丘博保險集團 (CB) 2004 Q3 法說會逐字稿

Good morning, ladies and gentlemen and welcome to your ACE Limited third quarter earnings results conference call. At this time, all participants have been placed on a listen-only mode and the floor will be open for questions following today's presentation. It is now my pleasure to turn the floor over to your host, Helen Wilson, ma'am, the floor is yours.

Thank you. Welcome to the ACE Limited September 30, 2004, third quarter earnings conference call. Our report today will contain forward-looking statements such as statements related to our financial outlook and guidance, business strategy and practices, growth prospects, competition and market conditions. Actual results may differ materially. Please refer to our most recent SEC filings as well as our earnings press release and financial supplement, which are available on our Web site, for more information on factors that could affect the forward-looking statements. I'd also like to remind you that this conference call and its content, and any tape, broadcast, or publication by ACE Limited are the sole copyrighted property of ACE Limited and may not be copied, taped, rebroadcast, or published in whole or in part without the expressed written consent of ACE Limited. This call is being Webcast live and will be available for replay for one month. All remarks made during the call are current at the time of the call and will not be updated to reflect subsequent material developments. You may also listen to a replay of the call at 877-519-4471 or 973-341-3080 with access code number 5224481. Now, I'll introduce our speakers. Evan Greenberg, President and Chief Executive Officer will give an overview of the quarter. Philip Bancroft, our Chief Financial Officer, will provide additional financial detail. We also have representatives from some of our operating units available for the question and answer session. And now it's my pleasure to turn the call over to Evan.

Thank you, Helen. Good morning, everyone. Before I address our financial performance for the third quarter, I'd like to spend a few minutes on an important subject that I know is on everyone's mind. Namely, the current investigations by the New York attorney general. You're all aware of the lawsuit filed by the New York AG against Marsh Mac & Marsh Inc., charging bid rigging and restrain of trade. ACE is one of several Companies referenced in the lawsuit but was not named as a defendant. The attorney general's investigation is ongoing. We've been cooperating with the AG's office since its investigation began several months ago and will continue to fully cooperate. At the time the AG began its investigation, we hired an outside law firm Debevoise & Plimpton with a team headed by former U.S. attorney Mary Jo White, to conduct an independent internal investigation. The team reports to management and directly to the audit committee of the board of directors. We do not know when the investigation will be completed. We will move quickly but not at the expense of thoroughness. We will examine all areas of our organization that we believe are relevant or could be exposed to this kind of activity. I want to be clear, at ACE we expect the highest standards of behavior and will enforce those standards.

To date, we have identified instances of improper conduct in one unit of ACE USA, the excess casualty unit. One employee in that unit has pleaded guilty to a criminal misdemeanor in connection with bid rigging activities. Because the investigations are continuing, I'm not going to comment further at this time. We just don't have all the facts yet but we're gathering the facts as quickly as possible and we will act upon them as necessary. The New York attorney general's lawsuit has raised the question of the continuing appropriateness of placement service agreements, or PSAs or MSAs, therefore, we announced a week ago that effective immediately we were discontinuing the use of PSAs throughout ACE. To put PSAs in context in '03, ACE paid approximately 61 million in PSA compensation globally. Out of the 61 million, we paid in '03, approximately 38.5 million in PSA compensation was paid to Marsh globally and of this approximately 21 or 21.5 million was in the U.S. The New York -- the attorney general's industry investigation and complaint filed against Marsh is focused on two things. PSA compensation and business practices. Bid rigging is clearly illegal conduct. Past that, I'm not going to speculate as to how general industry practices will be affected by the attorney general's investigation, except to say that if upon investigation, certain practices are found to be wanting of change, then there will be change.

We all want to do the right thing. We want to conduct ourselves in a fit and proper manner and if that means change is required, then change there will be. I can't speculate further at this time except to say we, as an industry, and as a Company, are just at the beginning of this dialogue with the New York AG and regulators. Successful companies are the ones that find ways to serve their customers well, no matter how circumstances change around them. ACE is and will be one of those Companies. Achieving a constructive resolution to attorney general Spitzer's concerns is a priority for ACE and for me personally. But as I told our employees last week, we have a senior team of managers and advisors helping with these matters. For everyone else, the number one priority is just what it's always been, running our business and doing a great job for our customers and shareholders. Now, I'd like to turn back to the third quarter and our financial results. It was a difficult financial quarter for the property casualty industry and ACE was no exception. As you know, we reported an after-tax charge of 406 million. The charge reflects catastrophe losses from the hurricanes that struck the U.S. and Caribbean and the typhoons in Asa. This was perhaps the most expensive quarter in the industry's history for natural catastrophes. It was a unique period, with an unprecedented occurrence of 7 major storms in approximately a 7-week period.

