Everest Group Ltd (EG) 2008 Q4 法說會逐字稿

Good day, everyone, and welcome to the fourth quarter 2008 earnings release call of Everest Re Group, Ltd..

Today's call is being recorded.

At this time for opening remarks and introductions, I would like to turn the conference to Ms.

Beth Farrell, Vice President of Investor Relations.

Please go ahead, ma'am.

Thank you.

Good morning, and welcome to Everest Re's fourth quarter and full-year 2008 earnings conference call.

With me today are Joe Taranto, the Company's Chairman and Chief Executive Officer; Tom Gallagher, Vice Chairman and Chief Underwriting Officer; Ralph Jones, President and Chief Operating Officer; and Craig Eisenacher, Chief Financial Officer.

Before we begin, I will preface our comments by noting that our SEC filings include extensive disclosures with respect to forward-looking statements.

In that regard, I note that statements made during today's call which are forward-looking in nature, such as statements about projections, estimates, expectations and the like, are subject to various risks.

As you know, actual results could differ materially from current projections or expectations.

Our SEC filings have a full listing of the risks that investors should consider in connection with such statements.

Now let me turn the call over to Joe.

Thank you, Beth.

Good morning.

Thank you all for joining us.

In the fourth quarter, operating earnings after taxes were $179 million; and for the year, operating earnings were $563 million.

This yields a 10.5% ROE for the year.

When you consider that underwriting results included over $300 million of catastrophes led by Hurricane Ike, and investment income was reduced by roughly $80 million on loss of equities from limited partnerships, our 2008 operating earnings were solid, and evidenced the underlying strength of our portfolio and of our franchise.

We ended 2008 with surplus of $5 billion or $81 per share.

Our $5 billion of surplus amply supports our business plans for 2009.

Once again, when you consider the hurricanes we experienced, the global financial meltdown and its impact on assets, the devaluation of foreign currencies which reduced surplus by $193 million, and factor in that we bought $151 million back in stock and $119 million were paid in dividends, the $5 billion in surplus represents a solid result, and again points to the underlying quality of our organization.

We end the year with a very strong balance sheet.

Our reserves for our liabilities continue to test well, and our invested assets, 94% of which are now either in cash or fixed income, are high quality and diversified.

Our bond portfolios at 12/31 have derived from trades in an extremely tight market.

Given the market and the quality of our portfolio, we believe it is likely values will increase, and this is exactly what we have experienced so far for the first half of the first quarter.

Our liquidity remains robust.

Between positive cash flow, maturing bonds, liquid assets, and our credit line, our liquidity is well in excess of what is needed for our business plan.

In 2008, we had an insurance and reinsurance market that was in decline.

Everest maintained its underwriting discipline, which resulted in us doing less business than in 2007.

We expect improved conditions for 2009, and accordingly anticipate growing our business at terms that offer very expected margins.

We are pleased with the January 1 renewals.

Tom Gallagher will provide more detail by underwriting area shortly; but the areas we predicted would harden at 1/1, did so.

So far the market has played out exactly as we had anticipated.

The retro market was as hard as it has ever been.

Property cat rates increased, particularly for peak zones, and we expect this movement will continue.

By mid-year, reinsurance capacity for the Florida market and the Gulf will be extremely costly.

Little capacity outside the traditional reinsurance worlds has come in to the market.

Energy rates, both onshore and offshore, are rising.

At January 1, on short-tail business, the improvements were more for reinsurers than insurers.

Insurers will need to get their rates up and pass along the increased reinsurance costs, or they will operate in the red.

The casualty market, both at the insurance level and reinsurance level, showed some stabilization with some pockets, such as FI, D&O, showing improvement.

Both in the US and in the international markets, we have seen a continued flight to quality, which benefited Everest.

Some of our competitors experienced market dislocations, which gave us increased opportunities.

Some of our clients whose surplus suffered in 2008 were in need of additional reinsurance.

We mentioned our entry into Brazil last quarter, and that is continuing to develop.

As well, we expect to have an Ireland company licensed in the near future, and we are planning to establish an office -- a small office -- in Germany, both aimed at increasing our visibility and access to opportunities in Europe.

We expect continued improvements in the market in 2009, and additional opportunities for Everest.

