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Montpelier RE Holdings 10-Q 2007

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-32
  4. Ex-32

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

Form 10-Q

 

x      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2007

 

OR

 

o      TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from      to    

 

Commission file number  001-31468

 

Montpelier Re Holdings Ltd.

(Exact Name of Registrant as Specified in Its Charter)

 

Bermuda

98-0428969

(State or Other Jurisdiction of

(I.R.S. Employer

Incorporation or Organization)

Identification No.)

 

Montpelier House

94 Pitts Bay Road

Pembroke HM 08

Bermuda

(Address of Principal Executive Offices)

 

(441) 296-5550

(Registrant’s Telephone Number, Including Area Code)

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x    No o

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer x

Accelerated filer o

Non-accelerated filer o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o    No x

 

As of October 25, 2007, the Registrant had 102,254,406 common shares outstanding, with a par value of 1/6 cent per share.

 

 



 

MONTPELIER RE HOLDINGS LTD.

 

INDEX TO FORM 10-Q

 

 

 

 

 

PART I  FINANCIAL INFORMATION

 

 

 

 

Item 1.

Financial Statements

 

 

 

 

 

Consolidated Balance Sheets as of September 30, 2007 and December 31, 2006 (Unaudited)

 

 

 

 

 

Consolidated Statements of Operations and Comprehensive Income for the Three and Nine Months Ended September 30, 2007 and 2006 (Unaudited)

 

 

 

 

 

Consolidated Statements of Common Shareholders’ Equity for the Nine Months Ended September 30, 2007 and 2006 (Unaudited)

 

 

 

 

 

Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2007 and 2006 (Unaudited)

 

 

 

 

 

Notes to Consolidated Financial Statements (Unaudited)

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

 

 

 

 

Item 4.

Controls and Procedures

 

 

 

 

 

PART II  OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

 

 

 

 

Item 1A.

Risk Factors

 

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

 

 

 

 

Item 3.

Defaults Upon Senior Securities

 

 

 

 

Item 4.

Submission of Matters to a Vote of Security Holders

 

 

 

 

Item 5.

Other Information

 

 

 

 

Item 6.

Exhibits

 

 

 

 

SIGNATURES

 

 

2



 

PART I FINANCIAL INFORMATION

Item 1. Financial Statements

 

MONTPELIER RE HOLDINGS LTD.

CONSOLIDATED BALANCE SHEETS

Unaudited

 

 

 

September 30,

 

December 31,

 

(In millions of U.S. dollars, except share and per share amounts)

 

2007

 

2006

 

Assets

 

 

 

 

 

Marketable securities, at fair value:

 

 

 

 

 

Fixed maturity investments - trading (amortized cost: $2,296.0 and $340.8)

 

$

2,305.6

 

$

340.4

 

Equity securities - trading (cost: $175.1 and $—)

 

222.9

 

 

Fixed maturity investments - available for sale (amortized cost: $— and $2,167.2)

 

 

2,167.0

 

Equity securities - available for sale (cost: $— and $157.5)

 

 

203.2

 

Other investments - at fair value (cost: $40.4 and $23.1)

 

49.3

 

27.1

 

Total investments

 

2,577.8

 

2,737.7

 

Cash and cash equivalents

 

338.2

 

313.1

 

Restricted cash

 

7.6

 

35.5

 

Securities lending collateral

 

136.7

 

315.7

 

Reinsurance recoverable on unpaid losses

 

150.7

 

197.3

 

Reinsurance recoverable on paid losses

 

13.8

 

7.8

 

Premiums receivable

 

218.8

 

171.7

 

Unearned premium ceded

 

51.6

 

44.5

 

Deferred acquisition costs

 

37.8

 

30.3

 

Accrued investment income

 

20.0

 

22.6

 

Unsettled sales of investments

 

13.5

 

0.1

 

Other assets

 

22.7

 

22.5

 

Total Assets

 

$

3,589.2

 

$

3,898.8

 

Liabilities

 

 

 

 

 

Loss and loss adjustment expense reserves

 

$

905.8

 

$

1,089.2

 

Debt

 

427.4

 

427.3

 

Securities lending payable

 

136.7

 

315.7

 

Unearned premium

 

290.5

 

219.2

 

Reinsurance balances payable

 

63.7

 

77.2

 

Unsettled purchases of investments

 

20.8

 

 

Accounts payable, accrued expenses and other liabilities

 

30.8

 

38.9

 

Total Liabilities

 

1,875.7

 

2,167.5

 

Commitments and contingent liabilities (see Note 11)

 

 

 

Minority interest - Blue Ocean

 

83.5

 

238.4

 

 

 

 

 

 

 

Common Shareholders’ Equity

 

 

 

 

 

Common shares at 1/6 cent par value per share - authorized 1,200,000,000 shares;
issued and outstanding 102,617,706 and 111,775,682 shares

 

0.2

 

0.2

 

Additional paid-in capital

 

1,752.3

 

1,819.2

 

Retained deficit

 

(127.4

)

(376.1

)

Accumulated other comprehensive income, after tax

 

4.9

 

49.6

 

Total Common Shareholders’ Equity

 

1,630.0

 

1,492.9

 

Total Liabilities, Minority Interest and Common Shareholders’ Equity

 

$

3,589.2

 

$

3,898.8

 

 

See Notes to Consolidated Financial Statements

 

3



 

MONTPELIER RE HOLDINGS LTD.

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

Unaudited

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

September 30,

 

September 30,

 

(In millions of U.S. dollars, except per share amounts)

 

2007

 

2006

 

2007

 

2006

 

Revenues

 

 

 

 

 

 

 

 

 

Gross premiums written

 

$

128.3

 

$

121.1

 

$

577.5

 

$

642.2

 

Reinsurance premiums ceded

 

(9.7

)

(13.3

)

(103.0

)

(116.8

)

Net premiums written

 

118.6

 

107.8

 

474.5

 

525.4

 

Change in net unearned premiums

 

19.8

 

43.7

 

(64.3

)

(91.2

)

Net premiums earned

 

138.4

 

151.5

 

410.2

 

434.2

 

Net investment income

 

31.9

 

33.1

 

99.4

 

92.3

 

Net realized and unrealized gains (losses) - trading securities

 

14.0

 

1.6

 

24.1

 

(1.8

)

Net realized gains (losses) - available for sale securities

 

 

5.4

 

 

(0.5

)

Net foreign exchange gains

 

9.1

 

0.8

 

8.7

 

7.9

 

Other revenue

 

4.6

 

2.4

 

7.9

 

5.3

 

Total revenues

 

198.0

 

194.8

 

550.3

 

537.4

 

Expenses

 

 

 

 

 

 

 

 

 

Underwriting expenses:

 

 

 

 

 

 

 

 

 

Loss and loss adjustment expenses

 

37.1

 

43.2

 

146.9

 

159.5

 

Acquisition costs

 

20.0

 

27.3

 

58.3

 

91.1

 

General and administrative expenses

 

23.0

 

17.9

 

58.8

 

47.6

 

Non-underwriting expenses:

 

 

 

 

 

 

 

 

 

Interest and other financing expenses

 

8.6

 

6.8

 

25.3

 

20.9

 

Other non-underwriting expenses

 

3.0

 

3.2

 

8.8

 

11.1

 

Total expenses

 

91.7

 

98.4

 

298.1

 

330.2

 

Income before minority interest expense and income taxes

 

106.3

 

96.4

 

252.2

 

207.2

 

Minority interest expense - Blue Ocean

 

(4.9

)

(13.0

)

(26.8

)

(26.4

)

Income tax provision

 

(.1

)

 

(.1

)

 

Net income

 

101.3

 

83.4

 

225.3

 

180.8

 

Change in net unrealized gains and losses on available for sale securities held

 

0.7

 

32.0

 

0.8

 

40.3

 

Change in foreign currency translation

 

 

 

 

0.1

 

Recognition of net unrealized gains and losses on available for sale securities sold

 

 

(5.4

)

 

0.5

 

Comprehensive income

 

$

102.0

 

$

110.0

 

$

226.1

 

$

221.7

 

Basic earnings per share

 

$

1.07

 

$

.86

 

$

2.36

 

$

1.94

 

Diluted earnings per share

 

1.06

 

.86

 

2.35

 

1.94

 

Dividends declared per common share

 

$

.075

 

$

.075

 

$

.225

 

$

.225

 

Dividends declared per warrant

 

 

 

 

.075

 

 

.075

 

 

.225

 

 

 

See Notes to Consolidated Financial Statements

 

4



 

MONTPELIER RE HOLDINGS LTD.

