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Arch Capital Group Ltd. Reports 2020 Third Quarter Results

·23-min read

Arch Capital Group Ltd. (NASDAQ: ACGL) announces its 2020 third quarter results. The results included:

  • Net income available to Arch common shareholders of $408.6 million, or $1.00 per share, a 14.3% annualized return on average common equity, compared to $382.1 million, or $0.92 per share, for the 2019 third quarter;

  • After-tax operating income available to Arch common shareholders (1) of $120.3 million, or $0.29 per share, a 4.2% annualized return on average common equity, compared to $261.0 million, or $0.63 per share, for the 2019 third quarter;

  • Pre-tax current accident year catastrophic losses for the Companys insurance and reinsurance segments, net of reinsurance and reinstatement premiums (1) of $203.3 million, primarily related to Hurricanes Isaias, Laura and Sally along with losses related to the Derecho Windstorm, California wildfires and other events. Such amount also includes $11.9 million of COVID-19 related losses;

  • Favorable development in prior year loss reserves, net of related adjustments (1) of $46.4 million;

  • Combined ratio excluding catastrophic activity and prior year development (1) of 84.3%, compared to 80.9% for the 2019 third quarter;

  • The percentage of loans in default on U.S. primary mortgage business was 4.69% at September 30, 2020, compared to 5.14% at June 30, 2020;

  • Total return on investments (1) of 2.30%;

  • Book value per common share of $28.75 at September 30, 2020, a 4.1% increase from June 30, 2020 and a 12.2% increase from September 30, 2019.

All earnings per share amounts discussed in this release are on a diluted basis. The following table summarizes the Companys underwriting results, both (i) on a consolidated basis and (ii) on a consolidated basis excluding the other segment ( i.e. , results of Watford):

(U.S. dollars in thousands)

Consolidated

 

Consolidated Excluding Other Segment (1)

 

Three Months Ended September 30,

 

Three Months Ended September 30,

 

2020

 

2019

 

% Change

 

2020

 

2019

 

% Change

Gross premiums written

$

2,681,032

 

 

$

2,181,121

 

 

22.9

 

 

 

$

2,556,914

 

 

$

2,043,292

 

 

25.1

 

 

Net premiums written

1,874,144

 

 

1,613,457

 

 

16.2

 

 

 

1,726,828

 

 

1,457,705

 

 

18.5

 

 

Net premiums earned

1,771,092

 

 

1,438,023

 

 

23.2

 

 

 

1,625,061

 

 

1,312,191

 

 

23.8

 

 

Underwriting income

96,604

 

 

231,262

 

 

(58.2

)

 

 

104,877

 

 

235,705

 

 

(55.5

)

 

Underwriting Ratios

 

 

 

 

% Point
Change

 

 

 

 

 

% Point
Change

Loss ratio

68.7

%

 

55.8

%

 

12.9

 

 

 

67.7

%

 

53.8

%

 

13.9

 

 

Underwriting expense ratio

26.2

%

 

28.4

%

 

(2.2

)

 

 

26.2

%

 

28.4

%

 

(2.2

)

 

Combined ratio

94.9

%

 

84.2

%

 

10.7

 

 

 

93.9

%

 

82.2

%

 

11.7

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Combined ratio excluding catastrophic activity and prior year development (1)

 

 

 

 

 

 

84.3

%

 

80.9

%

 

3.4

 

 

(1)

 

Presentation represents a "non-GAAP" financial measure as defined in Regulation G. Such presentation excludes the results of Watford Holdings Ltd. ("Watford"). Pursuant to GAAP, the Company consolidates the results of Watford in its financial statements, although it only owns approximately 13% of Watfords outstanding common equity as of September 30, 2020. See Comments on Regulation G for further details.

The following table summarizes the Companys consolidated financial data, including a reconciliation of net income or loss available to Arch common shareholders to after-tax operating income or loss available to Arch common shareholders and related diluted per share results:

(U.S. dollars in thousands, except share data)

Three Months Ended

 

Nine Months Ended

 

September 30,

 

September 30,

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Net income available to Arch common shareholders

$

408,636

 

 

 

$

382,050

 

 

 

$

830,768

 

 

 

$

1,278,726

 

 

Net realized (gains) losses

(219,726

)

 

 

(77,959

)

 

 

(517,007

)

 

 

(316,882

)

 

Equity in net (income) loss of investment funds accounted for using the equity method

(126,735

)

 

 

(17,130

)

 

 

(57,407

)

 

 

(96,533

)

 

Net foreign exchange (gains) losses

39,462

 

 

 

(30,160

)

 

 

17,003

 

 

 

(29,100

)

 

Transaction costs and other

1,674

 

 

 

1,995

 

 

 

5,246

 

 

 

5,363

 

 

Income tax expense (benefit) (1)

17,010

 

 

 

2,156

 

 

 

48,088

 

 

 

12,708

 

 

After-tax operating income available to Arch common shareholders

$

120,321

 

