Greenlight Capital Re Ltd (GLRE) 2010 Q4 法說會逐字稿

Thank you for joining the Greenlight Re fourth-quarter and full-year 2010 earnings call. Joining us on the call this morning are David Einhorn, Chairman; Len Goldberg, Chief Executive Officer; Bart Hedges, President and Chief Underwriting Officer; and Tim Courtis, Chief Financial Officer.

The Company reminds you that forward-looking statements that may be made in this call are intended to be covered by the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not statements of historical fact, but rather reflect the Company's current expectations, estimates and predications about future results and events and are subject to risks, uncertainties and assumptions, including risks, uncertainties and assumptions that are enumerated in the Company's Form 10-K dated February 22, 2011, and other documents filed by the Company with the SEC. If one or more risk or uncertainties materialize or if the Company's underlying assumptions prove to be incorrect, actual results may vary materially from what the Company projects. The Company undertakes no obligation to update publicly or revise any forward-looking statements whether as a result of new information, future events or otherwise.

Please note this event is being recorded. I would now like to turn the conference over to Len Goldberg, Chief Executive Officer. Mr. Goldberg, the floor is yours, sir.

Thanks and good morning. My name is Len Goldberg, Chief Executive Officer of Greenlight Re. Thank you for taking the time to join us today. In the fourth quarter of 2010, I'm pleased to report that we produced a 7.6% increase in fully diluted adjusted book value per share and a 12.9% increase for the full-year 2010. While we had a small loss in our underwriting results for the quarter, we produced a positive return in our investment portfolio.

Greenlight Re continued to build on our strong reinsurance franchise during the quarter, despite the fact that it is increasingly difficult to generate significant returns in most reinsurance lines. We are navigating this difficult market by focusing on our core business lines and staying disciplined in our underwriting, while awaiting improvement or dislocation in the market.

The core lines at Greenlight Re continue to be Employer Stop-Loss, Florida Homeowners, Small Account Workers' Comp and General Liability, and Property Catastrophe Retro. These businesses continue to perform well.

We are continuing to shift our portfolio to clients and lines of business that we believe have the best risk return profile. For example, for the full-year 2010, we reduced our gross written premium in motor business by almost 40%, while growing our Florida Homeowners quota share business by over 280%. The principal contributor to our negative underwriting result during the 2010 calendar year was adverse development on the motor liability contract we had placed in runoff during the first quarter of 2010.

As we have mentioned in prior calls, part of our process is to reserve every account each quarter to what we think is an appropriate estimate. When the data and our analysis tell us we need to increase or decrease the reserves on a contract, we do it in that quarter. While we cannot ensure there will be no further developments, we believe we are properly reserved for the 2.25 year period that this particular contract was on risk.

For 2010 our combined ratio was 102.8%, of which 5 points related to adverse development on this motor liability contract.

Our gross written premium for the year increased by 60% over 2009. The growth was driven by an increase in frequency business that more than offset a reduction in severity business. Frequency written premiums grew by 73%, and severity written premium shrunk by 28% in 2010. As a result, frequency business made up almost 95% of our gross premium written for the 2010 year. Bart will discuss this in more detail -- Bart will discuss in more detail why we believe this achievement is mainly attributable to getting our message out to the market consistently and actively identifying and seizing opportunities in the market.

Meanwhile, we are only writing accounts that we believe can generate an acceptable return on capital deployed. The January 1 renewal saw us decrease our Property Catastrophe Retro portfolio as pricing came down on a couple of the other contracts we support. Consistent with our strategy, we have reduced our exposure. Bart will also discuss this in further detail.

Greenlight Re's investment portfolio gained 6.5% in the fourth quarter of 2010 and produced an 11% gain to the 2010 year. Market gains in the fourth quarter were strong, and we were pleased with our returns considering our continued defensive positioning. In the month of January 2011, we reported an 0.7% loss on our investment portfolio.

Now I would like to turn the call over to our Chairman, David Einhorn, to discuss our investment results in more detail and the progress in Greenlight Re's overall strategy.