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

For the nine months ended September 30, 2007 and 2006

Unaudited

(In millions of U.S. dollars)

 

 

 

Total

 

Common

 

 

 

Accum. other

 

 

 

Common

 

shares and

 

 

 

comprehensive

 

 

 

shareholders’

 

additional

 

Retained

 

income,

 

 

 

equity

 

paid-in capital

 

deficit

 

after tax

 

Balances at January 1, 2007

 

$

1,492.9

 

$

1,819.4

 

$

(376.1

)

$

49.6

 

 

 

 

 

 

 

 

 

 

 

Net income

 

225.3

 

 

225.3

 

 

Cumulative effect adjustment of adopting FAS 157 and 159

 

 

 

45.5

 

(45.5

)

Director Share Plan amendment

 

(.6

)

(.6

)

 

 

Retirements of common shares and warrants

 

(72.3

)

(72.3

)

 

 

Other comprehensive income, after tax

 

0.8

 

 

 

0.8

 

Amortization of Restricted Share Units and Director Share Plan Units

 

6.0

 

6.0

 

 

 

Dividends declared on common shares

 

(21.6

)

 

(21.6

)

 

Dividends declared on warrants

 

(0.5

)

 

(0.5

)

 

 

 

 

 

 

 

 

 

 

 

Balances at September 30, 2007

 

$

1,630.0

 

$

1,752.5

 

$

(127.4

)

$

4.9

 

 

 

 

Total

 

Common

 

 

 

Accum. other

 

 

 

Common

 

shares and

 

 

 

comprehensive

 

 

 

shareholders’

 

additional

 

Retained

 

income,

 

 

 

equity

 

paid-in capital

 

deficit

 

after tax

 

Balances at January 1, 2006

 

$

1,057.7

 

$

1,715.1

 

$

(648.3

)

$

(9.1

)

 

 

 

 

 

 

 

 

 

 

Net income

 

180.8

 

 

180.8

 

 

Issuances of common shares

 

100.0

 

100.0

 

 

 

Other comprehensive income, after tax

 

40.9

 

 

 

40.9

 

Amortization of Restricted Share Units and Director Share Plan Units

 

3.8

 

3.8

 

 

 

Direct equity offering expenses

 

(0.7

)

(0.7

)

 

 

Dividends declared on common shares

 

(22.1

)

 

(22.1

)

 

Dividends declared on warrants

 

(1.6

)

 

(1.6

)

 

 

 

 

 

 

 

 

 

 

 

Balances at September 30, 2006

 

$

1,358.8

 

$

1,818.2

 

$

(491.2

)

$

31.8

 

 

See Notes to Consolidated Financial Statements

 

5



 

MONTPELIER RE HOLDINGS LTD.

CONSOLIDATED STATEMENTS OF CASH FLOWS

Unaudited

 

 

 

Nine Months Ended

 

 

 

September 30,

 

(In millions of U.S. dollars)

 

2007

 

2006

 

Cash flows from operations:

 

 

 

 

 

Net income

 

$

225.3

 

$

180.8

 

Charges (credits) to reconcile net income to net cash used for operations:

 

 

 

 

 

Net realized and unrealized (gains) losses - trading securities

 

(24.1

)

1.8

 

Net realized losses - available for sale securities

 

 

0.5

 

Minority interest expense - Blue Ocean

 

26.8

 

26.4

 

Amortization and depreciation

 

(2.7

)

6.6

 

Other operating items:

 

 

 

 

 

Net change in loss and loss adjustment expense reserves

 

(183.4

)

(440.5

)

Net change in reinsurance recoverable on paid and unpaid losses

 

40.6

 

141.3

 

Net change in unearned premium

 

71.3

 

62.4

 

Net change in reinsurance balances payable

 

(13.5

)

(98.6

)

Net change in unearned premium ceded

 

(7.1

)

28.7

 

Net change in deferred acquisition costs

 

(7.5

)

10.5

 

Net change in premiums receivable

 

(47.1

)

 

Net change in restricted cash

 

27.9

 

(11.2

)

Purchases of fixed maturities - trading (1)

 

 

(1,022.7

)

Sales, maturities, calls and paydowns of fixed maturity investments - trading (1)

 

 

719.6

 

Other

 

(10.2

)

38.9

 

Net cash provided from (used for) operations

 

96.3

 

(355.5

)

Cash flows from investing activities:

 

 

 

 

 

Purchases of fixed maturities - trading (1)

 

(1,159.5

)

 

Purchases of equity securities - trading (1)

 

(48.5

)

 

Purchases of fixed maturities - available for sale

 

 

(1,464.4

)

Purchases of equity securities - available for sale

 

 

(80.4

)

Purchases of other investments

 

(17.5

)

 

Sales, maturities, calls and paydowns of fixed maturity investments - trading

 

1,386.6

 

 

Sales of equity securities - trading

 

46.3

 

 

Sales, maturities, calls and paydowns of fixed maturity investments - available for sale

 

 

1,466.2

 

Sales of equity securities - available for sale

 

 

34.4

 

Change in securities lending collateral

 

179.0

 

(26.5

)

Net acquisitions of capitalized assets

 

(2.7

)

(8.1

)

Net cash provided from (used for) investing activities

 

383.7

 

(78.8

)

Cash flows from financing activities:

 

 

 

 

 

Issuance of debt

 

 

100.0

 

Net proceeds from issuances of the Company’s common shares

 

 

99.5

 

Net proceeds from issuances of Blue Ocean common and preferred shares

 

 

36.6

 

Repurchases of the Company’s common shares and warrants

 

(72.3

)

 

Dividends paid on the Company’s common shares and warrants

 

(22.7

)

(23.1

)

Dividends and distributions paid to Blue Ocean’s minority common shareholders

 

(135.2

)

 

Dividends to and repurchases from Blue Ocean’s minority preferred shareholders

 

(46.5

)

 

Change in securities lending payable

 

(179.0

)

26.5

 

Net cash (used for) provided from financing activities

 

(455.7

)

239.5

 

Effect of exchange rate changes on cash and cash equivalents

 

0.8

 

2.3

 

Net increase (decrease) in cash and cash equivalents during the period

 

25.1

 

(192.5

)

Cash and cash equivalents - beginning of period

 

313.1

 

450.1

 

Cash and cash equivalents - end of period

 

$

338.2

 

$

257.6

 

 


(1) Prior to the adoption of FAS 159, all purchases and sales of trading securities were required to be presented as operating activities. As a result of the adoption of FAS 159, purchases and sales of trading securities are required to be presented according to their nature and purpose which, for the Company, is investing activities. Prior periods have not been revised to reflect this change.

 

See Notes to Consolidated Financial Statements

 

6



 

MONTPELIER RE HOLDINGS LTD.

