Argo Group International Holdings Ltd (ARGO) 2005 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the third quarter 2005 Argonaut Group earnings conference call. My name is Ryeka and I'll be your coordinator for today. At this time all participants are in a listen-only mode. We will be conducting a question-and-answer session towards the end of this conference. [OPERATOR INSTRUCTIONS.] I would now like to turn the presentation over to your host for today's call, Mr. Mike Russell, Investor Relations for Argonaut Group. Please proceed, sir.

Thank you, Ryeka and good morning. Welcome to Argonaut Group's 2005 Third Quarter Earnings Conference Call. With me today is Mark Watson, President and Chief Executive Officer; and Mark Haushill, Senior Vice President, Treasurer, and Chief Financial Officer. We are pleased to have the opportunity to review with you the Company's results for the quarter, as well as some of the other important initiatives. Please note, no earnings guidance will be provided during this call.

Before I turn the call over to Mark Watson, I would like to inform you that this conference is being recorded and all participants, presently, are in listen-only mode. Following management's discussion the operator will provide instructions on how you may ask questions. Let me remind everyone that as a result of this conference call, Argonaut Group management may make comments that reflect their intentions, beliefs and expectations for the future. As a result, these forward-looking statements are subject to certain risk factors, which could cause actual results to differ materially. These risk factors are listed in the Company's filings with the SEC, including Argonaut Group's Form 10-K and Form 8-K the Company filed yesterday, which contains the news release announcing 2005 third quarter results. Finally, Argonaut Group management may make references during the call to operating income, which is a non-GAAP measurement of financial results.

With that, I would like to introduce Argonaut's President and Chief Executive Officer, Mark Watson. Mark?

Thank you Mike and good morning. We appreciate you joining us today for our 2005 third quarter report. After my opening remarks, our Chief Financial Officer, Mark Haushill, will discuss the financials results of the third quarter before we open the call for your questions.

There are four major areas I want to cover in my remarks today, all of which are significant to Argonaut Group's future: • First, I want to discuss our third quarter performance; • Second, I want to underscore our ability to grow in our targeted niche markets; • Third, I would like to emphasize how pivotal the third quarter was for Argonaut Group in resolving certain legacy issues; • And finally, I will review our capital position.

Let's start by discussing Argonaut Group's profitable performance in the third quarter. During the 90-day period that included three hurricanes, with Katrina's second landfall causing one of our nation's most devastating natural disasters, Argonaut Group responded well. We generated pre-tax operating income in the quarter of $4.8 million after accounting for approximately $14.7 million of losses from the hurricanes and approximately $7.5 million related to legacy issues. Our combined ratio of 107% included approximately 8.2 percentage points attributable to the estimated hurricane losses and 4.1 percentage points from the resolution of several legacy issues. Exclusive of these events, our combined ratio would have been 94.7% as compared to 97.3% a year ago. Moreover, Argonaut Group has demonstrated over the past 15 months, a period that presented major challenges from eight hurricanes, that we have the infrastructure in place to adequately protect our capital and manage our losses generated by multiple CAT events, should they occur.

While our attention as a company has primarily been focused on the aftermath of Katrina, I don't want to lose sight of the continuing progress we're making as a growing specialty company. In the third quarter, Argonaut Group established a new high for gross written premiums at nearly $304 million, which was up more than 16% from the year earlier. Our earned premiums were up more than 14%, also a record.

The Excess and Surplus Line segments continued growing at record pace. In the third quarter, E&S gross written premiums increased 74.4% over last year's third quarter, reaching $184 million versus $105.5 million for the comparable quarter in 2004. The third quarter pre-tax operating income, which included approximately $11.7 million in hurricane losses, was up 34.8% over last year's third quarter as well. Exclusive of hurricane losses, our E&S segment delivered a combined ratio of about 90%. I should also add that our E&S operation in Denver, which was established in April of 2005, has written $83 million through September 30, primarily from policy renewals generated from our renewal rights acquisition of the Fireman's Fund Binding Authority business. And Argonaut Specialty, our second E&S operation which we started earlier this year, has become a solid contributor producing approximately $40 million in gross written premiums during the third quarter.

