Omega: A ‘Baptism Of Fire’ For New Board

March 8, 2011

1omega-logoBermuda-based insurer and reinsurer, Omega, today [Mar.8] reported a loss of $42.8 million for 2010, compared with the previous year’s profit of $43.6 million.

Gross premium income for the year stood at $356.1 million [2009: $265.8 million] but the firm suffered a loss ratio of 84.4 percent compared with 49.3 percent in 2009. No final dividend was declared.

Omega said 86 percent of the pre-tax loss was incurred before the current board’s appointment in March 2010.

Since then Omega has improved its reinsurance programme, further strengthened both board and senior management positions and invested in its risk management, modelling, data quality, analysis and controls capabilities.

Incorporated in Bermuda in 2006 and based in Hamilton, the company says it is well positioned for future growth into new lines of business.

Chief executive Richard Pexton said: “Changes made since March will leave the business less exposed to losses of this nature.

“… With its platforms in the major markets and the strength of its distributor relationships, Omega is ready to grow when the time is right.”

Financial Performance

  • Loss for the year of US$42.8 million [2009: US$43.6 million profit]
  • Gross premium income of US$356.1 million [2009: US$265.8 million]
  • Loss ratio of 84.4% [2009: 49.3%]
  • Combined ratio of 114.4% [2009: 81.4%]
  • Investment return of 1.9 % [2009: 2.8%]
  • Earnings per share of (17.6) cents [2009: 18.6 cents]
  • Total dividend relating to the financial year of 6 US cents per share [2009: 12.5 US cents]
  • Operational Performance

  • Significant de-risking of the Group’s business
  • 86% of the reported pre-tax loss was incurred on 2009 year of account and prior, before the current Board’s appointment in March 2010.
  • Improving reinsurance programme
  • Further strengthening of the board and senior management positions
  • Significant investment in risk management, modelling, data quality, analysis and controls
  • Company well positioned for future growth, into new lines of business when the market improves

Richard Pexton, Chief Executive Officer of Omega Insurance Holdings Limited, commented: “The 2010 loss is an obvious disappointment to us all. Changes made since March will leave the business less exposed to losses of this nature.

“Although the current rating environment is challenging, Omega has an excellent franchise and a steady book of solid underwriting businesses. With its platforms in the major markets and the strength of its distributor relationships, Omega is ready to grow when the time is right. This, combined with our experienced underwriting team, operational improvements and efficient structure, leave it well placed as a strong underwriting platform able to take full advantage of any improvement in market conditions.”

Chairman’s Statement
Shareholders will be aware of the background to my appointment as Chairman, and Richard Pexton’s as Chief Executive, and other board changes in late March last year so I won’t go over matters which have already been well publicised.

To say that ours was a baptism of fire would be an understatement!

Within a week of our arrival, we had to issue a profits warning arising from Omega’s loss on the Chilean earthquake. This along with other loss experience on the 2009 and prior years represents some 86% of our total reported pre-tax loss for the year.

Subsequent events proved equally challenging. I am naturally very disappointed that we are reporting a loss for the year of US$42.8 million. Richard Pexton expands on the component parts of the loss and the actions we have taken since arrival in his review of the business.

Omega’s performance during 2010 has been materially affected by catastrophe and other single-loss events, after a benign year in 2009. It is estimated that 2010 could be the sixth worst year for the insurance industry in the last thirty, with total insured losses of approximately US$37 billion.

Since the Board change to which I previously referred, and notwithstanding the difficulties experienced thus far, we have made great progress on a number of fronts.

We have further strengthened the Board with the appointment of Geoffrey Johnson who joined in September last year as a non-Executive Director and Chairman of the Audit Committee.

He has recently been elected by the Board as Senior Independent Director. Geoffrey enjoyed a long and successful career with PricewaterhouseCoopers and his experience and focus on governance will prove invaluable in the future development of the Group.

As planned, Jonathan Betts stepped down in November. Penny James steps down from the Board later this month and I would like to welcome Katherine Letsinger who joins us on an interim basis. Katherine has a wealth of insurance experience having previously been Group Finance Director of Wellington Underwriting plc following other financial appointments in the industry.

I would like to thank both Penny and Jonathan for their contribution to the Group during this transitional year. We expect to make a further non-executive appointment from the insurance industry during the course of 2011.

We have made further senior appointments in the London operation.

A large part of our activity during 2010 has been concentrated upon strengthening our operational infrastructure in areas such as risk modelling, underwriting systems, capital modelling, and generally improving our internal governance and controls. This progress will contribute to achieving our goal of first class risk management capabilities.