I am upbeat about 2009; not only because of the market opportunities, but also because of some of the internal changes we have made to strengthen our bench -- which bring me to Ralph Jones, who joined us as President and Chief Operating Officer two months ago, and has been an instant contributor to the cause.

Ralph is a highly respected executive with a distinguished career at Chubb, Hiscox and Arch.

Tom has known him for many years, and I have had the pleasure of getting to know him in recent years.

It has been great having him on board, having his insights, his industry relationship, and his overall management abilities.

I've asked Ralph to particularly focus attention for the first couple of months on our insurance operation, Everest National.

I'm ask him to comment on his plans in this area for 2009 and beyond.

Thank you, Joe.

It's pleasure to be here.

While I have only been on board a couple of months, I have been a customer of Everest for over 25 years, so the strong reputation of the Company and the caliber of the people is nothing new to me.

The reinsurance operations, which are our principal profit engine, are quite well-known and highly regarded.

Tom Gallagher will comment on the reinsurance market conditions in just a few minutes.

Our direct insurance business, which trades as Everest National, is not insubstantial.

We wrote nearly $800 million in premium in 2008, and employed over 400 people in our insurance operations, with offices in Atlanta, Charlotte, New York, Tampa, Oakland, and Orange County, California.

It's principally program operation, with 13 major customers or program managers, with half of the business concentrated in three large underwriting agencies.

Most of the business is casualty-focused with a concentration on niche programs.

About a quarter is Worker's Compensation, and about 10% is property.

I'm very happy with the 13 contracts that we have.

You can do well in the program business, if it is tightly controlled and you follow the pricing like a hawk.

I was very pleased to find that we have some substantial strengths in our ability to monitor pricing and oversee both the claims and underwriting process.

Good metrics will distinguish the winners and losers in the underwriting game, and we also have the dexterity to move quickly upon new opportunities.

Our emphasis in 2009 will be to make a bit of a larger play in California Worker's Compensation market.

Pricing will edge up during the next year, as early filings have shown; and between our program managers and our two direct offices, we could write-up to $300 million in this segment, if terms and conditions and pricing holds as we expect.

I also see opportunities to expand in a few specialty areas.

We have an environmental team that is up and running, and have just added a small financial institutions group.

As you can imagine, the FI, D&O, E&O market is in great dislocation, creating big price increases and tight terms and conditions.

Rates are up dramatically for any -- will be up dramatically for any level of serious capacity, particularly for strongly-rated carriers, so we will take a highly-focused share of that in 2009.

D&O capacity for both commercial and financial businesses will grow in demand as the current litigation from the subprime claims move through the loss settlement process.

Board members are very keen to keep coverage and limits in place; market turmoil created by question marks for two of the D&O market leaders will create opportunities.

Everest has an excellent reputation and financial strength rating, and brokers will favor us as we put the right underwriters in place.

So an expansion of very targeted segments -- environmental, professional liability programs, and D&O, and E&O will be some of our building blocks for 2009.

As Joe commented in prior calls, we will also look to acquire teams or possibly specialty underwriting companies that share the same philosophy as we do, which is to concentrate resources and expertise on market opportunities that make sense, where pricing and policy terms and conditions are better than average.

So I'm enthusiastic about our prospects for 2009.

Next, we'll turn it over to Tom Gallagher.

Thanks, Ralph.

In the last call, I noted that the market was poised for positive change, citing the current environment of increased loss activity, rising combined ratios and the financial crisis.

All would have an impact on the world market.

We didn't expect the change to be dramatic or for all segments; but it would come, and take hold throughout 2009, beginning with the January renewals.

First signs of change are evident.

We are pleased to report that based on our results for the renewal season, the market is clearly in transition, with positive directional change noted in the marketplace.

Let me take you through some comments on our January business.

Approximately 50 to 55% of our reinsurance business renews in January, though this varies by line of business and territory.

Overall, we had about $1.540 billion up for review in January, and we wrote about $1.575 billion, an increase of roughly 2.3%, including the impact of foreign exchange.

If we use the constant foreign exchange rate, we estimate our increase would be over 5%.

The results varied by operating area, but the end result is a well-balanced portfolio of business, reflecting what we believe should provide us excellent returns and position us to take advantage of the opportunities that we believe will emerge in the future.

