UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 1999
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from ___________ to ___________
Commission File No. 1-11778 I.R.S. Employer Identification No. 98-0091805
ACE LIMITED
(Incorporated in the Cayman Islands)
The ACE Building
30 Woodbourne Avenue
Hamilton HM 08
Bermuda
Telephone 441-295-5200
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 ________
The number of registrant's Ordinary Shares ($0.041666667 par value)
outstanding as of August 13, 1999 was 194,059,295.
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ACE LIMITED
INDEX TO FORM 10-Q
Part I. FINANCIAL INFORMATION
Page No.
<S> <C>
Item 1. Financial Statements:
Consolidated Balance Sheets
June 30, 1999 (Unaudited) and September 30, 1998 1
Consolidated Statements of Operations (Unaudited)
Three Months and Nine Months Ended June 30, 1999 and 1998 2
Consolidated Statements of Shareholders' Equity (Unaudited)
Nine Months Ended June 30, 1999 and 1998 3
Consolidated Statements of Comprehensive Income (Unaudited)
Nine Months Ended June 30, 1999 and 1998 4
Consolidated Statements of Cash Flows (Unaudited)
Nine Months Ended June 30, 1999 and 1998 5
Notes to Interim Consolidated Financial Statements (Unaudited) 6
Item 2. Management's Discussion and Analysis of Results of
Operations and Financial Condition 14
Part II. OTHER INFORMATION
Item 5. Other Information 32
Item 6. Exhibits and Reports on Form 8-K 32
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ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
June 30 September 30
1999 1998
---- ----
(unaudited)
(in thousands of U.S. Dollars,
except share and per share data)
<S> <C> <C>
Assets
Investments and cash
Fixed maturities available for sale, at fair value
(amortized cost - $4,005,914 and $4,910,792) $ 3,956,607 $ 5,056,807
Equity securities, at fair value (cost - $142,273 and $198,447) 163,565 189,717
Short-term investments, at fair value
(amortized cost - $1,321,896 and $480,236) 1,318,086 480,190
Other investments, at fair value
(cost - $317,637 and $156,758) 317,818 156,646
Cash 804,430 317,714
--------------- ---------------
Total investments and cash 6,560,506 6,201,074
Goodwill 533,637 540,355
Premiums and insurance balances receivable 459,496 377,307
Reinsurance recoverable 1,291,461 1,116,753
Accrued investment income 45,552 57,153
Deferred acquisition costs 84,880 76,445
Prepaid reinsurance premiums 203,589 205,022
Deferred income taxes 39,815 25,264
Other assets 448,874 189,380
--------------- ---------------
Total assets $ 9,667,810 $ 8,788,753
=============== ===============
Liabilities
Unpaid losses and loss expenses $ 3,803,251 $ 3,737,869
Unearned premiums 847,125 773,702
Premiums received in advance 66,339 53,794
Insurance and reinsurance balances payable 152,906 75,898
Accounts payable and accrued liabilities 189,092 165,527
Dividend payable 21,616 17,693
Long-term debt 250,000 250,000
Trust preferred securities 400,000 -
--------------- ---------------
Total liabilities 5,730,329 5,074,483
--------------- ---------------
Commitments and contingencies
Shareholders' Equity
Ordinary Shares ($0.041666667 par value, 300,000,000 shares authorized;
194,051,128 and 193,592,519 shares issued and outstanding) 8,086 8,066
Additional paid-in capital 1,773,710 1,765,261
Unearned stock grant compensation (12,136) (6,181)
Retained earnings 2,200,015 1,819,554
Accumulated other comprehensive (loss) income (32,194) 127,570
--------------- ---------------
Total shareholders' equity 3,937,481 3,714,270
--------------- ---------------
Total liabilities and shareholders' equity $ 9,667,810 $ 8,788,753
=============== ===============
See accompanying notes to interim consolidated financial statements
1
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ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months and Nine Months Ended June 30, 1999 and 1998
(Unaudited)
Three Months Ended Nine Months Ended
June 30 June 30
1999 1998 1999 1998
---- ---- ---- ----
(in thousands of U.S. Dollars, except per share data)
<S> <C> <C> <C> <C>
Revenues
Gross premiums written $ 508,999 $ 454,313 $ 1,198,562 $ 925,106
Reinsurance premiums ceded (116,730) (131,701) (311,525) (220,708)
-------------- -------------- --------------- ----------------
Net premiums written 392,269 322,612 887,037 704,398
Change in unearned premiums (91,998) (76,262) (83,492) (31,243)
-------------- -------------- --------------- ----------------
Net premiums earned 300,271 246,350 803,545 673,155
Net investment income 84,794 93,011 256,374 234,966
Net realized gains on investments 25,307 69,448 172,715 242,557
-------------- -------------- --------------- ----------------
Total revenues 410,372 408,809 1,232,634 1,150,678
-------------- -------------- --------------- ----------------
Expenses
Losses and loss expenses 255,471 146,233 523,521 398,268
Acquisition costs 31,471 29,600 93,636 81,653
Administrative expenses 41,149 36,392 137,018 80,066
Amortization of goodwill 4,514 4,253 13,369 8,498
Loan interest expense 4,147 6,025 13,418 12,578
-------------- -------------- --------------- ----------------
Total expenses 336,752 222,503 780,962 581,063
-------------- -------------- --------------- ----------------
Income before income taxes 73,620 186,306 451,672 569,615
Income taxes (4,498) (9,778) (14,992) (22,976)
-------------- -------------- --------------- ----------------
Net income $ 69,122 $ 176,528 $ 436,680 $ 546,639
================ ================== ================= =================
Basic earnings per share $0.36 $0.92 $2.25 $3.00
================ ================== ================= =================
Diluted earnings per share $0.35 $0.90 $2.21 $2.93
================ ================== ================= =================
See accompanying notes to interim consolidated financial statements
2
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ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
For the Nine Months Ended June 30, 1999 and 1998
(Unaudited)
June 30
1999 1998
---- ----
(in thousands of U.S. Dollars)
<S> <C> <C>
Ordinary shares
Balance at beginning of period $ 8,066 $ 7,508
Shares issued 0 688
Exercise of stock options 18 14
Repurchase of Ordinary Shares 0 (147)
Issued under Employee Stock Purchase Plan 2 1
------------- -------------
Balance at end of period 8,086 8,064
------------- -------------
Additional paid-in capital
Balance at beginning of period 1,765,261 1,177,954
Ordinary Shares issued 0 605,211
Exercise of stock options 7,129 3,032
Issued under Employee Stock Purchase Plan 1,420 954
Repurchase of Ordinary Shares 0 (23,083)
Cancellation of restricted stock award (100) 0
------------ -------------
Balance at end of period 1,773,710 1,764,068
------------ -------------
Unearned stock grant compensation
Balance at beginning of period (6,181) (1,993)
Stock grants awarded (11,298) (8,113)
Stock grants forfeited 312 0
Amortization 5,031 2,945
------------ ------------
Balance at end of period (12,136) (7,161)
------------ ------------
Retained earnings
Balance at beginning of period 1,819,554 1,403,463
Net income 436,680 546,639
Dividends declared (56,219) (42,223)
Repurchase of Ordinary Shares 0 (84,414)
------------ ------------
Balance at end of period 2,200,015 1,823,465
------------ ------------
Accumulated other comprehensive income (loss)
Net unrealized appreciation (depreciation) on investments
Balance at beginning of period 127,845 196,655
Change in period, net of tax (159,489) (88,940)
------------ -------------
Balance at end of period (31,644) 107,715
------------ -------------
Cumulative translation adjustments
Balance at beginning of period (275) 1,568
Net adjustments during period (275) (1,461)
------------- -------------
Balance at end of period (550) 107
------------- -------------
Accumulated other comprehensive income (loss) (32,194) 107,822
------------- -------------
Total shareholders' equity $3,937,481 $ 3,696,258
============= =============
See accompanying notes to interim consolidated financial statements
3
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ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
For the Nine Months Ended June 30, 1999 and 1998
(Unaudited)
June 30
1999 1998
---- ----
(in thousands of U.S. Dollars)
<S> <C> <C>
Net income $ 436,680 $ 546,639
Other comprehensive income (loss)
Net unrealized appreciation (depreciation) on investments
Unrealized appreciation (depreciation) on investments (112,223) 47,156
Less: reclassification adjustment for net realized gains
included in net income (56,548) (134,690)
------------ ------------
(168,771) (87,534)
------------ ------------
Cumulative translation adjustments (275) (1,461)
------------ ------------
Other comprehensive income (loss), before income taxes (169,046) (88,995)
------------ ------------
Income tax recovery (expense) related to other comprehensive income items 9,282 (1,406)
----------- -------------
Other comprehensive income (loss) (159,764) (90,401)
----------- -------------
----------- -------------
Comprehensive income $ 276,916 $ 456,238
=========== =============
See accompanying notes to interim consolidated financial statements
4
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ACE LIMITED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months Ended June 30, 1999 and 1998
(Unaudited)
June 30
1999 1998
(in thousands of U.S. Dollars)
<S> <C> <C>
Cash flows from operating activities
Net income $ 436,680 $ 546,639
Adjustments to reconcile net income to net cash provided
by operating activities:
Unearned premiums 73,423 44,071
Unpaid losses and loss expenses, net of reinsurance recoverable (109,326) 49,268
Prepaid reinsurance premiums 1,433 (36,937)
Net realized gains on investments (172,715) (242,557)
Amortization of premium/discounts on fixed maturities (7,722) (10,316)
Amortization of goodwill 13,369 8,498
Deferred acquisition costs (8,435) 10,223
Premiums and insurance balances receivable (82,189) 3,305
Deferred income taxes 3,422 24,701
Premiums received in advance 12,545 17,312
Insurance and reinsurance balances payable 77,008 27,951
Accounts payable and accrued liabilities 8,623 (106,493)
Other (246,437) (47,074)
----------- -----------
Net cash flows from (used for) operating activities (321) 288,591
----------- -----------
Cash flows from investing activities
Purchases of fixed maturites (13,911,860) (5,756,153)
Purchases of equity securitites (155,638) (221,589)
Sales of fixed maturities 13,563,505 5,391,601
Sales of equity securities 237,932 621,396
Maturities of fixed maturities 395,072 81,811
Net realized gains on financial futures contracts 170,818 63,595
Other investments (160,879) 2,255
Acquisition of subsidiaries, net of cash acquired (8,087) (967,758)
------------ -----------
Net cash flows from (used for) investing activities 130,863 (784,842)
------------ -----------
Cash flows from financing activities
Dividends paid (52,296) (38,260)
Repayment of long-term debt (250,000) (385,000)
Proceeds from long-term debt 250,000 635,000
Net proceeds from issuance of trust preferred securities 400,000 0
Proceeds from exercise of options for Ordinary Shares 7,147 3,046
Net proceeds from issuance of Ordinary Shares 0 605,899
Repurchase of Ordinary Shares 0 (107,644)
Proceeds from shares issued under Employee Stock Purchase Plan 1,323 955
----------- ----------
Net cash flows from financing activities 356,174 713,996
----------- ----------
Net increase in cash 486,716 217,745
Cash at beginning of period 317,714 216,191
----------- ----------
Cash at end of period $ 804,430 $ 433,936
=========== ============
See accompanying notes to interim consolidated financial statements
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5
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ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. General
The interim consolidated financial statements, which include the accounts
of the Company and its subsidiaries, have been prepared on the basis of
accounting principles generally accepted in the United States of America
and, in the opinion of management, reflect all adjustments (consisting of
normal recurring accruals) necessary for a fair presentation of results for
such periods. The results of operations and cash flows for any interim
period are not necessarily indicative of results for the full year. These
financial statements should be read in conjunction with the consolidated
financial statements, and related notes thereto, included in the Company's
1998 Annual Report on Form 10-K.
On July 2, 1999, the Company changed its fiscal year-end from September 30 to
December 31. This change will be implemented retroactively to December 31,
1998 so that the 1999 fiscal year end will be the twelve month period
ending December 31, 1999. This change will be reflected in the quarter ended
September 30, 1999, at which time the Company will report results for the
three months ended September 30, 1999 and 1998 and for the nine months ended
September 30, 1999 and 1998. The results reported as at December 31, 1999
results will be for the twelve months ended December 31, 1999.
