Final Results - Part 1

Catlin Group Limited 06 March 2008 CATLIN GROUP LIMITED ANNOUNCES FINANCIAL RESULTS FOR YEAR ENDED 31 DECEMBER 2007 HAMILTON, Bermuda - Catlin Group Limited ('CGL': London Stock Exchange), the international specialty property/casualty insurer and reinsurer, announces record financial results for the year ended 31 December 2007. Record Financial Performance: â€¢ 4 per cent increase in income before tax to US$543 million(1) â€¢ 8 per cent increase in net income available to common shareholders to US$462 million(1) â€¢ 21 per cent return on average equity; â€¢ 33 per cent return on net tangible assets â€¢ 24 per cent increase in gross premiums written to US$3.4 billion(1) â€¢ Combined ratio of 84 per cent (2006: 87 per cent)(1) â€¢ Total investment return of 4.5 per cent including subprime provision Strong Balance Sheet: â€¢ 49 per cent increase in stockholders' equity to US$3.0 billion(2) â€¢ 20 per cent increase in cash and investments to US$6.0 billion(2) â€¢ 19 per cent increase in book value per share to US$9.59(2) â€¢ 29 per cent increase in net tangible assets per share to US$6.57(2) â€¢ 17 per cent increase in unearned premiums to US$1.5 billion â€¢ 9 per cent increase in total dividend to 25.1 pence (50.2 US cents) per share Operational Highlights: â€¢ Successful integration of Catlin-Wellington operations â€¢ Excellent business retention â€¢ Growth in US and international offices 2008 Outlook: â€¢ Further rate softening, but margins to remain good â€¢ Stable premium volume (decrease in London; growth from Catlin US, international offices) â€¢ Embedded growth in earned premiums from Wellington acquisition â€¢ Anticipated acquisition-related synergies increased to more than US$125 million annually _____________ (1) 2006 comparatives presented on an unaudited combined basis: Catlin results and Wellington results aggregated, both prepared under US GAAP for period ended 31 December 2006 (2) Comparison to 2006 results as reported by Catlin Group ----------------------- -------- --------- --------- --------- Change(2) 2006 2006 from 2006 US$000 2007 combined(1) as reported combined ----------------------- -------- --------- --------- --------- Gross premiums written 3,360,626 2,721,800 1,605,019 24% Net premiums written 2,573,518 2,323,261 1,410,123 11% Net premiums earned 2,489,534 2,228,162 1,325,861 12% Income before income tax 543,368 520,514 275,417 4% expense Net income available to common shareholders 461,718 428,481 258,789 8% Earnings per share (US $1.84 $1.73 $1.59 6% dollars) Total dividend per share 25.1 - 23.0 9% (pence) Total dividend per share (US 50.2 - 44.1 14% cents) Loss ratio 46.4% 50.0% 51.4% Expense ratio 37.7% 37.3% 36.8% Combined ratio 84.1% 87.3% 88.2% Annualised investment return 4.5% 4.1% 3.5% Effective tax rate 11.0% 17.7% 6.0% Return on average equity 20.8% 23.8% 24.2% Return on net tangible assets 32.9% 31.7% 24.1% ----------------------- -------- --------- --------- --------- 31 December 31 December Change(2) 2007 2006 ----------------------- -------- --------- --------- --------- Total assets 9,813,135 8,806,318 8,806,318 11% Investments and cash 6,001,144 5,013,709 5,013,709 20% Stockholders' equity 3,017,004 2,018,280 2,018,280 49% Unearned premiums 1,506,899 1,290,379 1,290,379 17% Book value per share (US $9.59 $8.07 $8.07 19% dollars) Net tangible assets per share (US dollars) $6.57 $5.11 $5.11 29% ----------------------- -------- --------- --------- --------- _____________ (1) Catlin results and Wellington results aggregated, both prepared under US GAAP for period ended 31 December 2006 (2) Calculated as the movement between Catlin's 2007 results and 2006 combined, except for dividends and balance sheet items which are calculated as the movement between Catlin's 2007 results and 2006 as reported Sir Graham Hearne, Chairman of Catlin Group Limited, said: 'Catlin is reporting record financial results today, including an 8 per cent increase in net income available to common shareholders, a return on average equity of 21 per cent and an increase in net tangible assets per share of 29 per cent. We have entered 2008 in a strong position and are confident of our prospects. This confidence is reflected in the proposed total dividend of 25.1 pence per share, an increase of 9 per cent.' Stephen Catlin, Chief Executive of Catlin Group Limited, said: '2007 was a landmark year for Catlin. All parts of our business performed well, and we successfully integrated Wellington's operations with our own. We advanced our strategy of further diversifying our risk portfolio and expanding our distribution capabilities through the development of Catlin US and our international offices. 'The progress in our operations outside London and the embedded growth emerging from the Wellington acquisition should enable us to maintain business volumes even in the challenging underwriting conditions anticipated during 2008. Those factors, combined with more than US$125 million in annual cost synergies, provide the Group with a strong foundation for ongoing success.' For more information contact: Media Relations: James Burcke, Tel: +44 (0)20 7458 5710 Head of Communications, London Mobile: +44 (0)7958 767 738 E-mail: james.burcke@catlin.com Liz Morley, Maitland Tel: +44 (0)20 7379 5151 E-mail: emorley@maitland.co.uk Investor Relations: William Spurgin, Head of Investor Relations, London Tel: +44 (0)20 7458 5726 Mobile: +44 (0)7710 314 365 E-mail: william.spurgin@catlin.com Notes to editors: 1. Catlin Group Limited, headquartered in Bermuda, is an international specialist property/casualty insurer and reinsurer writing more than 30 classes of business worldwide through four underwriting platforms - the Catlin Syndicate at Lloyd's, Catlin Bermuda, Catlin UK and Catlin US - and an international network of offices. Gross premiums written in 2007 amounted to US$3.4 billion. Catlin shares are traded on the London Stock Exchange (ticker symbol: CGL). More information about Catlin can be found at www.catlin.com. 2. Catlin's financial statements are prepared in accordance with accounting principles generally accepted in the United States of America ('US GAAP'). The Group reports in US dollars. 3. Catlin's results for the year ended 31 December 2006, as shown in the attached financial statements, included the acquisition of Wellington on 18 December 2006. Because of its timing, the acquisition had no impact on the statement of operations, including net income, but the acquisition is reflected in the balance sheet at 31 December 2006. 4. Income statement figures presented on a Catlin-Wellington combined basis for the year ended 31 December 2006 represents the aggregation of audited Catlin results and Wellington results, both presented under US GAAP; the Wellington US GAAP income statement has not been audited. 5. Earnings per share are based on weighted average shares in issue of 250.3 million during 2007. Book value per share is based on shares in issue of 253.1 million at 31 December 2007. 6. Catlin management will make a presentation to investment analysts at 9.00am GMT today at its London office. The presentation will be broadcast live on the Group's website (www.catlin.com). The webcast will also be available following the presentation. 7. Rate of exchange at 31 December 2007: Â£1 = US$1.99 (balance sheet); Â£1 = US$2.00 (income statement); at 4 March 2008: Â£1 = US$1.99 8. Detailed information regarding Catlin's operations and financial results for the year ended 31 December 2007 follow, including statements from the Chairman and Chief Executive, and underwriting, financial and investment information. Chairman's Statement I am pleased to report Catlin's strong operating results during the past year. Net income increased to a record US$461.7 million, and the Group produced a return on average equity of 20.8 per cent. This is a particularly good performance during the year following Catlin's acquisition of Wellington Underwriting plc. The Wellington acquisition increased Catlin's size and stature significantly, but it also provided the entire Catlin team with the challenge of integrating two companies without losing business. I am happy to say that the Group succeeded on both fronts: Wellington's operations were integrated quickly and business retention following the acquisition exceeded our expectations. All parts of the business performed well during 2007. Our expanded team of underwriters produced a solid underwriting result despite increasing competition in many classes of business. The Group continued to build Catlin US and its international office network, both of which contributed to the 2007 performance and will become increasingly important in future years. Catlin now employs more than 1,000 people in more than 15 countries around the world. The Group's success during 2007 is a result of their skill, teamwork and effort led by Stephen Catlin and his management team. I express my sincere thanks to Stephen and all Catlin employees for their hard work during the past year. Dividend The Board of Directors proposes a final dividend of 17 pence (33.8 US cents) per share, payable on 23 May 2008 to shareholders of record at the close of business on 25 April 2008. Including the interim dividend of 8.1 pence (16.4 US cents) per share paid on 9 November 2007, the proposed total 2007 dividend of 25.1 pence (50.2 US cents) per share represents a 9 per cent increase over the 2006 dividend. Catlin is committed to providing an attractive return to shareholders through the dividend. The Group has established a policy under which the dividend is linked to Catlin's recent performance as well as to future prospects. Board of Directors During 2007 three Directors - Richard Haverland, Jonathan Kelly and Gene Lee - retired from the Board. They were succeeded by Kenneth Goldstein and Alton Irby, who bring a broad range of experience to the Board. I would like to thank all Directors, not least those who have retired from the Board, for their hard work in assisting the Group in achieving such a successful outcome for the year. Preferred shares In January 2007 Catlin Bermuda issued US$600 million in non-cumulative perpetual preferred shares at a dividend rate of 7.249 per cent. The proceeds from this issue were primarily used to repay the US$500 million short-term debt facility Catlin had established as part of the financing for the Wellington acquisition. These preferred shares represent regulatory capital for Catlin Bermuda. Outlook Catlin enters 2008 in a strong position. We have successfully integrated Wellington's operations with our own and have retained both books of business. Whilst competition in the marketplace is increasing, margins for most classes of business are good. We look to the future with optimism. Sir Graham Hearne Chairman Chief Executive's Review 2007 was a landmark year for Catlin. The Group produced record financial results whilst successfully integrating Wellington's operations with our own. We have strengthened our capital position and improved our operational capabilities. Investment in Catlin US and our international offices is expanding our distribution capabilities and provides future sources of growth. We enter 2008 with a firm foundation for future success. 2007 results Net income in 2007 amounted to US$461.7 million, an increase of 8 per cent compared with Catlin's and Wellington's combined operations in 2006 ('combined') and a 78 per cent increase compared with Catlin's stand-alone operations ('as reported'). Book value per share increased by 19 per cent to US$9.59 (2006: US$8.07). The Group produced excellent underwriting results during 2007. Gross premiums written amounted to US$3.36 billion, a 24 per cent increase on a combined basis and a 109 per cent increase on an as reported basis. Net premiums earned totalled US$2.49 billion, a 12 per cent increase on a combined basis (2006: US$2.23 billion) and an 88 per cent rise on an as reported basis (2006: US$1.33 billion). The Group produced a combined ratio of 84.1 per cent in 2007 (2006: 87.3 per cent combined; 88.2 per cent as reported). The loss ratio was 46.4 per cent (2006: 50.0 per cent combined; 51.4 per cent as reported), reflecting the good rating environment of the past year, a relatively low incidence of loss and favourable development of prior year loss reserves. Whilst average weighted premium rates decreased by 4 per cent across our portfolio for business incepting during 2007, margins in nearly all classes remained high. Integration During 2007 Wellington was fully integrated with Catlin, starting with establishment of a combined underwriting floor for all of our London-based underwriters immediately upon the offer being declared unconditional. The only remaining milestone is the full migration of Wellington's historical data to Catlin's systems, which will be completed this year. Integration of the two businesses was achieved with a level of business retention that exceeded our expectations. Synergies We originally projected that the synergies produced by the acquisition of Wellington would amount to US$70 million post-tax in 2008 and subsequent years. During 2007 we increased that estimate to at least US$100 million and we now believe that we are on track to deliver synergies of more than US$125 million post-tax in 2008 and subsequent years: â€¢ Operating synergies are expected to amount to approximately US$22 million. â€¢ Reinsurance synergies for 2008 are expected to amount to approximately US$50 million. â€¢ Investment synergies, resulting from the combination of investment portfolios and changes to the Group's investment strategy, are expected to amount to an annualised