 

Notes To Consolidated Financial Statements

(In millions of U.S. dollars, except share and per

share amounts or as where otherwise indicated)

Unaudited

 

1. Significant Accounting Policies

 

Basis of Presentation and Consolidation

 

These interim unaudited consolidated financial statements include the accounts of Montpelier Re Holdings Ltd. (the “Company” or the “Registrant”) and its subsidiaries and affiliates (collectively, “Montpelier”) and have been prepared in accordance with generally accepted accounting principles (“GAAP”) in the United States (the “U.S.”). The Company was incorporated under the laws of Bermuda in November of 2001.

 

The Company’s principal wholly-owned operating subsidiary, Montpelier Reinsurance Ltd. (“Montpelier Re”), is a Bermuda Class 4 insurer which provides global property and casualty reinsurance and insurance products. The Company provides marketing services to Montpelier Re through its wholly-owned subsidiary, Montpelier Marketing Services (UK) Limited (“MMSL”), a United Kingdom company based in London.

 

On July 1, 2007, Montpelier commenced the operations of its newly-formed Lloyd’s syndicate known as Montpelier Syndicate 5151 (“Syndicate 5151”). Syndicate 5151 underwrites primarily short tail lines, mainly property insurance and reinsurance, engineering and specialty casualty classes sourced from the London, U.S. and European markets. Montpelier Capital Limited (“MCL”), a wholly-owned subsidiary of the Company, serves as Syndicate 5151’s sole corporate member. Syndicate 5151 is managed by Spectrum Syndicate Management Limited, a third party Lloyd’s Managing Agent based in London. Richard Chattock, a senior underwriter with Montpelier Re since 2002, serves as the active underwriter of Syndicate 5151. Syndicate 5151 also accepts business from the Company’s wholly-owned U.S. managing general agent, Montpelier Underwriting Inc. (“MUI”), which received Lloyd’s Coverholder approval in August 2007. The Company provides marketing services to Syndicate 5151 through its wholly-owned subsidiary, Montpelier Europa AG (“MEAG”), a Swiss company based in Zug, Switzerland. MEAG’s focus is on the Continental Europe and the Middle East markets. MEAG also supports Montpelier’s existing regional marketing effort with respect to certain established lines of business.

 

The Company provides insurance, accounting, finance and advisory services to affiliates and third parties through its wholly-owned Bermuda subsidiaries, Montpelier Agency Ltd. (“MAL”) and Montpelier Capital Advisors Ltd. (“MCA”), and its wholly-owned U.S. subsidiary Montpelier Technical Resources Ltd. The Company provides underwriting support and office and information technology services to affiliates and third parties in the United Kingdom and Switzerland through its wholly-owned subsidiary Montpelier Underwriting Services Limited (“MUSL”).

 

Montpelier has a significant investment in Blue Ocean Re Holdings Ltd. (“Blue Ocean”), a holding company that owns 100% of Blue Ocean Reinsurance Ltd. (“Blue Ocean Re”). Blue Ocean Re is a Bermuda Class 3 insurer which provides property catastrophe retrocessional protection. As of September 30, 2007 and December 31, 2006, Montpelier owned 42.2% of Blue Ocean’s outstanding common shares and 33.6% of Blue Ocean’s outstanding preferred shares. Blue Ocean is considered a “variable interest entity” as defined under Financial Accounting Standards Board (“FASB”) Interpretation (“FIN”) No. 46R, entitled “Consolidation of Variable Interest Entities - an interpretation of Accounting Research Bulletin No. 51 as amended”. In accordance with FIN 46R, Blue Ocean is currently consolidated into the financial statements of the Company. MAL provides Blue Ocean Re with underwriting, risk management, claims management, ceded retrocession agreement management, actuarial and accounting services and receives fees for such services.

 

7



 

Montpelier currently operates through two business segments, Rated Reinsurance and Insurance Business and Collateralized Property Catastrophe Retrocessional Business. Montpelier’s Rated Reinsurance and Insurance Business segment consists of the operations of the Company and its wholly-owned subsidiaries, including Syndicate 5151. Montpelier’s Collateralized Property Catastrophe Retrocessional Business consists solely of the operations of Blue Ocean. In the third quarter of 2007, Blue Ocean wrote no business and is not expected to write any business during the remainder of the year.

 

The unaudited consolidated financial statements have been prepared in accordance with GAAP for interim financial information and in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete consolidated financial statements. This report on Form 10-Q should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, as filed with the Securities and Exchange Commission. In the opinion of management, these interim financial statements include all normally recurring adjustments considered necessary to fairly present the Company’s financial position, results of operations and cash flows. All significant intercompany accounts and transactions have been eliminated in consolidation. These interim financial statements may not be indicative of financial results for the full year. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the period. Actual results could differ materially from those estimates. The major estimates reflected in the Company’s unaudited consolidated financial statements include, but are not limited to, loss and loss adjustment expense reserves, reinsurance recoverable on unpaid losses, estimates of written and earned premiums and the fair value of other investments.

 

Recently Adopted Changes in Accounting Principles

 

The Company adopted Statement of Financial Accounting Standard (“FAS”) 157 entitled “Fair Value Measurements” as of January 1, 2007. FAS 157 defines fair value as the price received to transfer an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date reflecting the highest and best use valuation concepts. FAS 157 establishes a framework for measuring fair value in GAAP by creating a hierarchy of fair value measurements that distinguishes market data between observable independent market inputs and unobservable market assumptions by the reporting entity. FAS 157 further expands disclosures about such fair value measurements. FAS 157 applies broadly to most existing accounting pronouncements that require or permit fair value measurements (including both financial and non-financial assets and liabilities) but does not require any new fair value measurements. The Company elected to early adopt this Statement effective January 1, 2007.

 

The Company adopted FAS 159 entitled “The Fair Value Option for Financial Assets and Financial Liabilities” as of January 1, 2007. FAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. FAS 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between entities that choose different measurement attributes for similar types of assets and liabilities. FAS 159 amends FAS 115 “Accounting for Certain Investments in Debt and Equity Securities” and applies to all entities with available-for-sale and trading securities effective January 1, 2008. The fair value option established by this Statement permits all entities to choose to measure eligible items at fair value at specified election dates. The Company elected to early adopt this Statement effective January 1, 2007. As a result, the Company now reports unrealized gains and losses associated with all its marketable securities in net income. With the exception of trading securities held by Blue Ocean, the Company previously reported unrealized gains and losses associated with its marketable securities as changes in other comprehensive income. As a result, the adoption of FAS 159 has and will continue to have a material impact on the Company’s net income and consolidated financial statements. The effect of the first remeasurement to fair value has been recorded as a cumulative-effect adjustment to the opening balance of retained earnings. See Note 4 for additional information.

 

8



 

The Company adopted FIN 48 entitled “Accounting for Uncertainty in Income Taxes” as of January 1, 2007. FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. It also provides detailed guidance for the financial statement recognition, measurement and disclosure of uncertain tax positions recognized in an enterprise’s financial statements in accordance with FAS 109 ‘‘Accounting for Income Taxes.’’ The Company did not report any changes to its reported results as a result of the adoption of FIN 48. The Company has taken an uncertain tax position in its determination that certain of its non-U.S. operations are not subject to U.S. income tax. Management believes that the Company conducts substantially all its non-U.S. operations in a manner such that its offshore operations are not engaged in a trade or business in the U.S. and, as a result, are not subject to U.S. income tax. For further information see “Risk Factors” in Part II, Item 1A herein.

 

Foreign Currency Exchange

 

The U.S. dollar is the Company’s reporting currency. The British pound is the functional currency for the operations of Syndicate 5151, MCL, MUSL and MMSL and the Swiss franc is the functional currency for the operations of MEAG. The assets and liabilities of these foreign operations are translated into U.S. dollars at exchange rates in effect at the balance sheet date, and the related revenues and expenses are converted using average exchange rates for the period. Net foreign exchange gains and losses arising from these foreign operations are reported as a separate component of shareholders’ equity, with changes therein reported as a component of other comprehensive income.

