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REINSURERS' EARNINGS UP DESPITE COMPETITION

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Competition continues to escalate among U.S. reinsurers as they vie for business from the still-soft primary property/casualty market.

That competition is occurring in spite of significant consolidation among reinsurers in recent years, and is expected to engender additional mergers and acquisitions in the future.

But even with competitive conditions and low premium growth, low catastrophe losses meant reinsurers posted a much-improved combined ratio and higher earnings for 1996.

"It is still very competitive out there," said Kaj Ahlmann, chairman, president and chief executive officer of Employers Reinsurance Corp. in Overland Park, Kan. "Rates continue to go down in nearly all lines, and they probably will continue to do so until we get a good old-fashioned catastrophe again."

"I see increasing levels of competition, and I guess for the first time in a long time we're beginning to see irrational behavior in the marketplace," as a result of the drive for premium growth, said Edward J. Noonan, who has just been named president and CEO of Princeton, N.J.-based American Re Corp.

Mr. Noonan, who formerly was president of American Re's domestic insurance company operations, succeeds Paul H. Inderbitzin, who resigned earlier this month to pursue personal business interests, according to the company.

Mr. Noonan denied speculation that the rest of American Re's senior management was planning to leave, as well. "Munich Re has affirmed their commitment to American Re as an independent subsidiary, with no co-management or joint management from Germany," he said. "Senior management has reaffirmed their commitment to the company for the long term."

Looking to the overall reinsurance market, Mr. Noonan said, "I think the underlying adequacy of pricing in the industry will be diminished this year."

"Everyone talks about the softness of the market and for us in 1997, we continue to emphasize to our people that they should focus on bottom-line profitability and not worry about top-line growth," said Heidi Hutter, chairman, president and CEO of the Swiss Reinsurance America Corp.

"The outlook is probably similar to what we just experienced in 1996," including single-digit premium growth, said Gary Ransom, an analyst with Hartford, Conn.-based Conning & Co. Reinsurance conditions are driven by competition in the primary market and by insurers raising retentions and restructuring programs to keep more premium for themselves, he said.

"Nothing will change that much in 1997," Mr. Ransom predicted. "The combined ratios will probably be stable, too."

However, at least one observer sounded a cautionary note.

"If pricing and underwriting continue to deteriorate as indicated by the Jan. 1 renewal period, then we've got to have worse results this year," said David Seifer, vp with Donaldson Lufkin & Jenrette Securities Corp. in New York.

"I would expect higher combined ratios that could be accentuated if there are, in fact, catastrophic losses that actually impact reinsurers," added Mr. Seifer.

For 1996, the 49 reinsurers surveyed by the Reinsurance Assn. of America posted a 103.5% combined ratio, compared with the 109.9% combined ratio reported by a comparable group in 1995 (BI, April 1, 1996).

The Top 20 reinsurers, based on net premiums written, reported a 103.2% combined ratio, compared with a 110.1% combined ratio in 1995. Those ratios include results for the Berkshire Hathaway Group, which does not participate in the RAA survey. Also, while the merger will not officially be completed until later this year, Business Insurance has combined the 1996 and 1995 RAA numbers of American Re Corp. and the Munich Re Group's U.S. operations.

The reinsurance industry experienced single-digit growth last year. The RAA group posted a 4.5% increase in net premiums written to $18.95 billion, while the Top 20 reinsurers alone increased their premiums by just 3.1% to $16.58 billion.

This compares with a 13% increase in premium growth in 1995 for the RAA reinsurers and a 14.6% increase for the Top 20 that year.

"The reinsurance segment's growth has fallen prey to heated competition, rate softening within the property sector and just the beginning of dramatically softer rates on the casualty side that's now spilling over from the primary," said Eric Simpson, senior vp at A.M. Best Co. in Oldwick, N.J.

"The irony here is that some observers were concerned that with the number of reinsurers exiting the business that competition would wane. If anything, competition is just heating up because the surviving reinsurers are pretty formidable in terms of balance-sheet strength and market presence, so a lot of the peripheral players have been taken off the playing field," said Mr. Simpson.

"From what I hear, there's some deterioration in underwriting and pricing at the reinsurance level in order to finance the increasingly competitive" conditions at the primary level, said DLJ's Mr. Seifer.

"What is difficult to determine is to identify who among the reinsurers are the financiers of what has to be a losing proposition," he said.

However, such companies as General Reinsurance Corp., Transatlantic Reinsurance Co. and the Bermuda catastrophe reinsurers "are all doing very well and seem to be walking around the near-term competitive problem," Mr. Seifer said.

