Preliminary Results
Beazley Group PLC
14 March 2006
Press release
Beazley Group plc, preliminary results for the year ended 31 December 2005
Beazley Group plc has achieved a profit of £16.1m
London, UK, March 14 2006
• The group has achieved a profit of £16.1m;
• Hurricanes Katrina, Rita and Wilma combined had a net impact on the
group result of £60m;
• Growth in written premiums of £155.7m (39%);
• A.M. Best rating for syndicate 2623 reaffirmed as A (excellent);
• Beazley US completes its first year of operations;
• Total managed capacity for 2006 is £830m (2005: £742m); our group
share of total capacity has increased to 78% (£647m); and
• Syndicated loan facility increased to £150m (2004: £70m).
2005 2004 % change
Gross premiums written (£m) 558.0 402.3 39
Net premiums written (£m) 425.8 329.0 29
Net earned premiums (£m) 372.3 302.7 23
Profit before tax (£m) 16.1 35.4
Claims ratio 73% 60%
Expense ratio 32% 29%
Combined ratio 105% 89%
Earnings per share (p) 3.1 9.9 (69)
Dividends per share (p) 4.0 1.0 300
Net assets per share (p) 77.8 77.0 1.0
Cash and investments (£m) 884.5 551.4 60
Andrew Beazley says:
'I am pleased to report a profit before tax of £16.1m, despite what has been the
most costly year in history for the insurance industry. The scale of the losses
has tested both the market and the strength of our business. Following the
impact of the hurricane season, we have seen the rating environment improve
across the commercial property, offshore energy and reinsurance lines of
business. Our US expansion plans have been vigorously pursued and these
operations will continue to provide further growth opportunities. We are pleased
to announce a final dividend of 2.5p, making a total for the year of 4.0p, in
line with our commitment at the time of the rights issue in November 2004.'
ENDS
For further information, please contact:
Beazley Group plc
Andrew Beazley
T: +44 (0)20 7667 0623
Andrew Horton
T: +44 (0)20 7667 0623
Finsbury
Simon Moyse
Amanda Lee
T: +44 (0)20 7251 3801
Notes to editors:
Based in London, U.K. since 1986, Beazley (BEZ.L) is the parent company of a
global specialist risk insurance and reinsurance business operating through
Lloyd's syndicates 2623 and 623 in the UK and Beazley Insurance Company, Inc., a
US admitted carrier in all 50 states. Both syndicates are rated A by A.M. Best
with an aggregate capacity for 2006 of £830m (over $1.4bn). Beazley Insurance
Company, Inc. is rated A- by A.M. Best.
Beazley is a market leader in many of its chosen lines of business, which
include professional indemnity, marine, reinsurance, commercial property and
personal lines.
Further information about us is available at www.beazley.com
CHAIRMAN'S STATEMENT
Beazley has achieved a profit before tax of £16.1m despite the extreme adverse
conditions of the last year. Our unbroken record of profitable results
throughout uncertain and difficult times proves that our commitment to excellent
underwriting, a balanced and diversified portfolio, rigorous risk management
practices and a strong reinsurance program are central to what we do.
2005 was a year dominated by the worst catastrophe season including some
fourteen hurricanes near the US. The cost in human terms of these unpredictable
events has been devastating. The cost to the insurance industry, estimated to be
between $60bn and $80bn, was the highest in recorded history, as is the total of
some three million claims, and has had a profound effect on the fate of
individual insurance businesses. The combined impact on group profit before tax
of the three major hurricanes (Katrina, Rita, and Wilma) was £60m net of
reinsurance.
Before the hurricane season we had experienced some deterioration in our rating
environment particularly in our commercial property and reinsurance lines of
business. In the fourth quarter, however, we saw the rating environment improve
across the commercial property, offshore energy and reinsurance lines of
business.
Our US expansion plans have been pursued vigorously in 2005. We now operate
through two entities - our managing general agent (MGA) which writes business
directly to syndicates 2623/623 and our own insurance company. We completed the
purchase of Omaha Property and Casualty Insurance Company during the year and
changed its name to Beazley Insurance Company, Inc. (BICI). It is licensed to
write insurance business in all 50 states. In 2005 the MGA wrote gross written
premiums of $13.8m and the insurance company wrote $1.6m.
We have increased our syndicated loan facility to £150m. We used £70m to support
our underwriting at Lloyd's in 2006 and a further $50m to capitalise BICI. Our
capital position gives us the financial strength to continue with our strategy
of growing our business in a defined and disciplined way.
For 2006, the group increased its underwriting capacity to £647m (2005: £522m)
through further purchases of syndicate 623 capacity. We paid £1.6m for this
capacity which we believe will increase our profitability in future years.
The board has proposed a final dividend of 2.5p (2004: 0.7p), bringing the full
year dividend to 4.0p (2004: 1.0p) in line with our commitment at the time of
the rights issue in November 2004. The final dividend will be paid on 12 May
2006 to shareholders registered on 18 April 2006.
The uncertainty created by the 2005 hurricane season has opened up opportunities
in 2006, particularly in our catastrophe-based lines, and for the remainder of
our account there is significant profit potential.
2005 was a difficult year which tested both the market and the strength of our
business. We intend to grow in 2006 whilst remaining steadfast to our core
competencies of quality underwriting and a diversified portfolio.
MARKET AND BUSINESS OVERVIEW
Renewal rate movement based on 2001
prevailing rates.
2001 2002 2003 2004 2005
% % % % %
Marine 100 118 129 128 131
Property 100 126 132 125 123
Specialty 100 134 160 166 164
lines
Reinsurance 100 142 149 148 149
Total 100 131 145 146 145
Year on year rate
increases
2004 2005 Jan/Feb
2006
% % %
Marine - 2 8
Property (5) (1) 5
Specialty 4 (1) 3
lines
Reinsurance - - 19
Total 1 - 5
Overview
Inflating values and an unprecedented increase in demand for insurance products
worldwide are some of the factors that clearly indicate that insurance is a
growth industry.
As we progress year to year and better understand the meaning of risk in a
turbulent and constantly changing world, we are better equipped to manage our
exposures, including those to the most severe natural and man-made catastrophes.
It is through this experience and with effective risk management that we are
able to change and respond to the unpredictable and consistently produce
profits.
Rating Environment
Despite rates deteriorating in some of our business lines in 2005, we are
trading in a good rating environment, which is substantially better than in
2001.
In the fourth quarter, after the hurricane season, rates increased in
catastrophe-prone areas, particularly on our offshore energy, US commercial
property and reinsurance accounts. We believe that business most impacted by the
hurricane season of 2005 will see major changes in the way it will be
underwritten in terms of cover and pricing in 2006. Our group business plan for
2006 has been adjusted accordingly, with the impact of these changes leading to
a 12% increase in total managed premium capacity.
In our largest division, specialty lines, we had seen rates increase
dramatically by 66% from 2001 until year-end 2004. While tougher market
conditions forced them to fall back marginally during 2005, we continue to
exercise tight controls to ensure only good quality risks are selected by our
underwriters.
While rates are moving radically in areas of the business that are
catastrophe-prone, we are not expecting rates in other areas to increase
substantially.
Ratings agencies are demanding an increase in capital for insuring business more
susceptible to catastrophe, which is helping to drive rates up. We are delighted
that A.M. Best recently reaffirmed our syndicates A (excellent) ratings, which
in the difficult market of 2005, is an indication of our strength and track
record.
Hurricanes
In the third quarter of 2005 the insurance industry incurred a number of market
changing events. Hurricane Katrina caused human tragedy and massive property
losses in the southern United States making it the largest insured loss in
history. The global insurance market incurred losses on Katrina alone of
approximately $60bn, to be closely followed by Hurricane Rita and Hurricane
Wilma with losses of approximately $10bn each. Lloyd's share of this loss has
been estimated at £1.9bn for Katrina with an estimate of £1bn for Rita and Wilma
combined. This combined represents 21% of Lloyd's 2005 capacity (£13.7bn).
The insurance losses incurred from the 2005 hurricane season are extremely
difficult to estimate and have highlighted a number of issues with current
industry wide modelling software. Initial estimates from the modelling agencies
were for an insured loss of no more than $25bn. These estimates were later
increased and stand at between $60bn and $80bn. The group's share of these
losses amounted to $130m, having a £60m net impact on the group's 2005 profit,
equivalent to 21% of shareholders' funds. The proof of our disciplined approach
to underwriting is the fact that we were still able to produce a profit.
Following the human tragedy of the hurricane season in 2005, people's homes and
businesses in and around New Orleans are being rebuilt, which yet again
demonstrates the important role the insurance industry plays in day-to-day life.
Growth
Our managed capacity for 2005 was £742m (2004: £741m) which has been increased
to £830m for 2006. The increase was driven by a rise in insurance rates
following the 2005 hurricane season and also influenced by our decision to take
a greater share in the risks we lead and know well.
Our view in 2005 was that the market was declining, therefore our original plan
for 2006 was to pull back group underwriting. However, following the hurricane
season, we reassessed our plans and now look to increase our managed syndicate
writings by 12%. At the same time we increased our group share of the managed
syndicates' portfolio, delivering an increase of 24% premium capacity to the
group.
Our managed syndicates (both 2623/623) have more than doubled their capacity in
2006 since 2002. Most of this increase was generated at the time of flotation on
the London Stock Exchange (November 2002), when we created the parallel 2623
syndicate. The group's share of the premiums we manage has also increased
dramatically from £330m in 2003 to £647m in 2006 (2005: £522m).
In addition to developing the portfolio of Lloyd's business in London, one of
our key initiatives is to expand our access to business worldwide. To help us do
this, we have established two entities in the US.
During 2005 we finalised the acquisition of Omaha Property and Casualty
Insurance Company (OPAC) for $20.5m and subsequently renamed it Beazley
Insurance Company, Inc. (BICI). We capitalised it up to $50m and succeeded in
achieving an A.M. Best rating of A-. BICI enables us to underwrite business for
those clients who have not traditionally come to Lloyd's for a couple of
reasons. Firstly, because they want to buy from the US admitted market across
all 50 states and Lloyd's is only admitted in Illinois and Kentucky. Secondly
because they are small to mid-sized customers whose business may not typically
flow through London.
Our managing general agent (MGA) also established its operation in 2005 and is
now writing both property and specialty lines business on behalf of our managed
syndicates. The property division in the US, which focuses on high-value
homeowners' property risk in the Carolinas, Florida and Georgia, wrote $6.2m by
the end of 2005. The specialty lines business, with a variety of professional
indemnity and directors and officers liability insurance cover, has written
$7.6m.
By the end of 2005 we had recruited a number of high calibre individuals to both
write and manage the business conducted by the MGA and insurance company,
growing the team in the US to 44 employees.
Outlook
2006 is the year that Beazley's underlying business will celebrate its 20th
anniversary since the formation of Beazley Furlonge Limited in 1986. We have
been through both rewarding and challenging times and are very proud of our
long-standing reputation for excellent underwriting and producing a profit year
after year.
GROUP PERFORMANCE
2005 2004
£m £m
Beazley Group plc
Gross premiums written 558.0 402.3
Net premiums written 425.8 329.0
Net earned premiums 372.3 302.7
Net investment income 31.6 11.3
Other income 6.9 11.2
Revenue 410.8 325.2
Net insurance claims 273.0 182.0
Acquisition and administrative expenses 118.5 89.0
Other expenses 1.4 17.8
Finance costs 1.8 1.1
Expenses 394.7 289.9
Share of profit of associates - 0.1
Profit before tax 16.1 35.4
Claims ratio 73% 60%
Expense ratio 32% 29%
Combined ratio 105% 89%
Rate increase/(decrease) - 1%
Earnings per share 3.1p 9.9p
Dividends per share - interim and final 4.0p 1.0p
Net assets per share 77.8p 77.0p
Return on equity 4.0% 8.9%
PERFORMANCE
The group has achieved a profit before tax of £16.1m (2004: £35.4m). This gave
rise to earnings per share of 3.1p (2004: 9.9p) and net assets per share of
77.8p (2004: 77.0p).
Underwriting performance
Gross premiums written in 2005 increased by 39% to £558m. The group share of the
combined syndicate underwriting capacity increased to 70% in 2005 (2004: 54%).
The group initially suffered rate reductions in a number of lines of business,
in particular in the commercial property. Overall we saw rates unchanged in 2005
(in 2004 rates increased by 1.0%).
The claims environment throughout the year, excluding the impact of the
hurricane season, was fairly benign. During the year we experienced lower than
expected claims costs in several of our lines of business, which enabled us to
make releases against a number of reserves totalling £12.2m. We have estimated
that if we exclude the impact of the hurricanes, our claims ratio for the year
would have been 55% (2004: 52%). However, when the impact of the hurricane
season is taken into account this ratio increases to 73% (2004: 60%).
Our expense ratio has increased during the year to 32% (2004: 29%). This ratio
includes both acquisition costs and our internal administration expenses. The
ratio has been impacted by the reinsurance reinstatement costs paid. These costs
reduced the net earned premiums by £13m thereby increasing the expense ratio by
1%.
As a consequence of the above factors the group's combined ratio has increased
to 105% (2004: 89%).
Our return on capacity for the 2003 year of account has increased to 16.5% (as
at 31 December 2004: 12.9%) as a result of a better than expected claims
environment in our marine and property accounts. Despite the impact of the
hurricanes the 2004 expected return on capacity remains at 6.5%; at this early
stage our expectation is that the 2005 year of account will breakeven.
Beazley in the US
Beazley in the US, which incorporates both an insurance company and a managing
general agent (MGA), was successfully established in 2005. The MGA wrote gross
premiums of $13.8m and the insurance company wrote $1.6m. The focus in our first
year was to recruit the highest calibre underwriters to ensure our risks are
managed effectively and the right quality of business is generated from the
earliest stages. Our search for these individuals took us longer than expected,
but by year-end infrastructure was in place, and we anticipate increased
premiums in 2006.
The MGA generates premium income on behalf of the two syndicates, for which it
charges an arms-length commission rate of up to 10% per risk. Based on the
premiums written in 2005, this generated a commission for the group of $1.1m.
Costs in year one of $10.9m, include one-off set up costs such as recruitment,
IT development and legal costs. The venture makes extensive use of our
BeazleyTrade online broker platform, and a number of products have been designed
specifically for clients in this market. BeazleyTrade gives us the advantage of
lowering costs in the future, as well as giving us a competitive advantage of
superior service delivery over other insurance providers.