 

 

$

260,952

 

 

 

$

326,691

 

 

 

$

854,282

 

 

 

 

 

 

 

 

 

 

Diluted per common share results:

 

 

 

 

 

 

 

Net income available to Arch common shareholders

$

1.00

 

 

 

$

0.92

 

 

 

$

2.02

 

 

 

$

3.11

 

 

Net realized (gains) losses

(0.54

)

 

 

(0.19

)

 

 

(1.25

)

 

 

(0.77

)

 

Equity in net (income) loss of investment funds accounted for using the equity method

(0.31

)

 

 

(0.04

)

 

 

(0.14

)

 

 

(0.23

)

 

Net foreign exchange (gains) losses

0.10

 

 

 

(0.07

)

 

 

0.04

 

 

 

(0.07

)

 

Transaction costs and other

0.00

 

 

 

0.00

 

 

 

0.01

 

 

 

0.01

 

 

Income tax expense (benefit) (1)

0.04

 

 

 

0.01

 

 

 

0.12

 

 

 

0.03

 

 

After-tax operating income available to Arch common shareholders

$

0.29

 

 

 

$

0.63

 

 

 

$

0.80

 

 

 

$

2.08

 

 

 

 

 

 

 

 

 

 

Weighted average common shares and common share equivalents outstanding diluted

409,194,657

 

 

 

413,180,201

 

 

 

410,314,897

 

 

 

410,807,402

 

 

 

 

 

 

 

 

 

 

Beginning common shareholders equity

$

11,211,825

 

 

 

$

9,977,352

 

 

 

$

10,717,371

 

 

 

$

8,659,827

 

 

Ending common shareholders equity

11,671,997

 

 

 

10,378,096

 

 

 

11,671,997

 

 

 

10,378,096

 

 

Average common shareholders equity

$

11,441,911

 

 

 

$

10,177,724

 

 

 

$

11,194,684

 

 

 

$

9,518,962

 

 

 

 

 

 

 

 

 

 

Annualized return on average common equity

14.3

 

%

 

15.0

 

%

 

9.9

 

%

 

17.9

 

%

Annualized operating return on average common equity

4.2

 

%

 

10.3

 

%

 

3.9

 

%

 

12.0

 

%

(1)

 

Income tax expense (benefit) on net realized gains or losses, equity in net income (loss) of investment funds accounted for using the equity method, net foreign exchange gains or losses and transaction costs and other reflects the relative mix reported by jurisdiction and the varying tax rates in each jurisdiction.

Each line item in the table above reflects the impact of the Companys ownership of Watfords outstanding common equity. See Comments on Regulation G for a discussion of non-GAAP financial measures.

Segment Information

The following section provides analysis on the Companys 2020 third quarter performance by operating segment. For additional details regarding the Companys operating segments, please refer to the Companys Financial Supplement dated September 30, 2020. The Companys segment information includes the use of underwriting income (loss) and a combined ratio excluding catastrophic activity and prior year development. Such items are non-GAAP financial measures (see Comments on Regulation G for further details).

Insurance Segment

 

Three Months Ended September 30,

(U.S. dollars in thousands)

2020

 

 

2019

 

 

% Change

 

 

 

 

 

 

Gross premiums written

$

1,206,328

 

 

 

$

1,005,874

 

 

 

19.9

 

 

Net premiums written

824,161

 

 

 

703,840

 

 

 

17.1

 

 

Net premiums earned

719,154

 

 

 

605,336

 

 

 

18.8

 

 

 

 

 

 

 

 

Underwriting income (loss)

$

(31,159

)

 

 

$

(24,113

)

 

 

(29.2

)

 

 

 

 

 

 

 

Underwriting Ratios

 

 

 

 

% Point
Change

Loss ratio

73.0

 

%

 

69.8

 

%

 

3.2

 

 

Underwriting expense ratio

31.2

 

%

 

34.2

 

%

 

(3.0

)

 

Combined ratio

104.2

 

%

 

104.0

 

%

 

0.2

 

 

 

 

 

 

 

 

Catastrophic activity and prior year development:

 

 

 

 

 

Current accident year catastrophic events, net of reinsurance and reinstatement premiums

10.3

 

%

 

4.3

 

%

 

6.0

 

 

Net (favorable) adverse development in prior year loss reserves, net of related adjustments

(0.2

)

%

 

(0.6

)

%

 

0.4

 

 

Combined ratio excluding catastrophic activity and prior year development (1)

94.1

 

%

 

100.3

 

%

 

(6.2

)

 

 

 

 

 

 

 

(1) See Comments on Regulation G for further discussion.

Gross premiums written by the insurance segment in the 2020 third quarter were 19.9% higher than in the 2019 third quarter while net premiums written were 17.1% higher than in the 2019 third quarter. The higher level of net premiums written reflected increases across most lines of business, due in part to new business opportunities, rate increases and growth in existing accounts, partially offset by a decrease in travel business, reflecting the ongoing impact of the COVID-19 global pandemic. Net premiums earned in the 2020 third quarter were 18.8% higher than in the 2019 third quarter, and reflect changes in net premiums written over the previous five quarters.