Three points to make in general regarding the market.

It has shown much more stability than we have seen in a long time, where rate reductions have slowed noticeably, and with increases achieved in a number of areas with improved terms.

Market uncertainties have resulted in an increase in new business activity.

Also what stood out was a more disciplined reinsurance market, which displayed a prudent use of capacity.

Lastly, as Joe indicated, there is clearly a flight to quality, all of which serves us quite well.

Let me make some specific comments by segment, our -- first with our international reinsurance.

Overall, our international units, including business written out of our international units and our Bermuda operations, had a very successful January 1, with written premiums up 2.5% to about $1 billion, including the impact of foreign exchange.

Approximately 65% of our international business renews in January.

This increase resulted from a combination of some new business, increased shares on renewals, and rate increases.

Most offices obtained some new business or -- or increased shares due to seating companies' increased concern about financial security, which allowed us some negotiating leverage in our renewals.

On proportional covers, terms and conditions were largely unchanged -- that includes in Asia, Europe, Latin America, and the Middle East -- with some adjustments in commissions depending on the results, except for some very large programs where we obtained some major improvements.

Primary rates are beginning to stabilize, and we would expect to benefit from some of these increases in primary rates in various markets in the future.

This will have a positive impact on results as they work their way within the system.

As with respect to cat rates, this varies by county, with the overall trend moving upward.

For example, in Asia we saw rates from flat to 5%.

In Canada, we saw a plus 7%.

Continental Europe, a flat to up to 5%.

In Latin America, up 5%.

But looking at the London market, it did show some signs of improvement where rate reductions have slowed down, and we were able to get more attractive terms on some contracts.

There was a positive movement in excess business, including risk excel, cat excel and casualty -- anywhere from a plus 5% to a plus 15% rate increases.

The greatest movement was in the D&O financial institution area and credit markets, where loss experience is showing a real need for immediate action.

Also in London, we did have a noticeable uptick in new business, as clients were concerned about security of other market systems, with the largest impact on our casualty portfolio there, where we were able to obtain better signings.

Let me move on to the US reinsurance business.

We wrote roughly $450 million of business through our reinsurance operations in the US and Bermuda in January, which equals to our expiring premium, which represents about 43% of our annual US business rating.

Though the results were equal to last year, overall the makeup of this portfolio has improved, especially in the property and retro areas, where the rates have moved up and our exposures have been reduced.

Let me highlight some points on each of these areas.

As it respects treaty property and worldwide retro, this is a place we have seen some of the most meaningful improvements in price terms and conditions, as well as usage of capacity; whereas we have written less premium in January, it translates into a much better portfolio -- less exposed, with improved pricing, and making more capacity available for the future.

Some specifics on renewals.

On proportional business, we saw much tighter occurrence cats and occurrence limits down significantly.

For cats, the average rate online on our portfolio went from 15% to 23%.

We did note shortfalls were evident, particularly on the very large national programs.

Our exposures in peak zones have flattened or reduced.

In the retro area, we saw increased retentions on virtually all of our deals, with the rate online profiles moved from just under 30% last year -- lower layers -- to just over 35%.

In balance, it's ineffective increase was over 30%.

Over overall the market is being much more prudent on its use of capacity.

Moving on to the US casualty business, on balance we had a good renewal season, recognizing that this segment has just begun to stabilize.

We anticipate that we'll see further improvements later this year.

We have renewed most of our major accounts and wrote some new business, which resulted in a small increase in our premium volume, with some improvements in terms.

Here again, the seating companies were very interested in the quality of reinsurers when assigning shares, which served us well.

Clearly, the flight to quality has resulted in an increase of new business here as well.

Again, the D&O and financial institution market is a segment that we right now characterize as a leader in this trend of upward movement towards improvement in insurance and reinsurance pricing and terms.

Going forward into 2009, we see the current market dynamics as presenting promising signs for renewed growth in this portfolio.

Let me move on to the specialty operations.

In our specialty operations, which include accident, health, marine, aviation and surety, we wrote approximately $124 million in premium, which represents an increase of over 8%.

Our marine, aviation, and surety areas were basically equal in 2008, with the increase coming in our A&H area, where we wrote some new business.

Approximately 46% of our annual premium in this segment renews in January.

