10-K 1 d436243d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-K

 

                            þ   

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)                         

OF THE SECURITIES EXCHANGE ACT OF 1934                    

For the Fiscal Year Ended December 31, 2012

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 number 001-31909

 

 

ASPEN INSURANCE HOLDINGS LIMITED

(Exact name of registrant as specified in its charter)

 

Bermuda   Not Applicable

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

141 Front Street

Hamilton, Bermuda

 

HM 19

(Zip Code)

(Address of principal executive offices)  

Registrant’s telephone number, including area code:

(441) 295-8201

Securities registered pursuant to Section 12(b) of the Exchange Act:

 

Title of Each Class

 

Name of Each Exchange on Which Registered

Ordinary Shares, 0.15144558¢ par value   New York Stock Exchange, Inc.

5.625% Perpetual Preferred Income Equity

Replacement Securities

  New York Stock Exchange, Inc.
7.401% Perpetual Non-Cumulative Preference Shares   New York Stock Exchange, Inc.
7.250% Perpetual Non-Cumulative Preference Shares   New York Stock Exchange, Inc.

Securities registered pursuant to Section 12(g) of the Exchange Act: None.

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  þ    No  ¨

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    Yes  ¨    No  þ

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  þ    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in the definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  þ

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer    þ   Accelerated filer    ¨   Non-accelerated filer    ¨    Smaller reporting company    ¨
  (Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  þ

The aggregate market value of the ordinary shares held by non-affiliates of the registrant, as of June 30, 2012, was approximately $2.0 billion based on the closing price of the ordinary shares on the New York Stock Exchange on that date, assuming solely for the purpose of this calculation that all directors and employees of the registrant were “affiliates.” The determination of affiliate status is not necessarily a conclusive determination for other purposes and such status may have changed since June 30, 2012.

As of February 15, 2013, 69,950,931 ordinary shares were outstanding.

 

 

 


Table of Contents

ASPEN INSURANCE HOLDINGS LIMITED

INDEX TO FORM 10-K

TABLE OF CONTENTS

 

Aspen Holdings and Subsidiaries

     2   

Forward-Looking Statements

     2   
PART I   

Item 1.

  Business      5   

Item 1A.

  Risk Factors      44   

Item 1B.

  Unresolved Staff Comments      75   

Item 2.

  Properties      75   

Item 3.

  Legal Proceedings      76   

Item 4.

  Mine Safety Disclosure      76   
PART II   

Item 5.

  Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities      77   

Item 6.

  Selected Consolidated Financial Data      87   

Item 7.

  Management’s Discussion and Analysis of Financial Condition and Results of Operations      89   

Item 7A.

  Quantitative and Qualitative Disclosures about Market Risk      132   

Item 8.

  Financial Statements and Supplementary Data      135   

Item 9.

  Changes in and Disagreements with Accountants on Accounting and Financial Disclosure      135   

Item 9A.

  Controls and Procedures      135   

Item 9B.

  Other Information      136   
PART III   

Item 10.

  Directors, Executive Officers of the Registrant and Corporate Governance      137   

Item 11.

  Executive Compensation      137   

Item 12.

  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters      137   

Item 13.

  Certain Relationships and Related Transactions, and Director Independence      137   

Item 14.

  Principal Accounting Fees and Services      138   
PART IV   

Item 15.

  Exhibits, Financial Statement Schedules      139   

Index to Consolidated Financial Statements and Reports

     F-1   

 

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Aspen Holdings and Subsidiaries

Unless the context otherwise requires, references in this Annual Report to the “Company,” “we,” “us” or “our” refer to Aspen Insurance Holdings Limited (“Aspen Holdings”) or Aspen Holdings and its subsidiaries, Aspen Insurance UK Limited (“Aspen U.K.”), Aspen (UK) Holdings Limited (“Aspen U.K. Holdings”), Aspen (US) Holdings Limited (“Aspen U.S. Holdings Ltd.”), Aspen Insurance UK Services Limited (“Aspen UK Services”), AIUK Trustees Limited (“AIUK Trustees”), Aspen Bermuda Limited (“Aspen Bermuda”, formerly Aspen Insurance Limited), Aspen Underwriting Limited (“AUL”, corporate member of Lloyd’s Syndicate 4711, “Syndicate 4711”), Aspen Managing Agency Limited (“AMAL”), Aspen U.S. Holdings, Inc. (“Aspen U.S. Holdings”), Aspen Specialty Insurance Company (“Aspen Specialty”), Aspen Specialty Insurance Management Inc. (“Aspen Management”), Aspen Re America, Inc. (“Aspen Re America”), Aspen Insurance U.S. Services Inc. (“Aspen U.S. Services”), Aspen Re America California, LLC (“ARA — CA”), Aspen Specialty Insurance Solutions LLC (“ASIS”), Aspen Re America Risk Solutions LLC (“Aspen Solutions”), Acorn Limited (“Acorn”), APJ Continuation Ltd. (“APJ”), APJ Asset Protection Jersey Limited (“APJ Jersey”), Aspen UK Syndicate Services Limited (“AUSSL”, formerly APJ Services Limited), Aspen Risk Management Limited (“ARML”), Aspen American Insurance Company (“AAIC”), Aspen Recoveries Limited (“Aspen Recoveries”) and any other direct or indirect subsidiary collectively, as the context requires. Aspen U.K., Aspen Bermuda, Aspen Specialty, AAIC, and AUL, as corporate member of Syndicate 4711, are each referred to herein as an “Operating Subsidiary,” and collectively referred to as the “Operating Subsidiaries.” References in this report to “U.S. Dollars,” “dollars,” “$” or “¢” are to the lawful currency of the United States of America, references to “British Pounds,” “pounds” or “£” are to the lawful currency of the United Kingdom, and references to “euros” or “€” are to the lawful currency adopted by certain member states of the European Union (the “E.U.”), unless the context otherwise requires.

Forward-Looking Statements

This Form 10-K contains, and the Company may from time to time make other verbal or written, forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that involve risks and uncertainties, including statements regarding our capital needs, business strategy, expectations and intentions. Statements that use the terms “believe,” “do not believe,” “anticipate,” “expect,” “plan,” “estimate,” “project,” “seek,” “will,” “may,” “aim,” “likely,” “continue,” “intend,” “guidance” and similar expressions are intended to identify forward-looking statements. These statements reflect our current views with respect to future events and because our business is subject to numerous risks, uncertainties and other factors, our actual results could differ materially from those anticipated in the forward-looking statements, including those set forth below under Item 1, “Business,” Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this report and the differences could be significant. The risks, uncertainties and other factors set forth below and under Item 1A, “Risk Factors” and other cautionary statements made in this report should be read and understood as being applicable to all related forward-looking statements wherever they appear in this report.