 

Other monetary assets and liabilities of Montpelier denominated in foreign currencies have been translated into U.S. dollars at exchange rates in effect at the balance sheet date, and the related revenues and expenses are converted using either specific or average exchange rates for the period, as appropriate. Net foreign exchange gains and losses arising from these activities are reported as a component of net income in the period in which they arise.

 

Restricted Cash

 

Restricted cash consists of cash and cash equivalent balances that are collateralizing Blue Ocean Re’s trust funds.

 

Securities Lending

 

Montpelier participates in a securities lending program whereby certain of its fixed maturity investments are loaned to other institutions for short periods of time through a lending agent. Montpelier 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 at a rate of 102% of the market value of the loaned securities and is monitored and maintained by the lending agent.

 

Minority Interest

 

As of September 30, 2007 and December 31, 2006, the Company owned 42.2% of the outstanding common shares and 33.6% of the outstanding preferred shares of Blue Ocean. The portion of Blue Ocean’s equity not owned by the Company is considered to be owned by Blue Ocean’s minority shareholders. Montpelier’s minority interest liability represents the equity of the minority shareholders of Blue Ocean and Montpelier’s minority interest expense represents the portion of income attributable to such minority shareholders for the periods presented.

 

9



 

2. Loss and Loss Adjustment Expense Reserves

 

The following table summarizes Montpelier’s loss and loss adjustment expense (“LAE”) reserve activities for the three and nine months ended September 30, 2007 and 2006:

 

 

 

 

Three Months Ended 
September 30,

 

Nine Months Ended 
September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

Gross loss and LAE reserves - beginning

 

$

958.3

 

$

1,448.9

 

$

1,089.2

 

$

1,781.9

 

Reinsurance recoverable on unpaid losses - beginning

 

(162.7

)

(232.1

)

(197.3

)

(305.7

)

Net loss and LAE reserves - beginning

 

795.6

 

1,216.8

 

891.9

 

1,476.2

 

 

 

 

 

 

 

 

 

 

 

Losses and LAE incurred:

 

 

 

 

 

 

 

 

 

Current year losses

 

41.7

 

50.7

 

179.2

 

166.2

 

Prior year losses

 

(4.6

)

(7.5

)

(32.3

)

(6.7

)

Total incurred losses and LAE

 

37.1

 

43.2

 

146.9

 

159.5

 

 

 

 

 

 

 

 

 

 

 

Losses and LAE paid:

 

 

 

 

 

 

 

 

 

Current year losses

 

(14.5

)

3.5

 

(20.5

)

(16.8

)

Prior year losses

 

(63.1

)

(136.4

)

(263.2

)

(491.8

)

Total losses and LAE paid

 

(77.6

)

(132.9

)

(283.7

)

(508.6

)

 

 

 

 

 

 

 

 

 

 

Net loss and LAE reserves - ending

 

755.1

 

1,127.1

 

755.1

 

1,127.1

 

Reinsurance recoverable on unpaid losses - ending

 

150.7

 

214.3

 

150.7

 

214.3

 

Gross loss and LAE reserves - ending

 

$

905.8

 

$

1,341.4

 

$

905.8

 

$

1,341.4

 

 

Loss and LAE development– three and nine months ended September 30, 2007

 

The net favorable development during the three and nine months ended September 30, 2007, for losses incurred during prior years primarily resulted from the following:

 

                          Net estimated ultimate Property Specialty losses for prior years decreased by $2.1 million and $24.1 million during the three and nine months ended September 30, 2007, respectively, primarily as a result of claims emergence on the direct and facultative book of business being lower than expected and lower than expected ultimate losses on proportional business.

 

                          Net estimated ultimate Property Catastrophe losses for prior years increased by $0.6 million and decreased by $2.7 million during the three and nine months ended September 30, 2007, respectively. The year-to-date decrease was due mainly to projected losses for hurricanes Katrina, Rita and Wilma, as well as some smaller events such as U.S. tornadoes.

 

                          Net estimated ultimate Other Specialty losses for prior years decreased by $3.1 million and $5.5 million during the three and nine months periods ended September 30, 2007, respectively. The favorable development related to many classes of business within Other Specialty lines.

 

10



 

Loss and LAE development – three and nine months ended September 30, 2006

 

The net favorable development during the three and nine months ended September 30, 2006, for losses incurred during prior years primarily resulted from the following:

 

             Net estimated ultimate Property Catastrophe losses for prior years increased by $2.1 million and $25.0 million during the three and nine months ended September 30, 2006, respectively. The adverse development for the 2006 year-to-date period, which was largely recorded during the 2006 second quarter, primarily resulted from an increase in expected ultimate losses in the retrocessional book of business relating to the 2005 hurricanes.

 

             Net estimated ultimate Property Specialty losses for prior years decreased by $4.2 million and $21.7 million during the three and nine months ended September 30, 2006, respectively. The favorable development for the 2006 year-to-date period, which was largely recorded during the 2006 second quarter, primarily resulted from a decrease in expected ultimate losses for property risk excess claims.

 

             Net estimated ultimate Other Specialty losses for prior years decreased by $5.4 million and $6.5 million during the three and nine months ended September 30, 2006, respectively. The favorable development for the 2006 year-to-date period, which was largely recorded during the 2006 third quarter, primarily resulted from a decrease in Marine losses relating to Hurricane Rita as well as decreases in expected losses on proportional contracts relating to the Aviation, Marine and Personal Accident classes of business.

 

             Net estimated ultimate qualifying quota share losses for prior years decreased by $3.5 million during the nine months ended September 30, 2006, resulting from favorable commutations of such contracts during the 2006 first half.

 

3. Reinsurance

 

In the normal course of business, Montpelier purchases reinsurance in order to manage its exposures. All of Montpelier’s reinsurance purchases to date have represented prospective cover meaning that the coverage has been purchased to protect Montpelier against the risk of future losses as opposed to covering losses that have already occurred but have not been paid. The majority of these contracts are excess of loss contracts covering one or more lines of business. To a lesser extent, Montpelier has also purchased quota share reinsurance with respect to specific lines of business. Montpelier also purchases industry loss warranty policies which provide coverage for certain losses incurred by Montpelier provided they are triggered by events exceeding a specified industry loss size. In addition, for certain pro-rata contracts the subject direct insurance contracts carry underlying reinsurance protection from third party reinsurers which Montpelier nets against gross premiums written.

 

Montpelier remains liable to the extent that any third-party reinsurer or other obligor fails to meet its obligations and with respect to certain contracts that carry underlying reinsurance protection, Montpelier would be liable in the event that the ceding companies are unable to collect amounts due from underlying third party reinsurers.

 

Montpelier records provisions for uncollectible reinsurance recoverable when collection becomes unlikely due to the reinsurer’s inability to pay. Under Montpelier’s reinsurance security policy, reinsurers are generally required to be rated A- or better by A.M. Best at the time the policy is written. Montpelier considers reinsurers that are not rated or do not fall within the above rating threshold on a case-by-case basis when collateralized up to policy limits, net of any premiums owed. Montpelier monitors the financial condition and ratings of its reinsurers on an ongoing basis. Montpelier does not believe that there are any amounts uncollectible from its reinsurers at this time.

 

Earned reinsurance premiums ceded were $30.3 million and $38.6 million for the three months ended September 30, 2007 and 2006, respectively, and $95.9 million and $145.5 million for the nine months ended September 30, 2007 and 2006, respectively. Total recoveries netted against loss and LAE were $0.7 million and $4.5 million for the three months ended September 30, 2007 and 2006, respectively, and $6.7 million and $33.2 million for the nine months ended September 30, 2007 and 2006, respectively. In addition to loss recoveries, certain of Montpelier’s ceded reinsurance contracts provide for recoveries of additional premiums, reinstatement premiums and for lost no-claims bonuses, which are incurred when losses are ceded to these reinsurance contracts.

