丘博保險集團 (CB) 2010 Q4 法說會逐字稿

Good day, and welcome to the ACE Limited fourth-quarter year-end 2010 earnings conference call. Today's call is being recorded. (Operator Instructions). For opening remarks and introductions, I would like to turn the call over to Ms. Helen Wilson, Investor Relations. Please go ahead, ma'am.

Thank you, and welcome to the ACE Limited December 31, 2010, fourth-quarter and year-end earnings conference call.

Our report today will contain forward-looking statements. These include statements relating to Company performance and guidance, recent corporate developments and acquisitions, ACE's business mix, economic outlook, and insurance market conditions, all of which are subject to risks and uncertainties. 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 these matters.

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'd like to introduce our speakers. First we have Evan Greenberg, Chairman and Chief Executive Officer, followed by Phil Bancroft, our Chief Financial Officer. Then we will take your questions. Also with us to assist with your questions are several members of our management team. Now it's my pleasure to turn the call over to Evan.

Good morning, everybody. ACE had a very good fourth quarter, which contributed to an excellent year. You know, in fact, this is the first quarter in our history that we earned over $1 billion of net income.

After-tax operating income for the quarter, as you have seen, was $2.05 per share, bringing full-year operating income to $7.79, or nearly $2.7 billion. Given the challenging economic and insurance market conditions we faced in 2010, these are great results, with all of our principal businesses making a positive and meaningful contribution.

In fact, full-year operating income was relatively flat with prior year with our P&C lines of business down 6%, really all due to increased catastrophe losses, and our A&H and Life business up 5%. This speaks to the power of our diversification strategy while we manage the cycle, and our recent acquisitions continue to add to that trend.

Per-share book value grew 2% in the quarter, bringing full-year growth to 17%. For the last five years, we have grown our per-share book and tangible book at a compound annual rate of 14.5% and 15.8%, respectively.

ROE for the year was just over 13%, an efficient and favorable risk-adjusted return on capital, particularly when measured against risk-free returns. And that result includes a modest amount of fourth-quarter share repurchases.

Our underwriting results, both calendar and accident year, were simply excellent. The calendar year combined ratio for the full year was about 90%, which included more than triple the catastrophe losses compared to prior year and favorable prior-period reserve development roughly equivalent to prior year.

This quarter's Cat losses of $51 million included $31 million of IBNR for the Australian floods, and $5 million for the New Zealand earthquake. Prior-period development for the quarter includes the results of our own annual as well as the State of Pennsylvania's biannual reviews of our A&E reserves and other runoff liabilities. We took a charge of $60 million after tax, and Phil will have more to say about this.

Our accident year loss ratio for the quarter, excluding Cats, was 58.5%, which is lower than last year, and deserves some comment. We had a number of nonrecurring items which benefited the current accident year result. Due to the acquisition of Rain and Hail, our year-end adjustment normally taken in the first quarter came forward to the fourth. In addition, we had a couple of one-time premium-related adjustments that benefited the current accident year.

And lastly, our mix of business is changing. While most byline P&C loss ratios have increased, as one would expect given rate and trend, we have continued to shed higher loss ratio lines while we grow or maintain lower loss ratio businesses. Phil will provide more details around the current accident year components and Brian and John will be available to provide more color during the Q&A.

The expense ratio was up in the quarter and full year compared to prior, due almost entirely to crop, and fewer loss portfolio-type large transactions. Excluding these two items from both years, our expense ratio was essentially flat for the quarter and up slightly for the year. Again, Phil will provide more detail.

In December, S&P upgraded the financial strength rating of our core operating insurance companies to AA-. This development acknowledges not only the strength of our balance sheet, but also our distinct global franchise and our well diversified balance of businesses.

During the quarter, we closed on two of the acquisitions we announced last year, Rain and Hail in the United States and Jerneh Insurance in Malaysia. Our acquisition of New York Life's operations in Korea, as you saw, closed earlier this week. We intend to close the acquisition of their life company in Hong Kong by the end of the first quarter. These acquisitions are on track and should make a meaningful contribution to our results while further enhancing our diversification.

I want to make a few comments about the insurance market environment. As I said in the last quarter, we are observing typical commercial P&C soft market behavior, with prices continuing to soften around the world and more competition around terms and conditions. Though I must say, overall, the US market, Bermuda, and the London wholesale market are more competitive than the other markets around the world. Globally, the second half of 2010 was more competitive than the first half. This is reality. We're not wringing our hands over it. The market is the market, and these conditions will likely be with us for some time.

Rather, we're managing the cycle prudently and not kidding ourselves about price or reserve adequacy. In fact, as the market has softened, we have added even more rigor to our underwriting portfolio management. We have very good insights by product as to where we have opportunity and where we need to take corrective action.

With that, total Company net premiums were up 4% in the quarter. In North America, premiums were up 5%. As would be expected, in retail, our new business writings were down about one-third from prior year, while our renewal retention ratio in the quarter was over 90%, up from 88% prior year. Quite simply, we are writing less new business and maintaining our renewals.

Retentions were up particularly in those areas of business where more than price mattered. For the business we wrote, rates in North America were down overall, about 2% in the quarter, ranging from between up 3% for certain casualty lines and down 6% in property. For the business we didn't write, rates were substantially below our targets.