 

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All forward-looking statements address matters that involve risks and uncertainties. Accordingly, there are or will be important factors that could cause actual results to differ materially from those indicated in these statements. We believe that these factors include, but are not limited to, those set forth under “Risk Factors” in Item 1A, and the following:

 

   

the possibility of greater frequency or severity of claims and loss activity, including as a result of natural or man-made (including economic and political risks) catastrophic or material loss events, than our underwriting, reserving, reinsurance purchasing or investment practices have anticipated;

 

   

the reliability of, and changes in assumptions to, natural and man-made catastrophe pricing, accumulation and estimated loss models;

 

   

evolving issues with respect to interpretation of coverage after major loss events;

 

   

any intervening legislative or governmental action and changing judicial interpretation and judgments on insurers’ liability to various risks;

 

   

the effectiveness of our risk management loss limitation methods;

 

   

changes in the total industry losses, or our share of total industry losses, resulting from past events such as Superstorm Sandy in 2012, the Costa Concordia incident in early 2012, the floods in Thailand, various losses from the U.S. storms and the earthquake and ensuing tsunami in Japan in 2011, the floods in Australia in late 2010 and early 2011, the Deepwater Horizon incident in the Gulf of Mexico in 2010, the Chilean and the New Zealand Earthquakes in 2010, Hurricanes Ike and Gustav in 2008 and, with respect to such events, our reliance on loss reports received from cedants and loss adjustors, our reliance on industry loss estimates and those generated by modeling techniques, changes in rulings on flood damage or other exclusions as a result of prevailing lawsuits and case law;

 

   

the impact of one or more large losses from events other than natural catastrophes or by an unexpected accumulation of attritional losses;

 

   

the impact of acts of terrorism and acts of war and related legislation;

 

   

decreased demand for our insurance or reinsurance products and cyclical changes in the highly competitive insurance and reinsurance industry;

 

   

any changes in our reinsurers’ credit quality and the amount and timing of reinsurance recoverables;

 

   

changes in the availability, cost or quality of reinsurance or retrocessional coverage;

 

   

the continuing and uncertain impact of the current depressed lower growth economic environment in many of the countries in which we operate;

 

   

the level of inflation in repair costs due to limited availability of labor and materials after catastrophes;

 

   

increased competition on the basis of pricing, capacity, coverage terms or other factors and the related demand and supply dynamics as contracts come up for renewal;

 

   

a decline in our Operating Subsidiaries’ ratings with Standard & Poor’s Rating Services (“S&P”), A.M. Best Company Inc. (“A.M. Best”) or Moody’s Investors Service Inc. (“Moody’s”);

 

   

the failure of our reinsurers, policyholders, brokers or other intermediaries to honor their payment obligations;

 

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our ability to execute our business plan to enter new markets, introduce new products and develop new distribution channels, including their integration into our existing operations;

 

   

our reliance on the assessment and pricing of individual risks by third parties;

 

   

our dependence on a few brokers for a large portion of our revenues;

 

   

the persistence of heightened financial risks, including excess sovereign debt, the banking system and the Eurozone debt crisis;

 

   

changes in general economic conditions, including inflation, foreign currency exchange rates, interest rates and other factors that could affect our financial results;

 

   

the risk of a material decline in the value or liquidity of all or parts of our investment portfolio;

 

   

changes in our ability to exercise capital management initiatives or to arrange banking facilities as a result of prevailing market conditions or changes in our financial position;

 

   

changes in government regulations or tax laws in jurisdictions where we conduct business;

 

   

Aspen Holdings or Aspen Bermuda becoming subject to income taxes in the United States or the United Kingdom;

 

   

loss of one or more of our senior underwriters or key personnel;

 

   

our reliance on information and technology and third-party service providers for our operations and systems; and

 

   

increased counterparty risk due to the credit impairment of financial institutions.

In addition, any estimates relating to loss events involve the exercise of considerable judgment in the setting of reserves and reflect a combination of ground-up evaluations, information available to date from brokers and cedants, market intelligence, initial tentative loss reports and other sources. The actuarial range of reserves is based on our then current state of knowledge and explicit and implicit assumptions relating to the incurred pattern of claims, the expected ultimate settlement amount, inflation and dependencies between lines of business. Due to the complexity of factors contributing to losses and the preliminary nature of the information used to prepare estimates, there can be no assurance that our ultimate losses will remain within stated amounts.

The foregoing review of important factors should not be construed as exhaustive and should be read in conjunction with the other cautionary statements that are included in this report. We undertake no obligation to publicly update or review any forward-looking statement, whether as a result of new information, future developments or otherwise or disclose any difference between our actual results and those reflected in such statements.

If one or more of these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may vary materially from what we projected. Any forward-looking statements you read in this report reflect our current views with respect to future events and are subject to these and other risks, uncertainties and assumptions relating to our operations, results of operations, growth strategy and liquidity. All subsequent written and oral forward-looking statements attributable to us or individuals acting on our behalf are expressly qualified in their entirety by the points made above. You should specifically consider the factors identified in this report which could cause actual results to differ before making an investment decision.

 

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PART I

 

Item 1. Business

General

We are a Bermudian holding company, incorporated on May 23, 2002, and conduct insurance and reinsurance business through our subsidiaries in three major jurisdictions: Aspen U.K. and AUL, corporate member of Syndicate 4711 at Lloyd’s of London (United Kingdom), Aspen Bermuda (Bermuda) and Aspen Specialty and AAIC (United States). Aspen U.K. also has branches in Paris (France), Zurich (Switzerland), Dublin (Ireland), Cologne (Germany), Singapore, Australia and Canada. We operate in the global markets for property and casualty insurance and reinsurance.

For the year ended December 31, 2012, we wrote $2,583.3 million in gross premiums and at December 31, 2012, we had total capital employed, including long-term debt, of $3,987.5 million.

Our corporate structure as at February 15, 2013 was as follows:

 

LOGO

We manage our insurance and reinsurance businesses as two distinct underwriting segments, Aspen Insurance and Aspen Reinsurance (“Aspen Re”), to enhance and better serve our global customer base.