amount of US$26 million. â€¢ Tax synergies will depend on the Group's operating performance and other factors, but are expected to amount to approximately $28 million. Catlin US and international offices A major focus of the Group during the past year has been the development of Catlin US and the Group's network of international offices. This development is aimed at sourcing good quality, uncorrelated business outside of the London wholesale market. Catlin US gives the Group an important foothold in the United States, the world's largest insurance market. Building on Catlin's existing small operation in the US and Wellington's US operations, Catlin US is now a diversified insurance and reinsurance platform that includes two insurance companies, more than 15 offices and more than 200 employees, writing more than US$300 million in gross premiums. Catlin US allows the Group to underwrite US business that would not typically be placed in the London or Bermuda markets. The business classes written by Catlin US are those with which the Group already is experienced. Over the past year, we have significantly strengthened our US staff, attracting experienced professionals who share the Catlin commitment to disciplined underwriting. Catlin US is an important part of the Group's ongoing strategy, and we see it as providing an important source of growth in the future. Our international office network has both matured and expanded during the past year. New offices were established in Paris, Barcelona, Zurich, Innsbruck, Shanghai and Sao Paulo, whilst our existing offices increased the amount of business underwritten. Overall, the international offices wrote US$184 million in gross premiums during 2007, a 73 per cent increase (2006: US$106 million). We anticipate more growth in 2008 as the development of these offices continues. Besides offering a source of growth, both Catlin US and the international offices diversify Catlin's book of business. In addition, the offices allow Catlin to build closer relationships with local clients and their brokers, which we believe will further promote business retention. Embedded growth The Wellington acquisition will provide Catlin with embedded growth for several years. The embedded growth is linked to the third-party Lloyd's Names who had provided approximately 33 per cent of the capacity of Wellington Syndicate 2020 during 2006. Catlin acquired this capacity in December 2006 and, as part of that transaction, the Names were given the opportunity to participate in a 12.5 per cent quota share reinsurance of the enlarged Catlin Syndicate for 2007 and 2008. Whilst the Names did not participate on Catlin Syndicate during 2007, they were still entitled to their share of profits from premiums which earned during 2007 but were written by Syndicate 2020 in 2006 and prior years. The proportion of Syndicate premiums and resulting profits attributable to Names will decrease during 2008 and reduce to nil during 2009. The Names' quota share reinsurance will have a similar impact. This reinsurance arrangement will terminate at the end of 2008, and the Names' residual interest will cease by the end of 2010. This embedded growth means that the net premiums earned by Catlin will increase through 2011 as the Names' participation unwinds, even if the underlying gross premium volume holds steady. Investments Catlin produced a solid investment performance last year. Overall, the Group's cash and investments increased by 19.7 per cent during the year to US$6.0 billion (2006: US$5.0 billion). Our total investment return was 4.5 per cent, up from 4.1 per cent in 2006. Our total investment return was impacted by a US$75 million charge related to fixed income investments that were exposed to the subprime mortgage market. That charge amounted to approximately 85 per cent of the book value of the affected securities. During 2007 Catlin reviewed its investment strategy, which had been to invest almost solely in cash and fixed-income instruments. We concluded that the increased size of the portfolio allows us to adopt a more diversified strategy, and the Group will now invest up to 20 per cent of the portfolio in a range of alternative investment funds. Investment markets continued to be volatile during January 2008. Our diversified portfolio was conservatively positioned and losses in our equity and fund of funds portfolios were offset by strong returns on our fixed income and cash portfolios. The total return for January was 0.6 per cent. Outlook Catlin's ambition is to build a business for the future, and we have made good progress during 2007 and the beginning of 2008. For business incepting in January 2008, gross premiums written increased by 3 per cent whilst average weighted premium rates decreased by 4 per cent. Margins remain robust for the vast majority of business classes, and absent a major event, we believe that 2008 will be another good underwriting year. We expect that the gross premiums written by the Catlin Syndicate and Catlin UK may decrease slightly during 2008. However, with continued growth from Catlin US and the international offices, we expect that gross premiums written by the Group will remain stable. Net earned premiums will see embedded growth arising from the Wellington acquisition, and the Group will benefit from more than $125 million in annual synergies. These factors leave Catlin in a strong position to face the challenging market conditions during 2008 and beyond. The true strength of Catlin rests with our excellent group of employees. During 2007, the Group experienced higher than normal turnover, which we fully anticipated following the Wellington acquisition. We filled these vacancies with professionals of the highest calibre, and we believe that our team has been significantly strengthened in the past year. I would like to thank all of Catlin's employees, old and new, for their hard work which made 2007 such a success. Stephen Catlin Chief Executive The following sections up to the Consolidated Balance Sheets do not form part of the consolidated financial statements. Underwriting Report 2007 market overview Following the record-setting catastrophe losses that dominated 2004 and 2005, pricing for catastrophe-exposed business stood at a high water mark during 2006. Catastrophe pricing levels remained high during 2007. However, due to the relatively benign loss experience of the previous year combined with the increasing capacity available in the marketplace, average weighted premium rates for the Group's catastrophe-exposed business incepting during 2007 decreased by 2 per cent. Following the trend set during 2005 and 2006, average weighted premium rates for non-catastrophe-exposed classes of business continued to come under pressure, with rates for business incepting during 2007 decreasing by 5 per cent. Despite the decrease in average weighted premium rates during 2007, margins during the period remained strong for both catastrophe and non-catastrophe exposed business as shown in the table below. Rating indexes for catastrophe and non-catastrophe business classes ---------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ 1999 2000 2001 2002 2003 2004 2005 2006 2007 ---------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ Catastrophe business classes aggregate 100% 107% 135% 189% 208% 203% 201% 245% 239% Non-catastrophe business classes aggregate 100% 103% 136% 177% 203% 211% 208% 201% 191% ---------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ Within both the catastrophe and non-catastrophe sectors, average weighted premium rates for individual classes of business have shown different dynamics, but generally rates for most classes of business remained robust in 2007. The tables below show the rate indexes for various categories of business since 1999: Rating indexes for catastrophe business classes ---------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ 1999 2000 2001 2002 2003 2004 2005 2006 2007 --------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ Energy 100% 111% 147% 240% 301% 276% 281% 388% 367% Property Direct 100% 107% 137% 186% 201% 196% 192% 217% 204% Property Reinsurance 100% 104% 120% 161% 169% 166% 165% 207% 212% --------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ Rating indexes for non-catastrophe business classes ---------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ 1999 2000 2001 2002 2003 2004 2005 2006 2007 ---------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ Specialty 100% 106% 119% 142% 155% 159% 159% 159% 158% Casualty 100% 103% 138% 177% 229% 245% 240% 230% 218% Aerospace 100% 107% 116% 135% 135% 135% 131% 122% 110% War & Political Risk 100% 102% 131% 230% 240% 228% 215% 211% 200% Marine & Property 100% 102% 143% 181% 201% 210% 213% 217% 214% ---------------- ------ ------ ------ ------ ------ ------ ------ ------ ------ Within the non-catastrophe impacted element of the portfolio, reductions were particularly noticeable on the Casualty, Aerospace and War & Political Risk accounts. During 2007 the Casualty accounts saw weighted rate reductions of 5 per cent. UK and international accounts continued to follow the downward trend that has been seen in some sectors since 2004, whilst US business started to show wider reductions for the first time. The continuing reductions in Aerospace pricing have been predominantly driven by the decreases seen on aviation business, and more specifically on airline business that is traditionally renewed during the fourth quarter. Following a number of relatively benign loss years and a perception of increased airline safety, rates are, and continue to be, under pressure, which is reflected in the 10 per cent reduction in average weighted premium rates during 2007. The War & Political Risk account saw average weighted rate reductions of 5 per cent during the year. This was a result of softening rates for terrorism insurance, a sector which has seen an increase in capacity coupled with benign loss experience over the past several years. Group underwriting performance Following the acquisition of Wellington in December 2006, the Group's underwriting focus consisted of two major components: â€¢ Retain pre-existing business volumes following the acquisition, so long as the business continued to offer sufficient margins; and â€¢ Continue to pursue Catlin's ongoing strategy of diversification and expanded distribution. Business retention The overall gross premiums written by the Group in 2007 increased by 3 per cent compared with the combined 2006 business underwritten by Catlin and Wellington when measured on a basis that assumed that Wellington owned 100 per cent of the capacity of Wellington Syndicate 2020 during 2006 and prior years ('100 per cent basis'). In reality, Wellington owned approximately 67 per cent of the Syndicate's capacity in 2006, with the remainder provided by third-party Lloyd's Names. Volumes of 'UK-originating' business were down marginally by 3 per cent. (UK-originating business is defined as business underwritten by the Catlin Syndicate or Catlin UK that is not produced by Catlin US or one of the international offices.) This is a good performance when measured against the overall 4 per cent reduction in average weighted premiums rates for business incepting during 2007. Diversification and distribution Catlin continued to diversify its risk portfolio in 2007. The development of Catlin US broadens the risk portfolio to include US business that would not otherwise be placed in London or Bermuda. The Group also expanded its international office network, thus diversifying global sources of business, by opening new underwriting offices during 2007 in Paris, Barcelona, Zurich, Innsbruck and Shanghai. In addition, a representative office was established in Sao Paulo, whilst Catlin acquired a representative office in Genoa that had been operated by Wellington. The Group also expanded its lines of business in 2007. Apart from the portfolio diversification generated by the acquisition of Wellington, Catlin established a new specialty line product within the Accident and Health class called 'Loss of Licence', which provides coverage to air crews who are disqualified from flying on medical grounds. During 2007, the Group recruited a London-based underwriting team that specialises in writing Motor/Fleet business; this team wrote its first policies at 1 January 2008. The development of Catlin US and the international office network is explained below. Catlin US Catlin US underwrites property/casualty coverages on both a direct and reinsurance basis. The development of Catlin US gives the Group an important footprint in the world's largest insurance market and provides an engine for future profitable growth. During 2007, Catlin US was developed into a diversified insurance and reinsurance platform that includes two insurance carriers writing admitted and non-admitted business, 17 offices and more than 200 employees. Catlin US provides the Group with a US operation that shares the same values and focus on disciplined underwriting to which Catlin subscribes. The classes of business written by Catlin US include: â€¢ Business that had been written in the United States by Wellington subsidiaries. These classes include accident and health reinsurance; treaty and facultative property insurance, written on both a brokerage and direct basis; marine reinsurance; specialty casualty insurance coverages; and commercial property, casualty and inland marine insurance written on a binding authority basis by general agents; â€¢ The book of medical malpractice insurance that had been written by US-based underwriters on behalf of the Catlin Syndicate