Investment performance
Average Return Return
Balance (%) (£m)
(£m)
Group Funds inc Funds at Lloyds
GBP 288 4.9% 14.1
Syndicate Funds (Investment Grade
Bonds & Cash)
GBP 107 4.9% 5.2
USD 236 2.9% 6.9
Other 48 2.1% 1.0
Syndicate Funds (Alternative Assets)
USD 81 6.5% 5.3
Investment expenses - - (0.9)
Net investment return 760 4.2% 31.6
The group achieved investment return of £31.6m (2004: £11.3m) in 2005, giving us
an investment return of 4.2% (2004: 3.3%). Investment income in 2005 is
considerably more than in 2004 due to additional cash and investment balances in
the syndicate, larger funds managed by the group, and increased yields as US
dollar interest rates increased throughout the year. The syndicate balance
increased due to the additional underwriting capacity of syndicate 2623 in 2005
and the inclusion of the reinsurance to close from 2002, which at the start of
2005 was valued at £97m. It is expected that the syndicate funds will continue
to grow at around 50% of our total business each year is medium tail where the
claims are paid out on average 5 years after writing the business. Our specialty
lines business which is predominantly medium tail grew significantly from 2003
which should fuel growth in our syndicate cash balance. The group increase in
investment income was a result of the additional funds of £105m raised during
the rights issue in November 2004.
The majority of the group's managed funds are held in high grade fixed income
bonds, which are of a short duration. In 2005, the group had not changed its
investment risk appetite and continued to allocate up to 12% of the syndicates'
managed funds to be invested in alternative assets, including equities, hedge
funds and high yield bonds.
Impact of GBP/US exchange rate on net assets
IFRS - non-monetary items
In 2005, the adjustment in respect of foreign exchange on non-monetary items has
added an £8.2m profit (2004: £2.3m) to our profit before tax. Non-monetary items
include unearned premium reserve, reinsurers' share of unearned premium reserve
and deferred acquisition costs. Under International Financial Reporting
Standards (IFRS) these balances are carried at historic exchange rates, whilst
monetary items are translated at closing rates. This mismatch under IFRS will
lead to more volatility in reported profits than has historically occurred under
UK GAAP.
As a large proportion of our business is US dollar-based, the movements in the
US dollar are important in understanding the impact of this adjustment on the
group.
We have historically seen that the adjustment relating to foreign exchange on
non-monetary items has a positive impact on net assets in periods where sterling
is weakening against the US dollar. This is because the total non-monetary items
are valued lower under IFRS than under UK GAAP.
Employee numbers
2005 2004
Reinsurance 7 8
Specialty lines 101 67
Property 41 33
Marine 20 11
Support 113 67
Total 282 186
UK 238 179
US 44 7
During 2005, our employee numbers grew significantly and we continue to recruit
high calibre staff in both the UK and in the US. In the UK, we strengthened a
number of areas including our specialty lines team in both underwriting and
claims management. In the US, we recruited experienced personnel in all areas of
the business as we established operations in our Florida and Connecticut offices
and set up small regional offices.
CAPITAL POSITION
2005 2004
£m £m
Uses of funds
Lloyds underwriting 301.7 244.1
Capital for US Insurance company 32.6 -
Sources of funds
Shareholders funds 280.4 277.6
Subordinated debt 10.5 9.4
Bank facility 150.0 70.0
Surplus 106.6 112.9
Sources and uses of funds
The group has two requirements for capital:
1. To support underwriting at Lloyd's through syndicate 2623, which is
based on the group's own individual capital adequacy. This may be
provided in the form of either the group's own cash and investments or
bank facilities; and
2. To support its underwriting in BICI in the US.
Our funding comes from a variety of sources:
1. £280.4m comes from our shareholders own funds (i.e. net assets);
2. In 2005 we increased our banking facility from £70m to £150m through a
syndicated facility involving five banks, led by Lloyds TSB;
3. The final source of funds comes from our $18m subordinated long term
debt with a maturity in 2034.
Individual Capital Adequacy
We use stochastic modelling techniques to regularly assess our Individual
Capital Adequacy (ICA) for our Lloyd's underwriting operations. Through detailed
measurement of risk exposures, we allocate capital to support business
activities according to risk profile. Stress and scenario analysis is performed
and the results are documented and reconciled to the board's risk appetite.
+-----------+----------+---------------------------------------------+
|Prudential |Importance| Comment |
| risk type | to group | |
+-----------+----------+---------------------------------------------+
|Insurance |Dominant |This is the largest risk we face as our |
| | |primary business is to accept insurance and |
| | |reinsurance risk by means of appropriate |
| | |premiums to cover claims and operational |
| | |costs, and to maximise the expected return on|
| | |regulatory capital. |
+-----------+----------+---------------------------------------------+
|Credit |Material |Both brokers and reinsurers are of good |
| | |quality. |
+-----------+----------+---------------------------------------------+
|Liquidity |Low |This risk is low because the group's assets |
| | |are liquid and short term. |
+-----------+----------+---------------------------------------------+
|Market |Material |Group assets are high quality, well |
| | |diversified and short term. |
+-----------+----------+---------------------------------------------+
|Operational|Low |Our allocation of capital to these risks is |
| | |cautious and is based upon a set of worst |
| | |case defined scenarios. |
+-----------+----------+---------------------------------------------+
|Group |Low |This risk is low, but may increase with |
| | |growth of the US operation. |
+-----------+----------+---------------------------------------------+
Insurance risk is our biggest risk, and includes both catastrophe and
non-catastrophe exposures. To manage these exposures we model aggregate risks
and the likely financial impact to the group for defined events.
To manage our underwriting, we assign maximum gross and net line sizes for all
underwriters. This limit is adjusted according to the nature of the business
being underwritten and the experience of the underwriter and cannot be exceeded
unless appropriately authorised. To ensure that our decisions are robust, there
is a comprehensive sign-off process for underwriting transactions including dual
sign-off for all line underwriters.
Reserving activities are rigorously controlled to ensure adequate reserves are
set. A quarterly peer review process exists for the underwriting teams and
syndicate actuary to independently determine required movements.
Hedging
Our policy is to minimise our largest foreign exchange currency risk-exposure
which is to the US dollar. This is managed by estimating our US dollar profits
each year, and selling a proportion each month. This reflects the fact that US
dollar denominated profits are earned throughout the year. In 2005, the group
sold US dollars at an average exchange rate of 1.87.
Reinsurance
We invest considerable time and resources in developing and implementing our
reinsurance strategy, which includes capital management, group risk appetite,
relationship management (especially with key reinsurers) and cycle management.
Significant amounts of reinsurance are purchased to mitigate the impact of
catastrophes such as the recent hurricanes in the US, provide lead line
capabilities to our underwriters and manage the group's capital position.
The long term financial security of our reinsurance is key and our reinsurance
committee meets monthly to assess and review our reinsurance counterparties.
We have strict processes in place to manage reinsurance debt and ensure
collection occurs as quickly as possible. The combination of security vetting,
strict policy wordings and reinsurance collection processes has helped manage
our aged debt. We are confident that these processes will respond well following
the recent hurricanes.
Whilst prices remained high in 2005 we were able to place all the reinsurances
at satisfactory terms and conditions. As the business has grown, we have
increased our retentions, and moved away from purchasing as much risk
reinsurance, concentrating more on our catastrophe covers. This strategy worked
well as the reinsurances reacted as expected following the 2005 hurricanes.
Reinsurance market conditions are likely to be difficult in 2006, especially in
those lines of business most impacted by 2005 hurricanes, namely energy,
property and property catastrophe.
MARINE
Profile
The marine team accounted for 17% of the group's gross premiums written. Since
1998 our lead capability, based on our experience and expertise has enabled us
to provide clients with comprehensive and competitive risk solutions.
We seek to utilise our market leading position and our in-depth knowledge of the
segment to access the highest quality business. This capability combined with
selective underwriting allows us to write a profitable account of business at
the same time as limiting potential downside in the event of catastrophic
losses.
Market overview
The year began with softening market conditions resulting in increased pricing
pressure across the marine insurance industry. This pressure was abated in the
second half of the year due to the impact of the hurricane season. Outside the
energy account, capacity in world markets is such that rating remains
competitive.
Current Performance
During the past year we employed a regional cargo team operating out of
Birmingham to write UK cargo business. This has increased our full time employee
numbers to 20, allowing us to broaden the number of marine product lines for
syndicate 2623.
In the early part of 2005 we started to see some pressure on ratings across the
book. Due to the impact of the major US hurricanes this pressure has reduced
somewhat, although the hull and cargo markets still remain competitive. In
particular, our energy book has seen rate increases with the most dramatic rises
being reserved for business exposed to the Gulf of Mexico.
The past year saw some notable claims activity. Hurricane Katrina closely
followed by Rita and Wilma has been an unprecedented succession of losses. Our
gross estimated loss from Hurricane Katrina currently stands in the region of
$50m, with the net loss after reinsurance recoveries at less than $2m. Our gross
loss from Hurricane Rita should not exceed $20m, and we have negligible notified
losses for Wilma. Relative to market share we believe these figures to be low,
ostensibly due to selective underwriting particularly in the energy account,
where several of the largest loss-making accounts were declined.
We recently employed a marine surveyor on the hull and machinery account to
manage some of our claims. Swift attendance at marine casualties and efficiently
dealing with claims proves an invaluable tool for our market reputation, loss
mitigation and claims handling.
The mix of business is broadly similar to last year. During 2005 the UK cargo
team launched five products on BeazleyTrade, our online brokerage platform,
which makes it easier for our brokers to do business with us.
Claims activity has been normal apart from the cargo account which had a
slightly greater than average frequency. At the end of October the net incurred
loss ratio for 2005 year of account stood at 24.4%, which compares favourably
with prior years.
Our expertise in ocean marine cargo insurance has been honed in the Lloyd's
market, traditionally the global centre for marine insurance. Last year we
established a team in the US to bring the same level of expertise and responsive
service to the local market.
Outlook
We believe that although some areas of the marine market are going to be
competitive, there are great opportunities for potential growth in revenue,
especially within the offshore energy segment.
The marine cargo account is now well established and we are focusing our
resources on the core accounts, which have been historically profitable with low
claims volatility. We anticipate some modest growth in the hull account
specifically in areas such as building risks.
As proven this year, predicting future claims activity is difficult. Excluding
major catastrophes, we believe that our claims pattern over the next year should
be consistent with 2005.
We aim to increase our distribution channels by introducing products through
BeazleyTrade, which is in addition to our existing strategy of underwriting
individual risks through Lloyd's.
PROPERTY
Profile
Property Group generated 23% of the group's gross premiums written. The team's
underwriters are acknowledged market leaders in all chosen classes of property
insurance ranging from high-value homeowners' and covers to large corporate
clients. Our geographic reach encompasses business from all parts of the globe.
This diversity allied to our strong underwriting experience enables us to
provide our investors with a well balanced portfolio.
Market Overview
Rates continued to be under pressure during the first half of 2005, especially
on the large risk managed accounts where we had to let go of business that was
inadequately rated. ISO's Property Claims Services (PCS) unit expects US
property/casualty insurers to pay a record $50.3bn in catastrophe losses for
2005 year.
Performance
The engineering team, who joined in September 2004, were well supported by our
brokers during 2005 with some good opportunities to grow the business. They have
enjoyed an excellent showing of business by the brokers, who are able to access
a highly experienced and well respected team of specialist underwriters with
market-leading capabilities. The market environment for construction and
erection business, both annually renewable and for specific projects remains
strong.
The homeowners' and jewellers block account has continued to grow in 2005, with
most of the expansion coming from established books of business. We are
progressing plans to provide access to our jewellers block business in new
markets such as the Middle East and China. The market environment remains stable
with rates holding firm in most areas.
We had a successful first year in our Florida office, which has been established
to write high value homeowners' property risks.
We expect the loss we incurred from Hurricane Katrina to be contained well
within our reinsurance programme, a key achievement that differentiates us from
some of our competitors. Selective and controlled underwriting has ensured that
our large commercial account has avoided many of the large individual risk
losses in the market. Substantial reinsurance protection remains in place as at
31 December 2005. Non hurricane loss activity continues to be benign in most
property classes during 2005.
Outlook
Due to the impact of the losses from the US hurricanes in 2004 and 2005 we
expect rates to increase substantially in catastrophe exposed areas, with a
greater stability in pricing in other areas. Terms and conditions, such as
deductibles, are also expected to tighten as the supply of catastrophe insurance
and reinsurance cover contracts and demand increases.
We expect rates to remain firm in the types of risk that Beazley target in the
engineering and construction market, with no reduction in deductibles or
widening of terms. In the small risk accounts, such as the homeowners' and
jewellers block, we anticipate that rates will remain stable.
Further expansion is planned for the high-value homeowners' account written by
our surplus lines office in Florida with additional states being rolled out
during 2006. Commercial auto mobile physical damage and cargo insurance are
additional classes of business designed for small to medium sized trucking firms
to provide cover for over the road equipment and cargo legal liability exposure.
These will be written in 2006 following the recruitment of a specialist
underwriter.
Also in the US, our admitted carrier BICI, has recently recruited a highly
respected underwriter to lead the development of our mid-market commercial
property account, which will focus on the needs of our clients seeking coverage
on an admitted basis. We expect to start underwriting this business in the last
quarter of 2006.
SPECIALTY LINES
Profile
Specialty lines generated 48% of the group's gross written premiums. Specialty
lines is a market leader in many of its lines of business that comprises of
three product groups; management liability, professional liability and the
political and contingency. Each of these three groups are then segmented by the
size of the business written, namely large risk, middle market and small risk/
private enterprise. The new structure for the division came into effect in the
second quarter of 2005 and is designed to promote consistency of approach and
specialisation within the teams in both class of business and customer segments.
It also effectively integrates the UK and US teams enabling us to leverage our
underwriting expertise across the business.
Market Overview
In 2005, the rating environment broadly met our expectations. The team
consolidated its position as rate increases flattened as predicted. The impact
of the hurricane activity on the portfolio eased pressure on pricing, which is
likely to continue into 2006. We don't expect the mix of business we write to
vary significantly from that written in 2005. This suggests that the content of
the book is expected to be stable for its fourth consecutive year.
The team have set key themes for 2006 which include the continued focus on
providing clients with ready access to experienced underwriters, the evolution
of our claims management strategy, and seeking and implementing operational
efficiencies and automation where this can improve our service, costs and
control.
Performance
We expect another year of stability in the proportion of business we write for
2006. The income produced by our brokers remains stable, with our top five
brokers producing 53% of our income in 2005, compared to 52% for 2004.