Industry loss estimates globally for the quarter range from 30 billion on up. The final number, of course, is still not completely understood. So, putting the size of loss in perspective, I believe ACE fared quite well. The after-tax net CAT losses represent less than one quarter of full year earnings. Losses of this size and frequency test an organization and I'm pleased with our how our organization performed. Our claims organization, which is front line in servicing our customers during their time of need performed admirably and for that I'm grateful. Our internal risk management practices were put to the test and frankly we performed right in line with what we would have expected. Specifically, our CAT loss charges came from the areas of our business where we expected they would come. Insurance losses were 143 million or 35% of the total, while reinsurance losses were 263 million or 65% of the total. We've provided you with detail in this regard. Our CAT reinsurance programs to protect our Company's balance sheet performed as expected, as well.

I expect that logically these CAT losses will have an effect on overall industry prices, particularly in property and CAT-related lines. Let's remember that '04 was the year the industry might have achieved its cost to capital for the first time in an extremely long time. And now that likely won't happen. Excluding the effect of the CATs, ACE had very good quarter. As you can see, our growth in net premiums, our combined ration, our operating income, net investment income, and cash flow among other measures, demonstrated the strong underlying health of our Company and, in fact, despite these CATs -- CAT losses, our book value continues to grow. For the first nine months of the year, ACE performed quite well, even including the CAT losses. On a year to date basis, book value increased 6% and annualized ROE was 12.2. And our combined ratio is 93.8. Now, turning back to the quarter's performance, I'd like to call particular attention to our P&C net premium growth, which as you can see was around 20% after adjusting for foreign exchange. Some areas of our business grew faster than others, reflecting what I have said in previous calls about our underwriting discipline, balanced by our growing market presence both product and geography.

While rates were generally flat to down, submission activity, particularly in North America, was up substantially in the quarter from last year. We saw steady flows across all major lines of business. This robust growth, however, did not distract us from our fundamental underwriting discipline. Our bound business ratio, which measures quote versus bound business continued to decline in those areas experiencing the greatest level of competition, such as property, excess casualty, and D&O. In all, while we are entering a difficult period of uncertainty for our industry, I'm confident in the fundamental financial strength, moral character, focus, and discipline of our Company. Now I'll turn it over to Phil for details on the numbers and an update to our guidance, then we'll come back to take your questions.

Thank you, Evan and good morning. I'll briefly review our financial performance for the third quarter and update our guidance for 2004. We reported a third quarter net loss of 3 million or 5 cents a share after adjusting for preferred dividends, compared with net income of 355 million or $1.22 per share in 2003. Income, excluding net realized investment losses for the third quarter decreased 90% to 31 million or 7 cents per share. Income excluding realized investment losses and catastrophe losses increased 29% over 2003 to 437 million. Our combined ratio for the quarter was 105.2% and we incurred after-tax charges of 406 million in the quarter due to catastrophes. Excluding the CATs, the combined ratio declined to 88.1% from 89.6% in 2003. Also included in the third quarter are charges for a number of reinsurance computations we completed, which resulted in 13 million of after-tax charges. We had 2 million of positive net prior period development in the quarter. Our financial supplement includes a breakdown of earned premiums between property and casualty lines to better explain loss ratio trends. On page 8 of the supplement, you can see the continuing shift to casualty. Quarter on quarter, casualty net premiums earned have increased 42%. This increased the lines contribution to total premium earned from 46% to 54%. At the same time, all other P&C lines increased approximately 8%.

Turning to the balance sheet, our total reinsurance recoverables decreased by 106 million during the quarter. We had a decrease as a result of computations of approximately 370 million and collections from Nico and other ongoing activity of approximately 146 million. These decreases were offset by increased reinsurance recoverables for CAT losses of 410 million. We expect that the balances relating to the CAT will be collected in a short time frame. The investment portfolio increased 1.3 billion in the quarter due principally to our strong operating cash flow and an increase in market value of the portfolio, offset by the repayment of a bond which matured in August. Our investment leverage or our total investments over shareholders equity increased to almost 2.9 to 1. This is an increase of approximately 9% over year-end 2003. There were no significant changes in our credit quality, which remained at AA and we've kept the duration of our portfolio short at 3.4 years. Our average market yield declined to 4% as a result of a decline in market interest rates during the quarter. Our net loss reserves increased to 15.8 billion, which represents an increase of 2.3 billion or 17% over year-end 2003. This quarter we redeemed 75 million of callable debt and as I mentioned we repaid a $400 million bond. As a result, our debt to total capital ratio decreased to 16.8% from 19.8 and our debt plus trust prefers to tangible equity decreased to 35.1 from 43.6% at June 30, 2004. We're very comfortable with our level of leverage at this point.

