丘博保險集團 (CB) 2005 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the ACE Limited fourth quarter 2005 and year-endings conference call. [OPERATOR INSTRUCTIONS]

I would now like the turn the call over to Miss Helen Wilson, Director of Investor Relations for ACE. Please go ahead.

Thank you, and welcome to the ACE Limited December 31st 2005 fourth quarter, year-end earnings conference call. Our report today will contain forward-looking statements such as statements relating to our financial outlook and guidance, business strategy and practices, growth prospects, competition, pricing and market conditions, exposures, losses and reserves, reinsurance, leverage, governmental action, and litigation. 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 website, for more information on factors that could affect the forward-looking statements.

I would also like to remind you that this conference call and its contents and any tape, broadcast, or publication by ACE Limited are the sole copyrighted property of ACE Limited and may not be copied, taped, or broadcast or published in whole or in part without the express 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.

Now I would like to introduce our speakers. First we have Evan Greenberg, President and Chief Executive Officer, following by Phil Bancroft, our Chief Financial Officer. Then we'll take your questions. Also with us to assist with your questions are several members of our management team.

Now it is my pleasure to turn the call over to Evan.

Good morning. I have a number of subjects I would like to touch upon this morning. The first wave: you've all seen the numbers. Let me briefly address the quarter and the year.

As with the third quarter, fourth quarter results were overshadowed by the hurricane losses. We incurred CAT losses of 304 million after tax, which was 12.5 points on the combined ratio. 251 million was related to Wilma, which we previously announced, and 53 million was related to the third quarter storms, including Rita, Katrina, and Dennis. This 53 million deterioration represents about 7% of the total amount of third quarter CAT losses.

Our net written P&C premium growth for the quarter was 1.7%, and adjusting for foreign exchange, which went against us, was about 2.5%. This is up from our third quarter growth rate and is due in large part to increased pricing in our U.S. property account of CAT and non-CAT, and greater stability in casualty pricing.

For the full year I believe our results reflect the discipline and strength of our Company. Our P&C written premium growth rate was just over 2%, reflecting the broad based market softening we experienced through much of the year and our commitment to underwriting discipline.

Growth rates varied by territory and line of business. For example, our International A&H business grew double-digit. Our U.S. P&C businesses experienced solid growth. Our Lloyd's business was flat, and our U.K. retail P&C businesses shrank. The balance of the world -- continental Europe, Asia, and Latin America -- experienced reasonable growth overall, which varied by territory depending on market conditions. And finally, our reinsurance business was basically flat.

In all, this speaks to our diversity and ability to react to opportunities globally, an important fundamental company-wide strategy.

For the full year, we achieved a combined ratio below 100%. We earned close to 1 billion in after-tax operating income. Our ROE was about 9%, and book value per share increased 7%. Not brilliant in absolute terms, but considering 2005 was the worst year in history for insured CAT losses, a good result that speaks to our discipline and focus on managing risk.

Speaking of managing risk, I have made the point a number of times but want to reiterate our game plain. Following the 2005 Atlantic storm season, we substantially revised our CAT risk models to incorporate our current views of risk. We have addressed both frequency and severity in the models and not only did we adjust for the wind peril, but all other perils as well. As a result of these changes and our own management judgments, we have and are taking three major actions: raising prices, reducing aggregate exposures where necessary, and purchasing a greater amount of reinsurance protection. Said another way, our appetite for risk has not changed but our view of potential loss has, and we have to adjust our portfolio and in fact we are doing just that.

As far as reinsurance strategy is concerned, as I said previously, our retention is increasing and so is the amount of reinsurance cover we are purchasing. We haven't finished buying protection, but we are on track towards completion and in fact have already secured more cover than we had last year. Prices are marginally higher than we contemplated, but they are within a tolerable range.

As far as CAT pricing is concerned, we have raised rates to reflect both current view of frequency and severity and increased ROE targets for CAT-related business. We raised our target returns to recognize the volatility and uncertainty in this area.

Turning to the current market environment: Directionally, the market in the U.S. is moving as we expected. Rates on short-tail lines are moving up in most classes where we are active. It is an issue of velocity. They aren't tightening as fast as we would like to see or believe they should.

On the casualty side, I'd characterize the environment in the U.S. as overall stable or stabilizing. Rate levels have or are finding a floor, with only one or two exceptions such as workers comp and certain areas of medical malpractice.

We expect rates will continue to tighten for both CAT and non-CAT exposed classes as the year progresses. Rating agencies, modeling companies, and reinsurers' actions will add further impetus to a market tightening as the year progresses. The exact timing and shape are obviously uncertain.