Our insurance segment is comprised of property, casualty, marine, energy and transportation insurance, financial and professional lines insurance and program business. The insurance segment is led by Mario Vitale, Chief Executive Officer of Aspen Insurance and President of U.S. Insurance, and Rupert Villers, Chairman of Aspen Insurance and President of International Insurance. Our reinsurance segment is comprised of property reinsurance (catastrophe and other), casualty reinsurance and specialty reinsurance. The reinsurance segment is led by James Few, Chief Executive Officer of Aspen Reinsurance and Brian Boornazian, Chairman of Aspen Reinsurance.

 

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In our insurance segment, property, casualty and financial and professional lines insurance business is written primarily in the London Market through Aspen U.K. and in the U.S. through AAIC and Aspen Specialty (both on an admitted and excess and surplus lines basis). Our marine, energy and transportation insurance business is written mainly through Aspen U.K. and AUL, which is the sole corporate member of Syndicate 4711 at Lloyd’s of London (“Lloyd’s”), managed by AMAL. We also write some casualty business through AUL.

In reinsurance, property reinsurance business is assumed by Aspen Bermuda and Aspen U.K. and written by teams located in Bermuda, London, Paris, Singapore, Cologne, the U.S. and Zurich. The property reinsurance business written in the U.S. is written exclusively by Aspen Re America and ARA-CA as reinsurance intermediaries with offices in Connecticut, Illinois, Florida, New York, Georgia and California.

Casualty reinsurance is mainly assumed by Aspen U.K. and written by teams located in London, Zurich, Singapore and the U.S. A small number of casualty reinsurance contracts is written by Aspen Bermuda. The business written in the U.S. is produced by Aspen Re America.

Specialty reinsurance is assumed by Aspen Bermuda and Aspen U.K. and written by teams located in London, Zurich and Bermuda.

Our Business Strategy

We are both an insurer and reinsurer of specialty and similar lines and our underwriting operations are organized and presented under two distinct brands — Aspen Re and Aspen Insurance.

We aim to grow the Company over time, but with the caution that growth opportunities are currently limited by weak conditions in many of our markets. Growth may be organic within existing lines, by recruitment of underwriters with complementary skills and experience or by acquisition. Our key evaluation criteria for any acquisition proposal will include strategic fit, financial attractiveness, manageable execution risks and consistency with our risk appetite.

Key strategies for Aspen Re.  We offer reinsurance for property, casualty and specialty risks as further described below. From time to time, the underwriting cycle allows us to deploy additional capacity on a more opportunistic basis and a key part of our strategy is to maintain the ability to identify special situations and take advantage of them however and whenever they arise.

Our largest market is the United States where we are well established and have solid market penetration. As such, there is less opportunity for significant near term growth. The markets in Latin America and Asia-Pacific have historically been less significant for us, but we believe they offer significant growth potential albeit from a much smaller base, especially in the medium and longer-term. We also believe that we have opportunity to increase our ultimate market share in Europe and we expect to see some growth in this region, conditional upon the currently challenging market environment.

We aim to maintain sufficient capital strength and access to capital markets to ensure that major losses can be absorbed and appropriately priced additional demand from existing or new clients can be met.

 

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Key strategies for Aspen Insurance.  Aspen Insurance from its London-market base is a significant global market for energy, marine, aviation, financial, professional, specie and political risks and for excess casualty. This requires specialized expertise, innovative underwriting and the financial strength to offer meaningful capacity in these lines.

Aspen Insurance will not generally seek to offer retail personal lines, including homeowners, private auto and health insurance.

A further part of Aspen Insurance’s strategy is to create a profitable specialty insurer in the U.S. domestic market headquartered in New York. Our approach is highly focused and in the past 36 months, we have hired teams with specialized focus on underwriting opportunities in specialty lines including inland marine and ocean risks, certain financial and professional lines and surety. These are underwritten in addition to our established lines of property, general casualty and environmental liability on an excess and surplus lines basis. We have also invested significantly in terms of IT, actuarial resource, claims staff, legal, human resource and other functions in order to provide the right infrastructure on which to build our U.S. operations.

In addition to our U.S. and London-market insurance operations, we offer focused capacity from our Bermuda and Dublin operations for certain global casualty and management liability risks and from our Zurich branch we offer certain specialized risks within the Swiss market.

Capital Management.  The level of capital that we hold is determined by our risk appetite, the opportunities that exist for the deployment of capital in our business and the objective of improving returns to our ordinary shareholders while maintaining the levels of financial strength expected by our customers, regulators and by the rating agencies.

Business Segments

We are organized into two business segments: reinsurance and insurance. We have considered similarities in economic characteristics, products, customers, distribution, the regulatory environment of our operating segments and quantitative thresholds to determine our reportable segments.

We have provided additional disclosures for corporate and other (non-underwriting) income and expenses. Corporate and other income includes net investment income, net realized and unrealized investment gains or losses, corporate expense, interest expense, net realized and unrealized foreign exchange gains or losses and income taxes, which are not allocated to the underwriting segments.

The gross written premiums are set forth below by business segment for the twelve months ended December 31, 2012, 2011 and 2010:

 

     Twelve Months Ended
December 31, 2012
    Twelve Months  Ended
December 31, 2011
    Twelve Months  Ended
December 31, 2010
 

Business Segment

   Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total  
     ($ in millions, except for percentages)  

Reinsurance

   $ 1,227.9         47.5   $ 1,187.5         53.8   $ 1,162.2         56.0

Insurance

     1,355.4         52.5        1,020.3         46.2        914.6         44.0   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 2,583.3         100.0   $ 2,207.8         100.0   $ 2,076.8         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

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For a review of our results by segment, see Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 5 of our consolidated financial statements, “Segment Reporting.”

Reinsurance

Our reinsurance segment consists of property catastrophe reinsurance, other property reinsurance (risk excess, pro rata and facultative), casualty reinsurance (U.S. treaty, international treaty and global facultative) and specialty reinsurance (credit and surety, structured, agriculture and specialty).

The reinsurance business we write can be analyzed by geographic region, reflecting the location of the reinsured risks, as follows for the twelve months ended December 31, 2012, 2011 and 2010:

 

     Twelve Months  Ended
December 31, 2012
    Twelve Months  Ended
December 31, 2011
    Twelve Months  Ended
December 31, 2010
 

Reinsurance

   Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total  
     ($ in millions, except for percentages)  

Australia/Asia

   $ 132.4         10.8   $ 122.3         10.3   $ 95.6         8.2

Caribbean

     8.2         0.7        9.5         0.8        4.3         0.4   

Europe (excluding U.K.)

