Business Context and Reporting Period
Company: Assured Guaranty Ltd.
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2008
Business Overview: A Bermuda-based holding company providing credit enhancement products (financial guaranty insurance, reinsurance, and credit derivatives) to public finance, structured finance, and mortgage markets. The company operates through subsidiaries including Assured Guaranty Corp. (AGC) and Assured Guaranty Re Ltd. (AG Re).
Key Financial Metrics
| Metric | 2008 | 2007 | 2006 |
|---|---|---|---|
| Gross Written Premiums | $618.3 million | $424.5 million | $261.3 million |
| Net Earned Premiums | $261.4 million | $159.3 million | $144.8 million |
| Net Investment Income | $162.6 million | $128.1 million | $111.5 million |
| Net Realized Investment Losses | $(69.8) million | $(1.3) million | $(2.0) million |
| Unrealized Gains (Losses) on Credit Derivatives | $38.0 million | $(670.4) million | $11.8 million |
| Total Revenues | $553.2 million | $(301.6) million | $340.4 million |
| Total Expenses | $440.9 million | $161.4 million | $150.4 million |
| Net Income (Loss) | $68.9 million | $(303.3) million | $159.7 million |
| Loss and LAE Ratio | 81.4% | 3.4% | (3.3)% |
| Combined Ratio | 120.1% | 59.2% | 55.9% |
| Total Assets | $4,555.7 million | $3,762.9 million | $2,931.6 million |
| Shareholders' Equity | $1,926.2 million | $1,666.6 million | $1,650.8 million |
| Net Par Outstanding (Financial Guaranty) | $222.7 billion | $200.3 billion | $132.3 billion |
Material Changes vs. Prior Period
- Turnaround in Net Income: The company reported a net income of $68.9 million in 2008, a significant improvement from a net loss of $303.3 million in 2007. This reversal was primarily driven by a $708.4 million swing in unrealized gains/losses on credit derivatives (from a $670.4 million loss in 2007 to a $38.0 million gain in 2008).
- Underwriting Deterioration: Despite the income turnaround, underwriting performance weakened significantly. The loss and loss adjustment expense ratio jumped to 81.4% in 2008 from 3.4% in 2007, driven by increased reserves for residential mortgage-backed securities (RMBS) and other real estate-related exposures.
- Premium Growth: Gross written premiums increased 45.7% to $618.3 million, largely due to growth in the public finance direct segment ($425.3 million vs. $122.1 million in 2007).
- Investment Impairments: The company recognized $71.3 million in other-than-temporary impairment losses in 2008, primarily related to mortgage-backed and corporate securities, compared to none in 2007.
- Rating Downgrades: On November 21, 2008, Moody's downgraded the insurance financial strength ratings of AGC and AG Re (from Aaa/Aa2 to Aa2/Aa3) and the issuer rating of Assured Guaranty Ltd. (from Aa3 to A2).
Guidance, Outlook, Risks, and Unusual Items
- Pending Acquisition: On November 14, 2008, the company announced a definitive agreement to acquire Financial Security Assurance Holdings Ltd. (FSAH) for approximately $722 million (cash and stock). The transaction is expected to close in Q1 or Q2 2009, significantly increasing net par outstanding to approximately $651.3 billion.
- RMBS Exposure and Reserves: Significant uncertainty remains regarding the ultimate performance of RMBS transactions (HELOC, Subprime, Alt-A). The company established case reserves of $119.9 million for financial guaranty insurance and $12.7 million for credit derivatives as of year-end. Key drivers include deteriorating performance in Countrywide HELOC transactions and Closed-End Second RMBS.
- Accounting Changes: The company adopted FAS 163 effective for fiscal years beginning after December 15, 2008. The cumulative effect will be recorded as an adjustment to retained earnings on January 1, 2009, and is expected to have a material effect on financial statements.
- Liquidity and Capital: The company secured a backstop commitment from WL Ross Funds to fund the cash portion of the FSAH acquisition. Moody's noted that a further downgrade could trigger collateral posting requirements of up to $88.7 million and potential termination payments on credit derivatives.
- Legal Proceedings: The company sued J.P. Morgan Investment Management Inc. regarding the Orkney Re II transaction. Additionally, an arbitration regarding a mortgage reinsurance agreement with a private insurer is pending.
Investor Verification Checklist
- RMBS Reserve Adequacy: Verify the assumptions used for HELOC and Subprime RMBS reserves (default rates, severity, prepayment speeds) given the volatility in the housing market.
- FSAH Acquisition Integration: Assess the risks associated with integrating FSAH, including potential exposure to FSAH's financial products business and reliance on Dexia for indemnification.
- Rating Agency Impact: Monitor the impact of Moody's downgrade on reinsurance recapture rights and credit derivative collateral requirements.
- FAS 163 Adoption: Review the Q1 2009 financial statements for the cumulative effect adjustment to retained earnings and changes in premium revenue recognition.
- Investment Portfolio Quality: Scrutinize the $122.5 million in gross unrealized losses and the $71.3 million in other-than-temporary impairments to assess future capital erosion risks.