Thanks, Len, and thanks, everyone, for joining us today.

In the fourth-quarter 2010, the Greenlight Re investment portfolio returned 6.5%, bringing the 2010 net return to 11%. We achieved this result with an average net exposure of 20% in the fourth quarter and 26% for the full-year 2010. Our conservative net long position fluctuated during the course of the year. We became more net long when the markets dislocated in May and June, and we identified several new attractive long opportunities. We became less net long as the market spiked into the last four months of the year following the Federal Reserve's quantitative easing round two announcement.

The gains in the fourth quarter and the full-year 2010 were primarily driven by the long portfolio where a number of our portfolio companies made fundamental progress and posted generally encouraging operating results. The largest contributors to our portfolio return in 2010 included our long investments in Arkema, CIT, Ensco, and Lanxess. We also had a slight portfolio contribution from our legacy credit investments, which now comprise under 2% of our portfolio as that opportunity set is behind us for the time being.

Although the short portfolio detracted from overall performance in the fourth quarter and in 2010, our short slightly underperformed the market. We continued to maintain a top five position in gold, which contributed to our positive results in 2010. However, the gains in gold were partly offset by other macro hedges, including some currency and interest rate options. We continue to hold some of these macro hedges, which we feel offer favorable risk/reward dynamics and provide the portfolio with a large amount of protection against foreseeable negative tail events.

There is a bifurcation in both the economy and the markets today. Economically there is a cyclical recovery in progress, and corporations are generating higher margins and earnings and continue to improve their balance sheets. This should lead to an increase in capital spending and jobs over time. There is also a good pipeline of spinoffs and corporate transactions, which have historically been areas where we have been able to find inefficiently priced opportunities.

Tempering our enthusiasm is continued high unemployment, a housing market that remains challenged, and significant inflation in a number of commodities, which is translating into higher food and energy prices. With so much cost-cutting through the last cyclical downturn, it may be difficult for businesses to keep generating exciting profits as consumers are forced to focus their income on the things they need rather than discretionary items.

In addition, according to the most recent update from the Fed, QE2 is set to expire in the middle of the year. The situation in many foreign countries appears worrisome. In the US markets, many large-cap equity prices remain at reasonable levels. However, many stocks in the broader market are at all-time highs, and we see lofty multiples in some of the more speculative and cyclical businesses. The investment portfolio is currently pretty fully invested and is constructed in an attempt to achieve a good result in a wide range of market outcomes.

Greenlight Re made significant progress in 2010 in a challenging underwriting environment. Our book of business grew significantly in our core business lines. The team discontinued a problem contract in 2010, which negatively affected our 2010 underwriting results. We fill the current book of business is now better positioned to generate improved underwriting results. We made several key hires in the fourth quarter, and these additions give the underwriting team additional capacity to take advantage of the current and expanded opportunity set when we enter a more exciting pricing environment through our Cayman and Ireland subsidiaries.

Now I would like to turn the call over to Bart to discuss in more detail Greenlight Re's underwriting progress.

Thank you, David. As we look ahead in 2011, it appears that this will unfortunately be another year for generally softening prices. The result of this challenging environment is that we have written no new business at January 1. Since we have a concentrated and specialized book of business, our renewals are not January 1 centric.

At January 1, we carefully evaluated a number of interesting opportunities presented to us, but none of them met our return hurdles. As we have described in earlier calls, we strongly favor partnership approach where we seek strong management teams that are looking to share in the results of the business and develop a long-term relationship.

At this point in the pricing cycle, it seems that most of the new business is looking for the cheapest deal. This is not a game that we are willing to play. Our renewal book of business continues to perform well. On January 1, we were able to renew all of the business we wish to renew on essentially similar terms to 2010. The one area where we have reduced exposure on renewal is in Property Catastrophe Retro. We have been in this line of business since 2006, and pricing has generally held up at the post-Katrina levels as there has not been much Retro capacity in the market.