On the International side, market conditions vary. London wholesale I would characterize as similar to the U.S., tightening in many short-tail lines, i.e., large account property, energy, marine, et cetera, and greater stability in casualty-related lines. The direction is right. Again, a question of velocity.

For U.K. retail property, and much of International property, for that matter, rates at this time are continuing to soften. On the casualty side, again, the market continues to soften. The farther one gets away from the location of the '05 CAT losses, the longer it takes for companies to come to grips with the new perception of risk. It simply takes longer for reality to set in. Now, this is a general statement. Some of the softening in certain territories can also be attributed to stable markets where business has been well priced.

The current market environment is largely what we contemplated when we released our '06 guidance. Again, the market is moving in the right direction, with the exception of international retail. It is a question of velocity.

Finally, let me touch on the reinsurance market pricing environment. First, Property CAT. U.S. CAT firmed and is continuing to firm, both wind-exposed and non-wind perils. Price increases vary by layer, peril, and cedent. U.S. CAT pricing should continue to tighten as the year progresses.

Non-U.S. pricing was up, but less than in the U.S. and less than they should. More specifically, peak zones firmed and non-peak were flat. Again, we expect pricing to continue to firm over time.

Risk and proportional property rates and terms are firming. CAT protection under individual risk property covers are being reduced. Casualty pricing is firm or has found a floor. More specifically, for good or softer classes, reinsurance rates are flat. For cedents with poor experience, rates are up. For tougher classes or capacity-driven placement, rates are firming.

Turning to capital -- when we raised the capital in October we said it would be accretive to shareholders. And again, our guidance reflects just that. We raised capital for two purposes: growth and increased capital requirements to conduct business. That has not changed.

Now, a few comments on asbestos. First, our sale of the three entities. As you have seen, last week we amended our application to sail sell ACE American Re and two other runoff reinsurers. We have changed the composition of the deal a bit in order to assure that we have the right mix of assets and liabilities for all of the various ACE-related companies. There is little or no GAAP effect on ACE from these changes. But it does better align the interests of all of the parties to the transactions. After the transaction is closed, the companies we are selling will be more than adequately capitalized, and Century Indemnity's capacity to pay claims will have grown by approximately $200 million, the same as the deal originally intended, as a result of these transactions.

It has been a long process, longer than we would have hoped a year ago at this time. Nevertheless, it has been fair and informative. We believe our amended proposal makes it clearer than ever that this is a win-win situation for all interested parties, and we believe strongly that the proposed transaction will be approved and will close shortly.

Secondly, our reserve position: As you know, we review our A&E reserves annually as we do all our reserves. We judge our A&E reserves adequate. During our '05 review we did not observe anything in the aggregate that would cause us concern, which is what you would expect given the long-tail nature and the fact that our last exhaustive review was one year ago.

We have also seen two significant decisions from the courts in asbestos area. The AC&S case involved a procedural technicality. While it may be significant to the insurer involved in the case, it is a non-event from an industry perspective.

Far more important is the reversal of the Fuller- Austin decision by the California Court of Appeals, which we believe will alter the landscape in asbestos bankruptcy proceedings. This decision recognizes the rights of insurers to deny coverage of unfair or collusive settlements. It also confirms that liability insurance is not required to pay an estimate of all future claims today. Insurers pay claims only and if they come due. We believe the decision is a major defeat for the trial bar. If you want to know more details during this call, our General Counsel is standing by to provide a two-minute synopsis.

Finally on the legislative front, Senate majority leader Bill Frist is committed to introduce asbestos trust fund legislation on the floor of the Senate, and we were a supporter of this process. We are in favor of a properly constructed trust fund solution. The current version as it stands is not adequate. It requires changes before we can endorse it. We are actively supporting the legislative process and believe satisfactory trust fund legislation can emerge from it.

Let me now turn the call over to Phil Bancroft. I will then take your questions.

Thank you, Evan, and good morning.

Our operating income for the quarter, excluding net realized gains and losses, was 245 million or $0.72 per share. Our income included 42 million of tax benefit relating to dividends that we repatriated from our International operations under the American Jobs Creation Act. This benefit was more than offset by 53 million of after-tax development on third quarter CAT losses and 27 million of prior-period development.

The prior-period development arose primarily in our ACE Bermuda operation and related to reserve actions on a few specific claims. We did not identify any systemic issues.

Our income also included a record 354 million of investment income, up over 10% from the third quarter. The increase resulted from income on the proceeds of our equity offering and our strong operating cash flow of 810 million. I will note that this cash flow is net of approximately 400 million of paid CAT losses.