The 2020 third quarter loss ratio reflected 10.3 points of current year catastrophic activity, primarily related to Hurricanes Isaias, Laura and Sally, including 0.5 points related to COVID-19. The 2019 third quarter included 4.3 points of current year catastrophic activity. Estimated net favorable development of prior year loss reserves, before related adjustments, reduced the loss ratio by 0.3 points in the 2020 third quarter, compared to 0.7 points in the 2019 third quarter. The 2020 third quarter loss ratio also reflected changes in mix of business, the effect of rate increases and a lower level of attritional losses than in the 2019 third quarter.

The underwriting expense ratio was 31.2% in the 2020 third quarter, compared to 34.2% in the 2019 third quarter, with the decrease due primarily to growth in net premiums earned.

Reinsurance Segment

 

Three Months Ended September 30,

(U.S. dollars in thousands)

2020

 

 

2019

 

 

% Change

 

 

 

 

 

 

Gross premiums written

$

1,004,590

 

 

 

$

662,572

 

 

 

51.6

 

 

Net premiums written

604,202

 

 

 

436,476

 

 

 

38.4

 

 

Net premiums earned

554,498

 

 

 

363,855

 

 

 

52.4

 

 

Other underwriting income (loss)

298

 

 

 

(1,208

)

 

 

124.7

 

 

 

 

 

 

 

 

Underwriting income (loss)

$

5,506

 

 

 

$

(2,658

)

 

 

307.1

 

 

 

 

 

 

 

 

Underwriting Ratios

 

 

 

 

% Point
Change

Loss ratio

76.1

 

%

 

74.3

 

%

 

1.8

 

 

Underwriting expense ratio

22.9

 

%

 

26.0

 

%

 

(3.1

)

 

Combined ratio

99.0

 

%

 

100.3

 

%

 

(1.3

)

 

 

 

 

 

 

 

Catastrophic activity and prior year development:

 

 

 

 

 

Current accident year catastrophic events, net of reinsurance and reinstatement premiums

23.3

 

%

 

11.5

 

%

 

11.8

 

 

Net (favorable) adverse development in prior year loss reserves, net of related adjustments

(7.4

)

%

 

(4.0

)

%

 

(3.4

)

 

Combined ratio excluding catastrophic activity and prior year development (1)

83.1

 

%

 

92.8

 

%

 

(9.7

)

 

(1) See Comments on Regulation G for further discussion.

Gross premiums written by the reinsurance segment in the 2020 third quarter were 51.6% higher than in the 2019 third quarter, while net premiums written were 38.4% higher than 2019 third quarter. The growth in net premiums written is less than the growth in gross premiums written, primarily reflecting a higher level of retrocessions on certain property and casualty business. The higher level of net premiums written primarily reflected increases in property and other specialty lines, mainly due to new business and rate increases. Net premiums earned by the reinsurance segment in the 2020 third quarter were 52.4% higher than in the 2019 third quarter, and reflect changes in net premiums written over the previous five quarters.

The 2020 third quarter loss ratio reflected 26.1 points of current year catastrophic activity, primarily related to Hurricanes Laura and Sally and the Derecho Windstorm, including 1.5 points related to COVID-19. The 2019 third quarter included 12.2 points of current year catastrophic activity, primarily related to Hurricane Dorian and Typhoon Faxai. Estimated net favorable development of prior year loss reserves, before related adjustments, reduced the loss ratio by 7.6 points in the 2020 third quarter, compared to 4.2 points in the 2019 third quarter. The 2020 third quarter loss ratio also reflected a lower level of attritional losses, changes in the mix of business and the effect of rate increases.

The underwriting expense ratio was 22.9% in the 2020 third quarter, compared to 26.0% in the 2019 third quarter, with the decrease due primarily to growth in net premiums earned.

Mortgage Segment

 

Three Months Ended September 30,

(U.S. dollars in thousands)

2020

 

 

2019

 

 

% Change

 

 

 

 

 

 

Gross premiums written

$

346,248

 

 

 

$

375,092

 

 

 

(7.7

)

 

Net premiums written

298,465

 

 

 

317,389

 

 

 

(6.0

)

 

Net premiums earned

351,409

 

 

 

343,000

 

 

 

2.5

 

 

Other underwriting income

4,600

 

 

 

3,955

 

 

 

16.3

 

 

 

 

 

 

 

 

Underwriting income

$

130,530

 

 

 

$

262,476

 

 

 

(50.3

)

 

 

 

 

 

 

 

Underwriting Ratios

 

 

 

 

% Point
Change

Loss ratio

43.6

 

%

 

3.8

 

%

 

39.8

 

 

Underwriting expense ratio

20.6

 

%

 

20.8

 

%

 

(0.2

)

 

Combined ratio

64.2

 

%

 

24.6

 

%

 

39.6

 

 

 

 

 

 

 

 

Prior year development:

 

 

 

 

 

Net (favorable) adverse development in prior year loss reserves, net of related adjustments

(1.3

)

%

 

(9.6

)

%

 

8.3

 

 

Combined ratio excluding prior year development (1)

65.5

 

%

 

34.2

 

%

 

31.3

 

 

(1) See Comments on Regulation G for further discussion.