We continue to lead business where appropriate with 2005 seeing us as the
insurer setting the terms for 72% of the polices we wrote (78% by premium)
against 72% for 2004 (73% by premium).
Geographically our book is still predominately US domiciled with 62% of premium
emanating from that territory compared to 63% in 2004. 20% of our premium comes
from Europe which sees no change from 2004.
The way in which the business is written has slightly changed from 2004, with
facultative business accounting for 68% of our premiums in 2005, against 73% for
2004, whilst binder income was up to 24% for 2005 (20% for 2004).
Outlook
We will continue our policy of recruiting high calibre employees with the
emphasis on US underwriters, claims, and business management teams in 2006. We
are also focusing on the retention and development of existing employees.
Underwriting continues to be the nucleus of our business, which we support with
the continued development of our claims, financial, operations and project
management expertise. We believe our commitment to service excellence, risk
analysis and the understanding, and delivery of products that meet our broker
and client needs will drive the business towards sustainable long term
profitability.
REINSURANCE
Profile
The reinsurance team represents 12% of the group's 2005 gross premiums written.
The team maintains a well established lead position in the market and provides
capacity predominantly to cedents operating in major non-life insurance markets.
We specialise in writing property catastrophe, property risk excess, casualty
catastrophe, aggregate excess of loss and pro-rata business. The department's
main exposures outside of the US emanate from the UK, Europe, Japan, Canada and
Australasia.
Market overview
The reinsurance market saw the first half of the year begin with reinsurance
ratings slightly declining. As such many of the Lloyd's participants were
anticipating a softening market and were planning to reduce capacity.
In the second half of 2005, we saw an unprecedented level of hurricane activity
in the US. To put these losses in context, we witnessed 6 out of the 10 largest
US insured losses in history, just in the past two years. Unlike the hurricane
season in 2004, which primarily affected direct insurers, the losses from
Hurricane Katrina resulted in reinsurers bearing the largest share of the
insured loss.
Current performance
Over the past year, we saw gross premiums written increase considerably from
£43.4m in 2004 to £65.5m in 2005, which is an increase of 51%. This was partly
due to the group increasing its share of the combined syndicates from 54% in
2004 to 70% in 2005 and partly due to real growth in the business. Further
increases were due to reinstatement premiums accrued after the hurricanes.
Many of our clients have been with us for at least 10 years with the renewal
retention ratio remaining high in 2005. In addition we successfully increased
our share of target business. Western Europe, in particular Germany, France and
Italy have yielded opportunities for new business along with Australasia and
Canada. We have increased our profile in Central and Eastern Europe and this
remains an area of potential development in the future.
Outlook
There is likely to be stronger demand for risk transfer in 2006. However, we
also expect the supply of reinsurance to contract leading to a hardening of the
reinsurance market. This may translate into either higher premiums or tightening
of terms and conditions or a combination of both.
The January 2006 renewal season has demonstrated some of the opportunities
available from these market conditions, particularly on accounts which suffered
losses in 2005. Rates, terms and conditions are expected to remain at a level
that will allow Beazley to continue to promote our strengths with both brokers
and clients alike. To this end the estimated premiums for 2006 will build upon
the portfolio development achieved in 2005.
We will continue to use modelled data with a due level of caution and
understanding and combine it with other tools prior to making underwriting
decisions.
The team will also continue to advance our long-term objective of developing a
well diversified portfolio focusing on larger non-life insurance markets. The
team intends to take advantage of its position in the Lloyd's market during the
current cycle, with targeted development particularly in Europe, thus increasing
portfolio efficiency.
CONSOLIDATED INCOME STATEMENT
FOR THE YEAR ENDED 31 DECEMBER 2005
Note 2005 2004
£m £m
Gross premiums written 3 558.0 402.3
Written premiums ceded to reinsurers (132.2) (73.3)
Net premiums written 3 425.8 329.0
Change in gross provision for unearned
premiums (73.7) (28.2)
Reinsurer's share of change in the 20.2 1.9
provision for unearned premiums
Change in net provision for unearned
premiums (53.5) (26.3)
Net earned premiums 3 372.3 302.7
Net investment income 4 31.6 11.3
Other income 5 6.9 11.2
38.5 22.5
Revenue 410.8 325.2
Insurance claims 463.7 224.8
Insurance claims recovered from
reinsurers (190.7) (42.8)
Net insurance claims 273.0 182.0
Expenses for the acquisition of
insurance contracts 95.5 71.4
Administrative expenses 23.0 17.6
Other expenses 1.4 17.8
Operating expenses 6 119.9 106.8
Expenses 392.9 288.8
Results of operating activities 17.9 36.4
Finance costs 8 (1.8) (1.1)
Share of profit of associates 14 - 0.1
Profit before tax 16.1 35.4
Income tax expense 9 (5.0) (10.6)
Profit after tax 11.1 24.8
Earnings per share (pence per share):
Basic 10 3.1 9.9
Diluted 10 3.1 9.9
BALANCE SHEET
AS AT 31 DECEMBER 2005
2005 2004
Note Group Company Group Company
£m £m £m £m
Assets
Intangible assets 12 18.2 - 8.1 -
Plant and equipment 13 2.5 - - -
Investment in
subsidiaries - 31.7 - 5.1
Investments in
associates 14 1.3 - 1.3 -
Deferred acquisition
costs 15 52.7 - 38.3 -
Financial investments 16 771.9 221.9 469.9 228.0
Insurance receivables 17 158.9 - 89.0 -
Deferred income tax 25 2.4 - 0.4 -
Reinsurance assets 18,23 394.5 - 98.3 -
Other receivables 28.4 48.4 25.4 26.6
Cash and cash
equivalents 19 112.6 6.7 81.5 1.7
Total assets 1,543.4 308.7 812.2 261.4
Equity
Share capital 20 18.0 18.0 18.0 18.0
Reserves 21,22 232.1 229.4 232.5 230.5
Retained earnings 30.3 16.1 27.1 2.1
Total equity 280.4 263.5 277.6 250.6
Liabilities
Insurance liabilities 23 1,096.4 - 460.5 -
Borrowings 24 29.1 10.5 9.4 9.4
Deferred income tax 25 6.0 - 6.0 -
Current income tax
liabilities 4.5 1.3 3.2 0.7
Creditors 26 124.1 33.4 51.6 0.7
Retirement benefit
obligations 27 2.9 - 3.9 -
Total liabilities 1,263.0 45.2 534.6 10.8
Total equity and 1,543.4 308.7 812.2 261.4
liabilities
STATEMENT OF MOVEMENTS IN EQUITY
FOR THE YEAR ENDED 31 DECEMBER 2005
Group Note Share Reserves Retained Total
Capital £m Earnings £m
£m £m
Balance at 1 January 2004 11.5 134.2 4.1 149.8
Retained profits for the - - 24.8 24.8
year
Dividends paid 11 - - (1.8) (1.8)
Increase in employee 21 - 0.2 - 0.2
share options
Issue of shares 6.5 - - 6.5
Share premium on issue of - 103.6 - 103.6
shares
Capitalised listing costs - (5.5) - (5.5)
Balance at 31 December 18.0 232.5 27.1 277.6
2004
Retained profits for the - - 11.1 11.1
year
Dividends paid 11 - - (7.9) (7.9)
Increase in employee 21 - 0.4 - 0.4
share options
Acquisition of own shares 21 - (1.6) - (1.6)
in trust
Foreign exchange - 0.8 - 0.8
translation differences
Balance at 31 December 18.0 232.1 30.3 280.4
2005
Company Note Share Reserves Retained Total
Capital £m Earnings £m
£m £m
Balance at 1 January 2004 11.5 132.4 1.3 145.2
Retained profits for the
year - - 2.6 2.6
Dividends paid 11 - - (1.8) (1.8)
Issue of shares 6.5 - - 6.5
Share premium on issue of
shares - 103.6 - 103.6
Capitalised listing costs - (5.5) - (5.5)
Balance at 31 December 18.0 230.5 2.1 250.6
2004
Retained profits for the
year - - 21.9 21.9
Dividends paid 11 - - (7.9) (7.9)
Foreign exchange
translation differences - (1.1) - (1.1)
Balance at 31 December 18.0 229.4 16.1 263.5
2005
CASH FLOW STATEMENT
FOR THE YEAR ENDED 31 DECEMBER 2005
2005 2004
Note Group Company Group Company
£m £m £m £m
Cash flow from operating
activities
Profit before tax 16.1 23.6 35.4 4.3
Adjustments for non-cash
items:
Amortisation of
intangibles 0.3 - - -
Equity settled share
based compensation 0.4 - 0.2 -
Foreign exchange
translation of foreign
subsidiary 1.9 - - -
Net fair value losses/
(gains) on financial
assets (3.0) 0.7 0.5 (0.4)
Share in profit of
associates - - (0.1) -
Changes in operating
assets and liabilities:
Increase in insurance
liabilities 635.9 - 202.0 -
Increase in insurance
receivables (69.9) - (6.4) -
Increase in other
receivables (3.0) (21.8) (16.0) 8.0
Increase in deferred
acquisition costs (14.4) - (6.1) -
Increase in reinsurance
assets (296.2) - (39.4) -
Increase in creditors 69.0 32.7 14.1 (0.6)
Income tax paid (5.8) (1.1) (3.3) (1.0)
Contribution to pension
fund (1.0) - - -
Acquisition of own shares
in trust 21 (1.6) - - -
Net cash from operating
activities 328.7 34.1 180.9 10.3
Cash flow from investing
activities
Purchase of plant and
equipment 13 (2.5) - - -
Purchase of syndicate
capacity 12 (1.6) - (1.0) -
Purchase of licences 12 (5.1) - - -
Purchase of investments (1,419.3) 211.1 (663.5) (201.9)
Purchase of software
development (3.6) - - -
Proceeds from sale of
investments 1,120.2 (205.7) 434.1 106.0
Capital injection in
subsidiary - (26.6) - -
Net cash used in
investing activities (311.9) (21.2) (230.4) (95.9)
Cash flow from financing
activities
Proceeds from issue of
shares - - 104.6 104.6
Proceeds from borrowings 18.6 - 9.4 9.4
Inter-group balances - - - (25.3)
Dividends paid 11 (7.9) (7.9) (1.8) (1.8)
Net cash used in 10.7 (7.9) 112.2 86.9
financing activities
Net increase in cash and 27.5 5.0 62.7 1.3
cash equivalents
Cash and cash equivalents 81.5 1.7 19.4 0.4
at beginning of year
Effect of exchange rate
changes on cash and cash
equivalents 3.6 - (0.6) -
Cash and cash equivalents 19 112.6 6.7 81.5 1.7
at end of year
NOTES FOR THE YEAR ENDED 31 DECEMBER 2005
1. Statement of accounting policies
Beazley Group plc is a group domiciled in England and Wales. The consolidated
financial statements of the group for the year ended 31 December 2005 comprise
the parent company and its subsidiaries and the group's interest in associates.
Both the parent company financial statements and the group financial statements
have been prepared and approved by the directors in accordance with
International Financial Reporting Standards as adopted by the EU ('Adopted
IFRSs'). On publishing the parent company financial statements here together
with the group financial statements, the company is taking advantage of the
exemption in s230 of the Companies Act 1985 not to present its individual income
statement and related notes that form a part of these approved financial
statements.
The group and parent company have applied IFRS 1 First-time Adoption of
International Financial Reporting Standards. These consolidated financial
statements have been prepared on the basis of adopted IFRSs in issue that are
effective or available for early adoption at 31 December 2005. Based on these
adopted IFRSs, the directors have applied the accounting policies, as set out
below.
An explanation of how the transition to IFRSs has affected the reported income
statement, balance sheet and cash flows of the group is provided in note 33. The
note includes reconciliations of equity and profit and loss for the comparative
periods reported under UK GAAP to those reported for those periods under IFRSs.
The group's transition date is 1 January 2004 and it has prepared its opening
IFRS balance sheet at that date.
The principal accounting policies applied in the preparation of these
consolidated financial statements are set out below. The policies have been
consistently applied to all periods presented, unless otherwise stated.
Basis of presentation
The financial information set out in this statement is extracted from the
statutory accounts for the year ended 31 December 2005. The financial
information for 2004 is derived from the IFRS restatement document published by
the group on 1 July 2005. Consequently the 2004 comparative information
published herein does not constitute the statutory accounts of the group for
that year. The auditors have reported on the 2005 and the original 2004 UK GAAP
accounts; their reports were unqualified and do not contain a statement under
section 237(2) or (3) or the Companies Act 1985. The statutory accounts for 2005
will be delivered to the registrar of companies following the annual general
meeting.
First time adoption of IFRS
The group has taken advantage of the following exemptions set out in IFRS 1.
a) Business combinations
The group has elected not to retrospectively apply IFRS 3 - Business
Combinations. It has not restated business combinations that occurred prior to 1
January 2004.
b) Employee benefits
The group has elected to recognise all actuarial losses under the defined
benefit pension scheme as at 1 January 2004.
c) Share based payments
The group has not applied the requirements of IFRS 2 - Share Based Payments to
share options granted before 7 November 2002.
Estimates
Estimates included in the opening balance sheet at 1 January 2004 and 31
December 2004 are consistent with the underlying estimates made at the same date
under UK GAAP.
The exemptions for IFRS 4 - Insurance Contracts, IAS 32 - Financial Instruments:
Disclosure and Presentation and IAS 39 - Financial Instruments: Recognition and
Measurement have not been taken as the group has applied these standards in
preparing the comparatives.
Use of estimates
The preparation of the financial statements requires the group to make certain
critical estimates and assumptions. Although these estimates are based on
management's best knowledge of current facts, circumstances and to some extent
future events and actions, actual results ultimately may differ from those
estimates, possibly significantly.
Consolidation
a) Subsidiary undertakings
Subsidiary undertakings, which are those entities in which the group directly or
indirectly, has the power to exercise control over financial and operating
policies, have been consolidated. They are consolidated from the date on which
control is transferred to the group and cease to be consolidated from the date
on which control ceases.
The group has used the purchase method of accounting for the acquisition of
subsidiaries. Under purchase accounting, the cost of acquisition is measured as
the fair value of assets given, shares issued or liabilities undertaken at the
date of acquisition plus costs directly attributable to the acquisition. The
excess of the cost of an acquisition over the fair value of the net assets of
the subsidiary acquired is recorded as goodwill.
Certain group subsidiaries underwrite as corporate members of Lloyd's on a
syndicate managed by Beazley Furlonge Limited. In view of the several liability
of underwriting members at Lloyd's for the transactions of syndicates in which
they participate, only attributable share of transactions, assets and
liabilities of that syndicate have been included in the financial statements.
b) Associates
Associates are those entities in which the group has power to exert significant
influence, but which it does not control. Significant influence is generally
presumed if the group has between 20% and 50% of voting rights.