Our cash and invested assets increased to 32.4 billion, up 5 billion for the year. This brings our invested asset leverage, or our invested assets over shareholders equity, to about 270%. Our investments remain conservative, with a AA average credit quality, and during the quarter we shortened the portfolio's duration from 3.2 to 2.9 years, because we believe that with the flat yield curve, less duration risk is appropriate.

Our net paid and unpaid loss and lost expense reserves have increased 2.9 billion, or over 18% for the year. Without the reserves relating to short- duration of CAT losses, this increase would have been 2.3 billion or 14%.

For the year, our book value has grown almost 20% to 11.8 billion. This increase includes the impact of our 1.5 billion equity offering and our net income of over 1 billion.

During the year both our reinsurance and financial leverage ratios improved. Our reinsurance leverage, that is, our recoverables over shareholders equity, dropped 20 percentage points to 132% at year-end. Removing the high quality, short-duration recoverables relatinged to CAT losses, our leverage would have dropped to 115%. We expect that this leverage will continue to improve.

Our financial leverage has also decreased. Our debt to total capitalization ratio is 14.8, down from 16.3 last year, and our debt plus trust prefers to tangible equity was 26.6, down from almost 34%. We remain very comfortable with our financial leverage.

I will also mention that we have no changes to the guidance we previously issued for 2006. Barring any unforeseen events, we don't expect to update our guidance until the second half of the year.

With that, I will turn the call over to Helen.

Thank you, Phil. At this point we'd be happy to take your questions. Operator -- Denise? At this point we would be happy to take your questions.

Hello? Is anybody on that phone? Hello? Operator? For all of you in listening mode, if you can hear me, we're waiting for the operator to come on and engage for questioning.

To the listeners on the call, please stand by. We're having trouble hearing the operator.

Thank you. We will now conduct the question and answer portion of the conference. [OPERATOR INSTRUCTIONS] Thank you. Our first question is coming from Mark Lane.

Good morning.

Mark, are you there?

Yes, I'm here. Good morning.

Nice to hear you.

Okay. Just on reinsurance from retentions, within your guidance when you look at your CAT load -- you mentioned that frequency, you thought frequency and severity was up and --

Mark, we've just lost you mid-sentence on the question. Hello?

Thank you. Our next question is coming from --

No. You know what? Operator, can you hear me?

Yes, I can hear you, sir.

Okay. Well, that gentlemen was cut off in mid-question. We couldn't hear him. We would like to engage his question and we would like to be able to then give him a response. It cut off. Mark Lane?

Please press star, 1 again, Mr. Lane. Thank you. Mr. Lane, your line is now live.

Okay. Evan?

Yes, I hear you.

Good morning.

Good morning.

Okay. On reinsurance and retention, the CAT load within your estimate went up quite a bit and you talked about an increase in frequency and severity, but your retentions are also going up. How should we interpret that? How much of it is due to an increase in frequency and severity and how much more CAT risk, or that first layer, are you accepting?

Well, we have increased our retentions. I don't have an exact breakdown for you in my head. It is somewhat -- it is related to both. It is related to the fact that we have an increase in both frequency and severity and I would judge more than half of it due to that. And then there is a portion of it that is also due just to the fact that we are increasing retentions, simply because the pricing in the market leads us to that commercial conclusion.

Okay. And so for this year, your CAT capacity, will it be the same this year as last year or --

When you say CAT capacity, do you mean what will --

Meaning your CAT exposure that you're willing to take this year versus last year.

Our CAT exposure overall in the -- as I said earlier, we have reduced -- we are reducing our CAT exposure in areas where we feel our aggregate exposure due to the model changes will produce a loss greater than we have contemplated. Our risk appetite -- so the absolute amount of loss we're willing to take -- hasn't really changed, but what exposures can produce as far as a loss, our perception of that because of the changes, has changed.

Okay.

Okay?

And last quick one is, where are you growing in casualty right now? Is it broad or can you specify any preference within the market?

You know, in our wholesale casualty business, first of all, in a word, it is pretty broad. It is mostly in large account or in the wholesale areas. It is in the smaller account business in the excess and surplus line area. It is both general casualty, we're growing a bit in professional lines. But some of our specialty line casualty businesses are growing.

Thank you.

You're welcome.

Thank you. Our next question is coming from Ron Frank of Citigroup. Please go ahead.

Hi, Evan.

Good morning, Ron.

I hope you didn't write E&O for the conference call, guys.

I hope I didn't also.

