Alea Group Holdings (Bermuda) Ltd.

Preliminary Results for the year ended 31 December 2003 - Part 2 of 7

    London (ots) - On the closing of the Imperial acquisition in 2000, the Group reinforced the reserve strengthening of the Imperial business by entering into the OPL (see Finance Director's Review). Since that date there continues to be immaterial development of these reserves.

    Total loss reserves covered by the OPL contract increased to $87.1 million compared to $84.5 million in 2002 such that the full $85 million balance of the contract was utilised at 31 December 2003. The increase in loss reserves excess of the OPL contract was a function of the relative exchange rates of the underlying loss reserves compared to the dollar denominated reinsurance.

    On the balance sheet, paid claims had exceeded the aggregate excess point under the contract at 31 December 2003 by $16.2 million and thus reinsurance recoveries were made reducing the deposits received from reinsurers under the contract by the same amount. The interest charged on the deposit is the main component of other technical charges in Alea London operating segment.

    2004 Outlook

    Alea London has already secured the retention of its two largest contracts including the final year of the Bristol West contract with total premiums in excess of $220 million for these two contracts at expiring terms and conditions.

    During 2004 Alea London anticipates a continued focus on the E&S lines business where rates, terms and conditions are showing no signs of weakening and an increased focus on building its non-dollar business base to help offset its sterling cost base. United States and non-dollar casualty lines continue to show rate improvement over 2003 conditions with gross premium written being marginally ahead of plan. Rates on international property treaty business are showing signs of weakening with an average 10% reduction over comparable 2003 figures. These rates do, however, remain well within planned expectations and above the Group's hurdle rates of return. North American property business rates have shown less signs of weakening and have remained slightly above planned expectations.

    UNITED STATES BASED OPERATIONS

The Group's United States based operations are comprised of two segments, Alea North America (ANA) and Alea Alternative Risk (AAR), both supported by a common services platform. These two segments underwrite through ANAIC, a New York domiciled property and casualty insurance company licensed to write most admitted lines of property and casualty insurance and reinsurance in 49 states plus the District of Columbia. ANAIC commenced underwriting on 1 January 2002. At inception, ANAIC had a renewable base of business which formed its core was business which had previously been underwritten by Alea (Bermuda) Ltd pursuant to arrangements with Lumbermens Mutual Casualty Company (LMC).

    Prior to 1 January 2002, the United States operation acted as a reinsurance intermediary manager. For ease of reference, the results discussed in the two North America segments below combine the 2003 results for the product lines which now comprise each segment regardless of whether the premiums were originally underwritten in Alea (Bermuda) Ltd under the LMC arrangements between December 1999 and 31 December 2001 or since 1 January 2002 by ANAIC or its subsidiary ANASIC.

    ANA specialises in treaty reinsurance and alternative risk transfer products. The treaty reinsurance operation is a broker market for United States property and casualty treaty and facultative casualty reinsurance business, specialising in working layer business with a focus on small, medium-sized companies, specialty companies and specialty insurance departments of larger insurance groups.

    AAR specialises in providing insurance and reinsurance solutions to clients who share risk, want unbundled services and to utilise alternative funding mechanisms. Lines of business include workers' compensation, commercial general liability and property and automobile liability. This business is written on both an individual account and on a programme basis, with the account protected through the purchase of high quality reinsurance supplemented by collateral requirements.

    AAR's ability to target the E&S market is being strengthened with the ongoing licensing of ANASIC, a wholly owned subsidiary of ANAIC, which is currently authorised to write excess and surplus lines in 23 states and began writing business in 2003. Additional licensing is ongoing. The marketing of this capability has recently commenced, further expanding the options available to AAR's clients.

    ALEA ALTERNATIVE RISK

    AAR, based in Rocky Hill, specialises in the provision of ART programmes and structures which may include captives and rent-a-captives, excess over self-insurance, risk retention groups, purchasing groups, pools, trusts and large deductibles for Workers Compensation, General Liability, Auto Liability and Property lines of business. In addition, AAR's Insurance Programs (IP) segment underwrites traditional programme business for the liability lines only.