Our after-tax realized and unrealized gain from our investment portfolio for the quarter was 294 million. The change primarily reflects an increase in the market value of the investment grade fixed income portfolio. Turning to our guidance for 2004, we're updating the estimates we provided in July. Previously our guidance for P&C net-earned premium growth was 20 to 23%. We now expect growth of 22 to 24%. Previously our guidance for P&C combined ratio was 88 to 90. We have revised this to 93 to 94% with the issuance of our news release on October 12, on the impact of the CAT losses for the third quarter. We still believe the financial services operating income will decrease by 10 to 15%. We expect total investment income now of approximately 980 million, up from our previous guidance of 940 to 960 million. We now expect operating cash flow of approximately 5 billion compared to the previous guidance of 4.5 billion. There is no change in interest expense and preferred dividends, which should approximate 185 million and 45 million respectively. Our effective tax rate guidance was also updated in the October 12, news release to be in the 24 to 26 range from our previous guidance of between 21 and 23%. Considering the significant impact of CAT activity, we are satisfied with our third quarter results. Our consolidated capital base remains strong. Our businesses are operating as planned and we're well positioned for continued growth and profitability. With that, I'd like to turn the call back over to Helen.

Thank you. At this point, we'd be happy to take your questions.

Thank you, the floor is now open for questions. If you have a question, please press star, then 1 on your touch-tone telephone at this time. If at any point your question has been answered, you may remove yourself from the queue by pressing the pound key. We do ask that while you pose your question, that you pick up your handset to provide optimum sound quality. Once again, to ask a question, please press star then 1 on your touch-tone telephone at this time. Our first question is coming from Ron Frank of Smith Barney. Please go ahead.

Good morning. Two questions if I may. One, if we annualize your asbestos-paid losses for the nine months, which seems reasonable given that there's only one quarter to go, your gross one-year survival ratio as of the end of December would have been about 7 and it started the year at about 10 and I wondering if you could comment on that? Second, I was wondering if we could get some color on what appeared to be a significant slow down in growth in the overseas general business, in particular. And, you know, what the thinking might be there regarding market opportunities or what may be influencing that?

Good morning, Ron. I'm going to -- I'm going to let Phil address your first question and then I'll come back and address your second question.

Ron, you know, we've -- we've continued to say that survival ratios aren't -- aren't the measure that we should use in evaluating this exposure and I'd say that's particularly true in our case now. As you know, Nico has attached and has begun to pay and that's going to very much distort the survival ratios that we report. So, you know, my suggestion is we move away from that at this point.

Okay. Ron, on -- on overseas gen, let's distinguish between the two businesses.

Right.

First, ACE international, which is the -- our business that is in 50 countries outside the United States and operates on a local basis, that business, ACE international, the Company business, was up 20% in the quarter. ACE global markets, which is our wholesale London-based ENS business, that -- that derives an awful lot of its business from the Lloyd's market that was down 7%. And that, frankly, is simply what we think is good underwriting. Energy and property-related lines, in particular, we think that the pricing was just not up to our standards and we walked away from business. So, I think you have to distinguish between the two. But in any event, that's what -- that's what affected that growth.

Okay.

And I -- I have said in the past that ACE global markets was, you know, when we talk about where are we growing and where are we shrinking and does ACE have underwriting discipline? I've held out global markets as one of those first that will experience a lot of competitive pressure, it does, by the nature of that business. And, you know, we'll walk away from the business in order to preserve underwriting profit and book value growth.

Okay, one quick follow-up, if I may, Evan. In the North American business, the premium retention in the quarter seemed to move back toward the '03 level after having risen during the first half. Is there any significance to that?

No, I wouldn't read anything into that. You know, we write quite a big book of risk management business and so, you know, that has a lot of client fronting in there and so that can distort from a quarter on quarter, but the trend -- the trend has been clear and remains, when I look at -- when I look at the underlying detail.

Okay, thanks very much.

You're welcome.

Thank you. Our next question is coming from Michael Lewis of UBS. Please go ahead.

Thank you. Good morning, everyone. My question has to do, Evan, with the expansion of the U.S. franchise. Can you give us a little more detail on what's going on there? Also, in the last quarter you had a jump in D&O and excess casualty submissions, can we get an idea of what the renewal rates are looking like in both those lines as far as the pricing trends? And what your appetite is for those businesses? Thank you.

Absolutely. I'm going to give a rather lengthy answer, if it's okay, because --

Fine with me.

I know there's a -- there's question around this and I want to address the question in total, if I may. First of all, we measure pricing carefully. We -- we measure it not just through the underwriting side, but clearly through the actuarial side. We trend from prior loss experience to current, given -- with rate activity, we adjust for inflation. Pricing in a number of areas is reaching, in the United States, walkaway points in numerous classes. But pricing is still reasonable in many classes. Where is our growth coming from? In the Westchester -- it's coming from the Westchester and from ACE USA. Westchester, across-the-board, in a variety of casualty-related and non-casualty-related lines, is growing. Westchester's D&O and miscellaneous D&O has been growing. It's primary casualty, it's inland marine, particularly construction-related, has been growing and our crop business is growing. So, it's very broad-based. ACE USA, all areas grew in the quarter.

