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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996 COMMISSION FILE # 1-13816
EVEREST REINSURANCE HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 22-3263609
(State or other jurisdiction) (I.R.S. Employer
of incorporation or organization) Identification No.)
3 GATEWAY CENTER
NEWARK, NJ 07102
(201) 802-8000
(Address, including zip code, and telephone number, including area code,
of registrant's principal executive office)
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SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
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COMMON STOCK, $.01 PAR VALUE PER SHARE NEW YORK STOCK EXCHANGE
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SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE
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Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
The aggregate market value on March 3, 1997 of the voting stock held by
non-affiliates of the registrant was $1,584 million.
At March 3, 1997, the number of shares outstanding of the registrant's
common stock was 50,490,273.
DOCUMENTS INCORPORATED BY REFERENCE
Certain information required by Items 10, 11, 12, and 13 of Form 10-K is
incorporated by reference into Part III hereof from the registrant's proxy
statement for the 1997 Annual Meeting, which will be filed with the Securities
and Exchange Commission within 120 days of the close of the registrant's fiscal
year ended December 31, 1996.
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TABLE OF CONTENTS
ITEM PAGE
- - ---- ----
PART I
1. Business ............................................................. 1
2. Properties ........................................................... 23
3. Legal Proceedings .................................................... 23
4. Submission of Matters to a Vote of Security Holders .................. 23
PART II
5. Market for Registrant's Common Equity and Related Stockholder Matters 24
6. Selected Financial Data .............................................. 24
7. Management's Discussion and Analysis of Financial Condition and
Results of Operation ................................................ 27
8. Financial Statements and Supplementary Data .......................... 33
9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure ................................................ 33
PART III
10. Directors and Executive Officers of the Registrant ................... 33
11. Executive Compensation ............................................... 33
12. Security Ownership of Certain Beneficial Owners and Management ....... 33
13. Certain Relationships and Related Transactions ....................... 34
PART IV
14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K ..... 34
The Private Securities Litigation Reform Act of 1995 provides a "safe harbor"
for forward-looking statements. This Form 10-K, the Company's Annual Report to
Stockholders, any Form 10-Q or any Form 8-K of the Company or any other written
or oral statements made by or on behalf of the Company may include
forward-looking statements which reflect the Company's current views with
respect to future events and financial performance. These forward-looking
statements are subject to certain uncertainties and other factors that could
cause actual results to differ materially from such statements. These
uncertainties and other factors (which are described in more detail elsewhere in
this Form 10-K) include, but are not limited to, uncertainties relating to
general economic conditions and cyclical industry conditions, uncertainties
relating to government and regulatory policies, volatile and unpredictable
developments (including catastrophes), the legal environment, the uncertainties
of the reserving process, the competitive environment in which the Company
operates, the uncertainties inherent in international operations, and interest
rate fluctuations. The words "believe," "expect," "anticipate," "project" and
similar expressions identify forward-looking statements. Readers are cautioned
not to place undue reliance on these forward-looking statements, which speak
only as of their dates. The Company undertakes no obligation to publicly update
or revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
PART I
UNLESS OTHERWISE INDICATED, (I) ALL FINANCIAL DATA IN THIS DOCUMENT HAVE BEEN
PREPARED USING GENERALLY ACCEPTED ACCOUNTING PRINCIPLES ("GAAP"), AND (II) ALL
STATUTORY FINANCIAL DATA REFERRED TO IN THIS DOCUMENT REFER TO STATUTORY
FINANCIAL DATA OF EVEREST RE. AS USED IN THIS DOCUMENT, "EVEREST RE" MEANS
EVEREST REINSURANCE COMPANY (FORMERLY PRUDENTIAL REINSURANCE COMPANY) AND ITS
SUBSIDIARIES (UNLESS THE CONTEXT OTHERWISE REQUIRES); "HOLDINGS" MEANS EVEREST
REINSURANCE HOLDINGS, INC. (FORMERLY PRUDENTIAL REINSURANCE HOLDINGS, INC.); AND
THE "COMPANY" MEANS HOLDINGS AND ITS SUBSIDIARIES.
ITEM 1. BUSINESS
THE COMPANY
Everest Reinsurance Holdings, Inc., a Delaware corporation, was established in
1993 to serve as the parent holding company of Everest Reinsurance Company
(formed in 1973), a property and casualty reinsurance operation. Until October
6, 1995, the Company was an indirect wholly-owned subsidiary of The Prudential
Insurance Company of America ("The Prudential"). On October 6, 1995, The
Prudential sold its entire interest in Holdings' shares of common stock in an
initial public offering (the "IPO"), with the result that Holdings' outstanding
common stock became publicly owned.
Holdings, through its wholly-owned subsidiary, Everest Re, underwrites property
and casualty reinsurance on a treaty and facultative basis to insurance and
reinsurance companies in the United States and selected international markets.
Everest Re writes reinsurance both through brokers and directly with ceding
insurance companies, giving it the flexibility to pursue business regardless of
the ceding company's preferred reinsurance purchasing method. The Company had
gross premiums written in 1996 of $1,044.0 million and stockholders' equity at
December 31, 1996 of $1,086.0 million and Everest Re had statutory surplus at
December 31, 1996 of $772.7 million. Based on industry data at December 31, 1996
published by the Reinsurance Association of America ("RAA"), Everest Re is the
seventh largest reinsurance company in the United States, ranked by statutory
surplus and is rated "A" (Excellent) by A.M. Best, an independent insurance
industry rating organization which rates insurance companies on factors of
concern to policyholders.
Everest Re has three subsidiaries: Everest Reinsurance Ltd. ("Everest Ltd.",
formerly Le Rocher Reinsurance Ltd.), Everest National Insurance Company
("Everest National", formerly Prudential National Insurance Company) and Everest
Insurance Company of Canada ("Everest Canada"). Everest Ltd., a United Kingdom
reinsurance company, is authorized to engage in the reinsurance business in the
United Kingdom and, prior to January 1, 1997, it reinsured risks worldwide. In
1996, Everest Re obtained authorization to engage in the reinsurance business in
the United Kingdom, and the operations of Everest Ltd. have been converted to
branch operations of Everest Re, effective January 1, 1997. Everest National, an
Arizona insurance company, is licensed in 38 states and the District of Columbia
and writes primary insurance. On December 31, 1996, Everest Re acquired Everest
Insurance Company of Canada (formerly OTIP/RAEO Insurance Company Inc.) from a
subsidiary of The Prudential. All liabilities incurred before the acquisition
date, including insurance obligations under expired as well as in-force
business, were assumed by Prudential of America General Insurance Company
(Canada), a subsidiary of The Prudential which was subsequently sold to Liberty
Mutual Insurance Company, whereupon it was renamed Liberty Insurance Company of
Canada. Everest Canada is federally licensed to write primary insurance under
the Insurance Companies Act of Canada and provincially licensed in Ontario.
REINSURANCE INDUSTRY OVERVIEW
Reinsurance is an arrangement in which an insurance company, the reinsurer,
agrees to indemnify another insurance company, the ceding company, against all
or a portion of the insurance risks underwritten by the ceding company under one
or more insurance contracts. Reinsurance can provide a ceding company with
several benefits, including a reduction in net liability on individual risks,
catastrophe protection from large or multiple losses and assistance in
maintaining acceptable financial ratios. Reinsurance also provides a ceding
company with additional underwriting capacity by permitting it to accept larger
risks and write more business than would be possible without a concomitant
increase in capital and surplus. Reinsurance, however, does not discharge the
ceding company from its liability to policyholders.
There are two basic types of reinsurance arrangements: treaty and facultative
reinsurance. In treaty reinsurance, the ceding company is obligated to cede and
the reinsurer is obligated to assume a specified portion of a type or category
of risks insured by the ceding company. Treaty reinsurers, including Everest Re,
do not separately evaluate each of the individual risks assumed under their
treaties and, consequently, after a review of the ceding company's underwriting
practices, are largely dependent on the original risk underwriting decisions
made by the ceding company. Such dependence subjects reinsurers in general,
including Everest Re, to the possibility that the ceding companies have not
adequately evaluated the risks to be reinsured and, therefore, that the premiums
ceded in connection therewith may not adequately compensate the reinsurer for
the risk assumed. The reinsurer's evaluation of the ceding company's risk
management and underwriting practices, therefore, will usually impact the
pricing of the treaty. In facultative reinsurance, the ceding company cedes and
the reinsurer assumes all or part of the risk under a single insurance contract.
Facultative reinsurance is negotiated separately for each insurance contract
that is reinsured. Facultative reinsurance normally is purchased by ceding
companies for individual risks not covered by their reinsurance treaties, for
amounts in excess of the dollar limits of their reinsurance treaties and for
unusual risks. Underwriting expenses and, in particular, personnel costs, are
higher on facultative business because each risk is individually underwritten
and administered. The ability to separately evaluate each risk reinsured,
however, increases the probability that the reinsurer can price the contract to
more accurately reflect the risks involved.
Both treaty and facultative reinsurance can be written on either a pro rata
basis or an excess of loss basis. With respect to pro rata reinsurance, the
ceding company and the reinsurer share the premiums as well as the losses and
expenses in an agreed proportion. In the case of reinsurance written on an
excess of loss basis, the reinsurer indemnifies the ceding company against all
or a specified portion of losses and expenses in excess of a specified dollar
amount, known as the ceding company's retention or reinsurer's attachment point,
generally subject to a negotiated reinsurance contract limit.
Premiums payable by the ceding company to a reinsurer for excess of loss
reinsurance are not directly proportional to the premiums that the ceding
company receives because the reinsurer does not assume a proportionate risk. In
contrast, premiums that the ceding company pays to the reinsurer for pro rata
reinsurance are proportional to the premiums that the ceding company receives,
consistent with the proportional sharing of risk. In addition, in pro rata
reinsurance the reinsurer generally pays the ceding company a ceding commission.
The ceding commission generally is based on the ceding company's cost of
acquiring the business being reinsured (commissions, premium taxes, assessments
and miscellaneous administrative expense) and also may include a profit factor
for producing the business.
Reinsurers typically purchase reinsurance to cover their own risk exposure.
Reinsurance of a reinsurer's business is called a retrocession. Reinsurance
companies cede risks under retrocessional agreements to other reinsurers, known
as retrocessionaires, for reasons similar to those that cause primary insurers
to purchase reinsurance: to reduce net liability on individual risks, protect
against catastrophic losses, stabilize financial ratios and obtain additional
underwriting capacity.
Reinsurance can be written through professional reinsurance brokers or directly
for ceding companies. From a ceding company's perspective, both the broker
market and the direct market have advantages and disadvantages. A ceding
company's decision to select one market over the other will be influenced by its
perception of such advantages and disadvantages relative to the reinsurance
coverage being placed.
BUSINESS STRATEGY
Under the direction of Joseph V. Taranto, who joined the Company in October 1994
as Chairman, Chief Executive Officer and President, the Company initiated
actions to increase the Company's profitability and reduce earnings volatility.
