GREENLIGHT CAPITAL RE, LTD. quarterly report, Q3 FY2013

Greenlight Capital Re, Ltd. — Q3 2013 Form 10-Q

Reporting period: Three and nine months ended September 30, 2013; balance-sheet comparisons are against December 31, 2012. Amounts below are U.S. dollars unless noted. The company is a specialty property-and-casualty reinsurer and manages a value-oriented long/short investment portfolio.

Financial results and position

MetricQ3 2013Q3 2012Nine months 2013Nine months 2012
Gross premiums written$148.8m$67.6m$410.9m$303.9m
Net premiums earned$163.9m$116.6m$406.4m$348.2m
Net investment income$49.4m$96.5m$134.8m$131.2m
Income before tax$58.4m$48.1m$147.6m$80.4m
Net income attributable to shareholders$56.5m$46.1m$141.8m$75.2m
Diluted EPS$1.50$1.23$3.78$2.01
Underwriting composite ratio90.3%137.6%92.7%110.5%

At September 30, total assets were $2.934bn, total liabilities $1.933bn and total equity $1.001bn. Shareholders’ equity was $966.6m. Cash and cash equivalents were $83.7m, with a further $1.317bn of restricted cash, largely collateral supporting short securities and letters of credit. Investments totaled $1.150bn.

For the first nine months, operating cash flow was negative $56.8m, versus negative $34.7m a year earlier; investing activities provided $118.0m and financing activities provided $0.5m. Cash and cash equivalents increased $61.8m to $83.7m. Management said underwriting activities generated approximately $10.6m of cash after excluding investment-related operating expenses.

The company reported no planned debt issuance and no material indebtedness other than temporary investment-related borrowing. Amounts due to prime brokers totaled $239.1m, including $235.2m borrowed to collateralize letters of credit and $3.8m for investment purchases. Letter-of-credit facilities totaled $760m, of which $377.3m was issued and secured by $418.7m of pledged assets.

Material changes and drivers

  • Nine-month gross premiums written rose about 35%, driven largely by non-standard automobile and Florida homeowners’ business. Net premiums earned rose about 17%.
  • Nine-month net income increased to $141.8m from $75.2m, while net investment income increased only modestly. Underwriting results improved: the nine-month composite ratio fell to 92.7% from 110.5%, and the combined ratio fell to 96.8% from 114.4%.
  • Q3 net investment income declined to $49.4m from $96.5m, despite a 4.0% net return on the DME Advisors-managed portfolio versus 8.8% a year earlier. Q3 underwriting income before general and administrative expenses was $16.0m, compared with a $43.9m loss in Q3 2012.
  • Reported nine-month underwriting results included a $15.0m reversal of Superstorm Sandy reserves (with related reinstatement-premium reversals), after updated client information indicated losses would not reach the company’s coverage layer. Prior-period general-liability losses developed adversely by $17.7m, partly offset by favorable development in other lines.
  • Investment exposures shifted: securities sold short increased to $1.065bn from $908.4m; reported short exposure rose to 71% from 64%. Restricted cash increased 9.1% to $1.317bn, mainly to support the larger short position.

Outlook, risks and unusual items

  • Management described the reinsurance market as overcapitalized and competitive, with a gradually hardening market but expected rate increases not necessarily exceeding loss trends. It said the company may reduce premium writings rather than accept mispriced risk.
  • Portfolio focus included Florida homeowners, U.S. employer health stop loss, catastrophe retrocession and non-standard private passenger automobile. Management cited rate improvement or favorable loss experience in these areas but noted competitive pricing pressure, particularly from alternative capital in catastrophe business.
  • Management reported a 35.0% net-long investment position, reduced gross exposure during the quarter, and expected to maintain gold, interest-rate and foreign-exchange macro positions, sovereign-debt shorts and sovereign credit-default swaps. It cautioned that investment results and underwriting results may fluctuate materially; no quantified earnings guidance was provided.
  • Key risks include catastrophe losses, reserve-estimation uncertainty, counterparty/retrocession recoverability, market and currency movements, and short-sale exposure, which can have theoretically unlimited losses. The company estimated a 10% decline in listed equities and equity-based derivatives would reduce portfolio fair value by $40.9m.
  • A $6.0m impairment was recorded in the nine months on a note receivable placed on non-accrual; $10.5m of the note balance remained on non-accrual at quarter-end. DME Advisors, an affiliate of the board chairman, received $33.8m in performance allocation and $13.4m in management fees for the nine months.
  • Natural-peril exposure as of October 1, 2013 was capped at $149.8m aggregate net loss exposure across covered events. The company said it was in compliance with letter-of-credit covenants, and existing disputes were not expected to have a material adverse effect.
  • Greenlight Re and GRIL held A (Excellent) and A- (Excellent) A.M. Best ratings, respectively, both with stable outlooks. Management warned that a downgrade below A- or withdrawal of a rating could constrain new underwriting.

Investor verification priorities

  • Review the support for the Sandy reserve release and current reserve estimates, especially adverse general-liability development and the run-off commercial-auto book.
  • Assess the collectability and valuation of the $10.5m non-accrual note, along with the remaining private and unlisted investments valued using less-observable inputs.
  • Track short-position size, collateral needs, prime-broker borrowing and liquidity available after restricted cash and letter-of-credit collateral.
  • Examine the sustainability of underwriting profitability, premium growth, commission costs and exposure concentration in the principal business lines.
  • Review DME Advisors’ related-party fees and performance-allocation terms, and the effect of investment returns on reported earnings.
  • Confirm catastrophe and retrocession exposure, counterparty credit quality, regulatory capital and rating status, and any subsequent changes to market conditions or commitments.