Looking at this business, the A&H and surety markets were relatively stable, with no significant changes in price, capacity, or retention.

We did see some positive rate movement on the aviation side.

The only area of note is the marine business, where we saw rate improvements -- some in the neighborhood of plus 10 to 20% -- but we also noted much stress on the Gulf of Mexico business, with most programs done, excluding this exposure.

As a consequence, our growth aggregates are down.

We would expect to see attractive opportunities mid-year, when offshore energy business is predominantly written.

All in all, I believe it was a very satisfying renewal season for us.

Clearly, the reinsurance world is in the midst of a positive change, which should get stronger as we progress through the year.

We are very well-positioned to benefit from this trend with our strong financials, great ratings, seasoned staff and locations around the globe.

We are looking forward to these developing opportunities, and would expect to prosper in this environment.

Now I'll turn it over to Craig.

Thanks, Tom, and good morning.

Our 2008 gross written premium was down 10% compared to 2007, and that's consistent with the guidance that we have provided since the beginning of the year.

Gross written premium for the quarter was 15% lower than in the fourth quarter of 2007, but about half of that was due to the inception of the Brownstone program, effective at the end of 2007.

That resulted in a one-time $76 million inward premium portfolio in the fourth quarter of 2007, which didn't repeat in 2008.

The US insurance segment shows a 37% decline for the quarter; however, if you adjust for the Brownstone distortion, the decline is 13%; and that decline is due to a couple of program cancellations and lower writings from the C.V.

Starr program.

Looking briefly at the other segments, US reinsurance was flat with the fourth quarter of 2007 and down 20% for the year.

Both casualty and property were down, as we responded in 2008 to softer market conditions.

International reinsurance was up 16% in the quarter and 12% for the year, driven by generally more stable to stronger pricing and a flight to quality, as cedents look to upgrade the reinsurance security of their panels.

Bermuda was down 36% in the quarter and 15% for the year, and about 10 points of the quarter's decline was from foreign exchange.

Specialty reinsurance was down 3% for the quarter -- excuse me -- and 4% for the year.

Our after-tax net operating income was $179 million or $2.93 per share for the quarter.

Our net operating income was $563 million or $9.12 per share for the year.

For the fourth quarter and the year as a whole, we reported net losses of $17 million and $19 million, respectively, including net realized capital losses.

Our operating return on equity was 13.8% for the quarter, and 10.5% for the year.

Underwriting income at the group level was very strong.

The combined ratio was 83.5% for the quarter and 95.6% for the year as a whole.

We recorded $42 million of favorable reserve development in the fourth quarter, and strengthened reserves by $24 million for the year as a whole.

We had light catastrophe losses in the quarter.

We had $20 million of loss cost, but only $8 million net of reinstatement premiums.

We recorded a loss of $257 million net of reinstatement premiums for Hurricanes Gustav and Ike in the third quarter.

We took great pains at that time to develop an estimate we believed would be adequate.

We have monitored and analyzed the ensuing reported losses, and we've concluded that the original estimate still represents our best estimate.

Investment income was disappointing, at $75 million for the quarter and $566 million for the year.

Our limited partnership investments lost $73 million for the quarter; and $64 million of that $73 million was from the partnerships principally focused on public equities.

We significantly restructured our investment portfolio during the fourth quarter, and at year end 94% of our invested assets are in fixed income or cash.

We have $137 million in our equity portfolio and $156 million in limited partnerships that are invested principally in public equities.

So in total, about 2% of our invested assets are exposed to public equities at this point.

The reduced asset risk and volatility will allow us to better capitalize on 2009 business opportunities.

We recorded a derivative expense of $34 million in the quarter and $21 million for the year -- that's on the equity put options -- because both the AAA corporate interest rates and the S&P 500 Index declined both in the quarter and for the year as a whole.

Cash flow from operations was $55 million for the quarter, and $663 million for the year.

Just to summarize the quarter's operating results, underwriting results were excellent, but investment results were poor as the result of the drop in the equity markets.

Our GAAP equity ended the year at $5 billion, down $76 million for the quarter.

We had $179 million of net after-tax operating income, and this was reduced by $77 million of after-tax investment losses, $126 million in currency translation losses, and a $29 million dividend paid out to shareholders.