    Within these four lines of business, AAR's areas of focus are retail operations, wholesale/distribution operations, service operations, franchise operations, habitation, light to medium contracting and manufacturing, fleets and short haul trucking.

    AAR markets ART to knowledgeable and target producers who seek to assume a significant element of risk within their programme. Every programme written also involves the client adopting some level of risk sharing and the "unbundling" of services such as claims, loss control and captive management.

    AAR's strategy is based on the following:

    -positioning itself as one of the five dedicated, unbundled carriers in the United States traditional ART market with admitted and non-admitted capabilities;

    -aligning its interests with those of its clients, through risk sharing on all business written;

    -unbundling of services to known and preferred providers;

    -maintaining strong relationships with target producers who can provide repeat business;

    -comprehensive due diligence and audit processes that include all facets of a programme, including underwriting, finance, compliance and claims; and

    -creating an insurance organisational structure with a strong controls environment.

    Historically, the alternative risk market has grown during periods of harder pricing in the conventional insurance and reinsurance markets. However, the alternative risk market has shown resilience during periods of softer pricing as well. Consequently, industry surveys now estimate the ART market to comprise 50% of the total United States property and casualty market.

    In 2003, the ART and IP market was robust. AAR experienced rate increases for all lines of business. In addition, it renewed 85% of business underwritten in 2002. The level of due diligence and vetting necessary to bring a programme to fruition invites a higher than average retention ratio and AAR leverages this as part of its strategy to create long-term relationships which will produce repeat business.

    An overall summary of the underwriting performance of AAR is as follows:


                                Year Ended 31 Dec 2003  Year Ended 31 Dec 2002
Premiums
($ million)
Gross premiums
written                                              261.1                              141.4
Net premiums written                         132.0                                74.6
Retention ratio                                 50.5%                              52.8%
Net premiums earned                            97.9                                22.0

Key Ratios                                                
                                                                  %                                 %

Claims ratio                                        72.1                              65.1
Acquisition costs ratio                      20.1                              31.1
Composite ratio                                  92.2                              96.1

    AAR's gross premiums written increased 84.7% to $261.1 million in the year ended 31 December 2003 compared to $141.4 million for the year ended 31 December 2002.

    Net premiums written to 31 December 2003 increased 76.9% to $132 million compared to $74.6 million to 31 December 2002. Net premiums written were 50.5% of gross premiums written for the year ended 31 December 2003 and 52.8% of gross premiums written for the year ended 31 December 2002. The structure of AAR's products means that there will always be a high reinsurance percentage, primarily due to premiums ceded to captives. This is also why AAR places such emphasis on financial due diligence and obtaining appropriate collateral from the counter parties to its transactions.

    Net premiums earned for the year ended 31 December 2003 increased 343.9% to $97.9 million compared to $22.0 million for the year ended 31 December 2002. The build up of earned premium through the profit and loss account in respect of the alternative risk business is slower than anywhere else in the group. For example, nearly 70% of the net premiums earned in the 2003 financial statements came from the 2002 underwriting year, with the balance from 2003. The ratio of claims incurred, net of reinsurance to net earned premiums was 72.1% for the year ended 31 December 2003 and 65.1% for 2002. Prior year reserve movement increased AAR's net loss ratio by 1.7 points and the Group net loss ratio by 0.2 points. This was primarily the result of one full breach of a programme in the 2001 underwriting year which required an additional net loss reserve of $1.6 million (1.6% on net premiums earned).

    The acquisition costs ratio to net premiums earned for the year ended 31 December 2003 was 20.1% to 31 December 2003 compared to 31.1% for 2002 reflecting the transition towards our desired business mix.

    2004 Outlook

    In 2004 the ART and IP market is expected to remain strong. Rate increases are anticipated, but not expected to be as dramatic as in 2003. Early indications are of up to 10% across all lines. AAR had its best January to date, with gross premiums written up by 273% from January 2003. It is anticipated that as the AAR portfolio matures approximately 50% of premiums will be earned in the same financial year as the underwriting year in which they are written, with the balance being earned mainly in the subsequent financial year. All of this means that the profitability outlook looks healthy in 2004.

