/or declining equity markets) even when the Company continues to expect the business to be profitable. Management believes this presentation provides the most meaningful disclosure of changes in the underlying risk within the GMIB reinsurance program for a given reporting period.

For the quarter ended March 31, 2004, net premiums earned and life and annuity benefits expense were $9.6 million and $3.8 million, respectively, for GMDB reinsurance and $12.6 million and $5.2 million, respectively, for GMIB reinsurance. For the quarter ended March 31, 2003, net premiums earned and life and annuity benefits expense were $12.1 million and $11.1 million, respectively, for GMDB reinsurance and $3.1 million and $1.5 million, respectively, for GMIB reinsurance. In addition, for the quarter ended March 31, 2004, the Company reported a $25 million loss from other changes in fair value related to GMIB reinsurance which is reflected in net realized gains (losses).

At March 31, 2004, reported liabilities for GMDB and GMIB reinsurance were $23.5 million and $53.6 million, respectively. Reported liabilities for both GMDB and GMIB reinsurance are determined using internal valuation models. Such valuations require considerable judgment and are subject to significant uncertainty. The valuation of these products is subject to fluctuations arising from, among other factors, changes in interest rates, changes in the equity markets, and changes in the allocation of the investments underlying annuitant’s account value. These models and the related assumptions are continually reviewed by management and enhanced, as appropriate, based upon improvements in modeling techniques and availability of more timely information, such as market conditions and demographics of in-force annuities.

At March 31, 2004, the Company’s net amount at risk from its GMDB and GMIB reinsurance programs are $246 million and $32 million, respectively. For each annuity reinsured under the GMDB program, the net amount at risk typically represents the excess, if any, of the current guaranteed value over the current account value as of the balance sheet date. In determining the aggregate net amount at risk for the GMDB program, it is assumed that there are no lapses or annuitizations, no future changes in each policy’s account value and guaranteed value, and deaths occur over the lifetime of the reinsured policies based on the 1994 GMDB mortality table. For each annuity reinsured under the GMIB program, the net amount at risk typically represents the excess, if any, of the present value of the minimum guaranteed annuity payments over the present value of the annuity payments otherwise available as of the balance sheet date. In determining the aggregate net amount at risk for the GMIB program, it is assumed that there are no lapses or deaths, no future changes in each policy’s account value and guaranteed value, and an annual annuitization rate at or near the limit stated for each reinsurance treaty. The net amount at risk is subject to significant fluctuation due to several factors including changes in equity markets and interest rates as well as the addition of new reinsured annuities.

6.	Commitments, contingencies and guarantees

The Company invests in private equity partnerships with a carrying value of $91 million included in other investments. In connection with these investments, the Company has commitments that may require funding of up to $106.4 million over the next several years.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The Company’s insurance subsidiaries are subject to claims litigation involving disputed interpretations of policy coverages and, in some jurisdictions, direct actions by allegedly-injured persons seeking damages from policyholders. These lawsuits, involving claims on policies issued by our subsidiaries which are typical to the insurance industry in general and in the normal course of business, are considered in the Company’s loss and loss expense reserves. In addition to claims litigation, the Company and its subsidiaries are subject to lawsuits and regulatory actions in the normal course of business that do not arise from or directly relate to claims on insurance policies. This category of business litigation typically involves, inter alia, allegations of underwriting errors or misconduct, employment claims, regulatory activity or disputes arising from business ventures. While the outcomes of the business litigation involving the Company cannot be predicted with certainty at this point, the Company is disputing, and will continue to dispute, allegations against it that are without merit. The Company believes that the ultimate outcomes of matters in this category of business litigation will not have a material adverse effect on the financial condition, future operating results or liquidity of the Company, although an adverse resolution of a number of these items could have a material adverse effect on the Company’s results of operations in a particular quarter or fiscal year.

The Company provides and reinsures financial guaranties issued to support public and private borrowing arrangements. Financial guaranty insurance provides an unconditional and irrevocable guaranty that indemnifies the insured against non-payment of principal and interest on an insured debt obligation when due. The Company’s potential liability in the event of non-payment by the issuer of the insured obligation is represented by its proportionate share of the aggregate outstanding principal and interest payable (insurance in force) on such insured obligation. In synthetic transactions, the Company guarantees payment obligations of counterparties under credit default swaps. The Company does not record a carrying value for future installment premiums on financial guaranties as they are recognized over the term of the contract. The net par outstanding exposure as at March 31, 2004 and December 31, 2003, of financial guaranty aggregate insured portfolios was $90.6 billion and $88.9 billion respectively, which includes credit default swap exposures of $22.6 billion and $23.9 billion, respectively.

7.	Credit facilities

In April 2004, the Company replaced its $500 million, 364-day revolving credit facility and its $250 million, five-year revolving credit facility with a $600 million three-year credit facility. This facility is available for general corporate purposes, commercial paper back-up and the issuance of letters of credit (LOCs). At March 31, 2004, the outstanding LOCs issued under the replaced facilities was $64 million and commercial paper outstanding was $146 million. There were no other drawings or LOCs issued under these facilities.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Debt

The following table outlines the Company’s debt at March 31, 2004 and December 31, 2003.


	March 31 2004		December 31 2003
	(in millions of U.S. dollars)
Short-term debt
ACE INA commercial paper	$	146	$	146
ACE INA Notes due 2004		400		400

		546		546

Long-term debt
ACE INA Notes due 2006		300		300
ACE Limited Senior Notes due 2007		499		499
ACE US Holdings Senior Notes due 2008		250		250
ACE INA Subordinated Notes due 2009		200		200
ACE INA Debentures due 2029		100		100

	$	1,349	$	1,349

Trust Preferred Securities
Capital Re LLC Monthly Income Preferred Securities due 2044	$	75	$	75
ACE INA Trust Preferred Securities due 2029		103		100
ACE INA Capital Securities due 2030		309		300

	$	487	$	475

a)	*Short-term debt*

The Company has commercial paper programs that use revolving credit facilities as back-up facilities and provide for up to $2.8 billion in commercial paper issuance (subject to the availability of back-up facilities, which totaled $686 million at March 31, 2004) for ACE and for ACE INA. For the three months ended March 31, 2004, and 2003, commercial paper rates averaged 1.2 percent and 1.5 percent, respectively.

9.	Defined benefit plans

The Company maintains non-contributory defined benefit plans that cover certain foreign employees, principally located in Europe and Asia. The Company does not provide any such plans to U.S. employees. Benefits under these plans are based on employees’ years of service and compensation during final years of service. All underlying defined benefit plans are subject to periodic actuarial valuation by qualified local actuarial firms. The Company funds the plans at the amount required by FAS No. 87, “Employers’ Accounting for Pensions” (FAS 87). The accumulated benefit obligation is compared to plan assets, both as defined in FAS 87, and any resulting deficiency is recorded as a liability.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Net periodic benefit costs recognized by component for the three months ended March 31, 2004 and 2003 is as follows:


	Three Months Ended March 31
	2004			2003
	(in thousands of U.S. dollars)
Components of net benefit cost
Service cost	$	1,364		$	1,355
Interest cost		3,972			3,807
Expected return on plan assets		(3,468	)		(2,975	)
Amortization of net transition asset		2			2
Amortization of prior service cost		1,583			1,504
Amortization of net actuarial loss		26			24

Net benefit cost	$	3,479		$	3,717

10.

Restricted stock awards

Under the Company’s long-term incentive plans, 1,508,080 restricted Ordinary Shares were awarded during the three months ended March 31, 2004, to officers of the Company and its subsidiaries. These shares vest at various dates through March 2008.

At the time of grant the market value of the shares awarded under these grants is recorded as unearned stock grant compensation and is presented as a separate component of shareholders’ equity. The unearned compensation is charged to income over the vesting period using the accelerated method.

11.

Earnings per share

The following table sets forth the computation of basic and diluted earnings per share.


	Three Months Ended March 31
	2004			2003
	(in thousands of U.S. dollars, except share and per share data)
Numerator:
Net income	$	446,825		$	247,444
Dividends on Preferred Shares		(11,336	)		—
Dividends on Mezzanine equity		—			(6,415	)

Net income available to holders of Ordinary Shares	$	435,489		$	241,029

Denominator:
Denominator for basic earnings per share:
Weighted average shares outstanding		278,937,204			260,986,223
Dilutive effect of Mezzanine equity		—			916,016
Effect of other dilutive securities		5,352,364			6,138,426

Denominator for diluted earnings per share:
Adjusted weighted average shares outstanding and assumed conversions		284,289,568			268,040,665

Basic earnings per share	$	1.56		$	0.92

Diluted earnings per share	$	1.53		$	0.90

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

12.

FAS 148 Pro Forma Disclosures

In December 2002, FASB issued FAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure” (FAS 148). FAS 148 amends the disclosure requirements of FAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based compensation and the effect of the method used on reported results. The Company continues to account for stock-based compensation plans in accordance with APB 25. No compensation expense for options 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 stock on the date of the grant.

Following is a summary of options issued and outstanding for the three months ended March 31, 2004 and 2003:


	Year of Expiration	Average Exercise Price		Options for Ordinary Shares		Year of Expiration	Average Exercise Price		Options for Ordinary Shares
	Three Months Ended March 31, 2004					Three Months Ended March 31, 2003
Balance – beginning of period				18,391,136					19,312,287
Options granted	2014	$	43.55	2,055,820		2013	$	27.61	3,383,712
Options exercised	2004-2013	$	43.67	(1,432,480	)	2007-2010	$	29.90	(183,813	)
Options forfeited	2006-2014	$	49.34	(62,996	)	2003-2012	$	41.16	(109,050	)

Balance – end of period				18,951,480					22,403,136

The following table outlines the Company’s net income available to holders of Ordinary Shares and diluted earnings per share for the three months ended March 31, 2004 and 2003, had the compensation cost been determined in accordance with the fair value method recommended in FAS 123.


	Three Months Ended March 31
	2004		2003
	(in thousands of U.S. dollars, except per share data)
Net income available to holders of Ordinary Shares:
As reported	$	435,489	$	241,029
Add: Stock-based compensation expense included in reported net income, net of income tax	$	9,153	$	4,597
Deduct: Compensation expense, net of income tax	$	20,198	$	10,986
Pro forma	$	424,444	$	234,640
Basic earnings per share:
As reported	$	1.56	$	0.92
Pro forma	$	1.52	$	0.90
Diluted earnings per share:
As reported	$	1.53	$	0.90
Pro forma	$	1.50	$	0.87

The fair value of the options issued is estimated on the date of grant using the Black-Scholes option-pricing model, with the following weighted-average assumptions used for grants for the three months ended March 31, 2004 and 2003, respectively: dividend yield of 1.74 percent and 2.46 percent, expected volatility of 26.76 percent and 32.74 percent, risk free interest rate of 2.71 percent and 2.33 percent. The expected life is four years and the forfeiture rate is 5 percent for 2004 and 2003.

13.

Taxation

Under current Cayman Islands’ law, the Company is not required to pay any taxes in the Cayman Islands on its income or capital gains. The Company has received an undertaking that, in the event of any taxes being imposed, the Company will be exempted from taxation in the Cayman Islands until the year 2013. Under current Bermuda law, the Company and its Bermuda subsidiaries are not required to pay any taxes in Bermuda on its income or capital gains. The Company has received an undertaking from the Minister of Finance in Bermuda that, in the event of any taxes being imposed, the Company will be exempt from taxation in Bermuda until March 2016.

Income from the Company’s operations at Lloyd’s is subject to United Kingdom corporation taxes. Lloyd’s is required to pay U.S. income tax on U.S. connected income (U.S. income) written by Lloyd’s syndicates. Lloyd’s has a closing agreement with the IRS whereby the amount of tax due on this business is calculated by Lloyd’s and remitted directly to the IRS. These amounts are then charged to the personal accounts of the Names/Corporate Members in proportion to their participation in the relevant syndicates. The Company’s Corporate Members are subject to this arrangement but, as U.K. domiciled companies, will receive U.K. corporation tax credits for any U.S. income tax incurred up to the value of the equivalent U.K. corporation income tax charge on the U.S. income.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

ACE Prime Holdings and ACE Cap Re USA Holdings, and their respective subsidiaries are subject to income taxes imposed by U.S. authorities and file U.S. tax returns. Should the U.S. subsidiaries pay a dividend to the Company, withholding taxes will apply. Certain international operations of the Company are also subject to income taxes imposed by the jurisdictions in which they operate.

The Company is not subject to taxation other than as stated above. There can be no assurance that there will not be changes in applicable laws, regulations or treaties, which might require the Company to change the way it operates or become subject to taxation.

The income tax provision for the three months ended March 31, 2004 and 2003 is as follows:


	Three Months Ended March 31
	2004		2003
	(in thousands of U.S. dollars)
Current tax expense	$	67,459	$	6,673
Deferred tax expense		55,082		45,757

Provision for income taxes	$	122,541	$	52,430

The weighted average expected tax provision has been calculated using pre-tax accounting income (loss) in each jurisdiction multiplied by that jurisdiction’s applicable statutory tax rate. A reconciliation of the difference between the provision for income taxes and the expected tax provision at the weighted average tax rate for the three months ended March 31, 2004 and 2003, is provided below.


	Three Months Ended March 31
	2004			2003
	(in thousands of U.S. dollars)
Expected tax provision at weighted average rate	$	122,596		$	52,296
Permanent differences
Tax-exempt interest		(4,098	)		(3,802	)
Other		(3,342	)		(510	)
Goodwill		3,957			525
Net withholding taxes		3,428			3,921

Total provision for income taxes	$	122,541		$	52,430

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The components of the net deferred tax asset at March 31, 2004 and December 31, 2003 are as follows:


	March 31 2004		December 31 2003
	(in thousands of U.S. dollars)
Deferred tax assets
Loss reserve discount	$	538,849	$	518,443
Unearned premium reserve		125,192		114,521
Foreign tax credits		263,963		204,052
Investments		91,140		92,898
Bad debts		151,978		152,619
Net operating loss carryforward		347,306		412,469
Other		34,059		107,593

Total deferred tax assets		1,552,487		1,602,595

Deferred tax liabilities
Deferred policy acquisition costs		175,405		163,199
Unrealized appreciation on investments		222,531		174,547
Other		24,776		39,452

Total deferred tax liabilities		422,712		377,198

Valuation allowance		132,741		135,592

Net deferred tax asset	$	997,034	$	1,089,805

The valuation allowance of $133 million at March 31, 2004 and $136 million at December 31, 2003, reflects management’s assessment, based on available information, that it is more likely than not that a portion of the deferred tax asset will not be realized due to the inability of certain foreign subsidiaries to generate sufficient taxable income. Adjustments to the valuation allowances are made when there is a change in management’s assessment of the amount of deferred tax asset that is realizable.

