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ALLIED WORLD ASSURANCE CO HOLDINGS, AG - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations.(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes included elsewhere in this Form 10-Q. References in this Form 10-Q to the terms "we," "us," "our," the "Company" or other similar terms mean the consolidated operations of Allied World Assurance Company Holdings, AG, a Swiss holding company, and our consolidated subsidiaries, unless the context requires otherwise. References in this Form 10-Q to the term "Allied World Switzerland" or "Holdings" means only Allied World Assurance Company Holdings, AG. References to "Allied World Bermuda" mean only Allied World Assurance Company Holdings, Ltd, a Bermuda holding company. References to "our insurance subsidiaries" may include our reinsurance subsidiaries. References in this Form 10-Q to $ are to the lawful currency of the United States and to CHF are to the lawful currency of Switzerland. References in this Form 10-Q to Holdings' "common shares" mean its registered voting shares. Note on Forward-Looking Statement This Form 10-Q and other publicly available documents may include, and our officers and representatives may from time to time make, projections concerning financial information and statements concerning future economic performance and events, plans and objectives relating to management, operations, products and services, and assumptions underlying these projections and statements. These projections and statements are forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995 and are not historical facts but instead represent only our belief regarding future events, many of which, by their nature, are inherently uncertain and outside our control. These projections and statements may address, among other things, our strategy for growth, product development, financial results and reserves. Actual results and financial condition may differ, possibly materially, from these projections and statements and therefore you should not place undue reliance on them. Factors that could cause our actual results to differ, possibly materially, from those in the specific projections and statements are discussed throughout this Management's Discussion and Analysis of Financial Condition and Results of Operations and in "Risk Factors" in Item 1A. of Part II of the Form 10-Q and Part I of our 2013 Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission ("SEC") on February 18, 2014 (the "2013 Form 10-K"). We are under no obligation (and expressly disclaim any such obligation) to update or revise any forward-looking statement that may be made from time to time, whether as a result of new information, future developments or otherwise. OverviewOur Business We write a diversified portfolio of property and casualty insurance and reinsurance internationally through our subsidiaries and branches based in Australia, Bermuda, Canada, Europe, Hong Kong, Singapore, and the United States as well as our Lloyd's Syndicate 2232. We manage our business through three operating segments: U.S. insurance, international insurance and reinsurance. As of September 30, 2014, we had approximately $12.8 billion of total assets, $3.7 billion of total shareholders' equity and $4.5 billion of total capital, which includes shareholders' equity and senior notes. During the three months ended September 30, 2014, we continued to grow our direct insurance business, in particular in the United States and Europe, as we entered new lines of business and added scale to our existing lines of business while our reinsurance segment grew its business by selectively writing accounts where pricing, terms and conditions met our underwriting requirements. During the quarter, we experienced positive rate improvements in certain lines of business, such as general casualty, primary casualty, healthcare and professional liability in our U.S. insurance segment. During the quarter, we also experienced negative rate changes in our general property line of business in both our U.S. insurance and international insurance segments, as well as negative rate changes in our professional liability, general casualty and aviation lines of business in the international insurance segment. We believe in the near-term, there will be pricing pressure across most lines of business, in particular in our international insurance segment. Our consolidated gross premiums written increased by $127.0 million, or 21.9%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013 due to growth in each of our operating segments. Overall our combined ratio is higher by 7.5 percentage points, driven by increased property loss activity during the quarter, including $18.5 million related to Hurricane Odile, $8.0 million related to Windstorm Ela and $3.3 million related to Property Claims Services ("PCS") designated storm #45 in the Midwestern U.S. ("PCS storm #45"). Our net income decreased by $91.9 million to $30.9 million compared to the three months ended September 30, 2013. The decrease was primarily due to recording net realized losses on our investments of $35.1 million during the three months ended 33-------------------------------------------------------------------------------- Table of Contents September 30, 2014 compared to recording net realized gains of $27.5 million during the three months ended September 30, 2013 as a result of higher interest rates and widening credit spreads during the current quarter and recording $29.8 million in catastrophe losses. Recent Developments On May 1, 2014, the shareholders approved a 3-for-1 stock split of the our common shares. All historical share and per share amounts reflect the effect of the stock split. In August 2014, we reached definitive agreements to acquire the Hong Kong and Singapore operations of Royal & Sun Alliance Insurance plc ("RSA") for approximately $211.0 million, at current exchange rates, subject to adjustments at closing. In addition to the purchase price, we expect to contribute an additional $90.0 million to capitalize the business on an ongoing basis. Subject to regulatory approvals in both Hong Kong and Singapore, as well as court approval in Singapore, the acquisition is expected to be completed in the first half of 2015. We believe the acquisition of the Hong Kong and Singapore branches of RSA complements our global specialist insurance strategy by providing meaningful additional scale in the region. In October 2014, we acquired, through our subsidiary Allied World Financial Services, Inc., a minority interest in Blue Vista Capital Management, LLC ("Blue Vista"). Blue Vista invests across real estate asset classes and capital structures through limited partnerships and separate accounts. As part of the acquisition, we have agreed to invest $225.0 million to various funds managed by Blue Vista over the next several years. Effective December 31, 2014, we will reorganize how we manage our business, and as a result we will realign our executive management team and change our reportable segments to correspond to the reorganization. Our Bermuda direct insurance operations, which had previously been included in the international insurance segment, will now be combined with the U.S. insurance segment and renamed North American Insurance. The remaining direct insurance operations of the international insurance segment will be renamed Global Markets Insurance. The reinsurance segment will remain unchanged. The newly created segments will be presented in our financial statements beginning with the period ended December 31, 2014 and prior periods will be recast to conform to the new presentation. 34-------------------------------------------------------------------------------- Table of Contents Financial Highlights Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 ($ in millions except share, per share and percentage data) Gross premiums written $ 707.9 $ 580.9 $ 2,369.7 $ 2,183.2 Net income 30.9 122.8 359.8 280.0 Operating income 60.6 101.8 266.5 289.5 Basic earnings per share: Net income $ 0.32 $ 1.20 $ 3.67 $ 2.72 Operating income $ 0.62 $ 0.99 $ 2.72 $ 2.81 Diluted earnings per share: Net income $ 0.31 $ 1.18 $ 3.60 $ 2.66 Operating income $ 0.61 $ 0.98 $ 2.67 $ 2.75 Weighted average common shares outstanding: Basic 96,458,231 101,974,077 97,926,378 103,020,681 Diluted 98,444,238 104,184,579 99,965,296 105,393,276 Basic book value per common share $ 38.11 $ 33.95 $ 38.11 $ 33.95 Diluted book value per common share $ 37.12 $ 33.05 $ 37.12 $ 33.05 Annualized return on average equity (ROAE), net income 3.4 % 14.4 % 13.2 % 11.0 % Annualized ROAE, operating income 6.6 % 11.9 % 9.7 % 11.4 % Non-GAAP Financial Measures In presenting the company's results, management has included and discussed certain non-GAAP financial measures, as such term is defined in Item 10(e) of Regulation S-K promulgated by the SEC. Management believes that these non-GAAP measures, which may be defined differently by other companies, better explain the company's results of operations in a manner that allows for a more complete understanding of the underlying trends in the company's business. However, these measures should not be viewed as a substitute for those determined in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP"). Operating income and operating income per share Operating income is an internal performance measure used in the management of our operations and represents after-tax operational results excluding, as applicable, net realized investment gains or losses, net foreign exchange gain or loss, and other non-recurring items. We exclude net realized investment gains or losses, net foreign exchange gain or loss and any other non-recurring items from our calculation of operating income because these amounts are heavily influenced by and fluctuate in part according to the availability of market opportunities and other factors. In addition to presenting net income determined in accordance with U.S. GAAP, we believe that showing operating income enables investors, analysts, rating agencies and other users of our financial information to more easily analyze our results of operations and our underlying business performance. Operating income should not be viewed as a substitute for U.S. GAAP net income. 35-------------------------------------------------------------------------------- Table of Contents The following is a reconciliation of operating income to its most closely related U.S. GAAP measure, net income. Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 ($ inmillions, except share, per share and percentage data) Net income $ 30.9 $ 122.8 $ 359.8 $ 280.0 Add after tax effect of: Net realized investment losses (gains) 29.4 (25.4 ) (94.2 ) 2.2 Foreign exchange loss 0.3 4.4 1.0 7.3 Operating income $ 60.6 $ 101.8 $ 266.5 $ 289.5 Basic per share data: Net income $ 0.32 $ 1.20 $ 3.67 $ 2.72 Add after tax effect of: Net realized investment losses (gains) 0.30 (0.25 ) (0.96 ) 0.02 Foreign exchange loss 0.00 0.04 0.01 0.07 Operating income $ 0.62 $ 0.99 $ 2.72 $ 2.81 Diluted per share data: Net income $ 0.31 $ 1.18 $ 3.60 $ 2.66 Add after tax effect of: Net realized investment losses (gains) 0.30 (0.24 ) (0.94 ) 0.02 Foreign exchange loss 0.00 0.04 0.01 0.07 Operating income $ 0.61 $ 0.98 $ 2.67 $ 2.75 Diluted book value per share We have included diluted book value per share because it takes into account the effect of dilutive securities; therefore, we believe it is an important measure of calculating shareholder returns. As of September 30, 2014 2013 ($ in millions, except share and per share data) Price per share at period end $ 36.84 $ 33.13 Total shareholders' equity $ 3,673.6 $ 3,443.9 Basic common shares outstanding 96,382,238 101,444,760 Add: Unvested restricted stock units 512,112 249,720 Performance-based equity awards 619,428 812,559 Employee share purchase plan 28,381 45,960 Dilutive stock options outstanding 2,532,918 3,152,496 Weighted average exercise price per share $ 16.30 $ 15.92 Deduct: Options bought back via treasury method (1,120,699 ) (1,515,171 ) Common shares and common share equivalents outstanding 98,954,378 104,190,324 Basic book value per common share $ 38.11 $ 33.95 Diluted book value per common share $ 37.12 $ 33.05 36-------------------------------------------------------------------------------- Table of Contents Annualized return on average equity Annualized return on average shareholders' equity ("ROAE") is calculated using average shareholders' equity. We present ROAE as a measure that is commonly recognized as a standard of performance by investors, analysts, rating agencies and other users of our financial information. Annualized operating return on average shareholders' equity is calculated using operating income and average shareholders' equity. Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 ($ in millions except percentage data) Opening shareholders' equity $ 3,682.8 $ 3,373.2 $ 3,616.7 $ 3,326.3 Closing shareholders' equity $ 3,673.6 $ 3,443.9 $ 3,673.6 $ 3,443.9 Average shareholders' equity $ 3,678.2 $ 3,408.6 $ 3,645.1 $ 3,385.1 Net income available to shareholders $ 30.9 $ 122.8 $ 359.8 $ 280.0 Annualized return on average shareholders' equity - net income available to shareholders 3.4 % 14.4 % 13.2 % 11.0 % Operating income available to shareholders $ 60.6 $ 101.8 $ 266.5 $ 289.5 Annualized return on average shareholders' equity - operating income available to shareholders 6.6 % 11.9 % 9.7 % 11.4 % Relevant Factors Revenues We derive our revenues primarily from premiums on our insurance policies and reinsurance contracts, net of any reinsurance or retrocessional coverage purchased. Insurance and reinsurance premiums are a function of the amounts and types of policies and contracts we write, as well as prevailing market prices. Our prices are determined before our ultimate costs, which may extend far into the future, are known. In addition, our revenues include income generated from our investment portfolio, consisting of net investment income and net realized investment gains or losses, and other income related to our non-insurance operations. Investment income is principally derived from interest and dividends earned on investments, as well as distributed and undistributed income from equity method investments, partially offset by investment management expenses and fees paid to our custodian bank. Net realized investment gains or losses include gains or losses from the sale of investments, as well as the change in the fair value of investments that we mark-to-market through net income. Other income currently includes revenue from our third-party claims administration services. Expenses Our expenses consist largely of net losses and loss expenses, acquisition costs and general and administrative expenses. Net losses and loss expenses incurred are comprised of three main components: • losses paid, which are actual cash payments to insureds and reinsureds, net of recoveries from reinsurers; • outstanding loss or case reserves, which represent management's best estimate of the likely settlement amount for known claims, less the portion that can be recovered from reinsurers; and • reserves for losses incurred but not reported, or "IBNR", which are reserves (in addition to case reserves) established by us that we believe are needed for the future settlement of claims. The portion recoverable from reinsurers is deducted from the gross estimated loss. Acquisition costs are comprised of commissions, brokerage fees, insurance taxes and other acquisition related costs such as profit commissions. Commissions and brokerage fees are usually calculated as a percentage of premiums and depend on the market and line of business. Acquisition costs are reported after (1) deducting commissions received on ceded reinsurance, 37-------------------------------------------------------------------------------- Table of Contents (2) deducting the part of deferred acquisition costs relating to the successful acquisition of new and renewal insurance and reinsurance contracts and (3) including the amortization of previously deferred acquisition costs. General and administrative expenses include personnel expenses including stock-based compensation expense, rent expense, professional fees, information technology costs and other general operating expenses. Ratios The Company measures its segment results as underwriting income or loss plus other insurance-related revenue and expenses, which may include the net earnings from our claims administration services operations and other income or expense that is not directly related to our underwriting operations. Management measures results for each segment's underwriting income or loss on the basis of the "loss and loss expense ratio," "acquisition cost ratio," "general and administrative expense ratio," "expense ratio" and the "combined ratio." Because we do not manage our assets by segment, investment income, interest expense and total assets are not allocated to individual reportable segments. General and administrative expenses are allocated to segments based on various factors, including staff count and each segment's proportional share of gross premiums written. The loss and loss expense ratio is derived by dividing net losses and loss expenses by net premiums earned. The acquisition cost ratio is derived by dividing acquisition costs by net premiums earned. The general and administrative expense ratio is derived by dividing general and administrative expenses by net premiums earned. The expense ratio is the sum of the acquisition cost ratio and the general and administrative expense ratio. The combined ratio is the sum of the loss and loss expense ratio, the acquisition cost ratio and the general and administrative expense ratio. Critical Accounting Policies It is important to understand our accounting policies in order to understand our financial position and results of operations. Our unaudited condensed consolidated financial statements reflect determinations that are inherently subjective in nature and require management to make assumptions and best estimates to determine the reported values. If events or other factors cause actual results to differ materially from management's underlying assumptions or estimates, there could be a material adverse effect on our financial condition or results of operations. We believe that some of the more critical judgments in the areas of accounting estimates and assumptions that affect our financial condition and results of operations are related to reserves for losses and loss expenses, reinsurance recoverables, premiums and acquisition costs, valuation of financial instruments and goodwill and other intangible asset impairment valuation. For a detailed discussion of our critical accounting policies, please refer to our 2013 Form 10-K. There were no material changes in the application of our critical accounting estimates subsequent to that report. 38-------------------------------------------------------------------------------- Table of Contents Results of OperationsThe following table sets forth our selected consolidated statement of operations data for each of the periods indicated. Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 ($ in millions) Revenues Gross premiums written $ 707.9 $ 580.9 $ 2,369.7 $ 2,183.2 Net premiums written $ 568.7 $ 453.1 $ 1,894.3 $ 1,729.4 Net premiums earned $ 541.7 $ 510.8 $ 1,609.3 $ 1,481.3 Net investment income 43.4 39.3 127.8 110.3 Net realized investment (losses) gains (35.1 ) 27.5 104.3 (8.1 ) Other income 1.0 - 1.0 - $ 551.0 $ 577.6 $ 1,842.4 $ 1,583.5 Expenses Net losses and loss expenses $ 336.1 $ 277.0 $ 926.2 $ 807.3 Acquisition costs 72.4 65.1 214.4 186.4 General and administrative expenses 88.3 88.6 264.8 251.8 Other expense 6.6 - 6.6 - Amortization of intangible assets 0.6 0.7 1.9 1.9 Interest expense 14.3 14.1 43.5 42.4 Foreign exchange loss 0.3 4.4 1.0 7.4 $ 518.6 $ 449.9 $ 1,458.4 $ 1,297.2 Income before income taxes 32.4 127.7 384.0 286.3 Income tax expense 1.5 4.9 24.3 6.3 Net income $ 30.9 $ 122.8 $ 359.7 $ 280.0 Ratios Loss and loss expense ratio 62.0 % 54.2 % 57.6 % 54.5 % Acquisition cost ratio 13.4 % 12.7 % 13.3 % 12.6 % General and administrative expense ratio 16.3 % 17.3 % 16.5 % 17.0 % Expense ratio 29.7 % 30.0 % 29.8 % 29.6 % Combined ratio 91.7 % 84.2 % 87.4 % 84.1 % Comparison of Three Months Ended September 30, 2014 and 2013 Premiums Gross premiums written increased by $127.0 million, or 21.9%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The overall increase in gross premiums written was primarily the result of the following: • U.S. insurance: Gross premiums written increased by $78.0 million, or 25.3%. The increase in gross premiums written was primarily due to the growth in our general casualty line of business, in particular our primary casualty class of business which increased due to adding new business on existing accounts. We also continued to see growth in our newer lines of business such as our mergers and acquisitions, environmental and inland marine lines of business. This growth was partially offset by the non-renewal of business, particularly in certain classes within our healthcare line of business, that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions); 39-------------------------------------------------------------------------------- Table of Contents • International insurance: Gross premiums written increased by $11.3 million, or 8.5%. The increase was primarily due to increased premiums on existing lines of business, particularly in our professional liability line of business. This was partially offset by lower premiums written in our aviation line of business. The decrease in our aviation line of business was due to $13.1 million of gross premiums written during the three months ended September 30, 2013 related to the renewal rights agreement we entered into with Markel International that did not occur during the three months ended September 30, 2014 partially offset by new business written during the current quarter; and • Reinsurance: Gross premiums written increased by $37.7 million, or 27.1%. The increase was from one new treaty in our casualty reinsurance line of business that resulted in $21.9 million of gross premiums written, and the timing of renewals primarily in our property reinsurance line of business. We had a large property treaty that renewed during the three months ended September 30, 2014 that was previously written during the second quarter of last year. This property reinsurance treaty included a fronting component which resulted in our retaining a small portion of the premiums written with the remainder being ceded. The table below illustrates our consolidated gross premiums written by underwriter location for each of the periods indicated. Three Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) United States $ 484.0 $ 377.6 $ 106.4 28.2 % Bermuda 109.5 111.1 (1.6 ) (1.4 )% Europe 64.9 51.9 13.0 25.0 % Asia Pacific 45.1 40.3 4.8 11.9 % Canada 4.4 - 4.4 n/a $ 707.9 $ 580.9 $ 127.0 21.9 % Net premiums written increased by $115.6 million, or 25.5%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase in net premiums written was primarily due to higher gross premiums written partially offset by higher premiums ceded. The increase in premiums ceded was due to higher ceded premiums related to our collateralized property catastrophe reinsurance protection as the premiums for the current treaty are recognized on a quarterly basis. This increase was partially offset by lower premiums ceded related to treaties that have contractual minimum premiums. The reduction in ceded premiums was due to recognizing annual ceded premiums at the inception of several reinsurance treaties rather than ratably over the contract period. This resulted in higher ceded premiums in previous quarters, as several reinsurance treaties incepted in those quarters, but lower ceded premiums in the current quarter. Previously, we recognized ceded premiums written on these agreements based on the actual premiums ceded each quarter. The difference between gross and net premiums written is the cost to us of purchasing reinsurance coverage, including the cost of property catastrophe reinsurance coverage. We ceded 19.7% of gross premiums written for the three months ended September 30, 2014 compared to 22.0% for the same period in 2013. The reduction was primarily due to the timing of the recognition of premiums ceded that have contractual minimum premiums. Net premiums earned increased by $30.9 million, or 6.0%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013 as a result of higher premiums earned in each of our operating segments. We evaluate our business by segment, distinguishing between U.S. insurance, international insurance and reinsurance. The following table illustrates the mix of our business on both a gross premiums written and net premiums earned basis. Gross Premiums Written Net Premiums Earned Three Months Ended Three Months Ended September 30, September 30, 2014 2013 2014 2013 U.S. insurance 54.6 % 53.1 % 41.4 % 40.7 % International insurance 20.4 % 22.9 % 17.4 % 17.1 % Reinsurance 25.0 % 24.0 % 41.2 % 42.2 % Total 100.0 % 100.0 % 100.0 % 100.0 % 40-------------------------------------------------------------------------------- Table of Contents Net Investment Income Net investment income increased by $4.1 million, or 10.4%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase was primarily due to higher income related to our fixed maturity non-core investments, which carry higher yields than government-backed securities. The annualized period book yield of the investment portfolio for the three months ended September 30, 2014 and 2013 was 2.0% and 1.9%, respectively. As of September 30, 2014, we held 10.3% of our total investments and cash equivalents in "other invested assets" compared to 9.9% as of September 30, 2013. Investment management expenses of $5.2 million and $4.1 million were incurred during the three months ended September 30, 2014 and 2013, respectively. The increase of $1.1 million, or 26.8%, was primarily due to additional investment portfolio managers utilized in the current period as compared to the prior period. As of September 30, 2014, approximately 88.0% of our fixed income investments consisted of investment grade securities. As of September 30, 2014 and December 31, 2013, the average Standard & Poor's credit rating of our fixed income portfolio was A+ and AA-, respectively. Realized Investment (Losses) Gains Net realized investment (losses) gains were comprised of the following: Three Months Ended September 30, 2014 2013 ($ in millions) Net realized gains on sale: Fixed maturity investments, trading $ 5.8 $ (4.8 ) Equity securities, trading (0.6 ) 13.9 Other invested assets: hedge funds and private equity, trading 13.6 2.1 Total net realized gains on sale 18.8 11.2 Net realized and unrealized gains (losses) on derivatives 2.2 (4.2 ) Mark-to-market (losses) gains: Fixed maturity investments, trading (40.8 ) 30.4 Equity securities, trading (8.5 ) (17.2 ) Other invested assets: hedge funds and private equity, trading (6.8 ) 7.3 Total mark-to-market (losses) gains (56.1 ) 20.5 Net realized investment (losses) gains $ (35.1 ) $ 27.5 The total return of our investment portfolio was 0.1% and 0.8% for the three months ended September 30, 2014 and 2013, respectively. The decrease in total return was