On July 2, 1999, the Company completed the acquisition of the international
and domestic property and casualty businesses of CIGNA Corporation ("CIGNA
P&C") for $3.45 billion in cash (the "CIGNA P&C Acquisition"). Under the terms
of the agreement the Company, through a newly created U.S. holding company,
ACE INA Holdings Inc. (ACE INA), acquired CIGNA's domestic property and
casualty insurance operations including its run-off business and also its
international property and casualty insurance companies and branches,
including most of the accident and health business written through those
companies.
Under the terms of the Acquisition Agreement, CIGNA Corporation ("CIGNA")
agreed to provide a guarantee to ACE to indemnify against unanticipated
increases in recorded reserves for losses and loss adjustment expenses of
certain subsidiaries being acquired by ACE. CIGNA had the option to replace
its guarantee with reinsurance obtained from a mutually agreed upon third
party reinsurer. Contemporaneous with the consummation of the acquisition,
CIGNA exercised its option and replaced its guarantee with reinsurance by
directing certain subsidiaries being acquired to transfer $1.25 billion of
investments to National Indemnity Company, a subsidiary of Berkshire
Hathaway Inc., for aggregate coverage of $2.5 billion. This coverage
attaches at an amount equal to the net recorded reserves of the certain
subsidiaries acquired, on the closing date, minus $1.25 billion.
ACE financed the CIGNA P&C Acquisition with a combination of available
cash, a hybrid trust preferred security and the remainder with commercial
paper issuance. Ultimately, it is anticipated the commercial paper will be
replaced with a combination of newly issued ACE ordinary shares, senior
debt and trust preferred securities (see Notes 6 and 7).
The acquisition will be recorded using the purchase method of accounting and
accordingly, the consolidated financial statements will include the results of
ACE INA and its subsidiaries from July 2, 1999, the date of acquisition.
On June 11, 1999, ACE announced that it had entered into an Agreement and
Plan of Merger (the "Agreement") for the acquisition of Capital Re
Corporation ("Capital Re"). Under the terms of the agreement, Capital Re's
shareholders will receive 0.6 ordinary shares of ACE for each common stock
of Capital Re at closing, subject to a maximum value to Capital Re
shareholders of $22 per share. It is anticipated that the transaction will
be completed during the second half of calender 1999, subject to customary
closing conditions, including approval of the merger by Capital Re's
shareholders and receipt of necessary regulatory approvals.
For the nine months ended June 30, 1999, approximately 57 percent of the
Company's written premiums came from companies headquartered in North
America with approximately 19 percent coming from companies headquartered
in the United Kingdom and continental Europe and approximately 24 percent
from companies headquartered in other countries.
6
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ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
2. Significant Accounting Policies
a) Comprehensive Income
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130 "Reporting Comprehensive Income"
("SFAS 130"), which is effective for fiscal years beginning after December
15, 1997. SFAS 130 establishes standards for the reporting and display of
comprehensive income and its components in a full set of general-purpose
financial statements. As of October 1, 1998, the Company adopted SFAS 130;
however, the adoption of this statement had no impact on the Company's net
income or shareholders' equity. SFAS 130 requires unrealized gains or
losses on the Company's available-for-sale securities and cumulative
translation adjustments, which prior to adoption were reported separately
in shareholders' equity, to be included in other comprehensive income.
Prior year financial statements have been reclassified to conform to the
requirements of SFAS 130.
b) New accounting pronouncements
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information" ("SFAS 131"), which is effective for
fiscal years beginning after December 15, 1997. SFAS 131 establishes standards
for the way that public business enterprises report information about operating
segments in annual financial statements and requires that those enterprises
report selected information about operating segments in interim financial
reports. It also establishes standards for related disclosures about
products and services, geographic areas, and major customers. Because SFAS
131 is not required to be applied to interim financial statements in the
initial year of adoption, the Company is not required to disclose segment
information in accordance with SFAS 131 until its December 1999 annual
report. In the Company's March 31, 2000 report, and in subsequent
quarters, it will present the interim disclosures required by SFAS 131 for
both 1999 and 2000.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"), which is effective for
all fiscal quarters of all fiscal years beginning after June 15, 2000. SFAS
133 establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and hedging activities. It requires that an entity recognize all
derivatives as either assets or liabilities in the statement of financial
position and measure those instruments at fair value. SFAS 133 is effective
beginning in the first quarter of fiscal 2001. The Company is currently
assessing the effect of adopting this statement on its financial position
and operating results, which as yet, has not been determined.
3. Commitments and Contingencies
A number of the Company's insureds have given notice of claims relating to
breast implants or related components or raw material thereof that had been
produced and/or sold by such insureds. The Company has made payments to
date of approximately $610 million with respect to breast implant claims,
which include payments of $240 million made during the nine months ended
June 30, 1999. These payments are made pursuant to agreements reached with
most of the Company's significant breast implant insureds. Those agreements
have the effect of limiting the Company's exposure to breast implant claims
related to those insureds to amounts which were anticipated in the
Company's loss reserves. Although uncertainties concerning the ultimate amount
of the Company's financial exposure to breast implant claims continue to
exist, the Company believes that the possibility of a material financial
impact in the future as a result of breast implant claims is unlikely.
7
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ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
3. Commitments and Contingencies (Continued)
The Company has considered asbestos and environmental claims and claims
expenses in establishing the liability for unpaid losses and loss expenses.
The estimation of ultimate losses arising from asbestos and environmental
exposures has presented a challenge because traditional actuarial reserving
methods, which primarily rely on historical experience, are inadequate for
such estimation. The problem of estimating reserves for asbestos and
environmental exposures resulted in the development of reserving methods
which incorporate new sources of data with historical experience. The
Company believes that the reserves carried for these claims are adequate
based on known facts and current law.
4. Restricted Stock Awards
Under the terms of the 1995 Long-Term Incentive Plan, 353,250 restricted
Ordinary Shares were awarded during the nine months ended June 30, 1999, to
officers of the Company and its subsidiaries. These shares vest at various
dates through November 2003. In addition, during the period, 18,228
restricted Ordinary Shares were awarded to outside directors under the
terms of the 1995 Outside Directors Plan. These shares vest in February 2000.
At the time of grant the market value of the shares awarded under these
grants is recorded as unearned stock grant compensation and is presented as
a separate component of shareholders' equity. The unearned compensation is
charged to income over the vesting period.
5. Earnings Per Share
The following table sets forth the computation of basic and diluted
earnings per share.
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Three Months Ended Nine Months Ended
June 30 June 30
1999 1998 1999 1998
---- ---- ---- ----
(In thousands of U.S. dollars except share and per share data)
<S> <C> <C> <C> <C>
Numerator:
Net income $ 69,122 $ 176,528 $ 436,680 $ 546,639
============ ============= ============= =============
Denominator:
Denominator for basic earnings per share -
Weighted average shares outstanding 193,784,573 190,753,068 193,802,722 182,313,501
Effect of dilutive securities 3,390,941 4,580,092 3,455,965 4,181,646
------------ ------------ ------------ ------------
Denominator for diluted earnings per share -
Adjusted weighted average shares outstanding
and assumed conversions 197,175,514 195,333,160 197,258,687 186,495,147
============ ============= ============= =============
Basic earnings per share $ 0.36 $ 0.92 $ 2.25 $ 3.00
============ ============= ============= =============
Diluted earnings per share $ 0.35 $ 0.90 $ 2.21 $ 2.93
============ ============= ============= =============
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8
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ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
6. Credit Facilities
In December 1997, the Company arranged certain syndicated credit
facilities. J.P. Morgan Securities, Inc. and Mellon Bank N.A. acted as
co-arrangers in the arranging, structuring and syndication of these
facilities. During fiscal 1999 each of the facilities under this
arrangement have been replaced as discussed below. The facilities provided:
o A $200 million 364 day revolving credit facility and a $200 million five
year revolving credit facility which together made up a combined $400
million committed, unsecured syndicated revolving credit facility. The
five-year revolving credit facility had a $150 million letter of
credit ("LOC") sub-limit. A new multi-year liquidity facility has
been arranged as an additional part of the new syndicated credit
facilities described below.
o A syndicated fully secured five year LOC facility totaling approximately
(pound)154 million ($262 million) which was used to fulfill the
requirements of Lloyd's to support underwriting capacity on Lloyd's
syndicates in which the Company participates. As discussed below, this
facility was replaced on November 27, 1998.
o A syndicated $250 million seven year amortizing term loan facility,
which was used on January 2, 1998 to partially finance the acquisition
of ACE USA. The interest rate on the term loan was LIBOR plus an
applicable spread. As discussed below, this term loan was refinanced
on October 27, 1998.
In October 1998, ACE US Holdings, Inc. ("ACE US") refinanced the
outstanding $250 million term loan with the proceeds from the issuance of
$250 million in aggregate principal amount of unsecured senior notes
maturing in October 2008. Interest payments, based on the initial fixed
rate coupon on these notes of 8.63 percent, are due semi-annually in
arrears. Total interest expense to be recorded by ACE US will initially be
$23.3 million per year. The indenture related to these notes includes
certain events of default for ACE US. The senior notes are callable subject
to certain call premiums, however, ACE US has no current intention of
calling the debt. Simultaneously, the Company entered into a notional $250
million swap transaction that has the economic effect of reducing the cost
of debt to the consolidated group, excluding fees and expenses, to 6.47
percent for 10 years. Certain assets totaling approximately $90 million are
pledged as collateral in connection with the swap transaction. In the event
that the Company terminates the swap prematurely, the Company would be
liable for certain transaction costs. However, the Company has no current
intention of terminating the swap. The swap counter-party is a major
financial institution with a long-term S&P Senior Debt Rating of AA- and
the Company does not anticipate non-performance.
In November 1998, the Company arranged a syndicated partially secured five
year LOC facility in the amount of (pound)270 million (approximately $450
million) to fulfill the requirements of Lloyd's for the 1999 year of
account. This facility was arranged by Citibank N.A., with ING Barings and
Barclays Bank PLC acting as co-arrangers, and replaced the facility
arranged in December 1997. This LOC facility requires that the Company
and/or certain of its subsidiaries continue to maintain certain covenants,
including a minimum consolidated tangible net worth covenant and a maximum
leverage covenant. On June 30, 1999, certain terms of this LOC facility
were renegotiated and the facility is now unsecured.
9
<PAGE>
ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
6. Credit Facilities (Continued)
In June 1999, the Company arranged certain syndicated credit facilities.