Our international business, which is our -- our business that services U.S. multinationals overseas and U.S. small businesses with their incidental exposures overseas, that business grew well. Our ANH business, our marine business, our excess casualty, our D&O and E&O, our med mal, our environmental, all grew. So, it's quite broad-based. When I turn to -- what I have talked about before, our underwriting discipline and how do we balance that -- how do we demonstrate it and balance it out beyond just words? Here are some facts. In the third quarter, ACE USA and Westchester together received over 105,000 submissions. That's up 45% from third quarter of '03. When we received 72 -- almost 73,000 submissions. Our field organization and since '02, has grown from about 580 to about 960 people, because we have that presence on the ground now locally, in the territories around the U.S. to service brokers and to be calling on brokers and to be going after that business that is placed that way and that's what's driving up that submission activity. Now, if I turn to D&O and excess, which have kind have been the poster childs for -- for our underwriting discipline and how are we doing, based on the market talk, D&O: In third quarter of '03, we had 1425 submissions. In '04, in the third quarter, we had 3 -- we had 3,336 submissions. Now, that's a substantial increase. 235%. Our bound to quoted in D&O, in the third quarter of '03, was 40%. And in '04 it was 17.5%. So, our underwriting selectivity as prices drop demonstrates itself, though it is offset with that presence we have in a tremendous increase in submission activity.

Excess is kind of the same way. The submission activity in '03 in the third quarter was about 3700. And in '04 was 7,000. Our bound to quote in '03, in the third quarter, was 45% and in '04, it's 20%. And looking at the trend of that in the first quarter, that was 31% that bound to quote. So, like D&O, it continues to come down. Now, let me turn onto rates and where are rates and where are we seeing them? New versus renewal. D&O rates are down around 7.5%, overall. Primary is down about 2% and first, the first excess -- so, within the first million, excess -- the first 50 million, excess of the primary is down about 9.6% year-to-date. For the quarter D&O rates are down about 10%. That's about 20% on the first excess and as you go up higher in the layers, rate decreases are even greater. We measure our renewal business pricing rates to our new business pricing and it's consistent when I look at them between the two and coming up through the actuarial side, that information, it's consistent, the rates are. So, we don't have two standards.

On excess, year-to-date rates are up about 4%. And in recent months, they've actually been flat. On new business year-to-date rates were up about 5%, first quarter was 10% and in the third quarter it's about flat. Renewal, the rates are up about 3% and in the first quarter that was about 11% and right now it's about flat. So, all in all it's growing because of our increased presence, the -- which drove tremendous submission activity because of our ability to service among multiple products, local brokers on the ground. But at the same time, our selection, our underwriting behavior, has not changed. It is disciplined and when we don't like it, we walk away. And we're walking away from about 85% of everything we see.

Great answer, Evan. Could I just have one quick follow-up? This has been a controversial area because of the -- the lack of clarity in -- in reading some of these excess D&O covers and how they develop. How long do you think it will take you to understand whether you've priced it right or you've been a little bit too aggressive? And that's about it.

You know, Ron, one thing I would tell you --

Mike, Mike, not Ron.

Michael, I'm sorry, Michael. One thing I would tell you that -- that, as management, we're very careful to do, and that is when you're growing quickly, you're putting on a lot of new business and new business has risk. You don't know it as well as you know the renewal business that you write. And therefore the actuaries, when they determine loss ratios, they have an average, they have the mid point, and then they have a range around that. And we have consistently been erring to the conservative end of the range in recognition of additional risk we may be putting on. I believe the business that we're putting on, I am very comfortable with the loss picks that we have. The D&O business that we write, where you asked that specifically, is a claims-made book. Even with that, though, cases take time to develop. So, you have a lot of knowledge of -- of what are your reported potential losses, but they take time to evolve. But you know within a reasonably short period of time that you did it -- you made it right or you didn't.

Thanks very much, Evan.

You're welcome.

Thank you. Our next question is coming from Jay Cohen of Merrill Lynch. Please go ahead.

Good morning, everybody.

Good morning, Jay.

A couple of questions. One numbers question and two other questions. The numbers, one would be: Any guidance on the tax rate going forward, you know, looking into '05? Next question: The -- the reinsurance business grew quite a bit, I'm wondering if you can talk about the growth there, that from our standpoint was surprising. And then lastly, are there any early indications of how the asbestos reserve review is going in the fourth quarter?

I'll tell you what I'll take the tax question? You take the tax question --

We're not in position to give guidance for '05, but I would point out that this quarter has been distorted significantly by the storms, right, the losses that occur in nontaxable jurisdiction are significantly the story in the tax rate and that's why we've changed the guidance, obviously for the remainder of the year.

Other than that, nothing's really changed from before? Is that fair to say?

That is fair to say. There is no fundamental change. We have been producing more of our business in taxable jurisdiction, so, you've seen that tax rate grow, but the significant that jump you're seeing now is just as a result of the storms.

That's what I figured, thanks, Phil.