Investments in associates are accounted for using the equity method of
accounting. Under this method, the group's share of post acquisition profits or
losses is recognised in the income statement and its share of post acquisition
movements in reserves are recognised in reserves. The cumulative post
acquisition movements are adjusted against the cost of the investment.
When the group's share of loss equals or exceeds the carrying amount of the
associate, the carrying amount is reduced to nil and recognition for the loss is
discontinued except to the extent that the group has incurred obligations in
respect of the associate.
Equity accounting is discontinued when the group no longer has significant
influence over the investment.
c) Intercompany balances and transactions
All intercompany transactions, balances and unrealised gains or losses on
transactions between group companies have been eliminated.
All accounting policies have been consistently applied throughout the group.
Foreign currency translation
a) Functional and presentation currency
Items included in the financial statements of the parent and the subsidiaries
are measured using the currency of the primary economic environment in which it
operates (the 'functional currency'). The consolidated financial statements are
presented in GBP, which is the group's presentation currency and functional
currency.
b) Transactions and balances
Foreign currency transactions are translated into the functional currency using
average exchange rates applicable to this period and which the group considers
to be reasonable approximation of the historic rate. Foreign exchange gains and
losses resulting from the settlement of such transactions and from translation
at the period end of monetary assets and liabilities denominated in foreign
currencies are recognised in the income statement. Non monetary items recorded
at historical cost in foreign currencies are translated using the exchange rate
on the date of the transaction.
c) Group companies
The results and financial position of the group companies that have a functional
currency different from the presentation currency are translated into the
presentation currency as follows:
i) assets and liabilities are translated at the closing rate at the date of
that balance sheet;
ii) income and expenses for each income statement are translated at average
exchange rates in the period;
iii) all resulting exchange differences are recognised as a separate component
of equity.
The exchange differences on disposal of foreign entities are recognised in the
income statement as part of the gain or loss on disposal.
Insurance contracts
Insurance contracts (including inwards reinsurance contracts) are defined as
those containing significant insurance risk. Insurance risk is considered
significant if and only if, an insured event could cause an insurer to pay
significant additional benefits in any scenario, excluding scenarios that lack
commercial substance.
Such contracts remain insurance contracts until all rights and obligations are
extinguished or expire.
Net earned premiums
a) Premiums
Gross premiums written represent premiums on business incepting in the financial
year together with adjustments to premiums written in previous accounting
periods and estimates for pipeline premiums. Gross premiums written are stated
before deduction of brokerage, taxes, duties levied on premiums and other
deductions.
b) Unearned premiums
A provision for unearned premium (gross of reinsurance) is made which represents
that part of the gross premiums written that is estimated will be earned in the
following financial periods. It is calculated using the daily pro rata method
where the premium is apportioned over the period of risk.
Deferred acquisition costs (DAC)
Acquisition costs comprise brokerage, premium levy and staff related costs of
the underwriters acquiring new business and renewing existing contracts. The
proportion of acquisition costs in respect of unearned premiums are deferred at
balance date and recognised in later periods when the related premiums are
earned.
Claims
These include the cost of claims and claims handling expenses paid during the
period, together with the movements in provisions for outstanding claims, claims
incurred but not reported (IBNR) and future claims handling provisions. The
provision for claims comprises amounts set aside for claims advised and IBNR.
The IBNR amount is based on estimates calculated using widely accepted actuarial
techniques which are reviewed quarterly by the group actuary and annually by
Beazley's independent consulting actuary. The techniques generally use
projections, based on past experience of the development of claims over time, to
form a view on the likely ultimate claims to be experienced. For more recent
underwriting years, regard is given to the variations in the business portfolio
accepted and the underlying terms and conditions. Thus, the critical assumptions
used when estimating provisions are that past experience is a reasonable
predictor of likely future claims development and that the rating and business
portfolio assumptions are a fair reflection of the likely level of ultimate
claims to be incurred for the more recent years.
Liability adequacy testing
At each balance sheet date, liability adequacy tests are performed to ensure the
adequacy of the insurance liabilities net of DAC. In performing these tests,
current best estimates of future contractual cash flows, claims handling and
administration expenses as well as investment income from the assets backing
such liabilities are used. Any deficiency is immediately charged to the profit
or loss initially by writing off DAC and by subsequently establishing a
provision for losses arising from liability adequacy tests ('unexpired risk
provision').
Reinsurance
These are contracts entered into by the group with reinsurers under which the
group is compensated for losses on contracts issued by the group and that meet
the definition of an insurance contract. Insurance contracts entered into by the
group under which the contract holder is another insurer (inwards reinsurance)
are included with insurance contracts.
Any benefits to which the group is entitled under its reinsurance contracts held
are recognised as reinsurance assets. These assets consist of balances due from
reinsurers and include reinsurers' share of provisions for claims. These
balances are based on calculated amounts of outstanding claims and projections
for IBNR, net of estimated irrecoverable amounts having regard to the
reinsurance programme in place for the class of business, the claims experience
for the period and the current security rating of the reinsurer involved.
Reinsurance liabilities are primarily premiums payable for reinsurance contracts
and are recognised as an expense when due.
The group assesses its reinsurance assets for impairment. If there is objective
evidence of impairment, then the carrying amount is reduced to its recoverable
amount and the impairment loss is recognised in the income statement.
Revenue
Revenue consists of net earned premium, net investment income, profit
commissions earned and managing agent's fees.
Profit commissions and managing agent's fees are recognised as the services are
provided.
Insurance receivables and payables
Receivables and payables are recognised when due. These include amounts due to
and from agents, brokers and insurance contract holders.
Dividends paid
Dividend distribution to the shareholders of the group is recognised in the
period in which the dividends are approved by the shareholders in the group's
annual general meeting. Interim dividends are recognised in the period in which
they are paid and approved by the board of directors.
Plant and equipment
All fixed assets are recorded at cost less accumulated depreciation.
Depreciation is calculated using the straight line method to allocate the cost
of the assets to their residual values over their estimated useful lives as
follows:
Fixtures and fittings Three to five years
Computer equipment Three years
These assets' residual value and useful lives are reviewed at each balance sheet
date and adjusted if appropriate.
Intangible assets
a) Goodwill
Goodwill represents the excess of the cost of an acquisition over the fair value
of the group's share of the net assets of the acquired subsidiary/associate at
the date of acquisition. Goodwill is carried at cost less accumulated impairment
losses.
Goodwill has an indefinite life and is annually tested for impairment. Goodwill
is allocated to each cash generating unit for the purpose of impairment testing.
Goodwill is impaired when the net present value of the forecast future cash
flows is insufficient to support its carrying value.
b) Licences
Licences are shown at historical cost. They have an indefinite useful life and
are carried at cost less accumulated impairment. Licences are annually tested
for impairment and provision is made for any impairment when the net present
value of future cash flows is less than the carrying value.
c) Syndicate capacity
The syndicate capacity represents the cost of purchasing the group's
participation in syndicate 2623. The capacity is capitalised at cost in the
balance sheet. It has an indefinite useful life and is carried at cost less
accumulated impairment. It is annually tested for impairment and provision is
made for any impairment.
d) Computer software
Costs that are directly associated with the development of identifiable and
unique software products and that will probably generate economic benefits
exceeding costs beyond one year, are recognised as intangible assets. Costs
include external consultant's fees, certain qualifying internal staff costs and
other costs incurred to develop and maintain software programmes. These costs
are amortised over their estimated useful life (3 years). Other non-qualifying
costs have been expensed as incurred.
Investments
Investments are recognised in the balance sheet at such time that the group
becomes a party to the contract of the financial instrument. An investment is
derecognised when the contractual rights to receive cash flows from the
financial assets expire, or where the financial assets have been transferred,
together with substantially all the risks and rewards of ownership.
On acquisition of the investment, the group is required to classify its
investments into the following categories: financial assets at fair value
through income, loans and receivables, held to maturity and available for sale.
At balance date the group had all investments classified as fair value through
income.
Financial assets at fair value through income
A financial asset is classified as fair value through income at inception if it
is acquired principally for the purpose of selling in the short term, if it
forms part of a portfolio in which there is evidence of short term profit taking
or if it is designated so by management.
Purchases and sales are recognised on the trade date, which is the date the
group commits to purchase or sell the asset, net of transaction costs. These
investments are subsequently carried at fair value. Any gains and losses arising
from changes in fair value are recognised in the income statement in the period
in which they arise.
The fair values of investments are based on quoted bid price.
Investment income
Investment income consists of dividends, interest, realised and unrealised gains
and losses on trading investments. Dividends on equity securities are recorded
as revenue on the ex-dividend date. Interest is recognised on an accruals basis.
Realised gain or loss on disposal of an investment is the difference between the
proceeds (net of transaction costs) and the carrying value of the investment.
Unrealised investment gains and losses represent the difference between the
carrying value at the balance sheet date, and the carrying value at the previous
period end or purchase value during the period.
Cash and cash equivalents
Cash and cash equivalents consist of cash at bank and in hand, deposits held at
call with banks, bank overdrafts and other short term highly liquid investments
with maturities of three months or less from the date of acquisition.
Operating leases
Leases where a significant portion of the risks and rewards of ownership are
retained by the lessor are classified as operating leases. Payments made for
operating leases are charged to the income statement on a straight line basis
over the period of the lease.
Employee benefits
a) Annual leave and long service leave
Employee entitlements to annual leave and long service leave are recognised when
they accrue to employees.
b) Pension obligations
The group operates a defined benefit and a defined contribution pension scheme.
The schemes are generally funded by payments from employees and the group taking
account of the recommendations of an independent qualified actuary.
A defined benefit plan is a pension plan that defines an amount of pension
benefit that an employee will receive on retirement, usually dependent on one or
more factors like age, years of service and compensation. The pension costs are
assessed using the projected unit credit method. Under this method the costs of
providing pensions is charged to the income statement so as to spread the
regular costs over the service lives of employees in accordance with the advice
of the qualified actuary, who values the plans annually. The pension obligation
is measured at present value of the estimate future cash flows. The actuarial
gains or losses are recognised in the profit or loss using the corridor approach
over the average remaining service lives of employees.
The corridor approach is defined as the excess of net cumulative unrecognised
gains and losses at the end of the previous reporting period and the greater of:
i) 10% of present value of the defined benefit obligation at that date; and
ii) 10% of fair value of plan assets at that date.
For the defined contribution plan, the group pays contributions to a privately
administered pension plan. Once the contributions have been paid, the group has
no further obligations. The group's contributions are charged to the income
statement in the period to which they relate.
c) Share based compensation
The group offers option plans over the group's ordinary shares to certain
employees, including save as you earn plan (SAYE), details of which are included
in the directors' remuneration report.
The group accounts for share compensation plans that were granted after 7
November 2002. The cost of providing share based compensation is based on the
fair value of the share options at grant date, which is recognised in the income
statement over the expected service period of the related employees. The fair
value of the share options is determined using the Black Scholes method.
When the options are exercised, the proceeds received, net of any transaction
costs are credited to share capital (nominal value) and share premium.
Income taxes
Income tax on the profit or loss for the period presented comprises current and
deferred tax. Income tax is recognised in the income statement except to the
extent that it relates to items recognised directly in equity, in which case it
is recognised in equity.
Current tax is the expected tax payable on the taxable income for the year using
tax rates enacted or substantially enacted at balance sheet date and any
adjustments to tax payable in respect of prior periods.
Deferred tax is provided in full, using the liability method, on temporary
differences arising between the tax bases of assets and liability and their
carrying amounts in the financial statements. The amount of deferred tax
provided is based on the expected manner of realisation or settlement of the
carrying amount of the assets and liabilities, using tax rates enacted or
substantially enacted at balance sheet date.
Deferred tax assets are recognised in the balance sheet to the extent that it is
probable that future taxable profit will be available against which the
temporary differences can be utilised.
Borrowings
Borrowings are initially recorded at proceeds less transaction costs incurred.
Subsequently borrowings are stated at amortised cost and interest is recognised
in the income statement over the period of the borrowings using the effective
interest method.
Earnings per share
Basic earnings per share is calculated by dividing profit after tax available to
shareholders by the weighted average number of ordinary shares in issue during
the period.
For diluted earnings per share, the weighted average number of ordinary shares
in issue is adjusted to assume conversion of all dilutive potential ordinary
shares such as share options granted to employees.
Provisions and contingencies
Provisions are recognised when the group has a present legal or constructive
obligation as a result of past event, it is probable that an outflow of
resources of economic benefits will be required to settle the obligation and a
reliable estimate of the obligation can be made. Where the group expects a
provision to be reimbursed, the reimbursement is recognised as a separate asset
but only when the reimbursement is virtually certain.
Contingencies are disclosed if there is a present obligation that may, but
probably will not require an outflow of resources.
2. Risk management
The group has identified the risks arising from its activities and has
established risk management policies and procedures to manage these risks in
accordance with its risk appetite. The group categorises its risks into six
areas; insurance, credit, market, liquidity, operational and group risk. The
sections below outline the group's risk appetite and explain how it defines and
manages each category of risk.
Insurance risk
The group's insurance business assumes the risk of loss from persons or
organisations that are directly exposed to an underlying loss. Insurance risk
arises from this risk transfer due to inherent uncertainties about the
occurrence, amount and timing of insurance liabilities. The four key components
of insurance risk are underwriting, reinsurance, claims management, reserving
and ultimate reserves. Each element is considered below.
a) Underwriting risk
Underwriting risk comprises four elements that apply to all insurance products
offered by the group:
• Event risk - the risk that individual risk losses or catastrophes lead
to claims that are higher than anticipated in plans and pricing;
• Pricing risk - the risk that the level of expected loss is understated
in the pricing process;
• Cycle risk - the risk that business is written in a soft market
without full knowledge as to the (in)adequacy of rates, terms and conditions;
and
• Expense risk - the risk that the allowance for expenses and inflation
in pricing is inadequate.
The group's underwriting strategy is to seek a diverse and balanced portfolio of
risks in order to limit the variability of outcomes. This is achieved by
accepting a spread of business over time, segmented between different classes of
business.
The annual business plans for each underwriting team reflect the group's
underwriting strategy, and set out the classes of business to be written, the
territories in which business is to be written and the industry sectors to which
the group is prepared to expose itself. These plans are approved and monitored
by the underwriting committee which meets monthly.
The group also recognises that insurance events are, by their nature, random,
and the actual number and size of events during any one year may vary from those
estimated using established statistical techniques.