    ALEA NORTH AMERICA

    ANA, base in Wilton, specialises in the provision of property and casualty treaty reinsurance, writing primarily automobile liability, general liability, professional liability, workers' compensation and property business accessed through the reinsurance intermediary distribution system. Additionally, since November 2003, ANA has provided reinsurance on a facultative basis for casualty business.

    Key elements of ANA's strategy include:

    -Focusing on the provision of traditional reinsurance solutions to three well-defined client segments: (1) small to medium-sized insurance companies (generally with $500 million or less in policyholder surplus); (2) specialty companies; and (3) specialty divisions of larger companies. More than 90% of ANA's current premium volume is derived from these target market segments.

    -Concentrating on working layer business in order to provide a more predictable underwriting result, characterised by a shorter duration and more moderate volatility than higher layer excess business and by an excellent premium to limit relationship. Working layer business currently comprises more than 90% of ANA's written premiums.

    -Seeking to derive a significant percentage of its business from excess and surplus lines insurers and insurers operating in the specialty admitted market, in order to benefit from the attractive underwriting margins that have historically characterized these business segments. E&S and specialty admitted business comprised approximately 75% of ANA's 2003 volume.

    -Positioning as a 'consensus market' - i.e., as one of the three to five reinsurers ultimately agreeing to consensus terms on the typical working layer cover. The resulting participations (typically in a range of 20% - 40%) provide ANA with influence over treaty terms and conditions and ensure access to the client, both of which ANA regards as important elements in achieving the superior underwriting results that it seeks. In the 2003 Underwriting Year, 83% of ANA's volume was derived from  reinsurance covers on which its share was 20% or greater.

    -Differentiating from competitors by providing superior service as measured by speed of initial response to offers of business, timeliness of additional information requests, rapid communication of underwriting decisions and promptness in the payment of claims and delivery of contract documentation.

    ANA's strategy is executed by an underwriting team that is both deep and experienced, with its two senior underwriting managers and 13 underwriters averaging more than 21 years of experience.

    An overall summary of the underwriting performance of ANA is as follows:


                              Year Ended 31 Dec 2003    Year Ended 31 Dec 2002
Premiums
($ million)
Gross premiums
written                                            282.9                              257.4
Net premiums written                        249.7                              209.0
Retention ratio                                88.3%                              81.2%
Net premiums earned                         189.3                              142.7

Key Ratios (%)                                        
                                                                %                                  %
Claims ratio                                      68.7                              61.4
Acquisition costs ratio                    29.2                              31.5
Composite ratio                                 97.9                              92.9

    Gross premiums written for the year ended 31 December 2003 increased 9.9% to $282.9 million from $257.4 million for the year ended 31 December 2002. The modest growth in overall gross premiums written masked much more substantial growth in ANA's core account casualty treaty portfolio, which benefited from the strong reinsurance and primary market conditions that prevailed throughout 2003. For the year casualty gross premiums written increased by $53 million, or 25%, over the $213 million written in 2002. This growth in casualty writings also reflected ANAIC's increased acceptance in the United States treaty reinsurance market following its first full year of operations in 2002.

    The growth in casualty writings was partially offset by a sharp decline in ANA's modest property portfolio. As the Property Treaty account is very focused on E&S type specialty accounts of a non-catastrophic nature that generally tend to generate large premiums on a per account basis, the loss of a handful of renewals during 2003 severely impacted these premium writings. Accounts were not renewed due to increased client retentions as well as from some account specific softening in original property rates that generated returns below the Group's hurdles and hence were unacceptable. Property gross premium written decreased by 70%, from $44 million in 2002 to $13 million in 2003.

    A small amount of additional unrelated premium actually underwritten in Alea Bermuda has been included in the ANA operating segment in both 2002 and 2003 but not separately identified as it is not material to the premium or underwriting results.