Jay, I'm going to give you -- I'm going to provide the answer on the reinsurance business for the third quarter and it's really in three pieces and I'm going to try not to be overly complicated about it. First of all, the storms distorted upward in a positive way. The growth in the reinsurance business, because the CAT business, which has been shrinking all year, as you know, gets the benefit when the losses come in of reinstatement premiums. So, there was quite a bit of reinstatement premium activity that helped to boost the top line growth. Secondly, because we've been shrinking -- we -- we buy our -- and pay for, in our CAT business, our retro protections in the third quarter. And the market has been softer, prices have been down and that comes out of net premium. Prices have been softer and they go down and because our exposure has been shrinking all year, we had our need to purchase CAT Retro decreased, as well. So, that, again, impacts and buoys net written premium when you're comparing the prior year. And then finally, which has been an ongoing trend all year, and frankly for the last two years, and that is our U.S. portfolio, in particular, which is a lot of property risk and casualty and, in particular a lot of casualty reinsurance business from treaties that we have been writing through '03 and '04. You get those writings and book them in the third quarter. So, that continues to grow. I hope that answers your --

Yeah, that's great. Thank you.

The insurance question. And your last question on asbestos? Can you repeat it, please?

Yeah, I just didn't know if there was any early indication of how your reserve review is going, if you could share any maybe initial conclusions on it?

You know, Jay, I can't. It's a cake that's in the oven and I can't open the oven. Not at this moment. What I know -- what I will tell you and I will commit is by the end of the fourth quarter, before we close out this year, we will have the results of those studies and we will share the results of our analysis with you. I may not share all the studies, but what we will do is all the studies will be in. Both internal and external and the results of that, we will share with you before the -- by the end of the year.

Great, thanks for the answers, fellas.

You're welcome.

Thank you. Our next question is coming from Fred Taylor of Lord Abbott. Please go ahead.

Yes, good morning and thank you for volunteering the commission's paid. I have an industry question but I will maybe use your experience as an example. Just as we think about these commissions going away, both for all the insurance companies and for the brokers, can you enlighten us on either the 61 million or the 21 million in the U.S. to Marsh? Typically how much in premiums or insurance did you win through those commissions? And what was the profitability of that type of business versus your average business?

First of all, we didn't hold -- I'll just answer this part of the question.

Okay.

I -- we did not have a different standard of profitability for Marsh than we did for any of the other business that we write or wrote. We have the same standard.

Okay.

And in any book of business that we write, we hold the same standard. So, we don't change our standard.

Right.

Secondly, I don't want to go into the question of how much premium we had -- frankly, I don't have that answer in front of me, first of all.

Okay.

But I don't want to go down that path.

Okay. And then a second question. As these all go away for everyone, does something come back in another form? And, you know, does something like this, if it all goes away for everyone, is it market share neutral? I assume the answer is yes, but?

You know, I can't -- I'm not going to overly speculate on where this goes but it wouldn't surprise me if it didn't -- if there wasn't, on one hand, a movement among the brokerage community to try to push up commissions on the front end.

Right.

That would not surprise me. Though, this will -- I have to believe and again, it's just speculation -- that this will cause more competition among brokers and, therefore, on the other side of the coin, you know, one of the competitive elements of distinction will be how much each one charges for commission. So, that may push it down on the other side. There you go. I'm just reading the tea leaves as you are.

Thank you very much.

Thank you. Our next question is coming from Brian Meredith of Banc of America Securities. Please go ahead.

Good morning, everybody. A couple of quick numbers questions and then one more general question. On the numbers question, Phil, it looked like there was a pretty big increase in the reinsurance recoverable balance at Brandywine and also there was this $423 million increase in other. I wonder if they're related and what is that for?

They are. We had some books of business that we identified over the course of the quarter that we believe were more properly classified as runoff so it's just a reclassifaction. There's no charge that was taken, it's just a movement for disclosure purposes.

Terrific. And then another quick numbers question. Evan, you were talking about the reinstatement premiums and the reinsurance boosted written premium do you have that number on a written basis? I know you provide it on an earned basis but what's the written number?

I'm sorry, I don't have the number in my head but we can come back to it.

Great. And the last question, Evan, with all of the distractions right now in your North American operations, you know, do -- should we expect that there may be a little bit of disruption in your kind of top line growth rate in that operation in the fourth quarter?

I think the only disruption you should expect is that as we become more selective and our growth and submission activity obviously begins to tail off, I believe and as the market, you know, competitiveness, the environment, continues as it is, I think you would naturally expect the business to potentially slow down from those factors, but that's it, underwriting discipline. Other than that, I have no indication that -- that -- that we will be affected and I can tell you, our organization overall is not distracted. People are -- are -- are focused and are come to work everyday to do the things they -- they know they need to do. And that is focus on their clients, focus on the business and focus on their underwriting quality.

Great. And no customer backlash as of yet? Or do you expect any at all?

You know, I -- I really can't speculate on that. You know, I'm not going to be arrogant enough to say that there won't be any customers who will -- who will be disturbed by what they see but I think our customers, in the main, know that we are honorable, we're well-intentioned. We're driven to serve them and that if there have been anything -- any abhorrent behavior, illegal, improper, or otherwise, I believe it is restricted to a very small number within our organization.