     97.1         7.9        93.8         7.9        96.9         8.3   

United Kingdom

     26.9         2.2        27.3         2.3        23.8         2.0   

United States & Canada(1)

     528.6         43.0        547.4         46.1        564.5         48.6   

Worldwide excluding United States(2)

     62.9         5.1        61.8         5.2        55.4         4.8   

Worldwide including United States(3)

     316.6         25.8        274.3         23.1        291.9         25.1   

Others

     55.2         4.5        51.1         4.3        29.8         2.6   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 1,227.9         100.0   $ 1,187.5         100.0   $ 1,162.2         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

(1) “United States and Canada” comprises individual policies that insure risks specifically in the United States and/or Canada, but not elsewhere.

 

(2) “Worldwide excluding the United States” comprises individual policies that insure risks wherever they may be across the world but specifically excludes the United States.

 

(3) “Worldwide including the United States” comprises individual policies that insure risks wherever they may be across the world but specifically includes the United States.

Our gross written premiums by our principal lines of business within our reinsurance segment for the twelve months ended December 31, 2012, 2011 and 2010 are as follows:

 

     Gross Written Premiums  
     Twelve Months Ended
December 31, 2012
    Twelve Months Ended
December 31, 2011
    Twelve Months Ended
December 31, 2010
 

Reinsurance

   Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total  
     ($ in millions, except for percentages)  

Property catastrophe reinsurance

   $ 311.3         25.4   $ 306.9         25.9   $ 292.9         25.2

Other property reinsurance

     313.4         25.5        279.1         23.5        268.9         23.1   

Casualty reinsurance

     337.5         27.5        309.1         26.0        340.5         29.3   

Specialty reinsurance

     265.7         21.6        292.4         24.6        259.9         22.4   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 1,227.9         100.0   $ 1,187.5         100.0   $ 1,162.2         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

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Property Catastrophe Reinsurance:  Property catastrophe reinsurance is generally written on a treaty excess of loss basis where we provide protection to an insurer for an agreed portion of the total losses from a single event in excess of a specified loss amount. In the event of a loss, most contracts provide for coverage of a second occurrence following the payment of a premium to reinstate the coverage under the contract, which is referred to as a reinstatement premium. The coverage provided under excess of loss reinsurance contracts may be on a worldwide basis or limited in scope to selected regions or geographical areas.

Other Property Reinsurance:  Other property reinsurance includes risk excess of loss and proportional treaty reinsurance, facultative or single risk reinsurance. Risk excess of loss reinsurance provides coverage to a reinsured where it experiences a loss in excess of its retention level on a single “risk” basis. A “risk” in this context might mean the insurance coverage on one building or a group of buildings for fire or explosion or the insurance coverage under a single policy which the reinsured treats as a single risk. This line of business is generally less exposed to accumulations of exposures and losses but can still be impacted by natural catastrophes, such as earthquakes and hurricanes.

Proportional treaty reinsurance provides proportional coverage to the reinsured, meaning that, subject to event limits where applicable and ceding commissions, we pay the same share of the covered original losses as we receive in premiums charged for the covered risks. Proportional contracts typically involve close client relationships including regular audits of the cedants’ data. Management responsibility for our risk solutions business which wrote predominantly property insurance risks for a select group of U.S. program managers was moved to the insurance segment effective January 1, 2012.

Casualty Reinsurance:  Casualty reinsurance is written on an excess of loss, proportional and facultative basis and consists of U.S. treaty, international treaty and casualty facultative. Our U.S. treaty business comprises exposures to workers’ compensation (including catastrophe), medical malpractice, general liability, auto liability, professional liability and excess liability including umbrella liability. Our international treaty business reinsures exposures mainly with respect to general liability, auto liability, professional liability, workers’ compensation and excess liability.

Specialty Reinsurance:  Specialty reinsurance is written on an excess of loss and proportional basis and consists of credit and surety reinsurance, structured risks, agriculture reinsurance and other specialty lines. Our credit and surety reinsurance business consists of trade credit reinsurance, international surety reinsurance (mainly European, Japanese and Latin American risks and excluding the U.S.) and a small political risks portfolio. Our agricultural reinsurance business is primarily written on a treaty basis covering crop and multi-peril business. Other specialty lines include reinsurance treaties and some insurance policies covering policyholders’ interests in marine, energy, liability aviation, space, contingency, terrorism, nuclear, personal accident and crop reinsurance.

A high percentage of the property reinsurance contracts we write exclude coverage for losses arising from the peril of terrorism. Within the U.S., our reinsurance contracts generally exclude or limit our liability to acts that are certified as “acts of terrorism” by the U.S. Treasury Department under the Terrorism Risk Insurance Act (“TRIA”), the Terrorism Risk Insurance Extension Act of 2005 (“TRIEA”) and now the Terrorism Risk Insurance Program Reauthorization Act of 2007 (“TRIPRA”), which is currently set to expire on December 31, 2014. With respect to personal lines risks, losses arising from the peril of terrorism that do not involve nuclear, biological or chemical attack are usually covered by our reinsurance contracts. Such losses relating to commercial lines risks are generally covered on a limited basis; for example, where the covered risks fall below a stated insured value or into classes or categories we deem less likely to be targets of terrorism than others. We have written a

 

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limited number of reinsurance contracts in this segment, both on a pro rata and risk excess basis, specifically covering the peril of terrorism. These contracts typically exclude coverage protecting against nuclear, biological or chemical attack.

Insurance

Our insurance segment consists of property insurance, casualty insurance, marine, energy and transportation insurance, financial and professional lines insurance and programs business.

The insurance business we write can be analyzed by geographic region, reflecting the location of the insured risk, as follows for the twelve months ended December 31, 2012, 2011 and 2010:

 

     Twelve Months  Ended
December 31, 2012
    Twelve Months  Ended
December 31, 2011
    Twelve Months Ended
December 31, 2010
 

Insurance

   Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total  
     ($ in millions, except for percentages)  

Australia/Asia

   $ 6.9         0.5   $ 7.3         0.7   $ 6.2         0.7

Caribbean

     4.0         0.3        2.9         0.3        3.6         0.4   

Europe (excluding U.K.)

