Arch Capital Group Ltd. — Q2 2023 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2023. Arch is a Bermuda-based global insurer, reinsurer and mortgage insurer. Financial amounts below are U.S. dollars in millions unless stated otherwise. Interim statements were reviewed, not audited, by PwC.
Financial performance
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Net premiums earned | 2,965 | 2,326 | 5,848 | 4,447 |
| Total revenues | 3,162 | 2,214 | 6,330 | 4,156 |
| Net income available to common shareholders | 661 | 394 | 1,366 | 580 |
| Diluted EPS | $1.75 | $1.04 | $3.62 | $1.52 |
| After-tax operating income available to common shareholders (non-GAAP) | 726 | 506 | 1,380 | 928 |
| Net investment income | 242 | 106 | 441 | 186 |
| Net realized investment losses | (123) | (267) | (106) | (559) |
| Operating cash flow | — | 2,114 | 1,454 |
Revenue growth reflected higher earned premiums and investment income. Higher net income also benefited from smaller realized investment losses than in 2022. Q2 underwriting income was $606, with a 79.8% combined ratio, versus $536 and 77.1% a year earlier. For the first half, underwriting income was $1,176, with an 80.1% combined ratio, versus $994 and 77.9%.
Segments
- Insurance: Q2 underwriting income was $108, up from $97; premiums earned rose 20.5% to $1,328. Combined ratio was 91.9%, compared with 91.1%.
- Reinsurance: Q2 underwriting income increased to $245 from $140; premiums earned rose 44.7% to $1,343. Combined ratio improved to 81.9% from 85.4%. Growth included property catastrophe and other specialty business, and reflected lower retrocession activity.
- Mortgage: Q2 underwriting income was $253, down from $299, on nearly flat earned premiums of $294. The combined ratio was 15.0%, compared with negative 1.5% in 2022, partly reflecting lower favorable reserve development.
Financial position and liquidity
- Total assets were $53,856 at June 30, 2023, versus $47,990 at year-end 2022; total shareholders’ equity available to Arch was $14,641, versus $12,910.
- Cash was $904; cash and restricted cash totaled $1,353. Total investments were $29,966, including $4,073 in equity-method investments.
- Loss and loss adjustment expense reserves were $21,268, up from $20,032 at year-end; unearned premiums were $9,052, up from $7,337.
- Senior notes were $2,726, essentially unchanged. Debt to total capital was 15.7%, compared with 17.4%; debt plus preferred shares to total capital was 20.5%, compared with 22.7%.
- Book value per share was $37.04, up from $32.62 at year-end and 4.8% from March 31. Management reported Q2 annualized net income return on average common equity of 19.6% and operating return of 21.5%.
- First-half cash flow from investing activities was negative $2,001, primarily reflecting investment purchases; financing cash use was $45. Cash and restricted cash increased $80 over the period.
Management expects liquidity requirements to be met through underwriting and investment cash flows, cash and short-term investments, investment maturities and sales, and credit facilities. Arch Re Bermuda paid $98 in dividends to the parent during the first half; it could pay approximately $3.6 billion more during the remainder of 2023 without an affidavit to the Bermuda Monetary Authority.
Changes, outlook and key commentary
- Net premiums earned rose 27.5% in Q2 and 31.5% for the first half year over year. Reinsurance was the strongest growth driver; mortgage net premiums written declined.
- Net investment income more than doubled in Q2, primarily due to higher market yields. The annualized pre-tax investment income yield was 3.50% for Q2 versus 1.76% a year earlier.
- Prior-year reserve development was favorable by $121 in Q2 2023, versus $171 in Q2 2022; first-half favorable development was $257 versus $312. Mortgage contributed $80 of Q2 releases, primarily from U.S. first-lien business, and $151 for the first half.
- Management said property and casualty markets continued to offer attractive risk-adjusted opportunities and described active capital allocation across lines. It highlighted inflation monitoring in pricing and reserving. No specific earnings or revenue guidance was provided.
- U.S. mortgage insurance delinquency was 1.61% at June 30, the lowest since the onset of the COVID pandemic, according to management. The current-year mortgage loss ratio nevertheless increased year over year, reflecting more new delinquencies.
- Management’s modeled July 1 peak catastrophe loss was $1.46 billion for a Florida Tri-County windstorm; modeled severe-economic-event mortgage loss was approximately 11% of tangible shareholders’ equity. The filing cautions these estimates are not maximum exposures and actual losses may differ materially.
Risks, contingencies and unusual items
- Key exposures include catastrophe severity and frequency, climate-related impacts, inflation and reserve adequacy, mortgage defaults, investment-market volatility, foreign currency movements, counterparty performance and cyber or operational disruption.
- Available-for-sale fixed maturities had $1,332 of gross unrealized losses at June 30, compared with $1,649 at year-end. Interest-rate or credit-spread increases could further reduce investment fair values.
- Investment commitments were approximately $2.8 billion. Limited partnership investments had $2.5 billion of unfunded commitments, and the filing reports $2.8 billion of overall investment commitments.
- Reinsurance recoverables were $6,717; 32.0% was due from unrated carriers, though more than 95% of that amount was collateralized. The largest single-carrier balance equaled 8.6% of shareholders’ equity.
- Management reported no litigation expected to have a material adverse effect and no material change in previously disclosed risk factors. Disclosure controls were assessed as effective; no material internal-control changes were reported.
- The company made no repurchases under its public share-repurchase program in Q2; $1.0 billion remained authorized through December 31, 2024. Employee-related share withholding repurchases occurred.
Important facts for investors to verify
- Whether premium growth and underwriting margins remain durable, particularly as market pricing and reinsurance conditions change.
- How much earnings and book-value growth depend on favorable prior-year reserve releases, especially in mortgage, and whether new delinquencies increase.
- Catastrophe losses, inflation effects and reserve development against management’s modeled exposures and stated risk limits.
- Investment portfolio performance, unrealized losses, credit quality, liquidity of alternative investments and the effect of changing interest rates or spreads.
- Recoverability and collateralization of reinsurance balances, along with the scale and terms of related-party reinsurance exposures.
- Interpretation of non-GAAP operating income and returns alongside GAAP results; the filing notes these measures exclude selected investment, foreign exchange and other items.