To address this, the group sets out the realistic disaster scenario (RDS)
exposure that it is prepared to accept in certain territories to a range of
events such as natural catastrophes and terrorism losses. The current aggregate
position is monitored at the time of underwriting a risk, and reports are
produced to highlight the key aggregations to which the group is exposed.
The group uses a number of modelling tools to monitor aggregation and to
simulate catastrophe losses in order to measure the effectiveness of its
reinsurance programmes. Stress and scenario tests are also run using these
models.
The greatest likelihood of significant losses to the group arises from
catastrophe events, such as flood damage, windstorm or earthquake. Where
possible the group measures geographic accumulations and uses their knowledge of
the business, historical loss behaviour and commercial catastrophe modelling
software to assess the probable maximum loss (PML). Upon application of the
reinsurance coverage purchased, the key gross and net exposures are calculated
on the basis of a 1 in 250 year event. The group regularly models and monitors
known accumulations of risks including natural catastrophes, marine, liability
and political events.
The group's largest Lloyd's specified natural catastrophe 1 in 250 year stress
events are:
2005 2004
Lloyd's prescribed 1 in Modelled PML Modelled PML Modelled PML Modelled PML
250 year natural (before (after (before (after
catastrophe event reinsurance) reinsurance) reinsurance) reinsurance)
£m £m £m £m
San Francisco Quake
($54bn) 210.3 77.7 123.4 34.6
Gulf of Mexico Windstorm
($60bn) 178.2 59.5 133.3 51.8
Florida Pinellas
Windstorm ($70bn) 188.8 102.1 114.3 53.2
The group share of the combined syndicate increased from 54% in 2004 to 70% in
2005 which is the main reason for the increases above. These events reflect
available reinsurance programmes at the assumed loss date.
In 2005, the normal maximum gross PML line that any one underwriter could commit
the managed syndicate to was $50m. In many cases, maximum lines for classes of
business were much lower than this. These authority limits are enforced through
a comprehensive sign off process for underwriting transactions including dual
signoff for all line underwriters. Automated exception reports are also run
regularly covering line size, class and industry.
All underwriters also have a right to refuse renewal or change the terms and
conditions of insurance contracts upon renewal. Rate monitoring details,
including limits, deductibles, exposures, terms and conditions and risk
characteristics are also captured and the results are combined to monitor the
rating environment for each class of business.
Terms and conditions of insurance risks
The group's business is structured as a confederation of four independent
business segments utilising the same capital base and central services. The
group has recognised risk features specific to the main insurance products
offered by the group, and these are explained below.
Specialty lines
This segment mainly underwrites professional lines, employment practices
liability, specialty liability, political risk, directors and officers
liability, healthcare and contingency. Whilst most of this business is domiciled
in the US, the team also has a presence in continental Europe and the UK.
The liability insurance which is written on a worldwide basis is considered
medium tail because claims in this class typically take 3 to 9 years before they
are fully reported and paid by the group for a given accident year. The speed of
claim reporting and claim settlement is a function of the specific coverage
provided, the jurisdiction and specific policy provisions such as self-insured
retentions. Other inherent uncertainties encountered through this class include:
• Whether the 'event' triggering coverage is confined to only one time
period or is spread over multiple time periods;
• The potential financial costs arising from individual claim actions;
• Whether such claims were reasonably foreseeable and intended to be
covered at the time the contracts were written; and
• The potential for mass claim actions.
Marine
This segment underwrites a broad spectrum of marine classes. Specialised cover
offered includes hull, energy, cargo & specie and war risks and the majority of
these risks are exposed to catastrophes. For example, a significant portion of
the energy business is exposed to the Gulf of Mexico and thus has significant
hurricane exposure.
Some areas of the marine business overlaps with other segments which can result
in accumulation of losses. These accumulations including exposures to
catastrophes are regularly monitored and managed by our reinsurance programmes.
Reinsurance
This division specialises in writing property catastrophe, property per risk,
aggregate excess of loss and pro rata business.
The two primary risks in this business are:
• The risk that a catastrophe event does or does not occur; and
• That future catastrophe experience may turn out to be inconsistent
with the assumptions used in the industry-wide pricing models, causing claims
experience to be higher than expected.
Property
Our property segment underwrites property insurance on a worldwide basis.
Property insurance indemnifies, subject to any limits or excesses, the
policyholder against loss or damage to their own material property and business
interruption arising from this damage. The event giving rise to a claim for
damage to buildings or contents usually occurs suddenly (as for fire and
burglary) and the cause is easily determinable. The claim will thus be notified
promptly and can be settled without delay (an exception to this is subsidence
claims).
Significant geographical concentrations of risk can exist within property
portfolios meaning that natural perils such as adverse windstorms or earthquakes
may expose large segments of the group's property risks. In the event of an
earthquake, the property portfolio expects to receive claims for both structural
damage and business interruption.
b) Reinsurance risk
Reinsurance risk to the group arises where reinsurance contracts put in place to
reduce gross insurance risk do not perform as anticipated, result in coverage
disputes or prove inadequate in terms of the vertical or horizontal limits
purchased.
The group's reinsurance programmes are determined from the underwriting team
business plans and seek to protect group capital from an adverse volume or
volatility of claims on both a per risk and per event basis. In 2005, the group
bought a combination of proportional and non-proportional reinsurance treaties
and facultative reinsurance to reduce the maximum net exposure on any one risk
for the managed syndicates to $22.5m. In most classes of business the maximum
net exposure is much lower than this. The group aims to establish appropriate
retention levels and limits of protection that are consistent with keeping
within the board's risk tolerance and achieving the target rates of return. The
efficacy of protection sought is assessed against the cost of reinsurance,
taking into consideration current and expected market conditions.
The reinsurance security committee (RSC) examines and approves all reinsurers to
ensure that they possess suitable security. The RSC also establish limits for
the reinsurance programme regarding quality and quantity. The group's ceded
reinsurance team maintain the list of these approved reinsurers and no treaty
reinsurance is placed without prior referral from this team. This team also
monitors erosion of the reinsurance programme and its ongoing adequacy.
c) Claims management risk
Claims management risk may arise within the group in the event of inaccurate or
incomplete case reserves and claims settlements, poor service quality or
excessive claims handling costs. Such risks may damage the group brand and
undermine its ability to win and retain business. These risks can occur at any
stage of the claims life-cycle.
The group's claims teams are focused upon delivering quality, reliability and
speed of service to both internal and external clients. Their aim is to adjust
and process claims in a fair, efficient and timely manner, in accordance with
the policy's terms and conditions, the regulatory environment, and the business'
broader interests. Prompt and accurate case reserves are set for all known
claims liabilities, including provisions for expenses.
d) Reserving and ultimate reserves risk
Reserving and ultimate reserves risk occurs within the group where established
insurance liabilities are insufficient through poor forecasting, or where there
is inadequate allowance for expenses and reinsurance bad debts in provisions.
To address reserving and ultimate reserves risk we have an experienced actuarial
department. An external independent actuary also performs an annual review to
produce a statement of actuarial opinion for syndicates 2623 and 623.
The group's reserving policy is to use recognised actuarial techniques to
project gross premiums written and insurance liabilities. The objective is to
produce reliable and appropriate estimates that are consistent over time and
across classes of business. Estimates of gross premiums written and claims are
prepared by the actuarial department, and are used through a formal quarterly
peer review process to independently check the integrity of the estimates
produced by the underwriting teams for each class of business. These meetings
are attended by senior management, senior underwriters, actuarial, claims, and
finance representatives.
2.2 Credit risk
Credit risk arises where counterparties fail to meet their financial obligations
in full as they fall due. The primary sources of credit risk for the group are:
• Reinsurers - whereby reinsurers may fail to pay valid claims against a
reinsurance contract held by the group;
• Brokers and intermediaries - whereby counterparties fail to pass on
premium or claims collected or paid on behalf of the group; and
• Investments - whereby issuer default results in the group losing all
or part of the value a financial instrument.
The group's core business is to accept significant insurance risk and the
appetite for other risks is low. This protects the group's capital from erosion
so that it can meet its insurance liabilities.
To assist in the understanding of credit risks, A.M. Best, Moody's and Standard
& Poor's (S&P) ratings are used. These ratings have been categorised below as
used for Lloyd' reporting:
A.M. Best Moody's S&P
Tier 1 A++ to A- Aaa to A3 AAA to A-
Tier 2 B++ to B- Baa1 to Ba3 BBB+ to BB-
Tier 3 C++ to C- B1 to Caa B+ to CCC
Tier 4 D,E,F,S Ca to C R,(U,S) 3
The following tables summarise the group's significant concentrations of credit
risk:
31 December 2005 Tier 1 Tier 2 Tier 3 Tier 4 Unrated Total
£m £m £m £m £m £m
Financial
investments 684.9 38.4 2.8 - 45.8 771.9
Insurance
receivables 17.3 - - - 141.6 158.9
Reinsurance assets 347.3 1.9 - - 45.3 394.5
Cash and cash
equivalents 106.8 - - - 5.8 112.6
Total 1,156.3 40.3 2.8 - 238.5 1,437.9
31 December 2004 Tier 1 Tier 2 Tier 3 Tier 4 Unrated Total
£m £m £m £m £m £m
Financial
investments 414.6 29.2 - - 26.1 469.9
Insurance
receivables 12.7 0.1 - - 76.2 89.0
Reinsurance assets 88.2 0.7 - - 9.4 98.3
Cash and cash
equivalents 81.5 - - - - 81.5
Total 597.0 30.0 - - 111.7 738.7
Key controls operated by the group to address credit risk are set out below.
The group has developed processes to formally examine all reinsurers before
entering into new business arrangements. New reinsurers are approved by the RSC,
which also reviews arrangements with all existing reinsurers at least annually.
Vulnerable or slow paying reinsurers are examined more frequently.
An approval system also exists for new brokers, and broker performance is
regularly reviewed. System exception reports highlight trading with non-approved
brokers, and the group's credit control team regularly monitors the aging and
collectibility of debtor balances. Large and aged items are prioritised.
The investments committee has established guidelines for the group's investment
managers regarding the type, duration and quality of investments acceptable to
the group. The performance of investment managers is regularly reviewed to
confirm adherence to these guidelines.
2.3 Liquidity risk
The group is exposed to daily calls on its available cash resources, principally
from claims arising from its insurance business. Liquidity risk arises where
cash may not be available to pay obligations when due at a reasonable cost.
The group's approach is to manage its liquidity position so that it can
reasonably survive a significant loss event. This means that the group maintains
sufficient liquid assets, or assets that can be translated into liquid assets at
short notice and without capital loss, to meet expected cash flow requirements.
These liquid funds are regularly monitored using cash flow forecasting to ensure
that surplus funds are invested to achieve a higher rate of return.
2.4 Market risk
Market risk arises where the value of assets and liabilities change as a result
of movements in foreign exchange rates, interest rates and market prices.
a) Foreign exchange risk
The group is exposed to changes in the value of assets and liabilities due to
movements in foreign exchange rates. The group deals in four main currencies, US
$, UK £, CAD $ and Euro €. Transactions in all other currencies are converted to
UK £ on initial recognition.
The group manages foreign exchange exposure by projecting forward our US $
profits for each calendar year and selling one twelfth of the expected amount
each month. The amounts sold are periodically validated against actual exposure
and additional 'top up' trades of US dollars are made if required. The foreign
exchange exposure to CAD $ and Euro € are closely monitored by the group and a
similar approach will be taken to manage the risk as our exposure grows in the
future.
The following table summarises the carrying value of total assets and total
liabilities categorised by currency:
31 December 2005 US $ CAD $ EUR € Subtotal UK £ Total
£m £m £m £m £m £m
Total assets 940.0 38.4 54.3 1,032.7 525.0 1,557.7
Total liabilities (928.3) (32.8) (46.0) (1,007.1) (255.9) (1,263.0)
11.7 5.6 8.3 254.8 280.4
25.6
31 December 2004 US $ CAD $ EUR € Subtotal UK £ Total
£m £m £m £m £m £m
Total assets 351.3 21.3 20.9 393.5 418.7 812.2
Total liabilities (364.6) (14.2) (18.2) (397.0) (137.6) (534.6)
(13.3) 7.1 2.7 3.5 281.1 277.6
b) Interest rate risk
Some of the group's financial instruments including financial investments, cash
and cash equivalents and borrowings, are exposed to movements in market interest
rates.
The group manages interest rate risk by investing in short duration financial
investments and cash and cash equivalents. The investment committee monitors the
duration of these assets on a regular basis.
The following summarises the effective interest rate of the group's financial
instruments exposed to interest rate risk at the balance sheet date.
2005 2004
% %
Debt securities 4.6 2.7
Cash and cash equivalents 3.4 2.5
Borrowings 8.1 7.1
The following table shows the average duration of the financial instruments.
Duration is a commonly used measure of volatility and we believe gives a better
indication than maturity of the likely sensitivity of our portfolio to changes
in interest rates.
Duration
31 December 2005 <1 yr 1-2 yrs 2-3 yrs 3-4 yrs 4-5 yrs 5-10 >10 yrs Total
yrs
Debt securities 505.4 188.3 15.1 12.5 2.7 0.9 - 724.9
Cash and cash
equivalents 112.6 - - - - - - 112.6
Borrowings - - (18.6) - - - (10.5) (29.1)
Total 618.0 188.3 (3.5) 12.5 2.7 0.9 (10.5) 808.4
31 December 2004 <1 yr 1-2 yrs 2-3 yrs 3-4 yrs 4-5 yrs 5-10 >10 yrs Total
yrs
Debt securities 423.8 21.1 3.3 1.5 - - - 449.7
Cash and cash
equivalents 81.5 - - - - - - 81.5
Borrowings - - - - - - (9.4) (9.4)
Total 505.3 21.1 3.3 1.5 - - (9.4) 521.8
The next two tables summarise the carrying amount of financial instruments
exposed to interest rate risk by maturity at balance sheet date.
Maturity
31 December 2005 <1 yr 1-2 yrs 2-3 yrs 3-4 yrs 4-5 yrs 5-10 >10 yrs Total
yrs
Debt securities 319.7 284.6 11.6 50.1 17.8 40.5 0.6 724.9
Cash and cash
equivalents 112.6 - - - - - - 112.6
Borrowings - - (18.6) - - - (10.5) (29.1)
Total 432.3 284.6 (7.0) 50.1 17.8 40.5 (9.9) 808.4
31 December 2004 <1 yr 1-2 yrs 2-3 yrs 3-4 yrs 4-5 yrs 5-10 >10 yrs Total
yrs
Debt securities 301.9 69.9 35.7 1.1 8.2 25.5 7.4 449.7
Cash and cash
equivalents 81.5 - - - - - - 81.5
Borrowings - - - - - - (9.4) (9.4)
Total 383.4 69.9 35.7 1.1 8.2 25.5 (2.0) 521.8
c) Price risk
The equity securities and hedge funds that are recognised on the balance sheet
at their fair value are susceptible to losses due to adverse changes in prices.