Our Select Market segment had another steady quarter as well. While gross written premiums were basically flat, third quarter pre-tax operating income, which included $2.2 million in hurricane losses, rose 34.8%. Select Markets’ combined ratio, net of third quarter CAT losses, was 88.9%, which is a terrific result when you consider where we were a couple of years ago.

Public Entity generated a combined ratio exclusive of hurricane losses of 91.4%, while maintaining discipline in a market that is now very competitive. I should also note that we increased operating income to $1.5 million, from a pretax loss a year ago. Also during the third quarter, Trident announced that it had extended its identity recovery coverage to college and university customers.

For Argonaut Group, the third quarter also represented a turning point as it relates to the resolution of legacy issues, the second thing that I wanted to talk about this morning. For the past eight quarters, we have spent a great deal of time discussing a number of those issues, including: • our litigation with the LA Metropolitan Transit Authority; • our adverse development cover with Inter-Ocean; • the status of possible commutations of reinsurance treaties; • the adequacy of our asbestos and environmental reserves; and • the prospects and strategy for our underperforming Risk Management segment.

Today, I am pleased to say these issues are in large part behind us now. As we announced during the quarter, we settled our longstanding dispute with the Los Angeles MTA and have received payment of $45 million. Additionally, Argonaut Insurance Company will potentially receive future payments from the MTA's excess liability insurers.

We also computed our adverse loss development cover with Inter-Ocean in the third quarter, resulting in a $7 million gain.

During the quarter, we also increased by $10 million our allowance for doubtful accounts associated with reinsurance balances recoverable. While we have not completed the commutation of certain reinsurance treaties, specifically those with Trenwick, we anticipate resolving this by the end of the year. As a result, our evaluation of the status of these negotiations caused us to review these receivables and incur a charge this quarter. The majority of the charge relates to the discount applied to the tail of the claims in question.

Our annual asbestos and environmental review process was completed during the third quarter, which indicated our growth in net reserves for A&E losses remain adequate and that we have experienced no adverse development. We did however increase by approximately $4 million our unallocated loss adjustment expense reserve for the expense of maintaining our specialized A&E claims unit.

Finally, at the end of August, we announced the sale of a substantial portion of our Risk Management book of business to XL America. Although, we will retain the claims management and loss control services on policies renewed by XL, we felt the market conditions were right to sell the segment. Also, the underwriting discipline put in place over the last three years served us well in this transaction. In conjunction with the sale, we reported a restructuring charge of less than $1 million.

We believe the actions taken in the third quarter go a long way towards final resolution of our legacy issues. And, we will continue to manage closely both the asset side and liability side of our balance sheet.

I would like to conclude my remarks by briefly addressing Hurricane Wilma, discussing pricing, and review our capital position.

Regarding Wilma, we continue to work with our insureds who were affected by this storm and simultaneously assess our loss exposure. More important, should we need it, we have our full CAT capacity available to us.

Let me comment briefly for a minute on market conditions and the pricing environment. Earlier this year, we saw clear pricing pressure on larger accounts with rate levels generally holding flat for our small-to-mid size specialty businesses. In the third quarter, we continued to observe a general softening of rates for larger accounts and some pricing pressure began to creep into some of our niche markets that we serve. In the aftermath of Hurricanes Katrina, Rita, and now Wilma, however, we have observed a reversal in pricing momentum. Early indications in the fourth quarter suggest that casualty rates are flat and in some cases increasing slightly or at least the trend is going back up, and property rates are beginning to achieve double-digit rate increases with even higher rate increases available on wind-exposed property risks. We are optimistic regarding our opportunities in this changing marketplace and believe improving rates will help us maintain top-line momentum.