and Catlin UK since 2002; and â€¢ Additional classes that have been developed by Catlin US since its establishment. These classes include professional liability insurance; equine insurance; primary and excess casualty insurance; and crisis management and terrorism insurance. Catlin US during 2007 devoted substantial resources to building an infrastructure to support the platform's business. Underwriters were recruited to manage Catlin US's new specialties and to strengthen existing business classes. During the past 18 months, Catlin US has established its own finance, actuarial, IT, operations, claims, human resources, legal and regulatory functions. New offices were established during 2007 in Philadelphia, Cleveland and Lexington, Kentucky. Coverage is written by Catlin US on behalf of other Catlin underwriting platforms and on behalf of its two US-domiciled insurers: Catlin Insurance Company Inc. and Catlin Specialty Insurance Company Inc. Catlin Insurance Company, which began operations during 2007, underwrites coverage on an admitted basis. Catlin Specialty, which was acquired with Wellington and subsequently renamed, underwrites on a non-admitted basis. Catlin US underwrote $314 million in gross premiums during 2007, both on behalf of the two US insurers and on behalf of other Catlin Group underwriting platforms, a 3 per cent increase (2006: US$305 million combined). Of this amount, US$71 million was underwritten by the two US insurers; this is the premium volume included in the 'Catlin US' segment. Catlin US's premium volume during 2007 was impacted by competitive market conditions, the delayed establishment of some of the new business classes and the decision to terminate a large programme due to inadequate margins. If the gross premiums written associated with this programme are excluded, Catlin US's volume during 2007 amounted to US$286 million (2006: US$272 million). The specialties launched by Catlin US will become more established during 2008. Competitive market conditions are expected in nearly all facets of the US marketplace, but the direct segments written by Catlin US are expected to grow, largely due to the significant increase in experienced underwriting talent recruited during 2007. The reinsurance classes underwritten will likely show smaller but substantial increases in volume. In total, target gross premiums written for Catlin US is $425 million during 2008. International offices Catlin's network of international offices expands the Group's distribution whilst diversifying its risk portfolio. The international offices give Catlin a local presence in a targeted market, allowing it to develop local insurance products written by locally based underwriters. The table below shows the international offices and the coverages written by each. Year Office established Classes underwritten ------------ --------- --------------------------------- Singapore 1999 Property, Marine Hull, Cargo, Construction, Aviation, Property Reinsurance, Specie (including Fine Art and Jewellers' Block), Energy and Terrorism Kuala Lumpur 1999 Energy, Aviation, Casualty (also includes Group shared service centre) Cologne 2003 Specie (including Cash in Transit and Fine Art), Marine Hull, Cargo, Aviation, Contingency, Terrorism, Treaty Reinsurance Sydney 2004 Aviation, Casualty, Specie (including Fine Art), Terrorism, Property Reinsurance, Construction & Engineering, Crisis Management Antwerp 2005 Contingency, Marine Hull, Cargo, Casualty, Construction Guernsey 2005 Aviation Toronto 2005 Property, General Liability, Marine Hull, Cargo, Construction & Engineering, Aviation, Professional Liability Genoa 2006 Representative office Hong Kong 2006 Property, Marine Hull, Cargo, Terrorism, Property Reinsurance, Construction & Engineering Calgary 2006 Aviation, Property, General Liability, Marine Hull, Cargo, Construction & Engineering, Professional Liability Barcelona 2007 Cargo, Casualty, Construction & Engineering Innsbruck 2007 Cargo, Casualty, Construction & Engineering Paris 2007 Cargo, Contingency, Aviation, Casualty, Construction & Engineering Zurich 2007 Liability, Construction & Engineering, Aviation Shanghai 2007 Property, Marine Hull, Cargo, Terrorism, Property Reinsurance, Construction & Engineering Sao Paulo 2007 Representative office ------------ --------- --------------------------------- The Group added six international offices to its network during 2007: â€¢ European offices in Paris, Barcelona, Zurich and Innsbruck, which were opened during the first half of the year. These offices add to the Group's existing European offices in Cologne, Antwerp and Guernsey. â€¢ An office in Shanghai, which was established in the spring as part of Lloyd's Reinsurance Company (China) Limited, a licensed reinsurance operation established concurrently by Lloyd's. â€¢ A representative office in Sao Paulo, which was established during the second half of the year. This office serves as a liaison for the Catlin Syndicate in the Brazilian market, where the monopoly status of reinsurer IRB-Brasil Resseguros S.A. was eliminated during 2007. The international offices underwrote US$184 million in gross premiums written in 2007, an increase of 73 per cent over the previous year (2006: US$106 million). This volume exceeded the target of US$150 million established by the company at the beginning of 2007, and Catlin expects gross premiums written by the international offices will increase to US$250 million during 2008. The table below breaks down the growth of the international offices by region. International office gross premiums written by region (US$000) ---------------- ------- ------- -------- ------- -------- -------- US $m Europe Canada Pacific Rim Guernsey Brazil Total ---------------- ------- ------- -------- ------- -------- -------- 2005 7,908 4,138 21,240 5,574 - 48,860 2006 16,736 22,479 39,707 27,084 - 106,006 2007 38,532 40,972 66,506 37,530 - 183,540 2008* 73,000 45,000 90,000 27,000 15,000 250,000 ---------------- ------ ------- -------- ------- -------- -------- * Target Classes of business The classes of business underwritten by the Group are shown in the tables below with the gross premiums written for each class. Property Direct (2007 GPW: US$1.73 billion) ------------------------------------------ --------- US$m ------------------------------------------ --------- Energy $403 Aviation $282 Property Direct and Facultative $243 Political Risk, Terrorism and War $156 Non-Marine Binding Authority $133 Marine Hull $118 UK Property $89 Specie $82 Cargo $72 Equine & Livestock $53 Satellite $39 Construction & Engineering $28 Trade Credit $24 Contingency $9 Inland Marine $2 Nuclear $1 ------------------------------------------ --------- Casualty Direct (2007 GPW: US$769.7 million) ------------------------------------------ --------- US$m ------------------------------------------ --------- General Liability $275 US Casualty $97 UK Professional Indemnity $89 Marine & Energy Liability $89 Accident & Health $87 Professional Liability $67 Medical Malpractice $24 Financial Institutions $23 Crisis Management $19 ------------------------------------------ --------- Reinsurance (2007 GPW: US$855.4 million) ------------------------------------------ --------- US$m ------------------------------------------ --------- Property RI $564 Casualty RI $141 Marine & Aviation RI $78 Accident & Health RI $42 Structured Risk $17 Motor Excess of Loss $13 ------------------------------------------ --------- Potential subprime-related claims Early in 2008 Catlin carried out a thorough review of potential exposures to subprime-related claims across the Group. The Group is not a significant insurer in classes such as US directors' and officers' liability and financial institutions that are particularly exposed to claims. The Group does not believe that it has significant exposure to these types of claims and any losses are expected to be within normal expectations for incurred but not reported losses. 2008 outlook Performance during the January 2008 renewal season was generally in line with the Group's expectations. Gross premiums written by the Group for business incepting in January 2008 increased by 3 per cent to US$737 million (2007: US$718 million). Gross premiums for London-originating business, which represents approximately two-thirds of the Group's premium volume, decreased by 7 per cent, but this shortfall was offset by an 18 per cent increase in gross premiums written by Catlin Bermuda, a 49 per cent increase in business written by Catlin US (including business written on behalf of the Catlin Syndicate and Catlin UK) and a 144 per cent increase in gross premiums written by the international offices. Average weighted premium rates across Catlin's portfolio decreased by 4 per cent for business incepting in January. Absent a major event or a series of catastrophes, the Group expects gross premiums written to be stable during 2008 as compared with 2007, with decreases in London-originating business offset by gains in the other areas of the Group. Whilst the Group expects that rates will decrease throughout the year, underwriting conditions should remain favourable. The Group also believes that its underwriting strategy - including the focus on underwriting discipline, its technical approach to underwriting, the diversity of its portfolio, its multi-platform structure and the international office network - should serve it well during the next phase of the market cycle. Reinsurance programme Catlin's risk transfer programme reduces the Group's earnings volatility and improves capital efficiency. The programme is designed and executed centrally in order to maximize purchasing power and facilitate optimal structuring. The key elements of the programme include: â€¢ Non-proportional event and aggregate protection to reduce the impact of large and/or frequent catastrophic events; â€¢ Capital markets risk transfer to increase the term of protection, diversify and improve greater counterparty financial security and reduce the volatility in risk transfer costs over time; and â€¢ Proportional and facultative protection to enhance the Group's gross underwriting capacity. During 2007, Catlin sponsored the formation of Newton Re Limited, a Cayman Island-domiciled special purpose vehicle ('SPV') designed to facilitate Catlin's ongoing, efficient, flexible and regular access to the capital markets. Since its formation in December 2007, Newton Re has provided the Group with protection under two three-year transactions. The first provides US$225 million of protection in a swap format against large US earthquake and US windstorm events as triggered by insurance industry losses as reported by Property Claims Services. The second provides US$150 million of annual aggregate reinsurance against accumulated losses in the Group's property treaty book from US windstorm, US earthquake, European windstorm, Japanese typhoon and Japanese earthquake events. The second transaction is groundbreaking in that it responds to the Group's actual losses on an annual aggregate basis rather than being triggered by an industry-based or parametric index. The Group continues to participate in catastrophe swap agreements with Bay Haven Limited, another Cayman-domiciled SPV, and ABN AMRO which provide US$257 million in coverages in the event of a series of natural catastrophes. This swap responds to covered risk events of a defined minimum magnitude including US hurricanes, US earthquakes; UK windstorms, European windstorms, Japanese typhoons and Japanese earthquakes. No payment will be made for the first two such events, but Catlin would recover for up to seven subsequent events. There were no catastrophes during 2007 that would have triggered this coverage. The financial strength of the Group's risk transfer counterparties is of high quality as more of the protection is placed with higher rated and collateralised markets. The financial strength quality of Catlin's risk transfer partners is monitored on a regular basis by the Reinsurance Security Committee, which is independent from the reinsurance purchasing team. The Catlin Syndicate is reinsured under a quota share contract with two Lloyd's syndicates capitalised by Lloyd's Names who were formerly members of Wellington Syndicate 2020. This contract cedes approximately 12.5 per cent of net premiums and claims of the Catlin Syndicate for the 2007 and 2008 Lloyd's underwriting years of account, net of brokerage and certain other acquisition costs. In addition to third-party reinsurance, Catlin Bermuda provides intra-Group reinsurance for the Catlin Syndicate, Catlin UK and Catlin US. The acquisition of Wellington was not completed until 18 December 2006. Although much of the reinsurance programme for the 2007 underwriting year was placed on a composite basis covering the entire Group, the short time available to place the programme did not allow significant synergies to be realised in 2007. The Group's reinsurance programme for the 2008 underwriting year was adjusted and enhanced; it is estimated to deliver approximately US$50 million of post-tax synergies in 2008. Catastrophe Threat Scenarios The greatest likelihood of significant loss for the Group arises from natural or man-made catastrophe events, including terrorism. Catlin's tolerance for catastrophe risk is a function of expected profit and available capital. Accumulation of risk is monitored and controlled within a defined underwriting risk appetite strategy in compliance with Board policy and procedures. The Group's defined underwriting risk appetite is intended to limit exposure from a single event via a diversified portfolio of risk to a