This is referred to as price risk.
Investments are made in equity and hedge funds depending on the group's appetite
for risk. These investments are well diversified with high quality, liquid
securities. The investment committee has established guidelines with investment
managers setting out maximum investment limits, diversification across
industries and concentrations in any one industry or company.
Listed investments are recognised on the balance sheet at quoted bid price. If
the market for the investment is not considered to be active, then the group has
established fair value using valuation techniques. This includes using recent
arm's length market transactions, reference to current fair value of other
investments that are substantially the same, discounted cash flow models and
other valuation techniques that are commonly used by market participants. The
total change in fair value using these valuation techniques that was recognised
in the income statement during the year is £4.1m (2004: £0.8m).
At 31 December 2005, the fair value of hedge funds recognised on the balance
sheet was £42.5m (2004: £18.2 m).
2.5 Operational risk
Operational risk arises from the risk of losses resulting from inadequate or
failed internal processes, people and systems or from external events.
The group actively manages these risks and minimises them where appropriate.
This is achieved by implementing and communicating guidelines to staff and other
third parties. The group also regularly monitors the performance of its controls
and adherence to these guidelines through the risk management reporting process.
Key components of the group control environment include:
• ICA modeling of operational risk exposure and scenario testing;
• Management review of activities;
• Documentation of policies and procedures;
• Contingency planning; and
• Other systems controls.
2.6 Group risk
Group risk occurs where business units fail to consider the impact of their
activities on other parts of the group, as well as the risks arising from these
activities. There are three main components of group risk which are explained
below.
Strategic
This is the risk that the group's strategy is inappropriate or that the group is
unable to implement its strategy. There is no tolerance for any breach of
guidance issued by the board, and where events supersede the group strategic
plan this is escalated at the earliest opportunity through the group's
monitoring tools and governance structure.
Reputation
Reputation risk is the risk of negative publicity as a result of the group's
contractual arrangements, customers, products and services. Key sources of
reputation risk include operation of a Lloyd's franchise, interaction with
capital markets since the group's IPO during 2002, and reliance upon the Beazley
brand in the US.
The group's preference is to minimise reputation risks. Where it is not possible
to fully eliminate reputation risks, the group seeks to minimise their frequency
and severity and manage reputation risk through public relations and
communication channels.
Management stretch
Management stretch is the risk that business growth might cause the group's
matrix management structure to become overly complex, and undermine
accountability and control within the group. As the group expands its world-wide
business both in the UK and US, management stretch may make the identification,
analysis and control of group risks more complex.
On a day-to-day basis, operation of the matrix management structure encourages
organisational flexibility and adaptability, while ensuring that activities are
appropriately coordinated and controlled. By focussing upon the needs of their
customers and demonstrating both progressive and responsive abilities, staff,
management and outsourced service providers are expected to excel in service and
quality. Individuals and teams are also expected to transact their activities in
an open and transparent way. These behavioural expectations reaffirm low group
risk tolerance by aligning interests to ensure that routine activities, projects
and other initiatives are implemented to benefit and protect both local and
group resources.
3 Segment analysis
Segment information is presented in respect of business segments (primary) and
Lloyd's/Non-Lloyd's (secondary) segments. This is based on the group's
management and internal reporting structures.
Segment results, assets and liabilities include items directly attributable to a
segment as well as those that can be allocated on a reasonable basis.
All inter-segment transactions are determined on an arm's length basis.
a) Primary reporting segment - business segments
The group is organised into four business segments, marine, property, specialty
lines and reinsurance. A description of the business undertaken by each segment
is given in note 2.
All foreign exchange differences on non-monetary items have been left
unallocated. This has been separately disclosed as it provides a fairer
representation of the loss ratios, which would otherwise be distorted by the
mismatch arising under IFRS whereby unearned premium reserve and DAC are treated
as non monetary items and claims reserves are treated as monetary items.
2005
Marine Property Specialty Reinsurance Unallocated Total
£m £m Lines £m £m £m
£m
Segment results
Gross premiums
written 93.5 128.1 270.9 65.5 - 558.0
Net premiums
written 78.6 98.5 207.7 41.0 - 425.8
Net earned
premiums 64.5 81.2 192.2 37.2 (2.8) 372.3
Net investment
income 3.3 5.8 19.5 3.0 - 31.6
Other income 2.9 1.4 2.4 0.2 - 6.9
Revenue 70.7 88.4 214.1 40.4 (2.8) 410.8
Net insurance
claims 32.1 49.1 135.8 56.0 - 273.0
Expenses for the
acquisition of
insurance
contracts 17.8 27.9 39.4 10.1 0.3 95.5
Administrative
expenses 2.2 5.7 12.8 2.3 - 23.0
Other expenses 2.4 3.2 5.9 1.2 (11.3) 1.4
Operating
expenses 54.5 85.9 193.9 69.6 (11.0) 392.9
Results from
operating
activities 16.2 2.5 20.2 (29.2) 8.2 17.9
Finance costs (1.8)
Share of profit -
of associates
Profit before tax 16.1
Tax expense (5.0)
Profit after tax 11.1
Claims ratio 50% 60% 71% 151% - 73%
Expense ratio 31% 41% 27% 33% - 32%
Combined ratio 81% 101% 98% 184% - 105%
Segment assets and
liabilities
Segment assets 178.1 282.9 895.8 186.6 - 1,543.4
Segment
liabilities 161.6 185.3 722.2 193.9 - 1,263.0
Additional
information
Capital expenditure 1.3 1.8 3.8 0.9 5.2 13.0
Depreciation 0.1 0.1 0.1 - - 0.3
Net cash flow 3.7 7.8 15.4 0.6 - 27.5
2004
Marine Property Specialty Reinsurance Unallocated Total
£m £m Lines £m £m £m
£m
Segment results
Gross premiums
written 62.1 93.1 203.7 43.4 - 402.3
Net premiums
written 50.8 77.0 168.4 32.8 - 329.0
Net earned premiums 43.5 72.6 143.7 33.9 9.0 302.7
Net investment
income 1.1 2.1 7.0 1.1 - 11.3
Other income 3.5 4.3 1.0 2.4 - 11.2
Revenue 48.1 79.0 151.7 37.4 9.0 325.2
Net insurance
claims 20.9 38.9 98.0 24.2 - 182.0
Expenses for the
acquisition of
insurance contracts 11.5 19.7 31.6 7.0 1.6 71.4
Administrative
expenses 2.9 5.0 8.0 1.7 17.6
Other expenses 2.5 3.4 5.8 1.0 5.1 17.8
Operating expenses 37.8 67.0 143.4 33.9 6.7 288.8
Results from
operating
activities 10.3 12.0 8.3 3.5 2.3 36.4
Finance costs (1.1)
Share of profit of
associates 0.1
Profit before tax 35.4
Tax expense (10.6)
Profit after tax 24.8
Claims ratio 48% 54% 68% 71% - 60%
Expense ratio 33% 34% 28% 26% - 29%
Combined ratio 81% 88% 96% 97% - 89%
Segment assets and
liabilities
Segment assets 93.3 148.3 474.7 95.9 - 812.2
Segment liabilities 67.8 112.9 297.2 56.7 - 534.6
Additional
information
Capital expenditure 0.1 0.3 0.5 0.1 - 1.0
Net cash flow 6.1 8.3 40.5 7.8 - 62.7
As the group had no material plant and equipment at 31 December 2004, there is
no depreciation.
b) Secondary reporting segment - geographical segments
The group's four business segments are managed geographically by placement of
risk i.e. Lloyd's and Non Lloyd's.
2005 2004
£m £m
Net earned premiums
Lloyd's 372.3 302.7
Non Lloyd's - -
372.3 302.7
2005 2004
£m £m
Segment assets
Lloyd's 1,494.2 810.2
Non Lloyd's 49.2 2.0
1,543.4 812.2
Segment assets are allocated based on where the assets
are located.
Capital expenditure
Lloyd's 7.5 1.0
Non Lloyd's 5.4 -
12.9 1.0
Capital expenditure is allocated based on where the assets are located.
4 Net investment income
2005 2004
£m £m
Investment income at fair value through
income statement
- Dividend income - 0.1
- Interest income 31.3 12.9
Realised gains/(losses) on financial
investments at fair value through income
statement
- Realised gains 1.8 0.5
- Realised losses (3.6) (1.1)
Net fair value gains/(losses) on financial
investments through income statement
- Fair value gains 5.7 1.5
- Fair value losses (2.7) (2.0)
Investment management expenses (0.9) (0.6)
Net investment income 31.6 11.3
5 Other income
2005 2004
£m £m
Profit commissions 4.9 8.7
Agency fees 1.3 2.0
Other income 0.7 0.5
6.9 11.2
6 Operating expenses
2005 2004
£m £m
Auditors remuneration
- Company audit fees 0.1 0.1
- Group audit fees 0.2 0.1
- Tax service 0.1 0.2
- Non-audit service - -
Other operating leases 0.7 0.5
Profit commission related bonus payments
- 2002 year of account - 2.6
- 2003 year of account 2.0 4.2
- 2004 year of account 1.3 -
Foreign exchange loss/(gain) (11.7) 5.3
7 Employee benefit expenses
2005 2005 2004 2004
£m £m £m £m
Group Company Group Company
Wages and salaries 15.4 0.2 11.6 0.4
Short-term incentive payments 5.8 - 7.5 -
Social security 2.4 - 2.5 -
Share based remunerations 0.8 - 0.2 -
Pension costs 2.9 - 2.5 -
27.3 0.2 24.3 0.4
Recharged to syndicate 623 (7.8) (8.7)
- -
19.5 0.2 15.6 0.4
8 Finance costs
2005 2004
£m £m
Interest expense 1.2 0.6
Arrangement fees 0.6 0.5
1.8 1.1
9 Income tax expense
2005 2004
£m £m
Current tax expense
Current year 6.2 4.9
Prior year adjustments 0.8 1.4
7.0 6.3
Deferred tax expense
Origination and reversal of temporary (1.0) 6.2
differences
Prior year adjustments (1.0) (1.9)
(2.0) 4.3
Income tax expense 5.0 10.6
Profit before tax 16.1 35.4
Tax calculated at domestic tax rates 4.8 10.6
Effects of:
- Effect of tax rates in foreign 0.3 (0.1)
jurisdictions
- Non-deductible expenses 0.1 0.6
- Income not subject to tax - -
- Under/(over) provided in prior years (0.2) (0.5)
Tax charge for the period 5.0 10.6
The weighted average applicable tax rate was 30% (2004: 30%).
10 Earnings per share
2005 2004
Basic 3.1p 9.9 p
Diluted 3.1p 9.9 p
Basic
Basic earnings per share is calculated by dividing profit after tax of £11.1m
(2004: £24.8m) by the weighted average number of issued shares during the year
of 360.6m (2004: 251.1m).
Diluted
Diluted earnings per share is calculated by dividing profit after tax of £11.1m
(2004: £24.8m) by the adjusted weighted average number of shares of 363.9m
(2004: 251.6m). The adjusted weighted average number of shares assumes
conversion of dilutive potential ordinary shares, being shares from the save as
you earn, retention and deferred share schemes.
11 Dividends per share
.A final dividend of 2.5p (2004: 0.7p) per ordinary share is payable on 12 May
2006 to shareholders registered on 18 April 2006 in respect of the year ended 31
December 2005. Together with the interim dividend of 1.5p (2004: 0.3p) this
brings the total to 4.0p (2004: 1.0p). These financial statements do not provide
for the final dividend as a liability.
12 Intangible assets
Goodwill Syndicate Licences IT Total
capacity development
costs
Cost
Balance at 1 January
2004 6.0 1.1 - - 7.1
Additions - 1.0 - - 1.0
Disposals - - - - -
Balance at 31 December
2004 6.0 2.1 - - 8.1
Balance at 1 January
2005 6.0 2.1 - - 8.1
Additions - 1.6 5.1 3.6 10.3
Disposals - - - - -
Foreign exchange - - 0.1 - 0.1
Balance at 31 December
2005 6.0 3.7 5.2 3.6 18.5
Amortisation
Balance at 1 January
2005 - -
Amortisation for the
year 0.3 0.3
Balance at 31 December
2005 0.3 0.3
Carrying amount
31 December 2004 6.0 2.1 - - 8.1
31 December 2005 6.0 3.7 5.2 3.3 18.2
Impairment tests
Goodwill, syndicate capacity and licences are deemed to have indefinite life.
Consequently, they are not amortised but annually tested for impairment. They
are allocated to the group's cash generating units (CGUs) as follows:
2005 £m 2004 £m
Lloyd's Non-Lloyd's Lloyd's Non-Lloyd's
Goodwill 6.0 - 6.0 -
Syndicate capacity 3.7 - 2.1 -
Licences - 5.2 - -
When testing for impairment, the recoverable amount of a CGU is determined based
on value in use. Value in use is calculated using projected cash flows based on
financial budgets approved by management covering a three year period. Cash
flows beyond a three year period are extrapolated using an estimated growth rate
of 2% (2004: 2%). This growth rate is consistent with the long term average
growth rate for the industry. A pre-tax discount rate of 8% (2004: 8%) has been
used to discount the projected cash flows.
13 Plant and equipment
Fixtures & Computer Total
Fittings equipment
Cost
Balance at 1 January 2005 - - -
Additions 2.4 0.1 2.5
Disposals - - -
Balance at 31 December 2005 2.4 0.1 2.5
Accumulated depreciation
Balance at 1 January 2005 - - -
Depreciation charge for the year - - -
Disposals - - -
Balance at 31 December 2005 - - -
Carrying amounts 2.4 0.1 2.5
The group did not have any material plant and equipment at 31 December 2004.