Gross premiums written by the mortgage segment in the 2020 third quarter were 7.7% lower than in the 2019 third quarter, while net premiums written were 6.0% lower, primarily reflecting a reduction in U.S. primary mortgage insurance in force due to mortgage refinance activity and a lower contribution from single premium policies. Net premiums written for the 2020 third quarter also reflected a lower level of ceded premiums on U.S. primary mortgage business. Net premiums earned were 2.5% higher for the 2020 third quarter and reflected a higher level of single premiums earned as a result of policy terminations due to mortgage refinance activity, which more than offset the reduction in U.S. primary mortgage insurance in force noted above.

U.S. primary mortgage business generated $32.8 billion of new insurance written ("NIW") in the 2020 third quarter, compared to $25.3 billion in the 2019 third quarter, with the growth primarily reflecting the significant increase in mortgage originations in the market. Monthly premium policies contributed 97.4% of NIW in the 2020 third quarter, compared to 92.3% in the 2019 third quarter.

Incurred losses for the 2020 third quarter reflected elevated delinquency rates in comparison to the 2019 third quarter due, in part, to financial stress from the COVID-19 pandemic. The percentage of loans in default on U.S. primary mortgage business was 4.69% at September 30, 2020, compared to 5.14% at June 30, 2020. Estimated net favorable development in prior year loss reserves, before related adjustments, reduced the 2020 third quarter loss ratio by 1.3 points, compared to 9.6 points in the 2019 third quarter.

Corporate and Non-Underwriting

Corporate and non-underwriting results include net investment income, other income (loss), corporate expenses, transaction costs and other, amortization of intangible assets, interest expense, items related to the Companys non-cumulative preferred shares, net realized gains or losses (which includes changes in the allowance for credit losses on financial assets and net impairment losses recognized in earnings), equity in net income or loss of investment funds accounted for using the equity method, net foreign exchange gains or losses and income taxes. Such amounts exclude the results of the other segment.

Pre-tax net investment income for the 2020 third quarter was $0.24 per share, or $99.9 million, compared to $0.31 per share, or $126.9 million, for the 2019 third quarter. The annualized pre-tax investment income yield was 1.76% for the 2020 third quarter, compared to 2.58% for the 2019 third quarter, with the decrease primarily due to lower yields available in the financial markets. Total return, a non-GAAP measure, was 2.30% for the 2020 third quarter. See Comments on Regulation G for a discussion of non-GAAP financial measures.

Interest expense for the 2020 third quarter was $36.2 million, compared to $23.2 million for the 2019 third quarter. The higher level of interest expense mainly resulted from the issuance of $1.0 billion of 3.635% senior notes in June 2020.

On a pre-tax basis, net foreign exchange losses for the 2020 third quarter were $38.7 million, compared to net foreign exchange gains for the 2019 third quarter of $29.8 million. For both periods, such amounts were primarily unrealized and resulted from the effects of revaluing the Companys net insurance liabilities required to be settled in foreign currencies at each balance sheet date. Changes in the value of available-for-sale investments held in foreign currencies due to foreign currency rate movements are reflected as a direct increase or decrease to shareholders equity and are not included in the consolidated statements of income. Although the Company generally attempts to match the currency of its projected liabilities with investments in the same currencies, the Company may elect to over or underweight one or more currencies from time to time, which could increase the Companys exposure to foreign currency fluctuations and increase the volatility of the Companys shareholders equity.

The Companys effective tax rate on income before income taxes (based on the Companys estimated annual effective tax rate) was 5.3% for the 2020 third quarter, compared to 8.9% for the 2019 third quarter. The Companys effective tax rate on pre-tax operating income available to Arch common shareholders was 4.8% for the 2020 third quarter, compared to 11.7% for the 2019 third quarter. The Companys effective tax rate may fluctuate from period to period based upon the relative mix of income or loss reported by jurisdiction, the level of catastrophic loss activity incurred, and the varying tax rates in each jurisdiction. The Companys quarterly tax provision is adjusted to reflect changes in its estimated annual effective tax rate, if any.

Conference Call

The Company will hold a conference call for investors and analysts at 11:00 a.m. Eastern Time on October 30, 2020. A live webcast of this call will be available via the Investors section of the Companys website at http://www.archcapgroup.com . A telephone replay of the conference call also will be available beginning on October 30, 2020 at 2:00 p.m. Eastern Time until November 6, 2020 at midnight Eastern Time. To access the replay, domestic callers should dial 855-859-2056, and international callers should dial 404-537-3406 (passcode 6457629 for all callers).