Finally, after the third quarter close, Argonaut Group completed a follow-on stock offering, selling 1.4 million shares to Raymond James and Associates. Just this week, we announced the closing of the underwriter’s option, selling an additional 210,000 shares to Raymond James. Net proceeds to Argonaut Group for the sale of both share tranches totaled approximately $41.2 million.

Also in the third quarter, we issued another $30 million in trust preferred securities, bringing the total capital raised recently to $71 million. Given our operating profitability for the third quarter, capital activities were not intended to fill a hole, but rather to put us in the best position possible to take advantage of opportunities that may present themselves over the next few months. We expect our double-digit growth rates to continue certainly through the first half of 2006 and we believe we have ample run rates to do that.

I will make a few closing remarks after the question-and-answer session, but first Mark Haushill will review our quarterly financial results in more detail. Mark.

Thank you, Mark. Good morning, everyone. I hope all of you had an opportunity to review the press release. I would remind you that at times, during my discussion, I may refer to operating income, which is a non-GAAP measure, but important in evaluating our performance. Please see our press release for a reconciliation of operating income to GAAP net income.

As Mark referenced, the financial effect of resolving legacy issues and the hurricanes presents a challenge in understanding our very strong ongoing core financial results. I will go through those events as well as the ongoing core results and then we will respond to your questions.

For the quarter ended September 30, 2005, our net income was $5.4 million or $0.17 per share on a fully diluted basis. These results compare to net income of $9.4 million for the quarter ended September 30, 2004 or $0.31 per share on a fully diluted basis. Our net income in the third quarter of 2004, included an $11.1 million benefit associated with state taxes due to the enactment of California legislation that was favorable to insurance company shareholder dividends that we have discussed previously. The financial results of our core operations improved over the same quarter of last year and that is the important take away from our earnings for the quarter.

Pre-tax income from operations for the third quarter of 2005 was $4.8 million compared to a loss of $2.4 million for the same quarter of 2004. The $4.8 million of pre-tax income includes the losses and related expense of $14.7 million associated with the hurricanes and $7.5 million related to the resolution of certain legacy issues. Mark has already discussed the hurricanes in his remarks, so I'll spend a few minutes on the legacy issues that we resolved.

The settlement of the MTA will be accretive to earnings in the fourth quarter and going forward as we converted a $45 million receivable into interest-bearing assets. Similarly, the commutations of the adverse development cover resulted in a return of $137.4 million in interest-earning assets from the reinsurer, which will be accretive going-forward, due to reduced interest expense. The sale of a majority of our Risk Management segment had a minimal P&L impact in the quarter, but more importantly should free up capital over the next several years as the loss reserves pay down. However, there was an $8 million increase to the losses in the Risk Management segment as a result of our estimate of the outcome of reinsurance commutations where discussions have been ongoing. Exclusive of this charge, the Risk Management segment underwriting results were improved quarter over quarter.

Turning now to our run-off segment, we added $2 million to losses related to the reinsurance commutation discussions, and strengthened our ULAE reserve by $4.1 million. As Mark noted, we did not incur any adverse development on our gross or net reserves for run-off lines. In the aggregate, the run-off segment's underwriting loss was $6.3 million for the quarter.

Gross written premiums for the quarter increased 16% for the third quarter of 2005 as compared to the same quarter in 2004. The increase in gross written premium was attributable to the Excess and Surplus Lines segment and was driven by the renewal rights acquisitions we discussed last quarter in Argonaut Specialty. The combination of these operations aggregated approximately $78 million in gross written premiums for the quarter.

The consolidated combined ratio was 107% for the quarter, compared to 110% for the same quarter of last year. The loss ratio of 70.5% includes the effects of the hurricanes, which Mark discussed, but also includes four points associated with legacy issues we resolved this quarter. Exclusive of legacy charges and hurricanes, the third quarter loss ratio was approximately 59.7% for the quarter as compared to 62.8% for the same quarter of 2004. For the quarter, we experienced unfavorable development of approximately $5 million on prior accident years loss reserves, which was primarily driven by the Risk Management segment and the effects of the commutations I have already mentioned. Our 10-Q will discuss this in more detail.