    Net premiums earned for the year ended 31 December 2003 increased 32.7% to $189.3 million from $142.7 million for the year ended 31 December 2002. The increase in 2003 net premiums earned was substantially greater than the increase in 2003 net written premiums, in part reflective of the fact that 2002 was the first full year of operations for ANAIC and in part attributable to variances in the inception profile of premiums written during these two years.

    The ratio of claims incurred, net of reinsurance, to net earned premiums was 68.7% for the year ended 31 December 2003 versus 61.4% for the year ended 31 December 2002.

    Prior year development increased the segment net loss ratio by 11.6 points and the Group net loss ratio by 2.3 points. Loss reserves for the period 1999 to 2001 were increased for a handful of umbrella and excess liability accounts as well as for two professional liability accounts that have suffered greater than expected severity losses. This adverse development arises from individual accounts no longer underwritten and reflective of a business mix profile that has been substantially altered in the subsequent years as ANA made the transition from the original business base available to it under the LMC arrangements to its chosen business mix. Since 2000 we have actively reduced such volatility as the portfolio make up has been shifted to reflect the desired business classes made up of a shorter duration, less volatile blend of lower limit exposures substantially shielded from these type of shock loss developments.

    The acquisition costs ratio to net premiums earned was 29.2% for the year ended 31 December 2003 compared to 31.5% for the comparable period in 2002. The decrease in the acquisition ratio for 2003 is due principally to a change in the underlying business mix.

    Casualty reinsurance market conditions remained exceptionally firm throughout 2003. This fact was in no small measure attributable to the de facto withdrawal over the past two years of at least seven prominent reinsurers or their U.S. subsidiaries (Gerling Global, AXA, Trenwick, Insurance Corporation of Hannover, Hart Re, CNA and PMA) and the downgrade of another (SCOR). Together, these entities had recorded 2002 gross premiums written of approximately $5.5 billion, amounting to almost 25% of the broker market's then available capacity.

    With the departure of these competitors, ANA remains as one of only a dozen viable, consensus broker market reinsurers. With respect to the many casualty lines in which it specializes, it is one of an even smaller number of reinsurers with both the appetite and the capability to assess the risks presented and to offer lead terms that will attract the necessary subscription market support.

    Conditions in the underlying casualty insurance market remained almost equally firm throughout 2003, particularly in the excess and surplus lines and admitted specialty markets on which ANA focuses and underlying rate increases for a majority of ANA's specialist clients remained in the healthy single-digit to moderate double-digit range.

    Both Property reinsurance and underlying property insurance market conditions, were at best flat, and often down, over the course of 2003. Reflective of the relatively greater availability of property reinsurance capacity and the willingness to deploy it, 'per risk' reinsurance pricing also registered generally moderate declines, with occasional, sharp downward deviations to this rule. Modestly increased commission terms and more relaxed coverage conditions were also available.

    2004 Outlook

    With respect to reinsurance market conditions, the January renewal season confirmed the continuation of the trends in place during the second half of 2003 with the casualty reinsurance market demonstrating continued pricing discipline. Our expectation for original rates is that increases for most casualty lines will be in the mid single-digit range, with double-digit increases continuing only in those lines marked by significant ongoing capacity shortages. In property, we expect original rates to be flat-to-down, with continued modest rate erosion in a majority of areas. With the Group's continued focus on United States casualty treaty business the continuing firm rating environment is reassuring.

    ALEA EUROPE

    The Alea Europe operating segment comprises of Alea Europe Ltd., a licensed reinsurance company based in Basel, Switzerland, with a branch office in Stockholm, and branches in run-off in Toronto and Singapore.

    Alea Europe focuses on business sourced from Continental Europe. The segment has historically been a property treaty reinsurance operation but also writes casualty reinsurance, primarily motor liability business. Alea Europe sources business either on a direct basis or through European brokers. The segment is organised along geographic lines into seven units with supporting specialist lines of business expertise. Alea Europe's major classes of business are: proportional and catastrophe property, motor liability and general liability. Alea Europe's approach supports the client focus required in these markets and allows a significant volume of business to be written on a direct basis (approximately 45% in 2003).