Please refer to the Companys Financial Supplement dated September 30, 2020, which is available via the Investors section of the Companys website at http://www.archcapgroup.com . The Financial Supplement provides additional detail regarding the financial performance of the Company. From time to time, the Company posts additional financial information and presentations to its website, including information with respect to its subsidiaries. Investors and other recipients of this information are encouraged to check the Companys website regularly for additional information regarding the Company.

Arch Capital Group Ltd., a Bermuda-based company with approximately $15.2 billion in capital at September 30, 2020, provides insurance, reinsurance and mortgage insurance on a worldwide basis through its wholly owned subsidiaries.

Comments on Regulation G

Throughout this release, the Company presents its operations in the way it believes will be the most meaningful and useful to investors, analysts, rating agencies and others who use the Companys financial information in evaluating the performance of the Company and that investors and such other persons benefit from having a consistent basis for comparison between quarters and for comparison with other companies within the industry. These measures may not, however, be comparable to similarly titled measures used by companies outside of the insurance industry. Investors are cautioned not to place undue reliance on these non-GAAP financial measures in assessing the Companys overall financial performance.

This presentation includes the use of "after-tax operating income or loss available to Arch common shareholders," which is defined as net income available to Arch common shareholders, excluding net realized gains or losses (which includes changes in the allowance for credit losses on financial assets and net impairment losses recognized in earnings), equity in net income or loss of investment funds accounted for using the equity method, net foreign exchange gains or losses and transaction costs and other, net of income taxes, and the use of annualized operating return on average common equity. The presentation of after-tax operating income available to Arch common shareholders and annualized operating return on average common equity are non-GAAP financial measures as defined in Regulation G. The reconciliation of such measures to net income available to Arch common shareholders and annualized return on average common equity (the most directly comparable GAAP financial measures) in accordance with Regulation G is included on page 2 of this release.

The Company believes that net realized gains or losses, equity in net income or loss of investment funds accounted for using the equity method, net foreign exchange gains or losses and transaction costs and other in any particular period are not indicative of the performance of, or trends in, the Companys business performance. Although net realized gains or losses, equity in net income or loss of investment funds accounted for using the equity method and net foreign exchange gains or losses are an integral part of the Companys operations, the decision to realize investment gains or losses, the recognition of the change in the carrying value of investments accounted for using the fair value option in net realized gains or losses, the recognition of equity in net income or loss of investment funds accounted for using the equity method and the recognition of foreign exchange gains or losses are independent of the insurance underwriting process and result, in large part, from general economic and financial market conditions. Furthermore, certain users of the Companys financial information believe that, for many companies, the timing of the realization of investment gains or losses is largely opportunistic. In addition, changes in the allowance for credit losses and net impairment losses recognized in earnings on the Companys investments represent other-than-temporary declines in expected recovery values on securities without actual realization. The use of the equity method on certain of the Companys investments in certain funds that invest in fixed maturity securities is driven by the ownership structure of such funds (either limited partnerships or limited liability companies). In applying the equity method, these investments are initially recorded at cost and are subsequently adjusted based on the Companys proportionate share of the net income or loss of the funds (which include changes in the fair value of the underlying securities in the funds). This method of accounting is different from the way the Company accounts for its other fixed maturity securities and the timing of the recognition of equity in net income or loss of investment funds accounted for using the equity method may differ from gains or losses in the future upon sale or maturity of such investments. Transaction costs and other include advisory, financing, legal, severance, incentive compensation and other costs related to acquisitions and Watfords non-recurring listing expenses. The Company believes that transaction costs and other, due to their non-recurring nature, are not indicative of the performance of, or trends in, the Companys business performance. Due to these reasons, the Company excludes net realized gains or losses, equity in net income or loss of investment funds accounted for using the equity method, net foreign exchange gains or losses and transaction costs and other from the calculation of after-tax operating income or loss available to Arch common shareholders.

The Company believes that showing net income available to Arch common shareholders exclusive of the items referred to above reflects the underlying fundamentals of the Companys business since the Company evaluates the performance of and manages its business to produce an underwriting profit. In addition to presenting net income available to Arch common shareholders, the Company believes that this presentation enables investors and other users of the Companys financial information to analyze the Companys performance in a manner similar to how the Companys management analyzes performance. The Company also believes that this measure follows industry practice and, therefore, allows the users of the Companys financial information to compare the Companys performance with its industry peer group. The Company believes that the equity analysts and certain rating agencies which follow the Company and the insurance industry as a whole generally exclude these items from their analyses for the same reasons.