At March 31, 2004, the Company has net operating loss carryforwards for U.S. federal income tax purposes of approximately $992 million. The net operating loss carryforwards are available to offset future U.S. federal taxable income and, if unutilized, will expire in the years 2018-2022.

14.

Information provided in connection with outstanding debt of securities

The following tables present the condensed consolidating financial information for ACE Limited (the “Parent Guarantor”), ACE INA Holdings, Inc. and ACE Financial Services, Inc. (formerly Capital Re Corporation), (the “Subsidiary Issuers”) at March 31, 2004 and December 31, 2003 and for the three months ended March 31, 2004 and 2003. The Subsidiary Issuers are direct or indirect wholly-owned subsidiaries of the Parent Guarantor. Investments in subsidiaries are accounted for by the Parent Guarantor and the Subsidiary Issuers under the equity method for purposes of the supplemental consolidating presentation. Earnings of subsidiaries are reflected in the Parent Guarantor’s investment accounts and earnings. The Parent Guarantor fully and unconditionally guarantees certain of the debt of the Subsidiary Issuers.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Condensed Consolidating Balance Sheet at March 31, 2004

(in thousands of U.S. dollars)


	ACE Limited (Parent Co. Guarantor)		ACE INA Holdings, Inc. (Subsidiary Issuer)			ACE Financial Services, Inc. (Subsidiary Issuer)			Other ACE Limited Subsidiaries and Eliminations ⁽¹⁾			Consolidating Adjustments ⁽²⁾			ACE Limited Consolidated
Assets
Total investments and cash	$	63,225	$	11,661,955		$	1,243,585		$	13,219,738		$	—		$	26,188,503
Insurance and reinsurance balances receivable		—		2,519,742			27,607			945,186			—			3,492,535
Reinsurance recoverable		—		12,219,213			—			1,843,042			—			14,062,255
Goodwill		—		2,130,908			85,417			483,200			—			2,699,525
Investments in subsidiaries		9,447,596		—			152,000			(152,000	)		(9,447,596	)		—
Due (to) from subsidiaries and affiliates, net		517,346		(83,204	)		(41,747	)		124,951			(517,346	)		—
Other assets		62,005		4,771,358			99,009			1,103,359			—			6,035,731

Total assets	$	10,090,172	$	33,219,972		$	1,565,871		$	17,567,476		$	(9,964,942	)	$	52,478,549

Liabilities
Unpaid losses and loss expenses	$	—	$	19,659,130		$	115,955		$	7,921,787		$	—		$	27,696,872
Unearned premiums		—		4,555,597			398,118			1,975,847			—			6,929,562
Future policy benefits for life and annuity contracts		—		—			—			495,780			—			495,780
Short-term debt		—		545,713			—			—			—			545,713
Long-term debt		499,493		599,775			—			250,000			—			1,349,268
Trust preferred securities		—		412,373			75,000			—			—			487,373
Other liabilities		193,859		3,513,416			36,048			1,833,838			—			5,577,161

Total liabilities		693,352		29,286,004			625,121			12,477,252			—			43,081,729

Total shareholders’ equity		9,396,820		3,933,968			940,750			5,090,224			(9,964,942	)		9,396,820

Total liabilities and shareholders’ equity	$	10,090,172	$	33,219,972		$	1,565,871		$	17,567,476		$	(9,964,942	)	$	52,478,549

⁽¹⁾	Includes all other subsidiaries of ACE Limited and intercompany eliminations.

⁽²⁾	Includes ACE Limited parent company eliminations.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Condensed Consolidating Balance Sheet at December 31, 2003

(in thousands of U.S. dollars)


	ACE Limited (Parent Co. Guarantor)		ACE INA Holdings, Inc. (Subsidiary Issuer)			ACE Financial Services, Inc. (Subsidiary Issuer)			Other ACE Limited Subsidiaries and Eliminations ⁽¹⁾			Consolidating Adjustments ⁽²⁾			ACE Limited Consolidated
Assets
Total investments and cash	$	44,163	$	10,518,902		$	1,208,081		$	12,236,703		$	—		$	24,007,849
Insurance and reinsurance balances receivable		—		2,015,186			28,433			792,997			—			2,836,616
Reinsurance recoverable		—		12,055,309			—			2,025,407			—			14,080,716
Goodwill		—		2,130,908			96,723			483,199			—			2,710,830
Investments in subsidiaries		9,056,845		—			152,000			(152,000	)		(9,056,845	)		—
Due from subsidiaries and affiliates, net		349,617		(17,929	)		(46,819	)		64,748			(349,617	)		—
Other assets		53,430		4,526,075			181,774			1,155,503			—			5,916,782

Total assets	$	9,504,055	$	31,228,451		$	1,620,192		$	16,606,557		$	(9,406,462	)	$	49,552,793

Liabilities
Unpaid losses and loss expenses	$	—	$	18,996,890		$	110,259		$	8,047,689		$	—		$	27,154,838
Unearned premiums		—		3,757,093			389,027			1,904,668			—			6,050,788
Future policy benefits for life and annuity contracts		—		—			—			491,837			—			491,837
Short-term debt		—		545,727			—			—			—			545,727
Long-term debt		499,451		599,751			—			250,000			—			1,349,202
Trust preferred securities		—		400,000			75,000			—			—			475,000
Other liabilities		169,808		3,192,513			128,109			1,160,175			—			4,650,605

Total liabilities		669,259		27,491,974			702,395			11,854,369			—			40,717,997

Total shareholders’ equity		8,834,796		3,736,477			917,797			4,752,188			(9,406,462	)		8,834,796

Total liabilities and shareholders’ equity	$	9,504,055	$	31,228,451		$	1,620,192		$	16,606,557		$	(9,406,462	)	$	49,552,793

⁽¹⁾	Includes all other subsidiaries of ACE Limited and intercompany eliminations.

⁽²⁾	Includes ACE Limited parent company eliminations.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Condensed Consolidating Statement of Operations

For the three months ended March 31, 2004

(in thousands of U.S. dollars)


	ACE Limited (Parent Co. Guarantor)			ACE INA Holdings, Inc. (Subsidiary Issuer)			ACE Financial Services, Inc. (Subsidiary Issuer)			Other ACE Limited Subsidiaries and Eliminations⁽¹⁾			Consolidating Adjustments⁽²⁾			ACE Limited Consolidated
Net premiums written	$	—		$	1,789,252		$	47,565		$	1,401,349		$	—		$	3,238,166
Net premiums earned		—			1,341,052			37,933			1,220,692			—			2,599,677
Net investment income		3,422			106,161			12,753			118,820			(3,236	)		237,920
Other income (expense)		—			(3,326	)		(11,305	)		(2,449	)		—			(17,080	)
Equity in earnings of subsidiaries		491,241			—			—			—			(491,241	)		—
Net realized gains (losses)		(14,021	)		35,612			9,986			25,684			—			57,261
Losses and loss expenses		—			875,091			9,015			658,491			—			1,542,597
Life and annuity benefits		—			—			—			41,724			—			41,724
Policy acquisition costs and administrative expenses		26,567			336,791			20,371			292,941			3,149			679,819
Interest expense		6,280			32,536			1,613			5,120			(1,277	)		44,272
Income tax expense		970			81,516			7,670			32,385			—			122,541

Net income	$	446,825		$	153,565		$	10,698		$	332,086		$	(496,349	)	$	446,825

Condensed Consolidating Statement of Operations

For the three months ended March 31, 2003

(in thousands of U.S. dollars)


	ACE Limited (Parent Co. Guarantor)			ACE INA Holdings, Inc. (Subsidiary Issuer)			ACE Financial Services, Inc. (Subsidiary Issuer)			Other ACE Limited Subsidiaries and Eliminations ⁽¹⁾			Consolidating Adjustments ⁽²⁾			ACE Limited Consolidated
Net premiums written	$	—		$	1,413,028		$	52,344		$	1,464,680		$	—		$	2,930,052
Net premiums earned		—			976,058			35,010			1,060,464			—			2,071,532
Net investment income		5,432			85,511			11,401			109,690			(5,622	)		206,412
Other income (expense)		—			(1,000	)		—			(5,154	)		—			(6,154	)
Equity in earnings of subsidiaries		282,585			—			—			—			(282,585	)		—
Net realized losses		(8,610	)		(16,268	)		(2,837	)		(12,374	)		—			(40,089	)
Losses and loss expenses		—			662,456			8,055			612,322			—			1,282,833
Life and annuity benefits		—			—			—			48,499			—			48,499
Policy acquisition costs and administrative expenses		19,936			250,807			15,256			270,997			(1,430	)		555,566
Interest expense		10,340			32,970			1,687			5,461			(5,529	)		44,929
Income tax expense		1,687			34,859			4,349			11,535			—			52,430

Net income	$	247,444		$	63,209		$	14,227		$	203,812		$	(281,248	)	$	247,444

⁽¹⁾	Includes all other subsidiaries of ACE Limited and intercompany eliminations.

⁽²⁾	Includes ACE Limited parent company eliminations.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Condensed Consolidating Statement of Cash Flows

For the three months ended March 31, 2004

(in thousands of U.S. dollars)


	ACE Limited (Parent Co. Guarantor)			ACE INA Holdings, Inc. (Subsidiary Issuer)			ACE Financial Services, Inc. (Subsidiary Issuer)			Other ACE Limited Subsidiaries and Eliminations ⁽¹⁾			ACE Limited Consolidated
Net cash flows from (used for) operating activities	$	(29,876	)	$	820,708		$	23,103		$	358,187		$	1,172,122

Cash flows from investing activities
Purchases of fixed maturities		(26,877	)		(2,801,197	)		(40,839	)		(3,122,209	)		(5,991,122	)
Purchases of equity securities		—			(36,302	)		—			(72,874	)		(109,176	)
Sales of fixed maturities		—			2,039,543			20,816			2,834,789			4,895,148
Sales of equity securities		—			35,840			—			69,529			105,369
Maturities of fixed maturities		—			—			—			160			160
Net realized gains (losses) on investment derivatives		(14,021	)		5,031			—			8,113			(877	)
Capitalization of subsidiaries		(37,987	)		57,994			—			(20,007	)		—
Dividends received from subsidiaries		235,834			—			—			(235,834	)		—
Other		—			(21,057	)		4,913			23,076			6,932

Net cash flows from (used for) investing activities	$	156,949		$	(720,148	)	$	(15,110	)	$	(515,257	)	$	(1,093,566	)

Cash flows from financing activities
Dividends paid on Ordinary Shares		(53,182	)		—			—			—			(53,182	)
Dividends paid on Preferred Shares		(11,213	)		—			—			—			(11,213	)
Proceeds from short-term debt, net		—			(14	)		—			—			(14	)
Advances to (from) affiliates		(108,927	)		—			—			108,927			—
Proceeds from exercise of options for Ordinary Shares		34,406			—			—			—			34,406
Proceeds from Ordinary Shares issued under ESPP		3,683			—			—			—			3,683

Net cash flows from (used for) financing activities	$	(135,233	)	$	(14	)	$	—		$	108,927		$	(26,320	)

Net increase (decrease) in cash		(8,160	)		100,546			7,993			(48,143	)		52,236
Cash – beginning of period		27,260			167,667			23,112			343,611			561,650

Cash – end of period	$	19,100		$	268,213		$	31,105		$	295,468		$	613,886

⁽¹⁾	Includes all other subsidiaries of ACE Limited and intercompany eliminations.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Condensed Consolidating Statement of Cash Flows

For the three months ended March 31, 2003

(in thousands of U.S. dollars)


	ACE Limited (Parent Co. Guarantor)			ACE INA Holdings, Inc. (Subsidiary Issuer)			ACE Financial Services, Inc. (Subsidiary Issuer)			Other ACE Limited Subsidiaries and Eliminations ⁽¹⁾			ACE Limited Consolidated
Net cash flows from (used for) operating activities	$	(45,560	)	$	222,213		$	31,363		$	392,621		$	600,637

Cash flows from investing activities
Purchases of fixed maturities		(64,496	)		(1,565,382	)		(82,159	)		(2,799,388	)		(4,511,425	)
Purchases of equity securities		—			(18,652	)		—			(17,336	)		(35,988	)
Sales of fixed maturities		60,133			753,121			59,844			2,936,626			3,809,724
Sales of equity securities		—			18,545			—			10,699			29,244
Maturities of fixed maturities		—			—			—			3,180			3,180
Net realized losses on investment derivatives		—			—			—			(31	)		(31	)
Capitalization of subsidiaries		(392,107	)		378,170			—			13,937			—
Dividends received from subsidiaries		231,000			—			—			(231,000	)		—
Other		—			(21,381	)		(5,504	)		(10,394	)		(37,279	)

Net cash flows from (used for) investing activities	$	(165,470	)	$	(455,579	)	$	(27,819	)	$	(93,707	)	$	(742,575	)

Cash flows from financing activities
Dividends paid on Ordinary Shares		(44,659	)		—			—			—			(44,659	)
Dividends paid on Mezzanine equity		(6,415	)		—			—			—			(6,415	)
Proceeds from short-term debt, net		—			498			—			—			498
Advances to (from) affiliates		264,851			(223	)		—			(264,628	)		—
Proceeds from exercise of options for Ordinary Shares		3,141			—			—			—			3,141
Proceeds from Ordinary Shares issued under ESPP		3,387			—			—			—			3,387

Net cash flows from (used for) financing activities	$	220,305		$	275		$	—		$	(264,628	)	$	(44,048	)

Net increase (decrease) in cash		9,275			(233,091	)		3,544			34,286			(185,986	)
Cash – beginning of period		2,150			478,161			4,438			178,606			663,355

Cash – end of period	$	11,425		$	245,070		$	7,982		$	212,892		$	477,369

⁽¹⁾	Includes all other subsidiaries of ACE Limited and intercompany eliminations.

15.

Segment information

The Company operates through four business segments: Insurance – North American, Insurance – Overseas General, Global Reinsurance and Financial Services. These segments distribute their products through various forms of brokers and agencies. Insurance - North American, Insurance - Overseas General and Global Reinsurance utilize direct marketing programs to reach clients, while Financial Services operates with major U.S. financial guaranty insurers, mortgage guaranty insurers in the U.S., U.K. and Australia, title insurers and European trade credit insurers. Additionally, Insurance—North American has formed internet distribution channels for some of its products and Global Reinsurance and Financial Services have established relationships with reinsurance intermediaries.

