Business Context and Reporting Period
Company: Greenlight Capital Re, Ltd. (GLRE)
Reporting Period: Fiscal year ended December 31, 2007
Business Model: A Cayman Islands-based holding company operating through its subsidiary, Greenlight Reinsurance, Ltd. The company is a specialty property and casualty reinsurer that differentiates itself through a non-traditional investment strategy. It underwrites customized reinsurance solutions (frequency and severity contracts) and manages its investment portfolio using a value-oriented approach involving long and short positions in equities and corporate debt, managed by DME Advisors, LP.
Key Financial Metrics
| Metric | 2007 | 2006 |
|---|---|---|
| Gross Premiums Written | $127.1 million | $74.2 million |
| Net Premiums Earned | $98.0 million | $26.6 million |
| Net Investment Income | $27.6 million | $58.5 million |
| Total Revenues | $125.7 million | $86.1 million |
| Net Income | $35.3 million | $57.0 million |
| Earnings Per Share (Diluted) | $1.15 | $2.66 |
| Combined Ratio | 92.2% | 109.6% |
| Total Assets | $1,094.1 million | $518.6 million |
| Total Shareholders' Equity | $605.6 million | $312.2 million |
| Adjusted Book Value Per Share (Diluted) | $16.57 | $14.27 |
Liquidity and Debt: The company has no material indebtedness. It maintains letter of credit facilities with an aggregate maximum of $425.0 million, of which $76.5 million was issued as of December 31, 2007. Restricted cash totaled $371.6 million, primarily to support short positions and swap collateral.
Material Changes vs. Prior Period
- Revenue Growth: Gross premiums written increased 71% to $127.1 million, driven by expanded underwriting operations and a full year of severity business compared to a partial year in 2006.
- Profitability Decline: Net income decreased 38% to $35.3 million. This was primarily due to a significant drop in net investment income ($30.9 million decrease), as the investment portfolio returned 5.9% in 2007 compared to 24.4% in 2006.
- Underwriting Performance: The combined ratio improved significantly to 92.2% (profitable) from 109.6% (loss) in 2006. The loss ratio was 40.3% and the acquisition cost ratio was 39.7%.
- Capital Expansion: Shareholders' equity nearly doubled to $605.6 million, largely due to net proceeds of $255.7 million from the May 2007 initial public offering and private placement.
- Investment Portfolio: Total investments in securities grew 142.5% to $590.5 million. The portfolio consists primarily of long and short equity positions (96.6% in publicly-traded equities).
Outlook, Risks, and Management Commentary
- Outlook: Management expects increased business written in 2008 due to the expanded capital base. However, they anticipate downward pricing pressure in the reinsurance market due to excess capacity following two years of low natural catastrophe losses. They intend to maintain underwriting discipline and target underserved markets, particularly in casualty, property catastrophe, and professional liability lines.
- Investment Strategy: The company continues to rely on DME Advisors for a value-oriented strategy involving long and short positions. Management notes that the current credit crisis and market volatility may negatively impact short-term investment results.
- Key Risks:
- Investment Volatility: The non-traditional investment strategy is subject to higher market volatility than traditional fixed-income portfolios.
- Reserve Uncertainty: As a relatively new reinsurer, loss reserve estimates may be less reliable than those of established competitors.
- Rating Agency Dependence: The company holds an "A- (Excellent)" rating from A.M. Best. A downgrade could severely limit its ability to write new contracts.
- Concentration Risk: In 2007, three customers accounted for 64.8% of gross premiums written. In 2006, one customer accounted for 78.3%.
- Regulatory Risk: The company relies on an exemption from the U.S. Investment Company Act of 1940; loss of this status would require significant operational changes.
Investor Verification Checklist
- Verify the sustainability of the 92.2% combined ratio given the company's limited underwriting history and the shift in portfolio mix from 2006 to 2007.
- Assess the impact of the 2007 investment return (5.9%) versus 2006 (24.4%) on future earnings projections, considering the company's heavy reliance on investment income.
- Review the concentration of premiums written (top 3 clients = 64.8%) and the potential impact of losing a major client.
- Confirm the status of the A.M. Best "A- (Excellent)" rating and the terms of contracts that allow clients to terminate if the rating is downgraded.
- Examine the adequacy of loss reserves ($42.4 million), particularly the high proportion of Incurred But Not Reported (IBNR) reserves ($40.7 million), given the company's short operating history.
- Monitor the company's ability to maintain its letter of credit facilities ($425 million capacity) as collateral requirements fluctuate with the value of its equity-heavy investment portfolio.