The Companys segment information includes the presentation of consolidated underwriting income or loss and a subtotal of underwriting income or loss before the contribution from the other segment. Such measures represent the pre-tax profitability of its underwriting operations and include net premiums earned plus other underwriting income, less losses and loss adjustment expenses, acquisition expenses and other operating expenses. Other operating expenses include those operating expenses that are incremental and/or directly attributable to the Companys individual underwriting operations. Underwriting income or loss does not incorporate items included in the Companys corporate (non-underwriting) segment. While these measures are presented in the Segment Information footnote to the Companys Consolidated Financial Statements, they are considered non-GAAP financial measures when presented elsewhere on a consolidated basis. The reconciliations of underwriting income or loss to income before income taxes (the most directly comparable GAAP financial measure) on a consolidated basis and a subtotal before the contribution from the other segment, in accordance with Regulation G, is shown on the following pages.

Management measures segment performance for its three underwriting segments based on underwriting income or loss. The Company does not manage its assets by underwriting segment and, accordingly, investment income and other non-underwriting related items are not allocated to each underwriting segment. As noted earlier, the other segment includes the results of Watford. Watford has its own management and board of directors that is responsible for its own results and profitability. For the other segment, performance is measured based on net income or loss. The Company does not guarantee or provide credit support for Watford, and the Companys financial exposure to Watford is limited to its investment in Watfords senior notes, common and preferred shares and counterparty credit risk (mitigated by collateral) arising from reinsurance transactions.

Along with consolidated underwriting income, the Company provides a subtotal of underwriting income or loss before the contribution from the other segment and believes that this presentation enables investors and other users of the Companys financial information to analyze the Companys underwriting performance in a manner similar to how the Companys management analyzes performance.

In addition, the Companys segment information includes the use of a combined ratio excluding catastrophic activity and prior year development, for the insurance and reinsurance segments, and a combined ratio excluding prior year development, for the mortgage segment. These ratios are non-GAAP financial measures as defined in Regulation G. The reconciliation of such measures to the combined ratio (the most directly comparable GAAP financial measure) in accordance with Regulation G are shown on the individual segment pages. The Companys management utilizes the adjusted combined ratios excluding current accident year catastrophic events and favorable or adverse development in prior year loss reserves in its analysis of the underwriting performance of each of its underwriting segments.

Total return on investments includes investment income, equity in net income or loss of investment funds accounted for using the equity method, net realized gains and losses (excluding changes in the allowance for credit losses on non-investment related financial assets) and the change in unrealized gains and losses generated by Archs investment portfolio. Total return is calculated on a pre-tax basis and before investment expenses, excludes amounts reflected in the other segment, and reflects the effect of financial market conditions along with foreign currency fluctuations. Management uses total return on investments as a key measure of the return generated to Arch common shareholders, and compares the return generated by the Companys investment portfolio against benchmark returns during the periods presented.

The following tables summarize the Companys results by segment for the 2020 third quarter and 2019 third quarter and a reconciliation of underwriting income or loss to income or loss before income taxes and net income or loss available to Arch common shareholders:

(U.S. Dollars in thousands)

 

Three Months Ended

 

 

September 30, 2020

 

 

Insurance

 

Reinsurance

 

Mortgage

 

Sub-total

 

Other

 

Total

Gross premiums written (1)

 

$

1,206,328

 

 

 

$

1,004,590

 

 

 

$

346,248

 

 

 

$

2,556,914

 

 

 

$

197,480

 

 

 

$

2,681,032

 

 

Premiums ceded

 

(382,167

)

 

 

(400,388

)

 

 

(47,783

)

 

 

(830,086

)

 

 

(50,164

)

 

 

(806,888

)

 

Net premiums written

 

824,161

 

 

 

604,202

 

 

 

298,465

 

 

 

1,726,828

 

 

 

147,316

 

 

 

1,874,144

 

 

Change in unearned premiums

 

(105,007

)

 

 

(49,704

)

 

 

52,944

 

 

 

(101,767

)

 

 

(1,285

)

 

 

(103,052

)

 

Net premiums earned

 

719,154

 

 

 

554,498

 

 

 

351,409

 

 

 

1,625,061

146,031

1,771,092

Other underwriting income (loss)

(31

)

298

4,600

4,867

546

5,413

Losses and loss adjustment expenses

(525,321

)

(422,084

)

(153,055

)

(1,100,460

)

(115,813

)

(1,216,273

)

Acquisition expenses

(102,420

)

(85,388

)

(35,716

)

(223,524

)

(24,418

)

(247,942

)

Other operating expenses

(122,541

)

(41,818

)

(36,708

)

(201,067

)

(14,619

)

(215,686

)

Underwriting income (loss)

$

(31,159

)

$

5,506

$

130,530

104,877

(8,273

)

96,604

Net investment income

99,857

28,655

128,512

Net realized gains (losses)

210,984

69,515

280,499

Equity in net income (loss) of investment funds accounted for using the equity method

126,735

126,735

Other income

919

919

Corporate expenses

(16,263

)

(16,263

)

Transaction costs and other

(1,674

)

(1,674

)

Amortization of intangible assets

(16,715

)