14 Investment in associates
The group has the following interests in associates:
Ownership
Country 2005 2004
Beazley Finance Limited UK 22.7% 22.7%
Beazley Dedicated Limited UK 22.7% 22.7%
Asia Pacific Underwriting Agency HK 79.8% 40.0%
Limited
Summary financial information on associates - 100 per cent:
Assets Liabilities Equity Income Profit
£m £m £m £m £m
2005
Beazley Finance
Limited 0.4 (0.5) (0.1) - -
Beazley Dedicated
Limited 4.2 (1.6) 2.6 - -
4.6 (2.1) 2.5 - -
2004
Beazley Finance
Limited 0.4 (0.5) (0.1) - -
Beazley Dedicated
Limited 31.7 (29.1) 2.6 0.2 2.5
Asia Pacific
Underwriting Agency
Limited 1.3 (1.1) 0.2 0.4 -
33.4 (30.7) 2.7 0.6 2.5
On 26 January 2006, the group increased its shareholding in Asia Pacific
Underwriting Agency Limited to 100% from 79.8% at 31 December 2005 (2004:
40.0%). At 31 December 2005 the group controlled Asia Pacific Underwriting
Agency Limited so it is treated as a subsidiary.
Beazley Furlonge Holdings Limited owns 5,000,000 ordinary shares in Beazley
Finance Limited, the holding company of Beazley Dedicated Limited, a dedicated
corporate member of syndicate 623. This share represents 22.7% of the entire
share capital of Beazley Finance Limited. Beazley Furlonge Holdings Limited has
guaranteed a letter of credit of £2m to support underwriting of Beazley
Dedicated Limited on syndicate 623. The proportion of profits receivable by the
group is determined by agreement between AON (the majority shareholder in
Beazley Finance Limited) and the group and varies by year of account.
Beazley Dedicated Limited participated in syndicate 623 for all years of account
up to 2002. Reflected in these accounts are the results for the 2002 year of
account together with the results of Beazley Finance Limited to 31 December
2005.
15 Deferred acquisition costs
2005 2004
£m £m
Balance at 1 January 38.3 32.2
Additions 126.0 65.0
Amortisation charge (111.6) (58.9)
Balance at 31 December 52.7 38.3
16 Financial investments
2005 2004
Group Company Group Company
£m £m £m £m
Financial investments at
fair value through income
Equity securities- listed 4.5 - 2.0 -
Hedge funds 42.5 - 18.2 -
Debt securities 286.4
- Fixed interest 396.2 111.6 279.8 138.0
- Floating interest 328.7 110.3 163.3 90.0
Total financial investments
at fair value through
income 771.9 221.9 469.9 228.0
Current 366.7 151.5 322.1 155.6
Non current 405.2 70.4 147.8 72.4
771.9 221.9 469.9 228.0
All investments were classified as fair value through income.
The group has given a fixed and floating charge over its investments and other
assets to secure obligations to Lloyd's in respect of its corporate member
subsidiary. Further details are provided in note 32.
17 Insurance receivables
2005 2004
£m £m
Debtors arising out of direct insurance
contracts 139.2 74.8
Debtors arising out of reinsurance
operations 19.7 14.2
158.9 89.0
Current 158.9 89.0
Non current - -
158.9 89.0
All insurance debtors relate to business translated with brokers and
intermediaries.
18 Reinsurance assets
2005 2004
£m £m
Reinsurers' share of claims 344.5 64.5
Impairment provision (5.2) (1.2)
339.3 63.3
Reinsurers' share of unearned premium
reserve 55.2 35.0
394.5 98.3
19 Cash and cash equivalents
2005 2004
Group Company Group Company
£m £m £m £m
Cash at bank and in hand 6.2 0.7 3.9 1.7
Short term deposits 106.4 6.0 77.6 -
Cash and cash equivalent 112.6 6.7 81.5 1.7
20 Share capital
2005 2004
Issued no. of £m Issued no. of £ m
shares ( m) shares (m)
450,000,000 ordinary shares
of 5p each 360.6 18.0 360.6 18.0
Balance at 1 January 360.6 18.0 229.5 11.5
Issue of shares - - 131.1 6.5
Balance at 31 December 360.6 18.0 360.6 18.0
21 Reserves
Group Foreign Employee Employee
currency share share
Share Merger translation options trust
premium reserve reserve reserve reserve Total
£m £m £m £m £m £m
Balance at 1 January 2004 132.4 1.6 - 0.2 - 134.2
Share premium on issue of
shares 103.6 - - - - 103.6
Capitalised listing costs (5.5) - - - - (5.5)
Increase in employee share
options - - - 0.2 - 0.2
Balance at 31 December
2004 230.5 1.6 - 0.4 - 232.5
Increase in employee share
options - - - 0.4 - 0.4
Acquisition of own shares
held in trust - - - - (1.6) (1.6)
Foreign exchange
translation differences - - 0.8 - - 0.8
Balance at 31 December
2005 230.5 1.6 0.8 0.8 (1.6) 232.1
Company Foreign Employee Employee
currency share share
Share Merger translation options trust
premium reserve reserve reserve reserve Total
£m £m £m £m £m £m
Balance at 1 January 2004 132.4 - - - - 132.4
Share premium on issue of
shares 103.6 - - - - 103.6
Capitalised listing costs (5.5) - - - - (5.5)
Balance at 31 December
2004 230.5 - - - - 230.5
Foreign exchange
translation differences - - (1.1) - - (1.1)
Balance at 31 December
2005 230.5 - (1.1) - - 229.4
22 Equity compensation plans
22.1 Employee share trust
2005 2004
Number (m) £m Number (m) £m
Costs debited to employee
share trust reserve
Balance at 1 January - - - -
Additions 1.9 1.6 - -
Balance at 31 December 1.9 1.6 - -
The shares are owned by the employee share trust, to satisfy awards under the
group's deferred share plan and retention plan. These shares are purchased on
the market and carried at cost.
On the third anniversary of an award the shares under the deferred share plan
are transferred from the trust to the employees. Under the retention plan, on
the third anniversary, and each year after that, 15.0% of the shares awarded are
transferred to the employees.
The deferred share plan is recognised in the income statement on a straight line
basis over a period of 3 years, while the retention share plan is recognised in
the income statement on a straight line basis over a period of 6 years.
22.2 Employee share option plans
The group has long term incentive plan, approved share option plan, unapproved
share option plan, phantom share option and save as you earn (SAYE) that entitle
employees to purchase shares in the group. In accordance with these plans,
options are exercisable at the market price of the shares at the date of the
grant.
In addition, the group further granted share options before 7 November 2002. The
recognition and measurement principles in IFRS 2 have not been applied to these
grants in accordance with the transitional provisions in IFRS 1 and IFRS 2.
The terms and conditions of the grants are as follows:
+--------------+------------+-------+-----------------------------+-----------+
|Share Option |Grant Date |No. of | Vesting Conditions |Contractual|
|Plan | |Options| |Life of |
| | | (m) | |Options |
+--------------+------------+-------+-----------------------------+-----------+
| | | | | |
| | | | | |
+--------------+------------+-------+-----------------------------+-----------+
|Long term |15/05/2003 | 0.6 | Three years service + NAV + | 10 years |
|incentive plan| | | TSR comparator | |
| +------------+-------+ | |
| |13/06/2003 | 0.1 | | |
| +------------+-------+ | |
| |29/03/2004 | 0.4 | | |
| +------------+-------+ | |
| |06/12/2004 | 0.1 | | |
| +------------+-------+ | |
| |21/03/2005 | 2.0 | | |
+--------------+-----+------+-------+-----------------------------+-----------+
|Approved share|13/11/2002 | 0.9 | Three years service + NAV | 10 years |
|option plan +------------+-------+ | |
| |15/05/2003 | 0.3 | | |
| +------------+-------+ | |
| |29/03/2004 | 0.5 | | |
+--------------+-----+------+-------+-----------------------------+-----------+
|Unapproved |15/05/2003 | 1.1 |Three years of service + NAV | 10 years |
|share option +------------+-------+ | |
|plan |13/06/2003 | 0.2 | | |
| +------------+-------+ | |
| |29/03/2004 | 0.7 | | |
| +------------+-------+ | |
| |06/12/2004 | 0.3 | | |
+--------------+------------+-------+-----------------------------+-----------+
|Phantom share |08/07/2003 | 0.4 |Three years of service + NAV | 10 years |
|option | | | + TSR comparator | |
+--------------+------------+-------+-----------------------------+-----------+
|Save as you |15/05/2003 | 0.4 | Three years of service | 10 years |
|earn +------------+-------+ | |
| |20/04/2004 | 0.5 | | |
| +------------+-------+ | |
| |14/04/2005 | 0.3 | | |
+--------------+-----+------+-------+-----------------------------+-----------+
|Total share options | | 8.8 | | |
| | | | | |
+--------------+-----+------+-------+-----------------------------+-----------+
Vesting conditions
In summary the vesting conditions are defined as:
Three years of service An employee has to remain in employment until the third
anniversary from the grant date.
Net asset value (NAV) The NAV growth is greater than the risk free rate of
return plus a premium per year.
Total shareholder The group's TSR growth is compared with that of members of
return (TSR) comparator a comparator group comprising of 12 companies from the
insurance sector (the 'comparator group') over a three
year period starting with the year in which the award is
made.
The number and weighted average exercise prices of share options are as follows:
2005 2004
Weighted No. of Weighted
average Options average No. of
exercise price (m) exercise price Options
(pence per (pence per (m)
share) share)
Outstanding at 1 January 65.4 6.5 64.3 4.4
Forfeited during the year 62.3 (0.1) 69.5 (0.4)
Exercised during the year - - - -
Granted during the year 10.2 2.4 70.2 2.5
Outstanding at 31 December 8.8 65.4 6.5
50.4
Exercisable at 31 December - -
The share option program allows group employees to acquire shares of the
company. The fair value of options granter is recognised as an employee expense
with a corresponding increase in employee share options reserve. The fair value
is measured at grant date and spread over the period during which the employees
become unconditionally entitled to the options. The fair values of the options
granted is measured at grand date and spread over the period in which the
employees become unconditionally entitled to the options. The fair value of the
options granted is measured using the Black-Scholes model, taking into account
the terms and conditions upon which the options were granted. The amount
recognised as an expense is adjusted to reflect the actual number of share
options that vest, except where forfeiture is due to the share option achieving
the vesting conditions.
The following is a summary of the assumptions used to calculate the fair value.
2005 2004
£m £m
Share options charge to income statement 0.4 0.2
Weighted average share price (pence per option) 90.1 90.7
Weighted average exercise price (pence per 50.4 65.4
option)
Weighted average expected life of options 6.0 yrs 6.0 yrs
Expected volatility 25.0% 25.0%
Expected dividend yield 4.0% 4.0%
Average risk free interest rate 4.0% 4.0%
The expected volatility is based on historic volatility over a period of at
least 2 years.
23 Insurance liabilities and reinsurance assets
2005 2004
£m £m
Gross
Claims reported and loss adjustment expenses 349.3 57.4
Claims incurred but not reported 479.5 209.8
Gross claims liabilities 828.8 267.2
Unearned premiums 267.6 193.3
Total insurance liabilities, gross 1,096.4 460.5
Recoverable from reinsurers
Claims reported and loss adjustment expenses 198.5 12.2
Claims incurred but not reported 140.8 51.1
Reinsurers share of claims liabilities 339.3 63.3
Unearned premiums 55.2 35.0
Total reinsurers' share of insurance liabilities 394.5 98.3
Net
Claims reported and loss adjustment expenses 150.8 45.2
Claims incurred but not reported 338.7 158.7
Net claims liabilities 489.5 203.9
Unearned premiums 212.4 158.3
Total insurance liabilities, net 701.9 362.2
The gross claims reported, the loss adjustment liabilities and the liabilities
for claims incurred but not reported are net of expected recoveries from salvage
and subrogation. The amounts for salvage and subrogation at the end of 2005 and
2004 are not material.
23.1 Movements in insurance liabilities and reinsurance assets
a) Claims and loss adjustment expenses
+-------------------------+------------------------------+-+------------------------------+
| | 2005 | | 2004 |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
| | Gross | Reinsurance| Net| | Gross|Reinsurance| Net|
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Claims reported and loss | 57.4| (12.2)| 45.2| | 12.5| (0.6)| 11.9|
|adjustment expenses | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Claims incurred but not | 209.8| (51.1)| 158.7| | 80.9| (25.2)| 55.7|
|reported | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Balance at 1 January | 267.2| (63.3)| 203.9| | 93.4| (25.8)| 67.6|
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Claims paid | (140.4)| 30.5| (109.9)| | (40.4)| 2.2| (38.2)|
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Increase in claims | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|- Arising from current | 683.4| (300.6)| 382.8| | 243.1| (53.6)| 189.5|
|year claims | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|- Arising from prior year| (21.8)| 9.6| (12.2)| | (18.3)| 10.8| (7.5)|
|claims | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Net exchange differences | 40.4| (15.5)| 24.9| | (10.6)| 3.1| (7.5)|
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Balance at 31 December | 828.8| (339.3)| 489.5| | 267.2| (63.3)| 203.9|
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Claims reported and loss | 349.3| (198.5)| 150.8| | 57.4| (12.2)| 45.2|
|adjustment expenses | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Claims incurred but not | 479.5| (140.8)| 338.7| | 209.8| (51.1)| 158.7|
|reported | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
|Balance at 31 December | 828.8| (339.3)| 489.5| | 267.2| (63.3)| 203.9|
| | | | | | | | |
+-------------------------+--------+------------+--------+-+---------+-----------+--------+
b) Unearned premiums reserve
2005 2004
Gross Reinsurance Net Gross Reinsurance Net
Balance at 1 January 193.3 (35.0) 158.3 165.1 (33.1) 132.0
Increase in the year 564.6 (38.7) 525.9 422.0 (69.9) 352.1
Release in the year (490.3) 18.5 (471.8) (393.8) 68.0 (325.8)
Balance at 31 December 267.6 (55.2) 212.4 193.3 (35.0) 158.3
23.2 Assumptions, changes in assumptions and sensitivity
a) Process used to decide on assumptions
The peer review reserving process
Beazley uses a dual track process to set its reserve:
• The actuarial team uses several actuarial and statistical methods to
estimate the ultimate premium and claims costs. The most appropriate methods are
selected depending on the nature of each class of business; and
• The underwriting teams concurrently review the development of the
incurred loss ratio over time and utilise their detailed understanding of the
risks underwritten to establish an alternative
• Estimate of ultimate claims cost which are compared to the actuarially
established figures.
A formal peer review process is then undertaken to determine the reserves held
for accounting purposes which, in totality, is not lower than the actuarially
established figure (as required by the Statement of Actuarial Opinions). The
group also commissions an annual independent review by an external actuarial
consultancy to ensure that the reserves established are reasonable.