 

11



 

The current A.M. Best ratings of Montpelier’s reinsurers related to reinsurance recoverable on paid losses at September 30, 2007, are as follows:

 

Rating

 

Amount

 

% of Total

 

A++

 

$

 

%

A+

 

1.5

 

10.9

 

A

 

7.5

 

54.3

 

A-

 

4.4

 

31.9

 

B+

 

0.4

 

2.9

 

Total reinsurance recoverable on paid losses

 

$

13.8

 

100.0

%

 

The current A.M. Best ratings of Montpelier’s reinsurers related to reinsurance recoverable on unpaid losses at September 30, 2007, are as follows:

 

Rating

 

Amount

 

% of Total

 

A++

 

$

64.5

 

42.8

%

A+

 

15.4

 

10.2

 

A

 

46.8

 

31.1

 

A-

 

14.7

 

9.7

 

B+

 

9.3

 

6.2

 

Total reinsurance recoverable on unpaid losses

 

$

150.7

 

100.0

%

 

Montpelier has also entered into a derivative transaction with Champlain Limited (“Champlain”), a Cayman Islands special purpose vehicle, which provides reinsurance-like protection. As the coverage responds to parametric triggers, whereby payment amounts are determined on the basis of modeled losses incurred by a notional portfolio rather than by actual losses that Montpelier incurs, this transaction is accounted for as a weather derivative in accordance with the guidance in Emerging Issues Task Force (“EITF”) Issue 99-2, “Accounting for Weather Derivatives”, and not as a reinsurance transaction. In accordance with the guidance provided by EITF 99-2, this transaction has been valued by applying the intrinsic value method, which results in no value adjustment in the absence of an industry loss event triggering recovery.

 

Montpelier is subject to litigation and arbitration proceedings in the normal course of its business. Such proceedings generally involve reinsurance contract disputes which are typical for the property and casualty insurance and reinsurance industry in general and are considered in connection with the Company’s net loss and loss expense reserves.

 

On October 17, 2007, following the failure of contractually-mandated mediation, Montpelier received a notice of arbitration from Manufacturers Property and Casualty Limited (“MPCL”), a subsidiary of Manulife Financial Corporation of Toronto, Canada (“Manulife”). The notice involves two contracts pursuant to which Montpelier purchased reinsurance protection from MPCL (the “Disputed Contracts”). Although the grounds for relief are not stated in the notice, MPCL seeks thereby to rescind, in whole or in part, the Disputed Contracts, and seeks further relief, including but not limited to attorney’s fees, interest, costs and bad faith damages.

 

Subject to purported reservation of rights, MPCL has to-date paid to Montpelier $25.0 million in respect of ceded claims under the Disputed Contracts, which is net of deposit, reinstatement and additional premiums.

 

In the event that MPCL is awarded rescission of the Disputed Contracts, the reduction in total losses expected to be ceded under the Disputed Contracts, net of reinsurance premiums earned and accrued, would total $73.0 million.

 

12



 

Montpelier believes that MPCL’s case is without merit and that the Disputed Contracts are fully enforceable. In addition, Montpelier intends to seek relief from MPCL and Manulife, a guarantor under the Disputed Contracts, including but not limited to attorney’s fees, interest, costs and bad faith damages. In the circumstances, Montpelier believes that the results of the arbitration will not have a materially adverse effect on its financial condition, results of operations and cash flows.

 

The arbitration is expected to commence during the fourth quarter of 2007.

 

4. Investments

 

Marketable Securities

 

During the first quarter of 2007, the Company adopted FAS 157 and FAS 159. As a result, for 2007 all of Montpelier’s marketable securities are carried at fair value, with the net unrealized appreciation or depreciation on such securities being reported as net realized and unrealized gains (losses) on the Company’s statement of operations. Prior to the adoption of FAS 157 and FAS 159, Montpelier’s marketable securities available for sale were carried at fair value with the net unrealized appreciation or depreciation on such securities being reported as a separate component of shareholders’ equity, with changes therein reported as a component of other comprehensive income.

 

Montpelier utilizes established third party pricing services in valuing its portfolio of marketable securities. The fair value of Montpelier’s U.S. government securities and equity securities is derived based on quoted prices (unadjusted) in active markets for identical assets (Level 1 inputs as defined in FAS 157). The fair value of Montpelier’s mortgage-backed and asset-backed securities, corporate debt securities, U.S. government-sponsored enterprise securities and other fixed maturity securities is derived based on inputs that are observable for the asset, either directly or indirectly (Level 2 inputs as defined in FAS 157). Montpelier currently believes that none of its marketable securities are being valued based on unobservable inputs (Level 3 inputs as defined in FAS 157).

 

The Company’s pricing sources use the market approach valuation technique when pricing marketable securities that are valued using Level 1 inputs. The Company’s pricing sources use the market approach and income approach valuation techniques when pricing marketable securities that are valued using Level 2 inputs, as appropriate. There have been no changes in the Company’s use of valuation techniques since its adoption of FAS 157.

 

The table below shows the aggregate cost (or amortized cost) and fair value of Montpelier’s marketable securities, by investment type, as of the periods indicated:

 

 

 

As of September 30, 2007

 

 

 

Amortized
Cost

 

Fair
Value

 

Fixed maturity investments – trading:

 

 

 

 

 

Mortgage-backed and asset-backed securities

 

$

923.2

 

$

921.0

 

Corporate debt securities

 

612.0

 

620.6

 

U.S. government-sponsored enterprise securities

 

471.1

 

471.8

 

U.S. government securities

 

279.6

 

281.6

 

Other fixed maturity securities

 

10.1

 

10.6

 

Total fixed maturity investments - trading

 

$

2,296.0

 

$

2,305.6

 

 

 

 

Cost

 

Fair
Value

 

 

 

 

 

 

 

Equity securities - trading

 

$

175.1

 

$

222.9

 

 

13



 

The table below shows the aggregate cost (or amortized cost) and fair value of Montpelier’s marketable securities, by investment type, as of the periods indicated:

 

 

 

As of December 31, 2006

 

 

 

Amortized 
Cost

 

Fair 
Value

 

Fixed maturity investments – trading:

 

 

 

 

 

U.S. government securities

 

$

177.8

 

$

 

$177.7

 

Corporate debt securities

 

85.4

 

85.3

 

U.S. government-sponsored enterprise securities

 

73.6

 

73.4

 

Mortgage-backed and asset-backed securities

 

4.0

 

4.0

 

Total fixed maturity investments - trading

 

$

340.8

 

$

340.4

 

 

 

 

Amortized
Cost

 

Fair
Value

 

Fixed maturity investments – available for sale:

 

 

 

 

 

Mortgage-backed and asset-backed securities

 

$

773.6

 

$

771.0

 

U.S. government-sponsored enterprise securities

 

588.2

 

580.5

 

Corporate debt securities

 

531.9

 

543.4

 

U.S. government securities

 

251.3

 

250.4

 

Other

 

22.2

 

21.7

 

Total fixed maturity investments – available for sale

 

$

2,167.2

 

$

2,167.0

 

 

 

 

Cost

 

Fair 
Value

 

Equity securities - available for sale

 

$

157.5

 

$

203.2

 

 

Other Investments

 

Montpelier’s other investments as of September 30, 2007 and December 31, 2006, had a carrying value of $49.3 million and $27.1 million, respectively, and had a cost of $40.4 million and $23.1 million, respectively.