(16,715

)

Interest expense

(36,224

)

(5,119

)

(41,343

)

Net foreign exchange gains (losses)

(38,681

)

(6,204

)

(44,885

)

Income (loss) before income taxes

433,815

78,574

512,389

Income tax expense

(23,638

)

(69

)

(23,707

)

Net income (loss)

410,177

78,505

488,682

Dividends attributable to redeemable noncontrolling interests

(882

)

(993

)

(1,875

)

Amounts attributable to nonredeemable noncontrolling interests

(67,768

)

(67,768

)

Net income (loss) available to Arch

409,295

9,744

419,039

Preferred dividends

(10,403

)

(10,403

)

Net income (loss) available to Arch common shareholders

$

398,892

$

9,744

$

408,636

Underwriting Ratios

Loss ratio

73.0

%

76.1

%

43.6

%

67.7

%

79.3

%

68.7

%

Acquisition expense ratio

14.2

%

15.4

%

10.2

%

13.8

%

16.7

%

14.0

%

Other operating expense ratio

17.0

%

7.5

%

10.4

%

12.4

%

10.0

%

12.2

%

Combined ratio

104.2

%

99.0

%

64.2

%

93.9

%

106.0

%

94.9

%

Net premiums written to gross premiums written

68.3

%

60.1

%

86.2

%

67.5

%

74.6

%

69.9

%

(1)

Certain amounts included in the gross premiums written of each segment are related to intersegment transactions and are included in the gross premiums written of each segment. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total.

(U.S. Dollars in thousands)

Three Months Ended

September 30, 2019

Insurance

Reinsurance

Mortgage

Sub-total

Other

Total

Gross premiums written (1)

$

1,005,874

$

662,572

$

375,092

$

2,043,292

$

249,960

$

2,181,121

Premiums ceded

(302,034

)

(226,096

)

(57,703

)

(585,587

)

(94,208

)

(567,664

)

Net premiums written

703,840

436,476

317,389

1,457,705

155,752

1,613,457

Change in unearned premiums

(98,504

)

(72,621

)

25,611

(145,514

)

(29,920

)

(175,434

)

Net premiums earned

605,336

363,855

343,000

1,312,191

125,832

1,438,023

Other underwriting income (loss)

(1,208

)

3,955

2,747

579

3,326

Losses and loss adjustment expenses

(422,782

)

(270,379

)

(13,080

)

(706,241

)

(96,214

)

(802,455

)

Acquisition expenses

(91,259

)

(62,393

)

(34,396

)

(188,048

)

(23,072

)

(211,120

)

Other operating expenses

(115,408

)

(32,533

)

(37,003

)

(184,944

)

(11,568

)

(196,512

)

Underwriting income (loss)

$

(24,113

)

$

(2,658

)

$

262,476

235,705

(4,443

)

231,262

Net investment income

126,874

34,614

161,488

Net realized gains (losses)

80,014

(18,659

)

61,355

Equity in net income (loss) of investment funds accounted for using the equity method

17,130

17,130

Other income

1,338

1,338

Corporate expenses

(15,066

)

(15,066

)

Transaction costs and other

(1,995

)

(1,995

)

Amortization of intangible assets

(20,003

)

(20,003

)

Interest expense

(23,237

)

(8,091

)

(31,328

)

Net foreign exchange gains (losses)

29,794

3,330

33,124

Income (loss) before income taxes

430,554

6,751

437,305

Income tax expense

(38,116

)

(38,116

)

Net income (loss)

392,438

6,751

399,189

Dividends attributable to redeemable noncontrolling interests

(6,600

)

(6,600

)

Amounts attributable to nonredeemable noncontrolling interests

(136

)

(136

)

Net income (loss) available to Arch

392,438

15

392,453

Preferred dividends

(10,403

)

(10,403

)

Net income (loss) available to Arch common shareholders

$

382,035

$

15

$

382,050

Underwriting Ratios

Loss ratio

69.8

%

74.3

%

3.8

%

53.8

%

76.5

%

55.8

%

Acquisition expense ratio

15.1

%

17.1

%

10.0

%

14.3

%

18.3

%

14.7

%

Other operating expense ratio

19.1

%

8.9

%

10.8

%

14.1

%

9.2

%

13.7

%

Combined ratio

104.0

%

100.3

%

24.6

%

82.2

%

104.0

%

84.2

%

Net premiums written to gross premiums written

70.0

%

65.9

%

84.6

%

71.3

%

62.3

%

74.0

%

(1)

Certain amounts included in the gross premiums written of each segment are related to intersegment transactions and are included in the gross premiums written of each segment. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total.

Cautionary Note Regarding Forward-Looking Statements

The Private Securities Litigation Reform Act of 1995 ("PSLRA") provides a "safe harbor" for forward-looking statements. This release or any other 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. All statements other than statements of historical fact included in or incorporated by reference in this release are forward-looking statements. Forward-looking statements, for purposes of the PSLRA or otherwise, can generally be identified by the use of forward-looking terminology such as "may," "will," "expect," "intend," "estimate," "anticipate," "believe" or "continue" and similar statements of a future or forward-looking nature or their negative or variations or similar terminology.