primarily due to higher interest rates and widening credit spreads that caused mark-to-market losses on our fixed maturity investments during the current period compared to lower interest rates and tightening credit spreads during the prior period. Other Income Other income represents the revenue of our third-party claims administration services that we acquired in the current year. Net Losses and Loss Expenses Net losses and loss expenses increased by $59.1 million, or 21.3%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the three months ended September 30, 2014 and 2013: 41-------------------------------------------------------------------------------- Table of Contents Three Months Ended Three Months Ended Loss Ratio September 30, 2014 September 30, 2013 Percentage Point Amount % of NPE (1) Amount % of NPE (1) Dollar Change Change ($ in millions) Non-catastrophe $ 353.2 65.2 % $ 338.4 66.2 % $ 14.8 (1.0 ) Property catastrophe 29.8 5.5 - - 29.8 5.5 Current period 383.0 70.7 338.4 66.2 44.6 4.5 Prior period (46.9 ) (8.7 ) (61.4 ) (12.0 ) 14.5 3.3 Net losses and loss expenses $ 336.1 62.0 % $ 277.0 54.2 % $ 59.1 7.8 ________________________(1) "NPE" means net premiums earned. Current year non-catastrophe losses and loss expenses The increase in the current year non-catastrophe losses and loss expenses was primarily due to the overall growth of our operations. The decrease in the current year non-catastrophe losses and loss expenses ratio was primarily due to lower reported large property losses during the three months ended September 30, 2014 compared to the three months ended September 30, 2013. Current year property catastrophe losses and loss expenses During the three months ended September 30, 2014, we incurred $18.5 million of property catastrophe losses and loss expenses related to Hurricane Odile, of which $15.0 million was recorded by our international insurance segment and $3.5 million by our reinsurance segment, $8.0 million related to Windstorm Ela, and $3.3 million related to PCS storm #45. The losses related to Windstorm Ela and PCS storm #45 were recorded in our reinsurance segment. The losses related to Windstorm Ela and PCS storm #45 were classified as catastrophes in the current period as the additional net losses recorded in this period made the aggregate net losses incurred for these events in excess of $10.0 million, which is our quantitative threshold for classifying property-related losses as catastrophes. We did not incur any property catastrophe losses during the three months ended September 30, 2013. Prior year losses and loss expenses We recorded net favorable reserve development related to prior years of $46.9 million during the three months ended September 30, 2014 compared to net favorable reserve development of $61.4 million for the three months ended September 30, 2013, as shown in the tables below. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) U.S. insurance $ (0.1 ) $ 10.2 $ (16.6 ) $ 8.1 $ (3.5 ) $ (15.4 ) $ (2.3 ) $ 2.3 $ 4.0 $ 13.9 $ 0.6 International insurance (0.5 ) (1.3 ) (3.8 ) (8.5 ) (5.1 ) (7.1 ) (8.7 ) (7.4 ) 11.4 1.8 (29.2 ) Reinsurance 0.2 5.3 (1.0 ) (1.6 ) (4.3 ) (0.9 ) (0.6 ) (3.1 ) 1.9 (14.2 ) (18.3 ) $ (0.4 ) $ 14.2 $ (21.4 ) $ (2.0 ) $ (12.9 ) $ (23.4 ) $ (11.6 ) $ (8.2 ) $ 17.3 $ 1.5 $ (46.9 ) For the three months ended September 30, 2014, the net unfavorable prior year reserve development for the 2011 through 2013 loss years in our U.S. insurance segment was primarily due to a higher level of reported claims in our healthcare line of business while the net unfavorable prior year reserve development for the 2005 loss year primarily relates to our professional liability line of business. The net favorable reserve development in our international insurance segment for the 2011 and prior loss years was due to lower than expected loss emergence across most lines of business and loss years. The unfavorable prior reserve development for the 2012 loss year related to adverse development on two reported claims in our professional liability line of business. The net favorable reserve development in our reinsurance segment for the 2013 loss year was due to lower than expected reported loss activity in our property reinsurance line of business. 42-------------------------------------------------------------------------------- Table of Contents The following table shows the net favorable reserve development by loss year for each of our segments for the three months ended September 30, 2013. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) U.S. insurance $ (3.0 ) $ (0.6 ) $ (1.1 ) $ (6.1 ) $ (5.5 ) $ (2.9 ) $ (3.5 ) $ (4.8 ) $ 13.2 $ 18.1 $ 3.8 International insurance 0.2 (1.2 ) 3.2 (4.0 ) (8.6 ) (4.7 ) (5.9 ) (4.1 ) (2.1 ) (2.5 ) (29.7 ) Reinsurance (1.6 ) (2.4 ) 1.5 - 0.2 (2.1 ) (2.0 ) (2.6 ) (12.1 ) (14.4 ) (35.5 ) $ (4.4 ) $ (4.2 ) $ 3.6 $ (10.1 ) $ (13.9 ) $ (9.7 ) $ (11.4 ) $ (11.5 ) $ (1.0 ) $ 1.2 $ (61.4 ) For the three months ended September 30, 2013, the unfavorable reserve development for the 2011 loss year for our U.S. insurance segment was primarily due to a higher level of reported claims in our healthcare and errors and omissions ("E&O") lines of business. The unfavorable reserve development for the 2012 loss year for our U.S. insurance segment was primarily due to a higher level of reported claims in our healthcare, private/not for profit directors' and officers' ("D&O") and lawyers E&O lines of business. The favorable reserve development for the reinsurance segment was primarily related to our property reinsurance line of business, and included favorable reserve development related to recent catastrophic events that occurred in 2010 through 2012. The following table shows the components of net losses and loss expenses for each of the periods indicated. Three Months Ended September 30, Dollar 2014 2013 Change ($ in millions) Net losses paid $ 256.2 $ 243.7 $ 12.5 Net change in reported case reserves 40.3 (15.7 ) 56.0 Net change in IBNR 39.6 49.0 (9.4 ) Net losses and loss expenses $ 336.1 $ 277.0 $ 59.1 43-------------------------------------------------------------------------------- Table of Contents The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables. Three Months Ended September 30, 2014 2013 ($ in millions) Net reserves for losses and loss expenses, July 1 $ 4,633.9 $ 4,517.3 Incurred related to: Current period non-catastrophe 353.2 338.4 Current period property catastrophe 29.8 - Prior period (46.9 ) (61.4 ) Total incurred 336.1 277.0 Paid related to: Current period 53.6 30.5 Prior period 202.6 213.2 Total paid 256.2 243.7 Foreign exchange revaluation (10.5 ) 4.1Net reserve for losses and loss expenses, September 30 4,703.3 4,554.7 Losses and loss expenses recoverable 1,349.0 1,226.1 Reserve for losses and loss expenses, September 30 $ 6,052.3 $ 5,780.8 Acquisition Costs Acquisition costs increased by $7.3 million, or 11.2%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase in acquisition costs was primarily due to the growth in premiums earned, higher profit commission accruals in our U.S. insurance segment and higher ceding commissions paid to cedents for certain lines of business in our reinsurance segment. Acquisition costs as a percentage of net premiums earned were 13.4% for the three months ended September 30, 2014 compared to 12.7% for the same period in 2013. The higher acquisition cost ratio was primarily due to the reasons noted above. General and Administrative Expenses General and administrative expenses decreased by $0.3 million, or 0.3%, for the three months ended September 30, 2014 compared to the same period in 2013. Our general and administrative expense ratio was 16.3% and 17.3% for the three months ended September 30, 2014 and 2013, respectively. The decrease in general and administrative expenses was primarily due to lower stock-based compensation partially offset by higher salary related costs due to higher headcount. We have granted cash equivalent restricted stock units and performance-based equity awards to certain key employees, and we measure the value of each of those awards at the period ending share price. Changes in our share price are recognized as increases or decreases in our compensation expense ratably over the service period. Our share price decreased 3% for the three months ended September 30, 2014 compared to a 9% increase for the same period in 2013. Other Expense Other expense represents the expenses of our third-party claims administration services that we acquired in the current year of $1.3 million and the transaction-related costs incurred for the acquisition of the Hong Kong and Singapore operations of RSA of $5.3 million. Amortization of Intangible Assets The amortization of intangible assets was virtually unchanged for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. 44 -------------------------------------------------------------------------------- Table of Contents Interest Expense Interest expense increased by $0.2 million, or 1.4%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. Foreign Exchange Loss The foreign exchange loss decreased by $4.1 million, or 93.2%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The decrease was due to higher gains recorded on our foreign exchange derivative contracts due to the strengthening of the U.S. dollar relative to other major currencies and the timing of the tenor of the derivative contracts. Net Income Net income for the three months ended September 30, 2014 was $30.9 million compared to net income of $122.8 million for the three months ended September 30, 2013. The $91.9 million decrease was primarily the result of recording net realized losses on our investments of $35.1 million during the three months ended September 30, 2014 compared to net realized gains of $27.5 million during the three months ended September 30, 2013, and higher net loss and loss expenses, including losses from catastrophes of $29.8 million. Income tax expense for the three months ended September 30, 2014 decreased by $3.4 million compared to the three months ended September 30, 2013. The decrease in income tax expense was primarily due to lower taxable income in our U.S. operations. Comparison of Nine Months Ended September 30, 2014 and 2013 Premiums Gross premiums written increased by $186.5 million, or 8.5%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The overall increase in gross premiums written was primarily the result of the following: • U.S. insurance: Gross premiums written increased by $126.1 million, or 14.5%. The increase in gross premiums written was primarily due to $45.2 million of new business growth during the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013, increased premiums on renewed business as well as premium rate increases across most lines of business. This was particularly evident in our general casualty, mergers and acquisitions, inland marine and environmental lines of business. This growth was partially offset by the non-renewal of business, particularly in certain classes within our healthcare line of business, that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions); • International insurance: Gross premiums written increased by $29.1 million, or 6.4%. The increase was primarily due to continued growth from new initiatives and new lines of business. The professional liability line of business grew $17.1 million on new business writings in European E&O and mergers and acquisitions classes of business, and our aviation and marine cargo lines of business grew by $11.3 million. This growth was partially offset by the general casualty line of business, which decreased by $3.9 million compared to the prior period, due to non-recurring business written in 2013 and the non-renewal of certain policies during the current period, that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions); and • Reinsurance: Gross premiums written increased by $31.4 million, or 3.7%. The increase was driven primarily by new business and increased renewals across several major lines of business. In our property reinsurance lines of business, premiums increased by approximately $16.8 million, which included $3.9 million of increased premiums from our collateralized property catastrophe reinsurance program through Aeolus Re, Ltd. ("Aeolus Re"). We also experienced non-renewals of certain treaties, particularly in our casualty reinsurance line of business, either due to poor terms and conditions or the cedents not renewing their reinsurance. 45-------------------------------------------------------------------------------- Table of Contents The table below illustrates our consolidated gross premiums written by underwriter location for each of the periods indicated. Nine Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) United States $ 1,447.7 $ 1,296.2 $ 151.5 11.7 % Bermuda 525.0 550.8 (25.8 ) (4.7 )% Europe 245.9 198.7 47.2 23.8 % Asia Pacific 142.8 137.5 5.3 3.9 % Canada 8.3 - 8.3 n/a $ 2,369.7 $ 2,183.2 $ 186.5 8.5 % Net premiums written increased by $164.9 million, or 9.5%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase in net premiums written was due to the increase in gross premiums written and a decrease in ceded premiums written related to our property catastrophe reinsurance protection. We ceded 20.1% of gross premiums written for the nine months ended September 30, 2014 compared to 20.8% for the same period in 2013. Net premiums earned increased by $128.0 million, or 8.6%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013 as a result of higher premiums earned in each of our operating segments. The following table illustrates the mix of our business on both a gross premiums written and net premiums earned basis. Gross Premiums Written Net Premiums Earned Nine Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 U.S. insurance 42.1 % 39.9 % 40.5 % 40.0 % International insurance 20.4 % 20.8 % 16.9 % 17.5 % Reinsurance 37.5 % 39.3 % 42.6 % 42.5 % Total 100.0 % 100.0 % 100.0 % 100.0 % Net Investment Income Net investment income increased by $17.5 million, or 15.9%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase was due to higher income across most asset classes. The annualized period book yield of the investment portfolio for the nine months ended September 30, 2014 and 2013 was 2.0% and 1.8%, respectively. Investment management expenses of $13.7 million and $12.2 million were incurred during the nine months ended September 30, 2014 and 2013, respectively. The increase of $1.5 million, or 12.3%, was primarily due to additional investment portfolio managers utilized in the current period as compared to the prior period. 