The expense ratio for the quarter was 36.5%, from 35.2% in the third quarter of 2004. As we discussed last quarter, the expense ratio experiences pressure when we integrate renewal rights acquisitions as the premium earned is now reflective of the amount of business in force. The expense ratio was also impacted by the reinstatement premiums associated with the hurricane losses and the Risk Management segment. Recall the Risk Management segment typically runs at a higher expense ratio than our other segment. Our expense ratio exclusive of the reinstatement premiums would have been 1.4% lower this quarter.

Investment income increased 32%, to $21.4 million this quarter compared to the same quarter of last year. The increase is due to positive cash flow, higher interest rates and the issuance of $46 million in trust preferred securities in the last half of 2004. Cash flow from operations year-to-date is approximately $245 million compared to $80 million for the same nine months of 2004, or an increase of over 200%. The increase is due to greater premium receipts driven by E&S premium writings, the collection of the $45 million from the MTA, and our settling last year of the Western MacArthur lawsuit, which resulted in a $29.8 million cash outflow.

Interest expenses increased this year as interest rates have risen, coupled with the fact that we issued additional trust preferred securities last year and participated in another pool for approximately $30 million in the current quarter.

Net tax expense for the quarter was essentially zero, because tax expense of $800,000 was offset by a $1 million reduction in the valuation allowance. As of September 30, 2005, the valuation allowance is approximately $7 million.

Pre-tax income from operations for the nine months of 2005 increased by approximately 64 percent to $52.1 million. The increase was driven by underwriting income, which has improved in three of our segments for the nine months ended 2005 compared with 2004, the major contributors again being E&S and Select Markets.

Investment income is up 30% year-to-date versus 2004 due to strong cash flows and increasing interest rates.

The consolidated combined ratio for the nine months ended September 30, 2005 was 99.4% compared to 101.5% in 2004. The loss ratio improved to 63.2% from 66.2%, including the hurricanes for both years and resolution of the legacy issues we have already discussed. Our loss reserves for prior accident years are not developing adversely and for the nine months ended we have seen favorable development of approximately $7 million. The majority of that favorable development was driven by the E&S segment. Again, our 10-Q will have some additional details.

The portfolio is now approximately $2.1 billion and has increased 15% in the first nine months of 2005. The unrealized gain in the portfolio at September 30, 2005 stood at $59 million versus $84 million at year end. The change in the unrealized gain is within the fixed income portfolio, which has decreased approximately $34 million during the year due primarily to the rise in interest rates. The numbers I just cited relative to the unrealized gains in the portfolio are not tax affected.

Shareholders' equity is now $654 million, compared to $603 million at year end 2004, which represents an increase of about 9%. The $654 million does not include the equity offerings just completed. The offering will be accretive to book value and if the offering had to completed in the third quarter of 2005, book value would have been approximately $21.20 per share on a fully diluted basis. Our leverage ratio as of September 30, 2005 was approximately 18%, excluding the equity offerings. 18% leverage is well within our tolerance. Our leverage consists of trust-preferred securities aggregating approximately $144 million.

That concludes our prepared remarks. Operator, we are ready for questions.

[OPERATOR INSTRUCTIONS]. Greg Peters, Raymond James.

When you were going through the components of the E&S premium, I missed the Interstate number first, and secondly, I think Mark Haushill, you said in your comments it was about $78 million, the two of them, the Interstate and the other aspect adding for new growth, so that would imply the economy was flat for the quarter. I was wondering if you could talk about and give me the Interstate number and talk about Colony's results on a year-over-year basis.