The Insurance – North American segment includes the operations of ACE USA, ACE Canada and ACE Bermuda, excluding the financial solutions business in both the U.S. and Bermuda, which are included in the Financial Services segment. These operations provide a broad range of property and casualty insurance and reinsurance products, including excess liability, excess property, professional lines, aerospace, accident and health coverages and claim and risk management products and services, to a diverse group of commercial and non-commercial enterprises and consumers. The operations of ACE USA also include the run-off operations, which include Brandywine, Commercial Insurance Services, residual market workers’ compensation business, pools and syndicates

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

not attributable to a single business group, the run-off of open market facilities and the run-off results of various other smaller exited lines of business. Run-off operations do not actively sell insurance products, but are responsible for the management of existing policies and related claims.

The Insurance – Overseas General segment consists of ACE International and the insurance operations of ACE Global Markets. ACE International includes ACE INA’s network of indigenous insurance operations, which were acquired in 1999. The segment has four regions of operations: ACE Asia Pacific, ACE Far East, ACE Latin America and the ACE European Group, (which comprises ACE Europe, ACE INA UK Limited and the insurance operations of ACE Global Markets). ACE Global Markets provides funds at Lloyd’s to support underwriting by the Lloyd’s syndicates managed by Lloyd’s managing agencies which are owned by the Company (including for segment purposes Lloyd’s operations owned by ACE Financial Services). The reinsurance operation of ACE Global Markets is included in the Global Reinsurance segment. Companies within the Insurance – Overseas General segment write a variety of insurance products including property, casualty, professional lines (D&O and E&O), marine, energy, aviation, political risk, consumer-oriented products and A&H – principally being supplemental accident.

The Global Reinsurance segment comprises ACE Tempest Re Bermuda, ACE Tempest Re USA and ACE Tempest Re Europe. These subsidiaries provide property catastrophe, casualty and property reinsurance. Global Reinsurance also includes the operations of ACE Tempest Life Re. The principal business of ACE Tempest Life Re is to provide reinsurance coverage to other life insurance companies.

The Financial Services segment includes the financial guaranty business of ACE Guaranty Corp. and ACE Capital Re International and the financial solutions business in the U.S. and Bermuda. The financial guaranty businesses serve the U.S. domestic and international financial guaranty insurance and reinsurance markets. Their principal business is the insurance and reinsurance of investment grade public finance and asset-backed debt issues (insured and ceded by the primary bond insurance companies), and insurance and reinsurance of credit-default swaps. In addition to financial guaranty business, the companies provide trade credit reinsurance and structured solutions to problems of financial and risk management through reinsurance and other forms of credit enhancement products, as well as mortgage guaranty reinsurance and title reinsurance. The financial solutions business includes insurance and reinsurance solutions to complex risks that generally cannot be adequately addressed by the traditional insurance marketplace. It consists of securitization and risk trading, finite and structured risk products, and retroactive contracts in the form of loss portfolio transfers.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

a)	The following tables summarize the operations by segment for the three months ended March 31, 2004 and 2003.

b)	For segment reporting purposes, certain items have been presented in a different manner than in the consolidated financial statements.

Statement of Operations by Segment

For the three months ended March 31, 2004

(in thousands of U.S. Dollars)


	Insurance – North American			Insurance - Overseas General			Global Reinsurance			Corporate and Other⁽¹⁾			Consolidated Property & Casualty⁽²⁾			Financial Services			ACE Consolidated
Operations Data
Gross premiums written	$	1,905,331		$	1,673,610		$	576,512		$	—		$	4,155,453		$	207,566		$	4,363,019
Net premiums written		1,211,638			1,198,342			569,335			—			2,979,315			207,784			3,187,099
Net premiums earned		1,006,965			1,033,880			329,388			—			2,370,233			178,913			2,549,146
Losses and loss expenses		695,958			601,017			159,686			—			1,456,661			85,936			1,542,597
Policy acquisition costs		100,463			184,632			63,997			—			349,092			10,595			359,687
Administrative expenses		103,276			137,516			18,572			30,014			289,378			24,519			313,897

Underwriting income (loss)		107,268			110,715			87,133			(30,014	)		275,102			57,863			332,965

Life
Gross premiums written		—			—			52,456			—			—			—			52,456
Net premiums written		—			—			51,067			—			—			—			51,067
Net premiums earned		—			—			50,531			—			—			—			50,531
Life and annuity benefits		—			—			41,724			—			—			—			41,724
Policy acquisition costs		—			—			5,227			—			—			—			5,227
Administrative expenses		—			—			1,008			—			—			—			1,008
Net investment income		—			—			8,391			—			—			—			8,391

Underwriting income		—			—			10,963			—			—			—			10,963

Net investment income		104,325			47,434			26,465			(1,700	)		176,524			53,005			229,529
Other income (expense)		(3,295	)		(3,389	)		588			—			(6,096	)		(10,984	)		(17,080	)
Interest expense		5,155			—			—			37,666			42,821			1,451			44,272
Income tax expense (benefit)		54,969			43,549			2,968			(13,432	)		88,054			13,244			101,298

Income (loss) excluding net realized gains (losses)		148,174			111,211			122,181			(55,948	)		314,655			85,189			410,807
Net realized gains (losses)		51,726			24,185			(9,625	)		(14,021	)		52,265			4,996			57,261
Tax effect of net realized gains (losses)		(6,648	)		(7,406	)		4			—			(14,050	)		(7,193	)		(21,243	)

Net income (loss)	$	193,252		$	127,990		$	112,560		$	(69,969	)	$	352,870		$	82,992		$	446,825

⁽¹⁾	Includes ACE Limited, ACE INA Holdings and intercompany eliminations.

⁽²⁾	Excludes life reinsurance business.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Statement of Operations by Segment

For the three months ended March 31, 2003

(in thousands of U.S. Dollars)


	Insurance – North American			Insurance – Overseas General			Global Reinsurance		Corporate and Other⁽¹⁾			Consolidated Property & Casualty⁽²⁾			Financial Services			ACE Consolidated
Operations Data
Gross premiums written	$	1,664,184		$	1,405,858		$	461,990	$	—		$	3,532,032		$	532,071		$	4,064,103
Net premiums written		933,345			980,923			442,744		—			2,357,012			525,729			2,882,741
Net premiums earned		752,981			813,703			248,046		—			1,814,730			209,241			2,023,971
Losses and loss expenses		512,359			493,598			115,790		—			1,121,747			161,086			1,282,833
Policy acquisition costs		83,053			152,226			46,096		—			281,375			10,977			292,352
Administrative expenses		87,363			114,166			14,963		24,446			240,938			18,017			258,955

Underwriting income (loss)		70,206			53,713			71,197		(24,446	)		170,670			19,161			189,831

Life
Gross premiums written		—			—			48,661		—			—			—			48,661
Net premiums written		—			—			47,311		—			—			—			47,311
Net premiums earned		—			—			47,561		—			—			—			47,561
Life and annuity benefits		—			—			48,499		—			—			—			48,499
Policy acquisition costs		—			—			3,542		—			—			—			3,542
Administrative expenses		—			—			717		—			—			—			717
Net investment income		—			—			7,641		—			—			—			7,641

Underwriting income		—			—			2,444		—			—			—			2,444

Net investment income		101,061			35,208			18,680		(6,903	)		148,046			50,725			198,771
Other income (expense)		(6,443	)		(1,000	)		1,031		—			(6,412	)		258			(6,154	)
Interest expense		5,846			—			72		37,552			43,470			1,459			44,929
Income tax expense (benefit)		38,673			23,382			3,731		(14,058	)		51,728			9,075			60,803

Income (loss) excluding net realized gains (losses)		120,305			64,539			89,549		(54,843	)		217,106			59,610			279,160
Net realized gains (losses)		(18,065	)		(12,512	)		2,866		(8,610	)		(36,321	)		(3,768	)		(40,089	)
Tax effect of net realized gains (losses)		2,749			5,069			248		—			8,066			307			8,373

Net income (loss)	$	104,989		$	57,096		$	92,663	$	(63,453	)	$	188,851		$	56,149		$	247,444

⁽¹⁾	Includes ACE Limited, ACE INA Holdings and intercompany eliminations.

⁽²⁾	Excludes life reinsurance business.

Underwriting assets for property and casualty and financial services are reviewed in total by management for purposes of decision-making. We do not allocate assets to our segments. Assets are specifically identified for our life reinsurance operations and corporate holding companies, including ACE Limited and ACE INA Holdings.

The following table summarizes the identifiable assets at March 31, 2004 and December 31, 2003.


	March 31 2004		December 31 2003
	(in millions of U.S. dollars)
Life reinsurance	$	667	$	698
Corporate		2,407		2,483
All other		49,405		46,372

Total assets	$	52,479	$	49,553

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following tables summarize the revenues of each segment by product offering for the three months ended March 31, 2004 and 2003.

Net premiums earned by type of premium

Three Months Ended March 31, 2004


	Property & Casualty		Life, Accident & Health		Financial Guaranty		Financial Solutions		ACE Consolidated
	(in millions of U.S. dollars)
Insurance – North American	$	965	$	42	$	—	$	—	$	1,007
Insurance – Overseas General		821		213		—		—		1,034
Global Reinsurance		329		51		—		—		380
Financial Services		—		—		87		92		179

	$	2,115	$	306	$	87	$	92	$	2,600


Three Months Ended March 31, 2003

	Property & Casualty		Life, Accident & Health		Financial Guaranty		Financial Solutions		ACE Consolidated
	(in millions of U.S. dollars)
Insurance – North American	$	716	$	37	$	—	$	—	$	753
Insurance – Overseas General		634		180		—		—		814
Global Reinsurance		248		48		—		—		296
Financial Services		—		—		78		131		209

	$	1,598	$	265	$	78	$	131	$	2,072

16.

Subsequent event – sale of financial and mortgage guaranty business through Assured Guaranty Ltd.

On April 28, 2004, the Company completed the sale of approximately 65 percent of its financial and mortgage guaranty reinsurance and insurance businesses (transferred business) through the initial public offering (IPO) of 49 million common shares of Assured Guaranty Ltd. (Assured Guaranty) at $18.00 per share. Assured Guaranty was incorporated in Bermuda in August 2003 for the sole purpose of becoming a holding company for the transferred business. Subsequent to the IPO, the Company beneficially owns 26 million common shares, or approximately 35 percent of Assured Guaranty’s outstanding common shares. If the underwriters of the IPO fully exercise an option to purchase an additional 7.35 million common shares at the initial public offering price of $18.00 per share, we will ultimately retain 18.65 million common shares, or approximately 25 percent of Assured Guaranty. Such option is exercisable through May 22, 2004.

As part of the overall plan for the sale, the following formation transactions occurred:

•	On February 20, 2004, through ACE Financial Services Inc., the Company formed Assured Guaranty US Holdings, a Delaware holding company to hold the shares of Assured Guaranty Corp. and Assured Guaranty Financial Products.

•	On April 15, 2004, ACE Capital Re Overseas Ltd. (Bermuda) transferred 100 percent of the stock ownership in ACE Capital Title to ACE Bermuda in exchange for a $39.3 million promissory note, which was repaid upon completion of the offering.

•	On April 22, 2004, ACE Financial Services Inc. transferred the shares of Assured Guaranty Corp. and Assured Guaranty Financial Products to Assured Guaranty US Holdings in exchange for stock of Assured Guaranty US Holdings and a $200 million promissory note.

On April 27, 2004, the following transactions occurred:

•

ACE Financial Services Inc. transferred 100 percent of the stock ownership in Assured Guaranty US Holdings and Assured Guaranty Finance Overseas to Assured Guaranty in exchange for 35,171,000 common shares of Assured Guaranty and promissory notes of Assured Guaranty in an aggregate amount of $1 million; and

•	ACE Bermuda transferred 100 percent of the stock of ACE Capital Re International Ltd. (Bermuda) to Assured Guaranty in exchange for 39,829,000 common shares of Assured Guaranty and a $1 million promissory note of Assured Guaranty.

ACE LIMITED AND SUBSIDIARIES

NOTES TO THE INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

In connection with the IPO, the Company has entered into reinsurance agreements with Assured Guaranty in order to retain the insurance liabilities of certain run-off businesses, including trade credit and residual value insurance. Additionally, the Company has entered into a number of agreements with Assured Guaranty that will govern certain aspects of the relationship after this offering, including service agreements under which the Company will provide certain services to Assured Guaranty for a period of time.

Pursuant to the completion of the IPO on April 28, 2004, the Company received net proceeds of approximately $840 million. The Company expects the transaction to result in an estimated pretax loss of $40 million to $60 million and an estimated after tax loss of $50 million to $70 million. The ultimate loss is dependent on the equity of Assured Guaranty as of the date of sale and will be reflected in operating results in the second quarter of 2004. Subsequent to the completion of the offering, the Company will no longer consolidate its interest in the Assured Guaranty companies. Instead, the retained interest will be accounted for under the equity method of accounting with the Company’s carrying value of its investment and proportionate share of earnings reflected in one line of the balance sheet and income statement, respectively. Financial results related to the transferred business is included in the Financial Services segment.

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following is a discussion of our results of operations, financial condition, and liquidity and capital resources as of and for the three months ended March 31, 2004. Our results of operations and cash flows for any interim period are not necessarily indicative of our results for the full year. This discussion should be read in conjunction with our Consolidated Financial Statements and related notes and our Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2003.