Merrill Lynch, Pierce, Fenner & Smith Incorporated and J.P. Morgan Securities
Inc. acted as lead arranger and co-arranger respectively and assisted in the
arranging, structuring and syndication of these credit facilities. Each
facility requires that the Company and/or certain of its subsidiaries maintain
specific covenants, including a consolidated tangible net worth covenant and a
maximum leverage covenant. The facilities provide:
o A $750 million 364-day revolving credit facility with ACE Limited, ACE
Bermuda Insurance Ltd, Tempest Reinsurance Company Limited and ACE
INA Holdings Inc. as borrowers and guarantors. The initial
purpose of this facility is to provide interim financing for the CIGNA
P&C Acquisition. However, after certain conditions are met, up to $500
million of this facility will remain in place for general corporate
purposes.
o A $250 million five-year revolving credit facility with ACE Limited,
ACE Bermuda Insurance Ltd, Tempest Reinsurance Company Limited and
ACE INA Holdings Inc. as borrowers and guarantors. This
facility is for general corporate purposes and has a letter of credit
sub-limit of $250 million.
o A $2.05 billion 364-day revolving credit facility with a one-year term
out option with ACE INA Holdings Inc. as borrower and ACE Limited,
ACE Bermuda Insurance Ltd and Tempest Reinsurance Company Limited as
guarantors. This facility was arranged to provide interim financing for
the CIGNA P&C Acquisition.
In June 1999, the Company arranged certain commercial paper programs for
ACE Limited and ACE INA Holdings Inc. The programs use the above 364-day
facilities as recourse facilities and provide for up to $750 million in
commercial paper issuance for ACE Limited and up to $2.05 billion in
commercial paper issuance for ACE INA Holdings Inc. On July 2, 1999, $425
million and $1.65 billion were drawn down under these programs by ACE
Limited and ACE INA Holdings Inc., respectively to partially finance the
CIGNA P&C Acquisition.
In June 1999, ACE INA Holdings Inc. arranged a short-term money
market facility in the amount of $225 million for general corporate
purposes. This facility is guaranteed by the Company and/or certain of its
subsidiaries and requires that the Company and/or certain of its
subsidiaries maintain specific covenants, including a consolidated tangible
net worth covenant and a maximum leverage covenant. In July 1999, a portion
of the facility was used to finance certain liabilities of ACE INA Holdings
Inc. subsidiaries.
Tempest Re also maintains an uncollateralized, syndicated revolving credit
facility in the amount of $72.5 million. At June 30, 1999, no amounts have
been drawn down under this facility. The facility requires that Tempest Re
comply with specific covenants. ACE Limited added its guarantee to this
facility in June 1999.
7. Trust Preferred Securities
In connection with the completion of the CIGNA P&C Acquisition, on June 30,
1999 ACE RHINOS Trust, a Delaware statutory business trust (the "Trust"),
sold in a private placement $400 million of Auction Rate Reset Preferred
Securities (the "Preferred Securities"). All of the common securities of
the Trust are owned by ACE INA.
The Preferred Securities mature on September 30, 2002. Distribution on the
Preferred Securities are payable quarterly at LIBOR plus 125 basis points,
adjusted quarterly, provided that the Trust may defer such payments (but no
later than September 30, 2001 or earlier Redemption Date), with such
deferred payments compounded quarterly, if ACE INA defers interest on the
10
<PAGE>
ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
7. Trust Preferred Securities (Continued)
Subordinated Notes (as defined below). If the trading price of ACE's Ordinary
Shares declines to 66-2/3 percent of the closing price of ACE's ordinary
shares on June 30, 1999, the holders of a majority of the Preferred Securities
will have the option to require Banc of America Securities LLC as the
Remarketing Agent to remarket the Preferred Securities. If remarketed, the
maturity of the remarketed securities will be reset as the later of September
30, 2001 or one year from the date on which the remarketed securities are
issued. The coupon will be reset pursuant to a bid process to value the
remarketed securities at 100.25 percent of the face amount thereof.
The sole assets of the Trust consist of a $412,372,000 Auction Rate Reset
Subordinated Notes Series A (the "Subordinated Notes") issued by ACE INA.
The Subordinated Notes mature on September 30, 2001. Interest on the
Subordinated Notes is payable quarterly at LIBOR plus 125 basis points,
adjusted quarterly, provided that ACE INA may defer such interest payments
(but no later than the September 30, 2001 or earlier Redemption Date), with
such deferred payments compounded quarterly. If under certain circumstances
the Trust is dissolved and the holders of the Preferred Securities directly
hold the Subordinated Notes, then the remarketing provisions described
above will be applicable to the Subordinated Notes.
In connection with the issuance of the Preferred Securities, the Company has
agreed with Banc of America Securities to use its reasonable best efforts to
complete one or more firm commitment underwritings with an aggregate public
offering price of $400 million on or before June 30, 2002. The Company has
agreed to maintain an effective shelf registration statement with availability
for the issuance of up to $400 million ordinary shares (exclusive of any
amounts to cover over-allotments).
8. Reinsurance
The Company purchases reinsurance to manage various exposures including
catastrophic risks. Although reinsurance agreements contractually obligate
the Company's reinsurers to reimburse it for the agreed upon portion of its
gross paid losses, they do not discharge the primary liability of the
Company. The amounts for net premiums written and net premiums earned in
the statements of operations are net of reinsurance. Direct, assumed and
ceded amounts for these items for the three months and nine months ended
June 30, 1999 and 1998 are as follows:
- -------------------------------------------------------------------------------
Three months ended Nine months ended
Premiums June 30 June 30
1999 1998 1999 1998
---- ---- ---- ----
Premiums written (in thousands of (in thousands of
U.S. dollars) U.S. dollars)
Direct $ 293,000 $ 231,942 $ 719,962 $ 568,372
Assumed 215,999 222,371 478,600 356,734
Ceded (116,730) (131,701) (311,525) (220,708)
--------- --------- --------- ---------
Net premiums written $ 392,269 $ 322,612 $ 887,037 $ 704,398
========== ========== ========== ==========
Premiums earned
Direct $ 221,291 $ 210,825 $ 707,073 $ 616,166
Assumed 179,459 122,036 406,869 273,121
Ceded (100,479) (86,511) (310,397) (216,132)
--------- -------- --------- ---------
Net premiums earned $ 300,271 $ 246,350 $ 803,545 $ 673,155
========== ========== ========== ==========
- -------------------------------------------------------------------------------
11
<PAGE>
ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
8. Reinsurance (Continued)
The Company's provision for reinsurance recoverable at June 30, 1999 and
September 30, 1998 is as follows:
- -------------------------------------------------------------------------------
June 30 September 30
1999 1998
---- ----
(in thousands of U.S. dollars)
Reinsurance recoverable on paid
losses and loss expenses $ 115,579 $ 57,225
Reinsurance recoverable on unpaid
losses and loss expenses 1,258,849 1,143,121
Provision for uncollectible balances
on unpaid losses and loss expenses (82,967) (83,593)
----------- ------------
Total reinsurance recoverable $1,291,461 $1,116,753
=========== ============
- -------------------------------------------------------------------------------
9. Taxation
Under current Cayman Islands law, the Company is not required to pay any taxes
in the Cayman Islands on its income or capital gains. The Company has received
an undertaking that, in the event of any taxes being imposed, the Company will
be exempted from taxation in the Cayman Islands until the year 2013. Under
current Bermuda law, the Company and its Bermuda subsidiaries are not required
to pay any taxes in Bermuda on its income or capital gains. The Company has
received an undertaking from the Minister of Finance in Bermuda that, in the
event of any taxes being imposed, the Company will be exempt from taxation in
Bermuda until March 2016.
Income from the Company's operations at Lloyd's are subject to United
Kingdom corporation taxes. Lloyd's is required to pay U.S. income tax on
U.S. connected income ("U.S. income") written by Lloyd's syndicates.
Lloyd's has a closing agreement with the IRS whereby the amount of tax due
on this business is calculated by Lloyd's and remitted directly to the IRS.
These amounts are then charged to the personal accounts of the
Names/Corporate Members in proportion to their participation in the
relevant syndicates. The Company's Corporate Members are subject to this
arrangement but, as UK domiciled companies, will receive UK corporation tax
credits for any U.S. income tax incurred up to the value of the equivalent
UK corporation income tax charge on the U.S. income.
ACE USA is subject to income taxes imposed by U.S. authorities. ACE INA
is also subject to income taxes imposed by U.S. authorities and will file a
consolidated U.S. tax return that will cover the acquired businesses.
12
<PAGE>
ACE LIMITED AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
9. Taxation (continued)
The Company currently conducts its business so as not to be subject to
taxation in the United States or elsewhere, other than as stated above.
There can be no assurance that there will not be changes in applicable
laws, regulations or treaties which might require the Company to change the
way it operates or become subject to taxation.
The provision for income taxes detailed below represents the Company's
estimate of tax liability in respect of the Company's operations at Lloyd's
and at ACE USA and is calculated at rates equal to the statutory income tax
rate in each jurisdiction.
The income tax provision for the three and nine months ended June 30, 1999
and 1998 is as follows:
- -------------------------------------------------------------------------------
Three months ended Nine months ended
June 30 June 30
1999 1998 1999 1998
---- ---- ---- ----
(In thousands of (In thousands of
U.S. dollars) U.S. dollars)
Current tax expense (benefit) $ 2,464 $ (2,054) $ 3,208 $ 2,328
Deferred tax expense 2,034 11,832 11,784 20,648
-------- -------- ------- -------
Provision for income taxes $ 4,498 $ 9,778 $ 14,992 $ 22,976
========= ========= ========= ========
- -------------------------------------------------------------------------------
The components of the net deferred tax asset as of June 30, 1999 and
September 30, 1998 is as follows:
- -------------------------------------------------------------------------------
June 30 September 30
1999 1998
---- ----
(in thousands of U.S. dollars)
Deferred tax assets
Loss reserve discount $ 43,749 $ 50,581
Unearned premium adjustment 5,175 3,874
Uncollectible reinsurance 6,726 5,185
Other 62,630 49,646
------ ------
Total deferred tax assets 118,280 109,286
------- -------
Deferred tax liabilities
Deferred policy acquisition costs 4,905 3,741
Unrealized appreciation (depreciation)
on investments (4,108) 9,282
Other 45,834 43,696
------- -------
Total deferred tax liabilities 46,631 56,719
------- -------
Valuation allowance (31,834) (27,303)
-------- --------
Net deferred tax asset $ 39,815 $ 25,264
========= ==========
- -------------------------------------------------------------------------------
10. Reclassification
Certain items in the prior period financial statements have been
reclassified to conform to the current period presentation.
13
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
Safe Harbor Disclosure
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. Any written or oral statements made
by or on behalf of the Company may include forward-looking statements which
reflect the Company's current views with respect to future events and
financial performance. These forward-looking statements are subject to
certain uncertainties and other factors that could cause actual results to
differ materially from such statements. These uncertainties and other
factors (which are described in more detail elsewhere in documents filed by
the Company with the Securities and Exchange Commission) include, but are
not limited to, (i) uncertainties relating to government and regulatory
policies (such as subjecting the Company to insurance regulation or
taxation in additional jurisdictions or amending or revoking any laws,
regulations or treaties affecting the Company's current operations), (ii)
the occurrence of catastrophic events or other insured or reinsured events
with a frequency or severity exceeding the Company's estimates, (iii) the
legal environment, (iv) the uncertainties of the loss reserving process,
(v) loss of the services of any of the Company's executive officers, (vi)
changing rates of inflation and other economic conditions, (vii) losses due
to foreign currency exchange rate fluctuations, (viii) ability to collect
reinsurance recoverables, (ix) the competitive environment in which the
Company operates and associated pricing pressures, (x) the impact of
mergers and acquisitions, including the ability to successfully integrate
acquired businesses and achieve cost savings and the risk of undisclosed
liabilities, (xi) the impact of Year 2000 related issues, (xii)
developments in global financial markets which could affect the Company's
investment portfolio, and (xiii) risks associated with the introduction of
new products and services. The words "believe", "anticipate", "estimate",
"project", "plan", "expect", "intend", "will likely result" or "will
continue" and similar expressions identify forward-looking statements.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of their dates. The Company undertakes no
obligation to publicly update or revise any forward-looking statements,
whether as a result of new information, future events or otherwise.