maximum of one year's profit plus 10 per cent of capital if a 1-in-100-year event occurs, taking into account reinstatement premiums both payable and receivable after an event. Catlin defines certain catastrophe threat scenarios which reflect selected areas of significant catastrophe exposure. A detailed analysis of these catastrophe events is carried out regularly using statistical models together with input from both actuarial and underwriting functions. Within the statistical models both secondary perils and loss amplification are included. A selection of modelled outcomes for the Group's most significant catastrophe threat scenarios from the fourth quarter of 2007 is detailed below. The modelled outcomes below represent the Group's modelled net loss after allowing for all reinsurances, including the quota share contract with two Lloyd's syndicates capitalised by Names who were formerly members of Wellington Syndicate 2020. The modelled outcomes are quoted prior to any tax effect. The modelled outcomes are subject to significant uncertainty as set out below under 'Limitations' and are not a prediction of actual losses. Modelled gross and net losses The table below shows the outcomes derived from the internal and external models using data as supplied by clients. The modelled outcomes in this table reflect the Group's interpretation of how external models and methods should be applied and are used internally for market consistent comparisons and for regulatory returns. Examples of catastrophe threat scenarios Data model output - Outcomes derived as at 1 October 2007 Florida Gulf of (Miami) California Mexico European Japanese Windstorm Earthquake Windstorm Windstorm Earthquake ------------- --------- --------- --------- --------- --------- Estimated industry loss 100,000 70,000 100,000 30,000 50,000 Modelled Catlin Group Gross loss 627 826 930 545 570 Reinsurance effect(1) (394) (548) (589) (320) (384) ------------- --------- --------- --------- --------- --------- Modelled net loss 233 278 341 225 186 ------------- --------- --------- --------- --------- --------- ------------- --------- --------- --------- --------- --------- Modelled net loss as percentage of net tangible assets(2) 10% 12% 15% 10% 8% ------------- --------- --------- --------- --------- --------- (1) Reinsurance effect includes the impact of both inwards and outwards reinstatements (2) Net tangible assets ('NTA') amounted to US$2.25 billion at 31 December 2007; NTA defined as total stockholders' equity (including preferred shares), less intangible assets net of associated deferred tax However, uncertainties exist in the data and the modelling and estimation techniques and include but are not limited to: â€¢ Economic value of market loss; â€¢ Insured values and other data items as provided by clients; â€¢ Non-modelled perils; â€¢ Modelling and parameter uncertainty; â€¢ Damage factor estimation; and â€¢ Limited historic validation of model assumptions. Due to the uncertainties and the range of potential outcomes, the Group's management adds a further prudential margin to the modelled output above to reflect the degree of uncertainty in any peril or scenario. These adjusted outcomes are detailed in the table below. These adjusted numbers are then used to monitor the Group's risk appetite to add a level of conservatism above the data model outcomes. These adjusted outcomes are also used to price inwards business, to influence outwards reinsurance purchasing strategy and to measure required capital. Examples of catastrophe threat scenarios Adjusted data model output - Outcomes derived as at 1 October 2007 Florida Gulf of (Miami) California Mexico European Japanese Windstorm Earthquake Windstorm Windstorm Earthquake ------------- --------- --------- --------- --------- --------- Estimated industry loss 100,000 70,000 100,000 30,000 50,000 Catlin Group Gross loss 848 930 1,220 575 578 Reinsurance effect(1) (525) (621) (749) (324) (384) ------------- --------- --------- --------- --------- --------- Modelled net loss 323 309 471 251 194 ------------- --------- --------- --------- --------- --------- ------------- --------- --------- --------- --------- --------- Modelled net loss as percentage of net tangible assets(2) 14% 14% 21% 11% 9% ------------- --------- --------- --------- --------- --------- (1) Reinsurance effect includes the impact of both inwards and outwards reinstatements (2) Net tangible assets amounted to US$2.25 billion at 31 December 2007; NTA defined as total stockholders' equity (including preferred shares), less intangible assets net of associated deferred tax Limitations Catastrophe threat scenario modelling is a complex exercise involving numerous variables and material uncertainty. The modelled output therefore does not constitute a prediction of what losses the Group would incur in the event of a modelled loss occurring. The modelled outcomes in the tables are mean losses from a range of potential outcomes. At the mean value, the size of one loss would be contained or nearly contained within the normal expected profits for a year with limited utilisation of capital. Significant variance around the mean is possible. For a given industry loss, there is a wide range of potential outcomes for the Group. The selected catastrophe threat scenarios are extreme and therefore highly uncertain. Should an event occur, the modelled outcomes may prove inadequate, possibly materially so. This may be for a number of reasons (e.g. legal requirements, model deficiency, non-modelled risks or data inaccuracies). Data as supplied by our insureds and ceding companies may prove to be inaccurate or could develop unexpectedly during the policy period. Furthermore, the assumptions made during any analysis will evolve following any actual event. A modelled outcome of net loss from a single event relies in significant part on the reinsurance arrangements in place, or expected to be in place, at the time of the analysis, and the outcome may change during the year. The modelled outcomes assume that the reinsurance in place responds as expected with minimal reinsurance failure or dispute. Reinsurance is purchased to match the inwards exposure as far as possible, but it is possible for there to be a mismatch or gap in cover which could result in higher than modelled losses to the Group. Many parts of the reinsurance programme are purchased with limited reinstatements, and therefore the number of claims or events which may be recovered from second or subsequent events is limited. It should also be noted that renewal dates of the reinsurance programme do not necessarily coincide with those of the inwards business written. Where inwards business is not protected by risks attaching reinsurance programmes, the programmes could expire resulting in an increase in the possible net loss retained. Financial Review The following pages contain commentary on Catlin's consolidated financial statements for the year ended 31 December 2007, which are prepared in accordance with US Generally Accepted Accounting Principles ('US GAAP'). The acquisition of Wellington was declared unconditional on 18 December 2006. As a result, the US GAAP consolidated income statement for the 2006 financial year reflected the results of operations of Catlin on a stand-alone basis, without the results of Wellington. For comparison purposes in this Financial Review, the income statement 2006 comparatives are on an unaudited combined basis to show the consolidated results of operations of Catlin aggregated with the consolidated results of operations of Wellington. This presentation was shown in the Financial Review in the 2006 Annual Report and Accounts and represents the most appropriate basis for comparison with the Group's 2007 Consolidated Results of Operations. Because the acquisition was completed prior to the end of 2006, the 2006 and 2007 balance sheets can be compared on a like for like basis and no similar combined presentation is needed. Consolidated Results of Operations Set out below are the Consolidated Results of Operations for the 2007 year with comparison to the 2006 results presented on the combined basis described above. ----------------------- --------- -------- -------- -------- US$000 2006 2006 as % change 2007 (combined) reported(1) ----------------------- --------- -------- -------- -------- Revenues Gross premiums written 3,360,626 2,721,800 1,605,019 24 Reinsurance premiums ceded (787,108) (398,539) (194,896) 97 ----------------------- --------- -------- -------- -------- Net premiums written 2,573,518 2,323,261 1,410,123 11 Change in unearned premiums (83,984) (95,099) (84,262) (12) ----------------------- --------- -------- -------- -------- Net premiums earned 2,489,534 2,228,162 1,325,861 12 Net investment income 290,113 184,846 105,989 57 Net realised (losses)/gains on investments (78,970) 3,501 (17,041) N/M Net realised loss on (30,088) (1,321) (1,321) N/M derivatives Net realised (losses)/gains on foreign currency exchange (4,035) 31,202 38,746 (113) Other income 23,354 42,061 3,528 (42) ----------------------- --------- -------- -------- -------- Total revenues 2,689,908 2,488,451 1,455,762 8 ----------------------- --------- -------- -------- -------- Expenses ----------------------- --------- -------- -------- -------- Losses and loss expenses 1,154,670 1,113,393 681,549 4 Policy acquisition costs 624,195 540,714 341,531 15 Administrative expenses 291,694 275,018 130,703 6 Other expenses 75,981 38,812 26,562 96 ----------------------- --------- -------- -------- -------- Total expenses 2,146,540 1,967,937 1,180,345 9 ----------------------- --------- -------- -------- -------- Income before income taxes 543,368 520,514 275,417 4 Minority interest 8 (22) (22) (136) Income tax expense (59,790) (92,011) (16,606) (35) ----------------------- --------- -------- -------- -------- Net income 483,586 428,481 258,789 13 ----------------------- --------- -------- -------- -------- Preferred share dividend (21,868) - - 100 ----------------------- --------- -------- -------- -------- Net income available to common stockholders 461,718 428,481 258,789 8 ----------------------- --------- -------- -------- -------- ----------------------- --------- -------- -------- -------- Loss ratio(2) 46.4% 50.0% 51.4% -- Expense ratio(3) 37.7% 37.3% 36.8% -- Combined ratio(4) 84.1% 87.3% 88.2% -- Tax rate(5) 11.0% 17.7% 24.2% -- Return on average equity(6) 20.8% 23.8% 6.0% -- ----------------------- --------- -------- -------- -------- (1) Calculated as the movement between Catlin's 2007 results and 2006 combined (2) Calculated as losses and loss expenses divided by net premiums earned (3) Calculated as the total of policy acquisition costs, administrative expenses and other expenses, less financing expenses and restructuring costs, divided by net premiums earned (4) Total of loss ratio plus expense ratio (5) Calculated as income tax expense divided by income before income taxes (6) Calculated as net income available to common shareholders divided by the weighted average of opening and closing stockholders' equity (excluding preferred shares) The following commentary compares Catlin's 2007 results to the unaudited combined results for 2006. Gross premiums written Gross premiums written increased by 24 per cent to US$3.36 billion. A significant element of this increase was a result of the cessation of the legacy Wellington Syndicate 2020, approximately one-third of whose capacity was provided by third-party Lloyd's Names. Subject to the reinsurance arrangements described below, business underwritten at Lloyd's in the 2007 and subsequent underwriting years is written by Catlin Syndicate 2003, all of whose capacity is provided by the Group. If the capacity provided by the Lloyd's Names to Wellington Syndicate 2020 is taken into account, gross premiums written by the Catlin and Wellington Syndicates in 2006 amounted to US$3.26 billion and the underlying like for like increase in 2007 was 3 per cent. The Group experienced weighted average rate decreases of approximately 4 per cent for business incepting during 2007, but rates remained adequate in nearly all classes of business. This contrasts with the strong rate increases, particularly in catastrophe exposed classes, during 2006. Retention of business previously written by the Wellington Syndicate significantly exceeded the Group's expectations. In addition, our developing network of international offices exceeded growth targets, contributing new, diversified business to the Group's risk portfolio. Reinsurance Reinsurance premiums ceded include both premiums ceded in respect of third-party protections purchased by the Group and premiums ceded under a quota share contract with two syndicates capitalised by Names who were formerly members of Wellington Syndicate 2020. This quota share contract cedes approximately 12.5 per cent of premiums earned by the Catlin Syndicate for the 2007 and 2008 Lloyd's underwriting years of account, net of brokerage and certain other acquisition costs. Reinsurance premiums ceded in 2007 are analysed below; reinsurance premiums ceded in 2006 wholly related to third-party protections. US$000 2007 % of GPW --------------------------------- ---------- ---------- Third-party protections 549,652 16% Names' quota share 237,456 7% --------------------------------- ---------- ---------- 787,108 23% --------------------------------- ---------- ---------- Third-party reinsurance costs expressed as a percentage of written premiums are approximately 1 percentage point higher than the equivalent level on a combined basis in 2006. The reinsurance programme for 2007, which protected the