2011 saw increased capacity, mainly from unrated private equity or hedge fund vehicles, and some prices have dropped. Property Catastrophe Retro has been a great business for us. To date we have made a profit on every contract we have written as we have effectively structured our exposures and have not experienced losses from the events of the last few years, including Hurricane Ike, the Chilean earthquake, the 2010 New Zealand quake, and Australian floods to name a few.

But we plan to remain disciplined and will not accept what we believe to be an inadequate price for this product. As a result, our maximum exposure to any one catastrophe event has been reduced to $69.5 million from $99.9 million last quarter, and our aggregate maximum exposure for all events has been reduced to $93.8 million from $118.8 million last quarter.

As a reminder, we always state our catastrophe aggregates as the absolute amount of limit we have at risk less any reinstatement premiums. While Property Catastrophe Retro is still an important product for us, it will have a smaller waiting in the portfolio for the near future.

We are monitoring a developing situation in Christchurch, New Zealand, and our thoughts go out to the victims of yesterday's devastating earthquake. While it's too early to predict the ultimate impact on us for this event, we believe we could experience a $5 million loss. So if we cannot find good new business in the current marketplace and we are reducing our cat exposures, where will the portfolio growth come from? It will mainly come from two areas where we are presently more optimistic.

Their first area is doing more business with the clients we already have where both sites have built up trust in the partnership, and we can jointly explore new opportunities. We would rather write more business with partners that we know well than write new business with new customers in an underpriced market. This strategy has worked well for us over time as some clients who started as a small relationship with us have now developed into some of our largest and most important clients.

The second area is identifying strong, potential clients in attractive lines of business for niche markets. We talked extensively last quarter about this part of the strategy. It turns the traditional reinsurance model around by having our team out in the market proactively identifying the opportunities and the brokers that are involved in targeted accounts.

Many reinsurance companies tend to be fairly active in the business development process. They wait for brokers to bring them business, and they accept or reject that business. We believe this is a suboptimal approach, especially at a time in the market when everyone is looking for a cheaper price. When we have been educating brokers and have found some good opportunities through a business brought to us, we get more excited when we find the right partner and are successful in convincing them and their broker to do business with us.

We are currently pursuing a number of large opportunities along these lines that may or may not come to pass. These opportunities have long lead times as they tend to be more complex than simple reinsurance contracts. However, if we can begin a profitable relationship with just one or two of these potential clients, we believe it will prove to be well worth the effort.

Our fourth-quarter lines of business continue to perform well for us. We believe we have found markets that have resisted the overall downward pricing trends, and we will continue to concentrate on these areas. As discussed last quarter, we have had particular success with Florida Homeowners with limited wind exposure. It currently makes up our entire personal property line of business. Although this might on the surface appear to be an outside bet, we have fairly strong combined ratio caps on this business. So if we are wrong about it, the downside is quite manageable.

We have begun the business development process in Greenlight Reinsurance Ireland, our European union subsidiary. We have begun to educate the broker market in Europe and are getting an excellent reception. We expect our Europe operation to be a slow build just as the Cayman operation was six years ago. We believe our approach is fundamentally different than most of the reinsurers in the EU market and will result in some good long-term opportunities for us.

We are often asked by brokers, investors and other interested parties how Greenlight Re can be successful underwriting business as a smaller company in a marketplace where most of our competitors have much more capital than we do. There is an underlying assumption that we must somehow be adversely selected against, but we believe the reality is very different. We provide our clients and the brokers with a level of service and partnership that we think is hard to match in larger, more bureaucratic organizations. For us, service includes quick decision-making and a true partnership approach. It means listening to our clients' needs rather than selling them a product that is designed mostly to fit our needs. And because we have a small number of significant relationships, we can devote the time and attention that's needed to develop a true partnership.

For example, with our large group of actuaries, we often analyze issues and present them to clients before they are in a position to examine them, and then we are able to work with them collaboratively to find solutions to help keep the business profitable for them and us.

To support this strategy, we have continued to hire talented people, including four thus far in 2011. This includes a senior underwriter, Jim Ehman, who has joined Greenlight Re from Swiss Re to be part of our vision and to help expand our service to a new and growing client base.

