WHITE MOUNTAINS INSURANCE GROUP LTD annual report, FY2013

White Mountains Insurance Group, Ltd. — FY 2013 Form 10-K

Reporting period: Fiscal year ended December 31, 2013; comparisons are primarily with FY 2012. White Mountains is a Bermuda-domiciled insurance holding company with four reporting segments: OneBeacon, Sirius Group, HG Global/BAM and Other Operations. All amounts below are in U.S. dollars unless noted.

Financial performance and position

Metric	FY 2013	FY 2012
Total revenue	$2.317 billion	$2.436 billion
Pre-tax income	$345 million	$263 million
Income from continuing operations	$268 million	$279 million
Net income attributable to common shareholders	$322 million	$207 million
Diluted EPS, continuing operations	$51.15	$47.41
Adjusted comprehensive income (non-GAAP)	$340 million	$245 million
Adjusted book value per share (non-GAAP), year-end	$642.27	$587.63
Net written premiums	$1.979 billion	$2.127 billion
Net investment income	$111 million	$154 million
Net realized and unrealized investment gains	$162 million	$118 million

Adjusted book value per share increased 9.5% in 2013, including dividends, versus 8.6% in 2012. The company reported a $1.00 annual common dividend per share.
Total assets were $12.144 billion and common shareholders’ equity was $3.906 billion at year-end, compared with $12.895 billion and $3.732 billion, respectively, in 2012. Assets and liabilities held for sale were each $1.880 billion.
Insurance and reinsurance loss and LAE expenses were $1.041 billion, down from $1.194 billion. Prior-year reserve development was $48 million favorable overall, all from Sirius Group; OneBeacon reported no net development on ongoing business, while its discontinued runoff business had unfavorable development.
OneBeacon’s GAAP combined ratio improved to 92% from 98%; Sirius Group’s improved to 82% from 90%. Both were below 100%, indicating underwriting profits. OneBeacon’s 2013 ratio included negligible catastrophe losses; Sirius Group’s included 10 points of catastrophe losses and 6 points of favorable reserve development.
Net cash used for continuing operations was $29 million; net cash used for all operations, including discontinued operations, was $101 million. Investing activities provided $402 million and financing activities used $187 million. Cash at year-end was $383 million, including $56 million restricted; the cash-flow statement reports $327 million excluding restricted cash.
Total debt was $676 million, down from $751 million; debt to total adjusted capital was 13%, versus 15%. The $425 million revolving credit facility was undrawn at year-end. Holding company and intermediate holding companies had $231 million of unrestricted cash, short-term investments and fixed maturities outside OneBeacon and Sirius Group.
The investment portfolio totaled $7.429 billion, principally fixed maturities ($5.267 billion) and short-term investments ($636 million). The portfolio returned 4.1% in 2013 versus 4.9% in 2012. Fixed-income duration was about 2.1 years including short-term investments.

Material changes and notable items

Revenue declined about 5%, reflecting lower earned premiums, investment income and other revenue, partly offset by higher investment gains. Net investment income fell 28%, attributed mainly to a lower invested-asset base and lower yields.
Net written premiums fell 7%. OneBeacon premiums decreased 8% to $1.089 billion, largely after exiting collector-car/boat and energy business; excluding those exited lines, OneBeacon premiums increased 12%. Sirius Group premiums decreased 8% to $877 million, primarily from accident and health and trade credit, partly offset by property growth.
Investment gains increased to $162 million, while the total portfolio return nevertheless declined. White Mountains’ equity portfolio returned 18.9%, below the S&P 500’s 32.4% return; its fixed-income portfolio returned 0.4% and outperformed the cited benchmark’s negative 1.0% return.
OneBeacon sold Essentia, which wrote collector-car and boat business, in January 2013 and recognized a $23 million pre-tax gain. It began writing federal crop insurance in late 2013. Sirius Group established a capital-markets initiative focused on insurance-linked securities and acquired two runoff insurers, generating about $14 million of combined pre-tax transaction gains.
White Mountains repurchased 141,535 shares for $80 million in 2013, compared with 1.33 million shares for $669 million in 2012. It also exercised Symetra warrants cashlessly, receiving 2.65 million Symetra shares; its ownership rose to approximately 17%.
Discontinued operations reported a $47 million after-tax gain on sale and a $42 million after-tax operating loss in 2013. The runoff-business reserve increase was substantially offset in the estimated sale loss under the transaction terms.