Our capital adequacy is very strong relative to our own internal economic capital measures, and those of the rating agencies as well.

Our liquidity is strong, with over $2 billion in cash and short-term investments.

In addition, our cash flow is positive.

We have significant maturing bonds and available credit lines.

All in all, our balance sheet is strong with ample capital, great liquidity, reserves that are strong, and assets that are high quality.

We're pleased with our January 1 renewals, and we expect continued opportunities during the year.

Accordingly, we expect to continue strong performance in 2009 and beyond.

Now Joe would like to comment on our rating status with S&P, and then we'll take questions.

Joe?

Yes, quick update with regard to S&P.

We're meeting with S&P late next week to discuss our rating.

We expect that they will finalize their decision shortly afterwards.

Whereas we hope to keep our AA minus, if we do not, I do not anticipate any meaningful impact on our business.

Let me explain why.

First, the worst outcome is an A plus S&P rating, which is still a very good rating.

Second, our best rating is A plus excellent, and most of our customers use that.

Third, our clients know us and our strength.

We have been dealing with many of them for 30-plus years.

When went to CreditWatch in late December during the renewal season, I did not hear from even one underwriter that it was factor in any of our deals.

Having said that, I believe we're deserving of a AA minus rating, and I hope S&P does as well.

We'll now take your questions.

(Operator Instructions).

Our first question will come from Jay Gelb with Barclays Capital.

Thanks, and good morning.

Joe, on the gross written premium growth for 2009, is the 2% or so growth that was generated for the January renewals, is that a good run rate for the full year?

Or should we consider other one-time items?

I guess we would hope that it would be a little bit greater than that, as we see continued opportunities and improvements during the year.

Plus, I think as Tom noted, we reduced the exposure in some areas at January 1, even though we wrote more premium.

Part of what you're seeing at January 1 is the dollar having increased in value, and so when you get done with translation, had it not changed it would have been more probably 5 or 10% growth in January; and we did a little less business with AIG, so when you put those two things together, that's part of why you see the number at 2% for January.

Our hope would be that it would be greater than that for the year.

Okay.

And then next question on investment income and realized gains and losses, how should we be thinking about that going in to 2009?

Well, we don't -- we don't really project realized gains and losses.

I guess I would comment that since the end of the year, our bond portfolio has appreciated, and obviously we're watching that.

Our equity exposure is reduced, and there's -- as a result of that reduction, hasn't had much of an impact so far this year.

In terms of looking at investment income, our run rate of investment income exclusive of the limited partnership investments was about $630 million as of year end.

The limited partnership investments -- interestingly enough, if you look at the internal rate of return on those investments since inception, is over 10% -- despite the fact that 2008, obviously, was a dismal year.

We tend to plan those at about 8.5%; so if you were to look at it that way, there would be another 30, $40 million to add.

We are holding approximately $2 billion in short-terms -- or we were as of year end.

Obviously short-term rates, particularly in high-quality securities, are very low.

We're looking to push some of that money out; and in fact have invested about $500 million at an average duration of approximately one year and a rate of about 5%.

And principally we're doing agency CMOs, very short high quality credit-enhanced structures involving credit cards, prime auto loans, et cetera.

They are difficult to find, difficult to do, difficult to do in size; but we feel that we want to stay relatively short with the portfolio, and we're not satisfied with a 1% yield, so we're looking for ways to enhance that by some amount.

Okay, and then --

I hope that's helpful.

It is.

Thank you.

And then finally, Joe, I don't know if you can update us on succession planning?

Well, I think -- the Board is still working on that.

But I think the important -- the update there is with Ralph and some of the other senior members that we're thrilled to have at Everest now on board, we really have the future management team in place.

Okay.

Thanks very much.

(Operator Instructions).

We'll go next to the Vinay Misquith with Credit Suisse.

Hi, good morning.

Good morning.

Historically, you've had a significant Florida pro rata book.

I was just curious as to, what do you think the impacts of what is happening with the (inaudible) would have on your business?

If the Florida homeowners insurers have to pay more money for private reinsurance, would that hurt your margins there with your pro rata writers, or where do you play in the tower for these pro rata writers in Florida?

Yes, that's -- it's an excellent question, and it's one that we'll have to determine the answer on in the next few months.