For our international commercial P&C business, excluding the impact of foreign exchange, premium revenues in the quarter was flat with retail up 4% and London wholesale down 10%. New business premiums in retail P&C were up 8%, driven largely by Asia and Latin America. And the renewal retention ratio was in the mid-80%s.

Rates in the quarter were down overall about 1%, and our London wholesale business new business writings were down over 25% in the quarter, while renewal premiums were up 10%.

To our reinsurance business, net written premiums were about flat in the quarter. However, for January 1, on an underwriting year basis, Global Re was off about 10% from prior year, with casualty-related classes flat. Our US casualty reinsurance business shrank and our international casualty business grew. Our property Cat and property per risk business writings were both down. Brian Dowd and John Keogh are available to provide more color on their businesses and the market environment in their operations.

Turning to our A&H insurance business, A&H premium growth globally was again up, with ACE international business growing, and our Combined Insurance business down. Our international A&H growth continued to pick up momentum this quarter as anticipated and grew 7% with strong growth in Asia and Latin America. I believe our international business growth will continue to improve as we move through 2011.

Meanwhile, Combined Insurance premiums were down around 5% to 6% from prior year. And I expect this trend to continue in 2011 given that our business is primarily concentrated in the most economically challenged regions of the world -- the US and Western Europe. It will simply take longer for Combined's business to recover from the impact of the recession.

Another factor that impacts Combined in the UK and Ireland is the change to the regulatory environment. Regulators in those two countries have adopted a new stance regarding sales practices. Combined has operated there for four decades without incident. However, the regulator's new stance has resulted in a need for us to retrain our agents and reengineer our processes. We put these two operations under a sales moratorium while we work on this. Ireland is back in operation, and in the UK, that moratorium is continuing, but we hope to resume new business sales sometime in the future. However, with that said, Combined's operating income for the quarter and full year is up 11% and 12%, respectively.

In summary, I believe ACE's financial results for the quarter and the full year were excellent and distinguished our Company, as demonstrated by our strong operating income, book value growth, and ROE. We are well diversified, and our balance sheet is in great shape. We made great strides in the year, continuing to position our Company for the future. We added to our executive management ranks. We completed a number of acquisitions, and we improved upon our underwriting rigor. We are simply so well-positioned for opportunity this year and beyond.

While Phil will provide full-year guidance, I want to add a comment. We expect 2011 revenue growth will be in the mid to upper single-digit range. Though given changes to our mix of business, there will be greater variability from quarter to quarter than we have experienced in recent years, with some quarters down and other quarters up. First quarter is the quarter we expect to be impacted to the negative, so don't be surprised.

In sum, again, I am quite optimistic about the coming year and, barring unforeseen events, expect 2011 will be another very good year for ACE. Now let me turn it over to Phil.

Thanks, Evan. We ended the year with a very strong balance sheet and capital position. Tangible book value per share grew 16.8% for the year and declined 2% in the quarter. Adjusting for the impact of acquisitions, predominantly Rain and Hail, tangible book value per share grew 21% for the year and 1.5% for the quarter. Net realized and unrealized losses after tax for the quarter were $270 million. Our operating and underwriting cash flow for the year were $3.5 billion and $1.8 billion, respectively. Our cash and invested assets grew this year by $5 billion to over $52 billion.

Investment income was $532 million for the quarter, up 4% and benefited from private equity distributions. Normalizing for this, the quarterly investment income run rate is closer to $520 million. Current new money rates are 3.6% if we invested in a similar distribution to our existing portfolio.

Our net loss reserves were up 1.4% for the year, while our paid to incurred ratio was 98%. Adjusting for prior-period development, our paid to incurred ratio was 91%.

There were several items in the quarter that had somewhat of an offsetting effect, one related to the prior period and a number related to the current accident year. First, we had net positive prior-period development of about $120 million after tax, primarily related to short tail lines that was offset by a charge of about $60 million, also after tax, related to our reserve review of runoff operations, including Brandywine. About half of this $60 million charge was in addition to our asbestos and environmental reserves.

And second, concerning the current accident year, our P&C accident year loss ratio before Cat losses dropped about 5 percentage points over last year. Let me break this down by division.

In North America, if you eliminate the beneficial effect of the crop adjustment, which was $32 million, as well as the underwriting income benefit from a couple of nonrecurring premium adjustments, which totaled $80 million, the current accident year loss ratio was flat. Line by line, the loss ratio was actually up as one would expect, but as Evan mentioned, there was a change in business mix. We earn less premium in higher loss ratio lines.

In ACE Overseas General, a number of large property losses negatively impacted our loss ratio in the fourth quarter of 2009. Secondly, lower loss ratio regions of the world are growing faster than other regions, again, a mix of business change.

Our P&C expense ratio was up 1.6 percentage points from the prior year's fourth quarter to 32.1%. Adjusting for crop and large one-off transactions that we wrote in 2009 and did not repeat in 2010, our expense ratio was flat in the quarter and up 0.5 point for the year.

If we normalize for the crop adjustment and the one-time premium items, our current accident year combined ratio, excluding Cats, was 93.8% for the quarter and 92% for the year. And by the way, we believe we have continued to reserve conservatively.