The Interstate number that I gave in my remarks was $83 million and that was for this year not for the quarter, and then Argonaut Specialty was $40 million for the quarter and you are right, excuse me, Colony excluding our Denver office was pretty flat for the quarter.

Mark, is that just a reflection of competition in the market or has there been any change to your policy persistency there? Can you give us some flavor what's going on with the traditional Colony book?

I think it's more a function of recognizing that we've got two big things going on within E&S. first, integrating our Denver office into the core of Colony and secondly making sure that as we get Argonaut Specialty off the ground, which is mainly leveraging Colony resources and that we don't make a mistake. So we are channeling a whole lot of internal resources on both of those projects and it's mainly a function of bandwidth, Greg, as opposed to changes in the marketplace.

So you have implemented the internal controls to keep Interstate from competing with Colony for a given piece of business and things like that, right?

There really is no Interstate. All of the business that we are renewing from that book of business is coming into Colony's current infrastructure. So it's the same underwriting team that's been in it -- well, sorry, the folks that we hired in Denver are now part of Colony. So, there is only one organization. The officers don't compete against one another.

And then you said $40 million was attributable to Kevin Brooks, is that right?

That's correct.

Can you give us a flavor of what kind of business that is and how it mixes in with the traditional Colony book?

Again, the business strategy there is to focus on slightly larger accounts than what we refer to as the brokerage accounts at Colony. Those are traditional policies with an average premium of about $15,000. The Argonaut Specialty book has an average premium of $50,000 to $80,000. So it's still kind of the smaller -- it's still a broad spectrum of accounts, but it's still at the smaller end of the range.

And the Colony book, to just refresh my memory, the average premium per policy there is what?

For the brokerage business, it's about $15,000 to $20,000. So, we are still staying away from the large million dollar national accounts.

Couple of other minor questions here, reinsurance, when does the reinsurance come up for renewal and what was the -- you may have disclosed this, you gave a lot of information out, but what was the gross loss on your catastrophes, I don't know if you break it out per CAT or just for the whole quarter?

We haven't really talked about it. I don't think we have published the gross number but let me kind of go through your questions in order. We have a number of reinsurance programs that renewed during the year. I assume you're asking about our CAT program.

That's correct, yes, I'm sorry, yes that's right.

And that renews on May 1, so we'll have a chance to watch and see what happens to everyone else on January 1, which was very helpful to us a year-ago as we actually saw our rates go down year-over-year. For gross losses on the CAT so far this year, for Katrina, the second landfall of Katrina, which is what everyone is most concerned about, our gross losses are in the $45 to $50 million range. And remember that we have our CAT cover, which goes up to $60 million, plus we have per risk cover as well as some facultative coverage. So, all in all, we have a reinsurance program that gives this probably another $20 to $30 million of cover on top of that $60 million.

And how many reinstatements - did you have with that cover going all the way up?

Well it depends on the layers. On the lower layers, we have several. On one of the net layers, we bought a an additional backup cover before Rita made landfall just in case there was another storm, which of course there now has been with Wilma. We're not sure that we will actually use that layer. So we've got a fair amount of dry powder, which is why I made the comment earlier in my remarks that we have got a full cover left or more should there be another event.

Did you include that costs to that backup cover in the reinstatement, or is that separate?

We included in the reinstatement, Greg or at least a portion of it.

Yes, I think that we amortized that over the remainder of our coverage so it will be amortized pro rata between now and May 1.

Just to summarize the comments regarding reserve adjustments in the quarter, Mark Haushill, if I look at the underlying results, is it fair to say that there was very little favorable reserve development and pretty much neutral, or do you have the exact numbers here again? I'm sorry I missed those.

Greg, it's complicated due to the commutation of the adverse loss development cover and how that flows through. And then you also have the effect of the commutation within Risk Management. So, net-net, there hasn't been much favorable or unfavorable development in the quarter, ex of those two events.

That's what I was looking for. Perfect. Thanks for your answers. Congratulations on your quarter.