 

Montpelier’s largest other investment holding is currently its investment in the common stock of Symetra Financial Corporation (“Symetra”), a private placement acquired in 2004 at a cost of $20.0 million, which had a fair value of $24.7 million at September 30, 2007. Symetra is recorded at fair value based on inputs that are observable for the asset, either directly or indirectly (Level 2 inputs as defined in FAS 157), including factors restricting the liquidity of the investment. The net appreciation or depreciation on Symetra is reported as a separate component of shareholders’ equity, with changes therein reported as a component of other comprehensive income. Symetra is routinely reviewed to determine if it has sustained an impairment in value that is considered to be other than temporary. Montpelier did not recognize any impairment on its investment in Symetra during the periods presented herein.

 

Montpelier’s other holdings within its other investment portfolio include limited partnership interests and derivative contracts. These investments are carried at fair value, with the net unrealized appreciation or depreciation on such investments being reported as net realized and unrealized gains (losses) on the Company’s statement of operations. All but one of these holdings are recorded at fair value based on inputs that are observable for the asset, either directly or indirectly (Level 2 inputs as defined in FAS 157), including factors restricting the liquidity of the investment. The fair value of one limited partnership interest acquired in 2007 at a cost of $2.3 million, which had a fair value of $2.2 million at September 30, 2007, is derived based on unobservable inputs (Level 3 inputs as defined in FAS 157).

 

14



 

Changes in Fair Value

 

Changes in the fair value of Montpelier’s investment portfolio for the three and nine months ended September 30, 2007, consisted of the following:

 

 

 

Changes in Fair Value for the Three Months Ended September 30, 2007

 

Description

 

Net Realized and
Unrealized Gains
(Losses) on
Investments

 

Net Foreign
Exchange Gains

 

Other Revenue

 

Total Changes in
Fair Value
Reflected 
in Earnings

 

Changes in Fair 
Value Reflected
 in Other
Comprehensive Income

 

Fixed maturity investments

 

$

19.0

 

$

2.0

 

$

 

$

21.0

 

$

 

Equity securities

 

(4.9

)

2.7

 

 

(2.2

)

 

Other investments

 

(0.1

)

2.3

 

1.8

 

4.0

 

0.7

 

 

 

 

Changes in Fair Value for the Nine Months Ended September 30, 2007

 

Description

 

Net Realized and
Unrealized Gains
(Losses) on
Investments

 

Net Foreign 
Exchange Gains

 

Other Revenue

 

Total Changes in 
Fair Value
Reflected in
Earnings

 

Changes in Fair
Value Reflected
in Other

 Comprehensive
Income

 

Fixed maturity investments

 

$

10.5

 

$

3.7

 

$

 

$

14.2

 

$

 

Equity securities

 

13.7

 

3.7

 

 

17.4

 

 

Other investments

 

(0.1

)

3.1

 

3.9

 

6.9

 

0.8

 

 

5. Debt and Financing Arrangements

 

Senior Notes

 

During 2003, the Company issued $250.0 million aggregate principal amount of senior unsecured debt (the “Senior Notes”). The Senior Notes bear interest at a rate of 6.125% per annum, payable semi-annually in arrears on February 15 and August 15 of each year. The Senior Notes are scheduled to mature on August 15, 2013. The Company may redeem the Senior Notes at any time at a “make-whole” redemption price; however, the Company has no current intention of doing so. The Senior Notes do not contain any covenants regarding financial ratios or specified levels of net worth or liquidity to which the Company or any of its subsidiaries must adhere. The unamortized carrying value of the Senior Notes at September 30, 2007 and December 31, 2006, was $249.3 million and $249.2 million, respectively.

 

The Company incurred interest on the Senior Notes of $3.8 million for each of the three month periods ended September 30, 2007 and 2006, and $11.5 million for each of the nine month periods ended September 30, 2007 and 2006. The Company paid interest on the Senior Notes of $7.6 million for each of the three month periods ended September 30, 2007 and 2006, and $15.3 million for each of the nine month periods ended September 30, 2007 and 2006.

 

Junior Subordinated Debt Securities

 

In January 2006 the Company, through Montpelier Capital Trust III, participated in a private placement of $100.0 million of floating rate capital securities (the “Trust Preferred Securities”). The Trust Preferred Securities mature on March 30, 2036, are redeemable at Montpelier Capital Trust III’s option at par beginning March 30, 2011, and require quarterly distributions of interest to the holders of the Trust Preferred Securities. The Trust Preferred Securities bear interest at 8.55% per annum through March 30, 2011, and thereafter at a floating rate of 3-month LIBOR plus 380 basis points, reset quarterly. Montpelier Capital Trust III simultaneously issued all of its issued and outstanding common securities to the Company for a purchase price of $3.1 million. The Company’s investment of $3.1 million in the common shares of Montpelier Capital Trust III is recorded in other investments in the consolidated balance sheet.

 

15



 

Montpelier Capital Trust III used the proceeds from the sale of the Trust Preferred Securities and the issuance of its common securities to purchase junior subordinated debt securities, due March 30, 2036, in the principal amount of $103.1 million issued by the Company. The junior subordinated debt securities bear interest at the same rates as the Trust Preferred Securities discussed above.

 

The Company incurred and paid interest expense on the junior subordinated debt securities of $2.1 million for each of the three month periods ended September 30, 2007 and 2006, and $6.4 million for each of the nine month periods ended September 30, 2007 and 2006.

 

Blue Ocean Long-Term Debt

 

In November 2006 Blue Ocean obtained a secured long-term loan of $75.0 million from a syndicate of lenders (the “Blue Ocean Debt”). The Blue Ocean Debt has an initial maturity date of February 28, 2008; however, Blue Ocean may extend the maturity date up to August 29, 2008. The Blue Ocean Debt bears interest on the outstanding principal amount at a rate equal to a base rate plus a margin of 200 basis points, which may be increased to 400 basis points, depending on certain conditions.

 

Blue Ocean incurred interest expense on the Blue Ocean Debt of $1.4 million and $4.2 million for the three and nine month periods ended September 30, 2007, respectively. Blue Ocean paid $1.4 and $4.2 million in interest on the Blue Ocean Debt during the three and nine months ended September 30, 2007, respectively.

 

Letter of Credit and Revolving Credit Facilities

 

In the normal course of business, Montpelier Re, MCL and Blue Ocean Re provide letters of credit for the benefit of their clients. These letters of credit facilities are secured by investment securities and cash. The Company and Montpelier Re also maintain an unsecured revolving credit facility. The following table outlines these credit facilities as of September 30, 2007:

 

Secured operational Letter of Credit Facilities:

 

Credit
Line

 

Usage

 

Expiry
Date

 

 

 

 

 

 

 

 

 

Syndicated facility: Tranche B

 

$

225.0

 

$

144.9

 

Aug. 2010

 

Syndicated 5-Year facility

 

$

500.0

 

$

49.2

 

June 2011

 

Syndicated 5-Year facility

 

$

250.0

 

$

223.6

 

June 2012

 

Bilateral facility A

 

$

100.0

 

$

49.8

 

None

 

Blue Ocean Re

 

$

250.0

 

$

 

None

 

Lloyd’s standby facility

 

£

74.0

 

£

73.9

 

Dec. 2012

 

 

Unsecured operational Revolving Credit Facility:

 

Credit
Line

 

Usage

 

Expiry
Date

 

 

 

 

 

 

 

 

 

Syndicated 364-Day facility

 

$

50.0

 

$

 

June 2008

 

 

In June 2007, Montpelier Re entered into a new 5-Year secured $250.0 million letter of credit facility and the Company and Montpelier Re entered into a new 364-Day unsecured $50.0 million revolving loan and letter of credit facility. The agreements governing these facilities contain covenants that limit Montpelier’s ability, among other things, to grant liens on its assets, sell assets, merge or consolidate, incur debt and enter into certain burdensome agreements. In addition, the agreements governing these facilities require the Company to maintain debt leverage of no greater than 30% and Montpelier Re to maintain an A.M. Best financial strength rating of no less than B++.