The last two years have been an unsettling time for those who work in Omega and I would like to thank them all for their dedication, professionalism and commitment to the task. In spite of the noise surrounding the Group, it has been very much ‘business as usual’ and I am grateful to all of them.

Given the circumstances and, taking into account the interim dividend of 6.0 cents per share already paid and the substantial increase in the loss for the year compared to previous estimates, the Board has decided, as matter of prudence, not to pay a final dividend for 2010. We will keep under review the capital position and trading results with a view to resuming dividends as soon as conditions allow. As a matter of policy, the Board remains committed to paying out a substantial proportion of the Group’s annual profits as dividends.

The rating environment remains challenging and short-term profitability will be constrained as a result. However, despite the difficult operating environment, we are putting in place a firm foundation from which to grow.

Chairman, March 8, 2011

Chief Executive Officer’s Review
2010 Results
The Group is reporting a loss before tax for the year of US$42.9 million [2009: US$47.1 million profit]. Clearly this is a disappointing result and one that must not be repeated. The performance was driven by the level of catastrophe and large single-risk loss events including the earthquakes in Chile and New Zealand, the explosion of the Deepwater Horizon oil rig, Australian floods and Aban Pearl submersible amongst others.

This was exacerbated by rating reductions putting pressure on margins in other lines of business as the market softens, reflected in the increase in attritional loss ratios and some strengthening of reserves at the half year. The post tax loss for the year was US$42.8 million [2009: US$43.6 million profit] and earnings per share was 17.6 US cents [2009: 18.6 US cents].

Gross premiums written by the Group rose by 34.0% to US$356.1 million in 2010 [2009: US$265.8 million] reflecting our increased ownership of capacity on Syndicate 958, which has grown to 40.5% for the 2011 year of account [2010: 38.8% and 2009: 16.4%]. Net earned premium grew by 26.5% to US$247.4 million [2009: US$195.5 million]. While this step up has negatively affected the 2010 results due to the 2010 Year of Account losses to date, we still expect to see the benefit of the increase in future years.

Our underwriting performance in the year has been dominated by multiple catastrophes including the Chile and New Zealand Earthquakes, Australian hailstorms and the flooding in Queensland in December. This was on top of several large single-loss events, including the Deepwater Horizon incident in April 2010 and the sinking of the Aban Pearl submersible in May 2010.

Together, these losses have cost the Group US$65.0 million net of reinsurance and reinstatement premiums and including foregone managing agency profit commission. The loss ratio rose to 84.4% in 2010 [2009: 49.3%] with natural catastrophes and major losses accounting for 22.2 percentage points. The attritional loss ratio also rose by 12.9 percentage points in comparison with 2009 to 62.2% [2009: 49.3%] demonstrating the deterioration in current pricing due to excess capacity coupled with an elevated incidence of smaller attritional losses in the US. Strengthening of prior year reserves equates to 2.4 percentage points.

Perspective of Omega since my arrival

  • I joined Omega one year ago this week and have reviewed all areas of the business. I would summarise my thoughts as follows:
  • The corporate structure is excellent with platforms in each of the world’s major markets: Lloyds, Syndicate 958, Bermuda and in the US, Chicago.
  • Notwithstanding the result, there is a solid core book of underwriting focused on regional and smaller ticket property and casualty insurance that has driven the Group and Syndicate’s success over many years.
  • There is a team of experienced underwriters who understand how to navigate troughs in the insurance cycle.
  • The book was more volatile than I had expected, with the Group having expanded in more recent years into classes of business with greater catastrophe exposure and larger insureds, such as retrocessional reinsurance and marine energy.
  • Certain of the Group’s reinsurance programmes were not strategic and, therefore, far less efficient and effective than I had expected, with some reinsurance accounts written ‘net’ and limited tools available to model how it operated in different stress scenarios. This is evidenced by the gross loss ratio of 68.3% and net loss ratio of 84.4%.
  • Operationally the business was ‘behind the curve’ playing catch up with the more sophisticated players in the industry in the areas of risk management, modelling, data quality and analysis, and control.
  • The reserves are sound. The short tail nature of Omega’s book means it is not susceptible to significant historic reserving problems but being a young company there is currently only a small book of historic reserves and so profit is sensitive to movements in small loss ratios.
  • The investment portfolio is high quality, low risk, extremely liquid and consequently has a constrained return.
  • Omega US Chicago, continues to build a strong franchise with slower growth than originally expected due to current market conditions.