While we do not see any imminent upturn in pricing in the broader reinsurance markets, we will continue to look for and we expect to find opportunities as we vigilantly prune business that does not offer attractive returns on equity. While we hope to find new areas of opportunity, we believe we have a well-positioned underwriting portfolio in the event prices fall further and are poised for additional growth when pricing begins to increase in the future.

Now I would like to turn the call over to Tim to discuss our financial results.

Thanks, Bart. Greenlight Re reported net income of $56.4 million for the fourth quarter of 2010 compared to net income of $57.3 million for the comparable period in 2009.

On a fully diluted per share basis, net income was $1.51 per share for the three months ended December 31, 2010, compared to net income of $1.55 per share on a fully diluted basis for the same three months in 2009. For the year ended December 31, 2010, net income was $90.6 million compared to $209.5 million for the year ended December 31, 2009. On a fully diluted per-share basis, net income was $2.44 per share compared to $5.51 per share for the comparable period in 2009.

Gross written premium of $107.8 million for the fourth quarter of 2010 increased 112% compared to the fourth quarter of 2009. This large increase in fourth-quarter premium is primarily a reflection of the sizable quota share of Florida Homeowners ex-windstorm contracts that were written during 2010. For the year ended December 31, 2010, gross written premiums were $414.9 million, a 60.3% increase over gross written premiums reported in 2009.

The composite ratio for our frequency business for 2010 was 105.7%, and it was 21.1% for severity business, resulting in an overall composite ratio of 97.3%. As Len discussed earlier, the higher composite ratio on our frequency business was primarily the result of increased reserves on a motor liability contract, which is in runoff.

Internal expenses were 5.6% of net premium earned the 2010 fiscal year as compared to 8.8% for 2009. Operating expenses of $16.2 million for the 2010 year decreased by approximately $3 million versus 2009, primarily as a result of reduced employee bonus accruals due to adverse loss development relating to 2008 and 2009 writing years. The resulting combined ratio for the full-year 2010 was 102.9% as compared to 96.5% for 2009.

We reported net investment income of $64.3 million for the fourth quarter of 2010, reflecting a net return of 6.5% on our investment account. We reported net investment income of $104.0 million for the 2010 calendar year, reflecting a net investment return of 11.0%. The fully diluted adjusted book value per share as of December 31, 2010, was $21.39, a 12.9% increase from $18.95 per share reported at December 31, 2009.

During the fourth quarter, we restructured one of our letter of credit facilities such that the letters of credit issued by the banker are secured with cash held in a custodial account. Previously the LOCs have been directly collateralized with equity securities held in our prime brokerage account held by an affiliate of the bank. Under the restructured agreement, the cash used for collateral is provided via a term margin lending agreement with an affiliate of the same bank and secured by our equity portfolio. Since there is no legal right of offset between the bank, which holds the cash collateral and the bank's affiliate lends the cash, as of December 31, 2010, our balance sheet reports an additional $218.7 million in restricted cash as an asset, and the same amount, $218.7 million, is due to prime brokers as a liability. Despite the change in financial reporting, there is no change to the economic substance of the arrangements. It enables us to access a large, expandable letter of credit facility at a reasonable cost.

Additionally, in January of this year, we completed our fourth letter of credit facility. The agreement is with JPMorgan, which provides a $50 million facility. In total, we currently have letters of credit capacity of $610 million.

I will now turn the call back to Len who will have some concluding remarks.

Thanks, Tim. 2010 was a year of continued growth in the underwriting portfolio and overall capabilities of Greenlight Re as we were able to continue to implement our service-oriented strategy that it allowed us to find and retain profitable business.

At the same time, our investment portfolio had a solid 2010 performance after an excellent 2009 year.

We have executed our strategy consistently since we started operations in 2005. Our objective is to write a concentrated underwriting portfolio with the best risk-adjusted returns that we can find and to utilize the float generated from these contracts to invest in our deep value, long/short investment program, which has generated superior returns with less volatility than the overall equity markets. We will continue to execute this strategy and remain focused on driving our key yardstick, increased book value per share.