 

In June 2007, the Company, Montpelier Re and MCL entered into a secured £74.0 million standby letter of credit facility through December 31, 2012, which will be used to support business to be written by Syndicate 5151. The agreements governing this facility contain covenants that limit Montpelier’s ability, among other things, to grant liens on its assets, sell assets, merge or consolidate, incur debt and enter into certain other agreements. In addition, the agreements governing these facilities require the Company to maintain debt leverage of no greater than 30% and Montpelier Re to maintain an A.M. Best financial strength rating of no less than B++.

 

16



 

Trust Agreements

 

In the normal course of business, Blue Ocean Re establishes trust funds for the benefit of ceding companies. As of September 30, 2007, restricted assets associated with such trust funds consisted of cash and cash equivalents of $7.6 million and fixed maturity investments of $181.0 million.

 

6. Derivative Contracts

 

As of September 30, 2007, Montpelier had entered into several derivative transactions: the catastrophe bond protection purchased from Champlain (see Note 3); the Industry Loss Warranty contract (as described below), the Catastrophe Bond Total Rate of Return Swap Facility (as described below); the foreign currency exchange agreements (as described below); and the equity forward and related share issuance agreement (see Note 8).

 

Montpelier Re has entered into an Industry Loss Warranty contract (the “ILW Contract”) with a third party. Loss payments under the ILW Contract are triggered exclusively on the basis of losses incurred by the insurance industry as a whole rather than by losses incurred by the contract holder. The ILW Contract provides the contract holder with up to $15.0 million of second-event protection resulting from industry losses of a stated amount for the period from August 14, 2007 to August 13, 2008. The ILW Contract covers losses resulting from natural perils within the U.S. The fair value of the ILW Contract is derived based on unobservable inputs (Level 3 inputs as defined in FAS 157) and is included as a component of other liabilities. Changes in the fair value of the ILW Contract are included in other revenue.

 

Montpelier has entered into a Catastrophe Bond Total Rate of Return Swap Facility (the “Facility”) under which Montpelier is entitled to receive contract payments in return for assuming mark-to-market risk on a portfolio of securitized catastrophe risks. The difference between the notional capital amounts of the catastrophe bonds and their market value is marked to market over the terms of the swap agreements and, in addition to any resulting payments received, are included as other revenue. The fair value of the Facility is recorded as an other investment and is derived based on inputs that are observable for the asset, either directly or indirectly (Level 2 inputs as defined in FAS 157). The counterparty’s exposure under the Facility is collateralized by a lien over a portfolio of Montpelier’s investment grade securities which equals the amount of the facility utilized, after adjustments for credit quality. As of September 30, 2007 and December 31, 2006, Montpelier had entered into several catastrophe bond total rate of return swap transactions having a combined notional capital amount of $69.7 million and $48.7 million, respectively.

 

Montpelier has also entered into foreign currency exchange agreements that represent an obligation to purchase or sell a specified currency at a future date at a price set at the time of the contract. These agreements do not eliminate fluctuations in the value of Montpelier’s assets and liabilities denominated in foreign currencies; rather, they allow Montpelier to establish a rate of exchange for a future point in time. The foreign currency contracts are recorded as other investments at fair value with changes therein recorded as net foreign exchange gains on the income statement. The fair value of the foreign currency contracts is derived based on inputs that are observable for the assets, either directly or indirectly (Level 2 inputs as defined in FAS 157). At September 30, 2007 and December 31, 2006, Montpelier was party to outstanding foreign currency exchange agreements having a gross notional exposure of $92.2 million and $64.6 million, respectively.

 

7. Related Party Transactions

 

On May 1, 2007, the Company repurchased from White Mountains Insurance Group, Ltd. (“White Mountains”), 939,039 of the Company’s common shares and 7,172,375.5 of the Company’s warrants for a total purchase price of $65.0 million. As a result, White Mountains no longer has any ownership interest in the Company and the Company no longer has any warrants outstanding. As of December 31, 2006, White Mountains beneficially owned approximately 6.8% of the Company, assuming conversion of the warrants it held at that date. White Mountains currently provides the Company with investment advisory and management services.

 

Wilbur L. Ross, Jr., a Director of the Company, is Chairman and CEO of WL Ross & Co. LLC. Investment funds managed by WL Ross & Co. LLC owned 6.7% of the Company’s common shares and 9.8% of Blue Ocean’s common shares at September 30, 2007. Mr. Ross is also one of the five Directors of Blue Ocean.

 

17



 

During the three months ended September 30, 2007 and 2006, Blue Ocean Re incurred $3.8 million and $6.4 million in total fees (consisting of underwriting and performance fees), respectively, related to its Underwriting Agreement with MAL. During the nine months ended September 30, 2007 and 2006, Blue Ocean Re incurred $10.4 million and $8.2 million in total fees (consisting of underwriting and performance fees), respectively, related to its Underwriting Agreement with MAL.

 

The Company ceded reinsurance premiums of $1.9 million and $9.5 million to Rockridge Reinsurance, Ltd. (“Rockridge”), an 11% owned, non-consolidated affiliate during the three and nine months ended September 30, 2006, respectively. The premiums ceded by the Company represented 100% of the gross premiums written by Rockridge for these periods. During December 2006, Rockridge ceased its operations and has since returned its capital to investors and its unearned premium to Montpelier.

 

8. Shareholders’ Equity

 

The following table is a summary of the Company’s common shares issued and outstanding:

 

 

 

 

Nine Months
Ended

 

Twelve Months
Ended

 

 

 

September 30,
2007

 

December 31,
2006

 

Common shares outstanding — beginning of period

 

111,775,682

 

89,178,490

 

Issuances of common shares

 

 

6,896,552

 

Repurchases and retirements of common shares

 

(1,391,716

)

 

Director Share Plan issuances

 

8,540

 

5,840

 

Common shares issued (retired) under share issuance agreements

 

(7,774,800

)

15,694,800

 

 

 

 

 

 

 

Common shares outstanding — end of period

 

102,617,706

 

111,775,682

 

 

 

On July 26, 2007, the Board of Directors authorized the Company to purchase up to $100.0 million of its common shares from time-to-time. Shares may be purchased in the open market or through privately negotiated transactions. Pursuant to this share purchase authorization, the Company purchased 449,361 of its common shares at an average price of $16.02 per common share during the third quarter of 2007.

 

On July 30, 2007, the Company purchased 3,316 common shares from a former director pursuant to the Company’s Director Share Plan at a price of $15.80 per common share.

 

On May 1, 2007, the Company repurchased 939,039 common shares and 7,172,375.5 outstanding warrants from White Mountains for a total purchase price of $65.0 million. The common shares and warrants repurchased from White Mountains were retired. As a result of this transaction, the Company no longer has any warrants outstanding.

 

For the nine months ended September 30, 2007 and the twelve months ended December 31, 2006, the Company issued 8,540 and 5,840 common shares, respectively, resulting from the conversion of Director Share Units (“DSUs”) to common shares.

 

In May 2007 the Company retired 7,774,800 common shares under the share issuance agreement and during 2006 the Company issued 15,694,800 common shares under the share issuance agreement, as further described below.

 

On May 25, 2006, the Company entered into a Purchase Agreement with WLR Recovery Fund, II, L.P. and WLR Recovery Fund III, L.P. for a private sale of 6,896,552 common shares at a price of $14.50 per common share. The first $50.0 million purchase of 3,448,276 common shares closed on June 1, 2006, and the second purchase of 3,448,276 common shares closed on June 28, 2006. The net proceeds after deducting estimated offering expenses of $0.5 million was approximately $99.5 million which has been used for general corporate purposes.