enlarged Group, was purchased very soon after the completion of the Wellington acquisition. As a result, it was not possible to develop efficiencies in the structure which would result in cost savings. Approximately US$50 million in reinsurance cost savings, which represent synergies resulting from the acquisition, are expected to be achieved with the purchase of the 2008 reinsurance programme. Net premiums earned Growth in premiums earned lags the increase in premiums written when a company is growing. This is particularly notable for Catlin during 2007 because a significant element of premiums earned related to premiums written in respect of the 2006 and previous Lloyd's underwriting years of account by Syndicate 2020, acquired in the Wellington acquisition and now in run-off. Approximately one-third of these net premiums were earned by the third-party Lloyd's Names who provided capacity to this syndicate. This effect is expected to be much less significant during 2008 and subsequent years and represents an important element of the embedded growth resulting from the Wellington acquisition. Furthermore, the Names' quota share reinsurance of the Catlin Syndicate described above will cease for the 2009 and subsequent underwriting years, resulting in additional embedded growth. This effect and other acquisition effects are illustrated in the table below. ------------------------- --------- --------- --------- --------- --------- Names Third-party quota share Integration Names' share reinsurance costs and of Syndicate of Syndicate acquisition 2007 as 2020 for 2003 accounting Adjusted US$m reported 2005-06 for 2007 effect(1) total ------------------------- --------- --------- --------- --------- --------- Gross premiums written 3,361 53 - - 3,414 Net premiums earned 2,490 249 126 - 2,865 Investment income & gains/losses 211 40 - - 251 Other (loss)/income (11) 4 - - (7) ------------------------- --------- --------- --------- --------- --------- Total revenues 2,690 293 126 - 3,109 ------------------------- --------- --------- --------- --------- --------- Loss & operating expenses (2,147) (147) (109) 38 (2,365) ------------------------- --------- --------- --------- --------- --------- Income before tax 543 146 17 38 744 ------------------------- --------- --------- --------- --------- --------- Income tax expense (59) (41) (5) (10) (115) ------------------------- --------- --------- --------- --------- --------- Preferred share dividends (22) - - - (22) ------------------------- --------- --------- --------- --------- --------- Net income available to common stockholders 462 105 12 28 607 ------------------------- --------- --------- --------- --------- --------- (1) Includes value of in-force (VIF) amortisation and amortisation of non-cash consideration to Names Assuming no growth in underlying premium volume, the estimated impact on net earned premiums of the third-party Names' share of Syndicate 2020 for 2006 and prior years and the Names' quota share reinsurance of the Catlin Syndicate is shown in the table below: --------------------------------- ---------- ---------- US$000 --------------------------------- ---------- ---------- Third-party Names quota share Names' share of reinsurance of Syndicate 2020 Syndicate 2003 for 2005-06 for 2007 ---------- ---------- 2007 249,470 126,052 2008 16,423 228,144 2009 - 112,325 2010 - 10,233 --------------------------------- ---------- ---------- In addition, the reinsurance to close of Syndicate 2020 into the Catlin Syndicate, which is expected at the beginning of 2009, will increase the Group's investment assets by approximately US$500 million. Losses and loss expenses Both 2006 and 2007 were relatively benign in terms of catastrophe losses, and attritional losses were generally in line with expectations. 2006 was affected by a number of relatively large losses in the satellite and motor excess loss accounts, together with volatility in respect of reserves for the 2005 hurricanes (Katrina, Rita and Wilma). This resulted in a need for some specific reserve strengthening and consequently a relatively small release of reserves on a combined basis at the end of 2006. Loss activity during 2007 was reasonably benign, and loss activity was in line with expectations. However, the underlying loss ratio during 2007 was impacted by reduced rates across the Group's portfolio. The prior year reserve loss position was generally stable during 2007, with the development of both the legacy Catlin and legacy Wellington reserves in line with expectations. Consistent with the Group's conservative reserving approach, reserve redundancies, in respect of the 2003 to 2006 accident years in particular, led to a release of US$139 million from prior years' reserves at 31 December 2007. These effects have led to a reduction in the loss ratio to 46.4 per cent in 2007 (2006: 50.0 per cent). Policy acquisition costs, administrative and other expenses The expense ratio amounted to 37.7 per cent (2006: 37.3 per cent). The expense ratio comprises a number of components as illustrated in the table below. --------------------- --------- --------- --------- ---------- US $000 --------------------- --------- --------- --------- ---------- Components of 2006 Components of 2007 expense ratio (combined) expense ratio --------------------- --------- --------- --------- ---------- Policy acquisition costs 624,195 25.1% 540,714 24.2% Administrative and other expenses 313,410 12.6% 291,079 13.1% Financing costs 21,508 -- 22,751 -- Integration costs 32,757 -- -- -- --------------------- --------- --------- --------- ---------- 991,870 37.7% 854,544 37.3% --------------------- --------- --------- --------- ---------- The policy acquisition cost ratio has increased to 25.1 per cent (2006: 24.2 per cent). This primarily reflects the mix of business underwritten in 2007. Administrative and other expenses represent 12.6 percentage points of the overall expense ratio (2006: 13.1 percentage points). The Group has continued to invest in the development of Catlin US and its network of international offices, both of which are generating growth in written premiums but where growth in administrative and other expenses exceeded growth in earned premiums during 2007. This effect increases the expense ratio, which should unwind as Catlin US and the international offices become more established. The most significant element of administrative and other expenses is staff related costs, which represent approximately 55.0 per cent of the total (2006: 51.3 per cent). These include management and staff bonuses which depend, in part, on the return on equity achieved by the Group and the valuation of entitlements under share option schemes. Financing costs do not affect the expense ratio. The costs comprise interest and other costs in respect of bank financing, including the cost of the bridge loan in connection with the acquisition which was repaid in January 2007 with the proceeds of a US$600 million preferred share issue, together with costs of our subordinated debt. Also included are the issue and other costs associated with the catastrophe swap derivative transactions entered into in 2006 and 2007, explained more fully on page . Dividends on the preferred shares are treated as an appropriation of net income and are not included in financing costs. Integration costs associated with the implementation of the acquisition do not represent a component of the Group's ongoing expense base and therefore are not reflected in the expense ratio. The costs incurred in 2007 amounted to US$33 million and related primarily to personnel, facilities, systems integration and professional fees. Integration costs in 2008 are expected to total $15 million. Administrative and other expenses for 2007 incorporate the benefit of operating cost synergies resulting from the integration of the two businesses. These have arisen in the UK and US and amount to approximately US$16 million on a post-tax basis; the largest components of the synergies are salaries and related costs, premises costs and professional fees. The ongoing saving resulting from operating cost synergies is expected to be US$22 million on a post-tax basis for 2008 and subsequent years. Net investment income and net realised gains/(losses) on investments The table below summarises the total return on investments during the year. Unrealised gains and losses on investments are reported in other comprehensive income, and not net income, in accordance with US GAAP. For 2008 Catlin will be electing to apply the Fair Value Option under Financial Accounting Standard 159. This will result in the total return on investments being reported in net income for 2008 and subsequent years. --------------------------------- ---------- ---------- 2006 US $000 2007 (combined) --------------------------------- ---------- ---------- Total investments and cash as at 31 December 6,001,144 5,013,709 Net investment income 290,113 184,846 Net realised gains/(losses) on investments (78,970) 3,501 Net unrealised gains/(losses) on investments 36,423 1,643 --------------------------------- ---------- ---------- 247,566 189,990 --------------------------------- ---------- ---------- Realised return on average investments 3.8% 4.1% --------------------------------- ---------- ---------- Total return on average investments 4.5% 4.1% --------------------------------- ---------- ---------- An element of the Group's portfolio of assets exposed to the US sub-prime mortgage market during 2007 suffered an impairment which is other than temporary. As a result unrealised losses amounting to approximately US$75 million have been reclassified as realised. Net realised losses on catastrophe swaps As part of its third-party reinsurance arrangements, the Group has entered into catastrophe swap arrangements with certain special purpose entities. For 2007 the main elements of the change in fair value of derivatives relate to the agreement with Bay Haven Limited as is shown below. --------------------------------- ---------- ---------- 2006 US $000 2007 (combined) --------------------------------- ---------- ----------- Premiums payable in respect of Bay Haven catastrophe swap 14,464 702 Change in value of Bay Haven catastrophe swap 8,480 619 Other, including Aspen options 7,144 - --------------------------------- ---------- ---------- 30,088 1,321 --------------------------------- ---------- ---------- The fair value of the swap is based on the value of the bonds issued by Bay Haven Limited which are valued by ABN AMRO on a daily basis. The swap has experienced valuation losses in 2007 due to the absence of market loss events during the year. The loss on derivatives also includes losses realised on the disposal of options over shares in Aspen Insurance Holdings Limited, acquired in the Wellington transaction, amounting to approximately US$6 million. There were no premiums paid during the year with respect to the Newton Re catastrophe swap. Net realised (loss)/gain on foreign currency During 2007 Catlin realised a loss on foreign currency exchange amounting to US$4.0 million (2006: US$31.2 million gain). The sterling-US dollar exchange rate rose to 1.99 at year-end 2007 (31 December 2006: 1.96). Foreign exchange losses largely arose as a result of US dollar reporting companies in the Group holding sterling and other non dollar assets at certain times of the year. Other income In 2007 and 2006 most of the other income reported related to fees charged to third-party Lloyd's Names by Syndicate 2020. The 2006 year, which will close at the end of 2008, is the last year that has third-party Name participation and therefore most of the fees chargeable to the third-party Names have already been recognised. Income tax expense The effective tax rate for the Group has fallen to a rate for 2007 of 11.0 per cent (2006: 17.7 per cent), which is slightly below the expected medium-term range of 12 to 15 per cent. During the first half of the year, Catlin implemented a corporate reorganisation to structure the Group in a capital- and tax-efficient manner. All Group companies are now directly or indirectly owned by Catlin Bermuda which also provides capital support to the other underwriting platforms through intra-Group reinsurance. All profits in respect of business written since the acquisition of Wellington have benefited from Catlin's efficient capital structure, as evidenced by the 11.0 per cent tax rate in 2007. The principal driver of the effective tax rate is where among the Group's underwriting platforms underwriting profits and losses fall. In 2007 Catlin UK incurred losses due to two satellite claims, but this effect was partially offset by good earned profits from the 2006 and earlier Lloyd's underwriting years of Syndicate 2020 which related to business written prior to the acquisition and which therefore did not benefit from such an efficient capital structure. Balance Sheet A summary of the balance sheets at 31 December 2007 and 2006 is set out below. ---------------------------- --------- --------- --------- US $000 2007 2006 % change ---------------------------- --------- --------- --------- Investments and cash 6,001,144 5,013,709 20 Securities lending collateral 44,662 130,854 (66) Intangible assets and goodwill 884,428 868,026 2 Premiums and other receivables 1,153,372 987,768 17 Reinsurance recoverable 1,119,847 1,238,852 (10) Value of in-force business acquired - 118,384 (100) Deferred acquisition costs 247,171 144,063 90 Other assets 362,511 304,662 19 Loss reserves (4,237,525) (4,005,133) 6 Unearned premiums (1,506,899) (1,290,379) 17 Notes payable - (550,290) (100) Subordinated debt (100,825) (99,936) 1 