We appreciate your continued confidence in Greenlight Re. Thank you, again, for your time, and now we would like to open the call up to questions.

(Operator Instructions). [Russell Molin], Bares Capital Management.

I have a question about on the underwriting side of the business. As you write more frequency business, call it 90%, 95% plus, historically on an accident year basis, there has been some volatility on the loss ratio given your writing severity and frequency and your different lines of business and some run-off business. Going forward, as you continue to write more frequency and less severity, do you guys have a target range of what you think the accident year ratio can get to in order to be profitable, or maybe, on the expense side, what you think the expense ratio can go down to in order to kind of two, three, four, five years from now to be consistently underwriting profit?

We don't have underwriting profit targets. We look at things on a ROE basis account by account. So depending on the makeup of the portfolio, if it is shortail or longtail, then the gap combined ratios can be quite different.

And, on the severity business, we believe that when markets harden at some point in the future, there will be an opportunity to increase severity business and get very good prices for it. But, in this point in the market, we think focusing on the frequency underwriting business is the best way to go.

So, on the frequency side, so, let's say, the Florida homeowner ex-wind, do you have a range of what you think your ROE can get to on that type of business that makes up a lot of the frequency side?

Actually we think the ROE is pretty strong in that business because we have pretty hard combined ratio caps on that business, which makes it very appealing to us. But, again, you will not necessarily see it in the GAAP combined ratio. It is a reduction in the capital required for that sort of business.

[Gabriel Posner], investor.

I had a couple of questions for Len and then one for David. Len, today and on the last investor call, the Company mentioned that adverse underwriting results were mostly caused by one motor liability contract. However, in the 10-Q that came out for the third quarter, adverse results were attributed to several motor liability contracts, and the 10-K, again, seems to refer to more than one contract in a few places.

And just looking at the first bullet point on page 43, it suggests that there are two motor liability contracts in particular which developed unfavorably. Can you comment any further on how losses in the motor liability book are spread through that book? And if losses are concentrated in a small number of contracts, how does the rest of the motor liability book appear to be developing?

And related to that, do you have an estimate for how long the tail is on the motor liability book?

And just a question for David. The fund holds positions in some other reinsurers like Everest Re and Transatlantic Holdings. I was wondering if you might comment on some of the things that you look for when you value reinsurance companies and what you find attractive in the position that the fund is taking in this area?

I will take that first question. I think there's a little bit of confusion that in the K we do things contract by contract. Actually, as we pointed out in the call, we were on this risk for 2.25 years. It was a series of two one-year contracts and then a 90-day contract. And that's what shows up in the K. It is the same relationship, but just two different contract years.

As far as the tail of the business, we still have a ways to go until we know the ultimate loss. But, as we have discussed in the call in prior calls, our process is to select what we believe is the best point estimate every quarter as we receive new data. So we are comfortable with the numbers that we have posted right now.

This is David. Relating to the investments in the other reinsurance companies -- and actually there is a third one, which is Aspen, which is a much larger investment. The two you mentioned, Everest and Transatlantic, are actually very small and probably immaterial positions.

But to answer the question more generally, the way that we look at this is we are looking at companies that are trading at meaningful discounts to their book value, that our analysis of their reserves shows them to be on the conservative side towards being stated okay, and that the Company's capital allocation is reasonably attractive and that I believe all of these companies have been repurchasing material amounts of their stock at nice discounts to book value, which is further accretive to the values.

(Operator Instructions). I'm showing no further questions at this time. This concludes our question-and-answer session. Should you have any follow-up questions, please direct them to Alex Stanton of Stanton Public Relations and Marketing at 212-780-0701, and he will be happy to assist you.

We also remind you that a replay of this call and other pertinent information about Greenlight Re is available on our website at www.greenlightre.ky.

The conference is now concluded. We thank you all for attending today's presentation. At this time, you may disconnect your lines.