[OPERATOR INSTRUCTIONS]. John Keefe, Ferris, Baker.

Couple of numbers questions first. Mark, you had mentioned cash flow for the quarter at topline. Can you repeat that please?

$250 million.

That's for the quarter or?

That's year-to-date.

In terms of the $27 million and goodwill associated with Risk Management, will that asset be tested in the fourth quarter or how do we stand there?

It will be tested as of September 30 for sure as that is our annual evaluation, John, but in conjunction with the sale of the Risk Management segment, we reviewed it as of June 30 in order to assure ourselves that we are not going to have an impairment once we sold the portion of Risk Management that we did. So, we have already looked at it as of June 30. There was no impairment as of June 30. My conclusion would be since there was no impairment then it wouldn't be subsequent to that either.

With respect to Wilma, does the Select Markets have any CAT exposure in Florida?

They have some but not very much, John.

Sounded not much.

It's mainly in that exposure.

Mark Watson, you had mentioned that the Denver business is being rolled into Colony as it's renewed. Can we infer then that you have the same risk measuring and loss monitoring controls for this new business as sales does typically on the core business?

It's the exact controls. Remember, a majority of that book is very similar to business that we are already writing at Colony. There is only about 30% to 40% of the book that was kind of different and more unique to us.

Excellent. Thank you very much.

Mark Lane, William Blair & Co.

Just a couple of questions. First of all, Risk Management. If you look at the underlying infrastructure and expenses, typically you don't break out acquisition costs and operating expenses on the segment level. So, what ongoing absolute level of operating expenses do you think you'd need to have to support the infrastructure that you're going to keep?

Well, that's kind of like shooting skeet, and every quarter it changes as we ramp down the underwriting infrastructure. But it's not going to come down as quickly as the revenue will come down because there is a fair amount of state filings that still have to be made. On the claim side, remember that we've accrued through unallocated loss adjustment expense reserves. What we expect to handle on the claims side -- that's where about 40% of the employees are right now -- I expect that number will continue to decrease slightly as we ramp down the business. So, we are, as I mentioned in my remarks, handling both safety and loss control, and claims administration for those accounts that are being renewed by XL. So, we still have somewhat of an ongoing business as well.

So, could you actually with the expense ratio being roughly 44.2%, what was the breakdown between acquisition cost and other underwriting expenses?

Mark, we don't disclose that in the quarter and nor will we disclosed that in the 10-Q, that's typically something we've put in the 10-K.

You do break that out in the 10-K?

We breakout certain underwriting expenses. Yes.

Similarly on the premium side, can you just discuss how you see your appetite for what XL may not renew, or if there is other premium away from that which you sold to them that you may be writing on a continuous basis?

There are about a dozen channels that are very complementary to our Select Markets segment. In fact, many of them were produced by our Select Markets segment over the past year and half or so. And so we will hopefully renew those into the Select Markets segment over the course of the year.

Can you quantify that?

My guess, Mark, is it would be a few million dollars -- say $6 million or $7 million.

On an annual basis or?

Correct.

Mark, this is Mark Haushill. We will be retaining the fine program we have within Risk Management now as well. So, if that business was about $40 million book of business, we get fee income on that and get reimbursed for our claims services. That's just an important part to remember in the ongoing business of Risk Management.

Where do those fees get recognized? Does that flow through earned premium at the segment level?

It's the reduction of expense, and an offset to ULAE.

Just to clarify on the numbers you had given in the first question, Mark Haushill, I thought you had mentioned you had thrown out a $78 million number --?

Yes. Mark, let me interrupt you. I had provided Mark with what I believe is an incorrect data point. The written premium for specialty was about slightly less than $30 million for the quarter. When you try to add the two up, and you get a different number, I gave him the wrong number.

So, I guess what I don't understand is, in the Risk Management segment on the loss side, what exactly flowed through that wasn't related to any of the legacy issues? There was adverse development away from what you had pre-announced, I was a little bit confused by that.