Great, thank you.

And I believe our customers will understand that.

Thank you.

Thank you. Our next question is coming from Mark Lane of William Blair and Company.

Good morning, Mark.

Thank you and good morning. Just one follow-up question on asbestos. I understand in the past that you've been somewhat hesitant to discuss the -- the limited obligation with Brandywine and what you may do in the event that the reserve study doesn't go your way in the fourth quarter? But, you know, obviously it's right in front of us within the next couple of months, I'm sure that you've thought through all the issues and the ramifications and I think I asked this question the last call, but can you tell us what your position is regarding that limited obligation to the State of Pennsylvania? Would you lean on that? And what do you think are the business and legal ramifications from potentially walking away from that?

You know, Mark, I think we're speculating -- you -- you're speculating with a presumption that there's an answer on the studies to begin with. And you may know that, but I don't know that. And my colleagues don't know that. And then we go to the next step of if there was, then -- and -- and it went over the top, then what would you do?

Uh-huh.

I am not going to speculate about any of that now. What I will tell you that I have said before, I recognize that we have an $800 million contractual limit of liability to Century Indemnity. I recognize that fact. And then there are a whole lot of other facts that -- that -- that we have to assess and options. And I'm just not going to go there now because frankly, I don't believe -- I haven't reached a point where there's a -- there is a need for me to -- to begin seriously considering any of that.

Okay --

So, let's let the studies play out and we'll go from there.

Well, just two follow-ups to that. First of all on the numbers side, you know, I think the bad debt reserve number went up for Brandywine or the runoff. So, today, Phil, where does that limited obligation, that originally was at $800 million stand as of the end of the third quarter?

I don't think there's any significant change. We would count the increase in the bad debt towards that 800 million because that is part of the net worth maintenance agreement. But there hasn't been any significant change during the quarter. And with respect to the bad debt reserves, you know, as you know, what we do each quarter, is go through a process where we apply credit ratings to our reinsurers and based on that establish provisions for each and every reinsurer. So, the movement that you see is just a normal movement in a quarter as we go through that process.

But that would reduce the obligation given that -- I mean ultimately that's Brandywine's obligation.

That's correct. It would go into -- it would be a part of the 800 million.

And the second follow-up I understand it's speculation on the asbestos study, but I mean it's -- it's obviously a -- quite a material issue for the Company. It's, you know, you're not that far away from it and, you know, I've got to imagine that, you know, you've looked at some of the alternatives because it would be hard to, you know, look at your options once it happened, given that it's such, you know, potentially such a serious issue.

Right, you know, but look. I think it's counterproductive and it's clearly not my job to speak to you on issues of speculation. I speak to you about the facts and the facts -- let's let the facts evolve and when that time arrives, we will be very, very clear on -- on -- on decisions we have reached.

Okay. Thanks, Evan, thanks, Phil.

Thank you.

Thank you. Our next question is coming from David Sheusi of JP Morgan. Please go ahead.

Hey, good morning, everyone. Just a quick numbers question and then just a general question if I may. First, on page 31, I just wanted to get some greater clarity on the supplement you provided in detail. The unrealized depreciation of about $393 million in the quarter seems to be a little bit higher than I would have expected given some of the change in the interest rate environment and the duration level and is there anything else kind of running through that number we should be aware of? Or is there something unusual in the quarter that is kind of driving that?

What I would do is -- let's see, bear with me one second. I think -- I take you to page 27. If you look at page 31, the combination of the 393 and the negative 32 will give you the 361 that you see on page 27 for unrealized.

Okay.

So, you can see the component. It's primarily fixed maturities and it's just simply the change in interest rates as it affected the value of our portfolio. There's nothing unusual in that number.

Okay, good . Appreciate that. And just moving on in terms of getting some -- some clarity on the expectations over the next -- next several months, just externally, I mean in your formal commentary here in the Q&A you've talked about the potential for a deceleration in the top line growth outlook. Could you just provide us a little bit more information, I guess, in terms of, you know, how you see the -- the market moving directionally and what impact on the most recent, you know, issue with Marsh and the broker market as -- as that impacts your ability to conduct business and specifically the January renewal period, how you're managing through that process? And have you changed anything within the platform going forward, to -- you know, allow you to win in this current environment?

We have not changed anything in the plat -- I'm going to work backwards with you.

Okay, good.

We have not changed anything in the platform. We are -- I would say in a word, you want to win in the first quarter and January 1, well, you've got to be focused and you've got to be out there because January 1, business begins now. And our organization and our management team is focused on that. We have made no organization changes at this point to address that. And we haven't seen that need, we think we're well-positioned and, you know, we'll continue to do what we do. As far as deceleration, look, our growth rate has been slowing as, you know, as you trend it, as the year goes on. That, I think, is a natural consequence, I mean some of you raise questions about, well, why isn't it -- I get both sides of the question: Why isn't it growing more slowly? And then some questions are why aren't you growing faster? The more -- the more slowly question really is how we've increased our presence and I've -- I think I've addressed that with you and -- and that we've built out our organization. That's a capability and -- and -- and a dimension that ACE could capitalize on that -- that others didn't or couldn't, to the same degree, and so we did and we could. We continue to grow and we will continue to grow, though I believe that the -- unless the -- the latest catastrophes have a marked effect on the rate environment, if it remains as it is, it becomes a bit more competitive each quarter and as that does, then our ability to select business that meets our standard declines. And so I expect that naturally our growth rate will drift down as a result. I can't peg exactly what it will be.