Forward-looking statements involve the Company’s current assessment of risks and uncertainties. Actual events and results may differ materially from those expressed or implied in these statements. Important factors that could cause actual events or results to differ materially from those indicated in such statements are discussed below and elsewhere in this release and in the Company’s periodic reports filed with the Securities and Exchange Commission (the "SEC"), and include:

  • the Company’s ability to successfully implement its business strategy during "soft" as well as "hard" markets;

  • acceptance of the Company’s business strategy, security and financial condition by rating agencies and regulators, as well as by brokers and its insureds and reinsureds;

  • the Company’s ability to consummate acquisitions and integrate any businesses it has acquired or may acquire into its existing operations;

  • the Company’s ability to maintain or improve its ratings, which may be affected by its ability to raise additional equity or debt financings, by ratings agencies’ existing or new policies and practices, as well as other factors described herein;

  • general economic and market conditions (including inflation, interest rates, unemployment, housing prices, foreign currency exchange rates, prevailing credit terms and the depth and duration of a recession) and conditions specific to the reinsurance and insurance markets in which the Company operates;

  • competition, including increased competition, on the basis of pricing, capacity (including alternative sources of capital), coverage terms or other factors;

  • developments in the world’s financial and capital markets and the Company’s access to such markets;

  • the Company’s ability to successfully enhance, integrate and maintain operating procedures (including information technology) to effectively support its current and new business;

  • the loss of key personnel;

  • accuracy of those estimates and judgments utilized in the preparation of the Company’s financial statements, including those related to revenue recognition, insurance and other reserves, reinsurance recoverables, investment valuations, intangible assets, bad debts, income taxes, contingencies and litigation, and any determination to use the deposit method of accounting;

  • greater than expected loss ratios on business written by the Company and adverse development on claim and/or claim expense liabilities related to business written by its insurance and reinsurance subsidiaries;

  • severity and/or frequency of losses;

  • claims resulting from natural or man-made catastrophic events or severe economic events in the Company’s insurance, reinsurance and mortgage businesses could cause large losses and substantial volatility in the Company’s results of operations;

  • the effect of climate change on the Company’s business;

  • the effect of contagious diseases (including COVID-19) on the Company’s business;

  • acts of terrorism, political unrest and other hostilities or other unforecasted and unpredictable events;

  • availability to the Company of reinsurance to manage its gross and net exposures and the cost of such reinsurance;

  • the failure of reinsurers, managing general agents, third party administrators or others to meet their obligations to the Company;

  • the timing of loss payments being faster or the receipt of reinsurance recoverables being slower than anticipated by the Company;

  • the Company’s investment performance, including legislative or regulatory developments that may adversely affect the fair value of the Company’s investments;

  • changes in general economic conditions, including new or continued sovereign debt concerns or downgrades of U.S. securities by credit rating agencies, which could affect the Company’s business, financial condition and results of operations;

  • changes in the method for determining the London Inter-bank Offered Rate ("LIBOR") and the potential replacement of LIBOR;

  • the volatility of the Company’s shareholders’ equity from foreign currency fluctuations, which could increase due to us not matching portions of the Company’s projected liabilities in foreign currencies with investments in the same currencies;

  • changes in accounting principles or policies or in the Company’s application of such accounting principles or policies;

  • changes in the political environment of certain countries in which the Company operates, underwrites business or invests;

  • a disruption caused by cyber-attacks or other technology breaches or failures on the Company or the Company’s business partners and service providers, which could negatively impact the Company’s business and/or expose the Company to litigation;

  • statutory or regulatory developments, including as to tax policy matters and insurance and other regulatory matters such as the adoption of proposed legislation that would affect Bermuda-headquartered companies and/or Bermuda-based insurers or reinsurers and/or changes in regulations or tax laws applicable to the Company, its subsidiaries, brokers or customers, including the Tax Cuts and Jobs Act of 2017; and

  • the other matters set forth under Item 1A "Risk Factors", Item 7 "Management’s Discussion and Analysis of Financial Condition and Results of Operations" and other sections of the Company’s Annual Report on Form 10-K, as well as the other factors set forth in the Company’s other documents on file with the SEC, and management’s response to any of the aforementioned factors.

All subsequent written and oral forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by these cautionary statements. The foregoing review of important factors should not be construed as exhaustive and should be read in conjunction with other cautionary statements that are included herein or elsewhere. The Company undertakes no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.

View source version on businesswire.com: https://www.businesswire.com/news/home/20201029006257/en/

Contacts

Arch Capital Group Ltd.
François Morin: (441) 278-9250

Investor Relations
Donald Watson: (914) 872-3616; dwatson@archcapservices.com