    The Group is focused on continuing to enhance its position as a primary provider of reinsurance products to the smaller insurers and mutual companies within Continental Europe. Key strategic initiatives involve:

    -focusing on small to medium-sized clients that require reinsurance in order to achieve their own business plans;

    -maintaining a line of business focus on property (risk, catastrophe and proportional) while furthering the development of the casualty book (primarily automobile);

    -increasing line sizes on existing business; and

    -leveraging local market knowledge and language skills.

    The Continental European market has undergone significant change in the last two years as large participants such as the Gerling Group have withdrawn and a number of other competitors have experienced credit rating agency downgrades. By focusing on the small to medium-sized client base and by leveraging its close client contacts, the Directors believe that Alea Europe is well positioned to grow its business profitably.

    Alea Europe's geographic focus is on the German, French, Spanish and Austrian markets. For the year ended 31 December 2003, more than 59% of Alea Europe's business was written in these markets.

    An overall summary of the operating performance of Alea Europe is as follows:


Europe                    Year Ended 31 Dec 2003  Year Ended 31 Dec 2002
Premiums
($ million)
Gross premiums written                      190.1                              156.4
Net premiums written                         159.2                              124.4
Retention ratio                                 83.8%                              79.5%

Net premiums earned                          163.6                              132.5

Key Ratios (%)                                         %                                    %
Claims ratio                                        63.0                                83.7
Acquisition costs ratio                      17.1                                19.7
---------------                            ---------                      ---------
Composite ratio                                  80.1                              103.4
---------------                            ---------                      ---------

    Alea Europe was able to take advantage of increasing business opportunities in a broader spread of business lines in 2003. Gross premiums written increased 21.5%  to $190.1 million compared to $156.4 million to 31 December 2002. For 2003 approximately 95% of business incepted on 1 January and thus the gross premiums written in this segment are heavily weighted towards the first half year.

    Net premiums written to 31 December 2003 increased 28.0% to $ 159.2 million compared to $124.4 million to 31 December 2002. This follows the trend of gross premiums written.

    Net premiums earned increased 23.5% to $163.6 million compared to $132.5 million for the year ended 31 December 2002. This is mainly due to the significant increase in 2003 net written premiums which given the inception profile was mostly earned in 2003.

    The claims incurred net of reinsurance ratio to net earned premium for the year ended 31 December 2003 decreased from 83.7% in 2002 to 63.0%. The main factor of this improvement was that Alea Europe suffered $14.9 million in net losses in respect of the European floods in the third quarter of 2002. Excluding the European floods and the arbitration decision discussed below the ratio of claims incurred net of reinsurance ratio to net earned premium was 58.3% for the year ended 31 December 2003 and 65.8% for the year ended 31 December 2002.

    Overall prior period reserve development in Alea Europe was positive reducing the segment's net loss ratio by 4.4 points and the Group's net loss ratio by 0.8 points.

    To date the only significant Group exposure to asbestos and environmental losses is within Alea Europe and as a result of an arbitration decision in February 2003 this generated additional gross and net loss provisions before discount of $8.7 million for year ended 31 December 2002 and $8.4 million for the year ended 31 December 2003. These provisions were based on an independent consulting firm's estimate of total United States industry asbestos reserve requirements of $99.5 billion compared to a Q3 2003 A.M. Best report estimate of $65 billion.

    The figures shown above are after the application of the Inter-Ocean Adverse Development Cover which covers underwriting years 1987 through 1999 and provides cover of $125 million excess of $500 million together with 75% of losses in excess of $625 million up to $750 million to provide a maximum recoverable of $218.8 million for the non-life reserves of Alea Europe Ltd. and Alea (Bermuda) Ltd. At 31 December 2003 $133.0 million is recoverable under this cover. As paid claims had exceeded the aggregate excess point under the contract at 31 December 2003, $33.6 million of reinsurance recoveries were made reducing the deposit received under the contract by the same amount. The interest charged on the deposit is the main component of other technical charges in Alea Europe operating segment.