These actions included strengthening the Company's management team, reducing
operating expenses, improving management of catastrophe exposures and
implementing a new underwriting strategy. Since 1994, the Company's management
team has pursued and continues to pursue these actions which seek to capitalize
on the Company's staff resources and its flexibility to offer multiple products
through multiple production sources in a cost-efficient manner.
The Company's products include the full range of property and casualty
coverages, including marine, aviation, surety, errors & omissions liability
("E&O"), directors' & officers' liability ("D&O"), medical malpractice and
2
other specialty lines. The Company's distribution sources include both the
direct and broker reinsurance markets, international and domestic markets and
reinsurance, both treaty and facultative, and insurance.
The Company's underwriting strategy emphasizes underwriting profitability rather
than premium volume, writing specialized risks and improving integration of
existing underwriting expertise across all underwriting units. Key elements of
this strategy are prudent risk selection, appropriate pricing through strict
underwriting discipline and adjusting the Company's business mix to respond to
changing market conditions. Management intends to focus on reinsuring companies
that effectively manage the underwriting cycle through proper analysis and
pricing of underlying risks and whose underwriting guidelines and performance
are compatible with the Company's profitability objectives.
The Company's underwriting strategy also emphasizes flexibility and
responsiveness to changing market conditions, such as increased demand or
favorable pricing trends. Management believes that Everest Re's existing
strengths, including its broad underwriting expertise, international presence
and substantial capital, will facilitate adjustments to its mix of business
geographically, by line of business and by type of coverage, allowing it to
capitalize on those market opportunities that provide the greatest potential for
underwriting profitability. The Company's primary insurance infrastructure will
facilitate this strategy by allowing the Company to develop business that
requires the Company to issue primary insurance policies. The Company will also
continue to carefully monitor its mix of business to avoid inappropriate
concentrations of geographic or other risk.
Everest Re has increased its reinsurance of specialty risks, which require a
higher degree of underwriting, actuarial and claims expertise than more standard
risks. This type of reinsurance includes professional liability lines, such as
medical malpractice, D&O and E&O. Management believes that these risks offer a
greater profit potential than standard underwriting risks, which are generally
more subject to competitive pricing. Specialty risks, however, are usually more
difficult to assess than more standard risks and can be subject to higher loss
severity and greater volatility. Management believes that it can successfully
manage these complex risks through disciplined underwriting, appropriate
pricing, actuarial projections, loss monitoring and underwriting and claims
audits of ceding companies. The emphasis on specialty underwriting has built on
the Company's existing expertise in writing such specialty lines as marine,
aviation and surety.
The Company has revised its underwriting guidelines to limit the accumulation of
known risks in exposed areas and to require that business which is exposed to
catastrophe losses be written with greater geographic spread and to implement a
more cost-effective retrocession program. The Company's underwriting guidelines
have also been revised to better reflect the relationship between premiums and
risk assumed while maintaining the Company's probable maximum loss at
appropriate levels.
Efforts to control expenses and to operate in a more cost-efficient manner
continue to be a focus of the Company. These efforts have resulted in a 41%
reduction in employees to 410 at December 31, 1996 from 694 at June 30, 1994,
the restructuring of the Company's facultative operations in 1995 and changes in
certain vendor relationships. These changes were implemented to improve
efficiency and eliminate redundant positions. Additionally, the Company has
begun to implement a plan to improve the cost effectiveness of its information
systems.
MARKETING
The Company writes its business on a worldwide basis for many different
customers and for many lines of property and casualty business. Its products
provide a broad array of coverages. The Company is not materially dependent on
any single customer, small group of customers, line of business or geographical
area. The Company believes the loss of any single customer would not have a
material adverse affect on the Company. Approximately 65.4% and 34.6% of Everest
Re's 1996 gross premiums written were written in the broker and direct market,
respectively. Everest Re's ability to write reinsurance both through brokers and
directly with ceding companies gives it the flexibility to pursue business
regardless of the ceding company's preferred reinsurance purchasing method.
The reinsurance broker market consists of several substantial national
and international brokers and a number of smaller specialized brokers.
Brokers do not have the authority to bind Everest Re with
respect to reinsurance agreements, nor does Everest Re commit in advance
to accept any portion of the business that brokers submit to it.
Reinsurance business from any ceding company, whether new or renewal,
is subject to acceptance by Everest Re. Brokerage fees generally are paid by
reinsurers. The Company's largest ten brokers accounted for an aggregate of
3
approximately 44.7% of gross premiums written in 1996 with the largest broker
accounting for approximately 15.9% of gross premiums written in 1996. The
Company does not believe that the loss of the support of any one broker would
have a material adverse affect on the Company due to the Company's competitive
position in the marketplace and relationships with ceding companies and the
continuing availability of other sources of business.
The direct market remains an important distribution system for Everest Re.
Direct placement enables Everest Re to access clients who prefer building
long-term relationships directly with their reinsurers based upon the
reinsurer's in-depth understanding of the ceding company's needs.
Everest National's primary insurance business is written principally through
general agency relationships. The Company evaluates each business relationship,
based upon the underwriting expertise and experience of each distribution
channel selected, and performs an analysis to evaluate financial security.
UNDERWRITING UNITS
The following table presents the distribution of Everest Re's gross premiums
written by its U.S. broker treaty, U.S. direct treaty reinsurance and insurance,
marine, aviation and surety, U.S. facultative and international operations for
the years ended December 31, 1996, 1995, 1994, 1993 and 1992, classified
according to whether such premium is derived from property or casualty business
and whether it represents pro rata or excess of loss business:
4
GROSS PREMIUMS WRITTEN BY UNDERWRITING UNIT
Years Ended December 31,
-----------------------------------------------------------------------------------
1996 1995 1994 1993 1992
--------------- ------------- ------------- ------------- -------------
$ % $ % $ % $ % $ %
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
(Dollars in millions)
U.S. Broker Treaty
Property
Pro Rata(1) $ 45.4 4.4% $ 51.7 5.4% $ 59.7 6.3% $ 80.3 8.7% $ 96.4 11.5%
Excess 60.4 5.8 59.0 6.2 53.9 5.7 88.8 9.7 67.9 8.1
Casualty
Pro Rata(1) 63.4 6.1 18.5 1.9 29.6 3.1 28.2 3.1 29.4 3.5
Excess 137.5 13.2 122.6 12.9 113.5 11.9 103.7 11.3 98.5 11.8
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total(2) 306.8 29.4 251.8 26.5 256.6 26.9 301.0 32.8 292.2 34.9
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
U.S. Direct Treaty
Reinsurance and
Insurance
Property
Pro Rata(1) 12.6 1.2 3.3 0.3 5.4 0.6 17.3 1.9 8.9 1.0
Excess 8.9 0.9 9.1 1.0 12.5 1.3 10.9 1.2 11.4 1.4
Casualty
Pro Rata(1) 114.5 11.0 99.8 10.5 83.2 8.7 56.2 6.1 52.7 6.3
Excess 12.5 1.2 10.0 1.1 38.6 4.0 46.3 5.0 41.9 5.0
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total(2) 148.6 14.2 122.2 12.9 139.7 14.7 130.7 14.2 114.9 13.7
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Marine, Aviation
and Surety
Property
Pro Rata(1) 94.6 9.1 89.2 9.4 74.1 7.8 67.3 7.3 57.5 6.9
Excess 17.8 1.7 18.7 2.0 16.8 1.8 16.3 1.8 17.3 2.1
Casualty
Pro Rata(1) 43.1 4.1 53.0 5.6 66.0 6.9 48.6 5.3 43.7 5.2
Excess 5.6 0.5 6.0 0.6 4.8 0.5 10.5 1.1 7.8 0.9
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total(2) 161.1 15.4 166.9 17.6 161.7 17.0 142.7 15.5 126.3 15.1
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
U.S. Facultative
Property
Pro Rata(1) -- -- -- -- -- -- -- -- -- --
Excess 26.9 2.6 22.3 2.3 27.4 2.9 20.9 2.3 14.4 1.7
Casualty
Pro Rata(1) -- -- -- -- -- -- -- -- -- --
Excess 61.8 5.9 46.6 4.9 39.3 4.1 35.0 3.8 35.2 4.2
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total(2) 88.7 8.5 68.8 7.2 66.7 7.0 55.9 6.1 49.6 5.9
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total U.S.
Property
Pro Rata(1) 152.6 14.6 144.2 15.2 139.2 14.6 164.9 18.0 162.8 19.4
Excess 114.0 10.9 109.1 11.5 110.6 11.6 136.9 14.9 111.0 13.2
Casualty
Pro Rata(1) 221.1 21.2 171.3 18.0 178.8 18.8 133.0 14.5 125.8 15.1
Excess 217.6 20.8 185.2 19.5 196.1 20.6 195.5 21.3 183.4 21.9
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total(2) 705.2 67.5 609.7 64.2 624.7 65.5 630.3 68.7 583.0 69.5
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
International
Property
Pro Rata(1) 124.2 11.9 136.2 14.3 147.0 15.4 122.1 13.3 104.5 12.5
Excess 79.8 7.6 84.9 8.9 89.2 9.4 81.5 8.9 80.1 9.6
Casualty
Pro Rata(1) 90.5 8.7 66.4 7.0 49.6 5.2 44.4 4.8 40.6 4.8
Excess 44.4 4.3 52.3 5.5 42.7 4.5 39.8 4.3 29.6 3.5
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total(2) 338.8 32.5 339.8 35.8 328.5 34.5 287.8 31.3 254.8 30.4
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total Company
Property
Pro Rata(1) 276.7 26.5 280.4 29.5 286.2 30.0 287.0 31.3 267.3 31.9
Excess 193.8 18.6 194.0 20.4 199.8 21.0 218.4 23.8 191.1 22.8
Casualty
Pro Rata(1) 311.6 29.8 237.6 25.0 228.4 24.0 177.4 19.3 166.4 19.9
Excess 261.9 25.1 237.5 25.0 238.8 25.1 235.3 25.6 213.0 25.4
-------- ----- ------ ----- ------ ----- ------ ----- ------ -----
Total(2) $1,044.0 100.0% $949.5 100.0% $953.2 100.0% $918.1 100.0% $837.8 100.0%
======== ===== ====== ===== ====== ===== ====== ===== ====== =====
- - -------------
(1) For purposes of the presentation above, pro rata reinsurance means
reinsurance attaching to the first dollar of loss incurred by the ceding
company.
(2) Certain totals and subtotals may not reconcile due to rounding.
5
U.S. BROKER TREATY OPERATIONS. Everest Re's U.S. broker treaty operations write
both property and casualty reinsurance through reinsurance brokers. The Company
targets certain brokers and, through the broker market, specialty companies and
small to medium sized standard lines companies. The U.S. broker treaty
operations also write portions of reinsurance programs for larger, national
insurance companies. The U.S. broker treaty operations also include a treaty
multi-line unit, which targets small to medium sized ceding companies where the
Company seeks to write a substantial portion of the ceding company's entire
property and casualty reinsurance program.