Other liabilities (905,463) (710,697) 27 Securities lending payable (44,662) (130,854) (66) Minority interest (757) (749) 1 --------------------------- --------- --------- --------- Stockholders' equity 3,017,004 2,018,280 49 --------------------------- --------- --------- --------- The chart below shows the principal components of the change in stockholders' equity during the year: ------------------------------------------ --------- US $000 ------------------------------------------ --------- Stockholders' equity, 1 January 2007 2,018,280 Net income 461,718 Issuance of preferred shares 589,785 Stock compensation and other 8,420 Net treasury shares acquired 751 Dividends declared (126,860) Change in other comprehensive income 64,910 ------------------------------------------ --------- Stockholders' equity, 31 December 2007 3,017,004 ------------------------------------------ --------- In January 2007 Catlin Bermuda issued US$600 million of non-cumulative perpetual preferred shares. Dividends are paid semi-annually at a rate of 7.249 per cent up to 2017 when there is a 100 basis point step up in the interest cost based on LIBOR at that time. These shares represent a capital instrument which is eligible as regulatory capital for Catlin Bermuda and innovative 'Tier 1' capital under the rules of the FSA in the UK. The amount attributable to preferred shareholders is US$590 million such that the per share amounts attributable to common shareholders are as set out below. --------------------------------- ---------- ---------- US$000 2007 2006 --------------------------------- ---------- ---------- Total stockholders' equity 3,017,004 2,018,280 Less: attributable to preferred shares (589,785) - --------------------------------- ---------- ---------- 2,427,219 2,018,280 --------------------------------- ---------- ---------- --------------------------------- ---------- ---------- Stockholders' equity per share (US$) US$9.59 US$8.07 Stockholders' equity per share (Sterling) Â£4.82 Â£4.12 --------------------------------- ---------- ---------- Investments and cash Investments and cash increased by almost US$1 billion or 20 per cent to US$6.0 billion (2006: US$5.0 billion). In addition to cash generated by operations, around US$50 million of the preferred share issue in January was retained after repayment of the US$500 million bridge facility and the Group's US$50 million revolving credit facility. Furthermore, the Group has made good progress in managing working capital during the year. Reinsurance recoverables decreased by US$118 million, reflecting collections of $189 million (net of the $71 million balance due from the Names quota share contract) during 2007. Securities lending Catlin has continued the securities lending arrangement which was commenced in early 2006. Under this arrangement certain of the fixed maturity investments are loaned to third parties through a lending agent. The Group maintains control over the securities it lends, retains the earnings and cash flows associated with the loaned securities, and receives a fee from the borrower for the temporary use of the securities. Collateral in the form of cash, government securities and letters of credit is required to be established by the borrower at a minimum rate of 102 per cent of the market value of the loaned securities; this is monitored and maintained by the lending agent. There has been a reduced level of lending during the year reflecting reduced holdings by the Group of the types of government securities which are commonly lent. Intangible assets and goodwill The movement in intangible assets and goodwill during the year results primarily from foreign exchange effects. A large part of the intangibles and goodwill represent assets which arose on the acquisition of Wellington and are held by sterling-denominated Group companies. The following table sets out the principal components of this asset. --------------------------------- ---------- ---------- US$000 2007 2006 --------------------------------- ---------- ---------- Purchased Lloyd's syndicate capacity 779 767 Distribution network 4 5 Surplus lines licenses 8 9 Goodwill on acquisition of Wellington 75 69 Other goodwill 18 18 --------------------------------- ---------- ---------- 884 868 --------------------------------- ---------- ---------- The amounts relating to the distribution network and surplus lines licenses are amortised over their estimated useful lives. However, the larger part of the balance is not amortised because it is considered to have an indefinite life, but is subject to annual impairment tests. Under US GAAP Catlin is required to establish a liability for deferred taxation in relation to the value of intangible assets and goodwill arising on the Wellington acquisition. This liability is included in 'other liabilities' and amounts to US$119 million (2006: US$127 million). Premiums and other receivables Premiums and other receivables have increased during 2007 by US$166 million or 17 per cent. This reflects both an increased level of premiums written during the year compared with 2006 and the effect of the cessation of the third-party Names' participation. Reinsurance recoverable Amounts receivable, and anticipated recoveries from reinsurers, have fallen by US$118 million or 10 per cent. This reflects a relatively low level of loss activity during 2007, particularly relating to larger losses which are recoverable from reinsurers and good progress in making recoveries from reinsurers in respect of prior years' losses. Value of in-force business acquired As part of the Wellington acquisition accounting, the acquisition costs which were deferred in the opening balance sheet were written off and replaced by an asset that represented the value of the business acquired. This asset represented the value of the profit estimated to be embedded in the unearned premiums at acquisition. The asset has been amortised to net income in line with the earning of the related unearned premium and has been fully amortised by the 2007 year end. Deferred acquisition costs Deferred acquisition costs represented 16 per cent of unearned premiums at 31 December 2007 (2006: 11 per cent). Loss reserves Gross loss reserves have increased by US$232 million or 6 per cent during 2007. The Group has seen steady emergence of surplus from prior accident years. Over 80 per cent of net reserves relate to the 2003 and later accident years, all of which have had good attritional experience; developments in respect of the hurricane losses in 2004 and 2005 have been in line with expectations during 2007. Catlin continues to set loss reserves conservatively relative to the best estimates from the Group's independent actuarial advisor, reflecting the inherent uncertainties in estimating insurance liabilities. The Group released US$139 million from prior year loss reserves during 2007, an amount equal to approximately 5 per cent of opening net reserves. Unearned premiums Unearned premiums have increased by US$217 million or 17 per cent during the year. The growth in unearned premiums reflects the growth in written premiums during 2007. Notes payable and subordinated debt Notes payable at the 2006 year end represented a US$500 million bridge facility which was assumed to finance the cash element of the acquisition of Wellington and the related payment to third-party capital providers in accordance with the Wellington Syndicate cessation agreement. It also included a US$50 million revolving credit facility which was used for general corporate purposes. Both of these facilities were repaid in January 2007 with the proceeds of the US$600 million preferred share issue described above. The subordinated debt represents a total of US$68 million and â‚¬18 million variable rate unsecured subordinated notes. The interest payable on the notes is based on market rates for three-month deposits in US dollars plus a margin of up to 317 basis points. The notes, which are redeemable in 2011 at the earliest, qualify as 'Lower Tier II' capital under the rules of the Financial Services Authority in the UK. There has been no change to the subordinated debt during the year, and the balance sheet movement primarily represents foreign exchange revaluation. Cash and Capital Management Intra-Group reinsurance The use of intra-Group reinsurance is central to the management of the Group's capital. The Group seeks to maintain capital within Catlin Bermuda to the maximum extent possible and to manage the insurance risk portfolio on a Group basis, regardless of the platform which originally underwrote the risk. It is the responsibility of platform management to ensure compliance with local regulatory requirements, including capital adequacy, in this context. The intra-Group reinsurance arrangements are designed to ensure that maximum flexibility of capital is available on a Group basis. The intra-Group contracts which cede risk from Catlin Syndicate (which now also underwrites business formerly written by the Wellington Syndicate), Catlin UK and Catlin US have all been continued throughout 2007. Cash and liquidity A summary of the growth in cash and invested assets is shown in the table below. ------------------------------------------ --------- US $000 ------------------------------------------ --------- Total cash and investments, 1 January 2007 5,013,709 Operating cash 1,072,236 Dividends paid (124,586) Preferred share issuance 589,785 Repayment of facilities (550,000) ------------------------------------------ --------- Total cash and investments, 31 December 2007 6,001,144 ------------------------------------------ --------- Gearing and banking facility The Group has a bank facility with a consortium of seven banks. This includes the following three elements: â€¢ A US$50 million revolving credit facility. This is currently undrawn; â€¢ A letter of credit ('LOC') facility to provide 'funds at Lloyd's' to support Syndicate underwriting. This is fully utilised at US$497.5 million (Â£250 million) and collateralised to Â£40 million; and â€¢ A US$350 million standby LOC facility to secure specific unearned premiums and outstanding claims. Gearing is 3 per cent, a significant decrease from 32 per cent at 31 December 2006 following the refinancing of the bridge facility. Based on current business plans and known capital needs, Catlin has sufficient capital as measured against its own model and rating agency requirements for current rating levels, and an excess as measured against regulatory requirements. Capital to support the embedded growth resulting from the reduction in Names' interests will be met from retained earnings. Foreign currency management US dollars account for the majority of the Group's cash flows. A significant part of the remaining cash flows are in sterling; the Group also maintains Euro and Canadian dollar funds. Management of foreign currency exposures is primarily focused on analysis and matching of expected cash flows; derivatives or other financial instruments have not been used by Catlin during 2007 to manage foreign currency exposures. Forward purchases and sales of currencies are made when currency needs are identified. Loss Reserve Development Reserves for losses and loss expenses Catlin adopts a conservative reserving philosophy. The Group sets loss reserves conservatively relative to the Group's independent actuarial advisor's best estimate, reflecting the inherent uncertainties in estimating insurance liabilities. A liability is established for unpaid losses and loss expenses when insured events occur. The liability is based on the expected ultimate cost of settling the claims. The reserve for losses and loss expenses includes: â€¢ Case reserves for known but unpaid claims as at the balance sheet date; â€¢ Incurred but not reported ('IBNR') reserves for claims where the insured event has occurred but has not been reported to the Group as at the balance sheet date; and â€¢ Loss adjustment expense reserves for the expected handling costs of settling the claims. The process of establishing reserves is both complex and imprecise, requiring the use of informed estimates and judgments. Reserves for losses and loss expenses are established based on amounts reported from insureds or ceding companies and according to generally accepted actuarial principles. Reserves are based on a number of factors including experience derived from historical claim payments and actuarial assumptions. The Group's estimates and judgments may be revised as additional experience and other data become available and are reviewed, as new or improved methodologies are developed or as current laws change. Any such revisions could result in future changes in estimates of losses or reinsurance recoverable and would be reflected in earnings in the period in which the estimates are changed. The Group receives independent external actuarial analysis of its reserving requirements annually. The loss reserves are not discounted for the time value of money. Estimate of reinsurance recoveries The Group's estimate of reinsurance recoveries is based on the reinsurance programme in place for the calendar year in which the losses have been incurred. Amounts recoverable from reinsurers are estimated in a manner consistent with the claim reserves associated with the reinsured policy. An estimate for potential reinsurance failure and possible disputes is provided to reduce the carrying value of reinsurance assets to their net recoverable amount. Development of reserves for losses and loss expenses Catlin believes that presentation of the development of net loss provisions by accident period provides greater transparency than presenting