Actually no, Mark. In the 92% loss ratio that you're looking at, that includes $8 million associated with the commutation discussions we had. So, there wasn't any adverse loss development per se outside of that.

[OPERATOR INSTRUCTIONS]. Bijan Moazami, Friedman, Billings, Ramsey

Since hurricane Katrina, one of your competitors has announced that they are going to withdraw from property lines, at least catastrophe exposed property lines. Another one, just this morning, was saying that, Lloyds of London had jacked up rates as high as 20% to 25%, all the way up to Kentucky. I was wondering what do you see in the marketplace, what kind of opportunities you have for growth? Do you have an appetite for that sort of business, and if you do, how are you going to get the CAT covers that you need in order to expand in those lines?

Let me see where to begin on that one, Bijan. We do see a lot of opportunity. We do see the rate environment improving, as you just mentioned. And, as I mentioned in my opening remarks, I think we will see rates go up double digits for sure and perhaps even more in some wind-exposed property exposures. Over the last year and half, as you have heard us say on some of our previous earnings calls, our property book hasn't been growing. In fact, in some case, in some particular places it's been going down as the price in the marketplace went down below what we thought was the right price for us. So, as the market comes back up to us, I think that's going to give us a lot of opportunity. You mentioned one of our competitors exiting the marketplace, and I think we have been picking up some of that business recently. And I suspect that we will continue to do that. While we have had a number of losses, I don't think that we are pushed to our CAT cover this year, if you look at the eight hurricanes this year, plus, excuse me the four from this year, and the four from last year, we haven't ceded too many losses to our reinsurers in the aggregate. And I expect, and having had a number of meetings with our reinsurers at the PCI last week, I believe that we will have plenty of CAT cover this coming year. The question is, should we buy more CAT cover on top so that we can turn on the dial and write more business, and that's something that we are in the process of planning right now. I suspect that rates on the primary side will continue to accelerate and I think it won't be in, probably mid December or early January, until we know exactly how much opportunity there is, but you may see us go into the reinsurance marketplace before our May 1 renewal and buy an additional cover on top of our $60 million cover, so that we can take advantage of the opportunities we have in front of us.

Great. And a question I have asked others, would you ever consider buying CAT from a non-rated entity?

I assume, you are --

You are referring to multi-year this morning.

Yes.

I don't know, probably not. I think that would test our shareholders. I think it puts us in a tough situation, but it's something that we are really having to -- we are really struggling with credit right now as everyone is being downgraded in Bermuda. Remember, most of our reinsurance is still AA by S&P and A or A+ by AM Best. So, I am not too worried now, but credit is something we are going to spend a lot of time focusing on as we always have since we have been running this Company for the last five years.

Thank you.

Kenneth Billingsley, BB&T.

Just some housekeeping questions. On the retention side, which seems to be down, is that mostly because of reinstatement premiums?

Yes.

And lastly, on the MTA receivable, I mean you talked about the $45 million in cash that you have received, but there are future recoverables that may come in. Have you booked anything for that?

The receivable that we carried on our balance sheet was, I believe, $47.5 million. So, there is still another $2.5 million that remains. The point I was trying to make in my remarks, which I think I said previously is, as part of the settlement in addition to the cash payment of $45 million, the MTA has also assigned a portion of their rights to their excess insurers and we believe the value of that assignment is several million dollars, which would more than cover the $2.5 million that we thought will carry as a receivable.

But, it's not likely more than $5 million or $6 million though?

It could be seven or eight, but it's probably five or six.

Thank you.

Greg Peters.

Mark, I was wondering and I know you talked briefly about this in your opening remarks, but I was wondering if you could talk a little bit about Public Entity, because while it's certainly not a big component of the Company, it certainly seems to have struggled in the last couple of quarters from the top-line perspective. And as a look forward, I am trying to sort of gain some perspective on what I should be thinking about with respect to the segment?