    2004 Outlook

    Continental European business has a higher concentration of 1 January inception date business than other markets. Alea Europe targets small to medium sized insurers, often mutual in nature, and is on target to exceed expectations with gross premium written currently anticipated to reach more than $220m in 2004. In particular Alea Europe has continued to see strong gross written premium growth with particular success in Austria (with over 100% growth compared to the comparable period in 2003), the Netherlands (with over 100% growth) and Eastern Europe (with over 25% growth). Alea Europe's strong client relationships also bore fruit with the volume of business written on a direct basis increasing from 45% to 60% of the gross premium written to date.

    The January 2004 renewal season has proved very successful with significant gains in some markets and continued growth over last year. Underlying property rates have generally been flat with reinsurance rates remaining stable to 10% lower in the more capacity driven markets where Alea Europe does not generally compete. The rates though remain comfortably ahead of our hurdle returns. Casualty lines saw improvements over 2003 although these have varied by country with some Eastern European lines for example showing marked improvement.

    Alea (Bermuda) Ltd

    Alea (Bermuda) Ltd (Alea Bermuda) is a registered Class 3 Bermudan insurer with authority to conduct general insurance and reinsurance business. Alea Bermuda is the Group's primary access point to the finite market. In addition, Alea Bermuda acts as a finite risk resource for other operations within the Group as well as providing quota share and aggregate excess of loss capacity to other Alea operations.

    Alea Bermuda splits its resources between targeting external clients and leveraging intra-group relationships and opportunities to provide bespoke coverage to existing clients of the Group. These structured insurance and reinsurance products are highly customised and assist the buyers in addressing the management of higher retentions, filling of reinsurance and collateral gaps, access to soft capital and management of surplus requirements and cash flow financing. The Directors believe that this expertise will provide strong internally generated deal flow and will serve to cement existing client relationships for other business segments.

    The results of Alea Bermuda's finite operations before intra-group reinsurances are immaterial to the whole at present. For ease of reference, its results are therefore consolidated into AAR when it is in respect of collateral gap products written for clients of AAR, with the balance being included in the ANA result.

    In 2003, Alea Bermuda had success in writing collateral gap products for clients of AAR. This business generated $37.9 million gross premium written in Alea Bermuda as a standalone entity, most of which was eliminated on consolidation of the Group, and $0.8 million incremental net premiums written with profits emerging from the underwriting profit on the net premium written and strong cash flows generated from the gross premiums. A further $2.6 million of net premiums earned has been allocated to the Alea North America segment for financial reporting purposes.

    Alea Bermuda's preferred classes of business are workers' compensation, automobile, general liability and property.

    Alea Bermuda's strategy is to:

    -provide flexible quota share capacity to other Group entities;

    -leverage existing Group contacts to cross-sell finite risk products to the Group's existing clients; and

    -for third parties target the small to medium-sized deals where competition is based more on technical proficiency than price.

    The Finite market experienced a difficult year in 2002 following the dramatic increase in regulation and scrutiny following recent accounting scandals. Those initial concerns have now given way to a growing recognition of acceptable transactions and the emergence of a new set of ground rules, albeit more stringent ones, with increased activity towards the end of 2002 continuing in 2003.

    We consider the greater emphasis on solvency, through the introduction of International Accounting Standards (IAS) by 2005 and the proposed implementation of enhanced capital requirements for non-life insurers in the United Kingdom, may give rise to additional finite opportunities for Alea Bermuda. The Group maintains significant capital and therefore has significant investments in its Bermuda operations. Individual underwriting units have access to Alea Bermuda's capital principally by means of intra-group quota shares. After these quota shares Alea Bermuda legal entity gross premiums written increased 67.9% in 2003 to $269.3 million compared to $160.3 million in 2002.

    Part 3 follows



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