General
The following is a discussion of the Company's results of operations,
financial condition, liquidity and capital resources as of and for the
three and nine months ended June 30, 1999. The results of operations and
cash flows for any interim period are not necessarily indicative of results
for the full year. This discussion should be read in conjunction with the
consolidated financial statements, related notes thereto and the
Management's Discussion and Analysis of Results of Operations and Financial
Condition included in the Company's 1998 Annual Report on Form 10-K.
On July 2, 1999, the Company changed its fiscal year-end from September 30
to December 31. This change will be implemented retroactively to December
31, 1998 so that the 1999 fiscal year end will be the twelve month
period ending December 31, 1999. This change will be reflected in the
quarter ended September 30, 1999, at which time the Company will report
results for the three months ended September 30, 1999 and 1998 and for the
nine months ended September 30, 1999 and 1998. The results reported as at
December 1999 results will be for the twelve months ended December 31,
1999.
14
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
General (continued)
ACE Limited ("ACE") is a holding company which, through its Bermuda-based
operating subsidiaries, ACE Bermuda Insurance Ltd. (formerly A.C.E.
Insurance Company, Ltd.) ("ACE Bermuda"), Corporate Officers & Directors
Assurance Ltd. ("CODA") and Tempest Reinsurance Company Limited ("Tempest
Re") and its Dublin, Ireland based subsidiaries, ACE Insurance Company
Europe Limited and ACE Reinsurance Company Europe Limited provides a broad
range of insurance and reinsurance products to a diverse group of
international clients. Following the acquisition of CAT Limited ("CAT"),
the CAT business was integrated into the Tempest Re book of business and
effective January 1, 1999 CAT was merged into Tempest Re. Through its U.S.
based subsidiary, ACE USA, Inc. ("ACE USA"), the Company provides insurance
products to a broad range of clients in the United States. In addition, the
Company provides funds at Lloyd's, primarily in the form of letters of
credit, to support underwriting capacity for Lloyd's syndicates managed by
Lloyd's managing agencies which are indirect wholly owned subsidiaries of
ACE. Underwriting capacity is the maximum amount of gross premiums that a
syndicate at Lloyd's can underwrite in a given year of account. Unless the
context otherwise indicates, the term "Company" refers to one or more of
ACE and its consolidated subsidiaries. The operations of the Company in the
Lloyd's market are collectively referred to as "ACE Global Markets".
On July 2, 1999, the Company completed the acquisition of the international
and domestic property and casualty businesses of CIGNA Corporation ("CIGNA
P&C") for $3.45 billion in cash (the "CIGNA P&C Acquisition"). Under the
terms of the agreement the Company, through a newly created U.S. holding
company, ACE INA Holdings Inc. (ACE INA), acquired CIGNA's domestic
property and casualty insurance operations including its run-off business
and also its international property and casualty insurance companies and
branches, including most of the accident and health business written
through those companies.
Also under the terms of the agreement, CIGNA Corporation ("CIGNA") agreed
to provide a guarantee to ACE to indemnify against unanticipated increases
in recorded reserves for losses and loss adjustment expenses of certain
subsidiaries being acquired by ACE. CIGNA had the option to replace its
guarantee with reinsurance obtained from a mutually agreed upon third party
reinsurer. Contemporaneous with the consummation of the acquisition, CIGNA
exercised its option and replaced its guarantee with reinsurance by
directing certain subsidiaries being acquired to transfer $1.25 billion of
investments to National Indemnity Company, a subsidiary of Berkshire
Hathaway Inc., for aggregate coverage of $2.5 billion. This coverage
attaches at an amount equal to the net recorded reserves of the certain
subsidiaries acquired, on the closing date, minus $1.25 billion.
15
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
General (continued)
ACE financed the CIGNA P&C Acquisition with a combination of available
cash, a hybrid trust preferred security and the remainder with commercial
paper issuance. Ultimately, it is anticipated the commercial paper will be
replaced with a combination of newly issued ACE ordinary shares, senior
debt and trust preferred securities (see "Management's Discussion and
Analysis - Liquidity and Capital Resources").
On June 11, 1999, ACE announced that it had entered into an Agreement and
Plan of Merger (the "Agreement") for the acquisition of Capital Re
Corporation ("Capital Re"). Under the terms of the Agreement, Capital Re's
shareholders will receive 0.6 ordinary shares of ACE for each common stock
of Capital Re at closing, subject to a maximum value to Capital Re
shareholders of $22 per share. It is anticipated that the transaction will
be completed during the second half of calendar 1999, subject to customary
closing conditions, including approval of the merger by Capital Re's
shareholders and receipt of necessary regulatory approvals.
The Company will continue to evaluate potential new product lines and other
opportunities in the insurance and reinsurance markets. In addition, the
Company regularly evaluates potential acquisitions of other companies and
businesses and holds discussions with potential acquisition candidates. As
a general rule, the Company publicly announces such acquisitions only after
a definitive agreement has been reached.
Results of Operations - Three Months ended June 30, 1999
- -------------------------------------------------------------------------------
Premiums Three months ended % Change
June 30 From
1999 1998 Prior Year
---- ---- -----------
(in millions)
Gross premiums written:
ACE Bermuda $ 171.3 $ 194.1 (11.7)%
ACE Global Markets 207.2 166.9 24.1%
Tempest Re 46.9 39.3 19.3%
ACE USA 83.6 54.0 54.8%
------- ------- -------
$ 509.0 $ 454.3 12.0%
======= ======= =======
Net premiums written:
ACE Bermuda $ 140.9 $ 154.2 (8.6)%
ACE Global Markets 161.3 101.0 59.7%
Tempest Re 44.8 38.9 15.2%
ACE USA 45.2 28.5 58.6%
------- -------- ------
$ 392.2 $ 322.6 21.6%
======= ======== =======
Net premiums earned:
ACE Bermuda $ 153.8 $ 93.1 65.2%
ACE Global Markets 81.0 73.8 9.8%
Tempest Re 39.2 55.6 (29.5)%
ACE USA 26.3 23.9 10.0%
------- ------- --------
$ 300.3 $ 246.4 21.9%
======== ======= ========
- -------------------------------------------------------------------------------
16
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Result of Operations - Three Months ended June 30, 1999
The Company continues to face competitive pressures in most of the markets
in which it operates. The diversification strategy of the Company has been
key in maintaining growth during these difficult market conditions,
although the mix of premiums written has changed as the Company
diversifies. Gross premiums written increased 12.0 percent to $509.0
million for the quarter ended June 30, 1999 compared with $454.3 million
for the quarter ended June 30, 1998. The continuing soft market affected
the results from ACE Bermuda, as did the changing mix of business. ACE
Bermuda had a decrease in gross premiums written of 11.7 percent this
quarter compared to the third quarter of fiscal 1998. This decrease of
$22.8 million is due primarily to delayed launch activity in the satellite
division and the expiry of a large financial lines contract written in June
1998. The expiry of the financial lines contract was offset somewhat by new
business in financial lines. This new business includes one contract that
accounts for $77 million of gross written and net written premiums, which
was fully earned in the quarter. ACE Bermuda continues its conservative
writing of excess liability coverage and continues to develop new products
and coverage in aviation, satellite and excess property. ACE Global Markets
had an increase in gross premiums written of $40.3 million or 24.1 percent
for the quarter ended June 30, 1999 compared with the corresponding quarter
in the prior year. The growth in ACE Global Markets gross premiums written
is a result of the Company's increased participation in the syndicates
under management. Due to excess capacity in all areas of that market,
conditions remain very competitive with the marine syndicates experiencing
rate reductions and the aviation syndicates experiencing mixed results on
its renewals. Market conditions also remain very competitive in the
property catastrophe reinsurance business. However, gross premiums written
for Tempest Re were $46.9 million for the quarter compared with $39.3
million for the quarter ended June 30, 1998, an increase of 19.3 percent.
The increase is a result of a combination of new business, restructuring of
existing contracts, reinstatement premiums on contracts incurring losses
and the early renewal of some contracts previously written in July. This
increase was partially offset by the continuing effects of merger activity
and declining rates in the property catastrophe reinsurance industry. Gross
premiums written at ACE USA increased by 54.8 percent to $83.6 million for
the quarter ended June 30, 1999 from $54.0 million reported for the same
quarter last year. The growth in premiums at ACE USA primarily came from
the new divisions created last year, particularly warranty, captive
reinsurance and aviation. Both the property and casualty divisions also
showed modest growth in the quarter.
Net premiums written increased by $69.6 million or 21.6 percent to $392.2
million compared to $322.6 million for the third quarter of fiscal 1998.
This increase, as with the increase in gross premiums written, was the
result of increases in the Company's participation in the Lloyd's
syndicates managed by ACE Global Markets as well as the contributions of
ACE USA and Tempest Re in the quarter. Net premiums written at ACE Bermuda
decreased by 8.6 percent or $13.3 million as a result of decreases in
satellite and financial lines premiums as discussed above. Net premiums
written at ACE Bermuda were positively impacted by the level of reinsurance
purchased due to a change in the mix of premiums written. Net premiums
written at ACE USA increased 58.6 percent to $45.2 million compared with
$28.5 million for the third quarter of fiscal 1998. As discussed for gross
premiums written, the new divisions at ACE USA accounted for 28 percent of
the total net premiums written for the quarter.
17
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Results of Operations - Three Months ended June 30, 1999 (continued)
Net premiums earned increased by $53.9 million or 21.9 percent to $300.3
million for the quarter ended June 30, 1999 compared to $246.4 million for the
same quarter last year. The increase is due primarily to an increase in net
premiums earned at ACE Bermuda as a result of the above noted financial lines
contract which generated a one time net premiums earned of $77 million during
the quarter. The Company's increased participation in the Lloyd's syndicates
managed by ACE Global Markets also contributed to the increase in net premiums
earned for the quarter as did the increased activity at ACE USA. Tempest Re
experienced a decline in net premiums earned as a result of a decline in gross
premiums written over the past several quarters compared to the same quarters
last year.
- -------------------------------------------------------------------------------
Net investment Income Three months ended % Change
June 30 from
1999 1998 Prior Year
---- ---- ----------
(in millions)
Net investment income $ 84.8 $ 93.0 (8.8)%
======= ======= =======
- -------------------------------------------------------------------------------
Net investment income decreased to $84.8 million in the quarter compared to
$93.0 million in the quarter ended June 30, 1998. This decrease is primarily
a result of lower yields in the current quarter compared with the
comparative quarter. The investable asset base was relatively unchanged
from the quarter ended June 30, 1998.
- -------------------------------------------------------------------------------
Net Realized Gains on Investments Three months ended
June 30
1999 1998
---- ----
(in millions)
Fixed maturities and short-term investments $ (38.5) $ 1.9
Equity securities 21.5 74.7
Financial futures and option contracts 45.8 4.4
Other investments 0.7 0.0
Currency (4.2) (11.6)
-------- --------
$ 25.3 $ 69.4
======== ========
- -------------------------------------------------------------------------------
The Company's investment strategy takes a long-term view and the portfolio
is actively managed to maximize total return within certain specific
guidelines, which minimize risk. The portfolio is reported at fair value.