Cautionary Statement Regarding Forward-Looking Information

The Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for forward-looking statements. Any written or oral statements made by us or on our behalf may include forward-looking statements that reflect our current views with respect to future events and financial performance. These forward-looking statements are subject to certain uncertainties and other factors that could cause actual results to differ materially from such statements. These uncertainties and other factors (which are described in more detail elsewhere herein and in other documents we file with the Securities and Exchange Commission (SEC)) include but are not limited to:

•	global political conditions, the occurrence of any terrorist attacks, including any nuclear, biological or chemical events, or the outbreak and effects of war, and possible business disruption or economic contraction that may result from such events;

•	the ability to collect reinsurance recoverable, credit developments of reinsurers, and any delays with respect thereto;

•	the occurrence of catastrophic events or other insured or reinsured events with a frequency or severity exceeding our estimates;

•	actual loss experience from insured or reinsured events;

•

the uncertainties of the loss-reserving and claims-settlement processes, including the difficulties associated with assessing environmental damage and asbestos-related latent injuries, the impact of aggregate-policy-coverage limits, and the impact of bankruptcy protection sought by various asbestos producers and other related businesses;

•	judicial decisions and rulings, new theories of liability, and legal tactics;

•	the effects of public company bankruptcies and/or accounting restatements, as well as disclosures by and investigations of public companies relating to possible accounting irregularities, and other corporate governance issues, including the effects of such events on:

•

the capital markets;

•

the markets for directors and officers and errors and omissions insurance; and

•

claims and litigation arising out of such disclosures or practices by other companies;

•	the impact of the September 11 tragedy and its aftermath on our insureds, reinsureds, and on the insurance and reinsurance industry;

•	uncertainties relating to governmental, legislative and regulatory policies, developments and treaties, which, among other things, could subject us to insurance regulation or taxation in additional jurisdictions or affect our current operations;

•	the actual amount of new and renewal business, market acceptance of our products, and risks associated with the introduction of new products and services and entering new markets, including regulatory constraints on exit strategies;

•	the competitive environment in which we operate, including trends in pricing or in policy terms and conditions, which may differ from our projections;

•	actions that rating agencies may take from time to time, such as changes in our claims-paying, financial strength or credit ratings;

•	developments in global financial markets, including changes in interest rates, stock markets and other financial markets, and foreign currency exchange rate fluctuations, which could affect our investment portfolio and financing plans;

•	changing rates of inflation and other economic conditions;

•	the amount of dividends received from subsidiaries;

•	loss of the services of any of our executive officers without suitable replacements being recruited in a reasonable time frame;

•	the ability of technology to perform as anticipated; and

•	management’s response to these factors.

The words “believe”, “anticipate”, “estimate”, “project”, “should”, “plan”, “expect”, “intend”, “hope”, “will likely result” or “will continue”, and variations thereof and similar expressions, identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of their dates. We undertake no obligation to publicly update or review any forward-looking statements, whether as a result of new information, future events or otherwise.

Overview

ACE Limited (ACE) is the Bermuda-based holding company of the ACE Group of Companies incorporated with limited liability under the Cayman Islands Companies Law. We created our business office in Bermuda in 1985 when we initially incorporated the Company and we continue to maintain our business office in Bermuda. Through our various operating subsidiaries, we provide a broad range of insurance and reinsurance products to insureds worldwide through operations in the U.S. and almost 50 other countries. Our long-term business strategy focuses on achieving underwriting income and providing value to our clients and shareholders through the utilization of our substantial capital base in the insurance and reinsurance markets.

As an insurance and reinsurance company, we generate gross revenues from two principal sources, premiums which are usually paid in advance of loss payments, and dividends and interest income earned on invested assets. Cash flow is generated from premiums collected and investment income received less paid losses and loss expenses. Generally when an insurance company writing long-tail business grows, as ACE has over the last several years, its cash flows tend to be positive. ACE generated approximately $1.2 billion in positive operating cash flow for the quarter ended March 31, 2004, while cash and invested assets over this period increased $2.2 billion.

Invested assets are generally held in liquid, investment grade fixed income securities of relatively short duration. We also invest a small portion of our assets in less liquid or higher risk assets in an attempt to achieve higher returns. Claims payments in any short-term period are highly unpredictable due to the random nature of loss events and the timing of claims awards or settlements. The value of investments held to pay future claims is subject to market forces such as the level of interest rates, stock market volatility and credit events such as corporate defaults. The actual cost of claims is also volatile based on loss trends, inflation rates, court awards and catastrophic events. We believe that our cash balances, our highly liquid investments, credit facilities and reinsurance protection provide sufficient liquidity to meet any unforeseen claim demands that might occur in the year ahead.

The insurance industry is highly competitive with many companies offering similar coverage. Following two years of sharply rising prices, property insurance rates have leveled off or have declined slightly. The global property catastrophe reinsurance market has also softened with adequate capacity available for good risks. In other lines with rising loss costs, such as casualty and liability lines, or directors and officers liability insurance, rate increases are beginning to decelerate while terms and conditions remain favorable. Overall, we believe that current rate levels are adequate for most of the risks seeking coverage and that favorable industry conditions should persist through the balance of 2004.

Sale of Financial and Mortgage Guaranty Business through Assured Guaranty Ltd.

On April 28, 2004, we completed the sale of approximately 65 percent of our financial and mortgage guaranty reinsurance and insurance businesses (transferred business) through the initial public offering (IPO) of 49 million common shares of Assured Guaranty Ltd. (Assured Guaranty) at $18.00 per share. Assured Guaranty was incorporated in Bermuda in August 2003 for the sole purpose of becoming a holding company for our transferred business. Subsequent to the offering, we beneficially own 26 million common shares, or approximately 35 percent of Assured Guaranty’s outstanding common shares. If the underwriters of the IPO fully exercise

an option to purchase an additional 7.35 million common shares at the initial public offering price of $18.00 per share, we will ultimately retain 18.65 million common shares, or approximately 25 percent of Assured Guaranty. Such option is exercisable through May 22, 2004.

In connection with the IPO, we have entered into reinsurance agreements with Assured Guaranty in order to retain the insurance liabilities of certain run-off businesses, primarily including trade credit and residual value insurance. Additionally, we have entered into a number of agreements with Assured Guaranty that will govern certain aspects of our relationship after this offering, including service agreements under which we will provide certain services to Assured Guaranty for a period of time. For more information on these agreements, refer to the section entitled “Relationships with ACE” within Assured Guaranty’s amended Form S-1, filed April 22, 2004.

The completion of the IPO generated net proceeds to us of approximately $840 million and we plan to use these proceeds to support our P&C business and strengthen our balance sheet capital position. We expect the transaction to result in an estimated pretax loss of $40 million to $60 million and an estimated after tax loss of $50 million to $70 million. The ultimate loss is dependent on the equity of Assured Guaranty as of the date of sale and will be reflected in our operating results in the second quarter of 2004.

Critical Accounting Estimates

Our Consolidated Financial Statements include amounts that, either by their nature or due to requirements of accounting principles generally accepted in the U.S. (GAAP), are determined using best estimates and assumptions. While we believe that the amounts included in our Consolidated Financial Statements reflect our best judgment, actual amounts could ultimately materially differ from those currently presented in our Consolidated Financial Statements. We believe the items that require the most subjective and complex estimates are:

•	unpaid losses and loss expense reserves, including asbestos reserves;

•	reinsurance recoverable, including our bad debt provision;

•	impairments to the carrying value of our investment portfolio;

•	the valuation of our deferred tax assets;

•	the fair value of certain derivatives; and

•	the valuation of goodwill.

We believe our accounting policies for these items are of critical importance to our Consolidated Financial Statements. More information regarding the estimates and assumptions required to arrive at these amounts is included in the section entitled “Critical Accounting Estimates” in our Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2003.

Results of Operations – Three Months Ended March 31, 2004 and 2003

The discussions that follow include tables, which show both our consolidated and segment operating results for the three months ended March 31, 2004 and 2003. In presenting our operating results, we have discussed our performance with reference to underwriting results and with reference to income excluding net realized gains (losses) and the related income tax, which are both non-GAAP measures. Our consolidated and segment operating results below provide a reconciliation of underwriting results and income excluding net realized gains (losses) to net income, which we consider to be the most directly comparable GAAP financial measure. We consider these measures, which may be defined differently by other companies, to be important to an understanding of our overall results of operations. Underwriting results are calculated by subtracting losses and loss expenses, life and annuity benefits, policy acquisition costs and administrative expenses from net premiums earned. We use underwriting results and operating ratios to monitor the results of our operations without the impact of certain factors, including investment income, other income and expenses, interest and income tax expense and net realized gains (losses). We exclude net realized gains (losses), including the tax effect, when analyzing our operations because the amount of these gains (losses) is heavily influenced by, and fluctuates in part according to, the availability of market opportunities, and are generally driven by economic factors that are not necessarily consistent with key drivers of underwriting performance. We believe the use of these measures enhances the understanding of our results of operations by highlighting the underlying profitability of our insurance business. Underwriting results and income excluding net realized gains (losses) should not be viewed as a substitute for measures determined in accordance with GAAP.

Consolidated Operating Results


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Net premiums written	$	3,238		$	2,930
Net premiums earned		2,600			2,072
Losses and loss expenses		1,542			1,283
Life and annuity benefits		42			48
Policy acquisition costs		365			296
Administrative expenses		315			260

Underwriting income		336			185

Net investment income		238			206
Net realized gains (losses)		57			(40	)
Other expense		17			6
Interest expense		44			45
Income tax expense		123			53

Net income	$	447		$	247

Loss and loss expense ratio		60.5	%		63.4	%
Policy acquisition cost ratio		14.1	%		14.4	%
Administrative expense ratio		12.3	%		12.8	%
Combined ratio		86.9	%		90.6	%

Net premiums written, which reflect the premiums we retain after purchasing reinsurance protection, increased 11 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. Adjusting for the appreciation of foreign currencies relative to the U.S. dollar, net premiums written increased seven percent in the current quarter. Net premiums written increased 26 percent (21 percent adjusting for foreign exchange), in our P&C businesses and decreased 60 percent in our Financial Services business. The increase in our P&C business is primarily a result of a robust market for casualty business. The decline in the Financial Services business was primarily due to the termination of equity CDOs as well as the non-renewal of several large accounts. In addition, our retention ratio (the ratio of net premiums written to gross premiums written) increased to 73 percent in the quarter ended March 31, 2004, compared with 71 percent in the same quarter of 2003. This reflects a conscious decision on our part to retain more of the business we write, in order to take advantage of the favorable market conditions.

The following table provides a consolidated breakdown of net premiums earned by line of business for the three months ended March 31, 2004 and 2003.


	Three Months Ended March 31
	2004		2003
	(in millions of U.S. dollars)
Property and all other	$	752	$	728
Casualty		1,363		870
Personal accident		255		217

Total P&C		2,370		1,815
Global Re – life		51		48
Financial guaranty		87		78
Financial solutions		92		131

Net premiums earned	$	2,600	$	2,072

Net premiums earned, which reflect the portion of net premiums written that were recorded as revenues for the period, increased 31 percent in our P&C businesses (25 percent adjusting for foreign exchange), and decreased 14 percent in our Financial Services business. The change in net premiums earned for both the P&C and Financial Services businesses is consistent with the trend in net premiums written.

Underwriting results for our P&C and Financial Services business are discussed by reference to the combined ratio, the loss and loss expense ratio, the policy acquisition cost ratio and the administrative expense ratio. We calculate these ratios by dividing the respective expense amounts of our P&C and Financial Services business by net premiums earned from our P&C and Financial Services business. We do not calculate these ratios for the life reinsurance business, because they are not appropriate measures of the underwriting results for that business. The combined ratio is determined by adding the loss and loss expense ratio, the policy acquisition cost ratio and the administrative expense ratio. A combined ratio under 100 percent indicates underwriting income, and a combined ratio exceeding 100 percent indicates underwriting losses.

The loss and loss expense ratio decreased in the quarter ended March 31, 2004, compared with the same quarter of 2003. We have continued to take advantage of increasing rates and improved market conditions for casualty business, which is typically written at higher loss ratios than property business. In some cases, the losses for casualty business can emerge long after the coverage period has expired, and claim settlement can be more complex than for property claims, which tends to lengthen the settlement period. However, because of the longer claim pay-out duration, we benefit from investing the premiums for a longer period of time, therefore potentially increasing our net investment income. The effect on the loss and loss expense ratio of shifting towards casualty business in the quarter ended March 31, 2004, has been partially offset by rate increases on casualty lines of business. Also impacting our loss and loss expense ratio is prior period development. We incurred $8 million of favorable prior period development in the quarter ended March 31, 2004, compared with $34 million of adverse development in the same quarter of 2003. Our segment discussions below contain more information about prior period development.

Our policy acquisition costs include commissions, premium taxes, underwriting and other costs that vary with, and are primarily related to, the production of premium. The policy acquisition cost ratio decreased in the quarter ended March 31, 2004, due to changes in business mix. Administrative expenses include all other operating costs. Administrative expenses increased in the quarter ended March 31, 2004, to support the growth in our business and partially due to the depreciation of the U.S. dollar, which had the effect of increasing administrative expenses by $13 million. The administrative expense ratio improved due to the increase in net premiums earned.

Net investment income increased 16 percent to $238 million in the quarter ended March 31, 2004, compared with $206 million for the same quarter of 2003. This increase is due to higher average invested assets, partially offset by a decline in the investment portfolio’s yield due to the impact of lower interest rates. See the section entitled “Net Investment Income” for more information.

Underwriting income increased 82 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003, primarily due to the increase in net premiums earned. Our net income increased 81 percent due to higher underwriting income and the impact of net realized gains of $57 million in the quarter ended March 31, 2004, compared with net realized losses of $40 million in same quarter of 2003. The appreciation of foreign currencies relative to the U.S. dollar added $12 million to our current quarter’s net income.

Segment Operating Results – Three Months Ended March 31, 2004 and 2003

Insurance - North American

The Insurance – North American segment comprises our P&C insurance operations in the U.S., Bermuda and Canada. This segment writes a variety of insurance products including property, liability (general liability and workers’ compensation), professional lines (directors and officers (D&O) and errors and omissions coverages (E&O)), marine, program business, accident and health (A&H) - principally being personal accident, aerospace, consumer-oriented products and other specialty lines.


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Net premiums written	$	1,212		$933
Net premiums earned		1,007		753
Losses and loss expenses		696		512
Policy acquisition costs		101		83
Administrative expenses		103		88

Underwriting income		107		70

Net investment income		104		101
Other expense		3		6
Interest expense		5		6
Income tax expense		55		39

Income excluding net realized gains (losses)		148		120
Net realized gains (losses)		52		(18	)
Tax effect of net realized gains (losses)		(7	)	3

Net income	$	193		$105

Loss and loss expense ratio		69.1	%	68.0	%
Policy acquisition cost ratio		10.0	%	11.0	%
Administrative expense ratio		10.3	%	11.6	%
Combined ratio		89.4	%	90.6	%

Insurance – North American increased its net premiums written 30 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. Insurance – North American has been growing its proportion of casualty lines of business as rates, terms and conditions have been more favorable than property business. Property rates have stabilized, with some downward pressure experienced in the U.S. over the last year. Additionally, Insurance – North American’s retention ratio increased to 64 percent for the quarter ended March 31, 2004, compared with 56 percent for the same quarter of 2003. Insurance – North American increased its retention in order to take advantage of improved market conditions for rates and terms and to reduce reliance on reinsurance.