Great, thanks.

You're welcome.

Thank you. Our next question is coming from Bill Wilt of Morgan Stanley. Please go ahead.

Good morning.

Good morning.

Hi, there. I will stay on the, I guess the same topic, the topic of growth. Wondering if drawing on broad industry experience, experience at other companies, are there checks and balances that ACE has put into place to monitor the quality of business coming on that -- that maybe is, you know, makes ACE different or unusual or is -- or is different because of the, you know, the increased level of submissions?

Sure. There is a -- and do I think it makes ACE different? Well, I don't know how every company operates, but I think we understand what we think are best practices and so we have a variety of checks and balances. Obviously we conduct under -- well it wouldn't be obvious, but I'll tell you, we conduct underwriting audits routinely. We have peer review that -- that -- peer review processes that are in place where multiple heads to make decisions and review each other's. We have an actuarial review that is constant on a product, very granular basis to be measuring pricing and where we expect it to come out. And so we, you know, we -- and we have underwriting management in place and we have an authority level, particularly as you increase staff geographically, we've been very careful in the underwriting management process in how we delegate underwriting authority and so, you know, people have to prove themselves and then we watch, by office, what their submission activity looks like, what's the average rate you might have versus the average rates we're seeing, what's your close ratio versus the close ratio we might be seeing, what classes are you writing, versus that we might be seeing on average? So we've got a lot of underwriting related data that allows us to peer in, watch it and manage it and that's what my colleagues do.

Thanks very much.

You're welcome.

Thank you. Our next question is coming from Tom Cholnoky of Goldman Sachs. Please go ahead.

Yes, good morning, Evan. I just wanted to go back to your market commentary. Just help me think something through here, which I struggle with a little bit.

Okay.

You know, and if I make the assumption that during down cycles, you know, companies massively undershoot loss cost trends and up cycles they tend to overshoot and actually generate excess profits on the margin, I guess what I struggle with is that you're talking about, you know, rates coming down in certain lines, you know, after rates have compounded quite a bit. So, if you make the assumption then in a lot of lines you've overshot, you get to a point where you eventually hit your loss cost trends. I guess what I'm struggling with is how far away from we are that? It's hard for me to see how just because of a little decline in certain lines that you're actually at that point? And then secondly if you could just talk to the issue of terms and conditions because to me, if it those haven't changed meaningfully, they can still be a very powerful driver of profitability, even though rates may be a little bit softer.

I'm with you, Tom. I'm with you. And we measure it conservatively and, frankly, terms and conditions, we -- you measure to the best -- to your best ability the impact that they will ultimately have. The terms and conditions have not been loosening substantially and there's a lot of power in terms and conditions and we only give so much weight to it in our pricing. Rates did go way up and we are measuring class by class how far they have come down. Remember something else about -- that I throw into your analysis that I -- I -- I think you know, but you didn't put out there. And that is that where the industry thought 2000, 2001 experience was and how it was going to develop, it developed upwards. So, you got to take that into consideration, as well, as a starting point when you're bridging from one year to the next on loss experience. When you also take in where rates have moved. Rates have moved up substantially. We do watch class by class how they're coming down and there are certain classes and you can say we're being overly conservative, I'd rather err to the cautious side. There are certain areas where the -- certain classes where I think we're getting close to and our underwriters believe we're getting close to walk away prices. Maybe there's another 5% in them, maybe there's another 7.5. At that point, I don't argue with the underwriters.

Okay. And those would be the --

Does that help you with it?

Yeah. I mean it just seems to me though that if the terms and conditions hold, your profitability could actually hold for a lot longer, even though prices are coming down?

One of my colleagues wants to say something, Brian Dowd and he thinks it's something -- please, Brian.

Tom, the other thing I would add is in terms of pricing. I would agree with you completely that the terms and conditions make a big difference, particularly in the primary areas and where companies need a competitive advantage to compete, whether it's globals or down low where you need claims and infrastructure, where we've seen more deterioration in pricing and where the walk aways are getting closer is on the higher excess business that's truly been more commodity-related.

Okay. Sorry, one quick follow-up, Evan, would you Counsel us against simply adding in the 60 million that you paid in PSAs into your income for '05?

Well, I'm not simply adding it in. [ Laughter ]

Does that imply you think the brokers will get it one way or another?

Well... [ Laughter ]

If you're not adding it in...

You know what? You caught me flat-footed. I'm going to punt on on that one right now. We haven't given '05 guidance yet but we're going to give you '05 guidance on the next earnings call. Before year-end -- when do we typically do, Phil?