There were fewer large reserve charges among reinsurers in 1996 compared with 1995, with the only major boost being Kemper Reinsurance Co.'s $300 million addition to reserves for asbestos and environmental losses in the second quarter, said Craig Elkind, associate director of Standard & Poor's Corp. in New York.

By contrast, reserve charges in 1995 included a $700 million capital infusion that Swiss Reinsurance America Corp. received from its parent, the Swiss Re Group, to bolster incurred-but-not-reported asbestos and environmental reserves, and a $347.4 million addition to reserves by American Re Corp.

"It's pretty pure results this year, and pretty appealing results at that," said Mr. Elkind, noting the 103.5% combined ratio is "pretty nice."

John L. Ward, CEO of the Cincinnati-based Ward Financial Group, agreed. "I think there are a number of positive signals in their results," he said. "I think it was a strong investment performance with an assist from the stock market. Underwriting results remained strong. Although we're seeing some downward pressure on reinsurance rates, I don't think that's necessarily a problem signal. I think they're doing a very good job of selecting and pricing risk."

Michael Smith, an analyst with Salomon Bros. in New York, noted that excluding the reinsurance departments of insurance companies, professional reinsurers had a 7.7% premium increase in the fourth quarter. "I think there's a little bit of increased demand coming into the market," he said.

Mr. Smith also noted that the professional reinsurers had a 103.8% combined ratio, with direct writers alone having a little less than a 101% ratio while the broker market reported a 107% combined ratio.

The RAA report also can be broken down by size of the reinsurers. The top five professional reinsurers included in the RAA report, which also are direct writers, "have a fairly stable situation in terms of rates," said Mr. Smith. Those in the No. 5 through 20 position are more competitive. But from No. 25 on down, it is a "bloodbath," he said.

The larger broker-market players, he said, are able to increase their share of reinsurance treaties to 25% from 20%, thus squeezing out the smaller companies with less capacity that may previously have had that 5% share of the risk, he said.

These smaller players are "finding themselves pushed off the end of the table" and are "just having to beat each other over the head to get business," said Mr. Smith.

"The real drama lies behind the numbers, not with the numbers," said Dennis Zettervall, CEO of Hartford, Conn.-based Hartford Re Co. "I consider it the most competitive market I've seen in 15 years, and the reality is that there are a lot of hungry reinsurers. They want a bigger piece of the reinsurance pie.

"Unfortunately, the pie is getting smaller, so this hits the second- and third-tier reinsurers particularly hard if you're competing on price only," he said.

"There's clear movement toward consolidation within the market," said John N. Adimari, vp-investor relations for Greenwich, Conn.-based NAC Re Corp. "Some of it's very visible," such as with the American Re/Munich Reinsurance Co. deal (BI, Aug. 19, 1996). "Some is not as visible, where you see some of the players within the broker market begin to reduce or quietly shut down their operations. As a result, you see the high-quality, high-surplus companies grow."

Mr. Adimari said he expects the trend to continue. "Smaller, less capitalized companies are going to find it increasingly difficult to compete" and, as a result, books of business will shift to larger, better-capitalized companies as they increase their participation on existing or new treaties.

"I think there's a strong drive" for mergers, said American Re's Mr. Noonan. However, he added, "I don't know that consolidation will be on the same magnitude as over the last couple of years."

He noted that there are "completely different dynamics" involved when deals involve broker- market reinsurers as opposed to direct reinsurers.

"We've already seen consolidation on the direct writers' side. There may be more financial pressures for additional consolidation on the broker side," predicted Conning's Mr. Ransom.

"I think the pressure's there" because growth is so sluggish and there is pressure, particularly on publicly traded companies," to build earnings, said Mr. Ransom.

A.M. Best, which predicts the number of reinsurers will be cut by about a third by the year 2000, believes merger and acquisition activity is particularly likely among the smaller, "undifferentiated" reinsurers "that are struggling to compete effectively," said Mr. Simpson.

When you look at the reinsurance companies ranked Nos. 26-41, most have single-digit returns on equity, "so it doesn't take much to figure out there are some candidates out there who have to be thinking about an exit strategy," said Mr. Smith.

Someone earning a 3% return on equity ought to do better investing in certificates of deposit "rather than trying to write reinsurance," he added.

More mergers will enable the surviving reinsurers to be better service providers, said Mr. Ward. The trend "will largely be positive for buyers of reinsurance."