The effect of market movements on the investment portfolio will directly
impact net realized gains (losses) on investments when securities are sold.
Changes in unrealized gains and losses, which result from the revaluation
of securities held, are reported as a separate component of other
comprehensive income.
18
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Results of Operations - Three Months ended June 30, 1999 (continued)
Sales proceeds for fixed maturity securities were generally lower than
their amortized cost during the quarter, which resulted in net realized losses
of $38.5 million being recognized on fixed maturities and short-term
investments.
Strong international equity markets resulted in net realized gains on sales
of equity securities of $21.5 million in the third quarter of fiscal 1999.
The sale of a portion of the non-U.S. dollar equity securities due to
portfolio rebalancing contributed significantly to the net realized gains
on sales of equity securities of $74.7 million in the third quarter of
fiscal 1998.
Certain of the Company's external managers of fixed income securities use
fixed income futures contracts to manage duration exposure, and losses of
$7.0 million were recognized on these during the quarter. However, exposure
to strong domestic equity markets through the Company's equity index
futures contracts generated net realized gains of $52.8 million during the
quarter. Net realized gains on financial futures and option contracts in
the third quarter of fiscal 1998 of $4.4 million were generated primarily
by gains recognized on futures contracts.
The company sold an investment during the quarter resulting in a gain of
$0.7 million.
- -------------------------------------------------------------------------------
Combined Ratio
Three months ended
June 30
1999 1998
---- ----
Loss and loss expense ratio 85.1% 59.3%
Underwriting and administrative expense ratio 24.2% 26.8%
Combined Ratio ------ -----
109.3% 86.1%
====== =====
- -------------------------------------------------------------------------------
The underwriting results of a property and casualty insurer are discussed
frequently by reference to its loss and loss expense ratio, underwriting
and administrative expense ratio and combined ratio. Each ratio is derived
by dividing the relevant expense amounts by net premiums earned. The
combined ratio is the sum of the loss and loss expense ratio and the
underwriting and the administrative expense ratio. A combined ratio under
100 percent indicates underwriting income and a combined ratio exceeding
100 percent indicates underwriting losses. Property catastrophe reinsurance
companies generally expect to have overall lower combined ratios as
compared with other reinsurance companies with long-tail exposures.
However, property catastrophe loss experience is generally characterized by
low frequency but high severity short-tail claims, which may result in
significant volatility in results.
19
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Results of Operations - Three Months ended June 30, 1999 (continued)
Several aspects of the Company's operations, including the low frequency
and high severity of losses in the high excess layers in certain lines of
business in which the Company provides insurance and reinsurance,
complicate the actuarial reserving techniques utilized by the Company.
Management believes, however, that the Company's reserves for unpaid losses
and loss expenses are adequate to cover the ultimate cost of losses and
loss expenses incurred through June 30, 1999. Since such provisions are
necessarily based on estimates, future developments may result in ultimate
losses and loss expenses significantly greater or less than such amounts.
The combined ratio for the current quarter increased to 109.3 percent compared
to 86.1 percent for the quarter ended June 30, 1998. The increase in the
combined ratio is due to the increase in the loss and loss expense ratio,
which increased to 85.1 percent for the current quarter compared with 59.3
percent for the quarter ended June 30, 1998. During the quarter the insurance
industry suffered two significant catastrophes, hailstorms in Australia and
tornadoes in the midwestern U.S. Tempest Re's net share of these losses was
$55 million. Excluding the effect of these two significant catastrophes, the
loss and loss expense ratio would have been 66.8 percent and the combined
ratio would have been 91.0 percent. In addition, the financial lines contract
recorded by ACE Bermuda during the current quarter was booked at a very high
loss ratio. Excluding the effects of the two large catastrophe losses and the
impact of the large financial lines contract, the loss and loss expense ratio
would have been 55.3 percent and the combined ratio would have been 87.8
percent.
The underwriting and administrative expense ratio decreased to 24.2 percent
for the current quarter compared with 26.8 percent for the same quarter last
year. The underwriting expense ratio decreased from 12.0 percent to 10.5
percent primarily due to the continuing change in the mix of premiums earned.
The administrative expense ratio did not change significantly, declining from
14.8 percent in the quarter ended June 30, 1998 to 13.7 percent in the current
quarter.
Results of Operations - Nine Months ended June 30, 1999
- -------------------------------------------------------------------------------
Premiums Nine months ended % Change
June 30 from
1999 1998 Prior Year
---- ---- ----------
(in millions)
Gross premiums written:
ACE Bermuda $ 426.7 $ 420.0 1.6%
ACE Global Markets 435.0 321.3 35.4%
Tempest Re 169.9 91.1 86.5%
ACE USA 167.0 92.7 80.2%
--------- --------- --------
$ 1,198.6 $ 925.1 29.6%
========= ========= =========
Net premiums written:
ACE Bermuda $ 326.4 $ 332.9 (2.0)%
ACE Global Markets 307.7 235.9 30.4%
Tempest Re 164.7 86.5 90.4%
ACE USA 88.2 49.1 79.6%
--------- -------- --------
$ 887.0 $ 704.4 25.9%
========= ======== ========
Net premiums earned:
ACE Bermuda $ 351.5 $ 312.3 12.6%
ACE Global Markets 254.2 207.1 22.8%
Tempest Re 125.9 105.1 19.7%
ACE USA 71.9 48.7 47.6%
--------- --------- --------
$ 803.5 $ 673.2 19.4%
========= ========= ========
- -------------------------------------------------------------------------------
20
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Results of Operations - Nine Months ended June 30, 1999 (continued)
Gross premiums written increased by $273.5 million or 29.6 percent to $1.2
billion for the nine months ended June 30, 1999 compared to gross premiums
written of $925.1 million for the nine months ended June 30, 1998. This
increase was primarily the result of increased contributions from ACE Global
Markets, Tempest Re and ACE USA. ACE Bermuda recorded an increase of 1.6
percent for the nine months ended June 30, 1999. ACE Bermuda's financial lines
and excess property divisions, as well as the newer lines of business -
political risk and joint ventures showed increased premium levels but were
offset by decreases in both the excess liability and the professional
liability lines of business as they continue to face difficult markets. ACE
Global Markets recorded an increase of $113.7 million or 35.4 percent for the
current nine month period due to the Company's increased participation in the
Lloyd's syndicates under management. ACE Global Markets continues to
experience competitive conditions in the Lloyd's market due to excess capacity
in the Lloyd's market. The combined Tempest Re and CAT operations recorded an
increase in gross premiums written of $78.8 million or 86.5 percent for the
nine months ended June 30, 1999 compared to the same period last year. The
Company acquired CAT in April 1998 and therefore results for the comparative
period include the results of CAT for three months compared to results for
nine months for the current fiscal period. The property catastrophe market
continues to be very competitive with the effects of the merger activity
continuing. However, in certain areas market conditions appear to be firmer
than in the recent past. Gross premiums written at ACE USA increased 80.2
percent to $167.0 million for the nine months ended June 30, 1999 compared
with gross premiums written of $92.7 million for the same period last year.
ACE USA was purchased by the Company in January 1998 and therefore results for
the comparative period include the results of ACE USA for six months compared
to results for nine months for the current fiscal period. The new divisions at
ACE USA, in particular the warranty division, showed increased activity, as
did the specialty and aviation divisions.
Net premiums written increased by $182.6 million to $887.0 million for the
nine month period ended June 30, 1999 compared to $704.4 million for the nine
month period ended June 30, 1998, an increase of 25.9 percent. As with gross
premiums written, the increase is due primarily to increases at ACE Global
Markets, Tempest Re and ACE USA. Net premiums written by ACE Bermuda declined
by 2.0 percent in the period compared to the same period last year, the result
primarily of continuing declines in the net premiums written in the excess
liability and the professional liability lines of business and the increased
use of reinsurance during the period. The Company's increased participation in
the Lloyd's syndicates managed by ACE Global Markets resulted in an increase
in net premiums written for that segment of $71.8 million or 30.4 percent. The
combined Tempest Re and CAT operations recorded an increase in net premiums
written of $78.2 million or 90.4 percent for the nine months ended June 30,
1999 compared to the same period last year. The diversification strategy at
ACE USA resulted in an increase in net premiums written of $39.1 million
compared with the similar period last year. As discussed for gross premiums
written, results for the comparative period include the results of CAT for
three months and ACE USA for six months compared to results for nine
months for the current fiscal period for both.
Net premiums earned increased by $130.3 million to $803.5 million compared to
$673.2 million last year, an increase of 19.4 percent. This increase is due
primarily to an increase in net premiums earned from the Company's increased
participation in the Lloyd's syndicates managed by ACE Global Markets and the
increase in net premiums earned at ACE Bermuda. The financial lines division
at ACE Bermuda contributed significantly to the increase due to the
commutation of a financial lines contract and the writing of a significant
contract during the period which both generated immediate one time earnings.
In the second quarter of fiscal 1999, net premiums of $25 million were earned
under the terms of the commutation and during the current quarter net premiums
of $77 million were earned on the new financial lines contract. Both Tempest
21
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Results of Operations - Nine Months ended June 30, 1999 (continued)
Re and ACE USA experienced increases in net premiums earned during the period
as well, as discussed for both gross and net premiums written.
- -------------------------------------------------------------------------------
Net Investment Income Nine months ended % Change
June 30 from
1999 1998 Prior Year
---- ---- ----------
(in millions)
Net investment income $ 256.4 $ 235.0 9.1%
========= ========= =====
- -------------------------------------------------------------------------------
Net investment income increased by $21.4 million in the current period, as
compared with the similar period of fiscal 1998. The yield remained relatively
unchanged during the nine months ended June 30, 1999 compared with the nine
months ended June 30, 1998. Results for the comparative period include the
results of CAT for three months and ACE USA for six months compared to results
for nine months for the current fiscal period for both.
- -------------------------------------------------------------------------------
Net Realized Gains on Investments Nine months ended
June 30
1999 1998
---- ----
(in millions)
Fixed maturities and short-term investments $ (17.1) $ 35.5
Equity securities 30.9 169.5
Financial futures and option contracts 170.8 63.6
Other (6.6) -
Currency (5.3) (26.0)
------ ------
$ 172.7 $ 242.6
===== =====
- -------------------------------------------------------------------------------
The Company's investment strategy takes a long-term view and the portfolio
is actively managed to maximize total return within certain specific
guidelines, which minimize risk. The portfolio is reported at fair value.
The effect of market movements on the investment portfolio will directly
impact net realized gains (losses) on investments when securities are sold.
Changes in unrealized gains and losses, which result from the revaluation
of securities held, are reported as a separate component of shareholders'
equity.
The Company uses foreign currency forward and option contracts to minimize
the effect of fluctuating foreign currencies on the value of non-U.S.
dollar holdings. The contracts used are not designated as specific hedges
and therefore, realized and unrealized gains and losses recognized on these
contracts are recorded as a component of net realized gains (losses) in the
period in which the fluctuations occur, together with net foreign currency
gains (losses) recognized when non-U.S. dollar securities are sold.
Sales proceeds for fixed maturity securities were generally lower than
their amortized cost during the period, primarily during the third quarter.
This resulted in net realized losses of $17.1 million being recognized on
fixed maturities and short-term investments during the nine months ended
June 30, 1999 compared to net realized gains of $35.5 million for the same
period last year.