Our financial leverage, while quite low at 16.7%, was up from the third quarter and will come down from this range over the next six to nine months as we repay the $1.3 billion of short-term financing associated with the purchase of Rain and Hail and the buyback of $300 million of our own shares in the fourth quarter. Reinsurance recoverables were down 5% from December 31, 2009, and our recoverable leverage is now 56%.

Finally, our press release issued last night included our guidance for 2011. Our range is $6.10 to $6.50 for the current accident year after-tax and operating income. This includes Cat losses of $300 million after tax. Again, just as with last year, guidance is for the current accident year only and includes no assumption for prior-period development. We currently expect to be in the middle of the range. For 2010, the comparable operating income per share, excluding prior period development, was $6.48. Our estimate for 2011 is down only about 3%, which we believe is strong.

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

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

Jay Gelb, Barclays Capital.

Thank you and good morning. First, on the 2011 guidance, can you give us a sense of whether the impact of the Australian floods in the first quarter is taken into account for the Cat load for 2011?

Yes, it is.

Okay. I don't know if you have any thoughts on exposure currently?

Sure, let me expand a little bit on Australia. As we said, we put up $31 million IBNR related to the floods. It's early days. Losses are developing slowly, and as you know, this will take some time. The definition of the number of events and exactly when each started is still developing.

Our total net from what we have currently will likely be in the $75 million to $90 million range. And the $30 million that we took is an offset to that $75 million to $90 million. The portion of that number not included in our fourth-quarter reserves, i.e. that $45 million to $60 million, is contemplated in our annual 2011 guidance. And, this loss is nearly 100% from our insurance operations as opposed to Tempest Re. We really don't expect from the Australian floods anything of any consequence from Tempest Re.

Right. So the January losses are included in that $75 million to $90 million range; am I understanding correctly?

They are. They are. And then we have $30 million of IBNR, $31 million, to be exact, that we put up in the fourth quarter against that $75 million to $90 million.

Thank you. And then the separate issue I wanted to touch on was the excess capital position. After the announced acquisitions, the buildup of internally generated capital, I don't know if you would like to sort of refresh your view on where you stand on excess capital?

We continue to have a strong balance sheet, and we have good flexibility, and we do maintain capital in that couple to a few range that is for flexibility, both for good and for bad. And I think there's plenty of opportunity over time in the marketplace. And certainly, as we all know, there's plenty of risk out there.

So a couple to a few billion dollars of excess capital?

Surplus.

I see. Thank you.

Keith Walsh, Citi.

First question here, just back to the guidance, when I think about the $6.10 to $6.50 range, and I appreciate there's no reserves in that, but when we think about the deals, you guys invested about $1.7 billion in deals this year. I think from the numbers we've ran and heard you talk about, it should be about $0.40 accretion, roughly, in 2011 from those deals. So I think if we normalize for that, I'm just a little surprised by the ROE deterioration X those deals in your core business, if you could address that. Thanks.

Sure. First of all, those deals are worth about $0.35 of accretion, number one. Number two, once you do to deals, they become core business. So, I don't distinguish them from our other core businesses, but just as a point. But I take your point.

And, you know, look, you have rate and trend, and it doesn't take a lot in rate and trend to erode current accident year results. Anybody who expects that you have that going on and yet you have absolute stability in what have been excellent combined ratios, is kidding themselves. And those who try to simply put up those same kind of results will take charges in the future. There's no way around that. It's pretty simple math.

I don't think the deterioration is that significant. I think it's logical. And frankly, the acquisitions we made are both accretive. They are accretive to our hurdle rates, and they were a good use of the capital rather than writing more organic business. To build our core we acquired more core. And so that's kind of how I see it.

And as you say, so that we address this subject fully, we are guiding you really in the beginning at the middle of the range. So, as Phil said, it's like $6.30. And in 2010, we produced $6.48. So not so bad.

You said it, but it's worth my mentioning it. Again, the guidance is for current accident year only because that's what we can prudently project. By its nature, we can't predict prior period development. However, if the loss development trends continue in a similar fashion, and again, that is unknowable, then we could have prior period development in the same range as we did in 2010.

Okay, that's helpful. And then just to follow up on one, just talking about retention. I know -- I apologize you gave different numbers for different segments, but I think the bottom line is just looking at your numbers over the last several quarters. You guys are probably one of the highest, as far as retention of business in the industry out there from other large companies. And I understand new business is down, but shouldn't your existing book be under pressure on pricing as well? So I don't get it. If you are such a conservative underwriter that your retention rates are so high, if you can just help me understand that. Thanks.

You're talking about net to gross retention?

Renewal retention.

Renewal retention.

Renewal retention.

Renewal retention. Brian, do you want to go into this?

Yes. I will give some thoughts on North America retention. Maybe -- probably not a bad time just to talk about the market in general to give you some feel for the pricing, our retention and new business because all three probably give you color on that.

Evan mentioned North America, our rates were down about 2.1%. Frankly the themes in the quarter are consistent with the last couple quarters. Wholesale is a little more competitive than retail. Commodity accounts and layers are more competitive than accounts that need our service capabilities.