Well, there are a couple of things going on. As I mentioned in my remarks earlier, there is a lot of competition. When we started the Public Entity operation four years ago, we really kind of had the landscape to ourselves for our little niche, which is small-to medium-size public entities, at least for what we were focused on. We only had one serious competitor to consider other than the various tools that each state put together back in the early '80s. Today, there are more competitors. A number of insurance brokers have come in and are trying to set up tools to compete against us, and so that's been part of this. And then the other issuers also recall, a year-and-a-half ago or two years ago, we acquired the renewal rights to our second largest competitor Coregis. And I think that there were some accounts that looked fairly appealing to us that were kind of on the larger end and in hindsight, we decided that that really wasn't part of our core business strategy. And so, over the course of last few quarters, you have not renewed a number of these larger accounts, particularly property-driven accounts. We decided that we'd rather use our CAT cover on the small business that Colony writes, some of the larger property losses that we had underwritten through Trident. So, it's in part competition, Greg, it's also in part just reallocating where we want to underwrite. Actually, while the numbers don't reflect it, on the premium side, we actually have pretty good momentum again. In fact, I was at a meeting with our agents last week and came away from there feeling very positive about the opportunities for Trident going forward. And also, ironically, even though top line is down, the bottom line is up. And I think we will continue to see that incrementally quarter over quarter, going forward. I think we may struggle a bit in terms of financial results in the fourth quarter but I believe that we will see a strong 2006 for all four quarters.

When you say struggle a bit in the fourth quarter, I assume that's primarily on the top line then, correct?

That's correct.

And as you work, ramping up, Coregis now, or ramping down Coregis, if that's the way I can characterize it, on a pro forma basis, after we move through this transitional period, what should I be thinking about in terms of, like average premium per policy in that segment or the type of risks that you're writing there?

Well, let me go back to the Coregis acquisition for a minute. There were a number of small size accounts that we renewed on to our books that we still have and we still like. I was mainly referring to some of the larger accounts that were more property driven. So it's just a portion of the book, that we renewed, that we decided really wasn't part of our profile. Going forward, the average premium is probably in the $50,000 to $70,000 range. And my guess is that the top line for next year will look a lot like this year, perhaps up slightly.

Fair enough, thanks for your answers.

Mark Lane, William Blair & Co.

Just two follow-ups. First of all, on the E&S business, I was just trying to get a better sense of the underlying combined ratio and, did you say that there was some favorable development in the quarter in E&S?

Yes, a little bit.

$7 million right?

No, no. I think what I said, there was $7 million year-to-date. There were just a couple of million dollars of favorable development in the quarter. And there will be more detail in the Q, Mark.

And back to the expense side, I just looked through your 10-K and I could not find a split between acquisition and operating expenses on the segment level, so can you just talk about what's variable and what is fixed in terms of expenses and risk management? I mean, what is going to be going down as earned premium goes down and, what's going to be constant on an absolute basis in running down over time, as the business winds down, can you speak to that at all?

Look, it is really tough to say right now and that's why I kind of made my comment about shooting skeet earlier. I think we'll have a better handle on the next quarter call or perhaps the one after that. There really are a number of moving parts. We're winding down a national infrastructure that's been in place for 40 plus years and it's really tough to tell just how quickly we will be ramping that down.

And at this time you have no further questions. I would now like to turn the conference back to Mr. Mark Watson for closing remarks.

Thank you. In summary, the third quarter in many respects gave us an opportunity to turn an important corner. We weathered three CAT events and delivered profitable results. We continue to grow while selling one of our business segments. And, we resolved certain legacy issues that have been a concern to our shareholders. All in all, we are well positioned to finish 2005 on a positive note and look to 2006 with a lot of optimism. Thank you again for joining us today. Operator, our remarks are concluded.

Ladies and gentlemen thank you for your participation in today's conference. This does conclude your presentation. You may now disconnect. Have a great day.