46-------------------------------------------------------------------------------- Table of Contents Realized Investment Gains (Losses) Net realized investment gains (losses) were comprised of the following: Nine Months Ended September 30, 2014 2013 ($ in millions) Net realized gains on sale: Fixed maturity investments, trading $ 23.6 $ 24.7 Equity securities, trading 43.8 30.1 Other invested assets: hedge funds and private equity, trading 53.2 16.8 Total net realized gains on sale 120.6 71.6 Net realized and unrealized (losses) gains on derivatives (24.5 ) 3.4 Mark-to-market gains (losses): Fixed maturity investments, trading 18.0 (101.2 ) Equity securities, trading (8.8 ) (18.6 ) Other invested assets: hedge funds and private equity, trading (1.1 ) 36.7 Total mark-to-market gains (losses) 8.1 (83.1 ) Net realized investment gains (losses) $ 104.2 $ (8.1 ) The total return of our investment portfolio was 2.7% and 1.2% for the nine months ended September 30, 2014 and 2013, respectively. The increase in total return was primarily due mark-to-market gains on our fixed maturity investments due to lower interest rates and tighter credit spreads during the nine months ended September 30, 2014 compared to mark-to-market losses due to higher rates during the nine months ended September 30, 2013. Equity securities and other invested assets continued to have a positive impact on the total return for the both the nine months ended September 30, 2014 and 2013. The realized and unrealized losses on derivatives for the nine months ended September 30, 2014 were the result of selling interest rate future and swap contracts to reduce the duration of the investment portfolio. Given the decrease in interest rates during the year, we recorded a loss related to these interest rate future and swap contracts. Other Income Other income represents the revenue of our third-party claims administration services that we acquired in the current year. Net Losses and Loss Expenses Net losses and loss expenses increased by $118.9 million, or 14.7%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the nine months ended September 30, 2014 and 2013: Nine Months Ended Nine Months Ended Loss Ratio September 30, 2014 September 30, 2013 Percentage Point Amount % of NPE (1) Amount % of NPE (1) Dollar Change Change ($ in millions) Non-catastrophe $ 1,024.1 63.7 % $ 961.2 64.9 % $ 62.9 (1.2 ) Property catastrophe 43.0 2.7 - - 43.0 2.7 Current period 1,067.1 66.4 961.2 64.9 105.9 1.5 Prior period (140.9 ) (8.8 ) (153.9 ) (10.4 ) 13.0 1.6 Net losses and loss expenses $ 926.2 57.6 % $ 807.3 54.5 % $ 118.9 3.1 ________________________ (1) "NPE" means net premiums earned. 47-------------------------------------------------------------------------------- Table of Contents Current year non-catastrophe losses and loss expenses The increase in the current year non-catastrophe losses and loss expenses was primarily due to the overall growth of our operations partially offset by a reduction in IBNR loss reserves due to lower than expected property losses in our reinsurance segment. The decrease in the current non-catastrophe losses and loss expense ratio was primarily due to the reduction in IBNR loss reserves. Current year property catastrophe losses and loss expenses During the nine months ended September 30, 2014, we incurred $18.5 million of property catastrophe losses and loss expenses related to Hurricane Odile, of which $15.0 million was recorded by our international insurance segment and $3.5 million by our reinsurance segment, $12.5 million related to PCS storm #45, and $12.0 million related to Windstorm Ela. The losses related to Windstorm Ela and PCS storm #45 were recorded in our reinsurance segment. We did not incur any property catastrophe losses during the nine months ended September 30, 2013. Prior year losses and loss expenses We recorded net favorable reserve development related to prior years of $140.9 million during the nine months ended September 30, 2014 compared to net favorable reserve development of $153.9 million for the nine months ended September 30, 2013, as shown in the tables below. (Favorable) and Unfavorable Loss Reserve Development by Loss Year Nine Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) U.S. insurance $ (4.8 ) $ 9.7 $ (16.6 ) $ 7.7 $ (8.0 ) $ (24.4 ) $ (1.3 ) $ 15.0 $ 3.5 $ 21.6 $ 2.4 International insurance 7.3 (5.1 ) (4.5 ) (36.9 ) 4.2 (27.4 ) (25.0 ) (12.4 ) 12.2 9.0 (78.6 ) Reinsurance (0.4 ) 5.0 (3.1 ) (4.0 ) (5.7 ) (1.3 ) 1.7 (8.2 ) 2.2 (50.9 ) (64.7 ) $ 2.1 $ 9.6 $ (24.2 ) $ (33.2 ) $ (9.5 ) $ (53.1 ) $ (24.6 ) $ (5.6 ) $ 17.9 $ (20.3 ) $ (140.9 ) For the nine months ended September 30, 2014, the net unfavorable prior year reserve development in the U.S. insurance segment for the 2011 through 2013 loss years was in our healthcare lines of business and was due to higher than expected loss frequency and severity. The net favorable prior year reserve development in the international insurance segment was primarily due to favorable reserve development for the 2007 loss year in our professional liability line of business and the net favorable development for the 2009 to 2011 loss years was due to actual loss emergence being lower than anticipated across several lines of business. Net unfavorable development for the 2012 loss year was due to adverse development on two reported claims in our professional liability line of business and the unfavorable reserve development for the 2013 loss year resulted from an increase in severity in our healthcare line of business. The net favorable prior year reserve development in our reinsurance segment for the 2013 loss year was primarily due to benign property loss activity, and therefore reported losses were less than our expectations. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Nine Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) U.S. insurance $ (3.1 ) $ (2.7 ) $ (4.6 ) $ (7.2 ) $ (18.5 ) $ (17.1 ) $ (6.5 ) $ (12.1 ) $ 30.9 $ 52.3 $ 11.4 International insurance 6.1 (4.1 ) (1.1 ) (14.9 ) (18.9 ) (14.6 ) (6.5 ) (9.6 ) (11.8 ) (9.7 ) (85.1 ) Reinsurance (1.4 ) (3.8 ) (1.6 ) 1.1 (2.0 ) (9.0 ) (1.6 ) (4.7 ) (15.0 ) (42.2 ) (80.2 ) $ 1.6 $ (10.6 ) $ (7.3 ) $ (21.0 ) $ (39.4 ) $ (40.7 ) $ (14.6 ) $ (26.4 ) $ 4.1 $ 0.4 $ (153.9 ) 48-------------------------------------------------------------------------------- Table of Contents For the nine months ended September 30, 2013, the unfavorable reserve development for the 2011 and 2012 loss years for our U.S. insurance segment was due to higher than expected loss emergence, primarily in our private/not for profit D&O, healthcare and E&O products. The favorable reserve development for our reinsurance segment was due to lower than expected reported losses in our property reinsurance line of business, including favorable loss reserve development related to recent catastrophic events that occurred in 2010 through 2012. The following table shows the components of net losses and loss expenses for each of the periods indicated. Nine Months Ended September 30, Dollar 2014 2013 Change ($ in millions) Net losses paid $ 747.0 $ 751.2 $ (4.2 ) Net change in reported case reserves 37.3 (24.9 ) 62.2 Net change in IBNR 141.9 81.0 60.9 Net losses and loss expenses $ 926.2 $ 807.3 $ 118.9 The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables. Nine Months Ended September 30, 2014 2013 ($ in millions) Net reserves for losses and loss expenses, January 1 $ 4,532.0 $ 4,504.4 Incurred related to: Current period non-catastrophe 1,024.1 961.2 Current period property catastrophe 43.0 - Prior period (140.9 ) (153.9 ) Total incurred 926.2 807.3 Paid related to: Current period 80.4 55.0 Prior period 666.6 696.2 Total paid 747.0 751.2 Foreign exchange revaluation (7.9 ) (5.8 ) Net reserve for losses and loss expenses, September 30 4,703.3 4,554.7 Losses and loss expenses recoverable 1,349.0 1,226.1 Reserve for losses and loss expenses, September 30 $ 6,052.3 $ 5,780.8 Acquisition Costs Acquisition costs increased by $28.0 million, or 15.0%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase in acquisition costs was due to the growth in net premiums earned and higher profit commission accruals in our U.S. insurance segment and higher ceding commissions paid to cedents for certain lines of business in our reinsurance segment. Acquisition costs as a percentage of net premiums earned were 13.3% for the nine months ended September 30, 2014 compared to 12.6% for the same period in 2013. General and Administrative Expenses General and administrative expenses increased by $13.0 million, or 5.2%, for the nine months ended September 30, 2014 compared to the same period in 2013. Our general and administrative expense ratio was 16.5% and 17.0% for the nine months ended September 30, 2014 and 2013, respectively. The increase in general and administrative expenses was primarily due to 49-------------------------------------------------------------------------------- Table of Contents higher salary related costs due to higher headcount as our average headcount increased by 12% partially offset by lower stock-based compensation due to changes in our share price. Our share price decreased 2% for the nine months ended September 30, 2014 compared to a 26% increase for the same period in 2013. Other Expense Other expense represents the expenses of our third-party claims administration services that we acquired in the current year and the transaction-related costs incurred for the acquisition of the Hong Kong and Singapore operations of RSA. Amortization of Intangible Assets The amortization of intangible assets was virtually unchanged for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. Interest Expense Interest expense increased by $1.1 million, or 2.6%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. Foreign Exchange Loss The foreign exchange loss decreased by $6.4 million, or 86.5%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The decrease was the result of the strengthening of the U.S. dollar relative to other major currencies during the current period. Net Income Net income for the nine months ended September 30, 2014 was $359.7 million compared to net income of $280.0 million for the nine months ended September 30, 2013. The $79.7 million increase was primarily the result of recording net realized gains on our investments of $104.3 million during the nine months ended September 30, 2014 compared to net realized losses of $8.1 million during the nine months ended September 30, 2013 partially offset by lower underwriting income from our operating segment, which included $43.0 million in catastrophe-related losses. Income tax expense for the nine months ended September 30, 2014 increased by $18.0 million compared to the nine months ended September 30, 2013. The increase in income tax expense was primarily due to higher taxable income in our U.S. operations. Underwriting Results by Operating SegmentsOur company is organized into three operating segments: U.S. Insurance Segment. The U.S. insurance segment includes our direct specialty insurance operations in the United States and Canada, as well as our claims administration services operations. This segment provides both direct property and specialty casualty insurance primarily to non-Fortune 1000 North American domiciled accounts, as well as third-party claims administration services. International Insurance Segment. The international insurance segment includes our direct insurance operations in Bermuda, Europe and Asia Pacific, which includes offices in Australia, Singapore and Hong Kong. This segment provides both direct property and casualty insurance primarily to Fortune 1000 North American domiciled accounts from our Bermuda office and direct property and specialty casualty to our non-North American domiciled accounts from our European and Asia Pacific offices. Reinsurance Segment. Our reinsurance segment has operations in Bermuda, Europe, Singapore and the United States. This segment includes the reinsurance of property, general casualty, professional liability, specialty lines and property catastrophe coverages written by insurance companies. We presently write reinsurance on both a treaty and a facultative basis, targeting several niche reinsurance markets. 50-------------------------------------------------------------------------------- Table of Contents U.S. Insurance Segment The following table summarizes the underwriting results and associated ratios for the U.S. insurance segment for each of the periods indicated. Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 ($ in millions) Revenues Gross premiums written $ 386.7 $ 308.7 $ 998.1 $ 872.0 Net premiums written 321.7 238.8 746.4 652.5 Net premiums earned 224.8 207.6 651.5 593.5 Expenses Net losses and loss expenses $ 153.0 $ 141.2 $ 440.5 $ 398.9 Acquisition costs 31.1 28.4 88.3 78.8 General and administrative expenses 41.7 41.7 125.8 119.5 Underwriting (loss) income (1.0 ) (3.7 ) (3.1 ) (3.7 ) Other insurance-related income 1.0 - 1.0 - Other insurance-related expenses 1.3 - 1.3 - Segment (loss) income $ (1.3 ) $ (3.7 ) $ (3.4 ) $ (3.7 ) Ratios Loss and loss expense ratio 68.1 % 68.0 % 67.6 % 67.2 % Acquisition cost ratio 13.9 % 13.7 % 13.6 % 13.3 % General and administrative expense ratio 18.6 % 20.0 % 19.3 % 20.1 % Expense ratio 32.5 % 33.7 % 32.9 % 33.4 % Combined ratio 100.6 % 101.7 % 100.5 % 100.6 % Comparison of Three Months Ended September 30, 2014 and 2013 Premiums. Gross premiums written increased by $78.0 million, or 25.3%, for the three months ended September 30, 2014 compared to the same period in 2013. The increase in gross premiums written was primarily due to the growth in our general casualty line of business, in particular our primary casualty class of business which increased due to adding new business on existing accounts. We also continued to see growth in our newer lines of business such as mergers and acquisitions, environmental and inland marine. This growth was partially offset by the non-renewal of business, particularly in certain classes within our healthcare line of business, which did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions). 51-------------------------------------------------------------------------------- Table of Contents The table below illustrates our gross premiums written by line of business for each of the periods indicated. Three Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) General casualty $ 153.0 $ 107.2 $ 45.8 42.7 % Professional liability 66.0 66.2 (0.2 ) (0.3 )% Programs 46.7 41.1 5.6 13.6 % Healthcare 38.9 43.4 (4.5 ) (10.4 )% General property 22.4 18.7 3.7 19.8 % Inland marine 17.4 12.1 5.3 43.8 % Environmental 15.8 8.4 7.4 88.1 % Other* 26.5 11.6 14.9 128.4 % $ 386.7 $ 308.7 $ 78.0 25.3 % ________________________* Includes our primary construction, mergers and acquisitions and surety lines of business. Net premiums written increased by $82.9 million, or 34.7%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase was primarily due to higher gross premiums written and lower ceded premiums. The reduction in ceded premiums was due to recognizing annual ceded premiums at the inception of several reinsurance treaties rather than ratably over the contract period as these reinsurance treaties had contractual minimum premiums. This resulted in higher ceded premiums in previous quarters, as several reinsurance treaties incepted in those quarters, but lower ceded premiums in the current quarter. Partially offsetting this decrease in ceded premiums was higher premiums ceded related to our collateralized property catastrophe reinsurance protection as the premiums for the current treaty are recognized on a quarterly basis. We ceded 16.8% of gross premiums written for the three months ended September 30, 2014 compared to 22.6% for the three months ended September 30, 2013. The reduction was primarily due to the timing of the recognition of premiums ceded that have contractual minimum premiums and the growth in our general casualty line of business which has lower premiums ceded relative to other lines of business. Net premiums earned increased by $17.2 million, or 8.3%, for the three months ended September 30, 2014 compared to the same period in 2013. The increase was due to the continued growth of our U.S. insurance operations. Net losses and loss expenses. Net losses and loss expenses increased by $11.8 million, or 8.4%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the three months ended September 30, 2014 and 2013: Three Months Ended Three Months Ended Loss Ratio September 30, 2014 September 30, 2013 Percentage Amount % of NPE Amount % of NPE Dollar Change Point Change ($ in millions) Non-catastrophe $ 152.4 67.8 % $ 137.4 66.2 % $ 15.0 1.6 Pts Property catastrophe - - - - - - Current period 152.4 67.8 137.4 66.2 15.0 1.6 Prior period 0.6 0.3 3.8 1.8 (3.2 ) (1.5 ) Net losses and loss expenses $ 153.0 68.1 % $ 141.2 68.0 % $ 11.8 0.1 Pts Current year non-catastrophe losses and loss expenses The increase in the current year non-catastrophe losses and loss expenses and the related ratio was primarily due to growth of the business and a loss related to our surety line of business in the current period. Current year property catastrophe losses and loss expenses During the three months ended September 30, 2014 and September 30, 2013, we did not incur any property catastrophe losses. 52-------------------------------------------------------------------------------- Table of Contents Prior year losses and loss expenses Overall, our U.S. insurance segment recorded net unfavorable reserve development of $0.6 million during the three months ended September 30, 2014 compared to net unfavorable reserve development of $3.8 million for the three months ended September 30, 2013, as shown in the tables below. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) General casualty $ (0.1 ) $ 0.7 $ - $ (0.1 ) $ - $ - $ 1.9 $ 0.8 $ 2.1 $ - $ 5.3 Programs - - (0.2 ) (0.6 ) (0.8 ) (1.1 ) (1.4 ) (2.3 ) 1.1 0.2 (5.1 ) General property - 0.5 - - - - (0.2 ) 3.0 (0.6 ) - 2.7 Healthcare 0.4 (1.1 ) (0.6 ) 0.1 - (0.1 ) - 1.9 4.1 7.6 12.3 Professional liability (0.4 ) 10.1 (15.8 ) 8.7 (2.7 ) (14.2 ) (2.6 ) (1.1 ) (2.1 ) 7.3 (12.8 ) Inland marine - - - - - - - - (0.7 ) (1.2 ) (1.9 ) Environmental - - - - - - - - 0.1 - 0.1 $ (0.1 ) $ 10.2 $ (16.6 ) $ 8.1 $ (3.5 ) $ (15.4 ) $ (2.3 ) $ 2.3 $ 4.0 $ 13.9 $ 0.6 For the three months ended September 30, 2014, the net unfavorable prior year reserve development primarily related to our healthcare and professional liability lines of business. The unfavorable prior year reserve development in our healthcare line of business for the 2011 through 2013 loss years was primarily due to higher than expected loss emergence in our medical malpractice line of business. The net favorable development in our professional liability line of business was primarily related to our public D&O line of business due to favorable development on several claims in the 2006 and 2009 loss years partially offset by higher than expected loss emergence, driven primarily from several claims, in the 2005 loss year. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) General casualty $ - $ - $ - $ - $ (4.6 ) $ - $ (0.3 ) $ - $ 0.6 $ 3.0 $ (1.3 ) Programs - - - - (0.2 ) (1.7 ) (1.2 ) (1.4 ) 0.5 0.5 (3.5 ) General property - 0.6 (0.2 ) 3.2 - - - 0.2 (0.2 ) (1.0 ) 2.6 Healthcare (3.0 ) (0.8 ) 0.2 - - (2.1 ) (2.3 ) - 10.1 5.1 7.2 Professional liability - (0.4 ) (1.1 ) (9.3 ) (0.7 ) 0.9 0.3 (3.6 ) 2.4 10.5 (1.0 ) Other - - - - - - - - (0.2 ) - (0.2 ) $ (3.0 ) $ (0.6 ) $ (1.1 ) $ (6.1 ) $ (5.5 ) $ (2.9 ) $ (3.5 ) $ (4.8 ) $ 13.2 $ 18.1 $ 3.8 For the three months ended September 30, 2013, the unfavorable reserve development for the 2011 loss year was primarily due to higher than expected loss emergence in our healthcare and E&O lines of business. The unfavorable reserve development for the 2012 loss year was primarily due to higher than expected loss emergence in our healthcare, private/not for profit D&O and lawyers E&O lines of business. We also recorded unfavorable loss reserve development in our general property line of business for the 2006 loss year due to unfavorable development on a reported claim. Acquisition costs. Acquisition costs increased by $2.7 million, or 9.5%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase was primarily driven by the growth in net premiums earned and increased profit commissions in our programs line of business. The acquisition cost ratio was 13.9% for the three months ended September 30, 2014 compared to 13.7% for the three months ended September 30, 2013. 53-------------------------------------------------------------------------------- Table of Contents General and administrative expenses. General and administrative expenses remained constant for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. While the general and administrative expenses remained constant, we did incur higher salary related costs as we continued to grow our U.S. operations offset by lower stock-based compensation expense. The general and administrative expense ratio decreased to 18.6% for the three months ended September 30, 2014 from 20.0% for the same period in 2013. Other insurance-related income and expense. The other insurance-related income and expense represents the revenue and related expenses of our third-party claims administration services that we acquired in the current year. Comparison of Nine Months Ended September 30, 2014 and 2013 Premiums. Gross premiums written increased by $126.1 million, or 14.5%, for the nine months ended September 30, 2014 compared to the same period in 2013. The increase in gross premiums written was primarily due to $45.2 million of new business growth during the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013, increased premiums on renewed business as well as premium rate increases across most lines of business. This was particularly evident in our general casualty, mergers and acquisitions, inland marine and environmental lines of business. This growth was partially offset by the non-renewal of business, particularly in certain classes within our healthcare line of business, which did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions). The table below illustrates our gross premiums written by line of business for each of the periods indicated. Nine Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) General casualty $ 352.0 $ 271.5 $ 80.5 29.7 % Professional liability 190.2 193.7 (3.5 ) (1.8 )% Programs 119.9 107.7 12.2 11.3 % Healthcare 111.0 143.4 (32.4 ) (22.6 )% General property 76.1 74.0 2.1 2.8 % Inland marine 50.2 32.8 17.4 53.0 % Environmental 37.6 24.7 12.9 52.2 % Other* 61.1 24.2 36.9 152.5 % $ 998.1 $ 872.0 $ 126.1 14.5 % ________________________* Includes our primary construction, mergers and acquisitions and surety lines of business. Net premiums written increased by $93.9 million, or 14.4%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase in net premiums written was primarily due to higher gross premiums written. We ceded 25.2% of gross premiums written for both the nine months ended September 30, 2014 and 2013. Net premiums earned increased by $58.0 million, or 9.8%, for the nine months ended September 30, 2014 compared to the same period in 2013. The increase was due to the continued growth of our U.S. insurance operations. Net losses and loss expenses. Net losses and loss expenses increased by $41.6 million, or 10.4%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the nine months ended September 30, 2014 and 2013: 54-------------------------------------------------------------------------------- Table of Contents Nine Months Ended Nine Months Ended Loss Ratio September 30, 2014 September 30, 2013 Percentage Amount % of NPE Amount % of NPE Dollar Change Point Change ($ in millions) Non-catastrophe $ 438.1 67.2 % $ 387.5 65.3 % $ 50.6 1.9 Pts Property catastrophe - - - - - - Current period 438.1 67.2 387.5 65.3 50.6 1.9 Prior period 2.4 0.4 11.4 1.9 (9.0 ) (1.5 ) Net losses and loss expenses $ 440.5 67.6 % $ 398.9 67.2 % $ 41.6 0.4 Pts Current year non-catastrophe losses and loss expenses The increase in the current year non-catastrophe losses and loss expenses and the related ratio was primarily due to growth and mix of the business, higher non-catastrophe property losses in the current period compared to the same period last year, a loss related to our surety line of business in the current period and increased loss adjustment expenses across several lines of business. Current year property catastrophe losses and loss expenses During the nine months ended September 30, 2014 and September 30, 2013, we did not incur any property catastrophe losses. Prior year losses and loss expenses Overall, our U.S. insurance segment recorded net unfavorable reserve development of $2.4 million during the nine months ended September 30, 2014 compared to net unfavorable reserve development of $11.4 million for the nine months ended September 30, 2013, as shown in the tables below. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Nine Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) General casualty $ (3.1 ) $ 0.7 $ - $ (0.8 ) $ (4.8 ) $ 0.3 $ 3.2 $ 2.8 $ 0.2 $ 4.2 $ 2.7 Programs - - (0.2 ) 0.3 0.5 (4.4 ) (1.1 ) (4.1 ) 0.3 (1.2 ) (9.9 ) General property - 0.5 - - - - 0.3 1.4 (0.9 ) 3.2 4.5 Healthcare (1.3 ) (1.6 ) (0.6 ) (0.2 ) (0.6 ) 3.0 0.1 16.1 7.9 9.7 32.5 Professional liability (0.4 ) 10.1 (15.8 ) 8.4 (3.1 ) (23.3 ) (3.6 ) 0.1 (1.7 ) 7.3 (22.0 ) Inland marine - - - - - - - (0.3 ) (1.2 ) (1.6 ) (3.1 ) Environmental - - - - - - (0.2 ) (1.0 ) (1.1 ) - (2.3 ) $ (4.8 ) $ 9.7 $ (16.6 ) $ 7.7 $ (8.0 ) $ (24.4 ) $ (1.3 ) $ 15.0 $ 3.5 $ 21.6 $ 2.4 For the nine months ended September 30, 2014, the net unfavorable prior year reserve development primarily related to our healthcare and professional liability lines of business. The unfavorable prior year reserve development in our healthcare line of business for the 2011 through 2013 loss years was primarily due to higher than expected loss frequency and severity. The net favorable development in our professional liability line of business was primarily related to our public D&O class of business due to favorable development on several claims in the 2006 and 2009 loss year partially offset by adverse development on reported claims in the 2005 loss year. 55-------------------------------------------------------------------------------- Table of Contents (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Nine Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) General casualty $ - $ (0.7 ) $ (0.5 ) $ - $ (9.1 ) $ (3.1 ) $ (0.2 ) $ - $ 2.6 $ 3.5 $ (7.5 ) Programs - - - (1.4 ) (3.5 ) (1.5 ) (1.9 ) (4.1 ) (0.1 ) 3.3 (9.2 ) General property - 0.7 (0.2 ) 3.5 (0.2 ) (1.3 ) (1.3 ) - 1.3 1.0 3.5 Healthcare (3.1 ) (1.8 ) (1.4 ) (2.7 ) (2.3 ) (8.3 ) (3.5 ) (1.6 ) 23.2 14.1 12.6 Professional liability - (0.9 ) (2.5 ) (6.6 ) (3.4 ) (2.9 ) 0.4 (6.3 ) 4.5 28.8 11.1 Other - - - - - - - (0.1 ) (0.6 ) 1.6 0.9 $ (3.1 ) $ (2.7 ) $ (4.6 ) $ (7.2 ) $ (18.5 ) $ (17.1 ) $ (6.5 ) $ (12.1 ) $ 30.9 $ 52.3 $ 11.4 For the nine months ended September 30, 2013, the unfavorable reserve development for the 2011 and 2012 loss years was due to higher than expected loss emergence, primarily in our healthcare, private/not for profit D&O and E&O lines of business. Acquisition costs. Acquisition costs increased by $9.5 million, or 12.1%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase was driven by the growth in net premiums earned, higher commission and brokerage rates compared to last year due to changes in the mix of business and higher rates charged by brokers, and an increase in other acquisition related costs. The acquisition cost ratio was 13.6% and 13.3% for the nine months ended September 30, 2014 and 2013. General and administrative expenses. General and administrative expenses increased by $6.3 million, or 5.3%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase was primarily due to higher salary-related costs as we continue to grow our U.S. insurance operations partially offset by lower stock-based compensation. The general and administrative expense ratio decreased to 19.3% for the nine months ended September 30, 2014 from 20.1% for the same period in 2013. Other insurance-related income and expense. The other insurance-related income and expense represents the revenue and related expenses of our third-party claims administration services that we acquired in the current year. 56-------------------------------------------------------------------------------- Table of Contents International Insurance Segment The following table summarizes the underwriting results and associated ratios for the international insurance segment for each of the periods indicated. Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 ($ in millions) Revenues Gross premiums written $ 144.2 $ 132.9 $ 483.1 $ 454.0 Net premiums written 87.8 75.7 285.5 259.8 Net premiums earned 94.0 87.6 271.6 258.8 Expenses Net losses and loss expenses $ 55.8 $ 31.1 $ 115.3 $ 91.0 Acquisition costs 1.2 (0.3 ) 0.8 (1.5 ) General and administrative expenses 28.0 26.5 82.2 75.4 Underwriting income 9.0 30.3 73.3 93.9 Other insurance-related income - - - - Other insurance-related expenses 5.3 - 5.3 - Segment income $ 3.7 $ 30.3 $ 68.0 $ 93.9 Ratios Loss and loss expense ratio 59.4 % 35.5 % 42.5 % 35.2 % Acquisition cost ratio 1.3 % (0.3 )% 0.3 % (0.6 )% General and administrative expense ratio 29.8 % 30.2 % 30.3 % 29.1 % Expense ratio 31.1 % 29.9 % 30.6 % 28.5 % Combined ratio 90.5 % 65.4 % 73.1 % 63.7 % Comparison of Three Months Ended September 30, 2014 and 2013 Premiums. Gross premiums written increased by $11.3 million, or 8.5%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase was primarily due to increased premiums on existing lines of business, particularly in our professional liability line of business. This was partially offset by lower premiums written in our aviation line of business. The decrease in our aviation line of business was due to $13.1 million of gross premiums written during the three months ended September 30, 2013 related to the renewal rights agreement we entered into with Markel International that did not occur during the three months ended September 30, 2014 partially offset by new business written during the current quarter. The table below illustrates our gross premiums written by underwriter location for our international insurance operations. Three Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) Bermuda $ 84.2 $ 83.9 $ 0.3 0.4 % Europe 51.2 42.7 8.5 19.9 % Asia Pacific 8.8 6.3 2.5 39.7 % $ 144.2 $ 132.9 $ 11.3 8.5 % 57-------------------------------------------------------------------------------- Table of Contents The table below illustrates our gross premiums written by line of business for each of the periods indicated. Three Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) Professional liability $ 51.5 $ 43.8 $ 7.7 17.6 % General casualty 32.4 28.7 3.7 12.9 % General property 23.3 22.6 0.7 3.1 % Healthcare 19.2 18.6 0.6 3.2 % Aviation 8.7 13.1 (4.4 ) (33.6 )% Trade credit 6.9 6.1 0.8 13.1 % Other* 2.2 - 2.2 n/a $ 144.2 $ 132.9 $ 11.3 8.5 % ________________________* Includes our marine cargo and onshore construction lines of business. Net premiums written increased by $12.1 million, or 16.0%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase in net premiums written was primarily due to higher gross premiums written and lower ceded premiums due to lower cessions in our professional liability reinsurance treaty. This was partially offset by higher premiums ceded during the quarter related to our collateralized property catastrophe reinsurance protection as the premiums for the current treaty are recognized on a quarterly basis. We ceded 39.1% of gross premiums written for the three months ended September 30, 2014 compared to 43.0% for the three months ended September 30, 2013. Net premiums earned increased by $6.4 million, or 7.3%, primarily due to higher net premiums written as we continued to expand our European and Asia Pacific operations. Net losses and loss expenses. Net losses and loss expenses increased by $24.7 million, or 79.4%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the three months ended September 30, 2014 and 2013: Loss Ratio Three Months Ended Three Months Ended Percentage September 30, 2014 September 30, 2013 Point Amount % of NPE Amount % of NPE Dollar Change Change ($ in millions) Non-catastrophe $ 70.0 74.5 % $ 60.8 69.4 % $ 9.2 5.1 Pts Property catastrophe 15.0 16.0 - - 15.0 16.0 Current period 85.0 90.5 60.8 69.4 24.2 21.1 Prior period (29.2 ) (31.1 ) (29.7 ) (33.9 ) 0.5 2.8 Net losses and loss expenses $ 55.8 59.4 % $ 31.1 35.5 % $ 24.7 23.9 Pts Current year non-catastrophe losses and loss expenses The increase in the current year non-catastrophe losses and loss expenses and related ratio was primarily due to higher reported non-catastrophe property loss activity during the three months ended September 30, 2014 compared to the three months ended September 30, 2013. Current year property catastrophe losses and loss expenses During the three months ended September 30, 2014, we incurred $15.0 million of property catastrophe losses and loss expenses related to Hurricane Odile, whereas we did not incur any property catastrophe losses during the three months ended September 30, 2013. 58-------------------------------------------------------------------------------- Table of Contents Prior year losses and loss expenses Overall, our international insurance segment recorded net favorable reserve development of $29.2 million during the three months ended September 30, 2014 compared to net favorable reserve development of $29.7 million for the three months ended September 30, 2013, as shown in the tables below. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) General casualty $ 0.8 $ (0.6 ) $ (1.0 ) $ (1.1 ) $ (3.7 ) $ (5.0 ) $ (0.3 ) $ (2.5 ) $ (0.1 ) $ - $ (13.5 ) General property 0.1 0.6 (0.4 ) - (0.4 ) - (0.5 ) (3.5 ) (0.2 ) (1.3 ) (5.6 ) Professional liability (0.2 ) (0.4 ) (1.3 ) (7.2 ) (0.8 ) (2.0 ) (3.9 ) (1.5 ) 14.9 - (2.4 ) Healthcare (1.2 ) (0.9 ) (1.1 ) (0.2 ) (0.2 ) (0.1 ) (4.0 ) 0.1 (1.2 ) 1.2 (7.6 ) Trade credit - - - - - - - - (2.0 ) 1.9 (0.1 ) $ (0.5 ) $ (1.3 ) $ (3.8 ) $ (8.5 ) $ (5.1 ) $ (7.1 ) $ (8.7 ) $ (7.4 ) $ 11.4 $ 1.8 $ (29.2 ) For the three months ended September 30, 2014, we recorded unfavorable prior year reserve development in our professional liability line of business for the 2012 loss year primarily due to higher than expected loss emergence. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) General casualty $ 0.7 $ (0.6 ) $ (1.4 ) $ (2.3 ) $ (1.8 ) $ (4.1 ) $ (0.6 ) $ (2.9 ) $ (0.1 ) $ - $ (13.1 ) General property - - 3.4 (0.1 ) (0.1 ) (0.1 ) (0.1 ) (0.8 ) (1.3 ) (2.5 ) (1.6 ) Professional liability 0.2 (0.4 ) 1.4 (1.1 ) (3.6 ) (0.2 ) (0.3 ) (0.2 ) (0.4 ) - (4.6 ) Healthcare (0.7 ) (0.2 ) (0.2 ) (0.5 ) (3.1 ) (0.3 ) (4.9 ) (0.2 ) (0.3 ) - (10.4 ) $ 0.2 $ (1.2 ) $ 3.2 $ (4.0 ) $ (8.6 ) $ (4.7 ) $ (5.9 ) $ (4.1 ) $ (2.1 ) $ (2.5 ) $ (29.7 ) For the three months ended September 30, 2013, we recorded unfavorable loss reserve development in our general property line of business for the 2005 loss year due to higher than expected loss emergence on an energy claim. Acquisition costs. Acquisition costs increased by $1.5 million, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The acquisition cost ratio was 1.3% for the three months ended September 30, 2014 and negative 0.3% for the three months ended September 30, 2013. The negative cost represents ceding commissions received on ceded premiums, that have been earned, in excess of the brokerage fees and commissions paid on gross premiums written, that have been amortized. The ceding commission income also covers costs that are expensed as incurred. The increase in the acquisition costs and related ratio was due to lower ceding commission income earned from our outward reinsurance treaties due to lower ceded premiums, combined with higher acquisition-related costs during the three months ended September 30, 2014 compared to the three months ended September 30, 2013. General and administrative expenses. General and administrative expenses increased by $1.5 million, or 5.7%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase was primarily due to higher salary-related costs as we continue to grow our international insurance operations by adding specialty underwriting teams partially offset by lower stock-based compensation expense. The general and administrative expense ratio was 29.8% and 30.2% for the three months ended September 30, 2014 and 2013, respectively. Other insurance-related income and expense. The other insurance-related expenses incurred for the current quarter represent the transaction-related costs incurred for our acquisition of RSA's Hong Kong and Singapore operations. Upon closing of the acquisition in 2015, RSA's Hong Kong and Singapore operations will be combined into our current branch 59-------------------------------------------------------------------------------- Table of Contents operations in these jurisdictions and will be included in the international insurance segment. As such, the transaction-related costs have been reflected in this segment. Comparison of Nine Months Ended September 30, 2014 and 2013 Premiums. Gross premiums written increased by $29.1 million, or 6.4%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase was primarily due to continued growth from new initiatives and new lines of business. The professional liability line of business grew $17.1 million on new business writings in European E&O and mergers and acquisitions classes of business, and our aviation and marine cargo lines of business grew by $11.3 million. This growth was partially offset by the general casualty line of business, which decreased by $3.9 million compared to the prior period, due to non-recurring business written in 2013 and the non-renewal of certain policies during the current period, that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions). The table below illustrates our gross premiums written by underwriter location for our international insurance operations. Nine Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) Bermuda $ 299.1 $ 305.4 $ (6.3 ) (2.1 )% Europe 162.1 129.5 32.6 25.2 % Asia Pacific 21.9 19.1 2.8 14.7 % $ 483.1 $ 454.0 $ 29.1 6.4 % The table below illustrates our gross premiums written by line of business for each of the periods indicated. Nine Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) Professional liability $ 151.3 $ 134.2 $ 17.1 12.7 % General property 125.4 126.5 (1.1 ) (0.9 )% General casualty 93.1 97.0 (3.9 ) (4.0 )% Healthcare 66.3 66.3 - - % Trade credit 22.4 16.9 5.5 32.5 % Aviation 18.2 13.1 5.1 38.9 % Other* 6.4 - 6.4 n/a $ 483.1 $ 454.0 $ 29.1 6.4 % ________________________* Includes our marine cargo and onshore construction lines of business. Net premiums written increased by $25.7 million, or 9.9%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase in net premiums written was primarily due to higher gross premiums written, lower ceded premiums related to our property catastrophe reinsurance protection for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013, and lower cessions in our professional liability reinsurance treaty. This was partially offset by higher premiums ceded for new reinsurance contracts for our aviation, marine cargo and small- to medium-sized enterprise lines of business. We ceded 40.9% of gross premiums written for the nine months ended September 30, 2014 compared to 42.8% for the nine months ended September 30, 2013. Net premiums earned increased by $12.9 million, or 5.0%, primarily due to higher net premiums written as we continued to expand our European and Asia Pacific operations. Net losses and loss expenses. Net losses and loss expenses increased by $24.3 million, or 26.7%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the nine months ended September 30, 2014 and 2013: 60-------------------------------------------------------------------------------- Table of Contents Nine Months Ended Nine Months Ended Loss Ratio September 30, 2014 September 30, 2013 Percentage Amount % of NPE Amount % of NPE Dollar Change Point Change ($ in millions)Non-catastrophe $ 178.9 65.9 % $ 176.1 68.1 % $ 2.8 (2.2) Pts Property catastrophe 15.0 5.5 - - 15.0 5.5 Current period 193.9 71.4 176.1 68.1 17.8 3.3 Prior period (78.6 ) (28.9 ) (85.1 ) (32.9 ) 6.5 4.0 Net losses and loss expenses $ 115.3 42.5 % $ 91.0 35.2 % $ 24.3 7.3 Pts Current year non-catastrophe losses and loss expenses The increase in the current year non-catastrophe losses and loss expenses was primarily due to the growth in international insurance operations partially offset by an increase to the loss adjustment expense reserve during the nine months ended September 30, 2013 that did not occur during the nine months ended September 30, 2014. Current year property catastrophe losses and loss expenses During the nine months ended September 30, 2014 we incurred $15.0 million of property catastrophe losses and loss expenses related to Hurricane Odile, whereas we did not incur any property catastrophe losses during the nine months ended September 30, 2013. Prior year losses and loss expenses Overall, our international insurance segment recorded net favorable reserve development of $78.6 million during the nine months ended September 30, 2014 compared to net favorable reserve development of $85.1 million for the nine months ended September 30, 2013, as shown in the tables below. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Nine Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) General casualty $ 10.4 $ (2.0 ) $ (3.5 ) $ (4.6 ) $ 7.7 $ (14.3 ) $ (9.1 ) $ (0.6 ) $ (0.2 ) $ - $ (16.2 ) General property (0.2 ) 0.7 (0.9 ) (1.1 ) (0.7 ) (0.7 ) (0.4 ) (8.1 ) (4.8 ) (11.4 ) (27.6 ) Professional liability (1.6 ) (2.0 ) 1.9 (30.0 ) (1.8 ) (12.3 ) (7.5 ) (2.3 ) 20.8 - (34.8 ) Healthcare (1.3 ) (1.8 ) (2.0 ) (1.2 ) (1.0 ) (0.1 ) (7.9 ) (0.4 ) (1.4 ) 17.2 0.1 Trade credit - - - - - - (0.1 ) (1.0 ) (2.2 ) 3.2 (0.1 ) $ 7.3 $ (5.1 ) $ (4.5 ) $ (36.9 ) $ 4.2 $ (27.4 ) $ (25.0 ) $ (12.4 ) $ 12.2 $ 9.0 $ (78.6 ) For the nine months ended September 30, 2014, the unfavorable prior year reserve development in the healthcare line of business for the 2013 loss year and for the general casualty line of business for the 2008 loss year related to individual claims within each of those lines of business. The favorable prior year reserve development in the professional liability line of business for the 2007 loss year was primarily due to favorable reserve development on an individual claim while the unfavorable development for the 2012 loss year was primarily due to adverse development on two reported claims. The favorable development in the 2009 and 2010 loss years was primarily due to actual loss emergence being lower than anticipated across several lines of business. 61-------------------------------------------------------------------------------- Table of Contents (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Nine Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) General casualty $ 7.0 $ 1.8 $ (8.4 ) $ (9.0 ) $ (10.5 ) $ (8.8 ) $ (1.8 ) $ (3.1 ) $ (0.1 ) $ 0.9 $ (32.0 ) General property - - 3.3 (0.3 ) 1.0 (1.1 ) (3.6 ) (4.8 ) (10.8 ) (10.6 ) (26.9 ) Professional liability (0.1 ) (5.4 ) 4.7 (4.0 ) (14.5 ) 0.1 (6.8 ) (0.6 ) (0.5 ) - (27.1 ) Healthcare (0.8 ) (0.5 ) (0.7 ) (1.6 ) 5.1 (4.8 ) 5.7 (1.1 ) (0.4 ) - 0.9 $ 6.1 $ (4.1 ) $ (1.1 ) $ (14.9 ) $ (18.9 ) $ (14.6 ) $ (6.5 ) $ (9.6 ) $ (11.8 ) $ (9.7 ) $ (85.1 ) For the nine months ended September 30, 2013, the net favorable reserve development for loss years 2004 to 2012 is a result of actual loss emergence being lower than anticipated, in particular for our general property line of business for the 2011 and 2012 loss years. The unfavorable reserve development in our healthcare line in the 2007 and 2009 loss years was due to adverse development on individual claims. Acquisition costs. Acquisition costs increased by $2.3 million, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The acquisition cost ratio was 0.3% for the nine months ended September 30, 2014 and negative 0.6% for the nine months ended September 30, 2013. The higher acquisition cost ratio is primarily due to higher acquisition related costs during the current year as compared to the prior year. General and administrative expenses. General and administrative expenses increased by $6.8 million, or 9.0%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase in general and administrative expenses was due to increased salary and related costs partially offset by lower stock-based compensation expense. The general and administrative expense ratio was 30.3% and 29.1% for the nine months ended September 30, 2014 and 2013, respectively. Other insurance-related income and expense. The other insurance-related expenses incurred for the current period represent the transaction-related costs incurred for our acquisition of RSA's Hong Kong and Singapore operations. 62-------------------------------------------------------------------------------- Table of Contents Reinsurance Segment The following table summarizes the underwriting results and associated ratios for the reinsurance segment for each of the periods indicated. Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 ($ in millions) Revenues Gross premiums written $ 177.0 $ 139.3 $ 888.6 $ 857.2 Net premiums written 159.2 138.6 862.4 817.1 Net premiums earned 223.0 215.6 686.2 629.0 Expenses Net losses and loss expenses $ 127.3 $ 104.7 $ 370.4 $ 317.4 Acquisition costs 40.1 37.0 125.3 109.1 General and administrative expenses 18.6 20.4 56.9 56.9 Underwriting income 37.0 53.5 133.6 145.6 Other insurance-related income - - - - Other insurance-related expenses - - - - Segment income $ 37.0 $ 53.5 $ 133.6 $ 145.6 Ratios Loss and loss expense ratio 57.1 % 48.5 % 54.0 % 50.5 % Acquisition cost ratio 18.0 % 17.1 % 18.3 % 17.3 % General and administrative expense ratio 8.3 % 9.5 % 8.3 % 9.1 % Expense ratio 26.3 % 26.6 % 26.6 % 26.4 % Combined ratio 83.4 % 75.1 % 80.6 % 76.9 % Comparison of Three Months Ended September 30, 2014 and 2013 Premiums. Gross premiums written increased by $37.7 million, or 27.1%, for the three months ended September 30, 2014 compared to the same period in 2013. The increase was from one new treaty in our casualty reinsurance line of business that resulted in $21.9 million of gross premiums written, and the timing of renewals primarily in our property reinsurance line of business. We had a large property treaty that renewed during the three months ended September 30, 2014 that was previously written during the second quarter of last year. This property reinsurance treaty included a fronting component which resulted in our retaining a small portion of the premiums written with the remainder being ceded. The table below illustrates our gross premiums written by underwriter location for our reinsurance operations. Three Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) United States $ 101.8 $ 68.9 $ 32.9 47.8 % Bermuda 25.3 27.2 (1.9 ) (7.0 )% Asia 36.2 33.9 2.3 6.8 % Europe 13.7 9.3 4.4 47.3 % $ 177.0 $ 139.3 $ 37.7 27.1 % 63-------------------------------------------------------------------------------- Table of Contents The table below illustrates our gross premiums written by line of business for each of the periods indicated. Three Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) Casualty $ 86.7 $ 56.0 $ 30.7 54.8 % Property 83.1 $ 72.6 10.5 14.5 % Specialty 7.2 10.7 (3.5 ) (32.7 )% $ 177.0 $ 139.3 $ 37.7 27.1 % Net premiums written increased by $20.6 million, or 14.9%, due to the increase in gross premiums written partially offset by higher premiums ceded during the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase in premiums ceded was due to the timing of ceded premiums related to the large property reinsurance treaty that had a fronting component, as well as premiums ceded for our current year collateralized property catastrophe reinsurance protection as the premiums for the current treaty are recognized on a quarterly basis. Net premiums earned increased by $7.4 million, or 3.4%, as a result of the increase in net premiums written during the previous quarters. Net losses and loss expenses. Net losses and loss expenses increased by $22.6 million, or 21.6%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the three months ended September 30, 2014 and 2013: Three Months Ended Three Months Ended Loss Ratio September 30, 2014 September 30, 2013 Percentage Point Amount % of NPE Amount % of NPE Dollar Change Change ($ in millions) Non-catastrophe $ 130.8 58.7 % $ 140.2 65.0 % $ (9.4 ) (6.3 ) Property catastrophe 14.8 6.6 - - 14.8 6.6 Current period 145.6 65.3 140.2 65.0 5.4 0.3 Prior period (18.3 ) (8.2 ) (35.5 ) (16.5 ) 17.2 8.3 Net losses and loss expenses $ 127.3 57.1 % $ 104.7 48.5 % $ 22.6 8.6 Current year non-catastrophe losses and loss expenses The decrease in the current year non-catastrophe losses and loss expenses and related ratio was primarily due to lower incurred large property losses during the three months ended September 30, 2014 compared to the same period in 2013, as well as a reduction in IBNR loss reserves due to lower than expected property losses. The large non-catastrophe property losses during the three months ended September 30, 2014 were approximately $6.1 million which primarily related to additional development for several storm events in the United States that occurred during the previous quarter. This compares to $14.9 million in reported large non-catastrophe property losses for the three months ended September 30, 2014. Current year property catastrophe losses and loss expenses During the three months ended September 30, 2014, we incurred property catastrophe losses and loss expenses of $8.0 million related to Windstorm Ela, $3.5 million related to Hurricane Odile and $3.3 million related to PCS storm #45, whereas we did not incur any property catastrophe losses during the three months ended September 30, 2013. Prior year losses and loss expenses Overall, our reinsurance segment recorded net favorable reserve development of $18.3 million during the three months ended September 30, 2014 compared to net favorable reserve development of $35.5 million for the three months ended September 30, 2013, as shown in the tables below. 64-------------------------------------------------------------------------------- Table of Contents (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) Property $ (0.1 ) $ 0.9 $ - $ 0.1 $ (0.1 ) $ - $ 0.6 $ 0.6 $ 1.1 $ (14.8 ) $ (11.7 ) Casualty 0.1 4.6 (1.0 ) (1.6 ) (4.1 ) (0.8 ) (0.6 ) (3.1 ) (0.1 ) (0.1 ) (6.7 ) Specialty 0.2 (0.2 ) - (0.1 ) (0.1 ) (0.1 ) (0.6 ) (0.6 ) 0.9 0.7 0.1 $ 0.2 $ 5.3 $ (1.0 ) $ (1.6 ) $ (4.3 ) $ (0.9 ) $ (0.6 ) $ (3.1 ) $ 1.9 $ (14.2 ) $ (18.3 ) For the three months ended September 30, 2014, the net favorable reserve development in the property line of business for the 2013 loss year was due to lower than expected reported loss activity. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Three Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) Property $ - $ 0.1 $ 1.0 $ - $ - $ - $ (0.4 ) $ (2.2 ) $ (6.0 ) $ (14.2 ) $ (21.7 ) Casualty (1.6 ) (2.4 ) 0.6 0.1 0.3 (2.0 ) (1.4 ) (0.7 ) (0.2 ) 0.4 (6.9 ) Specialty - (0.1 ) (0.1 ) (0.1 ) (0.1 ) (0.1 ) (0.2 ) 0.3 (5.9 ) (0.6 ) (6.9 ) $ (1.6 ) $ (2.4 ) $ 1.5 $ - $ 0.2 $ (2.1 ) $ (2.0 ) $ (2.6 ) $ (12.1 ) $ (14.4 ) $ (35.5 ) For the three months ended September 30, 2013, the favorable reserve development for the 2011 and 2012 loss years for our reinsurance segment was largely due to lower than expected reported losses in our property line of business. Acquisition costs. Acquisition costs increased by $3.1 million, or 8.4%, for the three months ended September 30, 2014 compared to the three months ended September 30, 2013. The increase was due to higher ceding commissions paid to cedents in certain lines of business. The acquisition cost ratio was 18.0% for the three months ended September 30, 2014 compared to 17.1% for the three months ended September 30, 2013. The increase in the acquisition cost ratio was due to higher ceding commissions paid to cedents in certain lines of business. General and administrative expenses. General and administrative expenses decreased by $1.8 million, or 8.8%, for the three months ended September 30, 2014 compared to the same period in 2013. The decrease in general and administrative expenses was primarily due to lower stock-based compensation expense. The general and administrative expense ratios for the three months ended September 30, 2014 and 2013 were 8.3% and 9.5%, respectively. Comparison of Nine Months Ended September 30, 2014 and 2013 Premiums. Gross premiums written increased by $31.4 million, or 3.7%, for the nine months ended September 30, 2014 compared to the same period in 2013. The increase was driven primarily by new business and increased renewals across several major lines of business. In our property reinsurance lines of business, premiums increased by approximately $16.8 million, which included $3.9 million of increased premiums from our collateralized property catastrophe reinsurance program through Aeolus Re. We also experienced non-renewals of certain treaties, particularly in our casualty reinsurance line of business, either due to poor terms and conditions or the cedents not renewing their reinsurance. 