 

18



 

Equity Forward and Share Issuance Agreement

 

On May 31, 2006, the Company entered into two equity forward sale agreements under which the Company agreed to sell (subject to the Company’s right to elect cash settlement or net settlement) an aggregate of between 9,796,388 and 15,694,800 common shares to an affiliate of Credit Suisse Securities (USA) LLC (the “forward counterparty”) in exchange for proceeds of approximately $180 million. On March 1, 2007, the Company notified the forward counterparty of its election of net share settlement for the entire first equity forward sale agreement, which settled over 20 business days beginning March 8, 2007. In the course of the settlement, as the valuation price for each component was greater than the $11.75 forward floor price and less than the $18.465 forward cap price, no payments or deliveries were required to be made by the Company or the forward counterparty. As a result, there was no effect on the Company’s consolidated financial statements, fully converted book value per share or earnings per share resulting from the net share settlement.

 

During periods in which the Company’s average share price exceeds the forward cap price of $18.375 per share, the remaining equity forward sale agreement will have a dilutive impact on diluted earnings per share and, during periods in which the Company’s fully converted book value per share exceeds the forward cap price of $18.375 per share, the remaining forward sale agreement will have a dilutive impact on fully converted book value per share.

 

In connection with, and at the same time as, entering into the equity forward sale agreements described above, the Company also entered into a share issuance agreement, dated May 31, 2006, with the forward counterparty. Under the terms of this share issuance agreement the Company was entitled to issue, for payment of the par value thereof, to the forward counterparty, up to 15,694,800 common shares, subject to the Company’s right to repurchase for cancellation an equal number of common shares for nominal consideration. As a result of the settlement of the first equity forward sale agreement, the Company repurchased and retired 7,774,800 of these shares on May 11, 2007.

 

Under the terms of the remaining share issuance agreement, the Company continues to have 7,920,000 common shares issued and outstanding at their par value of 1/6 cent per share. In view of the contractual undertakings of the forward counterparty in the share issuance agreement, which have the effect of substantially eliminating the economic dilution that otherwise would result from the issuance of the shares under the share issuance agreement, the Company believes that, under GAAP currently in effect, the common shares issued thereunder should not be considered outstanding for the purposes of computing and reporting earnings per share or fully converted book value per share. Dividends paid on the common shares subject to the share issuance agreement revert to the Company.

 

Dividends

 

The Company declared quarterly cash dividends of $.075 per common share for each of the three month periods ended September 30, 2007 and 2006, and declared quarterly cash dividends totaling $.225 per common share for each of the nine month periods ended September 30, 2007 and 2006. The Company also paid quarterly cash dividends on warrants, during the periods in which they were outstanding, on the same basis as that of common shares.

 

9. Segment Reporting

 

The Company operates through two business segments, Rated Reinsurance and Insurance Business and Collateralized Property Catastrophe Retrocessional Business. Montpelier’s Rated Reinsurance and Insurance Business segment consists of the operations of the Company and its wholly-owned subsidiaries, including Syndicate 5151. Montpelier’s Collateralized Property Catastrophe Retrocessional Business consists solely of the operations of Blue Ocean. In the third quarter of 2007, Blue Ocean wrote no business and is not expected to write any business during the remainder of the year.

 

During the first nine months of 2007, Blue Ocean paid a total of $249.0 million in dividends and distributions to its common and preferred shareholders (of which Montpelier received $103.9 million) and repurchased a total of $55.0 million of its preferred shares (of which Montpelier received $18.5 million).

 

19



 

The following table summarizes Montpelier’s identifiable assets by segment as of the periods indicated:

 

 

 

September 30,
2007

 

December 31,
2006

 

Rated Reinsurance and Insurance Business

 

$

3,348.0

 

$

3,388.6

 

Collateralized Property Catastrophe Retrocessional Business

 

241.2

 

510.2

 

 

 

 

 

 

 

Total assets

 

$

3,589.2

 

$

3,898.8

 

 

A summary of Montpelier’s statements of operations by segment for the three months ended September 30, 2007 and 2006 follows:

 

 

 

 

 

Collateralized

 

 

 

 

 

 

 

Rated

 

Property

 

 

 

 

 

 

 

Reinsurance

 

Catastrophe

 

 

 

 

 

 

 

and Insurance

 

Retrocessional

 

Consolidation/

 

 

 

Three Months Ended September 30, 2007

 

Business

 

Business

 

Elimination

 

Total

 

 

 

 

 

 

 

 

 

 

 

Gross premiums written

 

$

128.3

 

$

 

$

 

$

128.3

 

Gross premiums earned

 

$

157.6

 

$

11.1

 

$

 

$

168.7

 

Earned reinsurance premiums ceded

 

(30.3

)

 

 

(30.3

)

Net premiums earned

 

127.3

 

11.1

 

 

138.4

 

Loss and loss adjustment expenses

 

(37.1

)

 

 

(37.1

)

Acquisition costs

 

(19.3

)

(0.7

)

 

(20.0

)

General and administrative expenses

 

(22.8

)

(4.0

)

3.8

 

(23.0

)

Underwriting income

 

48.1

 

6.4

 

3.8

 

58.3

 

Net investment income

 

29.4

 

2.8

 

(0.3

)

31.9

 

Other revenue

 

11.5

 

 

(6.9

)

4.6

 

Net investment and foreign currency gains (1)

 

22.4

 

0.7

 

 

23.1

 

Interest and other financing expenses

 

(7.0

)

(1.6

)

 

(8.6

)

Other non-underwriting expenses

 

(3.0

)

 

 

(3.0

)

 

 

 

 

 

 

 

 

 

 

Income before minority interest and income taxes

 

$

101.4

 

$

8.3

 

$

(3.4

)

$

106.3

 

 

 

 

 

 

 

 

 

 

 

Minority interest expense — Blue Ocean

 

 

 

 

 

 

 

(4.9

)

Income tax provision

 

 

 

 

 

 

 

(0.1

)

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

 

 

$

101.3

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income items (2)

 

 

 

 

 

 

 

0.7

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

 

 

 

 

 

 

$

102.0

 

 


(1)          Effective January 1, 2007, the Company elected to adopt FAS 159 for all of its marketable securities that were classified as available for sale at December 31, 2006. These marketable securities continue to be carried at fair value, based on quoted market prices; however, effective January 1, 2007, any unrealized gains or losses are now recorded as net realized and unrealized gains (losses) on investments in its consolidated statement of operations. Prior periods were not amended for this change.

 

(2)          Relates to the Rated Reinsurance and Insurance Business segment only.

 

20



 

 

 

 

 

Collateralized

 

 

 

 

 

 

 

Rated

 

Property

 

 

 

 

 

 

 

Reinsurance

 

Catastrophe

 

 

 

 

 

 

 

and Insurance

 

Retrocessional

 

Consolidation/

 

 

 

Three Months Ended September 30, 2006

 

Business

 

Business

 

Elimination

 

Total

 

 

 

 

 

 

 

 

 

 

 

Gross premiums written

 

$

114.2

 

$

6.9

 

$

 

$

121.1

 

Gross premiums earned

 

$

166.2

 

$

23.8

 

$

 

$

190.0

 

Earned reinsurance premiums ceded

 

(38.5

)

 

 

(38.5

)

Net premiums earned

 

127.7

 

23.8

 

 

151.5

 

Loss and loss adjustment expenses

 

(43.2

)

 

 

(43.2

)

Acquisition costs

 

(25.8

)

(1.5

)

 

(27.3

)

General and administrative expenses

 

(17.8

)

(6.5

)

6.4

 

(17.9

)

Underwriting income

 

40.9

 

15.8

 

6.4

 

63.1

 

Net investment income

 

29.5

 

4.6

 

(1.0

)

33.1

 

Other revenue

 

16.8

 

 

(14.4

)

2.4

 

Net investment and foreign currency gains

 

6.1

 

1.7

 

 

7.8

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