     15.9         1.2        9.4         0.9        7.7         0.8   

United Kingdom

     141.7         10.5        118.4         11.6        117.8         12.9   

United States & Canada(1)

     578.3         42.7        328.2         32.2        275.0         30.1   

Worldwide excluding United States(2)

     88.8         6.6        95.7         9.4        90.6         9.9   

Worldwide including United States(3)

     494.2         36.4        424.4         41.6        381.4         41.7   

Others

     25.6         1.8        34.0         3.3        32.3         3.5   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 1,355.4         100.0   $ 1,020.3         100.0   $ 914.6         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

(1) “United States and Canada” comprises individual policies that insure risks specifically in the United States and/or Canada, but not elsewhere.

 

(2) “Worldwide excluding the United States” comprises individual policies that insure risks wherever they may be across the world but specifically excludes the United States.

 

(3) “Worldwide including the United States” comprises individual policies that insure risks wherever they may be across the world but specifically includes the United States.

 

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Our gross written premiums by our principal lines of business within our insurance segment for the twelve months ended December 31, 2012, 2011 and 2010 are as follows:

 

     Gross Written Premiums  
     Twelve Months  Ended
December 31, 2012
    Twelve Months  Ended
December 31, 2011
    Twelve Months  Ended
December 31, 2010
 

Insurance

   Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total  
     ($ in millions, except for percentages)  

Property insurance

   $ 239.7         17.7   $ 202.3         19.8   $ 171.7         18.8

Casualty insurance

     192.8         14.2        127.2         12.4        148.2         16.2   

Marine, energy and transportation insurance

     530.9         39.2        432.2         42.4        435.1         47.6   

Financial and professional lines insurance

     271.6         20.0        230.5         22.6        159.6         17.4   

Programs

     120.4         8.9        28.1         2.8                  
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 1,355.4         100.0   $ 1,020.3         100.0   $ 914.6         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Property Insurance:  Our property insurance line comprises U.S. and U.K. commercial property and construction business. Property insurance provides physical damage and business interruption coverage for losses arising from weather, fire, theft and other causes.

 

   

U.S. Property:  The U.S. commercial property team covers mercantile, manufacturing, municipal and commercial real estate business.

 

   

U.K. Property:  The U.K. commercial team’s client base is predominantly U.K. institutional property owners, middle market corporates and public sector clients.

Casualty Insurance:  Our casualty insurance line comprises commercial liability, global excess casualty, U.S. casualty insurance and environmental liability, written on a primary, quota share, program and facultative basis.

 

   

Commercial Liability:  Commercial liability is primarily written in the U.K. and provides employers’ liability coverage and public liability coverage for insureds domiciled in the U.K. and Ireland.

 

   

Global Excess Casualty:  The global excess casualty line comprises large, sophisticated and risk-managed insureds worldwide and covers broad-based risks at high attachment points, including general liability, commercial and residential construction liability, life science, railroads, trucking, product and public liability and associated types of cover found in general liability policies in the global insurance market.

 

   

U.S. Casualty:  The U.S. casualty account primarily consists of lines written within the general liability and umbrella liability insurance sectors. Coverage on our general liability line is offered on those risks that are primarily miscellaneous, products liability, contractors (general contractors and artisans), real estate and retail risks and other general liability business.

 

   

Environmental Liability:  The U.S. environmental account primarily provides contractors’ pollution liability and pollution legal liability across industry segments that have environmental

 

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regulatory drivers and contractual requirements for coverage including: real estate and public entities, contractors and engineers, energy contractors and environmental contractors and consultants. The business is written in both the primary and excess insurance markets.

Marine, Energy and Transportation Insurance:  Our marine, energy and transportation insurance line comprises marine, energy and construction (“M.E.C.”) liability, energy physical damage, marine hull, specie, inland marine and ocean risks and aviation, written on a primary, quota share, program and facultative basis.

 

   

M.E.C. Liability:  The M.E.C. liability business includes marine liability cover mainly related to the liabilities of ship-owners and port operators, including reinsurance of Protection and Indemnity Clubs (“P&I Clubs”). It also provides liability cover for companies in the oil and gas sector, both onshore and offshore and in the power generation and U.S. commercial construction sectors.

 

   

Energy Physical Damage:  Energy physical damage provides insurance cover against physical damage losses in addition to Operators Extra Expenses (“OEE”) for companies operating in the oil and gas exploration and production sector.

 

   

Marine Hull:  The marine hull team insures physical damage for ships (including war and associated perils) and related marine assets.

 

   

Specie:  The specie business line focuses on the insurance of high value property items on an all risks basis, including fine art, general and bank related specie, jewelers’ block and armored car.

 

   

Inland Marine and Ocean Risks:  The inland marine and ocean cargo team writes business principally covering builders’ construction risk, contractors’ equipment, transportation and ocean cargo risks in addition to exhibition, fine arts and museums insurance.

 

   

Aviation:  The aviation team writes physical damage insurance on hulls and spares (including war and associated perils) and comprehensive legal liability for airlines, smaller operators of airline equipment, airports and associated business and non-critical component part manufacturers. We also provide aviation hull deductible cover.

Financial and Professional Lines Insurance:  Our financial and professional lines comprise financial institutions business, professional, management and technology liability, credit, political, terrorism and surety risks, written on a primary, quota share, program and facultative basis.

 

   

Financial Institutions:  Our financial institutions business is written on both a primary and excess of loss basis and consists of professional liability, crime insurance and directors’ and officers’ (“D&O”) cover, with the largest exposure comprising risks headquartered in the U.K., followed by Australia and the U.S. and then Canada. We cover financial institutions including commercial and investment banks, asset managers, insurance companies, stockbrokers and insureds with hybrid business models.

 

   

Professional Liability:  Our professional liability business is written out of the U.S. (including Errors and Omissions (“E&O”)), the U.K. and Switzerland and is written on both a primary and excess of loss basis. The U.K. team focuses on risks in the U.K. with some Australian and Canadian business while the U.S. team focuses on the U.S. We insure a wide range of professions including lawyers, accountants, architects and engineers.

 

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Management Liability:  Our management liability teams write out of the U.S., Bermuda and the U.K. on both a primary and excess basis D&O insurance, and indemnity insurance in connection with, or to facilitate, corporate transactions.

 

   

Technology Liability:  Our technology liability team writes on both a primary and excess basis technology-related policies in the areas of network privacy, misuse of data and cyber liability and warranty.