The following table provides an entity/divisional breakdown of Insurance – North American’s net premiums earned for the three months ended March 31, 2004 and 2003.


	Three Months Ended March 31
	2004		2003
	(in millions of U.S. dollars)
ACE USA	$	650	$	466
ACE Westchester Specialty		254		194
ACE Bermuda		103		93

Net premiums earned	$	1,007	$	753

ACE USA, which includes ACE operations in Canada, provides a broad array of products and services to corporate and consumer clients throughout the U.S. through licensed insurance companies. Distribution channels include retail brokers, agents, managing general agents, and managing general underwriters. ACE USA’s net premiums earned increased 39 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. ACE USA’s growth in the current quarter was driven by casualty business, particularly professional lines, which have been experiencing a favorable rate environment and more restrictive policy terms and conditions. ACE USA also experienced growth in excess workers’ compensation (primarily high deductible policies in national accounts business) due to new business and rate increases. Additionally, net premiums earned benefited from increased retention – ACE USA’s retention ratio increased to 66 percent in the quarter ended March 31, 2004, compared with 55 percent in the same quarter of 2003.

ACE Westchester Specialty specializes in the wholesale distribution of excess and surplus lines property, inland marine and

casualty coverages and products. ACE Westchester Specialty also provides coverage for agriculture business and specialty programs

through its Program division. ACE Westchester Specialty’s net premiums earned for the quarter ended March 31, 2004, increased 31

percent compared with the same quarter of 2003. This increase primarily reflects growth in agriculture business over the last year and

higher casualty writings due to the robust casualty market.

ACE Bermuda, which specializes in providing professional lines and excess liability coverage, reported an increase in net premiums earned of 11 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. ACE Bermuda reported growth in excess liability and professional lines business on the strength of increased rates and new business.

The loss and loss expense ratio increased in the quarter ended March 31, 2004, compared with the same quarter of 2003. Insurance – North American has been increasing its casualty business, which has a longer claim pay-out duration and typically produces higher loss and loss expense ratios than property business. The effect on the loss and loss expense ratio of shifting towards casualty business in the quarter ended March 31, 2004, has been partially offset by rate increases on casualty lines of business. Insurance – North American incurred adverse prior period development of $15 million in the quarter ended March 31, 2004, compared with adverse development of $25 million for the same quarter of 2003. The adverse development in the current quarter relates primarily to excess liability, aviation and auto residual value business, partially offset by favorable development on property, satellite and political risk business.

The policy acquisition cost ratio decreased for the quarter ended March 31, 2004, compared with the same quarter of 2003. This decrease is primarily due to a reduction in premium taxes and commission expenses, relative to the growth in net premiums earned, particularly on professional lines. Administrative expenses increased primarily due to the increased costs associated with servicing the growth in Insurance – North American’s product lines. The administrative expense ratio declined due to an increase in net premiums earned that outpaced the growth in expenses.

Income excluding net realized gains (losses) increased 23 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. This increase is primarily due to higher underwriting income.

Insurance - Overseas General

The Insurance – Overseas General segment comprises ACE International, our network of indigenous insurance operations, and the insurance operations of ACE Global Markets. The Insurance – Overseas General segment writes a variety of insurance products including property, casualty, professional lines (D&O and E&O), marine, energy, aviation, political risk, consumer-oriented products and A&H – principally being supplemental accident.


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Net premiums written	$	1,198		$	981
Net premiums earned		1,034			814
Losses and loss expenses		601			494
Policy acquisition costs		184			152
Administrative expenses		138			114

Underwriting income		111			54

Net investment income		48			35
Other income (expense)		(3	)		(1	)
Interest expense		—			—
Income tax expense		44			23

Income excluding net realized gains (losses)		112			65
Net realized gains (losses)		24			(13	)
Tax effect of net realized gains (losses)		(7	)		5

Net income	$	129		$	57

Loss and loss expense ratio		58.1	%		60.7	%
Policy acquisition cost ratio		17.9	%		18.7	%
Administrative expense ratio		13.3	%		14.0	%
Combined ratio		89.3	%		93.4	%

Net premiums written increased 22 percent (10 percent adjusting for foreign exchange) in the quarter ended March 31, 2004, compared with the same quarter of 2003. The retention ratio for Insurance—Overseas General increased to 72 percent in the quarter ended March 31, 2004, compared with 70 percent in the same quarter of 2003. The increase in retention is primarily due to the increased retention ratio at ACE International as a result of the non-renewal of certain highly reinsured business at ACE Europe and ACE Latin America

ACE International’s P&C operations are organized geographically along product lines. Property insurance products include traditional commercial fire coverage as well as energy industry-related coverages. Principal casualty products are commercial general liability and liability coverage for multinational organizations. Through our professional lines, we provide D&O and professional indemnity coverages for medium to large clients. The A&H insurance operations provide principally accident coverage to individuals and groups outside of U.S. insurance markets. ACE International’s net premiums written increased 28 percent (11 percent adjusting for foreign exchange) to $926 million for the quarter ended March 31, 2004, compared with $725 million for the same quarter of 2003. This increase is primarily due to the weakening of the U.S. dollar and also due to higher rates and higher production at ACE Europe and ACE Asia Pacific. ACE Europe, which accounted for approximately two-thirds of ACE International’s net premiums written for the quarter ended March 31, 2004, reported higher P&C production due to rising rates and new business, partially offset by a decline in A&H business due to non-renewal of a significant account. Asia Pacific reported strong growth in its A&H lines due to new business and rates holding firm. ACE Asia Pacific’s P&C lines also increased due to rate increases and higher production on casualty lines, partially offset by property rate reductions.

ACE Global Markets primarily underwrites P&C insurance through Lloyd’s Syndicate 2488 and ACE INA UK Limited. The main lines of business include aviation, property, energy, professional lines, marine, political risk and A&H. ACE Global Markets’ net premiums written increased 6 percent (2 percent adjusting for foreign exchange) to $272 million in the quarter ended March 31, 2004, compared with $256 million in the same quarter of 2003. Rates for certain lines of business have stabilized however, there are a number of business classes, most notably professional lines and to a lesser extent marine and A&H, where rates continue to rise.

The table below shows net premiums earned by each of the Insurance – Overseas General segment’s key components for the three months ended March 31, 2004, and 2003.


	Three Months Ended March 31
	2004		2003
	(in millions of U.S. dollars)
ACE Europe	$	463	$	324
ACE Asia Pacific		115		84
ACE Far East		96		91
ACE Latin America		80		67

ACE International		754		566
ACE Global Markets		280		248

Net premiums earned	$	1,034	$	814

ACE International’s increase in net premiums earned for the quarter ended March 31, 2004, is attributed to P&C and A&H lines across all geographical regions, with the exception of ACE Far East, where growth in net premiums written has been minimal. The increase in net premiums earned is principally driven by growth in net premiums written in these lines over the last two years and the appreciation of foreign currencies against the U.S. dollar over the last several quarters. ACE Global Markets’ increase in net premiums earned in the quarter ended March 31, 2004, is primarily a result of higher net premiums written over the last two years across most of its product lines. The devaluation of the U.S. dollar accounted for eight percent of Insurance – Overseas General’s net premiums earned in the quarter ended March 31, 2004.

The loss and loss expense ratio for Insurance – Overseas General declined in the quarter ended March 31, 2004, compared with the same quarter of 2003. Insurance – Overseas General reported favorable net prior period development of $8 million for the quarter ended March 31, 2004, compared with favorable net development of $1 million for the same quarter of 2003. ACE International had significant adverse prior period development from U.S. International casualty business and to a lesser extent in other casualty lines in the U.K. and Europe as well as marine and aviation. This was offset by significant favorable prior period development on property catastrophe and casualty lines and to a lesser extent on financial lines and fire, technical and energy lines. Additionally, the increase in net premiums earned resulted in an improvement in the loss and loss expense ratio.

The policy acquisition cost ratio for Insurance – Overseas General improved for the quarter ended March 31, 2004, compared with the same quarter of 2003. This decrease reflects underwriters’ continued focus on reducing commission charges, with improvements seen particularly within ACE Global Market’s financial lines and A&H divisions, together with changes in business mix. Insurance – Overseas General’s administrative expenses increased 21 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003, primarily due to the depreciation of the U.S. dollar and increased staffing at ACE Europe. The administrative expense ratio for Insurance – Overseas General improved due to the increase in net premiums earned coupled with a reduction in Lloyd’s charges within ACE Global Markets.

Underwriting income increased in the quarter ended March 31, 2004, compared with the same quarter of 2003 primarily due to the increase in net premiums earned. Income excluding net realized gains (losses) increased due to the increase in underwriting income and higher net investment income, partially offset by higher income tax expense driven by increased profitability in taxable jurisdictions. The impact of the appreciation of foreign currencies against the U.S. dollar added $12 million to Insurance – Overseas General’s net income in the current quarter.

Global Reinsurance

The Global Reinsurance segment comprises ACE Tempest Re Bermuda, ACE Tempest Re USA, ACE Tempest Re Europe, and ACE Tempest Life Re (ACE Life Re). ACE Life Re is our Bermuda-based life reinsurance operation and is addressed separately.

Property and Casualty Reinsurance


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Net premiums written	$	569		$	443
Net premiums earned		329			248
Losses and loss expenses		159			116
Policy acquisition costs		64			46
Administrative expenses		19			15

Underwriting income		87			71

Net investment income		27			19
Other income (expense)		—			1
Income tax expense		3			4

Income excluding net realized gains		111			87
Net realized gains		15			4

Net income	$	126		$	91

Loss and loss expense ratio		48.5	%		46.7	%
Policy acquisition cost ratio		19.4	%		18.6	%
Administrative expense ratio		5.6	%		6.0	%
Combined ratio		73.5	%		71.3	%

Global Reinsurance’s net premiums written increased 28 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. Over the past two years, significant production gains have been recorded at ACE Tempest Re USA and ACE Tempest Re Europe as these units have benefited from higher rates and increased volume for P&C lines. The increase in Global Reinsurance’s retention ratio also contributed to the increase in net premiums written during the current quarter. Global Reinsurance’s retention ratio increased to 99 percent for the quarter ended March 31, 2004, compared with 96 percent for the same quarter of 2003.

The table below shows net premiums earned by each of the Global Reinsurance segment’s key components for the three months ended March 31, 2004 and 2003.


	Three Months Ended March 31
	2004		2003
	(in millions of U.S. dollars)
ACE Tempest Re Europe	$	75	$	69
ACE Tempest Re USA		169		86
ACE Tempest Re Bermuda		85		93

Net premiums earned	$	329	$	248

Net premiums earned increased 33 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. This increase is driven by growth in non-catastrophe P&C business which comprised approximately 75 percent of the current quarter’s net premiums earned. ACE Tempest Re USA, which focuses on writing property per risk and casualty reinsurance, reported a 97 percent increase in net premiums earned primarily due to increased casualty business written and higher rates. ACE Tempest Re Europe, which writes all lines of traditional and non-traditional P&C lines with an orientation towards specialty and short-tail products reported a nine percent increase in net premiums earned. This increase is primarily due to significantly higher casualty writings. ACE Tempest Re Bermuda, which principally provides property catastrophe reinsurance globally to insurers of commercial and personal property, reported an eight percent decrease in net premiums earned. ACE Tempest Re Bermuda has been experiencing downward pressure on premium production for several quarters due to the decline in rates on property catastrophe business.

The loss and loss expense ratio increased in the quarter ended March 31, 2004, compared with the same quarter of 2003. This increase is due to the shift in mix of business that has resulted from growth in non-catastrophe P&C business at ACE Tempest Re USA and ACE Tempest Re Europe, partially offset by favorable prior period development. Non-catastrophe P&C business typically has higher loss ratios than property catastrophe business (except in periods with high catastrophe losses). Property catastrophe business is mainly

written at ACE Tempest Re Bermuda, which experienced a decline in losses and loss expenses. As Global Reinsurance increases non-catastrophe P&C writing, we expect its loss and loss expense ratio to continue to increase in line with what would be expected from a traditional multi-line reinsurer. Global Reinsurance had favorable prior period development of $13 million in the quarter ended March 31, 2004, compared with no prior period development in the same quarter of 2003. The favorable development for the current quarter relates primarily to property and property catastrophe lines of business.

The policy acquisition cost ratio increased in the quarter ended March 31, 2004, compared with the same quarter of 2003. The policy acquisition cost ratio for Global Reinsurance increased due to the higher proportion of business generated from ACE Tempest Re USA, relative to ACE Tempest Re Europe and ACE Tempest Re Bermuda. More of ACE Tempest Re USA’s business is written on a treaty-basis which incurs higher acquisition costs due to higher ceding commissions paid. Administrative expenses increased primarily due to higher staffing costs to support growth in business at ACE Tempest Re USA. The administrative expense ratio decreased due to increased net premiums earned.

Global Reinsurance’s underwriting income increased 23 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. The increase is primarily a result of higher net premiums earned, the lack of catastrophe losses and the favorable prior period development. Income excluding net realized gains (losses) for Global Reinsurance increased 28 percent as a result of higher underwriting income and net investment income. Foreign exchange did not have a material impact on Global Reinsurance’s income excluding net realized gains in the quarter ended March 31, 2004.

Life Reinsurance

ACE Life Re principally provides reinsurance coverage to other life insurance companies, focusing on guarantees included in certain fixed and variable annuity products. We do not compete on a traditional basis for pure mortality business. The reinsurance transactions we undertake typically help clients – ceding companies – to manage mortality, morbidity, investment, and/or lapse risks embedded in their book of business. We price life reinsurance using actuarial and investment models that incorporate a number of factors, including assumptions for mortality, morbidity, expenses, demographics, persistency, investment returns and inflation. We assess the performance of our life reinsurance business based on income excluding net realized gains (losses).


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Net premiums written	$	51		$	47
Net premiums earned		51			48
Life and annuity benefits		42			48
Policy acquisition costs		5			4
Administrative expenses		1			1
Net investment income		8			7

Income excluding net realized gains (losses)		11			2
Net realized gains (losses)		(25	)		(1	)

Net income	$	(14	)	$	1

Income excluding net realized gains (losses) improved in the quarter ended March 31, 2004, compared with the same quarter of 2003 primarily due to the decrease in life and annuity benefits. Life and annuity benefits decreased 13 percent primarily due to the increased proportion of premium volume from variable annuity products, which typically have lower benefit pay-outs than other business. Net income decreased due to the net realized losses in the current quarter which represent the fair value adjustment of the derivative component of certain variable annuity products.