Our service capabilities are a key. An awful lot of our business is both insurance and service. People buy it because we can front the policies. We can handle the collateral. We've got the engineering and all that. That differentiates us from a lot of other companies with our global network.

Some of the lines we saw the most competition were property and professional liability where we saw rates go down by about 6%. The two main reasons I think they had the largest reductions, these were the lines, remember in 2009, we were still getting price increases in property and professional liability last year. And second, the early indications in 2010, both property and professional liability look like they're going to be pretty profitable. So I think people are competing for those lines on that basis.

We also saw some increased competition in medical liability and a few of the other lines. And all of those have caused rate erosion, some decreased retention rates and lower new business.

On the other hand, you know, some of our retail umbrella pricing and wholesale umbrella pricing held steady. We also saw some modest price increases in energy-related casualty accounts, as well as on our private risk services business.

As we continue to differentiate ourselves with our insurance and service capabilities, our retention ratios are high. In North America, our premium retention ratio was about 87% in the quarter, which was an improvement from 84% a year ago. And frankly, it's the lines where our service capabilities are the retention ratios are in the high 90%s. Examples include our national accounts, risk management business, our foreign casualty, our facilities business, and where we are the lead in professional liability capability. There frankly are only a handful of companies that can do those types of services, three or four in most cases, so we tend to get retention ratios in those businesses in the high 90%s.

Lines that are more commodity-like, like our E&S casualty or our workers comp excess, frankly retentions do fall to the 70%s in those lines of business.

And then frankly -- lastly, as we look at new business, you know, competition is still robust and so we are still seeing a lot of submission activity. However, we remain disciplined in our approach where new business has to meet the same hurdle pricing as our renewal business. And as a result, we wrote about a third less new business in the quarter than we wrote a year ago. And frankly, new business was down on virtually all lines with probable exceptions of ACE Private Risk Services and one large program we talked about last year.

So, truth is, we're about where we would expect in the cycle right now. Our efficiency metrics are going down. Our bound to submit, our bound to quote, they're down about 2 percentage points over where they were a year ago. And it is not unexpected for this point in the cycle. I do think the investment we made in our service capabilities differentiates us in our retention ratio from most of our competitors.

That was a mouthful. Did it answer your question?

It did. Thank you. Thanks a lot.

Matthew Heimermann, JPMorgan.

A couple questions. One, just I'd love it if you could expound first just on your views on how the economy might influence -- you talked I think pretty specifically about A&H, but I would be just curious how you are thinking about exposures in the traditional property and casualty business; and as well as the crop business and whether that exposure growth you view as incrementally positive as you think about risk reward and earnings or neutral or negative.

And then the second question is obviously, lots of current events in the Middle East and I would be curious what type of scenario you think needs to play out there to potentially really increase the risk around whether it's political risk, political violence, physical damage, etc.

Sure. Wow. That was --

That was a mouthful too.

It was. Everybody's got a mouthful today. Okay. Let's take the exposure first.

When I look forward, what do I expect? First, crop, I think if there's one line of business that may surprise to the upside because of economic factors, is crop insurance because I think pricing, commodity prices, are up. And you know, it was part of our thinking, though we couldn't project with any certainty when we bought Rain and Hail, was just the macro trend that you have a middle-class growing around the world.

People are eating more meat around the world, and so grains and crop, naturally there is a shortage of food and the US is a major exporter and grower of food. And you know we are seeing right now crop prices as very strong. And that could have a very -- that could have a beneficial impact on both revenue and potentially income beyond what we have projected so far.

In the balance of P&C, I would say, and Brian can give a little more of a breakdown into the three categories, what we have seen is in one or two categories of business -- of economic development -- we have seen a flattening, so no further deterioration, and in fact some growth in activity, which benefits exposure, which benefits applied against rate, benefits premium.

But there are one or two where we have -- like equipment-related asset -- business asset related where we have not seen I believe the same level of pickup. And he can give a little more on that if you like.

When I look forward, I think there's a -- I think there will be a beneficial impact. And I think it's going to be modest and will increase as the year goes along.

When you turn to, and we can't project it with any certainty. On the other side of the coin -- that's in the US.

On the other side of the coin, Europe, I expect it to continue to be flat. But Asia and Latin America, we're growing our business, and it's growing because business activity is increasing.

When you turn to Egypt and the Middle East, and your question was, what would create material losses, interesting, you are relating to political violence, etc. We have very little political risk, PV exposure, in our political risk portfolio. Political -- PV is political violence. And most of our exposure that we have in Egypt or in other countries is not in the urban, particularly in Egypt, is not in the urban center. We have very little exposure in the urban center.

And you know, look, what would create significant loss? And I say significant, and I will clarify that in a moment, but you'd have to go to a complete Iran-type situation. And even in the -- even with all the projections, the predictions that are out there right now, we don't -- that's not foreseen.

And let me maybe then just give you a little more the -- the political events in Egypt are unfolding. And no one knows the outcome, obviously, with any certainty. Our political risk exposures relate mostly to areas of vital importance for the country to function, natural resources, critical infrastructure-related. Our urban-venued exposures are, as I said, they're minimal. They're virtually -- they are tiny.