 

   

Credit, Political & Terrorism:  The credit, political & terrorism team writes business covering the credit and contract frustration risks on a variety of trade and non-trade related transactions, as well as political and terrorism (including multi-year war on land cover) risks. We provide credit, political and terrorism cover worldwide, but with concentrations in a number of countries, such as Russia, China, Brazil, the Netherlands and United States.

 

   

Kidnap and Ransom:  The Kidnap and Ransom (“K&R”) team writes insurance designed to protect individuals and corporations operating in high-risk areas around the world. This has now been extended to cover the shipping industries exposure to acts of piracy prevalent in certain regions of the world.

 

   

Surety Risks:  Our surety team writes commercial surety risks, admiralty bonds and similar maritime undertakings including, but not limited to, federal and public official bonds, license and permits and fiduciary and miscellaneous bonds, focused on Fortune 1000 companies and large, privately owned companies in the U.S.

Programs:  Our program business writes property and casualty insurance risks for a select group of U.S.-based program managers. These programs are managed as a distinct and separate unit within insurance. We work closely with our program managers to establish appropriate underwriting and processing guidelines and have established performance monitoring mechanisms.

Underwriting and Reinsurance Purchasing

Our objective is to create a diversified portfolio of insurance and reinsurance risks, diversified across lines of business, products, geographic areas of coverage, cedants and sources. The acceptance of appropriately priced risk is the core of our business. Underwriting requires judgment, based on important assumptions about matters that are inherently unpredictable and beyond our control, and for which historical experience and probability analysis may not provide sufficient guidance. We view underwriting quality and risk management as critical to our success.

Underwriting.  In 2012, our underwriting activities were managed in two product areas: reinsurance and insurance. Under our organizational structure, our insurance segment is led by Mario Vitale, Chief Executive Officer of Aspen Insurance, and Rupert Villers, Chairman of Aspen Insurance. Our reinsurance segment is led by James Few, Chief Executive Officer of Aspen Reinsurance, and Brian Boornazian, Chairman of Aspen Reinsurance.

Our Group Chief Executive Officer is supported by our Director of Underwriting, Kate Vacher. Our Director of Underwriting assists in the management of the underwriting process by developing our underwriting strategy, monitoring our underwriting principles and acting as an independent reviewer of underwriting activity across our businesses.

 

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We underwrite according to the following principles:

 

   

operate within agreed boundaries as defined by the Aspen Underwriting Principles for the relevant line of business;

 

   

operate within prescribed maximum underwriting authority limits, which we delegate in accordance with an understanding of each individual’s capabilities, tailored to the lines of business written by the particular underwriter;

 

   

evaluate the underlying data provided by clients and adjust such data where we believe it does not adequately reflect the underlying exposure;

 

   

price each submission based on our experience in the line of business, and where appropriate, by deploying one or more actuarial models either developed internally or licensed from third-party providers;

 

   

where appropriate, make use of peer review to sustain high standards of underwriting discipline and consistency; other than for simpler insurance risks, risks underwritten are subject to peer review by at least one qualified peer reviewer (for reinsurance risks, peer review occurs mostly prior to risk acceptance; for complex insurance risks, peer review may occur before or after risk acceptance and for simpler insurance risks, peer review is performed using a sampling methodology);

 

   

more complex risks may involve peer review by several underwriters and input from catastrophe risk management specialists, our team of actuaries and senior management;

 

   

in respect of catastrophe perils and certain other key risks, prepare monthly aggregation reports for review by our senior management, which are reviewed quarterly by the Risk Committee; and

 

   

risks outside of agreed underwriting authority limits are referred to the Group Chief Executive Officer as exceptions for approval before we accept the risks.

Reinsurance Purchasing.  We purchase reinsurance and retrocession to limit and diversify our own risk exposure and to increase our own insurance and reinsurance underwriting capacity. These agreements provide for recovery of a portion of losses and loss expenses from reinsurers.

We have reinsurance covers in place for many of our insurance lines of business, the majority of which are on an excess of loss basis. In 2013, we anticipate renewing much of the reinsurance protecting our insurance business that we bought in 2012 which is comprised of specific excess of loss reinsurance on portfolios of property insurance, casualty insurance, financial and professional insurance, aviation insurance and marine, energy and liability insurance. These covers provide protection in various layers and excess of varying attachment points according to the scope of cover provided. We have elected to take co-reinsurance participations within some of these programs. We also have a limited number of proportional treaty arrangements on specific lines of business and we anticipate continuing with these in most instances. Natural perils catastrophe coverage was included within excess of loss programs purchased for two portfolios. For our onshore U.S. property insurance business, we bought protection of $52 million for natural catastrophe events in 2012. For 2013, we have increased the available limit purchased to $85 million. For our offshore energy exposures, excluding Gulf of Mexico named hurricane losses, we bought catastrophe cover of $80 million excess of $20 million which expires on March 31, 2013.

 

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We also buy whole account protections to cover certain lines within our insurance and reinsurance business. We expect to continue the philosophy first implemented in 2006 of limited and strategic retrocession purchasing to manage exposures within our risk tolerances.

We entered into various whole account retrocession agreements to protect our property insurance and reinsurance lines through 2012. Of the total $255 million of available limit purchased against frequency and severity of natural peril events during 2012; $175 million of limit was available for U.S. wind and earthquake and European wind attaching in non-consecutive tranches with the lowest attaching at $250 million of loss and $175 million of limit was available for European flood attaching in non-consecutive tranches with the lowest attaching at $50 million of loss.

For our 2013 program, as at February 15, 2013, we have $150 million of available limit for U.S. wind and earthquake; $100 million of available limit for European wind, earthquake and flood; $100 million of available limit for Japanese wind and earthquake; and $50 million of available limit for natural perils losses in various territories outside the U.S., Europe and Japan.

In addition, in 2012, we renewed twelve-month reciprocal arrangements with two major reinsurers accepting Japanese earthquake exposure and ceding our exposures to windstorms in parts of the U.S. The total aggregate event limit of these agreements is $104 million with both reinsurances responding on an index trigger basis.

As is the case with most reinsurance treaties, we remain liable to the extent that reinsurers do not meet their obligations under these agreements, and therefore, in line with our risk management objectives, we evaluate the financial condition of our reinsurers and monitor concentrations of credit risk.