Financial Services

The Financial Services segment consists of two broad businesses: financial guaranty and financial solutions. The financial guaranty operations provide insurance and reinsurance for financial guaranty exposures, including municipal and non-municipal obligations, credit default swaps (CDSs), mortgage guaranty reinsurance, title reinsurance, and trade credit reinsurance. The financial solutions operations provide one-off insurance and reinsurance solutions to clients with unique or complex risks, which are not adequately addressed in the traditional insurance market. Each financial solutions contract is structured to meet the needs of each client. Certain products (principally credit protection oriented) issued by the Financial Services segment have been determined to meet the definition of a derivative under FAS 133. For more information see the “Critical Accounting Estimates” section in our Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2003.

On April 28, 2004, we completed the sale of approximately 65 percent of the common shares of Assured Guaranty. Going forward, the Financial Services segment will include the financial solutions operations as well as the equity earnings in our retained ownership in Assured Guaranty. We have placed trade credit insurance and title reinsurance into run-off. The results described below reflect periods prior to the sale of Assured Guaranty’s common shares and therefore include the results of the financial guaranty operations on a wholly-owned basis.


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Net premiums written	$	208		$	526
Net premiums earned		179			209
Losses and loss expenses		86			161
Policy acquisition costs		11			11
Administrative expenses		24			18

Underwriting income		58			19

Net investment income		53			51
Other income (expense)		(11	)		—
Interest expense		2			2
Income tax expense		13			9

Income excluding net realized gains (losses)		85			59
Net realized gains (losses)		5			(3	)
Tax effect of net realized gains (losses)		(7	)		—

Net income	$	83		$	56

Loss and loss expense ratio		48.0	%		77.0	%
Policy acquisition cost ratio		5.9	%		5.2	%
Administrative expense ratio		13.7	%		8.6	%
Combined ratio		67.6	%		90.8	%

Net premiums written decreased 60 percent in the quarter ended March 31, 2004, compared with the same quarter of 2003. This decrease is primarily related to non-renewal of certain financial solutions business and the reversal of unearned premium reserves and related premiums written in connection with the termination of equity CDO business in the financial guaranty operations.

Financial Services reported a 44 percent increase in income excluding realized gains (losses) in the quarter ended March 31, 2004, compared with the same quarter of 2003. The increase is a result of higher underwriting income. Offsetting this increase is other expense of $11 million attributed to the recognition of goodwill impairments in the current quarter, and the increase in income tax expense. Additionally, Financial Services experienced $2 million of favorable prior period development in the quarter ended March 31, 2004, compared with $10 million of adverse development in the same quarter of 2003. The development for the current quarter relates primarily to favorable development on LPT business, partially offset by adverse development on credit business.

Net premiums earned for the financial guaranty operations increased to $87 million in the current quarter, compared with $78 million in the same quarter of 2003, due primarily to growth in our swap and municipal lines of business. Our swap line of business reported growth due to the increasing base of installment premiums and our municipal line is benefiting from the low interest rate environment which continues to fuel municipal bond issuances and consequently, cession activity. Offsetting these favorable trends, mortgage net premiums earned declined primarily due to the low interest rate environment that has increased refinancing activity and resulted in a commensurate reduction in the existing in-force quota share book. The financial guaranty operations had adverse prior period development in 2004 relating primarily to credit business. Even with the adverse development, the loss and loss expense ratio improved due to the settlement of one-off transactions in preparation for the IPO. The policy acquisition cost ratio decreased due to a change in business mix. The administrative expense ratio increased as a result of the decline in net premiums earned. As a result of the previous factors, underwriting income increased to $44 million in the quarter ended March 31, 2004, compared with $17 million in the quarter ended March 31, 2003.

Net premiums earned for the financial solutions operations decreased to $92 million in the quarter ended March 31, 2004, compared with $131 million in the same quarter of 2003. This reduction relates primarily to the non-renewal of several large accounts in the current quarter. Due to the nature of the financial solutions business, premium volume can vary significantly from period to period and therefore premiums written in any one period are not indicative of premiums to be written in future periods. The financial solutions operations reported an increase in underwriting income of $12 million to $14 million in the quarter ended March 31, 2004, compared with $2 million in the same quarter of 2003. This increase is primarily driven by favorable prior period development on LPT business in 2004. The administrative expense ratio increased as a result of severance and other termination costs associated with a reduction in staff, combined with the decline in net premiums earned.

Net Investment Income


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Insurance – North American	$	104		$	101
Insurance – Overseas General		48			35
Global Reinsurance – P&C		27			19
Global Reinsurance – Life		8			7
Financial Services		53			51
Corporate and Other		(2	)		(7	)

Net investment income	$	238		$	206

Net investment income is influenced by a number of factors, including the amounts and timing of inward and outward cash flows, the level of interest rates, and changes in overall asset allocation. Net investment income increased 16 percent for the quarter ended March 31, 2004, compared with the same quarter of 2003. The increased net investment income is primarily due to the positive operating cash flows during 2003 that resulted in a higher average invested asset base. This positive impact on investment income was partially offset by a decline in the investment portfolio’s yield, due to the impact of lower interest rates on investment of new cash and reinvestment of maturing securities. The average yield on fixed maturities was 4.0 percent at March 31, 2004 and 4.2 percent at March 31, 2003.

Net Realized Gains (Losses)

Our investment strategy takes a long-term view, and our investment portfolio is actively managed to maximize total return within certain specific guidelines, designed to minimize risk. Our investment portfolio is reported at fair value. The effect of market movements on our investment portfolio impact income (through net realized gains (losses)) when securities are sold, when “other than temporary” impairments are recorded on invested assets or when derivatives, including financial futures and options, interest rate swaps and credit-default swaps, are marked to fair value or are settled. Changes in unrealized appreciation and depreciation on available-for-sale securities, which result from the revaluation of securities held, are reported as a separate component of accumulated other comprehensive income in shareholders’ equity.

The following table presents our pre-tax net realized gains (losses) for the three months ended March 31, 2004 and 2003.


	Three Months Ended March 31
	2004			2003
	(in millions of U.S. dollars)
Fixed maturities and short-term investments	$	55		$	12
Equity securities		28			(50	)
Financial futures, options and interest rate swaps		(1	)		(9	)
Other investments		(7	)		—
Fair value adjustment on insurance derivatives		(23	)		(2	)
Currency		5			9

Total net realized gains (losses)	$	57		$	(40	)

Given our total return objective for our investment portfolio, we may sell securities at a loss due to changes in the investment environment, our expectation that fair value may deteriorate further, our desire to reduce our exposure to an issuer or an industry, and changes in the credit quality of the security.

FAS 133 requires us to recognize all derivatives as either assets or liabilities on our consolidated balance sheet, and measure them at fair value. We record the gains and losses resulting from the fair value measurement of derivatives in net realized gains (losses). We participate in derivative instruments in two principal ways as follows: i) to offer protection to others as the seller or writer of the derivative, such as our credit derivatives business and, to a lesser extent, reinsurance of guaranteed minimum income benefits (GMIBs) that is treated as derivatives for accounting purposes; or ii) to mitigate our own risk, principally arising from our investment holdings. We do not consider either type of transaction to be speculative. For the quarter ended March 31, 2004, we recorded a net

realized loss of $24 million on all derivative transactions, compared with a net realized loss of $11 million for the same quarter of 2003.

With respect to our credit derivatives and GMIB reinsurance businesses, we record a portion of the change in fair value in unpaid loss and loss expenses and future policy benefits for life and annuity contracts, respectively, representing our best estimate of loss pay-outs related to fees or premiums earned, and a portion in net realized gains (losses), representing other changes in fair value. The fair value adjustment included in net realized gains (losses) in the quarter ended March 31, 2004, was a net realized loss of $23 million, compared with a net realized loss of $2 million for the same quarter of 2003. For the quarter ended March 31, 2004, the change in fair value is related to many factors but primarily due to a $25 million loss from GMIB reinsurance principally resulting from a decline in interest rates and the related effect on new annuities attaching to reinsurance treaties during the quarter. Such annuities were priced using higher interest rates that were prevalent at the inception of the GMIB reinsurance treaties. Based on in-force annuities covered by GMIB reinsurance treaties at March 31, 2004, we estimate that the change in fair value to be reflected in net income from a 50 basis points decline in interest rates would approximate a $40 million realized loss and a 1 percent decline in the Standard and Poor’s (S&P) Index would approximate a $6 million realized loss. The gain or loss created by the estimated fair value adjustment will rise or fall each period based on estimated market pricing and may not be an indication of ultimate claims. Fair value is defined as the amount at which an asset or liability could be bought or sold in a current transaction between willing parties. We generally plan to hold derivative financial instruments to maturity. Where we hold derivative financial instruments to maturity, these fair value adjustments would generally be expected to reverse resulting in no gain or loss over the entire term of the contract. However, in the event that we terminate a derivative contract prior to maturity, as a result of a decision to exit a line of business or for risk management purposes, the unrealized gain or loss will be realized through premiums earned and losses incurred.

We recorded net realized losses on financial futures and option contracts and interest rate swaps of $1 million in the quarter ended March 31, 2004, compared with net realized losses of $9 million for the same quarter of 2003. We recorded net realized losses of $14 million on interest rate swaps in the quarter ended March 31, 2004, compared with net realized losses of $9 million in the same quarter of 2003. The interest rate swaps are designed to reduce the negative impact of increases in interest rates on our fixed maturity portfolio. We recorded net realized gains of $6 million on our S&P equity index futures contracts as the S&P 500 equity index increased 1.7 percent in the current quarter. The quarter ended March 31, 2003, included net realized losses of $5 million relating to our S&P equity index futures. We recorded net realized gains of $7 million on foreign currency forward contracts in the current quarter, compared with net realized loss of $5 million in the same quarter of 2003. We use foreign currency forward contracts to minimize the effect of fluctuating foreign currencies on certain non-U.S. dollar holdings in our portfolio that are not specifically matching foreign currency liabilities. These contracts are not designated as specific hedges and, in accordance with FAS 133, we record all realized and unrealized gains and losses on these contracts as net realized gains (losses) in the period in which the currency values change.

We regularly review our investment portfolio for possible impairment based on criteria including economic conditions, credit loss experience and issuer-specific developments. If there is a decline in a security’s net realizable value, we must determine whether that decline is temporary or “other than temporary”. If we believe a decline in the value of a particular investment is temporary, we record it as an unrealized loss 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 net realized loss in our statement of operations. The decision to recognize a decline in the value of a security carried at fair value as “other than temporary” rather than temporary has no impact on our book value. Once a security is identified as having a potential “other than temporary” impairment, we determine whether or not cost will ultimately be recovered and whether we have the intent and ability to hold the security until an expected recovery period, absent a significant change in facts that is expected to have a material adverse financial effect on the issuer.

Our net realized gains (losses) in the quarter ended March 31, 2004, included write-downs of $1 million related to fixed maturity investments and $1 million related to equity securities as a result of conditions which caused us to conclude the decline in fair value of the investment was “other than temporary”. This compares with write-downs of $18 million related to fixed maturity investments, and $46 million related to equity securities for the quarter ended March 31, 2003.

The process of determining whether a decline in value is temporary or “other than temporary” requires considerable judgment and differs depending on whether or not the security is traded on a public market as well as by type of security. For more information on our process for reviewing our investments for possible impairment, see the “Net Realized Gains (Losses)” section in our Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2003.

See Note 3 (a) to the Consolidated Financial Statements for a table which summarizes for all securities in an unrealized loss position at March 31, 2004 (including securities on loan), the aggregate fair value and gross unrealized loss by length of time the amounts have continuously been in an unrealized loss position.

Other Income and Expense Items


	Three Months Ended March 31
	2004		2003
	(in millions of U.S. dollars)
Other expense	$	17	$	6

Interest expense	$	44	$	45

Income tax expense	$	123	$	53

Other expense for the quarters ended March 31, 2004 and 2003, relates primarily to goodwill impairments recognized as a result of reviews conducted during the first quarter of each year.

Interest expense was relatively stable in the quarter ended March 31, 2004, as interest rates declined only slightly compared with the same quarter of 2003.

The increase in income tax expense is primarily due to the increase in net income in the quarter ended March 31, 2004, compared with the same quarter of 2003. The increased profitability for Insurance - Overseas General and Insurance – North American added $37 million to income tax expense in the current quarter. Additionally, our net realized gains in the current quarter compared with net realized losses in the same quarter of 2003 increased income tax expense by $29 million. Our effective tax rate on income excluding net realized gains (losses) for the quarter ended March 31, 2004, was 20 percent, compared with 18 percent for the same quarter of 2003. Our effective tax rate is dependent upon the mix of earnings from different jurisdictions with various tax rates; a different geographic mix of actual earnings would change the effective tax rate.

Investments and Cash

Our principal investment objective is to ensure that funds are available to meet our insurance and reinsurance obligations. Within this broad liquidity constraint, the purpose of our investment portfolio’s structure is to maximize total return subject to specifically approved guidelines of overall asset classes, credit quality, and liquidity and volatility of expected returns. Our investment portfolio is invested primarily in fixed income securities with an average credit quality of AA, as rated by the independent investment rating service S&P. The portfolio is externally managed by independent, professional, investment managers. The average duration of our fixed income securities, including the effect of interest rate swaps, is 3.4 years at March 31, 2004, and December 31, 2003. Our other investments principally comprise direct investments, investments in investment funds and investments in limited partnerships.

The following table identifies our invested assets by type held at fair value and cost/amortized cost at March 31, 2004 and December 31, 2003.


	March 31, 2004				December 31, 2003
	Fair Value		Cost/ Amortized Cost		Fair Value		Cost/ Amortized Cost
	(in millions of U.S. dollars)
Fixed maturities	$	19,920	$	19,129	$	18,645	$	18,006
Securities on loan		1,183		1,113		684		650
Short-term investments		3,290		3,290		2,928		2,928
Cash		614		614		562		562

		25,007		24,146		22,819		22,146
Equity securities		539		414		544		401
Other investments		643		595		645		602

Total investments and cash	$	26,189	$	25,155	$	24,008	$	23,149

We also gain exposure to equity markets through the use of derivative instruments. The combined equity exposure through both our equity portfolio and derivative instruments was valued at $659 million at March 31, 2004, compared with $662 million at December 31, 2003. The increase of $2.2 billion in total investments and cash is due to positive cash flows from operations as a result of strong premium volume, increased unrealized gains, and increased securities lending collateral.

The following tables show the market value of our fixed maturities, short-term investments, securities on loan and cash at March 31, 2004. The first table lists elements according to type, and the second according to S&P credit rating.