All of our policies have conditionality and have substantial reinsurance. We insure defined perils, as you know. And in the case of Egypt, you're talking about confiscation, ex-appropriation, nationalization, and currency inconvertibility. At this time, we don't know of any losses developing. And at this time, we do not envision any losses developing that are not contemplated within our loss reserves and PEGs.

That's very thorough and I don't think surprising in the grand scheme of things. Just so to summarize, we're really talking about not only a change of control of the company, but effectively an internalization of the country as well which would lead to ex-appropriation and potentially convertibility risk. Or you're really talking about a situation in which this not only spreads to other countries, but spreads in a way that leads to an internalization that's, for lack of a better word, of the entire region?

Yes, you know -- when you -- it's -- your comment of internalization of the country, in essence, that they, like Iran, you start heading back to the Stone Age, and you pull up the ladder, and you decide that those things related to critical infrastructure, like gasoline and jet fuel, which are the kinds of things we have covered, but you don't want any of that any more. You don't need that. You're just going to burn coal, number one.

Number two, when you talk about contagion, the countries most at risk, which I'm not going to go into, that are discussed, we have virtually -- that could go next, we have virtually no exposure. And, I have read some of the papers that have been written by analysts, and I think there's some confusion as to what countries can constitute the Middle East. For instance, I don't consider Turkey a Middle East country. I don't think they consider themselves that either.

And we -- so I just there are a lot of things to worry about. And while we are vigilant about this, I am not concerned.

All right. Very thorough. Thank you.

Greg Locraft, Morgan Stanley.

I wanted to just understand a little bit more on the prior-period development comment that you made earlier, Evan. You mentioned I think that you could have prior period in the same range as 2010, and I totally appreciate that that's a difficult thing to forecast, and you don't actually in your guidance. But is that assuming kind of current loss trend? And could you give us some understanding as to what current loss trend needs to be for you to have effectively $500 million of PPD in the 2011 period, which, again, is my number based on 2010.

Greg, thanks. I can't give you a satisfying answer there. I'm not going to get that granular. It really varies by line of business, etc. But, you know, look, maybe to help you with it a little further, we have a very clear process. We reserve -- we review all of our major reserves; each category of reserve, we study them in a thorough way, ground up, once a year. We have a calendar to do it all throughout the year. You can't study everything at once.

And then we have external actuaries. We're really best practice, we think, for the industry and the Company. We have external actuaries review each of those portfolios also. So they all come up during the year.

At this moment in time, there are studies. There are portfolios that were studied nine and 12 months ago. Some were studied six months ago. Some were studied three months ago. And so we are at various points of maturation since the last reviews of each. And from what I can see right now, if the trends that have developed, in aggregate, when I add it all up, if the trends that we have seen since the last reviews continue, then I could imagine prior period benefits in -- easily in the range of what we saw this year.

Okay, thanks. That's helpful. Shifting gears, just wanted to get some thoughts on the capital deployment side. In particular, the only way your share price makes any sense at current levels is if you guys, on our math, are going to earn, call it a high-single digit ROE in perpetuity in the 8% kind of range.

One of the things that we -- it's like PPD for us. It's very hard for us to predict what you are going to do on capital deployment, and yet you have a lot of optionality there.

How should we model that or think about that? Because the current guidance actually takes your ROE below double-digit ranges, which would begin to justify that kind of implied ROE in your current share price. So how should we be thinking about capital deployment optionality going forward for you guys?

Here's how I would think about it. Number one, the ROE you are projecting is current accident year only, as we both know, in the way you are projecting that. And we will see what happens. But, we've been pretty good at producing double digit ROEs, and I feel fairly bullish about this year. I feel quite bullish.

The -- when I look at capital and think about capital going forward, you have seen us have a track record of good ROE. We've been patient over the years, take an aggregate period, five-year period, take a three-year period, our ROE has been, I believe, quite good. And take it over a total cycle of 10 years or longer, and our ROE has been excellent as well. So we're patient about it.

And we have contributed to that ROE through both organic growth at the right times in the right areas, and we have a lot of optionality in that regard because of our mix of business and because of our geographic mix. And we have also complemented that ROE accretion with acquisitions that further along our strategy, and we're patient about that. You have seen that we made a few acquisitions in 2010.

I must say, nothing that analysts could have imagined because you're looking at a very narrow cohort of potential companies when you look at market much narrower than what we imagine because we are on a perch that looks across the globe. And I think there is a lot of stress in the world, and there's a lot of reassessment of strategy.

Cost of capital in the world I believe is going to rise, and that's going to cause more stress and more reassessment of strategy, and I think that provides opportunity. And with all that said, you know we are not shareholder unfriendly. We're not going to be unmindful. We're not going to hold capital just for the sake of holding endless amounts of capital. We're going to hold what we think is right for risk and what we think is right for opportunity over a reasonable time horizon. And if we can't do something with it or think we can, we're going to return it to shareholders.

Okay, great. Thanks. Last one for Phil, could you just comment on the tax rate in the quarter? It was much lower than we had been thinking. What occurred there?

There's nothing unusual. As you know, it depends on where our income is earned and we had higher earnings and lower tax jurisdictions in the period.

Great, thanks.

Vinay Misquith, Credit Suisse.

