GREENLIGHT CAPITAL RE, LTD. annual report, FY2018

Greenlight Capital Re, Ltd. — 2018 Form 10-K

Reporting period: Fiscal year ended December 31, 2018. This is an annual report, not a standalone fourth-quarter filing; quarterly results are noted where relevant. Greenlight is a Cayman Islands-headquartered property and casualty reinsurer operating through Greenlight Re and its Irish subsidiary, GRIL. It combines underwriting with a long/short, value-oriented investment strategy.

Financial performance

Metric	2018	2017
Gross premiums written	$567.5 million	$692.7 million
Net premiums earned	$508.4 million	$626.0 million
Net investment result	$(323.1) million	$20.2 million
Net loss attributable to Greenlight Capital Re	$(350.1) million	$(45.0) million
Loss per share, basic and diluted	$(9.74)	$(1.21)
Combined ratio	102.8%	108.6%
Fully diluted adjusted book value per share	$13.10	$22.22

• Underwriting produced a $14.4 million loss, improving from a $53.6 million loss in 2017. The combined ratio remained above 100%, indicating an underwriting loss before investment results and certain corporate costs.
• Net investment return was negative 30.3%, versus positive 1.5% in 2017. Both the long portfolio (negative 14.4%) and short portfolio (negative 13.6%) lost money. The filing attributes the overall investment decline primarily to realized and unrealized losses.
• Gross premiums written fell 18.1%. Casualty represented 66.6% of gross premiums; 89.5% of risks were in the U.S. and Caribbean. Premiums ceded rose to $102.8 million from $56.6 million, including automobile retrocession.
• Fourth-quarter net loss attributable to the company was $80.8 million, or $2.25 per share. Fourth-quarter net premiums earned were $119.6 million.

Financial position, cash flow and capital

• At year-end, total assets were $1.44 billion, total liabilities $956.0 million and total equity $477.8 million, down from $3.36 billion, $2.51 billion and $844.3 million, respectively, at the end of 2017. The company reported a $350.1 million attributable loss for the year.
• Cash and cash equivalents were $18.2 million and restricted cash was $685.0 million. Restricted cash primarily collateralized letters of credit and trust arrangements; it is not equivalent to freely available cash.
• Operating cash flow was negative $59.3 million, compared with positive $94.4 million in 2017. Investing cash flow was negative $845.3 million, which management said primarily reflected investment deleveraging and restructuring; financing cash flow was positive $80.1 million, including convertible-note proceeds and share repurchases.
• The company issued $100 million of 4.0% senior unsecured convertible notes due August 2023. The year-end carrying value, net of discount and issuance costs and including accrued coupon interest, was $91.2 million. The notes are convertible, subject to their terms, and may be settled in cash, shares or a combination.
• Letters of credit had aggregate capacity of $414.9 million, with $208.3 million issued. Collateral provided to cedents under letters of credit and trusts totaled $671.6 million. The company reported compliance with facility covenants.
• Gross loss and loss-adjustment expense reserves were $482.7 million, including $270.8 million of IBNR. Reinsurance recoverables on unpaid losses were $43.7 million. Greenlight Re and GRIL reported compliance with their respective regulatory capital requirements and both held A.M. Best ratings of A- (Excellent), stable outlook.

Material changes versus prior year

• The investment loss was the principal driver of the much larger 2018 net loss and the 41.0% decline in fully diluted adjusted book value per share. The comparable book-value decline in 2017 was 5.0%.
• Underwriting losses improved as catastrophe losses were lower than in 2017 and prior-year adverse reserve development was substantially reduced. The net financial impact of prior-year reserve development was $7.4 million in 2018, versus $31.5 million in 2017; the reserve rollforward reports approximately $2,000 of net adverse development before related financial-impact adjustments.
• 2018 catastrophe losses included hurricanes Florence and Michael, California wildfires and typhoon Jebi, with a combined reported underwriting impact of $18.9 million. The comparable 2017 catastrophe-event impact was $42.9 million.
• Effective September 1, 2018, the company moved its investment arrangement from a joint venture to Solasglas Investments, LP (SILP), with DME Advisors II as general partner and DME Advisors as investment manager. The prior joint venture terminated January 2, 2019, when substantially all remaining investments were transferred. Year-over-year balance-sheet movements in investments, restricted cash and investment-related liabilities largely reflect this restructuring and deleveraging.
• Gross written premiums declined across property, casualty and other lines, reflecting nonrenewals, lower shares on certain contracts and a mortgage-contract commutation. Motor liability remained the largest individual class.

Outlook, risks and unusual items

• Management described continued market rate pressure despite some positive rate movement in 2018, concentrated mainly in loss-affected business. It expects competitive pressure and expense discipline to persist. Reduced capital may constrain near-term premium growth, although management said the impact on 2019 renewals was minimal.
• Management expects to hold funds equivalent to net loss reserves in cash, cash equivalents or high-grade fixed income, investing excess funds under its value strategy. It stated that it expected available operating cash flow to fund operations over the following 12 months, while also noting that future financing alternatives may be considered. No quantified earnings or premium guidance was provided.
• Key risks include volatile long/short investment results; limited control over SILP and related-party investment-manager conflicts; short-sale, leverage, concentration and liquidity risks; reserve uncertainty, particularly long-tail casualty claims; catastrophe exposure; dependence on brokers; and collateral and rating requirements. Guy Carpenter and Aon Benfield sourced 78.8% of 2018 gross premiums written.
• The 2018 investment restructuring shifted substantially all investable assets into SILP, where the company’s year-end interest was $235.6 million. DME Advisors receives an annual management fee of 1.5% of the investment portfolio; DME II may receive performance allocations, subject to loss carryforward provisions. After 2018 losses, the reduced 10% allocation applies until prior losses and an additional 150% of those losses are recovered.
• The filing identifies U.S. shareholder tax uncertainty, including potential PFIC treatment. The company said it met the applicable-insurance-liabilities test at December 31, 2018, but gave no assurance it would continue to do so. Other contingencies include ongoing ordinary-course contractual disputes, which management did not expect to have a material adverse effect, and a reinsurance contract potentially involving Iran-related exposures; reported premiums from that contract were negligible.
• The independent auditor issued an unqualified opinion on the consolidated financial statements and internal controls; management also concluded disclosure controls and internal control over financial reporting were effective at year-end.

Important facts for investors to verify

• Whether investment performance and SILP’s portfolio exposures, fees, liquidity and related-party governance improve or deteriorate after the 2018 restructuring.
• Whether loss reserves—especially motor liability, professional indemnity and general liability—develop adversely, and whether retrocession recoverables are collected.
• Whether operating liquidity remains adequate after distinguishing unrestricted cash from restricted collateral, and whether letter-of-credit capacity can be maintained or expanded on acceptable terms.
• Whether the A.M. Best ratings and statutory capital margins remain sufficient to support renewals, collateral requirements and underwriting capacity.
• How the $100 million convertible notes are serviced or settled, and whether future conversions, repurchases or financing transactions dilute shareholders.
• Whether the company continues to meet the U.S. tax insurance-liability test and how any changes in tax rules affect U.S. shareholders.