	Market Value		Percentage of Total
	(in millions of U.S. dollars)
Treasury	$	1,491	6.0	%
Agency		1,723	6.9	%
Corporate		7,201	28.8	%
Mortgage-backed securities		4,536	18.1	%
Asset-backed securities		800	3.2	%
Municipal		1,498	6.0	%
Non-U.S.		3,854	15.4	%
Cash and short-term investments		3,904	15.6	%

Total	$	25,007	100	%


	Market Value		Percentage of Total
	(in millions of U.S. dollars)
AAA	$	13,211	52.8	%
AA		4,200	16.8	%
A		3,847	15.4	%
BBB		2,002	8.0	%
BB		653	2.6	%
B		1,045	4.2	%
Other		49	0.2	%

Total	$	25,007	100	%

In accordance with our investment process, we invest in below-investment grade securities through dedicated investment portfolios managed by external investments managers that have investment professionals specifically dedicated to this asset class. At March 31, 2004, our fixed income investment portfolio included below-investment grade securities and non-rated securities which, in total, comprised approximately seven percent of our fixed income portfolio. We define a security as being below-investment grade if it has an S&P credit rating of BB or less. Our below investment-grade and non-rated portfolio includes approximately 500 names, with the top ten holdings making up approximately 10 percent of the $1.7 billion balance at March 31, 2004. The highest single exposure in this portfolio of securities is $24 million. Below-investment grade securities have different characteristics than investment grade corporate debt securities. Risk of loss from default by the borrower is greater with below-investment grade securities. Below-investment grade securities are generally unsecured and are often subordinated to other creditors of the issuer. Also, issuers of below-investment grade securities usually have higher levels of debt and are more sensitive to adverse economic conditions such as recession or increasing interest rates, than are investment grade issuers. We reduce the overall risk in the below-investment grade portfolio, as in all investments, through careful credit analysis, strict investment policy guidelines, and diversification by issuer and/or guarantor as well as by industry.

Off-Balance Sheet Arrangements – Variable Interests Related to Equity Investments in CDOs

See Note 3 (b) to the Consolidated Financial Statements for a discussion of our off-balance sheet arrangements.

Unpaid Losses and Loss Expenses

We establish reserves for the estimated unpaid ultimate liability for losses and loss expenses under the terms of our policies and agreements. These reserves take into account estimates both for claims that have been reported and for IBNR, and include estimates of expenses associated with processing and settling claims. The table below presents a rollforward of our unpaid losses and loss expenses for the three months ended March 31, 2004.


	Gross Losses			Reinsurance Recoverable			Net Losses
	(in millions of U.S. dollars)
Balance at December 31, 2003	$	27,155		$	13,192		$	13,963
Losses and loss expenses incurred		2,298			756			1,542
Losses and loss expenses paid		(1,873	)		(781	)		(1,092	)
Other (including foreign exchange revaluation)		117			110			7

Balance at March 31, 2004	$	27,697		$	13,277		$	14,420

The process of establishing reserves for claims can be complex and imprecise as it requires the use of informed estimates and judgments. Our estimates and judgments may be revised as claims develop; as additional experience and other data become available; as new or improved methodologies are developed; and as current laws change.

We continually evaluate our reserve estimates taking into account new information and discussion and negotiation with our insureds. While we believe our reserve for unpaid losses and loss expenses at March 31, 2004 is adequate, new information or trends may lead to future developments in ultimate losses and loss expenses significantly greater or less than the reserve provided, which could have a material adverse effect on future operating results. More information relating to our loss reserves and disclosure of prior period development by line of business is included in our Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2003.

Reinsurance

One of the ways we manage our loss exposure is through the use of reinsurance. While reinsurance agreements are designed to limit our losses from large exposures and permit recovery of a portion of direct unpaid losses, reinsurance does not relieve us of liability to our insureds. Accordingly, the losses and loss expense reserves on our balance sheet represent our total unpaid gross losses. The reinsurance recoverable represents anticipated recoveries of a portion of those gross unpaid losses as well as amounts recoverable from reinsurers with respect to claims paid. The table below presents our net reinsurance recoverable at March 31, 2004 and December 31, 2003.


	March 31 2004			December 31 2003
	(in millions of U.S. dollars)
Reinsurance recoverable on paid losses and loss expenses	$	1,192		$	1,277
Bad debt reserve on paid losses and loss expenses		(422	)		(403	)
Reinsurance recoverable on future policy benefits		15			15
Reinsurance recoverable on unpaid losses and loss expenses		13,817			13,749
Bad debt reserve on unpaid losses and loss expenses		(540	)		(557	)

Net reinsurance recoverable	$	14,062		$	14,081

We evaluate the financial condition of our reinsurers and potential reinsurers on a regular basis and also monitor concentrations of credit risk with reinsurers. The provision for uncollectible reinsurance is required principally due to the failure of reinsurers to indemnify us, primarily because of disputes under reinsurance contracts and insolvencies. Provisions have been established for amounts estimated to be uncollectible.

Following is a breakdown of our reinsurance recoverable on paid losses at March 31, 2004 and December 31, 2003:


	March 31, 2004						December 31, 2003
Category	Amount		Bad Debt Reserve		% of Total Reserve		Amount		Bad Debt Reserve		% of Total Reserve
	(in millions of U.S. dollars)
General collections	$	639	$	44	6.9	%	$	730	$	45	6.2	%
Other		553		378	68.4	%		547		358	65.4	%

Total	$	1,192	$	422	35.4	%	$	1,277	$	403	31.6	%

The general collections category represents amounts in the process of collection in the normal course of business. These are balances for which we have no indication of dispute or credit-related issues.

The other category includes amounts recoverable that are in dispute, or are from companies in supervision, rehabilitation or liquidation. Our estimation of this reserve considers the credit quality of the reinsurer and whether we have received collateral or other credit protections, such as parental guarantees.

Asbestos and Environmental Claims

Included in our liabilities for losses and loss expenses are amounts for A&E. These A&E liabilities principally relate to claims arising from remediation costs associated with hazardous waste sites and bodily-injury claims related to asbestos products and environmental hazards. These amounts include provision for both reported and IBNR claims.

The table below presents selected loss reserve data for A&E exposures at March 31, 2004 and December 31, 2003.


	March 31, 2004				December 31, 2003
	Gross		Net		Gross		Net
	(in millions of U.S. dollars)
Asbestos	$	2,824	$	239	$	2,899	$	277
Environmental and other latent exposures		1,104		218		1,148		250

Total	$	3,928	$	457	$	4,047	$	527

Paid losses for the quarter ended March 31, 2004 for asbestos claims were $96 million on gross reserves and $48 million on net reserves. Foreign exchange revaluation increased the gross asbestos reserve by $21 million and the net reserve by $10 million in 2004. Environmental and other latent exposure claim payments were $47 million on gross reserves and $34 million on net reserves for the quarter ended March 31, 2004. Foreign exchange revaluation increased the gross environmental and other latent exposure reserve by $3 million and the net reserve by $2 million in 2004.

The Pennsylvania Insurance Department requires a biennial, external actuarial review of liabilities residing in the various subsidiaries of Brandywine Holdings (Brandywine), which we acquired when we purchased the P&C business of CIGNA in 1999. That review was last competed during the first quarter of 2003 and we recorded the financial impact in the year ended December 31, 2002. We expect to report the results of the next review in the fourth quarter of 2004.

In a lawsuit filed in the state of California in December 1999, certain competitors of ACE USA have challenged the restructuring that resulted in the creation of Brandywine. The restructuring was previously upheld by the Pennsylvania Supreme Court in July 1999. The lawsuit alleges that the restructuring does not effectively relieve the insurance subsidiary that issued the policies prior to the restructuring (Insurance Company of North America) from liabilities for claims on those policies by California policyholders. The California trial court has held in response to a pre-trial motion that a California statute does prohibit the transfer of California policies to a subsequent legal entity without the consent of the policyholders and noted that consent was not received in the context of the Brandywine restructuring. ACE intends to appeal this decision. In addition, the liabilities that are the subject of this California lawsuit are included within our A&E reserves for Brandywine.

Congress has been working on possible legislation to move all U.S. asbestos bodily-injury claims to a federal trust for compensation in accordance with an established set of medical criteria and claim values. The trust would be funded by asbestos defendants and their insurers. As currently proposed, ACE would be one of the insurer participants. We believe that if the proposed legislation is enacted, our ultimate funding obligation under the trust would be less than we would be required to pay under the current tort system because the trust would avoid payments to unimpaired victims and obviate the need for extensive legal costs. However, we cannot predict if any such proposed legislation will be modified or adopted.

More information relating to our A&E loss reserves is included in our Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2003.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity

Liquidity is a measure of a company’s ability to generate cash flows sufficient to meet short-term and long-term cash requirements of its business operations. As a holding company, ACE possesses assets that consist primarily of the stock of its subsidiaries, and of other investments. In addition to net investment income, our cash flows currently depend primarily on dividends or other statutorily permissible payments. Historically, these dividends and other payments have come from our Bermuda-based operating subsidiaries, which we refer to as our Bermuda subsidiaries. During the quarter ended March 31, 2004, we were able to meet all of our obligations, including the payment of dividends declared on our ordinary shares and preferred shares, with our net cash flow and dividends received. Should the need arise, we generally have access to the debt markets and other available credit facilities that are discussed below.

Our sale of approximately 65 percent of the common shares of Assured Guaranty generated net proceeds of approximately $840 million. We plan to use these proceeds to support our P&C business and strengthen our balance sheet capital position. If the underwriter’s exercise their over allotment option in full, the sale would generate additional net proceeds of approximately $126 million.

The payments of dividends or other statutorily permissible distributions from our operating companies are subject to the laws and regulations applicable to each jurisdiction, as well as the need to maintain capital levels adequate to support the insurance and reinsurance operations, including financial strength ratings issued by independent rating agencies, which are discussed later.

We assess which subsidiaries to draw dividends from based on a number of factors. Considerations such as regulatory and legal restrictions as well as the subsidiary’s financial condition are paramount to the dividend decision. The legal restrictions on the payment of dividends from retained earnings by our Bermuda subsidiaries are currently satisfied by the share capital and additional paid-in capital of each of the Bermuda subsidiaries. During the quarter ended March 31, 2004, ACE Bermuda and ACE Tempest Life Reinsurance Ltd. declared and paid dividends of $86 million and $150 million, respectively. During the quarter ended March 31, 2003, ACE Bermuda declared and paid dividends of $231 million, while ACE Tempest Life Reinsurance Ltd. did not declare or pay any dividends. We expect that a majority of our cash inflows for the remainder of 2004 will be from our Bermuda subsidiaries.

The payment of any dividends from ACE Global Markets or its subsidiaries would be subject to applicable U.K. insurance laws and regulations including those promulgated by the Society of Lloyd’s. ACE INA’s and ACE Financial Services’ U.S. insurance subsidiaries may pay dividends, without prior regulatory approval, only from earned surplus and subject to certain annual limitations and the maintenance of a minimum capital requirement. ACE INA’s international subsidiaries are also subject to insurance laws and regulations particular to the countries in which the subsidiaries operate. These laws and regulations include restrictions that limit the amount of dividends payable without prior approval of regulatory insurance authorities.

We did not receive any dividends from ACE Global Markets or ACE INA in the current quarter. Under the Lloyd’s accounting model, syndicates in Lloyd’s operate each year as an annual venture. Each year of account is held open for three years. At the end of three years, the year of account purchases reinsurance from the next open year, which is known as reinsurance to close or RITC, and distributes the remaining funds to the investors in the syndicate. ACE Global Markets has historically retained these funds for operational purposes. ACE INA issued debt to provide partial financing for the ACE INA acquisition and for other operating needs. This debt is serviced by dividends paid by ACE INA’s insurance subsidiaries to ACE INA as well as other group resources. ACE Financial Services’ U.S. insurance subsidiaries are limited in their dividend paying abilities due to their need to maintain their AA and AAA financial strength ratings.

Our consolidated sources of funds consist primarily of net premiums written, net investment income and proceeds from sales and maturities of investments. Funds are used primarily to pay claims, operating expenses, dividends and for the purchase of investments. After satisfying our cash requirements, excess cash flows from these underwriting and investing activities are invested.

Our insurance and reinsurance operations provide liquidity in that premiums are received in advance, sometimes substantially in advance, of the time claims are paid. Generally cash flows are affected by claim payments that, due to the nature of our operations, may comprise large loss payments on a limited number of claims and which can fluctuate significantly from year to year. The irregular timing of these loss payments can create significant variations in cash flows from operations between periods. Sources of liquidity include cash from operations, financing arrangements or routine sales of investments.

•

Our consolidated net cash flows from operating activities were $1.2 billion in the quarter ended March 31, 2004, compared with $600 million in the same quarter of 2003. The positive operating cash flows were generated primarily from an increase in net premiums written and net investment income, combined with a decrease in loss and loss expenses paid.

•	Our consolidated net cash flows used for investing activities increased to $1.1 billion in the quarter ended March 31, 2004, compared with $742 million in the same quarter of 2003. This increase primarily reflects our strong consolidated net cash flows

from operating activities. Net purchases of fixed maturities were $1.1 billion in the quarter ended March 31, 2004, compared with $702 million in the same quarter of 2003.

•

Our consolidated net cash flows used for financing activities were $26 million in the quarter ended March 31, 2004, compared with usage of $44 million in the same quarter of 2003. Usage for financing activities decreased primarily due to an increase in proceeds from the exercise of options for ordinary shares in the current quarter, compared with the same quarter of 2003. The increase in proceeds was partially offset by an increase in dividends paid on Ordinary Shares and the payment of dividends on the Preferred Shares.

Although our ongoing operations continue to generate positive cash flows, our cash flows are currently impacted by a large book of loss reserves from businesses in run-off. The run-off operations generated negative operating cash flows of $2 million in the quarter ended March 31, 2004, compared with $129 million in the same quarter of 2003, primarily due to claim payments.

Both internal and external forces influence our financial condition, results of operations and cash flows. Claim settlements, premium levels and investment returns may be impacted by changing rates of inflation and other economic conditions. In many cases, significant periods of time, ranging up to several years or more, may lapse between the occurrence of an insured loss, the reporting of the loss to us and the settlement of the liability for that loss. We believe that our cash balances, cash flow from operations, routine sales of investments and the liquidity provided by our credit facilities, as discussed below are adequate to meet expected cash requirements.