Our Florida business comes up for renewal in June and July, but you are correct.

If they don't have the same structure that they had before, if they have to buy more outside reinsurance, if the state provides less, there will be a high cost to some of that outside reinsurance, and that will reduce the profit levels for the homeowner companies.

And if you are a pro rata writer, that would then reduce your profit margins there as well, so you would have to try to adjust for that in the deal.

But, you know, the flip side of that is we can be excess reinsurers as well, and we are; and so we may just change the mix when it comes to June or July, where we become more excess and less pro rata.

But all of that remains to be seen as we see how the Florida story unfolds in the course of the next four months.

Okay.

That's fair.

The second question is on the S&P ratings.

You know, it's nice to hear that on January 1 there was not much of an impact.

Would you say that the impact would be more in Europe than the US, because they focus more on the S&P ratings?

Well, there's no question that in the US people tend to use the best rating, and S&P does get used more when you get outside of the US, so that is the case.

But once you get outside of the US as well, you are dealing with a lot of clients of ours that have known us and dealt with us for many, many years.

So, you know, the worse-case scenario is we still have a very high rating with people that we have been dealing with for a long time that know we have strong capital, 5 billion of surplus.

So if it didn't have any impact during the renewal season, I just don't see it having much beyond that.

But once again, having said all of that, it is our hope to maintain the AA minus, nonetheless.

Thank you.

One final question, if I may.

With the hiring of Ralph, do you sense that your Company is moving more to the primary insurance side versus reinsurance?

We will be -- maintain both.

We have historically been more of a reinsurer.

That will probably at least remain our orientation for the next year or two; but there are opportunities on the insurance side that, with Ralph's help, we can now tackle that I think we couldn't tackle before.

So I am quite hopeful that you'll see us with more business in the wholesale and retail space -- and even on the MGA side, that you'll see us framing out a bit there as well.

Ralph, did you want to add anything on the insurance side?

No, I think as you saw in my opening remarks, that the -- you know, the insurance operations here principally have been a program operation, which are good.

So we're happy with them, but as we look in to these new opportunities, that will be kind of expanding out more in the direct side with brokers and agents in the specialty areas, where we think the opportunities make sense.

So it's more of a change in emphasis as opposed to a major change in strategy.

Thank you.

We'll go next to Josh Shanker with Citi.

Thank you.

Yes, just (inaudible), can you talk about where you get your implied volatility quotes for the long-term puts?

And what's implied volatility in the marketplace right now?

We use the volatility -- we get volatility quotes from Deutsche Bank, our investment advisor; and I think it -- while the -- we use long-term volatilities to -- basically in conformance on the maturity on the puts to do those calculations, so current volatility is not so much of a factor.

One of the things that impacts our evaluation of these, is that when we initially booked the S&P puts, we booked them to a much higher volatility than was indicated at the time, and basically what that did is it caused the booking of the puts not to generate any profit upfront.

So we're using a higher volatility than market volatilities would indicate; and that volatility is coming down over time, which seems counterintuitive of what is going on in the market, but it's as a result of the volatility that we initially had to use so that there was no initial gain or loss on the puts, and that whatever profit or loss there would be would emerge over their lives.

Does that make sense?

Yes, but let me rephrase it.

What is the long-term volatility that you are using currently?

It's in the 20s.

I want to say 25, 26%, and it, you know, varies depending upon the maturity.

If you want to go -- I can go offline with you later, and I can give you the exact numbers, but it's in that magnitude.

And it's reasonable to say that over the last six months that hasn't vacillated very much?

No, I think -- what we used to do the calculation has actually come down a little bit because it amortizes downward over time.

Thank you very much.

You're welcome.

Let me add to that, and perhaps a less technical answer is those puts were stress-tested, I think as much as they could be, by 2008, which lead to a $20 million change for the year in that evaluation.

We still expect to make money on these puts; and frankly, the way that I look at it is that change in valuation is just something that would get undone as we go forward.

Thank you.

You're welcome.

(Operator Instructions) .

We have no other questions at this time.

I would like to turn it back to our presenters for any additional or

Thank you for joining us today.

And certainly if you have any questions, please feel free to call me or Craig Eisenacher.

Again, thank you.

That does conclude our call.

We would like to thank everyone for their participation.

Have a great day.