In 1996, $105.8 million of gross premiums written were attributable to domestic
property business, of which 57.1% was written on an excess of loss basis and
42.9% was written on a pro rata basis. This unit utilizes sophisticated
underwriting methods which management believes are necessary to analyze and
price property business, particularly that segment of the property market which
has catastrophe exposure.
Domestic casualty business accounted for $200.9 million of gross premiums
written in 1996, of which 68.5% was written on an excess of loss basis and 31.5%
was written on a pro rata basis. The treaty casualty portfolio consists
principally of professional liability, directors' & officers' liability,
workers' compensation, excess and surplus lines, and other liability coverages.
As a result of the complex technical nature of most of these risks, the
Company's casualty underwriters tend to specialize by line of business and work
closely with the Company's pricing actuaries.
DIRECT TREATY REINSURANCE AND INSURANCE OPERATIONS. The Company's direct treaty
reinsurance operation writes a full line of property and casualty business. In
1996, direct treaty business accounted for $90.6 million of gross premiums
written, of which 23.2% was written on an excess of loss basis and 76.8% was
written on a pro rata basis. The U.S. direct treaty underwriters target
companies which place their business predominantly in the direct market,
including small to medium sized regional ceding companies, and seek to develop
long-term relationships with such companies. A broad array of coverages are
offered.
The Company's insurance operation consists of $56.8 million of gross premiums
written through Everest National, which is licensed in 38 states and the
District of Columbia to write primary insurance, and $1.2 million, which is
assumed from former affiliates which write business in states in which Everest
National is not licensed. Everest National targets commercial property and
casualty business written through agency relationships with program
administrators. With respect to primary insurance written through such agents,
the Company supplements the initial underwriting process with periodic claims
and underwriting reviews.
MARINE, AVIATION AND SURETY OPERATIONS. The Company's marine and aviation unit
focuses on ceding companies with a particular expertise in marine and aviation
business. The marine and aviation business is written primarily through brokers
and contains a significant international component written primarily in the
London market. Surety business underwritten by the Company consists mainly of
reinsurance of contract surety bonds written directly with ceding companies.
Gross premiums written by the marine and aviation unit in 1996 totaled $100.4
million, substantially all of which was written on a treaty basis and 73.5% of
which was sourced through reinsurance brokers. Marine treaties represented 51.4%
of marine and aviation gross premiums written in 1996 and consisted of hull and
liability coverage. Approximately 79.6% of the marine unit premiums in 1996 were
written on a pro rata basis and 20.4% as excess of loss. Aviation premiums
accounted for 48.6% of marine and aviation gross premiums written in 1996 and
included reinsurance for airlines, general aviation and satellites.
Approximately 88.5% of the aviation unit's premiums in 1996 were written on a
pro rata basis and 11.5% as excess of loss.
In 1996, gross premiums written by the surety unit totaled $60.7 million. Most
of the portfolio is reinsurance of contract surety bonds written directly with
ceding companies, with the remainder being credit reinsurance, mostly in
international markets. The unit's strategy is to maintain long-term
relationships with major surety and fidelity writers and to continue to expand
its international business.
FACULTATIVE OPERATIONS. The Company's U.S. facultative unit conducts business
both through brokers and directly with ceding companies. The U.S.
facultative operations consist of three underwriting units representing
property, casualty and specialty lines of business. Business is
written from a facultative headquarters office in New York and satellite
offices in Chicago and San Francisco. The Company's facultative underwriters
continue to narrow the focus of the types of business solicited to
improve the quality of the Company's facultative portfolio. In 1996, $26.9
6
million, $39.9 million, and $21.9 million of gross premiums written were
attributable to property, general casualty and specialty lines of business,
respectively.
INTERNATIONAL. Everest Re's international operations are designed to enable it
to capitalize on the growth opportunities in the international reinsurance
market. The Company targets several international markets, including: Europe and
the London market, which are serviced by operations in London and Brussels;
Canada, with operations headquartered in Toronto; Asia and Australia, with
operations headquartered in Hong Kong; and Latin America and the Middle East,
which business is serviced from Everest Re's New Jersey headquarters. The
Company also writes "home-foreign" business, which provides reinsurance on the
international portfolios of U.S. insurers, from its headquarters in New Jersey.
Approximately 60.2% of the gross premiums written by the Company's international
underwriters in 1996 represented property business, while the balance
represented casualty business. As with its U.S. operations, Everest Re's
international operations focus on building long-term relationships with
financially sound companies that have strong management and underwriting
discipline and expertise. Approximately 81.8% of the Company's international
business was written through brokers, with the remainder written directly with
ceding companies.
In 1996, Everest Ltd.'s gross premiums written totaled $142.2 million and
consisted of pro rata property (19.3%), excess property (33.4%), pro rata
casualty (33.8%) and excess casualty (13.5%). The Brussels office focuses on the
continental European reinsurance markets, while the London office covers
international business written through the London market. Gross premiums written
in 1996 from the Brussels and London offices totaled $63.2 million and $79.0
million, respectively.
Gross premiums written by Everest Re's Canadian operation totaled $62.9 million
in 1996 and consisted of pro rata property (13.0%), excess property (3.9%), pro
rata multi-line (50.4%) and excess casualty (32.7%). Approximately 77.4% of the
Canadian premiums consisted of treaty reinsurance while 22.6% was facultative
reinsurance.
Everest Re's Hong Kong office covers the Asian and Australian markets and
accounted for $46.1 million of gross written premiums in 1996. This business
consisted of pro rata treaty property (82.2%), excess treaty property (15.7%),
pro rata treaty casualty (0.2%), excess treaty casualty (0.6%) and excess
facultative casualty (1.3%).
International business written out of Everest Re's New Jersey office accounted
for $87.7 million of Everest Re's 1996 gross premiums written and consisted of
pro rata treaty property (57.7%), pro rata treaty casualty (12.1%), excess
treaty property (16.7%), excess treaty casualty (2.4%), excess facultative
property (8.4%) and excess facultative casualty (2.7%). Of this business 46.6%
was sourced from Latin America, 16.6% was sourced from the Middle East and 10.8%
was "home-foreign" business.
UNDERWRITING PROCESS
Everest Re offers ceding companies full service capability, including actuarial,
claims, accounting and systems support, either directly or through the broker
community. Everest Re's capacity for both casualty and property risks allows it
to underwrite entire contracts or major portions thereof that might otherwise
need to be syndicated among several reinsurers. Everest Re's strategy is to act
as "lead" reinsurer in the reinsurance treaties it underwrites. The lead
reinsurer on a treaty generally accepts one of the largest percentage shares of
the treaty and is in a stronger position to negotiate price, terms and
conditions than is a reinsurer which takes a smaller position. Management
believes this strategy enables it to influence more effectively the terms and
conditions of the treaties on which it participates. When Everest Re does not
lead the treaty, it may still suggest changes to any aspect of the treaty.
Everest Re may decline to participate in a treaty based upon its assessment of
all relevant factors.
Everest Re's treaty underwriting process emphasizes a team approach among
Everest Re's underwriters, actuaries and claims staff. Treaties are reviewed for
compliance with Everest Re's general underwriting standards and certain larger
treaties are evaluated in part based upon actuarial analyses conducted by
Everest Re. The actuarial models used in such analyses are tailored in each case
to the exposures and experience underlying the specific treaty and the loss
experience for the risks covered by such treaties. Everest Re does not
separately evaluate each of the individual risks assumed under its treaties.
Everest Re does, however, generally evaluate the underwriting guidelines of its
ceding companies to determine their adequacy prior to entering into a treaty.
Everest Re, when appropriate, also conducts underwriting audits at the offices
of ceding companies to ensure that the ceding companies operate within
7
such guidelines. Underwriting audits focus on the quality of the underwriting
staff, the selection and pricing of risks and the price monitoring system and
the client's claims handling ability and financial stability.
Everest Re's domestic facultative underwriters operate within guidelines
specifying acceptable types of risks, limits and maximum risk exposures.
Specified classes of risks and large premium risks are referred to the Company's
New York facultative headquarters for specific review before premium quotations
are given to clients. In addition, Everest Re's guidelines require certain types
of risks to be submitted for review because of their aggregate limits,
complexity or volatility regardless of premium amount or size of the insured on
the underlying contract.
Everest National writes property, casualty and professional liability coverages
for homogeneous risks through select program managers. Everest National
evaluates these commercial programs based upon actuarial analysis and the
program manager's capabilities. Everest National's rates, forms and underwriting
guidelines are tailored to specific risk types.
RISK MANAGEMENT AND RETROCESSION ARRANGEMENTS
Everest Re manages its risk of loss through a combination of aggregate exposure
limits, underwriting guidelines that take into account risks, prices and
coverage, and retrocessional arrangements.
Everest Re is exposed to multiple insured losses arising out of a single
occurrence, whether a natural event such as a hurricane or an earthquake, or
other catastrophe, such as a riot or an explosion at a major factory. Any such
catastrophic event could generate insured losses in one or many of Everest Re's
treaties or lines of business. Everest Re employs various techniques, including
licensed software modelling, to assess its accumulated exposure to property
catastrophe losses and summarizes that exposure in terms of the probable maximum
loss ("PML"). The Company defines PML as its anticipated maximum loss, taking
into account contract limits, caused by a single catastrophe affecting a broad
contiguous geographic area, such as that caused by a hurricane or earthquake of
such a magnitude that it is expected to occur once in every 100 years.
Management estimates that the Company's greatest catastrophe exposure worldwide
from any single event is to hurricanes and earthquakes in the coastal regions of
the United States, where Everest Re estimates it has a PML exposure, before
reinsurance, of approximately $200 million in each such region based on its
current book of business. Similarly, management estimates that the largest
current PML exposure outside the United States is approximately $112 million.
There can be no assurance that Everest Re will not experience losses from one or
more catastrophic events that exceed, perhaps by a substantial amount, its
estimated PML.
Underwriting guidelines have been established for each business unit. These
guidelines place dollar limits on the amount of business that can be written
based on a variety of factors, including ceding company, line of business,
geographical location and risk hazards. In each case, those guidelines permit
limited exceptions, which must be authorized by the Company's senior management.
Everest Re does not typically retrocede individual risks, but does, from time to
time, purchase retrocessional protections where the underwriter deems it to be
prudent to reinsure a portion of the specific risk being assumed. In addition,
Everest Re has a property facultative retrocession program which allows it to
provide up to $30.5 million of coverage for a single facultative risk, with a
maximum net retention of $12.5 million per risk, and purchases three
retrocessional workers' compensation excess of loss treaties which collectively
provide $115 million of coverage in excess of $5 million of retained losses on
accidental death and dismemberment claims resulting from a catastrophe loss.