65-------------------------------------------------------------------------------- Table of Contents The table below illustrates our gross premiums written by underwriter location for our reinsurance operations. Nine Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) United States $ 458.0 $ 424.2 $ 33.8 8.0 % Bermuda 225.9 245.4 (19.5 ) (7.9 )% Asia 120.9 118.3 2.6 2.2 % Europe 83.8 69.3 14.5 20.9 % $ 888.6 $ 857.2 $ 31.4 3.7 % The table below illustrates our gross premiums written by line of business for each of the periods indicated. Nine Months Ended September 30, Dollar Percentage 2014 2013 Change Change ($ in millions) Property $ 453.4 $ 436.6 $ 16.8 3.8 % Casualty 236.2 230.3 5.9 2.6 % Specialty 199.0 190.3 8.7 4.6 % $ 888.6 $ 857.2 $ 31.4 3.7 % Net premiums written increased by $45.3 million, or 5.5%, primarily due to the increase in gross premiums written and not renewing the collateralized retrocessional catastrophe cover partially offset by ceded premiums written for the current year collateralized property catastrophe reinsurance protection. Net premiums earned increased by $57.2 million, or 9.1%, as a result of the increase in net premiums written during 2013 and into 2014, as well as the reduction in ceded earned premium related to the non-renewal of the prior year collateralized retrocessional catastrophe cover partially offset by the current year collateralized property catastrophe reinsurance protection. Net losses and loss expenses. Net losses and loss expenses increased by $53.0 million, or 16.7%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The following is a breakdown of the loss and loss expense ratio for the nine months ended September 30, 2014 and 2013: Nine Months Ended Nine Months Ended Loss Ratio September 30, 2014 September 30, 2013 Percentage Point Amount % of NPE Amount % of NPE Dollar Change Change ($ in millions) Non-catastrophe $ 407.1 59.3 % $ 397.6 63.3 % $ 9.5 (4.0 ) Property catastrophe 28.0 4.1 - - 28.0 4.1 Current period 435.1 63.4 397.6 63.3 37.5 0.1 Prior period (64.7 ) (9.4 ) (80.2 ) (12.8 ) 15.5 3.4 Net losses and loss expenses $ 370.4 54.0 % $ 317.4 50.5 % $ 53.0 3.5 Current year non-catastrophe losses and loss expenses The increase in the current year non-catastrophe losses and loss expenses was primarily due to growth in the reinsurance operations partially offset by lower incurred large property losses during the nine months ended September 30, 2014 compared to the same period in 2013, as well as a reduction in IBNR loss reserves due to lower than expected property losses. The decrease in the current year non-catastrophe losses and loss expenses ratio was primarily due to the reduction in IBNR loss reserves and lower reported large non-catastrophe property losses during the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The large non-catastrophe property losses during the nine months ended September 30, 2014 were 18.9 million and were primarily related to several storm events in the United States that occurred during the second quarter of 2014. This compares to $26.5 million in large reported non-catastrophe property losses for the nine months ended September 30, 2013. 66-------------------------------------------------------------------------------- Table of Contents Current year property catastrophe losses and loss expenses During the nine months ended September 30, 2014, we incurred property catastrophe losses and loss expenses of $12.5 million related to PCS storm #45, $12.0 million related to Windstorm Ela and $3.5 million related to Hurricane Odile, whereas we did not incur any property catastrophe losses during the nine months ended September 30, 2013. Prior year losses and loss expenses Overall, our reinsurance segment recorded net favorable reserve development of $64.7 million during the nine months ended September 30, 2014 compared to net favorable reserve development of $80.2 million for the nine months ended September 30, 2013, as shown in the tables below. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Nine Months Ended September 30, 2014 2004 and Prior 2005 2006 2007 2008 2009 2010 2011 2012 2013 Total ($ in millions) Property $ 0.4 $ 0.9 $ (0.2 ) $ (0.1 ) $ (0.3 ) $ 0.3 $ 1.6 $ (5.2 ) $ (3.2 ) $ (44.4 ) $ (50.2 ) Casualty (0.6 ) 4.6 (2.8 ) (3.7 ) (5.3 ) (1.8 ) 0.4 (2.0 ) (0.3 ) 1.3 (10.2 ) Specialty (0.2 ) (0.5 ) (0.1 ) (0.2 ) (0.1 ) 0.2 (0.3 ) (1.0 ) 5.7 (7.8 ) (4.3 ) $ (0.4 ) $ 5.0 $ (3.1 ) $ (4.0 ) $ (5.7 ) $ (1.3 ) $ 1.7 $ (8.2 ) $ 2.2 $ (50.9 ) $ (64.7 ) For the nine months ended September 30, 2014, the net favorable reserve development in the property line of business for the 2013 loss year is due to lower than expected reported loss activity. (Favorable) and Unfavorable Loss Reserve Development by Loss Year For the Nine Months Ended September 30, 2013 2003 and Prior 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total ($ in millions) Property $ - $ 0.2 $ (1.3 ) $ 0.1 $ - $ (0.2 ) $ (0.5 ) $ (5.1 ) $ (14.5 ) $ (49.7 ) $ (71.0 ) Casualty (1.4 ) (3.6 ) 0.3 0.8 (1.9 ) (5.6 ) (1.8 ) 0.2 3.1 5.7 (4.2 ) Specialty - (0.4 ) (0.6 ) 0.2 (0.1 ) (3.2 ) 0.7 0.2 (3.6 ) 1.8 (5.0 ) $ (1.4 ) $ (3.8 ) $ (1.6 ) $ 1.1 $ (2.0 ) $ (9.0 ) $ (1.6 ) $ (4.7 ) $ (15.0 ) $ (42.2 ) $ (80.2 ) For the nine months ended September 30, 2013, the favorable loss reserve development for the 2011 and 2012 loss years for our reinsurance segment was largely due to lower than expected reported losses in our property line of business. The unfavorable loss reserve development in our casualty reinsurance line of business for the 2011 and 2012 loss years was primarily due to the frequency of claims being greater than anticipated. Acquisition costs. Acquisition costs increased by $16.2 million, or 14.8%, for the nine months ended September 30, 2014 compared to the nine months ended September 30, 2013. The increase was due to the increase in net premiums earned and increased ceding commission paid to cedents in certain lines of business. The acquisition cost ratio was 18.3% for the nine months ended September 30, 2014 compared to 17.3% for the nine months ended September 30, 2013. The increase in the acquisition cost ratio was due to higher ceding commission paid to cedents. General and administrative expenses. General and administrative expenses remained constant for the nine months ended September 30, 2014 compared to the same period in 2013. The general and administrative expense ratios for the nine months ended September 30, 2014 and 2013 were 8.3% and 9.1%, respectively. 67-------------------------------------------------------------------------------- Table of Contents Reserves for Losses and Loss ExpensesReserves for losses and loss expenses by segment were comprised of the following: U.S. Insurance International Insurance Reinsurance Total Sep 30, Dec 31, Sep 30, Dec 31, Sep 30, Dec 31, Sep 30, Dec 31, 2014 2013 2014 2013 2014 2013 2014 2013 ($ in millions) Case reserves $ 605.5 $ 609.8 $ 503.8 $ 441.0 $ 476.7 $ 470.1 $ 1,586.0 $ 1,520.9 IBNR 1,642.7 1,509.2 1,702.5 1,710.4 1,121.1 1,026.0 4,466.3 4,245.6 Reserve for losses and loss expenses 2,248.2 2,119.0 2,206.3 2,151.4 1,597.8 1,496.1 6,052.3 5,766.5 Reinsurance recoverables (587.7 ) (558.7 ) (754.0 ) (669.6 ) (7.3 ) (6.2 ) (1,349.0 ) (1,234.5 ) Net reserve for losses and loss expenses $ 1,660.5 $ 1,560.3 $ 1,452.3 $ 1,481.8 $ 1,590.5 $ 1,489.9 $ 4,703.3 $ 4,532.0 We participate in certain lines of business where claims may not be reported for many years. Accordingly, management does not solely rely upon reported claims on these lines for estimating ultimate liabilities. We also use statistical and actuarial methods to estimate expected ultimate losses and loss expenses. Loss reserves do not represent an exact calculation of liability. Rather, loss reserves are estimates of what we expect the ultimate resolution and administration of claims will cost. These estimates are based on various factors including underwriters' expectations about loss experience, actuarial analysis, comparisons with the results of industry benchmarks and loss experience to date. Loss reserve estimates are refined as experience develops and as claims are reported and resolved. Establishing an appropriate level of loss reserves is an inherently uncertain process. Ultimate losses and loss expenses may differ from our reserves, possibly by material amounts. The following tables provide our ranges of loss and loss expense reserve estimates by business segment as of September 30, 2014: Reserve for Losses and Loss Expenses Gross of Reinsurance Recoverable Carried Low High Reserves Estimate Estimate ($ in millions) U.S. insurance $ 2,248.2 $ 1,779.3 $ 2,530.8 International insurance 2,206.3 1,770.2 2,425.9 Reinsurance 1,597.8 1,306.3 1,776.5 Consolidated (1) 6,052.3 4,948.2 6,640.8 Reserve for Losses and Loss Expenses Net of Reinsurance Recoverable Carried Low High Reserves Estimate Estimate ($ in millions) U.S. insurance $ 1,660.5 $ 1,313.5 $ 1,909.6 International insurance 1,452.3 1,162.9 1,611.5 Reinsurance 1,590.5 1,301.2 1,768.7 Consolidated (1) 4,703.3 3,859.2 5,208.3 ________________________(1) For statistical reasons, it is not appropriate to add together the ranges of each business segment in an effort to determine the low and high range around the consolidated loss reserves. Our range for each business segment was determined by utilizing multiple actuarial loss reserving methods along with various assumptions of reporting patterns and expected loss ratios by loss year. The various outcomes of these techniques were combined to determine a reasonable range of required loss and loss expense reserves. While we believe our approach to determine the range of loss and loss expense is reasonable, there are no assurances that actual loss experience will be within the ranges of loss and loss expense noted above. 68-------------------------------------------------------------------------------- Table of Contents Our selection of the actual carried reserves is generally above the midpoint of the range. We believe that we should be prudent in our reserving practices due to the lengthy reporting patterns and relatively large limits of net liability for any one risk of our direct excess casualty business and of our casualty reinsurance business. Thus, due to this uncertainty regarding estimates for reserve for losses and loss expenses, we have carried our consolidated reserve for losses and loss expenses, net of reinsurance recoverable, above the midpoint of the low and high estimates for the consolidated net losses and loss expenses. We believe that relying on the more prudent actuarial indications is appropriate for these lines of business. Reinsurance RecoverableThe following table illustrates our reinsurance recoverable as of September 30, 2014 and December 31, 2013: September 30, December 31, 2014 2013 ($ in millions) Ceded case reserves $ 261.5 $ 225.8 Ceded IBNR reserves 1,087.5 1,008.7 Reinsurance recoverable $ 1,349.0 $ 1,234.5 We remain obligated for amounts ceded in the event our reinsurers do not meet their obligations. Accordingly, we have evaluated the reinsurers that are providing reinsurance protection to us and will continue to monitor their credit ratings and financial stability. We generally have the right to terminate our treaty reinsurance contracts at any time, upon prior written notice to the reinsurer, under specified circumstances, including the assignment to the reinsurer by A.M. Best of a financial strength rating of less than "A-." Approximately 99% of ceded reserves as of September 30, 2014 were recoverable from reinsurers who had an A.M. Best rating of "A-" or higher. Liquidity and Capital ResourcesLiquidity Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. The company believes that its cash flows from operations and investments will provide sufficient liquidity for the foreseeable future. Holdings is a holding company and transacts no business of its own. Cash flows to Holdings may comprise dividends, advances and loans from its subsidiary companies. Holdings is therefore reliant on receiving dividends and other permitted distributions from its subsidiaries to make dividend payments on its common shares. Our operating subsidiaries depend upon cash inflows from premium receipts, net of commissions, investment income and proceeds from sales and redemptions of investments. Cash outflows for our operating subsidiaries are in the form of claims payments, net of reinsurance recoveries, reinsurance premium payments, purchase of investments, operating expenses and income tax payments as well as dividend payments to the holding company. Historically, our operating subsidiaries have generated sufficient cash flows to meet all of their obligations. Because of the inherent volatility of our business, the seasonality in the timing of payments by insureds and cedents, the irregular timing of loss payments, and the impact of a change in interest rates and credit spreads on the investment income as well as seasonality in coupon payment dates for fixed income securities, cash flows from operating activities may vary between periods. In the unlikely event that paid losses exceed operating cash flows in any given period, we would use our cash balances available, liquidate a portion of our investment portfolio or borrow under our revolving loan facility (see "Credit Facilities" below) in order to meet our short-term liquidity needs. Our total investments and cash and cash equivalents totaled $9.0 billion as of September 30, 2014, the main components of which were investment grade fixed income securities and cash and cash equivalents. As of September 30, 2014, we held $831.3 million of unrestricted cash and cash equivalents and $358.5 million of fixed income securities with a maturity of less than one year to meet short-term liquidity needs. Our remaining fixed income securities, equity securities and "other invested assets" are available to meet our long-term liquidity needs. 69-------------------------------------------------------------------------------- Table of Contents As of September 30, 2014, we had $150 million available under our revolving loan facility. |