Well, usually you're going to wait until the end of the year.

Usually toward the end of the year, the annual, but we'll pick a different date this year.

We'll give you '05 guidance --

You'll tell me what's going to happen with the 60 million. [ Laughter ] Okay, thank you.

Brokers are a clever animal, don't underestimate them.

Thank you. Our next question is coming from Paul Newsome of AG Edwards. Please go ahead.

Thank you, just two kind of almost follow-up questions. One was -- as I'm thinking about competition, I'm getting in the comments you've already made, it sounds like there's really not a huge difference internationally versus the U.S. I want to see if that's -- I want to see if my conclusion is correct, and your view. And then secondly, on -- on the asbestos, can you concisely tell us why the survival ratios will be disordered by Nico? And if it's a longer conversation, maybe I will bother you offline.

Paul, I -- I would caution you against -- in a macro sense, the trends that -- that drive U.S. pricing and drive international pricing and, therefore, the competitive environment, in a macro sense, they're similar. In the main, but you take something like the hurricanes and they may not affect markets internationally to the same degree the way they may in certain parts of the United States or in the United States. But, you know what? The competitors are different, market by market. And how each market behaves is when you then get down to micro and get down to what drives the business day-to-day, I've got to tell you it's the competitive environment among a different group of players in each market and they're not as -- they're not as similar as you might think. I mean obviously the casualty and legal environment drives so much in the United States and it does not drive it in -- to the same degree in international markets, as one example. So, I would caution you against drawing too many comparisons.

And Paul, call me, I will take you through the calculation on the -- on the survival ratios.

Great, thank you.

Thank you. Our next question is coming from Dave McGowen of Citigroup. Please go ahead.

Good morning, everybody. Evan, this one's been beat almost to death, but let me go at it one more way. It's the asbestos question. And it refers to comments you've made on previous two earnings calls, where you expressed some comfort with the degree of claims development, or I guess frequency of claims, relative to the assumptions embedded in your last ground-up review. And I'm wondering if you are in a position where you still can express that level of comfort?

You know, I -- I want to reserve any further comments on asbestos and where the studies are going and the -- the development we may or may not see until the studies are completed. We're not that far away from it. It's October 27, and -- and, you know, I have -- I've kept my hands off of looking at them early because it's just -- it's -- they're just not there and I shouldn't look at the data yet. So, I'm not. I'm waiting until both internal and external completed and then the facts will speak and I won't ignore them. Whatever they are. Good or bad.

I figured I'd give it a try anyway.

I hear you, pal. [ Laughter ] Next question? Hello? Hello?

We do have time for one last question. Our last question is coming from Nick Peros.

Good morning, Nick.

Excuse me, Nick, your line is live.

Yes -- can you hear me?

Yes, good morning, Nick.

Yes, good morning. Granted the third quarter industry CAT losses were atypical, but given ACE's book of business, and with the benefit of hindsight, was the $100 million CAT loss assumption for '04, you know, a proper load or maybe said differently, what CAT volatility are you comfortable with?

Nick, I think the 100 million was, yes, was reasonable. It was -- I should actually let Sean Ringstead, our Chief Actuary answer it, but was determined on a probabilistic basis and I think, you know, on average, given the exposures we have, this, you know, on average, well, when does CATs become, you know, average? You're either -- you know the 100 is going to be wrong, it's either over or under, but it is a reasonable number to be using for an average. And I am -- I have to tell you, when we look through how we fared book by book, I'm very comfortable with the loss we had, where it came from, the size of it. It made a lot of sense. And on a risk-adjusted basis it made sense. From an underwriting basis, as did you -- was -- did you underwrite and take on risk that you understood and priced for? Yes. And from a reinsurance point of view, did you know how much -- did we know how much we could -- we could expose the balance sheet in each of our areas and therefore protect it with reinsurance? The answer is yes.

Great that was helpful. And the second question on expenses and -- Evan, as an example, and do you know you had cited that a doubling of staff is helping fuel the growth. My question is more of a consolidated expense in terms of: Is the overall mix between fixed and variable expenses for ACE in total, has that changed materially in the last 18 months?

Well, you know, our fixed cost, as a percentage, continued to decline and -- and you can see that in our expense ratios in OpEx, versus -- versus acquisition costs. So, it does continue to decline and I expect it to continue to decline and, look, we're reaping the benefits of -- a lot of build-out that we did during '03, in particular and -- and parts of '04, but then we've slowed down our growth and expenses substantially and you can see it quarter by quarter and as the ratio continues to decline, and we understand expense management and that will continue as we go forward, particularly as the -- as the -- as the underwriting environment that we're looking at continues to evolve.

Great, thank you.

You're welcome.

At this time, I'd like to turn the floor back over to Helen Wilson for any closing remarks.

Thank you for joining us this morning and good day.

Thank you. That does conclude today's teleconference. You may disconnect your lines at this time and have a wonderful day.