The Company also purchases catastrophe retrocessions covering the potential
accumulation of all property exposures that may be involved in the same
catastrophe, such as an earthquake or hurricane. In 1996, the attachment point
of the first layer of the worldwide catastrophe retrocession program was $25.0
million per catastrophe and the Company could have retroceded 70.0% of the next
$75.0 million of losses in excess of the attachment point incurred on a per
catastrophe and aggregate basis. The second layer of the catastrophe
retrocession program provided coverage from June 15, 1995 through June 15,
1996 and, effective January 1, 1996, allowed the cession of 30.0% ($10.0
million) of $33.3 million per occurrence in excess of $60.0 million in losses.
In addition, for the period from May 1, 1996 through May 1, 1997, the Company's
catastrophe retrocession program provides coverage of 51.0% of $15 million per
occurrence in excess of $10 million in losses incurred by the Company outside
8
of the United States. And, in 1996, Everest Re purchased an accident year
aggregate excess of loss retrocession agreement which provided up to $100.0
million of limit if Everest Re's statutory loss ratio had exceeded 81.0% for the
1996 accident year.
Effective January 1, 1997, the worldwide catastrophe retrocession program was
amended to provide coverage in each of the three years, 1997 through 1999,
subject to the retrocessionaire's right to cancel on November 1, 1998. The
attachment point of the catastrophe retrocession program is $25 million per
catastrophe and, in 1997, the Company can retrocede 75.0% of the next $75
million of losses in excess of the attachment point incurred on a per
catastrophe and aggregate basis. Fifty percent of the unused portion of the 1997
year's coverage increases the limit of coverage for 1998 (up to 75.0% of $112.5
million) and 50% of the unused portion of the 1997 and 1998 years' coverage
increases the limit of coverage for 1999 (up to 75.0% of $168.75 million). The
maximum recoverable under the catastrophe retrocession program over the
three-year period is $126.56 million. Also effective January 1, 1997, Everest Re
purchased an accident year aggregate excess of loss retrocession agreement which
provides up to $100 million of protection if Everest Re's statutory loss ratio
exceeds 79.0% for the 1997 accident year.
Although the catastrophe and aggregate excess of loss retrocessions have terms
which provide for additional premiums to be paid to the retrocessionaire in the
event that losses are ceded, all aspects of the Company's retrocessional program
have been structured to permit these agreements to be accounted for as
reinsurance under Statement of Financial Accounting Standards ("SFAS") No. 113.
If a single catastrophe were to occur in the United States that resulted in
$200.0 million of gross losses and allocated loss adjustment expenses ("ALAE")
in 1997 (an amount equivalent to Everest Re's PML), management estimates that
the effect (including additional premiums and retained losses and ALAE) on the
Company's income before taxes would be $118.9 million. This pre-tax net loss
estimate assumes that Everest Re's aggregate losses and ALAE for 1997 would
exceed the 79.0% loss ratio requirement in the aggregate excess of loss cover by
at least $100.0 million.
In addition, Everest Re purchased an aggregate stop loss retrocession agreement
(the "Stop Loss Agreement") from Gibraltar Casualty Company ("Gibraltar"), an
affiliate of The Prudential. See "Stop Loss Agreement".
As of December 31, 1996, Everest Re had retrocessional arrangements with 367
retrocessionaires, and it carried as an asset $749.1 million in reinsurance
receivables with respect to losses ceded to retrocessionaires, substantially all
of which will not be due to Everest Re until Everest Re makes payment on the
underlying claims. Of this amount, $397.0 million, or 53.0%, was receivable from
Gibraltar ($137.9 million, net of collateral held and liability balances for
which Everest Re has a contractual right of offset). An additional $150.0
million, or 20.0%, was receivable from Continental Insurance Company
("Continental"). None of the reinsurance receivables from Gibraltar or
Continental was in dispute or more than 90 days in arrears. Everest Re's
arrangement with Continental is managed on a funds held basis, which means that
Everest Re did not release premium payments to the retrocessionaire but rather
retains such payments to secure obligations of the retrocessionaire, records
them as a liability and reduces the liability account as payments become due. As
of December 31, 1996, such funds had reduced Everest Re's net exposure to
Continental to $99.8 million. No other retrocessionaire accounted for more than
$21.3 million of Everest Re's receivables.
No assurance can be given that Everest Re will be able to obtain retrocessional
coverage similar to that currently in place in the future. Although management
carefully selects its retrocessionaires, Everest Re is subject to credit risk
with respect to its retrocessions because the ceding of risk to
retrocessionaires does not relieve the reinsurer of its liability to ceding
companies.
RELATIONSHIPS WITH GIBRALTAR
During its early years, Everest Re also wrote some direct insurance. In 1978,
Everest Re expanded its direct insurance operation by forming Gibraltar as a
subsidiary. In 1985, Gibraltar and Everest Re ceased writing new and renewal
direct insurance, and Gibraltar was put into run-off.
While Gibraltar actively wrote direct insurance, it was able to reinsure certain
business through Everest Re's management underwriting facility ("MUF"). Begun in
1977, MUF was a reinsurance arrangement pursuant to which Everest Re ceded
certain business to a number of insurance and reinsurance companies (the "MUF
Participants"), many of them domiciled outside the United States. Gibraltar
ceded its MUF-qualifying business first to Everest Re, which then immediately
and entirely retroceded it to the MUF Participants. As a result of these
9
cessions to Everest Re, Everest Re became, and remains, a reinsurer of Gibraltar
with respect to the Gibraltar MUF cessions. As of December 31, 1996, Gibraltar's
reinsurance receivables from Everest Re totaled $143.5 million. MUF became
inactive with respect to new business in 1991.
Following the 1985 decision to put Gibraltar in runoff, Everest Re and Gibraltar
entered into the following agreements pursuant to which Gibraltar became, and
remains, a reinsurer of Everest Re (the "Gibraltar Contracts"):
* In 1986, Gibraltar reinsured all insurance obligations of Everest Re pursuant
to certain insurance contracts written by Everest Re's former direct excess
insurance operations, which ceased writing business in 1985 (the "Ceded
Direct Insurance") (the "Direct Excess Retrocession").
* In 1989, Gibraltar reinsured Everest Re's medical malpractice and other
professional liability reinsurance written in 1988 and prior years (the
"Professional Liability Retrocession").
* During 1985 through 1990, Gibraltar and Everest Re commuted the obligations
of a number of MUF Participants. In exchange for a cash payment from each
commuted MUF Participant, Gibraltar assumed the obligations of such MUF
Participant. The commuted business included assumed reinsurance originally
retroceded to MUF Participants by Everest Re and direct insurance ceded by
Everest Re and Gibraltar.
In 1991, Everest Re distributed the stock of Gibraltar to PRUCO, Inc., a direct,
wholly-owned subsidiary of The Prudential ("PRUCO"). Simultaneously, PRUCO and
Gibraltar entered into a surplus maintenance agreement pursuant to which PRUCO
agreed to purchase such amount of surplus notes as may be necessary to maintain
Gibraltar's statutory surplus at no less than $15 million at all times. PRUCO
shortly thereafter distributed the stock of Gibraltar to The Prudential.
The Direct Excess Retrocession can be terminated by either Gibraltar or Everest
Re upon 90 days' notice, whereas The Professional Liability Retrocession can
only be terminated by Everest Re. A total of $119.6 million of the Gibraltar
receivables is attributable to the Direct Excess Retrocession. If the Direct
Excess Retrocession is terminated, all outstanding claims, including incurred
but not reported losses ("IBNR"), will be commuted with the value of such
claims, which may not exceed Everest Re's then outstanding loss reserves with
respect thereto, to be mutually agreed upon or, if no agreement can be reached,
determined by an actuary or appraiser mutually appointed. At the time of the
IPO, the parties agreed that if Gibraltar terminates the Direct Excess
Retrocession and the parties cannot agree on the value of the claims to be
commuted, Everest Re's chief actuary will determine such value. Gibraltar could
arbitrate the actuary's determination. If the Direct Excess Retrocession were to
be so terminated and Everest Re's ultimate losses on the Ceded Direct Insurance
were to exceed the commutation amount, the resulting reserve increases would
constitute adverse development eligible for coverage under the Stop Loss
Agreement (described below), subject to the applicable limits thereof.
STOP LOSS AGREEMENT
On October 5, 1995, Everest Re and Gibraltar entered into an aggregate stop loss
retrocession agreement (the "Stop Loss Agreement"). The Stop Loss Agreement is
intended to mitigate the impact on the Company's future earnings that could
result from the adverse development, if any, of Everest Re's consolidated
reserves for losses, allocated LAE and uncollectible reinsurance as of June 30,
1995, including IBNR; provided, that adverse development, if any, of such
reserves relating to catastrophes (as defined in the Stop Loss Agreement) will
only be covered to the extent that the catastrophe event to which such reserves
relate occurred prior to January 1, 1995. Such adverse development is referred
to herein as "Adverse Development". For a description of the Stop Loss
Agreement, see Note 5 of Notes to Consolidated Financial Statements. Also See
Note 6F of Notes to the Consolidated Financial Statements.
STANDBY CAPITAL CONTRIBUTION AGREEMENT AND PRUCO INDEMNITY
On October 5, 1995, Holdings agreed, pursuant to a Standby Capital
Contribution Agreement (the "Capital Contribution Agreement"), to
make certain capital contributions ("Capital Contributions") to Everest
Re. And, on October 5, 1995, PRUCO agreed to make payments ("Indemnity
Payments") to Holdings, pursuant to an Indemnity Agreement (the "PRUCO
Indemnity"), in an amount equal to the Capital Contributions. For a
10
description of the Capital Contribution Agreement and the PRUCO Indemnity, see
Note 6A of Notes to the Consolidated Financial Statements.
PRUDENTIAL GUARANTEES
On October 5, 1995, The Prudential guaranteed (i) up to $775.0 million of
Gibraltar's obligations to Everest Re, and (ii) PRUCO's obligation to make the
Indemnity Payments (the "Prudential Guarantees"). The Prudential agreed, subject
to the terms and conditions thereof, to guarantee Gibraltar's payment
obligations with respect to (i) the Stop Loss Agreement, subject to maximum
aggregate payments of $375.0 million, and (ii) payment obligations under the
Gibraltar Contracts, subject to maximum aggregate payments of $400.0 million.
The maximum aggregate payments under the Prudential Guarantee of Gibraltar's
obligations will be reduced in certain circumstances to take account of payments
made and collateral provided in respect of the guaranteed obligations.
As of December 31, 1996, based on publicly available information, The Prudential
had statutory basis total assets of $178.6 billion and statutory surplus of $9.4
billion.
CLAIMS
Claims are managed by the Company's professional claims staff whose
responsibilities include reviewing initial loss reports and coverage issues,
monitoring claims handling activities of ceding companies, establishing and
adjusting proper case reserves and approving payment of claims. In addition to
claims assessment, processing and payment, the claims staff selectively conducts
comprehensive claims audits of both specific claims and overall claims
procedures at the offices of selected ceding companies.