Risk Management

In this section, we provide a summary of our Risk Governance arrangements and our current Risk Management Strategy. We also provide more detail on the management of core underwriting and market risks and on our Internal Model. The Internal Model is an economic capital model which has been developed internally for use in certain business decision making processes, the assessment of risk based capital requirements and for various regulatory purposes.

Risk Governance

Board of Directors.  The Board of Directors of the Company (the “Board”) considers effective identification, measurement, monitoring, management and reporting of the risks facing our business to be key elements of its responsibilities and those of the Group Chief Executive Officer and management. Matters relating to risk management reserved to the Board include approval of the internal controls and risk management framework and any changes to the Group’s risk appetite statement. The Board also receives reports at each scheduled meeting from the Group Chief Risk Officer and the Chairman of the Risk Committee and training in risk management processes including the design, operation, use and limitations of the Internal Model. As a result of these arrangements and processes, the Board, assisted by management and its Committees, is able to exercise effective oversight of the operation of the risk management strategy described in “Risk Management Strategy” below.

 

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Board Committees.  The Board delegates oversight of the management of certain key risks to its Risk, Audit and Investment Committees. Each of the committees is chaired by an independent director of the Company who also reports to the Board on the committees’ discussions and matters arising.

Risk Committee:  The purpose of this committee is to assist the Board in its oversight duties in respect of the management of risk, including:

 

   

making recommendations to the Board regarding management’s proposals for the risk management framework, risk appetite, key risk limits and the use of our Internal Model;

 

   

monitoring compliance with the agreed Group risk appetite and risk limits; and

 

   

oversight of the process of stress and scenario testing established by management.

Audit Committee:  This committee is primarily responsible for assisting the Board in its oversight of the integrity of the financial statements. It is also responsible for reviewing the adequacy and effectiveness of the Company’s internal controls and receives regular reports from both internal and external audit in this regard.

Investment Committee:  This committee is responsible for, among other things, setting and monitoring the Group’s investment risk and asset allocation policies and ensuring that the Chairman of the Risk Committee is kept informed of such matters.

Management Committees.  The group also has a number of executive management committees which have oversight of certain risk management processes.

Group Executive Committee:  This is the main executive committee responsible for advising the Group Chief Executive Officer on matters relating to the strategy and conduct of the business of the Group.

Capital Allocation Group:  The primary purpose of the Capital Allocation Group is to assist the Group Chief Executive Officer and the Group Chief Risk Officer in their oversight duties in respect of the design and operation of the risk management systems of the Aspen Group. In particular, it has specific responsibilities in relation to the Internal Model and for the establishment of risk limits for accumulating insurance exposures.

Reserve Committee:  This committee is responsible for managing reserving risk and making recommendations to executive management relating to the appropriate level of reserves to include in the Group’s financial statements.

Underwriting Committee:  The purpose of this committee is to assist the Group Chief Executive Officer in his oversight duties in respect of the management and control of underwriting risk including oversight of the independent review of the quality of each team’s underwriting.

Reinsurance Credit Committee:  The purpose of this committee is to seek to minimize credit risks arising from insurance and reinsurance counterparties by the assessment and monitoring of collateralized reinsurance arrangements, direct cedants, intermediaries and reinsurers.

Group Chief Risk Officer.  Our Group Chief Risk Officer, Stephen Postlewhite, is a member of the Group Executive Committee. His role includes providing the Board and the Risk Committee with reports and advice on risk management issues.

 

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Risk Management Strategy

We operate an integrated risk management strategy designed to deliver shareholder value in a sustainable manner while providing a high level of policyholder protection. The execution of our integrated risk management strategy is based on:

 

   

the establishment and maintenance of a risk management and internal control system based on a three lines of defense approach to the allocation of responsibilities between risk accepting units (first line), risk management activity (second line) and independent assurance (third line);

 

   

identifying material risks to the achievement of the Group’s objectives including emerging risks;

 

   

the articulation at Group level of our risk appetite and a consistent set of risk limits for each material component of risk;

 

   

the cascading of risk limits for material risks to each Operating Subsidiary and, where appropriate, risk accepting business units;

 

   

measurement, monitoring, managing and reporting of risk positions and trends;

 

   

the use, subject to an understanding of its limitations, of the Internal Model to test strategic and tactical business decisions and to assess compliance with the Risk Appetite Statement; and

 

   

stress and scenario testing, including reverse stress testing, designed to help us better understand and develop contingency plans for the likely effects of extreme events or combinations of events on capital adequacy and liquidity.

Risk Appetite Statement.  The Risk Appetite Statement is a central component of the Group’s overall risk management framework and is approved by the Board. It sets out, at a high level, how we think about risk in the context of our business model, group objectives and strategy. It sets out boundary conditions for the level of risk we assume, together with a statement of what reward we aim to receive for this level of risk.

It comprises the following components:

 

   

Risk preferences:  a high level description of the types of risks we prefer to assume and to avoid;

 

   

Return objective:  the levels of return on capital we seek to achieve, subject to our risk constraints;

 

   

Volatility constraint:  a target limit on earnings volatility; and

 

   

Capital constraint:  a minimum level of risk adjusted capital.

Risk Components.  The main types of risks that we face are:

Insurance risk:  The risk that underwriting results vary from their expected amounts, including the risk that reserves established in respect of prior periods are understated.

Market risk:  The risk of variation in the fair value of our investment portfolio, cash and cash equivalents and derivative contracts including the effect of changes in foreign currency exchange rates.

 

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Credit risk:  The risk of diminution in the value of insurance receivables as a result of counter-party default. This principally comprises default and concentration risks relating to amounts receivable from intermediaries, policyholders and reinsurers. We include credit risks related to our investment portfolio under market risk.

Liquidity risk:  The risks of failing to maintain sufficient liquid financial resources to meet liabilities as they fall due or to provide collateral as required for commercial or regulatory purposes.

Operational risk:  The risk of loss resulting from inadequate or failed internal processes, personnel or systems, or from external events.

Strategic risk:  The risk of adverse impact on shareholder value or income and capital of adverse business decisions, poor execution or failure to respond to market changes.

Emerging risk:  The risk that risk events not previously identified emerge and impact the operations or financial results of the Group.

We classify insurance risk and market risk as core risks, meaning that they are risks we intend to take with a view to making a return for shareholders as a consequence. Other risks are designated as ‘non-core’ and our strategy for them is to seek to reduce exposures to the extent that is practicable and economic to do so.