on an underwriting year basis that will include estimates of future losses on unearned exposures. However, due to certain data restrictions, some assumptions and allocations are necessary. These adjustments are consistent with the underlying premium earning profiles. The loss reserve triangles below show how the estimate of ultimate net losses has developed over time. The development is attributable to actual payments made and to the re-estimate of the outstanding claims, including IBNR. The development is shown including and excluding certain large losses as detailed below. Development over time of net paid claims is also shown, including and excluding these large claims. All historic premium and claim amounts have been restated using exchange rates as at 31 December 2007 for the Group's four functional currencies to remove the distorting effect of changing rates of exchange as far as possible. Wellington acquisition The business combination resulting from the Wellington acquisition was deemed effective 31 December 2006 for accounting purposes; accordingly the net assets acquired are valued as at that date. In the tables below the Wellington reserves arising from the transaction for events occurring prior to 31 December 2006 are shown from the date of the business combination. Premium and reserves relating to business written by Wellington prior to the business combination but earned during calendar year 2007 are included within the 2007 accident year for the Group. For the 2007 underwriting year the Group in effect purchased the remaining Lloyd's capacity relating to the business previously underwritten by third-party Lloyd's Names participating on Wellington Syndicate 2020. When the 2006 underwriting year closes, by way of reinsurance to close, the Group will then be responsible for 100 per cent of the liabilities of Syndicate 2020. This is expected to take place as in early 2009. Until then the Group will only be responsible for a share of Syndicate 2020's reserves in line with Wellington Underwriting plc's share of each underwriting year prior to 2007. The main bodies of the tables below show premium and reserves at the 100 per cent level for any Wellington business, unless otherwise stated. An adjustment for any external share of these reserves is then shown separately. Since 31 December 2006 the Wellington reserves have been set consistent with Catlin's reserving philosophy, and Wellington is included within the scope of work undertaken by the Group's external actuarial advisor. Highlights Since 31 December 2003 there has been an overall reduction in net loss estimates for the Group, resulting in an overall surplus from prior periods. Although the 2002 and prior accident years have deteriorated, this deterioration has been more than offset by releases from other accident years. The reserves from the 2002 and prior accident years represent only 15 per cent of the Group's net reserves at 31 December 2007. A summary of the Group's net reserves is shown in the table below. Summary of Catlin Group net reserves at 31 December 2007 (US$m) --------------- ---------- ---------- ---------- ---------- Legacy % of Legacy Catlin Wellington net Total net total net Accident Year net reserves reserves(1) reserves reserves --------------- ---------- ---------- ---------- ---------- 2002 and prior 230 295 525 15% 2003 95 63 158 5% 2004 131 107 238 7% 2005 271 407 678 20% 2006 354 286 640 19% 2007 950 131 1,081 32% --------------- ---------- ---------- ---------- ---------- Sub-total 2,031 1,289 3,320 98% --------------- ---------- ---------- ---------- ---------- Other net reserves(2) 57 2% --------------- ---------- ---------- ---------- ---------- Total net reserves 3,377 100% --------------- ---------- ---------- ---------- ---------- (1) Catlin share of Legacy Wellington accident year net reserves estimated in line with corporate share of relevant underwriting period (2) Other net reserves include Catlin US, unallocated claims handling expenses, potential reinsurance failure and disputes, other outwards reinsurance and foreign exchange adjustments Development tables Estimated ultimate net losses (US$m) Accident year ------------------------------------- Wellington ------ ------ ------ ------ ------ ------ ------ accident periods 2002 and 2006 and prior prior 2003 2004 2005 2006 2007 Total ----------------- ------ ------ ------ ------ ------ ------ ------ ------ Net premiums earned 987 1,249 1,278 1,384 2,901 Net ultimate excluding large losses Initial estimate(1) 6,353 1,666 452 593 651 686 1,395 One year later 6,307 1,683 437 522 578 639 Two years later 1,698 407 495 533 Three years later 1,746 406 468 Four years later 1,762 394 Net ultimate loss ratio excluding large losses Initial estimate 45.8% 47.5% 51.0% 49.6% 48.1% One year later 44.2% 41.8% 45.2% 46.2% Two years later 41.2% 39.6% 41.8% Three years later 41.1% 37.5% Four years later 40.0% Net ultimate large losses Initial estimate(1) N/A 20 0 115 334 0 0 One year later N/A 20 0 116 386 0 Two years later 19 0 118 396 Three years later 20 0 117 Four years later 21 0 Net ultimate including large losses Initial estimate(1) 6,353 1,686 452 708 985 686 1,395 One year later 6,307 1,703 437 638 964 639 Two years later 1,717 407 612 929 Three years later 1,766 406 585 Four years later 1,783 394 Net ultimate loss ratio including large losses Initial estimate 45.8% 56.7% 77.1% 49.6% 48.1% One year later 44.2% 51.1% 75.4% 46.2% Two years later 41.2% 49.0% 72.8% Three years later 41.1% 46.8% Four years later 40.0% Cumulative net paid 4,565 1,553 299 454 658 285 248 8,062 Estimated net ultimate claims 6,307 1,783 394 585 929 639 1,395 12,032 Estimated net claim reserves 1,742 230 95 131 271 354 1,147 3,970 External share of Wellington net reserves (584) 0 0 0 0 0 (66) (650) Estimated net claim reserves 1,158 230 95 131 271 354 1,081 3,320 % of net reserves 34.9% 6.9% 2.9% 3.9% 8.2% 10.7% 32.6% 100.0% ----------------- ------ ------ ------ ------ ------ ------ ------ ------ (1) Initial estimates for 2002 and prior shown as at 31 December 2003; initial estimates for Wellington accident periods 2006 and prior are shown as at the date of business combination Net paid losses (US$m) Accident year ------------------------------------- Wellington ------ ------ ------ ------ ------ ------ accident periods 2002 and 2006 and prior prior 2003 2004 2005 2006 2007 ----------------- ------ ------ ------ ------ ------ ------ ------ Net premiums earned 987 1,249 1,278 1,384 2,901 Net paid excluding large losses Initial estimate(1) 4,068 1,168 102 137 130 167 248 One year later 4,565 1,307 182 241 243 285 Two years later 1,405 242 303 310 Three years later 1,468 273 337 Four years later 1,534 299 Net paid loss ratio excluding large losses Initial estimate 10.3% 10.9% 10.2% 12.1% 8.5% One year later 18.5% 19.3% 19.0% 20.6% Two years later 24.6% 24.3% 24.3% Three years later 27.6% 27.0% Four years later 30.3% Net paid large losses Initial estimate(1) N/A 9 0 72 94 0 0 One year later N/A 13 0 113 248 0 Two years later 16 0 116 348 Three years later 19 0 118 Four years later 20 0 Net paid including large losses Initial estimate(1) 4,068 1,177 102 208 224 167 248 One year later 4,565 1,320 182 354 491 285 Two years later 1,421 242 419 658 Three years later 1,487 273 454 Four years later 1,553 299 Net paid loss ratio including large losses Initial estimate 10.3% 16.7% 17.5% 12.1% 8.5% One year later 18.5% 28.3% 38.4% 20.6% Two years later 24.6% 33.5% 51.5% Three years later 27.6% 36.4% Four years later 30.3% ----------------- ------ ------ ------ ------ ------ ------ ------ (1) Initial estimates for 2002 and prior shown as at 31 December 2003; initial estimates for Wellington accident periods 2006 and prior are shown as at the date of business combination The loss reserve development tables above exclude other net payments and reserves for Catlin US, unallocated claims handling expenses, potential reinsurance failure and disputes, other reinsurance and foreign exchange adjustments Large losses The following events are included in the large loss sections of the tables above. Accident year Event ------------ --------------------------------------- 2002 & prior World Trade Center/US Terrorism 9/11 2004 Hurricane Charley 2004 Hurricane Frances 2004 Hurricane Ivan 2004 Hurricane Jeanne 2005 Hurricane Katrina 2005 Hurricane Rita 2005 Hurricane Wilma ------------ --------------------------------------- The large loss component of Wellington for accident periods prior to the business combination are not included in the large loss estimates shown in Tables 2 and 3. Commentary on development tables Accident year 2007 The loss ratio is generally in line with prior years excluding large losses at similar development periods. Accident years 2003 to 2006 The loss ratios continue to develop favourably and consistently with recent accident periods. There has been a small deterioration in the estimate for the three hurricanes during 2005. Although there remains uncertainty in the final outcome of these hurricanes, the uncertainty continues to reduce as evidenced by the increase in the paid element of the estimated net ultimate loss from these events to 88 per cent at 31 December 2007 (2006: 64 per cent). Accident years 2002 and prior There has been a small deterioration in these accident periods during 2007. Wellington accident periods 2006 and prior The reserves in these periods have developed favourably in the aggregate during the year. Limitations Establishing insurance reserves requires the estimation of future liabilities which depend on numerous variables. As a result, whilst reserves represent a good faith estimate of those liabilities, they are no more than an estimate and are subject to uncertainty. It is possible that actual losses could materially exceed reserves. Whilst the information in the tables above provides a historical perspective on the changes in the estimates of the claims liabilities established in previous years and the estimated profitability of recent years, users are cautioned against extrapolating future surplus or deficit on the current reserve estimates. The information may not be a reliable guide to future profitability as the nature of the business written might change, reserves may prove to be inadequate, the reinsurance programme may be insufficient and/or reinsurers may fail or be unwilling to pay claims due. Management considers that the loss reserves and related reinsurance recoveries continue to be held at levels which are conservative relative to the Group's independent actuarial advisor's best estimate based on the information currently available. However, the ultimate liability will vary as a result of inherent uncertainties and may result in significant adjustments to the amounts provided. There is a risk that, due to unforeseen circumstances, the reserves carried are not sufficient to meet ultimate liabilities. The accident year triangles were constructed using several assumptions and allocation procedures which are consistent with underlying premium earning profiles. Although we believe that these allocation techniques are reasonable, to the extent that the incidence of claims does not follow the underlying assumptions, our allocation of losses to accident year is subject to estimation error. Investments Catlin manages its assets with the goal of achieving the highest possible investment return in the light of the Group's risk appetite. The Group's cash and investments amounted to US$6.0 billion at 31 December 2007 (2006: US$5.0 billion). Investment strategy Prior to the acquisition of Wellington, Catlin invested the vast majority of its assets in cash or fixed income instruments. Following the Wellington acquisition, the Group conducted a detailed review of long-term investment strategy and concluded that the increased size of Catlin's investment portfolio warranted a more diversified investment strategy. Under the new strategy, a minimum of 80 per cent of the portfolio will continue to be invested in cash and fixed income instruments, but up to 20 per cent of the assets may be invested in a variety of funds, including equity funds. By early January 2008, 9 per cent of total assets had been placed with 24 new managers, representing a variety of investment styles. Combined with existing investments in funds of funds and equity funds, the new investments increased the percentage of diversified assets in the Group's portfolio to 14 per cent as at 2 January 2008 as show in the table below. The Group will consider further increasing the amount of diversified assets as market conditions warrant, up to the 20 per cent maximum. The target asset allocation is 70 per cent fixed income, 10 per cent cash, and 20 per cent diversified investments. Actual allocations are as follows: Investment assets by major category (at 2 January 2008) ------------------------------------------ --------- Fixed income 51% Cash 35% Diversified investments 14% ------------------------------------------ --------- The new investment strategy aims to increase the Group's total investment return by at least 50 basis points annually, beginning in 2008. Based on the Group's cash and investments at 31 December 2007, this equates to US$30 million pre-tax in additional investment return. Investment portfolio Catlin attempts when possible to match the currency and duration of its investment assets with those of its outstanding claims liabilities. As the bulk of the Group's claims liabilities are denominated in US dollars, the bulk of the asset portfolio is invested in US dollar-denominated instruments, although the Group also holds assets denominated in sterling, euros