RESERVES FOR UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
Significant periods of time may elapse between the occurrence of an insured
loss, the reporting of the loss to the ceding company and the reinsurer and the
ceding company's payment of that loss and subsequent payments to the ceding
company by the reinsurer. To recognize liabilities for unpaid losses and loss
adjustment expenses ("LAE"), insurers and reinsurers establish reserves, which
are balance sheet liabilities representing estimates of future amounts needed to
pay reported and unreported claims and related expenses on losses that have
already occurred. Actual losses and LAE paid may deviate, perhaps substantially,
from such reserves. To the extent reserves prove to be insufficient to cover
actual losses and LAE after taking into account available retrocessional
coverage, including the reinsurance provided through the Stop Loss Agreement,
Everest Re would have to augment such reserves and incur a charge to earnings
which could be material in the period such augmentation takes place. See ITEM 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Loss and LAE Reserves".
While the reserving process is difficult and subjective for the ceding
companies, the inherent uncertainties of estimating such reserves are even
greater for the reinsurer, due primarily to the longer time between the date of
an occurrence and the reporting of any attendant claims to the reinsurer, the
diversity of development patterns among different types of reinsurance treaties
or facultative contracts, the necessary reliance on the ceding companies for
information regarding reported claims and differing reserving practices among
ceding companies. In addition, trends that have affected development of
liabilities in the past may not necessarily occur or affect liability
development to the same degree in the future. Thus, actual losses and LAE may
deviate, perhaps substantially, from estimates of reserves reflected in the
Company's consolidated financial statements.
Like many other property and casualty insurance and reinsurance companies,
Everest Re has experienced adverse loss development for prior accident years,
which has led to adjustments in losses and LAE reserves. The increase in
reserves for prior accident years reduced net income for the periods in which
the adjustments were made. There can be no assurance that adverse development
from prior years will not continue in the future or that such adverse
development will not have a material adverse effect on net income. Adverse
Development will be reinsured under the Stop Loss Agreement, up to the maximum
limits thereunder and subject to the other terms and conditions thereof. See
"Relationships with Gibraltar" and "Stop Loss Agreement".
CHANGES IN HISTORICAL RESERVES
The following table shows changes in statutory historical loss reserves for
Everest Re for 1986 and subsequent years. The top line of each table shows the
estimated reserves for unpaid losses and LAE recorded at each year end date.
11
Each amount in the top line represents the estimated amount of future payments
for losses and LAE on claims occurring in that year and in prior years. The
upper (paid) portion of the table presents the cumulative amounts paid through
each subsequent year on those claims for which reserves were carried as of each
specific year end. The lower (liability re-estimated) portion shows the
re-estimated amount of the previously recorded reserves based on experience as
of the end of each succeeding year. The estimate changes as more information
becomes known about the actual claims for which the initial reserves were
carried. The cumulative redundancy/deficiency line represents the cumulative
change in estimates since the initial reserve was established. It is equal to
the latest liability re-estimated amount less the initial reserve.
Each amount other than the original reserves in the top half of the table below
includes the effects of all changes in amounts for prior periods. For example,
if a loss settled in 1989 for $100,000 was first reserved in 1986 at $60,000 and
remained unchanged until settlement, the $40,000 deficiency (actual loss minus
original estimate) would be included in the cumulative redundancy (deficiency)
in each of the years in the period 1986 through 1988 shown below. Conditions and
trends that have affected development of liability in the past may not
necessarily occur in the future. Accordingly, it may not be appropriate to
extrapolate future redundancies or deficiencies based on this table.
12
TEN YEAR STATUTORY LOSS DEVELOPMENT TABLE PRESENTED NET OF REINSURANCE WITH SUPPLEMENTAL GROSS DATA(1)(2)
Years Ended December 31,
------------------------------------------------------------------------------------------------------------
1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996
(Dollars in millions) -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Reserves for unpaid
loss and LAE $1,258.0 $1,676.7 $1,775.8 $1,766.7 $1,891.9 $1,752.9 $1,854.7 $1,934.2 $2,104.3 $2,327.7 $2,626.3
Paid (cumulative)
as of:
One year later 115.1 345.7 299.1 321.9 597.1 333.3 461.5 403.5 359.5 282.1
Two years later 307.1 582.3 522.3 829.5 785.9 550.4 740.1 627.7 638.0
Three years later 505.3 757.0 984.3 966.3 933.1 758.3 897.0 820.5
Four years later 655.5 1,189.1 1,096.1 1,078.2 1,096.9 868.1 1,036.0
Five years later 1,068.0 1,278.7 1,189.5 1,209.0 1,176.9 970.0
Six years later 1,142.3 1,358.6 1,308.9 1,276.3 1,257.3
Seven years later 1,212.1 1,478.7 1,367.9 1,346.6
Eight years later 1,312.0 1,532.0 1,430.7
Nine years later 1,367.7 1,591.1
Ten years later 1,424.8
Liability re-estimated
as of:
One year later 1,336.9 1,767.0 1,794.6 1,835.4 1,866.3 1,737.8 1,929.2 2,008.5 2,120.8 2,298.1
Two years later 1,421.3 1,841.5 1,813.2 1,834.3 1,872.8 1,775.7 1,988.9 2,015.4 2,233.7
Three years later 1,563.0 1,839.6 1,805.6 1,849.5 1,907.5 1,843.3 2,010.0 2,119.0
Four years later 1,607.1 1,879.1 1,867.6 1,913.6 1,976.5 1,855.7 2,111.9
Five years later 1,659.8 1,942.2 1,934.5 1,982.3 1,984.3 1,955.1
Six years later 1,714.4 2,029.1 2,007.6 1,984.1 2,080.0
Seven years later 1,819.6 2,118.0 2,008.0 2,089.4
Eight years later 1,910.7 2,125.2 2,122.6
Nine years later 1,926.6 2,243.1
Ten years later 2,037.0
Cumulative redundancy/
(deficiency) $ (779.0) $ (566.4) $ (346.8) $ (322.7) $ (188.1) $ (202.2) $ (257.2) $ (184.8) $ (129.4) $ 29.6
======== ======== ======== ======== ======== ======== ======== ======== ======== ========
Gross liability-end of year $2,476.7 $2,576.0 $2,752.8 $3,016.9 $3,298.2
Reinsurance receivable 622.0 641.8 648.5 689.2 671.9
-------- -------- -------- -------- --------
Net liability-end of year 1,854.7 1,934.2 2,104.3 2,327.7 2,626.3
-------- -------- -------- -------- ========
Gross re-estimated
liability at December 31,
1996 3,058.7 2,988.4 3,019.8 3,184.6
Re-estimated receivable
at December 31, 1996 946.8 869.4 786.1 886.5
-------- -------- -------- --------
Net re-estimated liability
at December 31, 1996 2,111.9 2,119.0 2,233.7 2,298.1
-------- -------- -------- --------
Gross cumulative
redundancy/(deficiency) $ (582.0) $ (412.4) $ (267.0) $ (167.7)
======== ======== ======== ========
- - ----------
(1) Includes Gibraltar data through September 31, 1991
(2) Includes Everest Re Ltd. data which was previously excluded. All prior
period amounts have been restated for this change.
13
For years prior to 1987, management believes that two factors had the most
significant impact on loss development. First, through the mid-1980's, a number
of industry and external factors, such as the propensity of courts to award
large damage awards in liability cases, combined to increase loss frequency and
severity to unexpectedly high levels. Second, contracts written prior to 1986
contained coverage terms which, for Everest Re and the industry in general, have
been interpreted by courts to provide coverage for asbestos and environmental
exposures not contemplated by either the pricing or the initial reserving of the
contracts. Legal developments during the mid-1980's necessitated additional
reserving for such exposures on both a case and IBNR basis. No losses were
incurred net of reinsurance with respect to asbestos and environmental claims in
1996 or 1995. Incurred losses net of reinsurance with respect to asbestos and
environmental claims were $40.5 million, $70.6 million and $35.4 million in
1994, 1993 and 1992, respectively. Substantially all of these losses related to
pre-1986 exposures.
To the extent loss reserves on assumed reinsurance need to be increased, Everest
Re would be entitled to certain payments under the Stop Loss Agreement. See
"Stop Loss Agreement". Additionally, Holdings may be required to make payments
under the Capital Contribution Agreement for which it would be entitled to
indemnification under the PRUCO Indemnity. See "Standby Capital Contribution
Agreement and PRUCO Indemnity". To the extent loss reserves on the Ceded Direct
Insurance need to be increased and subject to the terms of the Gibraltar
Contracts, Everest Re will be entitled to 100% protection from Gibraltar under
the Gibraltar Contracts, which reinsurance obligations are guaranteed by The
Prudential subject to the terms and conditions of the applicable Prudential
Guarantee. See "Relationships with Gibraltar" and "Prudential Guarantees".
Management believes that adequate provision has been made for Everest Re's loss
and LAE reserves regardless of the availability of any such payments under the
Stop Loss Agreement, the PRUCO Indemnity, and the Prudential Guarantees.
Additionally, while there can be no assurance that reserves for and losses from
these claims will not increase in the future, management believes that Everest
Re's existing reserves and retrocessional arrangements and payments available
under the Stop Loss Agreement, the PRUCO Indemnity and the Prudential Guarantees
lessen the probability that such increases would have a material adverse effect
on the Company's financial condition, results of operations or cash flows.
The Ten Year Statutory Loss Development Table includes Gibraltar data until
September 30, 1991 at which time Everest Re distributed the stock of Gibraltar
to PRUCO. Thus the 1986-1990 "Reserves for unpaid loss and LAE" includes the
Gibraltar liability. Similarly, the "Paid (cumulative) as of" and "Liability
re-estimated as of" data include Gibraltar experience until September 30, 1991.
At the time of the distribution of Gibraltar, Gibraltar still had $288.5 million
of reserves outstanding. To more accurately reflect reserve development, the
Gibraltar reserves were removed from the reserves for unpaid losses and LAE line
for periods after 1991 and the $288.5 million was treated as a paid loss. The
amounts so treated as paid in 1991 were $281.1 million and $285.6 million for
the years 1986 and 1987, respectively, and $288.5 for each of the years 1988
through 1990. The following table identifies the cumulative reserve
redundancy/(deficiency) relating to Gibraltar only, Everest Re excluding
Gibraltar and the consolidated group.
CUMULATIVE RESERVE REDUNDANCY/(DEFICIENCY) ATTRIBUTABLE TO GIBRALTAR
Years Ended December 31,
------------------------------------------------------------------------------------------------
1986 1987 1988 1989 1990 1991 1992 1993 1994 1995
(Dollars in millions) ------- ------- ------- ------- ------- ------- ------- ------- ------- -----
Everest Re excluding
Gibraltar $(573.1) $(389.8) $(216.9) $(224.6) $(158.1) $(202.2) $(257.2) $(184.8) $(129.4) $29.6
Gibraltar (205.9) (176.6) (129.9) (98.1) (30.0) -- -- -- -- --
------- -------- ------- ------- ------- ------- ------- ------- ------- -----
Consolidated $(779.0) $(566.4) $(346.8) $(322.7) $(188.1) $(202.2) $(257.2) $(184.8) $(129.4) $29.6
======= ======== ======= ======= ======= ======= ======= ======= ======= =====
14
The following table is derived from the Ten Year Statutory Loss Development
Table above and summarizes the effect of reserve re-estimates, net of
reinsurance, on calendar year operations for the same ten year period ended
December 31, 1996. Each column represents the amount of reserve re-estimates
made in the indicated calendar year and shows the accident years to which the
re-estimates are applicable. The amounts in the total accident year column on
the far right represent the cumulative reserve re-estimates for the indicated
accident years.