A couple of things. One is, you've commented a number of times about directionally what you expected, velocity, I guess a little frustrating at this point. You haven't changed guidance, but should we infer from your comment that that velocity needs to pick up in some sense during those six '06 in order for the guidance to be met or is that taking it too far?

No. I think, Ron, that's a fair statement. Where the market is today, in general, overall, is about where we expected it to be. So we didn't expect it to be much firmer than it is now. But we expect that to continue. The tightening to continue, or else, look: we're just not going to write business for the sake of volume and trade underwriting. We will walk away. And so, if it doesn't pick up as time goes along, then we will come back and we would revise our guidance.

Okay. And I assume part of that velocity picking up would have to be some uptick in casualty lines.

Not particularly. Casualty is -- the tone in casualty is improving and continues to improve and domestically in particular. You know, I am not -- I am more sanguine about that. And on the international side, casualty pricing will need to -- it will have to become firmer. Absolutely.

Second thing, maybe for Phil. Phil, the tax rate looked unusually depressed in the quarter. I would have expected the opposite effect from the catastrophe losses, given the Bermuda domicile, and I was wondering if you could help me with that.

Yes. We took a tax benefit of about 42 million during the quarter, and it resulted from the repatriation of dividends from our international operations. So that tax rate is low by that 42 million. And it won't recur, I should mention. For next year we'll have -- those benefits are gone.

And final question, circling back partly to the guidance. You're buying more reinsurance, you're raising retention, so essentially you're buying up, which makes perfect sense. Is that contemplated in the guidance?

Yes.

Okay. Great. Thanks very much.

You're welcome.

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

Good morning, Paul.

Good morning. I just wanted to ask about your decision to buy the other half of Sovereign, and if that is a meaningful effect for the Company.

Well, in absolute dollar terms it is not a meaningful effect. Sovereign, though, is a great franchise, they do a great business. I won't speak for XL except to say they had a change of strategy and it had nothing to do with Sovereign themselves. Very And we're very comfortable and very pleased to support Sovereign, so that was a win for ACE.

Great. Thank you.

You're welcome.

Thank you. Our next question is coming from David Small of Bear, Stearns. Please go ahead.

Yes, good morning.

Good morning.

Maybe you could just give us a little more detail regarding the velocity of the pricing in the insurance lines versus the reinsurance lines. Are you seeing -- I guess, are they similar, or is one increasing faster than the other?

I would say they're pretty similar. I see a lot of symmetry between the two.

Okay. Great. Thank you.

The one thing I would say to you, on the property side, the reinsurance leads the insurance. The pricing and the change in terms and conditions is happening more quickly in the reinsurance side than it is on the insurance side. How quickly the insurance catches up is varying by market.

Okay. Thank you.

You're welcome.

Thank you. Our next question is coming from Susan Spivak of Wachovia. Please go ahead.

Good morning. Evan -- thanks for the good summary of the whole market, but I just want to go a little further and see, where dodid you see the best opportunities for ACE in this type of market environment? Which segment of your global franchise gets you the most excited for 2006?

U.S. Property and Casualty, Wholesale, and large account business. That's large account retail. ACE Global Markets, so our London E&S. Our reinsurance business, our accident and health business, globally. If you say what gets me the most excited at this moment, I am an excitable guy. That's gets me most excited.

Okay. Thank you.

You're welcome.

Thank you. Our next question is coming from Mike Paisan of Stifel Nicolaus. Please go ahead.

Good morning, Mike.

A couple of my questions were answered, but I have one question and wanted to know if you could sort of maybe give us a little bit more detail on some of your risk initiatives in 2006. The thing that somewhat concerns me is -- particularly as it applies to Florida -- you basically had Wilma, which was, depending on what estimates you looked at, roughly 1/10th the size of Katrina and Rita, but was about -- the $250 million was 31% of your number for Katrina and Rita, which to me indicates either something went wrong with your risk appetite in Florida or there was something from an underwriting risk perspective that went wrong there because it was so heavily skewed in Florida.

Is the new initiatives that you're taking on the catastrophe side really more concentrated on reducing that risk, specifically in Florida, or is it more broad-based?

It is more broad-based than that and we don't interpret it that something went wrong. Remember, it was a more densely populated commercial area that Wilma hit than Rita and Katrina did. So frankly, I am puzzled, with all due respect, by your interpretation of it. Wilma is not a small storm. What do you estimate Wilma to be? It bangs around the 10 billion range.