22
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Results of operations - Nine Months ended June 30, 1999 (continued)
Positive returns in the equity markets contributed to net realized gains on
the sale of equity securities of $30.9 million in the first nine months of
fiscal 1999, compared with gains of $169.5 million for the same period last
year. The liquidation of two domestic stock portfolios and the sale of a
portion of the non-U.S. dollar equity securities contributed significantly
to the net realized gains on sales of equity securities in the first nine
months of fiscal 1998.
Certain of the Company's external managers of fixed income securities use
fixed income futures contracts to manage duration exposure, and losses of
$20.2 million were recognized on these during the nine months ended June
30, 1999. Net realized gains generated by the Company's equity index
futures contracts amounted to $191.0 million during the period. Total
realized gains attributable to the financial futures and contracts amounted
to $170.8 million, compared to $63.6 million in the nine-month period ended
June 30, 1998.
The Company sold private investments during the period, which resulted in
net realized losses of $6.6 million.
- -------------------------------------------------------------------------------
Combined Ratio
Nine months ended
June 30
1999 1998
----- -----
Loss and loss expense ratio 65.2% 59.2%
Underwriting and administrative expense ratio 28.7% 24.0%
Combined Ratio ----- -----
93.9% 83.2%
===== =====
- -------------------------------------------------------------------------------
The underwriting results of a property and casualty insurer are discussed
frequently by reference to its loss and loss expense ratio, underwriting
and administrative expense ratio and combined ratio. Each ratio is derived
by dividing the relevant expense amounts by net premiums earned. The
combined ratio is the sum of the loss and loss expense ratio and the
underwriting and the administrative expense ratio. A combined ratio under
100 percent indicates underwriting income and a combined ratio exceeding
100 percent indicates underwriting losses. Property catastrophe reinsurance
companies generally expect to have overall lower combined ratios as
compared with other reinsurance companies with long-tail exposures.
However, property catastrophe loss experience is generally characterized by
low frequency but high severity short-tail claims, which may result in
significant volatility in results.
Several aspects of the Company's operations, including the low frequency
and high severity of losses in the high excess layers in certain lines of
business in which the Company provides insurance and reinsurance,
complicate the actuarial reserving techniques utilized by the Company.
Management believes, however, that the Company's reserves for unpaid losses
and loss expenses are adequate to cover the ultimate cost of losses and
loss expenses incurred through June 30, 1999. Since such provisions are
necessarily based on estimates, future developments may result in ultimate
losses and loss expenses significantly greater or less than such amounts.
23
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Results of operations - Nine Months ended June 30, 1999 (continued)
The combined ratio for the nine months ended June 30, 1999 increased to
93.9 percent compared to 83.2 percent for the nine months ended June 30,
1998. Both the loss and loss expense ratio and the underwriting and
administrative expense ratio increased during the current period compared
to the same period last year. The loss and loss expense ratio increased to
65.2 percent for the nine months ended June 30, 1999, compared to 59.2
percent for the nine months ended June 30, 1998. The increase is due
primarily to the increased loss activity experienced by Tempest Re during
the current quarter. The insurance industry suffered two significant
catastrophes, hailstorms in Australia and tornadoes in the midwestern U.S.,
during the period which adversely affected the loss and loss expense ratio
of Tempest Re. ACE Bermuda also experienced an increase in its loss and
loss expense ratio during the period. As previously noted, ACE Bermuda
wrote a financial lines contract during the current quarter which was
recorded at a very high loss ratio. Excluding the effects of the two large
catastrophe losses and the impact of the large financial lines contract,
the loss and loss expense ratio would have been 53.9 percent and the
combined ratio would have been 85.7 percent.
The underwriting and administrative expense ratio increased during the
period to 28.7 percent from 24.0 percent recorded in the nine months ended
June 30, 1998. The underwriting expense ratio remained relatively flat as
the mix of earned premiums continued to change. The administrative expense
ratio increased to 17.0 percent for the nine months ended June 30, 1999
from 11.9 percent recorded in the nine months ended June 30, 1998. This
increase is partly due to the costs associated with the continued growth
and diversification of the ACE Group. The Company has taken steps during
fiscal 1999 to establish the ACE brand on a global basis through an
integrated communications program. In addition, both ACE Global Markets and
ACE USA generate higher underwriting and administrative expense ratios than
the Company's Bermuda-based operations.
LIQUIDITY AND CAPITAL RESOURCES
As a holding company, ACE's assets consist primarily of the stock of its
subsidiaries as well as other investments. In addition to investment
income, its cash flows currently depend primarily on dividends or other
statutorily permissible payments from its Bermuda-based operating
subsidiaries (the "Bermuda subsidiaries"). There are currently no legal
restrictions on the payment of dividends from retained earnings by the
Bermuda subsidiaries as the minimum statutory capital and surplus
requirements are satisfied by the share capital and additional paid-in
capital of each of the Bermuda subsidiaries. However, the payment of
dividends or other statutorily permissible distributions by the Bermuda
subsidiaries is subject to the need to maintain shareholder's equity at a
level adequate to support the level of insurance and reinsurance
operations. During the nine months ended June 30, 1999, ACE Bermuda and
Tempest Re declared dividends of $950 million and $300 million,
respectively. The majority of these funds were used to complete the CIGNA
P&C Acquisition.
The payment of any dividends from the Company's UK subsidiaries would be
subject to applicable United Kingdom insurance law including those
promulgated by the Society of Lloyd's. Under various U.S. insurance laws to
which ACE US's insurance subsidiaries are subject, ACE US's insurance
subsidiaries may pay a dividend only from earned surplus subject to the
maintenance of a minimum capital requirement, without prior regulatory
approval. No dividends were received from ACE US or ACE Global Markets
during fiscal 1998 or during the first nine months of fiscal 1999 and the
Company does not anticipate receiving dividends from ACE US or ACE Global
Markets during the remainder of fiscal 1999.
24
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
LIQUIDITY AND CAPITAL RESOURCES (continued)
The Company's consolidated sources of funds consist primarily of net
premiums written, investment income, and proceeds from sales and maturities
of investments. Funds are used primarily to pay claims, operating expenses
and dividends and for the purchase of investments.
The Company's insurance and reinsurance operations provide liquidity in
that premiums are normally received substantially in advance of the time
claims are paid. For the nine months ended June 30, 1999, the Company's
consolidated net cash flow from operating activities was $(0.3) million,
compared with $288.6 million for the nine months ended June 30, 1998. Cash
flows are affected by claim payments, which due to the nature of the
Company's operations, may comprise large loss payments on a limited number
of claims and therefore can fluctuate significantly from year to year. The
irregular timing of these loss payments, for which the source of cash can
be from operations, available net credit facilities or routine sales of
investments, can create significant variations in cash flows from
operations between periods. For the nine month periods ended June 30, 1999
and 1998, net loss and loss expense payments amounted to $758.4 million (of
which $240 million related to breast implant payments - see below) and
$365.6 million respectively. Net loss and loss expense payments amounted to
$583.8 million, $421.9 million and $115.0 million in fiscal 1998, 1997 and
1996, respectively, of which approximately $250 million and $120 million in
fiscal 1998 and 1997, respectively, related to breast implant payments.
A number of the Company's insureds have given notice of claims relating to
breast implants or related components or raw material thereof that had been
produced and/or sold by such insureds. The Company has made payments to
date of approximately $610 million with respect to breast implant claims,
which include payments of $240 million made during the nine months ended
June 30, 1999. These payments are made pursuant to agreements reached with
most of the Company's significant breast implant insureds. Those agreements
have the effect of limiting the Company's exposure to breast implant claims
related to those insureds to amounts which were anticipated in the
Company's loss reserves. Although uncertainties concerning the ultimate
amount of the Company's financial exposure to breast implant claims
continue to exist, the Company believes that the possibility of a material
financial impact in the future as a result of breast implant claims is
unlikely.
The Company maintains loss reserves for the estimated unpaid ultimate
liability for losses and loss expenses under the terms of its policies and
agreements. The reserve for unpaid losses and loss expenses of $3.8 billion
at June 30, 1999 includes $1.7 billion of case and loss expense reserves.
While the Company believes that its reserve for unpaid losses and loss
expenses at June 30, 1999 is adequate, future developments may result in
ultimate losses and loss expenses significantly greater or less than the
reserve provided.
At June 30, 1999, total investments and cash amounted to approximately $6.6
billion, compared to $6.2 billion at September 30, 1998. The Company's
investment portfolio is structured to provide a high level of liquidity to
meet insurance related or other obligations. The consolidated investment
portfolio is externally managed by independent professional investment
managers and is invested in high quality investment grade marketable fixed
income and equity securities, the majority of which trade in active, liquid
markets. The Company believes that its cash balances, cash flow from
operations, routine sales of investments and the liquidity provided by its
credit facilities (discussed below) are adequate to allow the Company to
pay claims within the time periods required under its policies.
25
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
LIQUIDITY AND CAPITAL RESOURCES (continued)
In December 1997, the Company arranged certain syndicated credit facilities.
J.P. Morgan Securities, Inc. and Mellon Bank N.A. acted as co-arrangers in the
arranging, structuring and syndication of these facilities. During fiscal 1999
each of the facilities under this arrangement have been replaced as discussed
below. The facilities provided:
o A $200 million 364 day revolving credit facility and a $200 million five
year revolving credit facility which together made up a combined $400
million committed, unsecured syndicated revolving credit facility. The
five-year revolving credit facility had a $150 million letter of
credit ("LOC") sub-limit. A new multi-year liquidity facility has
been arranged as an additional part of the new syndicated credit
facilities discussed below.
o A syndicated fully secured five year LOC facility totaling approximately
(pound)154 million ($262 million) which was used to fulfill the
requirements of Lloyd's to support underwriting capacity on Lloyd's
syndicates in which the Company participates. As discussed below, this
facility was replaced on November 27, 1998.
o A syndicated $250 million seven year amortizing term loan facility,
which was used on January 2, 1998 to partially finance the acquisition
of ACE USA. The interest rate on the term loan was LIBOR plus an
applicable spread. As discussed below, this term loan was refinanced
on October 27, 1998.
On October 27, 1998, ACE US Holdings, Inc. ("ACE US") refinanced the
outstanding $250 million term loan with the proceeds from the issuance of
$250 million in aggregate principal amount of unsecured senior notes
maturing in October 2008. Interest payments, based on the initial fixed
rate coupon on these notes of 8.63 percent, are due semi-annually in
arrears. Total interest expense to be recorded by ACE US will initially be
$23.3 million per year. The indenture related to these notes includes
certain events of default for ACE US. The senior notes are callable subject
to certain call premiums, however, ACE US has no current intention of
calling the debt. Simultaneously, the Company entered into a notional $250
million swap transaction that has the economic effect of reducing the cost
of debt to the consolidated group, excluding fees and expenses, to 6.47
percent for 10 years. Certain assets totaling approximately $90 million are
pledged as collateral in connection with the swap transaction. In the event
that the Company terminates the swap prematurely, the Company would be
liable for certain transaction costs. However, the Company has no current
intention of terminating the swap. The swap counter-party is a major
financial institution with a long-term S&P Senior Debt Rating of AA- and
the Company does not anticipate non-performance.
On November 27, 1998, the Company arranged a syndicated partially secured
five year LOC facility in the amount of (pound)270 million (approximately
$450 million) to fulfill the requirements of Lloyd's for the 1999 year of
account. This facility was arranged by Citibank N.A., with ING Barings and
Barclays Bank PLC acting as co-arrangers, and replaced the facility
arranged in December 1997. This LOC facility requires that the Company
and/or certain of its subsidiaries continue to maintain certain covenants,
including a minimum consolidated tangible net worth covenant and a maximum
leverage covenant. On June 30, 1999, certain terms of this LOC facility
were renegotiated and the facility is now unsecured.