EFFECT OF RESERVE REESTIMATES ON CALENDAR YEAR OPERATIONS
Cumulative
Re-estimates
Calendar Year Ended December 31, for each
------------------------------------------------------------------------------------------ Accident
1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 Year
------ ------ ------- ------ ------ ------ ------- ------ ------ ------- ------------
(Dollars in millions)
Accident Years
1986 & prior $(78.9) $(84.4) $(141.8) $(44.1) $(52.7) $(54.6) $(105.2) $(91.0) $(18.9) $(107.4) $(779.0)
1987 (7.0) 68.3 46.1 13.2 (8.5) 18.3 2.1 11.7 (10.4) 133.8
1988 54.8 (20.6) 47.1 1.1 20.0 15.8 6.8 3.3 128.3
1989 (50.1) (6.5) 46.9 2.8 4.4 (1.4) 9.2 5.3
1990 24.5 8.7 29.4 (0.4) (6.0) 9.7 65.9
1991 21.6 (3.2) 1.4 (4.6) (3.8) 11.4
1992 (36.6) 7.9 (8.7) (2.5) (39.9)
1993 (14.5) 14.2 (1.7) (2.0)
1994 (9.8) (9.2) (19.0)
1995 142.4 142.4
Total calendar
year effect $(78.9) $(91.4) $ (18.7) $(68.7) $ 25.6 $ 15.2 $ (74.5) $(74.3) $(16.7) $ 29.6 $(352.8)
As illustrated by this table, the factors which caused the deficiencies shown in
the Ten Year Statutory Loss Development Table relate almost entirely to accident
years prior to 1986. With the exception of the 1992 accident year, which
included Hurricane Andrew, the original reserves established for each accident
year since 1986 have developed either positively or in a manner that is not
materially adverse. Adverse development relating to accident years prior to July
1, 1995 (prior to January 1, 1995 for catastrophe losses) is mitigated by
recoveries under the Stop Loss Agreement. As the Stop Loss Agreement was entered
into in 1995, recoveries thereunder are reflected in the 1995 accident year
rather than in the accident year which included the underlying adverse
development.
The following table presents a reconciliation of beginning and ending reserve
balances for the years indicated on a GAAP basis:
RECONCILIATION OF RESERVES FOR LOSSES AND LAE
Years Ended December 31,
----------------------------------
(Dollars in millions) 1996 1995 1994
-------- -------- --------
Reserves at beginning of period $2,969.3 $2,706.4 $2,540.1
-------- -------- --------
Incurred related to:
Current year 745.6 658.0 646.5
Prior years (29.6) 16.7 74.3
-------- -------- --------
Total incurred losses 716.0 674.7 720.8
-------- -------- --------
Paid related to:
Current year 139.1 92.9 157.7
Prior years 282.1 359.5 403.5
-------- -------- --------
Total paid losses 421.2 452.4 561.2
-------- -------- --------
Change in reinsurance receivables
on unpaid losses and LAE (17.3) 40.6 6.7
-------- -------- --------
Reserves at end of period $3,246.9 $2,969.3 $2,706.4
======== ======== ========
15
The reconciliation of reserves on a GAAP basis to reserves reported on a
statutory basis for each of the three years in the period ended December 31,
1996 is shown below:
RECONCILIATION OF RESERVES FOR LOSSES AND LAE FROM STATUTORY BASIS TO GAAP BASIS
Years Ended December 31,
-------------------------------
(Dollars in millions) 1996 1995 1994
-------- -------- --------
Statutory reserves-net $2,387.7 $2,120.0 $1,934.6
Statutory retroactive reinsurance reserves 15.4 5.4 --
Financing arrangement (10.3) (10.3) (10.3)
-------- -------- --------
Subtotal 2,392.8 2,115.1 1,924.3
Foreign subsidiary reserves 233.5 212.6 180.0
Subtotal-net reserves as shown in loss
development schedule 2,626.3 2,327.7 2,104.3
Reinsurance receivable on unpaid losses 671.9 689.2 648.5
-------- -------- --------
Subtotal-gross reserves as shown in loss
development schedule 3,298.2 3,016.9 2,752.8
-------- -------- --------
Foreign translation effect of Canadian reserves (51.3) (47.6) (46.4)
-------- -------- --------
Reserves on a GAAP basis $3,246.9 $2,969.3 $2,706.4
======== ======== ========
Statutory reserves are presented net of reinsurance receivables on unpaid loss
and LAE for years ended December 31, 1996, 1995 and 1994. The amounts shown as
financing arrangement in 1996, 1995 and 1994 relate to a single treaty which did
not qualify for reinsurance accounting under GAAP.
RESERVES FOR ASBESTOS AND ENVIRONMENTAL LOSSES AND LOSS ADJUSTMENT EXPENSES
Everest Re's reserves include an estimate of Everest Re's ultimate liability for
asbestos and environmental claims for which ultimate value cannot be estimated
using traditional reserving techniques. There are significant uncertainties in
estimating the amount of Everest Re's potential losses from asbestos and
environmental claims. See ITEM 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Asbestos and Environmental
Exposures" and Note 8 of Notes to Consolidated Financial Statements.
The following table summarizes the composition of Everest Re's total reserves
for asbestos and environmental losses, gross and net of reinsurance for the
years ended December 31, 1996, 1995, 1994 and 1993:
Years Ended December 31,
----------------------------
(Dollars in millions) 1996 1995 1994
------- ------- -------
Case reserves reported by ceding companies $ 101.2 $ 108.5 $ 112.9
Additional reserves established by Everest Re
(assumed reinsurance) 50.1 43.8 39.8
Case reserves established by Everest Re
(Ceded Direct Insurance) 52.8 50.3 52.3
IBNR reserves 219.2 225.9 240.6
------- ------- -------
Gross reserves 423.3 428.5 445.5
Reinsurance receivable (222.3) (230.8) (241.9)
------- ------- -------
Net reserves $ 201.0 $ 197.7 $ 203.7
======= ======= =======
Everest Re's asbestos and environmental claims are managed by an experienced
staff consisting of seven people. This claims unit works closely with members of
Everest Re's in-house legal staff on legal developments. The claims unit also
meets with the management of primary insurance companies to understand their
asbestos and environmental exposures and reserving practices.
Additional losses, the type or magnitude of which cannot be foreseen by the
Company, or the reinsurance industry generally, may emerge in the future. Such
future emergence, to the extent not covered by existing retrocessional
16
contracts, including the Stop Loss Agreement, could have material adverse
effects on the Company's future financial condition, results of operations and
cash flows.
INVESTMENTS
Everest Re's overall financial strength and results of operations are, in part,
dependent on the quality and performance of its investment portfolio. Net
investment income and net realized capital gains (losses) on Everest Re's
invested assets constituted 16.9%, 21.1% and 13.5% of the Company's revenues for
the years ending December 31, 1996, 1995 and 1994, respectively. The Company's
cash and invested assets totalled $3,624.6 million at December 31, 1996 of which
95.0% were cash or investment grade fixed maturities.
Everest Re's investment strategy emphasizes maintaining a high quality
investment portfolio while maximizing long-term after-tax investment income.
Everest Re's current investment strategy seeks to maximize after-tax income
through a high quality, diversified, taxable bond and tax-exempt municipal bond
portfolio, while maintaining an adequate level of liquidity. Everest Re's mix of
taxable and tax-preferenced investments is adjusted continuously, consistent
with Everest Re's current and projected operating results, market conditions and
tax position. Additionally, Everest Re invests in marketable equity securities
which it believes will enhance the risk-adjusted total return of the investment
portfolio.
The Investment Committee of Everest Re's Board of Directors is responsible for
establishing investment policy and guidelines and, together with senior
management, for overseeing their execution. Everest Re's investment portfolio is
in compliance with the insurance laws of the state of Delaware, its domiciliary
state, and of other jurisdictions in which it is regulated. These laws prescribe
the kind, quality and concentration of investments which may be made by
insurance companies. In general, these laws permit investments, within specified
limits and subject to certain qualifications, in government obligations,
corporate bonds, preferred and common stocks, real estate mortgages and real
estate. An independent investment advisor is utilized to manage the Company's
investment portfolio within the established guidelines and is required to report
activities on a current basis and to meet with the Company periodically to
review and discuss the portfolio structure, securities selection and performance
results.
Everest Re's investment guidelines include a duration guideline of three to six
years. The duration of an investment is based on the maturity of the security
but also reflects the possibility of early prepayment of such security without a
prepayment penalty. This investment duration guideline is sensitive to Everest
Re's average duration of potential liabilities which, at December 31, 1996, was
approximately five years. Liability duration is determined based on the
estimated payouts of underwriting liabilities using standard duration
calculations.
Approximately 13.2% of the Company's consolidated reserves for losses and LAE
and unearned premiums represents estimated amounts payable in foreign
currencies. For each currency in which the Company has established substantial
reserves, the Company seeks to maintain invested assets denominated in such
currency in an amount approximately equal to the estimated liabilities which are
denominated in such currency.
As of December 31, 1996, 99.4% of Everest Re's fixed maturities consisted of
investment grade securities. The average maturity of fixed maturities was 7.8
years at December 31, 1996, and their overall duration was 5.2 years. As of
December 31, 1996, Everest Re did not have any material holdings of issuers who
management believes are experiencing cash flow difficulty to an extent that the
ability of the obligor to meet debt service payments is threatened. Everest Re's
current investment strategy does not contemplate additional investment in
non-investment grade securities or any investments in commercial real estate or
direct commercial mortgages. Also, investments in derivative products (i.e.,
products which include features such as futures, forwards, swaps, options and
other investments with similar characteristics) are generally prohibited,
without the prior approval of Everest Re's Investment Committee. At December 31,
1996, the Company had no investments in derivative products.
As of December 31, 1996, the common stock portfolio was $147.3 million at market
value, is managed with a growth and income orientation and consisted primarily
of investments in dividend paying mid and large capitalization companies. Also
included in the stock portfolio are strategic minority interests in Corporacion
MAPFRE S.A. ("MAPFRE"), an insurance group in Spain, and three other companies.
These companies accounted for $42.5 million (of which $35.8 million related to
MAPFRE) or 28.8% of Everest Re's total equity investments as of December 31,
1996 and 1.2% of total cash and investments.