Outlook, risks and contingencies

Runoff-business sale: OneBeacon’s sale to Armour remained subject to regulatory approval and was expected to close in mid-2014. The buyer assumes unfavorable reserve development from September 30, 2012 onward under the agreement, but OneBeacon may provide financing through surplus notes if regulators require additional capital. The company cannot assure that the transaction will close.
Runoff reserves: OneBeacon recorded $79 million of 2013 unfavorable reserve development for the runoff business, concentrated in workers’ compensation, personal auto liability and excess liability, plus claims-adjustment expenses. Its net runoff reserves were $188 million at year-end. An independent actuarial review reported a broad statutory net reserve range of $215 million to $668 million as of March 31, 2013, compared with OneBeacon’s then-recorded $166 million. Management said the year-end estimate reflects its best estimate, but ultimate claims may differ.
Asbestos and environmental exposure: OneBeacon had ceded approximately $2.3 billion of estimated incurred losses to the $2.5 billion NICO cover; only $198 million of coverage remained, and actual experience could exceed available protection. Sirius Group reported $194 million of net A&E reserves and $12 million of 2013 asbestos reserve strengthening. Both businesses face uncertainty from long-tail claims, legal developments, inflation and settlement trends.
BAM and surplus notes: HG Global holds $503 million of BAM surplus notes bearing 8% interest; $59 million of interest was accrued, but BAM paid no interest in 2013. Payments require New York regulatory approval, and principal is not due until 2042. BAM reported $14 million of 2013 gross written premiums and $17 million of member surplus contributions. Its ability to service the notes depends on future premiums, contributions and market demand.
Variable annuity reinsurance: WM Life Re is in runoff, with contracts maturing by June 30, 2016. At year-end, guarantees totaled about $1.9 billion, account values were 104% of guarantee values, and the reported liability was $53 million. Derivatives and collateral are used to hedge the exposure, but market movements, policyholder behavior and hedge basis risk may cause losses. White Mountains’ keep-well commitment was up to $127 million, with $118 million remaining at year-end.
Catastrophe, market and operating risks: The filing highlights unpredictable catastrophe losses, reserve adequacy, reinsurance collectability, foreign exchange and investment-market movements, low interest rates, competition from alternative reinsurance capital, and rating downgrades. OneBeacon’s catastrophe program covered losses only up to $150 million per event, with specified exclusions; Sirius Group’s modeled catastrophe estimates are inherently uncertain.
Legal matters: In the Tribune shareholder litigation, the court dismissed the noteholder actions in September 2013 and plaintiffs appealed. A separate intentional-fraudulent-transfer action remained stayed pending further court action. The company reported no expectation that routine claims litigation or the disclosed proceedings would materially harm its financial condition, results or cash flows.
Tax and regulation: The company recorded $77 million of income tax expense in 2013, versus a $16 million benefit in 2012, which included significant tax-rate and valuation-allowance benefits. Deferred tax assets depend on future taxable income; the filing identifies potential valuation-allowance and tax-law risks. The Terrorism Risk Insurance Act was due to expire December 31, 2014, and Solvency II was expected to apply from 2016.
Management said available cash, operating and investment cash flows, and the revolving facility were adequate for foreseeable needs. This is a forward-looking assessment, not a guarantee.

Most important facts for investors to verify

Whether the OneBeacon runoff sale closed, what regulatory capital or surplus-note financing was ultimately required, and how final transferred reserves compared with the actuarial review range.
Subsequent development and payment experience for OneBeacon runoff claims and Sirius Group A&E reserves, including remaining NICO-cover capacity and reinsurance recoverability.
Whether BAM began paying interest or principal on its surplus notes, and how premium growth, member contributions, capital and regulatory approvals support repayment.
WM Life Re’s subsequent guarantee liability, hedge effectiveness, collateral needs and use of the remaining keep-well commitment.
The sustainability of underwriting results and premium trends, particularly in soft markets and amid catastrophe losses and alternative-capital competition.
Investment returns, liquidity and holding-company cash generation, including the difference between reported cash and restricted cash and the effect of dividends constrained by insurance regulation.
Changes in tax-asset recoverability, ratings, regulatory requirements and outcomes of the Tribune and other legal matters.

PricewaterhouseCoopers LLP issued an unqualified opinion on the financial statements and internal control over financial reporting. Management and the auditor excluded the recently acquired Ashmere and Empire entities from the internal-control assessment; together they represented less than 1% of consolidated assets and revenue.