26
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
LIQUIDITY AND CAPITAL RESOURCES (continued)
As previously noted, on July 2, 1999, the Company completed the CIGNA P&C
Acquisition for $3.45 billion in cash. The Company financed the transaction
as follows:
(a) $1.025 billion of available cash;
(b) $400 million from a hybrid trust preferred security. The interest rate
on this security is LIBOR plus 125 basis points. ACE simultaneously
entered into an agreement relating to the future issuance of $400
million of ACE ordinary shares in a public offering at anytime in the
next three years;
(c) and the remainder with commercial paper issuance with a current annualized
cost of 5.3 percent. The commercial paper offerings are backed by line
of credit facilities, which were arranged in connection with the CIGNA
P&C Acquisition.
Ultimately, it is anticipated the commercial paper noted in (c) above will
be replaced with a combination of newly issued ACE ordinary shares, senior
debt and trust preferred securities at the time when ACE considers market
conditions to be most favorable for issuance. The Company and certain of
its subsidiaries and related trusts have an effective shelf registration
statement covering up to $4 billion of equity and debt securities that may
be issued from time to time.
In June 1999, the Company arranged certain syndicated credit facilities.
Merrill Lynch, Pierce, Fenner & Smith Incorporated and J.P. Morgan Securities
Inc. acted as lead arranger and co-arranger respectively and assisted in the
arranging, structuring and syndication of these credit facilities. Each
facility requires that the Company and/or certain of its subsidiaries maintain
specific covenants, including a consolidated tangible net worth covenant and a
maximum leverage covenant. The facilities provide:
o A $750 million 364-day revolving credit facility with ACE Limited, ACE
Bermuda Insurance Ltd, Tempest Reinsurance Company Limited and ACE
INA Holdings Inc. as borrowers and guarantors. The initial
purpose of this facility is to provide interim financing for the CIGNA
P&C Acquisition. However, after certain conditions are met, up to $500
million of this facility will remain in place for general corporate
purposes.
o A $250 million five-year revolving credit facility with ACE Limited,
ACE Bermuda Insurance Ltd, Tempest Reinsurance Company Limited and
ACE INA Holdings Inc. as borrowers and guarantors. This
facility is for general corporate purposes and has a letter of credit
sub-limit of $250 million.
o A $2.05 billion 364-day revolving credit facility with a one-year term
out option with ACE INA Holdings Inc. as borrower and ACE Limited,
ACE Bermuda Insurance Ltd and Tempest Reinsurance Company Limited as
guarantors. This facility was arranged to provide interim financing for
the CIGNA P&C Acquisition.
27
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
LIQUIDITY AND CAPITAL RESOURCES (continued)
In June 1999, the Company arranged certain commercial paper programs for
ACE Limited and ACE INA Holdings Inc. The programs use the above 364-day
facilities as recourse facilities and provide for up to $750 million in
commercial paper issuance for ACE Limited and up to $2.05 billion in
commercial paper issuance for ACE INA Holdings Inc. On July 2, 1999, $425
million and $1.65 billion were drawn down under these programs by ACE
Limited and ACE INA Holdings Inc. respectively to partially finance the
CIGNA P&C Acquisition.
In June 1999, ACE INA Holdings Inc. arranged a short-term money market
facility in the amount of $225 million for general corporate purposes. This
facility is guaranteed by the Company and/or certain of its subsidiaries
and requires that the Company and/or certain of its subsidiaries maintain
specific covenants, including a consolidated tangible net worth covenant
and a maximum leverage covenant. In July 1999, a portion of the facility
was used to finance certain liabilities of ACE INA Holdings Inc. subsidiaries.
Tempest Re also maintains an uncollateralized, syndicated revolving credit
facility in the amount of $72.5 million. At June 30, 1999, no amounts have
been drawn down under this facility. The facility requires that Tempest Re
comply with specific covenants. ACE Limited added its guarantee to this
facility in June 1999.
As discussed above, ACE has agreed to acquire Capital Re in a merger
pursuant to which ACE will issue 0.6 ordinary shares of ACE for each share
of common stock of Capital Re at closing, subject to a maximum value to
Capital Re shareholders of $22 per share. It is anticipated that the
transaction will be completed during the second half of calendar 1999,
subject to customary closing conditions, including approval of the merger
by Capital Re's shareholders and receipt of necessary regulatory approvals.
The use of $1.025 billion of available cash from the Bermuda companies'
investment portfolios will result in reduced investment income from the
Bermuda operations. It is anticipated that the commercial paper issued by
the Company, which may be rolled over from time to time, could ultimately be
repaid with proceeds from the issuance of the ACE ordinary shares, or from
internal funds or from proceeds of the senior debt and trust preferred
securities when issued. The interest on both the senior debt and the trust
preferred securities, which were issued by ACE INA will be tax deductible.
The majority of markets in which the Company currently operates are
experiencing softness in pricing and expanding coverage terms. This results
in reduced premium volumes and to some extent increases in the combined
ratios. The Company continues to maintain its underwriting discipline in
these markets and focus on profitable underwriting. This underwriting
discipline together with the Company's increased use of reinsurance may
result in lower underwriting and operating income for the Company's current
books of business if the current insurance market environment remains
unchanged. The company anticipates that the impact of this situation, if
unchanged, will be lower operating income than the level otherwise expected
from our current books of business for the remainder of fiscal 1999 and
fiscal 2000.
On October 16, 1998, January 15, 1999, and April 16, 1999, the Company paid
quarterly dividends of 9 cents per share to shareholders of record on
September 30, 1998, December 15, 1998 and March 31, 1999. On July 16, 1999,
the Company paid a quarterly dividend of 11 cents per share to shareholders
of record on June 30, 1999. On August 6, 1999, the Board of Directors
28
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
LIQUIDITY AND CAPITAL RESOURCES (continued)
declared a quarterly dividend of 11 cents per share payable on October 15,
1999 to shareholders of record on September 30, 1999. The declaration and
payment of future dividends is at the discretion of the Board of Directors
and will be dependent upon the profits and financial requirements of the
Company and other factors, including legal restrictions on the payment of
dividends and such other factors as the Board of Directors deems relevant.
Fully diluted net asset value per share was $20.24 at June 30, 1999,
compared with $19.14 at September 30, 1998.
The Company's financial condition, results of operations and cash flows are
influenced by both internal and external forces. Claims settlements,
premium levels and investment returns may be impacted by changing rates of
inflation and other economic conditions. In many cases, significant periods
of time, ranging up to several years or more, may elapse between the
occurrence of an insured loss, the reporting of the loss to the Company and
the settlement of the Company's liability for that loss. The liquidity of
its investment portfolio, cash flows and the credit facilities are, in
management's opinion, adequate to meet the Company's expected cash
requirements.
IMPACT OF THE YEAR 2000 ISSUE
General
The management of ACE Limited, recognizing that the Year 2000 problem, if
left untreated, could have a material adverse effect on the Company's
business, results of operations or financial condition, has in progress a
project to address this issue. It is the expectation of ACE's management
that this project will reduce the impact of the Year 2000 problem to an
immaterial level, although not all risks can be eliminated.
The Year 2000 problem stems from the inability, in some cases, of computer
programs and embedded microchips to correctly process certain data. The
problem is most evident because dates that fall in the year 2000 and in
later years may not be properly distinguished from those which fell in the
corresponding years of the present century.
Although all ACE Group companies had individually taken steps earlier
towards alleviating the Year 2000 problem, a formal group-wide project was
established in March 1998. At that time, a "Group Year 2000 coordinator"
was appointed for the ACE Group and an executive steering committee was
formed to oversee the project. This committee meets on a monthly basis to
review progress and take corrective action if necessary. In each of the ACE
subsidiary companies, a senior member of the management has been appointed
as Year 2000 coordinator. Each Year 2000 coordinator has responsibility for
that part of the Year 2000 plan relevant to its company. A detailed
quarterly report on the status of the Year 2000 project is delivered to the
audit committee of the Board of Directors.
A consultant who is an experienced project manager has been retained to
assist the Year 2000 coordinator. In addition, certain subsidiaries have
engaged external consultants to assist in monitoring their plans.
29
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
General (continued)
The Company's Year 2000 project is divided into four sections:
Underwriting; Information Technology; Trading Partners; and Physical Plant.
The project is generally on schedule, though some components have been
finished earlier than expected and some are taking more time than
originally estimated. The company expects that the project will be
substantially complete by September 30, 1999. Certain activities, notably
the monitoring of trading partners and the continuation of prudent
underwriting, will continue until December 31, 1999 and beyond.
Underwriting
Underwriting teams within each ACE Group subsidiary have considered the
risks with respect to the Year 2000 problem that might be associated with
underwriting their various lines of business and have developed internal
guidelines which seek to minimize these risks. Compliance with these
guidelines is the subject of internal audits and/or peer reviews. These
guidelines are under regular review. In some cases, exclusionary language
has been added to policies and in all cases there is a requirement for
underwriters to consider information about our clients and potential
clients that is relevant to the Year 2000 problem and, based on this, to
underwrite risks prudently or to decline them.
Information Technology
Each ACE subsidiary has a plan intended to ensure that all information
technology components such as hardware, software and network equipment that
will be in use in the Year 2000 (and beyond) for use by any
business-critical function will not suffer from the Year 2000 problem.
Inventories have been prepared of all such components, and appropriate
action decided.
Most application software (such as insurance processing and accounting
systems) which is in use within the ACE Group has been supplied as packages
(often tailored to meet ACE's needs) from various vendors. Almost all
application software packages have already been replaced with Year 2000
compliant versions. Testing of these is complete in almost all cases and is
either in progress or scheduled for a very small residual number. At the
end of 1998, all ACE Group companies were running Year 2000 compliant
versions of most of the IT systems that are critical to the business. The
replacement or remedy of the remaining critical systems and some residual
testing continued during the first and second quarters of calendar year
1999 and is now substantially complete. One subsidiary (ACE USA) has one
critical business area for which a Year 2000 compliant replacement system
was originally scheduled to go live in August 1999. However, as a result of
the CIGNA P&C Acquisition by ACE INA, this project has been altered such
that the legacy system will be made Year 2000 compliant and reinstalled by
October 1999. The remedied system will then be replaced sometime next year
by a new system which is currently under development at ACE INA. A
contingency plan exists for this business area should the remedied system
be delayed or ineffective.
Testing of hardware and network components is virtually complete, although
a few minor items remain outstanding. Testing of other software, such as
operating systems and PC desktop applications is almost complete, though in
a few cases the Company is relying on assurances from established software
manufacturers that their systems will operate correctly.
Trading Partners and Physical Plant
The trading partners' section of the project focuses on Year 2000 issues
relating to the Company's trading partners. Examples of the Company's
trading partners are: insurance brokers, banks, reinsurance companies,
vendors and service providers in information technology and general
suppliers.
30
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION (Continued)
Trading Partners and Physical Plant (continued)
The physical plant section of the project focuses on items such as
elevators, fire suppression systems, security systems, building management
systems (which may control air-conditioning, heating and lighting systems)
which may be controlled by software programs or embedded chips, and may
thus fail or act unpredictably in, or after the year 2000. Furthermore,
supply of electrical power and telecommunications services are considered
here.