Actuarial assumptions
Chain-ladder techniques are applied to premiums, paid claims or incurred claims
(i.e. paid claims plus case estimates). The basic technique involves the
analysis of historical claims development factors and the selection of estimated
development factors based on historical patterns. The selected development
factors are then applied to cumulative claims data for each underwriting year
that is not yet fully developed to produce an estimated ultimate claims cost for
each underwriting year.
Chain-ladder techniques are most appropriate for classes of business that have a
relatively stable development pattern. Chain-ladder techniques are less suitable
in cases in which the insurer does not have a developed claims history for a
particular class of business or for years of account that are still at immature
stages of development where there is a relatively higher level of assumption
volatility.
The Bornhuetter-Ferguson method uses a combination of a benchmark/market based
estimate and an estimate based on claims experience. The former is based on a
measure of exposure such as premiums; the latter is based on the paid or
incurred claims observed to date. The two estimates are combined using a formula
that gives more weight to the experience based estimate as time passes. This
technique has been used in situations where developed claims experience was not
available for the projection (i.e. recent underwriting years or new classes of
business).
The expected loss ratio method uses a benchmark/market based estimate applied to
the expected premium and is used for classes with little or no relevant
historical data.
The choice of selected results for each underwriting year of each class of
business depends on an assessment of the technique that has been most
appropriate to observed historical developments. In certain instances, this has
meant that different techniques or combinations of techniques have been selected
for individual underwriting years or groups of underwriting years within the
same class of business. As such, there are many assumptions used to estimate
general insurance liabilities.
Where a significantly large loss impacts an underwriting year (e.g. the events
of 11 September 2001 and the hurricanes in 2004 and 2005), its development is
usually very different to the attritional losses. In these situations, the large
loss is extracted from the remainder of the data and analysed separately using
exposure analysis of the policies in force in the areas affected.
Further assumptions are required to convert gross of reinsurance estimates of
ultimate claims cost to a net of reinsurance level and to established reserves
for unallocated claims handling expenses and reinsurance bad debt.
b) Major assumptions
The main assumption underlying these techniques is that the group's past claims
development experience (with appropriate adjustments for known changes) can be
used to project future claims development and hence ultimate claims costs. As
such these methods extrapolate the development of paid and incurred losses,
average costs per claim and claim numbers for each underwriting year based on
the observed development of earlier years.
Throughout, judgement is used to assess the extent to which past trends may not
apply in the future, for example, to reflect changes in external or market
factors such as economic conditions, public attitudes to claiming, levels of
claims inflation, premium rate changes, judicial decisions and legislation, as
well as internal factors such as portfolio mix, policy conditions and claims
handling procedures.
c) Changes in assumptions
As already discussed, general insurance business requires many different
assumptions. Given the myriad of assumptions used, the group's profit or loss is
relatively insensitive to changes to a particular assumption used for an
underwriting year/class combination. However, the group's profit or loss is
potentially more sensitive to a systematic change in assumptions that affect
many classes, such as judicial changes or when catastrophes produce more claims
than expected. The group uses a range of risk mitigation strategies to reduce
the volatility including the purchase of reinsurance. In addition, the group
holds additional capital as discussed in the individual capital adequacy (ICA)
section of the operating and financial review (OFR).
The net of reinsurance estimates of ultimate claims costs on the 2004 and prior
underwriting years have improved by £12.2m during 2005. This movement has arisen
from a combination of better than expected claims experience coupled with small
changes to the many assumptions reacting to the observed experience and
anticipating any changes as a result of the new business written.
During 2005, the group has not revised its view of any broad category of
assumptions that materially changes the profit or loss declared.
Our reserving assumptions contain a reasonable margin for prudence given the
uncertainties inherent in the insurance business underwritten. The majority of
this margin arises from our longer-tailed classes.
d) Sensitivity analysis
The loss development tables, that follow, are disclosed to provide information
about historical claims development. In effect, the tables highlight the group's
ability to provide a robust estimate of the claims costs.
The top part of the table illustrates how the group's estimate of claims ratio
for each underwriting year has changed at successive year-ends. The bottom half
of the table reconciles the gross and net claims to the amount appearing in the
balance sheet. An underwriting year basis is considered to be the most
appropriate basis for business written by the group.
While the information in the table provides a historical perspective on the
adequacy of the claims liabilities established in previous years, users of these
financial statements are cautioned against extrapolating redundancies or
deficiencies of the past on current claims liabilities. The group believes that
the estimate of total claims liabilities as at 31 December 2005 are adequate.
However, due to the inherent uncertainties in the reserving process, it cannot
be assured that such balances will ultimately prove to be adequate.
Underwriting Year - Gross 2002 and
earlier 2003 2004 2005 Total
12 months 62% 68% 91%
24 months 51% 69%
36 months 48%
Total gross claims 176.2 289.6 349.3 815.1
Less paid claims (56.7) (72.6) (31.2) (160.5)
Gross RITC claims provision 174.2 174.2
174.2 119.5 217.0 318.1 828.8
Gross claims liabilities
Underwriting Year - Net 2002 and 2003 2004 2005 Total
earlier
58% 64% 72%
12 months 52% 64%
24 months 49%
36 months
Total gross claims 147.5 222.7 181.4 551.6
Less paid claims (52.5) (63.7) (24.5) (140.7)
Net RITC claims provision 78.6 78.6
78.6 95.0 159.0 156.9 489.5
Net claims liabilities
24 Borrowings
2005 2004
Group Company Group Company
£m £m £m £m
Syndicated loan 18.6 - - -
Subordinated debt 10.5 10.5 9.4 9.4
29.1 10.5 9.4 9.4
Current - - - -
Non current 29.1 10.5 9.4 9.4
29.1 10.5 9.4 9.4
The subordinated debt is denominated in US dollar, is unsecured and interest is
payable at the US LIBOR rate plus a margin of 4.5% per annum. The subordinated
notes are due in November 2034.
The group has borrowing facilities of £150m (2004: £70.0m) available to it, of
which £72m (2004: £2m) has been drawn down as a letter of credit with a further
£18.6m (2004: -) being drawn as a cash borrowing. A commitment fee of 0.5% per
annum is paid for any undrawn part of the facility. The utilised element of the
facility is charges at 1.5% above UK LIBOR. The loan is repayable in 2008 and
the group has given a fixed and floating charge over its assets to the
syndicated banks lead by Lloyds TSB plc. The other banks participating in the
syndicate are Calyon, Bank of America N.A., HSH Nordbank AG and Commerzbank AG.
25 Deferred income tax
2005 2004
£m £m
Deferred income tax asset 2.4 0.4
Deferred income tax liability (6.0) (6.0)
(3.6) (5.6)
The movement in the net deferred income tax is as follows:
Balance at 1 January (5.6) (1.3)
Income tax charge 2.0 (4.3)
Balance at 31 December (3.6) (5.6)
Balance Recognised Balance 31
1 Jan 04 in income Dec 04
Intangible assets - (0.1) (0.1)
Financial investments - 0.2 0.2
Other receivables (1.9) 1.2 (0.7)
Trade and other payables - 1.2 1.2
Syndicate profits (0.5) (6.8) (7.3)
Retirement benefit obligations 1.1 - 1.1
Net deferred income tax account (1.3) (4.3) (5.6)
Balance Recognised Balance 31
1 Jan 05 in income Dec 05
Plant and equipment - 0.4 0.4
Intangible assets (0.1) (0.2) (0.3)
Financial investments 0.2 (0.2) -
Other receivables (0.7) 0.3 (0.4)
Trade and other payables 1.2 (0.1) 1.1
Syndicate profits (7.3) (0.4) (7.7)
Retirement benefit obligations 1.1 (0.2) 0.9
Tax losses - 2.4 2.4
Net deferred income tax account (5.6) 2.0 (3.6)
The group has recognised deferred tax assets on unused tax losses to the extent
that it is probable that future taxable profits will be available against which
unused tax losses can be utilised.
26 Creditors
2005 2004
Group Company Group Company
£m £m £m £m
Reinsurance premiums payable 78.3 - 24.3 -
Accrued expenses 11.0 0.1 9.9 0.7
Profit commission related 7.0 - 7.7 -
bonuses
Other payables 5.2 - - -
Amounts due to subsidiaries - 31.5 - -
Due to syndicate 623 and 22.6 1.8 9.7 -
associates
124.1 33.4 51.6 0.7
Current 124.1 33.4 51.6 0.7
Non current - - - -
124.1 33.4 51.6 0.7
27 Retirement benefit obligations
2005 2004
£m £m
Retirement benefit obligations 2.9 3.9
Of the £2.9m (2004: £3.9m) of retirement benefit obligations £1.3m (2004: £2.3m)
is recoverable from syndicate 623.
Beazley Furlonge Limited operates a funded pension scheme ('the Beazley Furlonge
Limited Pension Scheme') providing benefits based on final pensionable pay, with
contributions being charged to the income statement so as to spread the cost of
pensions over employees' working lives with the company. The contributions are
determined by a qualified actuary using the projected unit method and the most
recent valuations was at 31 December 2005.
Pension benefits
Amount recognised in the balance sheet:
2005 2004
£m £m
Present value of funded obligations 14.1 10.9
Fair value of plan assets (10.1) (6.7)
4.0 4.2
Unrecognised actuarial losses (1.1) (0.3)
Liability in the balance sheet 2.9 3.9
Amounts recognised in the income statement:
Current service cost 0.9 0.9
Interest cost 0.6 0.5
Expected return on plan assets (0.5) (0.4)
Net actuarial losses recognised during the - -
year
1.0 1.0
The actual return on plan assets was £1.5m (2004: £0.7m).
Movement in liability recognised in the balance sheet:
Balance at 1 January (3.9) (3.9)
Total expenses charged to the income (1.1) (1.0)
statement
Unrecognised actuarial losses 0.9 0.2
Experience gains/losses (0.6) 0.1
Contributions paid 1.8 0.7
Balance at 31 December (2.9) (3.9)
Principal actuarial assumptions:
Discount rate 4.9% 5.2%
Inflation rate 2.9% 2.9%
Expected return on plan assets 5.8% 6.1%
Future salary increases 4.4% 4.4%
Future pensions increases 2.5% 2.5%
Life expectancy 84 years 81 years
28 Acquisition of subsidiaries
On 22 March 2005, the group acquired all the shares in Omaha Property and
Casualty Insurance Company for $20.5m in cash. The company was renamed Beazley
Insurance Company, Inc. (BICI).
The acquisition had the following effect on the group's assets and liabilities:
Acquiree's net assets at the acquisition date: £m
Cash and cash equivalents 6.0
Intangible assets - licences 4.6
Consideration paid 10.6
As part of the BICI acquisition, the group acquired licences to underwrite
admitted lines business in 50 states in the US. The licences have an indefinite
useful life and are carried at cost less accumulated impairment.
In addition, the group increased its shareholding in Asia Pacific Underwriting
Agency Limited to 100% on 26 January 2006. The group owned 79.8% at 31 December
2005 (2004: 40.0%).
29 Operating lease commitments
The group leases land and buildings under a non cancellable operating lease
agreement.
The future minimum lease payments under the non cancellable operating lease are
as follows:
2005 2004
£m £m
No later than 1 year 1.2 0.9
Later than 1 year and no later than 5 years 4.8 0.2
Later than 5 years 5.8 -
11.8 1.1
During the year the group entered into a 10 year lease agreement for Plantation
Place South, 60 Great Tower Street, London EC3R 5AD.
30 Related party transactions
The group has a related party relationship with syndicate 623, its subsidiaries
(see note 31), associates and its directors.
30.1 Syndicate 623
Beazley Furlonge Limited, a wholly owned subsidiary of the group received
management fees and profit commissions for providing a range of management
services to syndicate 623 in which the corporate member subsidiaries
participated.
The value of the services provided and the balances with the syndicate are as
follows:
2005 2004
£m £m
Services provided:
Syndicate 623 12.9 10.1
Balances due:
Due from/(to) syndicate 623 (19.7) (9.7)
These balances are settled monthly and are non interest bearing.
30.2 Key management compensation
2005 2004
£m £m
Salaries and other short term benefits 7.1 5.9
Post employment benefits 0.4 0.6
Share based remunerations 0.3 0.1
7.8 6.6
Key management include executives, non executive directors and selected senior
management.
30.3 Other related party transactions
During the year ended 31 December 2005, the group had a balance payable to the
associates of £2.6m (2004: £0.3m receivable). All transactions with associates
are priced on an arm's length basis.
31 Subsidiary undertakings
The following is a list of all subsidiaries:
Country of Ownership Nature of Business
Incorporation Interest
Beazley Furlonge Holdings England 100% Intermediate holding company
Limited
Beazley Furlonge Limited England 100% Lloyd's underwriting agents
BFHH Limited England 100% Dormant since 30 June 1994
Beazley Investments Limited England 100% Investment company
Beazley Corporate Member Limited England 100% Underwriting at Lloyd's
Beazley Dedicated No.2 Limited England 100% Underwriting at Lloyd's
Global Two Limited England 100% Underwriting at Lloyd's
Beazley Underwriting Limited England 100% Underwriting at Lloyd's
Beazley Management Limited England 100% Intermediate management
company
Beazley Staff Underwriting England 100% Underwriting at Lloyd's
Limited
Beazley Solutions Limited England 100% Insurance services
Beazley Corporate Member No. 2 England 100% Dormant
Beazley Corporate Member No. 3 England 100% Dormant
Beazley USA Services, Inc. USA 100% Insurance services
Beazley Holdings, Inc. USA 100% Holding company
Beazley Group (USA) General USA 100% General partnership
Partnership
Beazley Insurance Company, Inc. USA 100% Underwrite admitted lines
Asia Pacific Underwriting Agency Hong Kong 79.8% Insurance services
Limited
During the year, the group acquired Beazley Insurance Company, Inc and further
shares in Asia Pacific Underwriting Agency Limited. Further details of these
acquisitions are provided in note 28.
32 Contingencies
32.1 Funds at Lloyd's
The following amounts are subject to a deed of charge in favour of Lloyd's to
secure underwriting commitments:
Company 2005 2004
£m £m
Debt securities and other fixed income 231.5 227.8
securities
Letter of credit 70.0 -
301.5 227.8
In addition to the contingencies listed above, the group has another letter of
credit of £2m (2004: £2m) provided to Beazley Staff Underwriting Limited, a
subsidiary.
32.2 Collateralised guarantee at Lloyds TSB plc
An amount of £0.5m (2004: £0.5m) has been deposited with Lloyds TSB bank Plc as
collateral for the banks guarantee of a subsidiary's solvency position with
Lloyd's of London.
This information is provided by RNS
The company news service from the London Stock Exchange
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