17
The following table reflects investment results for Everest Re for each of the
five years in the period ended December 31, 1996:
Pre-Tax
Pre-Tax Realized Net
Average Investment Effective Capital Gains
Investments(1) Income(2) Yield(3) (Losses)
-------------- ---------- --------- -------------
Years Ended December 31,
(Dollars in millions)
1996 $3,416.4 $191.9 5.62% $5.7
1995 2,894.9 166.0 5.73 33.8
1994 2,620.9 143.6 5.48 (10.5)
1993 2,532.2 141.1 5.57 78.8
1992 2,407.2 159.3 6.62 87.5
- - ----------------
(1) Average of the beginning and ending carrying values of investments and
cash, less net funds held and non-interest bearing cash. Common stocks and
nonredeemable preferred stocks are carried at fair market value. Bonds and
redeemable preferred stocks are carried at amortized cost except that,
effective December 31, 1993, bonds and redeemable preferred stock
available for sale are carried at fair market value.
(2) After investment expenses, excluding realized net capital gains (losses).
(3) Pre-tax net investment income for the period divided by average
investments for the same period and annualized for interim periods.
The following table summarizes fixed maturities as of December 31, 1996 and
1995:
Amortized Unrealized Unrealized Market
Cost Appreciation Depreciation Value
(Dollars in millions) --------- ------------ ------------ --------
December 31, 1996:
U.S. Treasury securities and obligations
of U.S. government agencies and
corporations $ 192.6 $ 1.2 $1.4 $ 192.4
Obligations of states and political
subdivisions 1,309.9 56.1 1.0 1,365.0
Corporate Securities 740.0 11.4 0.3 751.1
Mortgage-backed securities 487.1 7.7 2.0 492.8
Foreign debt securities 545.2 24.7 0.9 569.0
-------- ------ ---- --------
Total $3,274.8 $101.1 $5.6 $3,370.3
======== ====== ==== ========
December 31, 1995:
U.S. Treasury securities and obligations
of U.S. government agencies and
corporations $ 101.7 $ 2.4 $0.4 $ 103.7
Obligations of states and political
subdivisions 1,185.4 65.0 0.4 1,250.0
Corporate Securities 773.4 25.0 0.7 797.7
Mortgage-backed securities 355.7 9.9 0.4 365.2
Foreign debt securities 455.5 17.7 3.7 469.5
-------- ------ ---- --------
Total $2,871.8 $120.0 $5.7 $2,986.1
======== ====== ==== ========
18
The following table presents the credit quality distribution by the National
Association of Insurance Commissioners ("NAIC") rating of Everest Re's fixed
maturities as of December 31, 1996:
Held to Available
(Dollars in millions) Maturity For Sale
NAIC (Amortized (Market Percent of
Rating(1) Standard and Poor's Equivalent Description Cost) Value) Total Total
- - --------- ------------------------------------------ ---------- --------- -------- ----------
1 AAA/AA/A $78.3 $2,622.4 $2,700.7 80.3%
2 BBB 1.8 310.3 312.1 9.3
3 BB -- 19.4 19.4 0.6
4 B -- -- -- --
5 CCC/CC/C 0.4 -- 0.4 0.0
6 CI/D -- 1.4 1.4 0.0
Foreign subsidiary investments(2) -- 328.5 328.5 9.8
----- -------- -------- -----
Total(3) $80.5 $3,282.0 $3,362.5 100.0%
===== ======== ======== =====
- - ------------
(1) The Securities Valuation Office of the NAIC maintains a security valuation
system that assigns a numerical rating to securities. The numerical
ratings generally correspond to S & P's classifications, as indicated,
although S & P's has not necessarily rated the securities indicated.
Rating categories 1 and 2 are considered investment grade and categories 3
through 6 are considered non-investment grade.
(2) Foreign subsidiary investments are not subject to NAIC ratings but, in the
opinion of the investment manager, are of high investment grade.
(3) Certain totals may not reconcile due to rounding.
The following table summarizes fixed maturities by contractual maturity as of
December 31, 1996:
Held to Maturity Available For Sale Total Percent of
(Amortized Cost) (Market Value) Balance Sheet Balance Sheet
(Dollars in millions) ---------------- ------------------ ------------- -------------
Maturity category:
Less than one year $10.7 $ 75.7 $ 86.4 2.6%
Due after 1-5 years 26.8 655.1 681.9 20.3%
Due after 5-10 years 7.2 963.1 970.3 28.9%
Due after 10 years 35.8 1,095.3 1,131.1 33.6%
----- -------- -------- -----
Subtotal 80.5 2,789.2 2,869.7 85.3%
Mortgage-backed securities(1) -- 492.8 492.8 14.7%
----- -------- -------- -----
Total(2) $80.5 $3,282.0 $3,362.5 100.0%
===== ======== ======== =====
- - ------------
(1) Mortgage-backed securities generally are more likely to be prepaid than
other fixed maturities. Therefore contractual maturities are excluded
from this table since they may not be indicative of actual maturities.
(2) Certain totals may not reconcile due to rounding.
RATINGS
Everest Re currently has a rating of "A" (Excellent) from A.M. Best, an
independent insurance industry rating organization which rates companies on
factors of concern to policyholders. A.M. Best states that the "A" (Excellent)
rating is assigned to those companies which, in its opinion, have achieved
excellent overall performance when compared to the standards established by A.M.
Best and have demonstrated a strong ability to meet their obligations to
policyholders over a long period of time. The "A" (Excellent) rating is the
third highest of fifteen ratings assigned by A.M. Best, which range from "A++"
(Superior) to "F" (In liquidation). Additionally, A.M. Best has eleven
classifications within the "Not Assigned" category.
Everest Re currently has a claims-paying ability rating of "A+" (Good)
from Standard & Poor's, an independent rating organization which rates an
insurance company's financial capacity to meet the obligations of its
insurance policies in accordance with their terms. Standard & Poor's states that
the "A+" rating is assigned to those companies which, in its opinion, have
secure financial capacity to meet policyholder obligations. The "A+" rating is
19
the fifth highest of eighteen ratings assigned by Standard & Poor's, which range
from "AAA" (Superior) to "R" (Regulatory Action). Ratings from AA to B may be
modified by the use of a plus or minus sign to show relative standing of the
insurer within those rating categories.
Everest Re currently has an insurance financial strength rating of "A2" (Good)
from Moody's. Moody's states that insurance companies rated "A" offer good
financial security. However, elements may be present which suggest a
susceptibility to impairment sometime in the future. Moody's rating gradations
are shown through the use of nine distinct symbols, each symbol representing a
group of ratings in which the financial security is broadly the same. The "A2"
(Good) rating is the sixth highest of ratings assigned by Moody's, which range
from "Aaa" (Exceptional) to "C" (Lowest). Moody's further distinguishes the
ranking of an insurer within its generic rating classification from Aa to B with
1, 2 and 3 ("1" being the highest).
A.M. Best's, Standard & Poor's and Moody's ratings are based upon factors of
concern to policyholders and should not be considered an indication of the
degree or lack of risk involved in an equity investment in an insurance company.
Each of these rating agencies reviews its ratings periodically, and there can be
no assurance that Everest Re's ratings will be maintained in the future.
COMPETITION
The property and casualty reinsurance business is highly competitive.
Competition with respect to the types of reinsurance in which Everest Re is
engaged is based on many factors, including the perceived overall financial
strength of the reinsurer, A.M. Best's and/or Standard & Poor's rating of the
reinsurer, underwriting expertise, the states where the reinsurer is licensed or
otherwise authorized, premiums charged, other terms and conditions of the
reinsurance offered, services offered, speed of claims payment and reputation
and experience in lines written. Everest Re competes for its business in the
United States and international reinsurance markets with numerous international
and domestic reinsurance companies, some of which have greater financial
resources than Everest Re.
Everest Re's competitors include independent reinsurance companies, subsidiaries
or affiliates of established worldwide insurance companies, reinsurance
departments of certain primary insurance companies and domestic and
international underwriting operations. Some of these competitors have greater
financial resources than Everest Re, have been operating for longer than Everest
Re, and have established long-term and continuing business relationships
throughout the industry, which can be a significant competitive advantage.
Although most U.S. reinsurance companies operate in the broker market, most of
Everest Re's largest competitors work directly with ceding companies, competing
with brokers. Management believes that Everest Re's major competitors are large
U.S. and foreign reinsurance companies.
Since 1987, the industry has experienced increased global competition. During
this period, primary insurers retained an increasing portion of their business,
which, together with the competitive market conditions, resulted in excess
reinsurance capacity and generally low rates of premium growth. In the early
1990s, several well-capitalized new Bermuda-based companies have entered the
reinsurance industry, and added significant capacity, particularly in the
catastrophe reinsurance market, and rendered future rate improvement uncertain.
In addition, Lloyd's of London has relaxed its requirement that syndicate
members have unlimited liability for losses and has allowed limited liability
investors to join syndicates, thereby increasing the reinsurance capacity at
Lloyd's. In 1996, Lloyd's has also implemented its reconstruction and renewal
plan in an attempt to separate past losses from the current market participants
and to provide a more secure market going forward.
Management believes that since 1987, a number of factors, including global
competition, the emergence of significant reinsurance capacity from the Bermuda
and rejuvenated Lloyds' markets, higher retentions by primary insurance
companies and consolidation in the insurance industry, have resulted in
increasingly competitive market conditions across most lines of business and
have influenced the softening of prices and contract terms in the current
marketplace.
The Company may, in the future, face additional competition from other
well-capitalized companies or from market participants that may devote more of
their capital to the reinsurance business or from the capital markets entry into
insurance and reinsurance investment products. And, the Company believes that
the insurance and reinsurance industries will continue to undergo further
consolidation, including reinsurance brokers, whose role will become stronger,
and that reinsurers will need significant size and financial strength to compete
effectively.
20
EMPLOYEES
As of March 3, 1997, Everest Re employed 400 persons. Management believes that
its employee relations are good. None of Everest Re's employees are subject to
collective bargaining agreements, and the Company is not aware of any current
efforts to implement such agreements at Everest Re.
INFORMATION RELATING TO DOMESTIC AND FOREIGN OPERATIONS
Financial information relating to industry segments set forth in Note 10 of
Notes to Consolidated Financial Statements of the Company is incorporated herein
by reference.
REGULATORY MATTERS
The Company is subject to regulation under the insurance statutes of various
jurisdictions, including Delaware, the domiciliary state of Everest Re, Arizona,
the domiciliary state of Everest National, the United Kingdom, the domiciliary
jurisdiction of Everest Ltd., and Canada, the domiciliary jurisdiction of
Everest Canada.
INSURANCE HOLDING COMPANY REGULATION. Insurance holding company laws and
regulations generally require the holding company to register with the relevant
state regulatory authorities and file certain reports which include current
information concerning the capital structure, ownership, management, financial
condition and general business operations of the insurance holding company and
its subsidiaries licensed in the state. State regulators also require prior
notice or regulatory approval of changes in control of an insurer or its holding
company and of certain material inter-affiliate transactions within the holding
company structure. See "-Dividends by Everest Re".