All material trading partners and those vendors and service providers
connected with physical plant have been inventoried and questionnaires sent
to them soliciting information about their Year 2000 readiness. Responses
have now been provided in almost all cases, ACE has assessed those
responses that have been forthcoming. Most of these responses appear to
give evidence of satisfactory progress and a few do not. In those cases
where additional follow-up fails to provide satisfactory responses,
contingency plans are now being drawn up to minimize the effect of
potential failure of a trading partner.
The CIGNA P&C Acquisition
The Year 2000 projects of ACE INA and its subsidiaries have been reviewed
and found to be substantially complete, although some work remains to be
done, notably in the area of testing computer interfaces with external
parties. Initial review was undertaken as part of ACE's due diligence
process prior to signing an agreement with CIGNA, and further reviews have
been conducted since then. ACE INA and ACE USA's Year 2000 projects are now
in the process of being merged - notably the contingency planning efforts
which are the main outstanding components.
Costs
The total cost of the Year 2000 project is not expected to be material to
the Company's financial position. The total estimated cost is approximately
$4 million. Total expenditure to date on the whole project is approximately
$1.5 million. These costs do not include expenditure relating to Year 2000
projects within those parts of ACE INA.
Risks
It is not feasible to assign probabilities to many of the events associated
with the Year 2000. The arrival of January 1, 2000 presents novel problems
about which there is no body of evidence upon which to base statistical
predictions. Furthermore, world infrastructure in areas such as
telecommunications, banking, law enforcement, energy production and
distribution, manufacturing, transportation and government and military
systems are inextricably linked in such a manner that a small failure in
one area could produce large and unexpected effects in others. Each
business has a dependence upon its customers and suppliers and through them
(or directly) upon many or all of the infrastructural areas noted above.
ACE management believes that the risks associated with its own information
technology project component are small. For reasons noted above, it is
impossible to quantify all risks associated with trading partners and
physical plant. The Company's management believes that the greatest risk
for the Company lies in the possibility of unpredictable events affecting
insureds producing a number of claims (valid or otherwise) which, if valid
and covered by ACE's insurance policies, are expensive to pay, or if not
valid, expensive in defense litigation costs.
The Company is in the process of preparing contingency plans to address
various identified risks associated with the Year 2000. These plans were
substantially complete by July 31, 1999, but will continue to be updated
and refined throughout the remainder of 1999.
31
<PAGE>
ACE LIMITED
PART II - OTHER INFORMATION
---------------------------
ITEM 5. OTHER INFORMATION
- --------------------------
1) On May 7, 1999, the Company declared a dividend of one preference
share purchase Right for each outstanding Ordinary Share to shareholders
of record on June 1, 1999.
2) On August 6, 1999, the Company declared a dividend of $0.11 per
Ordinary Share payable on October 15, 1999 to shareholders of record
on September 30, 1999.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- -----------------------------------------
1) Exhibits
10.1* Second Amendment of the ACE Limited 1995 Outside Directors Plan
10.2* Third Amendment of the ACE Limited 1995 Outside Directors Plan
27 Financial Data Schedule
*Management Contract or Compensation Plan
2) Reports on Form 8-K
The Company filed a Form 8-K current report (date of earliest event
reported: May 7, 1999) pertaining to its adoption of the ACE Limited
Shareholder Rights Plan.
The Company filed a Form 8-K current report (date of earliest event
reported: May 19, 1999) pertaining to its agreement to acquire the
U.S. domestic and international property and casualty insurance
businesses of CIGNA Corporation.
The Company filed a Form 8-K current report (date of earliest event
reported: July 2, 1999) pertaining to the completion of the
acquisition of the U.S. domestic and international property and
casualty insurance businesses of CIGNA Corporation, the issuance
of trust preferred securities and the change in fiscal year-end.
32
<PAGE>
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ACE LIMITED
--------------------------------
/s/ Brian Duperreault
August 13, 1999 --------------------------------
Brian Duperreault
Chairman, President and Chief
Executive Officer
/s/ Robert Blee
--------------------------------
August 13, 1999 Robert Blee
Chief Accounting Officer
33
<PAGE>
EXHIBIT INDEX
-------------
Exhibit
Number Description Numbered Page
- ------ ----------- -------------
10.1* Second Amendment of the ACE Limited 1995 Outside Directors Plan
10.2* Third Amendment of the ACE Limited 1995 Outside Directors Plan
27 Financial Data Schedule
*Management Contract or Compensation Plan
SECOND AMENDMENT
OF
ACE LIMITED 1995 OUTSIDE DIRECTORS PLAN
---------------------------------------
RESOLVED, that, by virtue and in exercise of the amending power
reserved to ACE Limited ("ACE") under the ACE Limited 1995 Outside
Directors Plan (the "Plan"), the Plan be and is hereby amended in the
following particulars, effective as of the first day of the Plan Year
beginning in 1999:
1. By adding the following to the end of paragraph (a) of
subsection 2.1 as a part thereof:
"Notwithstanding the foregoing, for the Plan Year
beginning in 1999 (the '1999 Plan Year'), the Retainer
Award for such Plan Year shall include an additional
award (the '1999 Additional Award'), in the form of
shares having a Fair Market Value of $8,750 (and for the
1999 Plan Year, reference in the Plan to the 'Retainer
Award' shall include reference to such 1999 Additional
Award). Except as otherwise provided in this subsection
2.1, the 1999 Additional Award shall be made as of the
first business day following the adoption of the Second
Amendment of the Plan (the '1999 Additional Award Date'),
and the Fair Market Value of the Stock so awarded shall
be determined as of that date."
2. By replacing paragraph (b) of subsection 2.1 with the
following new paragraph (b):
"(b) If a Director becomes an Eligible Director during
a Plan Year, on a date other than the first day of
the Plan Year, he shall be granted a Retainer
Award for the year, which shall be in the form of
shares of Stock having a Fair Market Value equal
to $35,000, subject to a pro-rata reduction to
reflect the portion of the Plan Year prior to the
date on which he becomes an Eligible Director;
provided, however, that with respect to the 1999
Plan Year, such Retainer Award subject to pro rata
reduction shall include the 1999 Additional Award.
A Director's Retainer Award under this paragraph
(b) shall be made on the first business day on
which he is an Eligible Director (the 'Award Date'
for that Retainer Award), and the Fair Market
Value of the Stock so awarded shall be determined
as of that date; provided, however, that if a
Director becomes eligible for a Retainer Award
under this Paragraph (b) on a date before the 1999
-1-
<PAGE>
Additional Award Date, then that portion of the
1999 Additional Award to which he becomes
entitled shall be made as of the 1999 Additional
Award Date, and the Fair Market Value of the
Stock so awarded shall be determined as of that
date."
3. By adding the following to the end of paragraph (m) of
Section 7 as a part thereof:
"Notwithstanding the foregoing, with respect to only the
1999 Plan Year, there shall be an additional Plan Year
Quarter, so that the fourth Plan Year Quarter shall begin
on the 271st day of the Plan Year, and shall end on the
360th day of the Plan Year; and the fifth Plan Year
Quarter shall begin on the 361st day of the Plan Year,
and shall end on the last day of the Plan Year."
FURTHER RESOLVED, that the executive officers of ACE Limited be,
and they hereby are, authorized and directed to take all such actions as
they deem necessary or desirable to implement the foregoing resolution.
FURTHER RESOLVED, that whenever it is provided in the foregoing
resolutions that an executive officer may take any action as such officer
may deem necessary or desirable, the taking of such action by any such
executive officer shall be conclusive evidence that such officer deems such
action to be necessary or desirable.
-2-
THIRD AMENDMENT
OF
ACE LIMITED 1995 OUTSIDE DIRECTORS PLAN
---------------------------------------
RESOLVED, that, by virtue and in exercise of the amending power
reserved to ACE Limited ("ACE") under the ACE Limited 1995 Outside
Directors Plan (the "Plan"), the Plan be and is hereby amended in the
following particulars, effective as August 6, 1999:
1. By adding the following new Section 3A to the Plan as a
part thereof:
"SECTION 3A
------------
MEETING AWARDS
--------------
(a) Each Eligible Director who is otherwise eligible
to receive cash compensation for attendance at a
meeting of the Board or for attendance at a
meeting of any committee of the Board, may in lieu
of such cash compensation, elect to receive to
such compensation in Stock, and such compensation
payable in Stock shall be considered the grant of
a 'Meeting Award.' An election to receive a
Meeting Award in lieu of cash compensation must be
made in accordance with the requirements of
paragraph (c) of this Section 3A. A Meeting Award
shall be granted as of the first business day
coincident with or next following the date of the
Board or committee meeting to which it relates,
which shall be the 'Award Date' for such award.
(b) The amount of the Meeting Award for attendance at
a Board meeting shall be the number of shares of
Stock having a Fair Market Value (determined as of
the Award Date) of $3,000 per meeting. The amount
of the Meeting Award for attendance at a committee
meeting shall be the number of shares of Stock
having a Fair Market Value (determined as of the
Award Date) of $1,000 per meeting.
(c) Except as otherwise provided in this paragraph
(c), an election to receive a Meeting Award in
lieu of cash compensation for attendance at Board
and committee meetings shall be filed prior to the
first day of the Plan Year in which such meetings
occur. An individual who becomes an Eligible
Director on a date other than the first day of the
Plan Year may elect to receive a Meeting Award in
lieu of cash compensation for the remainder of the
-1-
<PAGE>
year by filing a Meeting Award election prior to
the date on which he becomes an Eligible
Director. With respect to meetings occurring in
the 1999 Plan Year but after August 6, 1999, an
Eligible Director may elect to receive a Meeting
Award in lieu of cash compensation by filing an
election no later than September 6, 1999;
provided, however, that such election shall be
effective only with respect to compensation for
meetings occurring after the date such election
is filed. An election to receive a Meeting Award
rather than cash compensation shall apply to all
Board and committee meetings in the Plan Year
for which the election is made.
(d) The shares granted as a Meeting Award under this
Section 3A shall be fully vested at the time of
award.
(e) A Participant may elect to defer receipt of his
Meeting Awards in accordance with Supplement A
of the Plan.
(f) If a Participant has made no election under this
Section 3A with respect to the form of payment
of compensation for his attendance at Board or
committee meetings, then such compensation shall
be paid in cash."
2. By replacing paragraph (a) of Section 7 with the
following new paragraph (a):
"Award. The term 'Award' shall mean the Retainer
Award, the Committee Chairman Award, and the Meeting
Award granted to any person under the Plan."
3. By replacing paragraph (a) of subsection A-1.2 of Supplement A of
the Plan with the following new paragraph (a):
"(a) An election to defer the receipt of Stock
awarded as the Retainer Award for any Plan Year,
to defer receipt of Stock awarded as the Meeting
Award for any Plan Year, or to defer the receipt
of Stock awarded as a Committee Chairman Award
for any quarter of a Plan Year, shall be filed
prior to the first day of that year."
-2-
<PAGE>
4. By adding the following new paragraph (d) to the end of subsection
A-1.2 of Supplement A of the Plan as a part thereof:
"(d) An individual who becomes an Eligible Director
on a date other than the first day of a Plan
Year may elect to defer all or a portion of the
Meeting Award for the remainder of the year by
filing a deferral election prior to the date on
which he becomes an Eligible Director."
FURTHER RESOLVED, that the executive officers of ACE Limited be,
and they hereby are, authorized and directed to take all such actions as
they deem necessary or desirable to implement the foregoing resolution.
FURTHER RESOLVED, that whenever it is provided in the foregoing
resolutions that an executive officer may take any action as such officer
may deem necessary or desirable, the taking of such action by any such
executive officer shall be conclusive evidence that such officer deems such
action to be necessary or desirable.
-3-
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