and other currencies. The Group's investment managers invest in a variety of fixed income instruments, including government securities, corporate bonds, and securities backed by assets including mortgages, loans and other forms of credit instruments. Asset-backed securities ('ABS') make up 7 per cent of the Group's total investment portfolio, whilst mortgage-backed securities ('MBS') amount to 14 per cent of the portfolio. These holdings include mortgage-backed securities that are described as 'Alt A', which had a value at 31 December 2007 of US$64 million, and securities where credit enhancement is provided by monoline insurers, which had a value of US$67 million at 31 December 2007. Investment assets by detailed category (at 31 December 2007) ------------------------------------------ --------- Asset-backed securities 7% Corporate securities 9% Commercial mortgage-backed securities 4% Non-agency mortgage-backed securities 5% Agency mortgage-backed securities 5% Global bond fund 2% Government & agency 19% Cash & short terms 35% Equity 1% Funds/funds of funds 13% ------------------------------------------ --------- 83 per cent of the fixed income portfolio is invested in government securities or securities that are rated 'AAA.' Another 6 per cent is rated 'AA'. More than 95 per cent of the ABS and MBS securities held by the Group are rated 'AAA'. Investment return The Group's total investment return in 2007, including realised and unrealised gains and losses, amounted to 4.5 per cent (2006: 4.1 per cent). Investment return by asset class (at 31 December 2007) % of assets Return --------------------------------- ---------- ---------- Fixed income 51% 4.0% Cash 45% 4.7% Diversified Equity 1% 5.9% Funds of funds 3% 9.6% --------------------------------- ---------- ---------- 100% 4.5% --------------------------------- ---------- ---------- Total investment return is stated after a US$75 million charge taken during the second half of 2007 following a comprehensive review of all individual subprime-related securities in the Group's investment portfolio. The review found that asset-backed securities with an original book value of slightly more than US$100 million (approximately 2 per cent of the Group's investment assets at 1 January 2007) were exposed to the subprime market. The Group sold some of these securities at close to their book value and took a charge against the value of the remainder of subprime-related investments, 85 per cent of which are collateralised debt obligations (CDOs). The charge also covered the small losses incurred on the sales. The Group has updated its review of investments at 31 December 2007 and no change to the charge is required. Catlin Group Limited Consolidated Balance Sheets As at 31 December 2007 and 2006 (US dollars in thousands, except share amounts) 2007 2006 ---------------------------------- -------- -------- Assets Investments Fixed maturities, available-for-sale, at fair value (amortised cost 2007: $2,928,717; 2006: $2,685,960) $2,948,950 $2,669,437 Short-term investments, at fair value 47,605 27,565 Investments in funds, at fair value 946,418 326,208 Investment in associate 2,537 2,617 ---------------------------------- -------- -------- Total investments 3,945,510 3,025,827 ---------------------------------- -------- -------- Cash and cash equivalents 2,055,634 1,987,882 Securities lending collateral 44,662 130,854 Accrued investment income 37,274 32,136 Premiums and other receivables 1,153,372 987,768 Reinsurance recoverable 1,119,847 1,237,531 Deposit with reinsurer 5,040 1,321 Reinsurers' share of unearned premiums 224,235 104,731 Deferred policy acquisition costs 247,171 144,063 Value of in-force business acquired - 118,384 Intangible assets and goodwill 884,428 868,026 Derivatives, at fair value 9,035 46,037 Other assets 86,927 121,758 ---------------------------------- -------- -------- Total assets $9,813,135 $8,806,318 ---------------------------------- -------- -------- Liabilities, Minority Interest and Stockholders' Equity Liabilities: Reserves for losses and loss expenses $4,237,525 $4,005,133 Unearned premiums 1,506,899 1,290,379 Reinsurance payable 444,294 192,958 Accounts payable and other liabilities 227,228 363,399 Notes payable - 550,290 Subordinated debt 100,825 99,936 Derivatives, at fair value 9,099 619 Securities lending payable 44,662 130,854 Deferred taxes 224,842 153,721 ---------------------------------- -------- -------- Total liabilities $6,795,374 $6,787,289 ---------------------------------- -------- -------- Minority interest 757 749 2007 2006 ---------------------------------- -------- -------- Stockholders' equity: Ordinary common shares, par value $0.01 Authorised 400,000,000; issued and outstanding: 253,122,072; (2006:238,283,281) $2,531 $2,383 Preferred shares, par value $0.01 Authorised, issued and outstanding: 600,000; (2006:nil) 589,785 - Additional paid-in capital 1,622,876 1,610,725 Treasury stock (5,849) (6,600) Accumulated other comprehensive income/(loss) 38,820 (26,090) Retained earnings 768,841 437,862 ---------------------------------- -------- -------- Total stockholders' equity 3,017,004 2,018,280 ---------------------------------- -------- -------- Total liabilities, minority interest and stockholders' equity $9,813,135 $8,806,318 ---------------------------------- -------- -------- The accompanying notes are an integral part of the consolidated financial statements Approved by the Board of Directors on 5 March 2008 Stephen Catlin, Director Christopher Stooke, Director Catlin Group Limited Consolidated Statements of Operations For the years ended 31 December 2007 and 2006 (US dollars in thousands, except share amounts) 2007 2006 --------------------------------- ---------- ---------- Revenues Gross premiums written $3,360,626 $1,605,019 Reinsurance premiums ceded (787,108) (194,896) --------------------------------- ---------- ---------- Net premiums written 2,573,518 1,410,123 Change in net unearned premiums (83,984) (84,262) --------------------------------- ---------- ---------- Net premiums earned 2,489,534 1,325,861 --------------------------------- ---------- ---------- Net investment income 290,113 105,989 Net realised losses on investments (78,970) (17,041) Net realised losses on derivatives (30,088) (1,321) Net realised (losses)/gains on foreign currency exchange (4,035) 38,746 Other income 23,354 3,528 --------------------------------- ---------- ---------- Total revenues 2,689,908 1,455,762 --------------------------------- ---------- ---------- Expenses Losses and loss expenses 1,154,670 681,549 Policy acquisition costs 624,195 341,531 Administrative expenses 291,694 130,703 Other expenses 75,981 26,562 --------------------------------- ---------- ---------- Total expenses 2,146,540 1,180,345 --------------------------------- ---------- ---------- Income before minority interest and income tax expense 543,368 275,417 Minority interest 8 (22) Income tax expense (59,790) (16,606) --------------------------------- ---------- ---------- Net income 483,586 258,789 --------------------------------- ---------- ---------- Preferred share dividend (21,868) - --------------------------------- ---------- ---------- Net income available to common stockholders $461,718 $258,789 --------------------------------- ---------- ---------- Earnings per common share Basic $1.84 $1.59 Diluted $1.74 $1.47 The accompanying notes are an integral part of the consolidated financial statements Catlin Group Limited Consolidated Statements of Changes in Stockholders' Equity For the years ended 31 December 2007 and 2006 (US dollars in thousands, except share amounts) Accumulated Additional other Total Common Preferred paid-in Treasury Retained comprehensive stockholders' stock stock capital stock earnings (loss)/income equity ------ ------- -------- ------ ------- -------- -------- Balance 1 January 2006 $1,559 $- $721,935 $- $228,986 $(21,399) $931,081 Comprehensive income: Net income - - - - 258,789 - 258,789 Other comprehensive loss - - - - - (4,691) (4,691) ------ ------- -------- ------ ------- -------- -------- Total comprehensive income/(loss) - - - - 258,789 (4,691) 254,098 ------ ------- -------- ------ ------- -------- -------- Issuance of common shares in connection with acquisition of Wellington 744 - 811,683 - - - 812,427 Equity raise 77 - 64,804 - - - 64,881 Stock compensation expense - - 11,000 - - - 11,000 Stock options and warrants exercised 3 - (3) - - - - Dividends declared - - - - (48,607) - (48,607) Deferred compensation obligation - - 1,306 - (1,306) - - Treasury stock purchased - - - (6,600) - - (6,600) ------ ------- -------- ------ ------- -------- -------- Balance 31 December 2006 $2,383 $- $1,610,725 $(6,600) $437,862 $(26,090) $2,018,280 ------ ------- -------- ------ ------- -------- -------- Comprehensive income: Net income - - - - 461,718 - 461,718 Other comprehensive income - - - - - 64,910 64,910 ------ ------- -------- ------ ------- -------- -------- Total comprehensive income - - - - 461,718 64,910 526,628 ------ ------- -------- ------ ------- -------- -------- Issuance of common shares in connection with acquisition of Wellington 117 - (117) - - - - Issuance of preferred shares - 589,785 - - - - 589,785 Stock compensation expense - - 13,668 - - - 13,668 Stock options and warrants exercised 31 - (31) - - - - Dividends declared - - - - (126,860) - (126,860) Deferred compensation obligation - - 3,879 - (3,879) - - Treasury stock purchased - - - (4,497) - - (4,497) Distribution of treasury stock held by Employee Benefit Trust - - (5,248) 5,248 - - - ------ ------- -------- ------ ------- -------- -------- Balance 31 December 2007 $2,531 $589,785 $1,622,876 $(5,849) $768,841 $38,820 $3,017,004 ------ ------- -------- ------ ------- -------- -------- The accompanying notes are an integral part of the consolidated financial statements Catlin Group Limited Consolidated Statements of Cash Flows For the years ended 31 December 2007 and 2006 (US dollars in thousands, except share amounts) 2007 2006 ---------------------------------- --------- --------- Cash flows provided by operating activities Net income $461,718 $258,789 Adjustments to reconcile net income to net cash provided by operations: Amortisation and depreciation 18,733 11,379 Amortisation of premiums/(discounts) of fixed maturities (3,450) (6,185) Net realised losses on investments 78,970 17,040 Changes in operating assets and liabilities, net of effect of business combination Reserves for losses and loss expenses 174,357 (258,017) Unearned premiums 198,928 52,587 Premiums and other receivables 420,126 (7,346) Deferred policy acquisition costs (101,131) (1,639) Value of in-force business acquired 120,705 - Reinsurance payable 601,236 (175,687) Reinsurance recoverable (456,369) 292,176 Reinsurers' share of unearned premiums (118,384) 4,016 Deposit with reinsurer (230,253) 21,823 Deferred gain - (8,078) Accounts payable and other liabilities (351,312) 60,894 Investment in funds (581,034) (89,925) Deferred taxes 136,545 - Other 38,777 (50,635) ---------------------------------- --------- --------- Net cash flows provided by operating activities 408,162 121,192 ---------------------------------- --------- --------- Cash flows (used in)/provided by investing activities Purchases of fixed maturities (2,918,053) (2,138,862) Purchases of short-term investments (226,090) (97,088) Proceeds from sales of fixed maturities 2,593,971 2,104,900 Proceeds from maturities of fixed maturities 139,295 17,397 Proceeds from sales and maturities of short-term investments 191,106 102,219 Cash flows arising from investment in associate 1,064 1,452 Purchases of subsidiaries, net of cash acquired (40,909) 933,042 Purchase of intangible assets 68 (223,257) Purchases of property and equipment (21,247) (16,484) Proceeds from sales of property and equipment 1,808 340 Investment of securities lending collateral 96,991 (130,854) ---------------------------------- --------- --------- Net cash flows (used in)/provided by investing activities (181,996) 552,805 ---------------------------------- --------- --------- 2007 2006 ----------------------------------- --------- --------- Cash flows (used in)/provided by financing activities Net proceeds from issue of common shares $- $65,436 Dividends paid on common shares (124,586) (48,751) Net proceeds from issue of preferred shares 589,785 - Dividends paid on preferred shares (21,868) - Proceeds from notes payable - 500,000 Repayment of notes payable (550,290) - Securities lending collateral received (96,991) 130,854 Purchase of treasury stock (4,582) (1,352) ----------------------------------- --------- --------- Net cash flows (used in)/provided by financing activities (208,532) 646,187 ----------------------------------- --------- --------- Net increase in cash and cash equivalents 17,634 1,320,184 Cash and cash equivalents - beginning of year 1,987,882 609,857 Effect of exchange rate changes 50,118 57,841 ----------------------------------- --------- --------- Cash and cash equivalents - end of year $2,055,634 $1,987,882 ----------------------------------- --------- --------- Supplemental cash flow information Taxes paid $20,140 $16,135 Interest paid $8,031 $2,655 Cash and cash equivalents comprise the following: Cash at bank and in hand $1,611,718 $1,040,079 Cash equivalents $443,916 $947,803 ----------------------------------- --------- --------- The accompanying notes are an integral part of the consolidated financial statements This information is provided by RNS The company news service from the London Stock Exchange MORE TO FOLLOW FR FKPKQCBKDBNK

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