ACE and its subsidiaries are assigned debt and financial strength (insurance) ratings from internationally recognized rating agencies, including S&P, A.M. Best, Moody’s Investors Service and Fitch IBCA. The ratings issued on our companies by these agencies are announced publicly and are available directly from the agencies. Our website, acelimited.com, also contains some information about our ratings, which you can find under the “Investor Information” tab.

Financial strength ratings represent the opinions of the rating agencies on the financial strength of a company and its capacity to meet the obligations of insurance policies. Independent ratings are one of the important factors that establish our competitive position in the insurance markets. The rating agencies consider many factors in determining the financial strength rating of an insurance company, including the relative level of statutory surplus necessary to support the business operations of the company. These ratings are based upon factors relevant to policyholders, agents and intermediaries and are not directed toward the protection of investors. Such ratings are not recommendations to buy, sell or hold securities.

Debt ratings apply to short- and long-term debt as well as preferred stock. These ratings are assessments of the likelihood that we will make timely payments of principal and interest and preferred stock dividends.

It is possible that, in the future, one or more of the rating agencies may reduce our existing ratings. If one or more of our ratings were downgraded, we could incur higher borrowing costs and our ability to access the capital markets could be impacted. In addition, our insurance and reinsurance operations could be adversely impacted by a downgrade in our financial strength ratings, including a possible reduction in demand for our products in certain markets.

Capital Resources

Capital resources consist of funds deployed or available to be deployed to support our business operations. The following table summarizes the components of our capital resources at March 31, 2004 and December 31, 2003.


	March 31 2004			December 31 2003
	(in millions of U.S. dollars)
Short-term debt	$	546		$	546
Long-term debt		1,349			1,349

Total debt		1,895			1,895

Trust preferred securities		487			475
Preferred shares		557			557
Ordinary shareholders’ equity		8,840			8,278

Total shareholders’ equity		9,397			8,835

Total capitalization	$	11,779		$	11,205

Ratio of debt to total capitalization		16.1	%		16.9	%
Ratio of debt plus trust preferreds to total capitalization		20.2	%		21.2	%

We believe our financial strength provides us with the flexibility and capacity to obtain funds externally through debt or equity financing on both a short-term and long-term basis. Our ability to access the capital markets is dependent on, among other things, market conditions and our perceived financial strength. We have accessed both the debt and equity markets from time to time.

Our short-term debt includes $400 million of ACE INA 8.2 percent notes due August 15, 2004. We plan to refinance this debt.

Our diluted book value per ordinary share increased to $31.36 at March 31, 2004, compared with $29.46 at December 31, 2003. In calculating our diluted book value per ordinary share, we include in the denominator in-the-money options. The expected proceeds from the in-the-money options are included in the numerator. Shareholders’ equity increased $562 million in the current quarter primarily due to our net income, and an increase in unrealized gains on our investment portfolio of $127 million.

On January 14, 2004 and April 14, 2004, we paid dividends of 19 cents per ordinary share to shareholders of record on December 31, 2003 and March 31, 2004, respectively. We have paid dividends each quarter since we became a public company in 1993. However, the declaration, payment and value of future dividends on ordinary shares is at the discretion of our Board of Directors and will be dependent upon our profits, financial requirements and other factors, including legal restrictions on the payment of dividends and such other factors as our Board of Directors deems relevant. Dividends on the preferred shares are payable quarterly, when and if declared by our Boards of Directors, in arrears on March 1, June 1, September 1 and December 1 of each year. On March 1, 2004, we paid dividends of $4.875 per preferred share to shareholders of record on February 29, 2004.

As part of our capital management program, in November 2001, our Board of Directors authorized the repurchase of any ACE issued debt or capital securities including ordinary shares, up to $250 million. At March 31, 2004, this authorization had not been utilized.

Credit Facilities

The following table shows our credit facilities by credit line, usage, expiry date and purpose at March 31, 2004.


	Credit Line		Usage		Expiry Date	Purpose
Liquidity Facilities
ACE Limited^1,²	$	500	$	146	April 2004	General Corporate
ACE Limited^1,2,3		250		64	May 2005	General Corporate
ACE Guaranty Corp		140		—	May 2004	General Corporate
Secured Operational LOC Facilities
ACE Group		500		277	Sept. 2006	General Corporate
Unsecured Operational LOC Facilities
ACE Limited		500		301	Sept. 2004	General Corporate
ACE Limited		100		91	Oct. 2004	General Corporate
ACE Global Markets		200		200	Oct. 2004	General Corporate
ACE Tempest Re		200		124	Dec. 2004	General Corporate
ACE International		29		29	Various	General Corporate
Unsecured Capital Facilities
ACE Guaranty Corp		175		—	Dec. 2010	Rating Agency Capital
ACE Global Markets⁴		702		697	Nov. 2008	Underwriting capacity for Lloyd’s Syndicate 2488-2004 capacity of £550 million (approximately $1 billion)

Total	$	3,296	$	1,929

^1.	Commercial paper back-up facility

^2.	In April 2004, we replaced the ACE Limited $500 million and $250 million liquidity facilities with a $600 million credit facility expiring in April 2007

^3.	May also be used for LOCs

^4.	Unsecured letters of credit are placed with Lloyd’s as capital on behalf of ACE’s corporate capital vehicles

Some of the facilities noted above require that we maintain certain covenants, all of which have been met at March 31, 2004. These covenants include:

(i)

maintenance of a minimum consolidated net worth covenant of not less than $4.4 billion plus 25 percent of consolidated net income for each fiscal quarter ending on or after March 31, 2003 for which such consolidated net income is positive, plus 50 percent of net proceeds of any issuance of equity interests (other than the net proceeds from any issuance of equity interests in substitution and replacement of other equity interests to the extent such net proceeds do not exceed the amount of a substantially contemporaneous redemption of equity interests) subsequent to March 31, 2003; and

(ii)	maintenance of a maximum debt to total capitalization ratio of not greater than 0.35 to 1. Under this covenant, debt does not include trust preferred securities or mezzanine equity, except where the ratio of the sum of trust preferred securities and

mezzanine equity to total capitalization is greater than 15 percent. In this circumstance, the amount greater than 15 percent would be included in the debt to total capitalization ratio.

At March 31, 2004, (a) the minimum consolidated net worth requirement under the covenant described in (i) above was $5.3 billion and our actual consolidated net worth as calculated under that covenant was $8.6 billion; and (b) our ratio of debt to total capitalization was 0.16 to 1.

Certain facilities are guaranteed by either operating subsidiaries or ACE Limited.

In addition to these covenants, the ACE Global Markets capital facility requires that collateral be posted if the financial strength rating of ACE Limited falls to S&P BBB+ or lower. Prior to November 2003 (the renewal date of the ACE Global Markets unsecured LOC), this requirement related to ACE Bermuda.

We negotiated a $600 million credit facility that was effective on April 2, 2004. The net worth covenant requires that we maintain a minimum consolidated net worth covenant of not less than $6 billion plus 25 percent of cumulative net income since December 31, 2003, plus 50 percent of net proceeds of any issuance of equity interests subsequent to December 31, 2003. More information on the amended covenant requirements is included under “Article 5” of Exhibit 10.2 filed with this Form 10-Q.

Our failure to comply with the covenants under any credit facility would, subject to grace periods in the case of certain covenants, result in an event of default. This could require us to repay any outstanding borrowings or to cash collateralize letters of credit under such facility. An event of default under one or more credit facilities with outstanding credit extensions of $25 million or more would result in an event of default under all of the facilities described above.

As our Bermuda subsidiaries are not admitted insurers and reinsurers in the U.S., the terms of certain insurance and reinsurance contracts require them to provide LOCs to clients. In addition, ACE Global Markets is required to satisfy certain U.S. regulatory trust fund requirements which can be met by the issuance of LOCs.

Recent Accounting Pronouncements

See Note 2 to the Consolidated Financial Statements for a discussion of recent accounting pronouncements.

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

Market Sensitive Instruments and Risk Management

Market risk represents the potential for loss due to adverse changes in the fair value of financial instruments. We are exposed to potential loss to various market risks, including changes in interest rates and foreign currency exchange rates. Our investment portfolio consists of both fixed income and equity securities, denominated in both U.S. and foreign currencies, which are sensitive to changes in interest rates, equity prices and foreign currency exchange rates. Therefore our net income is affected by changes in interest rates, equity prices and foreign currency exchange rates. We use investment derivative instruments such as futures, options, interest rate swaps, and foreign currency forward contracts to manage the duration of our investment portfolio and foreign currency exposures and also to obtain exposure to a particular financial market. These instruments are sensitive to changes in interest rates, foreign currency exchange rates and equity security prices. The portfolio includes other market sensitive instruments, which are subject to changes in market values with changes in interest rates.

Duration Management and Market Exposure Management

We use financial futures, options, interest rate swaps and foreign currency forward contracts for the purpose of managing certain investment portfolio exposures. These instruments are recognized as assets or liabilities in our Consolidated Financial Statements and changes in market value are included in net realized gains or losses in the consolidated statements of operations.

Our exposure to interest rate risk is concentrated in our fixed income portfolio, and to a lesser extent, our debt obligations. An increase in interest rates of 100 basis points applied instantly across the yield curve would have resulted in a decrease in the market value of our fixed income portfolio of 3.3 percent at March 31, 2004, compared with 3.4 percent at December 31, 2003. This equates to a pre-tax decrease in market value of approximately $739 million on a fixed income portfolio valued at $22 billion at March 31, 2004. This compares with an approximately $696 million pre-tax decrease in market value on a fixed income portfolio valued at $20.6 billion at December 31, 2003. An immediate time horizon was used as this presents the worst case scenario.

Our portfolio of equity securities, which we carry on our balance sheet at fair value, has exposure to price risk. This risk is defined as the potential loss in fair value resulting from adverse changes in stock prices. In addition, we attain exposure to the equity markets through the use of derivative instruments which also have exposure to price risk. Our U.S. equity portfolio is highly correlated with the S&P 500 index and changes in that index would approximate the impact on our portfolio. Our international equity portfolio has exposure to a broad range of non-U.S. equity markets, primarily in those countries where we have insurance operations. This portfolio

is correlated to movement in each of these countries’ broad equity market. The combined equity exposure through both our portfolios of equity securities and derivative instruments was valued at $659 million at March 31, 2004, compared with $662 million at December 31, 2003. A hypothetical ten percent pre-tax decline in the price of each stock in our portfolio of equity securities and the index correlated to the derivative instruments would have resulted in a $66 million pre-tax decline in fair value at March 31, 2004 and December 31, 2003. Changes in fair value of these derivative instruments are recorded as net realized gains (losses) in the consolidated statements of operations. Changes in the fair value of our equity portfolio are recorded as unrealized appreciation (depreciation) and are included as other comprehensive income in shareholders’ equity.

Many of our non-U.S. companies maintain both assets and liabilities in local currencies. Therefore, exchange rate risk is generally limited to net assets denominated in those foreign currencies. Foreign exchange risk is reviewed as part of our risk management process. Locally required capital levels are invested in home currencies in order to satisfy regulatory requirements, and to support local insurance operations regardless of currency fluctuations.

Item 4.

Controls and Procedures

As of the end of the period covered by this report, the Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures as defined in Rule 13a-15 under the Securities Exchange Act of 1934. Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in allowing information required to be disclosed in reports filed under the Securities and Exchange Act of 1934 to be recorded, processed, summarized and reported within time periods specified in the rules and forms of the SEC.

ACE LIMITED

PART II OTHER INFORMATION

Item 1.

Legal Proceedings

Our insurance subsidiaries are subject to claims litigation involving disputed interpretations of policy coverages and in some jurisdictions, direct actions by allegedly injured persons seeking damages from policyholders. These lawsuits involving claims on policies issued by our subsidiaries which are typical to the insurance industry in general and in the normal course of business, are considered in our loss and loss expense reserves which are discussed in the unpaid losses and loss expenses discussion. In addition to claims litigation, we and our subsidiaries are subject to lawsuits and regulatory actions in the normal course of business that do not arise from or directly relate to claims on insurance policies. This category of business litigation typically involves, inter alia, allegations of underwriting errors or misconduct, employment claims, regulatory activity or disputes arising from our business ventures. While the outcomes of the business litigation involving us cannot be predicted with certainty at this point, we are disputing and will continue to dispute allegations against us that are without merit and believe that the ultimate outcomes of matters in this category of business litigation will not have a material adverse effect on our financial condition, future operating results or liquidity, although an adverse resolution of a number of these items could have a material adverse effect on our results of operations in a particular quarter or fiscal year.

Item 5.

Other Information

1.	On March 11, 2004, the Board of Directors elected Evan G. Greenberg to the position of Chief Executive Officer of ACE Limited, effective May 27, 2004. Brian Duperreault will remain as Chairman of ACE Limited.

2.	On February 26, 2004, the Company declared a quarterly dividend of $0.19 per Ordinary Share payable on April 14, 2004, to shareholders of record on March 31, 2004.

3.	On February 26, 2004, the Company declared a dividend of $4.875 per Preferred Share, payable on March 1, 2004, to shareholders of record on February 29, 2004.

Item 6.

Exhibits and Reports on Form 8-K


1.		Exhibits

10.1	*	Executive Severance Agreement between ACE Limited and Philip Bancroft, effective as of January 2, 2002.

10.2		Credit agreement for $600 million dated as of April 2, 2004, among ACE Limited, certain subsidiaries, various lenders and J.P. Morgan Securities and Barclays Capital as joint lead arrangers and joint bookrunners.

31.1		Certification Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.

31.2		Certification Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.

32.1		Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002.

32.2		Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002.

*	Management Contract or Compensation Plan

2.	Reports on Form 8-K

The Company filed a Form 8-K current report (date of earliest event reported: April 27, 2004) pertaining to ACE Limited’s press release reporting its first quarter 2004 results and the availability of its first quarter financial supplement.

ACE LIMITED

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


				ACE LIMITED

May 7, 2004				/S/ BRIAN DUPRERREAULT

				Brian Duperreault Chairman and Chief Executive Officer



May 7, 2004				/S/ PHILIP V. BANCROFT

				Philip V. Bancroft Chief Financial Officer

ACE LIMITED

EXHIBITS


Exhibit Number	Description	Numbered Page

	Exhibits

10.1	Executive Severance Agreement between ACE Limited and Philip Bancroft, effective as of January 2, 2002.

10.2	Credit agreement for $600 million dated as of April 2, 2004, among ACE Limited, certain subsidiaries, various lenders and J.P. Morgan Securities and Barclays Capital as joint lead arrangers and joint bookrunners.

31.1	Certification Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.

31.2	Certification Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.

32.1	Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002.

32.2	Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of The Sarbanes-Oxley Act of 2002.