1. Underwriting

In light of the findings of my review, and the developing market conditions, we took the following actions to reduce the risk in the book of business:

The effect of these is that a repeat of 2010′s catastrophe and large energy events today would result in costs to the Group some 33% lower.

Further, we are currently changing the composition of our reinsurance programme to reduce basis risk, having undertaken a full external review of the reinsurance programme in the fourth quarter of 2010 which will lead to a programme with a better fit for Omega Specialty and potential cost savings.

2. Operations

The operational capability of the Group has been another key area of focus given its importance to both our underwriting capabilities and our ability to function effectively as a business. We have invested in new talent and additional infrastructure to help us manage the business more effectively and more efficiently. Resources have been added in operational and risk management functions and we have improved actuarial and financial controls.

In addition new systems for recording underwriting information and for modelling aggregations have been introduced during the year across all our platforms.

The effect of these changes will be a better risk managed business in the future with a consequential benefit of lower capital ratios than would otherwise be the case.

3. Investments

The investment environment in 2010 was driven by uncertainty as to whether there would be an economic recovery or a double dip recession, and central banks continued to add liquidity into the financial system, keeping interest rates low. Uncertainty increased mid-year coinciding with the distress in the peripheral European sovereign debt markets.

Omega continued its cautious approach and benefited from its high allocation to government bonds which rallied throughout the year, resulting in an investment return of 1.9% [2009: 1.7% excluding one-off hedging gains].

Due to the asymmetric exposure to interest rate movements we reviewed our investment strategy in the final quarter, broadening the asset classes and implementing a blended benchmark to include a higher proportion of corporate bonds and some securitised assets.

Although we benefited throughout 2010 from a high allocation to government bonds, we have taken steps to reduce this position as we expect interest rates to rise over the following year. We expect to see the benefits of these changes through 2011. We will continue to cautiously seek opportunities to enhance our returns within the Groups’ risk appetite parameters established by the Board. Further information about our investment performance and asset allocation can be found in the Financial Review.

4. Capital Management

The Board remains committed to its policy of returning to shareholders a substantial proportion of the Group’s annual profits as dividends. Taking into account the interim dividend of 6.0 cents per share and the substantial increase in the loss for the year as compared to earlier estimates, the Board has decided as a matter of prudence not to pay a final dividend for 2010.

The Board will keep under review the capital position, potential changes in regulatory requirements, the results of our actions to reduce risk exposures in the business and trading results with a view to paying dividends when conditions allow.

Taking into account the need for capital to take advantage of business opportunities when the market improves, the Board remains committed to paying out as dividends a substantial proportion of the Group’s annual profits.

To further support the business’s flexibility to grow as the conditions improve, the negotiation of a revolving credit facility is near completion.

5. Governance

With the changes made during 2010, the Group now has strong Boards in both London and Bermuda with a wealth of financial and industry experience.

Dialogue with the regulators and rating agencies has been excellent, with open and transparent relations in place. AM Best reaffirmed Omega Specialty’s and Omega US’s A- (Excellent) rating after the half year results.

Outlook for 2011 and beyond

The trading environment for 2011 remains competitive and, with a benign Atlantic hurricane season during 2010, the industry’s supply of capital has increased further. Rate reductions were evident at the important 1 January reinsurance renewals with excess capacity continuing to depress pricing. US catastrophe reinsurance rates were down by between 5-10%, whilst international catastrophe rates were down by between 3-10%, with loss affected areas experiencing firmer pricing.

The actions through 2010 and 2011 were to de-risk the business and protect value. The result is that we will have reduced aggregates, a reshaped and more robust reinsurance program and improved modelling capability all of which should help us deal with catastrophe events more effectively.

Our underwriting strategy for 2011 continues to stress discipline and patience. We have reduced our planned gross written premium for the year relative to 2010, and will continue to monitor the rating environment in each class of business we underwrite. We have pulled back from some classes where we believe that underwriting margins are inadequate.

There are still profitable opportunities to be had. However, with rating pressure continuing, notwithstanding the actions we are taking to dampen that effect, the result must be reduced profit expectations for 2011 if the current rating environment continues.

Although short term conditions are challenging, Omega has an excellent franchise and a steady book of solid underwriting businesses. With its platforms in all the key locations and the strength of its distributor relationships, Omega is ready to grow when the time is right. This combined with our experienced underwriting team, operational improvements and efficient structure will leave it well placed for the medium term.

Chief Executive Officer, March 8, 2011

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