First, just a numbers question on the Australian losses, just wondering if the Cyclone Yasi loss was also included within -- in the first-quarter number that you gave us?

Vinay, I have no bloody idea. The thing just hit. I got a note this morning that said, oh my God, it's like it went through the uprights between two cities and looks like it didn't hit them and that it was in some area that was far less populated. It's way too early.

But remember, we don't do quarterly guidance on Cat. We do an annual guidance on Cat. And Cat losses first quarter last year were very high, and our overall Cat losses for the year last year were really close to our guidance. And our guidance comes from us imagining -- imagining -- from calculating what is the average annual expected Cat losses using years of data to go through a sausage machine. And I'm looking at my chief actuary who says, you'd better not have been imagining. We calculated it. So, it varies. It jumps all over the place by quarter, but you look at it over an annual period and it has a little more credibility to it.

Okay, fair enough. The second question, I can imagine what it is, it's on political risk.

You didn't imagine, by the way.

Just curious from your perspective, how much lower is your exposure to the Middle East versus what I expected? What am I missing?

I'm not going to go there, but I'm going to say I know the two documents you looked at to sort of piece together that wildebeest of a number, and I was -- I give you -- I really -- you really did your homework to go dig back through a couple of exhibits, but I will tell you what. They are dated. You couldn't put those two together that way.

I've said in the past, and I think it's worth repeating, and I know you don't love the answer, but I hope you respect it, and that is that we don't put out sort of gross exposure numbers because -- in really any area because then, we get the whole analytical community playing underwriter and imagining and starting as that's exposure that could be subject to loss, which is very unrealistic.

It breaks down by country. You then have to seriously PML it because it depends on the kind of risk you are talking about; and whether it's trade credit risk, which it could be short-term, one month or three month, related to oil purchases or something like that or oil service equipment, down to permanent facilities that you are covering the equity for simply a confiscation risk to a different kind of a risk that might be a property, political violence that on a grocery store or something.

And so you know you got it all mixed up together. We tease it out into its categories and we PML it. And then there's lots of reinsurance and conditionality around it. So you just can't I think look at it that way. And I know the one exhibit you looked at had the Middle East and Turkey, and let's imagine Turkey was a large part.

Okay, that's fair enough. Thanks. One last question if I may, on frequency and severity trends, what you're seeing in that? Thanks.

Sean Ringsted, would you like to talk about frequency and severity? But -- and he will give -- he's our Chief Actuary, and he'll give a little detail.

But let's say that what you have heard before, frequency has been benign, fairly benign, among most classes and severity has been -- is where you've seen trend, but it varies by class of business significantly. If you want a little more, Sean is going to give you a little more.

Sure. It's -- overall we're not seeing any dramatic changes in frequency, Vinay, on a relative basis year on year. I think it's true to say there is a flattening of declines in industry experience that we have seen in recent years. It is a little hard to read the tea leaves with everything that's gone on with the changes in the economy and so on to 2010, 2009. So you are looking at -- you are having to look at changes in exposures and order premiums, but generally we think we're seeing a flattening of declines in that frequency as Evan mentioned.

I think there are a handful of states where comp frequency is increasing and certain casualty (technical difficulty), we are seeing increases in frequency. Overall severity though, I think it's fair to say is within our expectations if not better. So I hope that --

That's great. Thank you.

Paul Newsome, Sandler O'Neill.

I just have one follow-up question really. Could we talk about the increase in goodwill and what the components roughly were? Obviously they are from the acquisitions, but we've got a lot of moving parts there as well.

So for the two acquisitions we closed in the quarter, the increase in goodwill was about $700 million, and it related principally to Rain and Hail.

But nothing for the -- very little for the rest of it then?

Well, you know, that's right. I mean the other acquisition, the Jerneh, was relatively small and had very little goodwill associated with it.

And we haven't touched this at all, but there are a couple of at least your US peers that have been making some changes in their investment portfolios, principally because of the -- they have a lot of [green] exposure, but could you maybe just touch on that? There may be little changes or not, but obviously you have changes in your international exposure as well that could possibly be addressed. But should we be looking for any changes in the investment portfolio this year?

We don't see any major strategic change. Obviously we've made some tactical changes during the year. With respect to municipal bonds, in our portfolio, we've got an average credit quality of AA. It's very well diversified among states, both general obligation and special revenue bonds. It only represents about 5% of the portfolio. And of the portfolio, 17% of the bonds are pre-refunded and backed by U.S. Treasury. So we are very comfortable. You might have seen a small increase in the munis in our portfolio in the quarter, but that related to the consolidation of Rain and Hail which had a small portfolio of municipal bonds.

We don't see any real change to our portfolio.

All right. Thank you very much.

Jay Cohen, Bank of America.

Thank you. Two questions; first is, the buybacks in the quarter, I think you said was $300 million. Is that basically to offset shares issued for compensation purposes?

Yes, and we -- the $300 million, we bought back -- when we did the -- when we announced this that we would do this, I think we announced $600 million, and we said we would buy back -- that would authorize to buy back our dilution for a couple of years. And that's what the $300 million was towards that. It wasn't necessarily one year of dilution.