Under the Delaware and Arizona Codes and regulations thereunder, no person,
corporation or other entity may acquire a controlling interest in the Company,
unless such person, corporation or entity has obtained the prior approval of the
Delaware and Arizona Insurance Commissioners for such acquisition. For the
purposes of the Delaware and Arizona Codes, any person acquiring, directly or
indirectly, 10% or more of the voting securities of an insurance company is
presumed to have acquired "control" of such company. To obtain the approval of
any such change in control, the proposed acquirer must file an application with
the Delaware and Arizona Insurance Commissioners. This application requires the
acquirer to disclose its background, financial condition, the financial
condition of its affiliates, the source and amount of funds by which it will
effect the acquisition, the criteria used in determining the nature and amount
of consideration to be paid for the acquisition, proposed changes in the
management and operations of the insurance company and any other related
matters.
The United Kingdom Insurance Companies Act 1982 requires the prior approval by
the Department of Trade and Industry of anyone proposing to become a
"controller" of any insurance company regulated under such Act. Any company or
individual that directly or indirectly exercises 15% or more of the voting power
at a general meeting of a regulated insurance company incorporated in the United
Kingdom which only engages in reinsurance business is considered a "controller".
The Insurance Companies Act of Canada also requires prior approval by the
Minister of Finance of anyone acquiring a significant interest in an authorized
Canadian insurance company. In addition, the Company is subject to regulation by
the insurance regulators of other states and foreign jurisdictions in which it
does business. Certain of these states and foreign jurisdictions impose
regulations regulating the ability of any person to acquire control of an
insurance company without appropriate regulatory approval similar to those
described above.
DIVIDENDS BY EVEREST RE. Because the operations of the Company are conducted
through Everest Re and its subsidiaries, the Company is dependent upon dividends
and other permissible payments from Everest Re to meet its obligations and to
pay dividends in the future should Holdings' Board of Directors decide to do so.
The payment of dividends to Holdings by Everest Re is subject to limitations
imposed by Delaware law.
Under the Delaware Code, before a Delaware domiciled insurer may pay any
dividend it must give 10 days prior notice to the Delaware Insurance
Commissioner. During this 10-day period, the Commissioner may, by order,
limit or disallow the payment of ordinary dividends if the Commissioner
finds the insurer to be presently or potentially in financial distress.
A Delaware domiciled insurer may only pay cash dividends from the portion
of its available and accumulated surplus funds derived from realized net
operating profits and realized capital gains. Additionally, a Delaware domiciled
insurer may not pay any "extraordinary" dividend or distribution until
(i) 30 days after the Delaware Insurance Commissioner has received notice of a
declaration thereof and has not within such period disapproved such a payment
or (ii) the Delaware Insurance Commissioner has approved such payment within the
21
30-day period. Under the Delaware Code, an "extraordinary" dividend of a
property and casualty insurer is a dividend the amount of which, together with
all other dividends and distributions made in the preceding 12 months, exceeds
the greater of (i) 10% of an insurer's statutory surplus as of the end of the
prior calendar year or (ii) the insurer's statutory net income, not including
realized capital gains, for the prior calendar year. Under this definition, the
maximum amount that will be available for the payment of dividends by Everest Re
in 1997 without triggering the requirement for prior approval of regulatory
authorities in connection with an extraordinary dividend is $84.4 million. As of
December 31, 1996, Everest Re's accumulated statutory surplus from realized net
operating profits and realized gains was $399.7 million.
STATE INSURANCE REGULATION. U.S. domestic property and casualty insurers,
including reinsurers, are subject to regulation by their state of domicile and
by those states in which they are licensed. The rates and policy terms of
reinsurance agreements generally are not subject to regulation by any
governmental authority. This contrasts with primary insurance policies and
agreements, the rates and policy terms of which are generally regulated closely
by state insurance departments.
Everest Re is subject primarily to regulation and supervision that relate to
licensing requirements, solvency requirements, investment requirements,
restrictions on the size of risks which may be insured, deposit of securities
for the benefit of ceding companies and/or policyholders, accounting
requirements, periodic examinations of financial condition and affairs, the form
and content of financial statements that must be filed with regulators and the
level of minimum reserves necessary to cover unearned premiums, losses and other
purposes. In general, such regulation is designed to protect ceding insurers
and, ultimately, their policyholders, rather than stockholders. The operations
of Everest Re's foreign branch offices in Canada, Hong Kong and the United
Kingdom are subject to regulation by the insurance regulatory officials of those
jurisdictions. Management believes that the Company is in material compliance
with applicable laws and regulations pertaining to its business and operations.
Everest National is subject to similar regulation and, in addition, must comply
with substantial regulatory requirements in each state where it does business.
These additional requirements include, but are not limited to, rate and policy
form requirements, requirements with regard to licensing, agent appointments,
participation in residual markets and claims handling procedures. These
regulations are primarily designed for the protection of policyholders.
LICENSES. Ordinarily, in the United States, a primary insurer will only enter
into reinsurance agreements if it can obtain credit for the reinsurance on its
statutory financial statements. Credit is usually granted when the reinsurer is
licensed or accredited in a state where the primary insurer is domiciled. In
addition, many states permit credit for reinsurance ceded to a reinsurer that is
domiciled and licensed in another state. Such a reinsurer must meet certain
financial requirements and, in some instances, the domiciliary state of such a
reinsurer must have substantially similar reinsurance credit law requirements as
the domiciliary state of the primary insurer or if credit for reinsurance is not
available, the primary insurer may reduce its liabilities on its statutory
financial statements if it is provided with collateral to secure the reinsurer's
obligations.
Everest Re is a licensed property/casualty insurer and/or reinsurer in all
states and the District of Columbia with the exception of Nevada, North
Carolina, West Virginia and Wyoming. In New Hampshire and Puerto Rico, Everest
Re is licensed for reinsurance only.
Everest Re is licensed as a property/casualty reinsurer in Canada. It is also
authorized to conduct reinsurance business in the United Kingdom and Hong Kong.
Everest Re can also write reinsurance in other foreign countries. Because some
jurisdictions require a reinsurer to register in order to be an acceptable
market for local insurers, Everest Re is registered as a foreign insurer and/or
reinsurer in the following countries: Argentina, Bolivia, Chile, Colombia,
Ecuador, Guatemala, Mexico, Peru, Venezuela and the Philippines. Everest Ltd. is
authorized to engage in the reinsurance business in the United Kingdom and
reinsures risks worldwide. Everest National is licensed in 38 states and the
District of Columbia. Everest Canada is federally licensed under the Insurance
Companies Act of Canada and provincially licensed in Ontario.
PERIODIC EXAMINATIONS. Everest Re and Everest National are
subject to examination of their affairs by the insurance departments
of the states in which they are licensed, authorized or accredited.
Delaware and Arizona, the domiciliary states of Everest Re and Everest
National, respectively, usually conduct examinations of domestic
22
companies every 3 years and may do so at such other times as are deemed
advisable by the respective insurance commissioner. Everest Re's and Everest
National's last examination reports were as of December 31, 1994. Neither report
contained any material recommendations.
NAIC RISK-BASED CAPITAL REQUIREMENTS. The NAIC has instituted a formula to
measure the amount of capital appropriate for a property and casualty insurance
company to support its overall business operations in light of its size and risk
profile. The major categories of a company's risk profile are its asset risk,
credit risk, and underwriting risk. The new standards are an effort by the NAIC
to prevent insolvencies, to ward off other financial difficulties of insurance
companies, and to establish uniform regulatory standards among state insurance
departments.
Under the approved formula, a company's statutory surplus is compared to its
risk based capital (RBC). If this ratio is above a minimum threshold, no action
is necessary. Below this threshold are four distinct action levels at which a
regulator can intervene with increasing degrees of authority over a domestic
insurer as the ratio of surplus to RBC decreases. The mildest intervention
requires the company to submit a plan of appropriate corrective actions. The
most severe action requires the company to be rehabilitated or liquidated.
Based upon Everest Re's and Everest National's financial positions at December
31, 1996, Everest Re and Everest National exceed the minimum thresholds. Various
proposals to change the RBC formula have been proposed. The Company is unable to
predict whether any such proposal will be adopted, the form in which any such
proposals would be adopted or the effect, if any, the adoption of any such
proposal or change in the RBC calculations would have on the Company.
LEGISLATIVE AND REGULATORY PROPOSALS. Various regulatory and legislative changes
have from time to time been proposed that could affect reinsurers and insurers.
Among the proposals that have in the past been or are at present being
considered are the possible introduction of federal regulation in addition to,
or in lieu of, the current system of state regulation of insurers, Superfund
re-authorization, state and federal involvement in insuring catastrophes,
limitations on the ability of primary insurance carriers to effect premium rate
increase or to cancel or not renew existing policies, modifications to
investment limitations, and creation of interstate compacts for multi-state
insurer receivership proceedings or multi-state insurance regulation. The
Company is unable to predict whether any of these proposals will be adopted, the
form in which any such proposals would be adopted, or the impact, if any, such
adoption would have on the Company.
ITEM 2. PROPERTIES
Everest Re's corporate offices are located in Newark, New Jersey, and occupy
approximately 130,000 square feet of office space under a sublease with The
Prudential that expires on December 31, 2004, subject to Everest Re's option to
terminate the sublease with no penalty under certain circumstances. On December
3, 1996, Everest Re entered into a new sublease with The Prudential for 112,000
square feet of office space in Liberty Corner, New Jersey. On or about May 1,
1997, Everest Re will move its corporate offices to this new location and will
terminate its sublease of the Newark, New Jersey office on a date to coincide
with the commencement of rent payments under the sublease for the Liberty
Corner, New Jersey office, without any penalties. Everest Re's other eight
office locations occupy a total of 57,500 square feet, all of which are leased.
Management believes that the above described office space is adequate for its
current and anticipated needs.
ITEM 3. LEGAL PROCEEDINGS
The Company is involved in litigation and arbitration in the normal course of
its business. Management does not believe that any such pending litigation or
arbitration will have a material adverse effect on the Company's results of
operations, financial condition and cash flows. However, no assurance can be
given as to the decisions that may be rendered by the courts or arbitration
panels in any of such litigation and arbitration matters.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
23
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
(a) MARKET INFORMATION
Since October 3, 1995, the common stock of the Company has been traded on the
New York Stock Exchange under the symbol "RE". Quarterly high and low market
prices of the Company's common stock in 1995 and 1996 were as follows:
High Low
----- ------
From October 3 to December 31, 1995: 23.50 18.50
First Quarter 1996: 25.125 20.125
Second Quarter 1996: 26.50 21.375
Third Quarter 1996: 26.50 22.50
Fourth Quarter 1996: 29.50 23.875
(b) NUMBER OF HOLDERS OF COMMON STOCK
The number of record holders of common stock as of March 1, 1997 was 84. That
number excludes the beneficial owners of shares held in "street" names or held
through participants in depositories, such as The Depositor