That's sort of what I am driving at. That's 10 billion and it, I don't know, let's say 70 billion for Katrina and Rita, whatever the number is out there, because it jumps around. It just seems to be much more heavily skewed --

Well, sure, because it hits the commercial market more than -- as a percentage than simply the homeowners' market. Remember, what Katrina and Rita, when you add the homeowners and then when you add the offshore oil and you add the heavy petrochemical on-shore and all of that to it, you have a very different composition of loss than you do when you get to Wilma, which went across, it's true, homeowners and personal lines-related areas, but also very heavily hit the East Coast of Florida, and that was commercial.

Okay. All right. Thanks.

Thank you.

Thank you. [OPERATOR INSTRUCTIONS]

Hello?

We'll pause for just a moment to compile the Q&A roster.

Can we take the next question, please, Operator? We're ready.

Thank you. Our next question is coming from Matthew Heimermann of J.P. Morgan. Please go ahead.

Good morning, everybody. Two quick questions. First, one of the themes for '04 and '05 was really the increasing percentage of casualty as a proportion of your book. With some of the changes that are going on in terms of pricing, is that a trend you would expect to continue or are we going to see more balance going forward in terms of the growth?

You know, that's a good question. And I can't answer it with absolute precision. It depends on the market and the market pricing. But you know, my anticipation, what I envision is you will see a stabilization and you will see an uptick in short-tail lines as a percentage of our total.

Okay. And then on the Fuller-Austin decision, I guess -- how should we think about that, both short-term and long-term, in terms of the potential ramifications on some of your exposures? Are there reserves you have up in the past that are directly exposed to that case? And I guess, what other proportion of reserves, if that's the right way to think about it, could be impacted if this reversal stands and starts to trickle through?

I am not going to -- I am not prepared to answer that in numbers terms to you. But maybe to put a little more color around this and try to give you a more practical sense of it, I'm going to ask Bob Cusumano to briefly comment on it.

Sure. I think that the Fuller-Austin decision is critically important to us because it changes the whole atmosphere in bankruptcy settings and maybe beyond that. The original Fuller-Austin decision was quite a bad one for insurers and placed an enormous amount of power in the hands of the trial bar and bankrupt policyholders to set the prices at which claims would be dispossessed disposed of, and it basically indicated that insurers had very little ability to influence that process.

The new Fuller-Austin decision, in reversing that, changes that entirely, and holds that we have a more or less absolute right to participate and that the policyholders owe insurers a reciprocal duty of good faith in that negotiation.

So, if you look at it as sort of a balance of negotiating power, I think it's a landmark decision that will change everything in the bankruptcy setting and will influence significantly beyond that.

Is it fair to say, though, that in viewing this decision it is more likely to have a bigger impact on bankruptcies that are either in process or yet to be filed than it is on past bankruptcies?

Yes.

Okay. Thank you much.

You're welcome.

Thank you. Our next question is coming from Nick Pirsos of Sandler O'Neill. Please go ahead.

Good morning. I have a pricing question in the following context: It is my premise that some of the '05 start-ups really didn't have much of an impact on the January 1 renewal pricing. If I assume they have something incrementally more of an impact in the second half of the year, and I don't know if that is ACE's premise as well, how does that -- how is your expectation with regard to further firming of the market in the second half of the year in the context of possibly more online capacity coming on to the market?

You know, I haven't seen and I don't anticipate -- my colleagues I don't believe do, either -- much of an effect from the new capacity that's come on. First of all, there is still a supply/demand problem in the peak zones, and so there is plenty to go around and I think the interests of the new start-ups are aligned with our own interests in terms of price adequacy and the discipline around that.

In the non-peak areas, where there is -- where you could argue it, in some areas there could be more supply than demand and yet that's yet to show itself.

You know, I don't see -- there again don't see an issue. I think that the preference goes to the larger, well capitalized, well experienced reinsurers have an absolute advantage in preference among cedents in that area. So frankly, I don't see a big effect from the new capacity that has come online in Bermuda.

Great. Thank you.

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

Good morning. It's actually Mark Seraphin. Did you guys say when your CAT program renews? I might have missed it?

No, we didn't.

Would you share that? Or --

It renews through the year. It depends on the division and layer. We have a -- I'm not trying to be cute with you, but there is only so much I want to put out specifically. But we have a good portion renews January 1, and then it renews at a couple of other key dates through the year.

Okay. And then in your supplement, when you guys list the top reinsurers, is that based on ceded case or do those numbers also included allocated IB&R?

They include IB&R.

Okay. Thank you.

You're welcome.

Thank you. At this time there are no further questions, so I would like to now turn the floor back to Miss Helen Wilson for any closing remarks.

Thank you for your time and attention this morning, and we look forward to speaking with you again at the end of next quarter. Thank you and good day.

Thank you for your patience.

Thank you.