Got it. And then the second question, on the -- the runoff reserve increase, can you talk about some of the factors that gave rise to the A&E reserve increase? And what were the other lines of business where you experienced reserve deficiencies in the runoff book?

Sure. Boy, Sean is really getting a chance to talk today. So we're going to give it to him. He'll talk about that.

But on the A&E, it wasn't anything that was systemic. And it wasn't a big number. It was case related. And I think Brian is going to give the A&E, and Sean, are you doing the other?

I'll do both.

Oh, Brian is doing both.

Yes. So, we finished both the internal, external reviews for Brandywine and Westchester.

First, on the asbestos side, frankly, it was a handful of individual accounts is really a class of accounts, or about five or six accounts in a given class, that we -- that formerly really weren't targets that now have become targets and we have increased our case reserves for those. And that was most of all of the increase for asbestos. We had modest increase on environmental.

Remember the restructuring order, besides asbestos and environmental, it's other long-term casualty liabilities, including workers comp, sexual molestation, any general liability, umbrella type thing. So we did have increases in a number of those types of classes.

And lastly, we had some increase in our assumed reinsurance settlements and all taken into total is what they added up to.

But as Evan mentioned, no real changes to the environment. The environment was basically as we saw last year, and it was just that we went through all the book again and no major changes to the trends.

And I'm assuming the State of Pennsylvania saw things in a similar vein. Was there any differences in views of these reserves?

Yes, our difference actually narrowed. We're down to about a $30 million difference between the outside actuaries and ours. That difference over the last 10 years continues to narrow and is almost on the total base we are held now, is next to meaningless.

Yes, we're really -- we've converged.

Great. Thank you.

And by the way, we converged over time with them coming down while we came up. It wasn't one way.

Ian Gutterman, Adage Capital.

Jay just took some of my questions, but I wanted to clarify some of them a little bit more. I guess first for Phil, the share count didn't go down at all with the $5 million buyback. It actually went up some. Did all that management compensation shares come in this quarter? Was there anything else unusual that share count would have gone up with a meaningful buyback?

When you look at the EPS calculation, one of the things that we include there obviously is the effect of dilutive securities. And so, as our share price increases, we have more shares -- I mean more options to become dilutive. So, that's just the mechanics of -- they call it the treasury stock method.

Right. No, I understand that. I always build in a little bit for that, but I guess I wouldn't have thought it would offset a full $5 million.

Yes, it did. More than offset.

Okay. And then similarly, was the goodwill in Rain and Hail greater than you originally thought? Or was that (multiple speakers)

No, it was right on target with what we expected.

Okay. And then just lastly for you is that big short-term debt amount for the quarter, is that going to go away next quarter? And what does that become, long-term debt? Are you going to use cash?

What we're planning to do is use cash flow to pay it off over the next six to nine months. But, our idea was, we didn't want to disturb the portfolio. The financing costs -- we're doing it with repos -- is very, very low. So we see that as the best way to handle it.

Okay, great, just wanted to clarify that. And Evan, just back to the asbestos, can you talk about, it looks like from going through your Q's, that you did some restructuring throughout the course of the year with Brandywine and with Century that you now have the full $800 million limit available again. And it looks like that it was -- I guess that allowed you to get some capital out of that. Is that correct? Can you just talk about what those transactions were and what they accomplished?

Yes, I'm going to ask Bob Cusumano to talk about that, our General Counsel. And we will give you a cliff note thumbnail because if we went into the detail, it is crazy complicated.

Yes, it does get very complicated, but in a nutshell, the restructuring agreement from the late 1990's would impair Century's ability to pay back money it owes to our active companies for as long as, in current terms, there is any kind of impairment of the excess of loss contract that the active companies have over Brandywine's liabilities.

Midyear, there was no such impairment, so midyear, those valves if you will were released. And the result was that we could pay back a lot of the intercompany charges, and kind of rationalize all the financing at the Brandywine level. So we did that. And that was done in the third quarter.

Okay. So that essentially allowed you to get cash out of there, with the caveat being that you are so caught on the hook for the $800 million again?

It didn't have that effect. It had no real effect on the overall exposure or gross liability level. There, it was simply delivering cash in exchange for the extinguishment of age-old obligation. So, a wash from the perspective of Brandywine and the active companies and the excess of loss, but the delivery of cash from the Brandywine companies in exchange for a reduction of liabilities going the other way.

Okay, got it. So essentially it takes trapped capital and untraps it. Is that a fair summary?

That would be a good, colloquial way of putting it.

Perfect. Okay. Thank you.

It was a good thing.

No, agreed, agreed. I just wanted to make sure I fully understood it.

Scott Frost, Bank of America Merrill Lynch.

Just to touch on Middle East exposure again, I just wanted to make sure I understood. You said you may experience significant losses if Egypt, for example, were to deteriorate into an Iran, and the risk is confiscation, or ex-appropriation, nationalization. That's not expected and no loss is contemplated currently, but from a credit perspective, we've seen an Iran develop. On the outside chance that were to happen, could you give us an idea of what the impact on your credit ratings might be?

Oh, none, zero. And when I say -- let me clarify "significant." I think right now, any loss we would see develop would be covered within reserves and PEGs. That's what I think. And if it went beyond it, it would be modest.

On ratings or on the operations?

No, not on ratings. On operations.

Great, great, okay. That's good. That is --

(multiple speakers) [size] of law.

Okay. Okay. And I imagine it's too soon to talk about the Cyclone Yasi, but just making sure, that's not contemplated in your Cat guidance or is it?

Yes, it is.

Okay. Thank you.

It is -- let me -- maybe I wasn't clear the last time I was asked the question. We don't do quarterly guidance for Cat. We do annual guidance for Cat. And it contemplates -- it contemplates $300 million after tax of losses. We don't know what quarter, we don't know what geography it comes from. And until we have a reason to believe we have Cat losses that are approaching or exceeding $300 million, we just don't -- we consider that it's all covered.

And that's why I said last year, if you looked at the first quarter, significant losses, we didn't change our Cat guidance because other quarters were kind of -- some were quiet. Some were noisy. And at the end of the year, it added up we were very close. So yes, sure, this is covered in our guidance.

Okay, great. Thank you.

Mark Dwelle, RBC Capital Markets.

Most of my questions have been covered. You had mentioned in your opening remarks about a sales moratorium in the UK and Ireland really, the Combined units. Can you just frame that a little bit? Is that sort of a $1 million a day, $5 million a day kind of run rate on those moratoriums?

Oh, no, no, no, no, no, much, much -- we don't give a breakdown, but it's a -- the new sales volume is very small per day. You would measure in thousands.

Okay. That's all my questions. Thank you.

Mike Paisan, Stifel Nicolaus.

Stifel Nicolaus. Good to hear from you.

Good to talk to you. Just one quick; most of my questions were answered, but I do have one question on the agriculture business, because I kind of incorporated it in my model in the North America section. I was just wondering when you look at the statutory numbers, the net to gross as a stand-alone or independent company was around 40% or so. So they obviously utilized a ton of reinsurance, and I just wanted to know if that strategy, going forward, as you incorporate it into ACE, is going to continue.

Remember there's statutory and government, but beyond that, let me let Brian give you a little more color.

Yes, average Rain and Hail with their insurance, [Comerity] General, their largest reinsurer, frankly, was us. Remember over the years, we've gone from 50% to 40% to about 30% of their reinsurance. It was actually written on our paper first, if you look at how we write it, and then we ceded to them, and they ceded to government. And then they bought a little bit of stop loss and a little bit of quota share. The quota share goes away and we largely still have a stop loss protecting our book.

I think when you roll it all into ACE, you're going to see the net retention is higher than it was when the two were separate.

Okay, great. Thank you so much.

In fact, I don't have the number in my head. I believe when we announced this, we told you this could be a substantial increase to net and we gave you an amount.

About $900 million.

And I maybe -- it was about $900 million.

We said our net would increase about $900 million, and that was on the commodity prices that were at the time (multiple speakers)

At the time of the acquisition.

And commodity prices are probably up 30% since then.

Okay, great. Thanks so much.

Brian Meredith, UBS.

Good morning. Just a couple of quick ones here for you. First one, Evan, can you tell us what you're thinking about with respect to loss trend in your guidance or your PEGs?

Using the same -- roughly the same trends we have been using, we're not believing that the benign -- the relatively benign environment we have seen in the past is an indication of the future.

Okay. And then, the second one, on the runoff business adverse development, outside of the A&E, can you tell me a little bit more about what lines of business or where that adverse development came from? It was kind of surprising that you have development on that stuff this far down the road.

Yes, and remember on an after-tax, you're looking at about a $30 million number. And on total reserves, particularly you look through our 10-K or our 10-Q's you see these kinds of movements up and down among different years of cohorts and comp or in GL or any of that and you know that. And so I think what just puts a point on this, which is a small number, or gets people putting a look on it is that it's in the runoff lines when we do a special reserve review every two years.

But this is related to things like, as Brian said, sexual molestation, latent development in products, workers comp, those kinds of things going -- that are years back. And they're pretty case-specific.

Okay. And then lastly, Evan, can you chat --

Not pretty -- they're very case-specific I'd say.

Okay, so it's a couple ones. And then lastly, could you give us a sense of kind of what the M&A environment or pipeline looks like out there right now and opportunities to deploy your capital that way?

First of all, Brian, at this time last year, if you -- when you guys asked me what I saw, I said well, there's a bunch of stuff that passes our desk, but I don't see anything on the horizon. And you know, as the year went along, three things made sense to us and came around, okay? I'd say the pipeline right now is -- it's not overly robust. We have things we are looking at. It's not a whole lot different than it was a year ago, though the environment, I would say, is a little more stressed, and so there's more chatter in every region of the world, but I don't see anything on the horizon at the moment.

Great. Thank you.

Alan Straus, Omega.

Thanks but my questions have been thoroughly answered.

Thank you, Alan.

[Bill Brumal], Macquarie.

My questions were on Brandywine, and they've all been answered. Thanks now.

Okay, operator. We will conclude this call now, please.

And so the --

Thank you, everyone, for joining us this morning. We look forward to speaking with you again at the end of next quarter. Thank you and good day.

Thank you, everybody.

And so that does conclude today's conference. And we do thank you for your participation.