Key Risk Limits.  We use the term risk limit to mean the upper limit of our tolerance for exposure to a given risk. Key risk limits are a sub-set of risk limits and are subject to annual approval by the Board on the advice of the Risk Committee as part of the annual business planning process. If a risk exceeds key risk limits, the Chief Risk Officer is required to report the excess and management’s plans for dealing with it to the Risk Committee.

Business Distribution

Our business is produced principally through brokers and reinsurance intermediaries. The brokerage distribution channel provides us with access to an efficient, variable cost and global distribution system without the significant time and expense which would be incurred in creating wholly-owned distribution networks. The brokers and reinsurance intermediaries typically act in the interest of ceding clients or insurers; however, they are instrumental to our continued relationship with our clients.

The following tables show our gross written premiums by broker for each of our segments for the twelve months ended December 31, 2012, 2011 and 2010:

 

     Twelve Months  Ended
December 31, 2012
    Twelve Months  Ended
December 31, 2011
    Twelve Months  Ended
December 31, 2010
 

Reinsurance

   Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total  
     ($ in millions, except for percentages)  

Aon Corporation

   $ 338.9         27.6   $ 309.9         26.1   $ 305.1         26.3

Marsh & McLennan Companies, Inc.

     282.4         23.0        290.9         24.5        298.9         25.7   

Willis Group Holdings, Ltd.

     284.9         23.2        255.3         21.5        217.3         18.7   

Others

     321.7         26.2        331.4         27.9        340.9         29.3   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 1,227.9         100.0   $ 1,187.5         100.0   $ 1,162.2         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

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     Twelve Months  Ended
December 31, 2012
    Twelve Months  Ended
December 31, 2011
    Twelve Months  Ended
December 31, 2010
 

Insurance

   Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total     Gross
Written
Premiums
     % of Total  
     ($ in millions, except for percentages)  

Aon Corporation

   $ 138.6         10.2   $ 119.7         11.7   $ 98.7         10.8

Marsh & McLennan Companies, Inc.

     126.0         9.3        126.6         12.4        94.5         10.3   

Willis Group Holdings, Ltd.

     105.6         7.8        100.1         9.8        92.3         10.1   

Brownstone Agency

     84.0         6.2        28.1         2.8                  

Miller Insurance Services, Ltd.

     66.6         4.9        48.0         4.7        48.2         5.3   

Jardine Lloyd Thompson Ltd.

     60.8         4.5        54.3         5.3        77.0         8.4   

Amwins

     57.0         4.2        37.9         3.7        32.1         3.5   

Price Forbes & Partners Limited

     51.1         3.8        36.8         3.6        35.3         3.9   

Lloyd & Partners, Ltd.

     44.5         3.3        41.2         4.0        38.7         4.2   

Others

     621.2         45.8        427.6         42.0        397.8         43.5   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

   $ 1,355.4         100.0   $ 1,020.3         100.0   $ 914.6         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Claims Management

We have a staff of experienced claims professionals organized into insurance and reinsurance teams which are managed separately. We have developed processes and internal business controls for identifying, tracking and settling claims, and authority levels have been established for all individuals involved in the reserving and settlement of claims.

The key responsibilities of our claims management departments are to:

 

   

process, manage and resolve reported insurance or reinsurance claims efficiently and accurately, using workflow management systems, ensure the proper application of intended coverage, reserving in a timely fashion for the probable ultimate cost of both indemnity and expense and make timely payments in the appropriate amount on those claims for which we are legally obligated to pay;

 

   

select appropriate counsel and experts for claims, manage claims-related litigation and regulatory compliance;

 

   

contribute to the underwriting process by collaborating with both underwriting teams and senior management in terms of the evolution of policy language and endorsements and providing claim-specific feedback and education regarding legal activity;

 

   

contribute to the analysis and reporting of financial data and forecasts by collaborating with the finance and actuarial functions relating to the drivers of actual claim reserve developments and potential for financial exposures on known claims; and

 

   

support our marketing efforts through the quality of our claims service.

On those accounts where it is applicable, a team of in-house claims professionals oversees and regularly audits claims handled under outsourcing agreements and manages those large claims and coverage issues on referral as required under the terms of those agreements.

 

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Senior management receives a regular report on the status of our reserves and settlement of claims. We recognize that fair interpretation of our reinsurance agreements and insurance policies with our customers, and timely payment of valid claims, are a valuable service to our clients and enhance our reputation.

Reserves

Loss & Loss Expense Reserves.  Under U.S. Generally Accepted Accounting Principles (“U.S. GAAP”), we are required to establish loss reserves for the estimated unpaid portion of the ultimate liability for losses and loss expenses under the terms of our policies and agreements with our insured and reinsured customers. These loss reserves consist of the following:

 

   

case reserves to cover the cost of claims that were reported to us but not yet paid;

 

   

incurred but not reported (“IBNR”) reserves to cover the anticipated cost of claims incurred but not reported; and

 

   

a reserve for the expense associated with settling claims, including legal and other fees and the general expenses of administering the claims adjustment process, known as Loss Adjustment Expenses (“LAE”).

Case Reserves.  For reported claims, reserves are established on a case-by-case basis within the parameters of coverage provided in the insurance policy or reinsurance agreement. The method of establishing case reserves for reported claims differs among our operations. With respect to our insurance operations, we are advised of potential insured losses and our claims handlers record reserves for the estimated amount of the expected indemnity settlement, loss adjustment expenses and cost of defense where appropriate. The reserve estimate reflects the judgment of the claims personnel and is based on claim information obtained to date, general reserving practices, the experience and knowledge of the claims personnel regarding the nature of the specific claim and where appropriate and available, advice from legal counsel, loss adjusters and other claims experts.

With respect to our reinsurance claims operations, claims handlers set case reserves for reported claims generally based on the claims reports received from our ceding companies and take into consideration our cedants’ own reserve recommendations and prior loss experience with the cedant. Additional case reserves (“ACR”), in addition to the cedants’ own recommended reserves, may be established by us to reflect our estimated ultimate cost of a loss. ACRs are generally the result of either a claims handler’s own experience and knowledge of handling similar claims, general reserving practices or the result of reserve recommendations following an audit of cedants’ reserves.

Case reserves are based on a subjective judgment of facts and circumstances and are established for the purposes of internal reserving only. Accordingly, they do not represent a commitment to any course of conduct or admission of liability on our behalf in relation to any specific claim.

IBNR Reserves.  The need for IBNR reserves arises from time lags between when a loss occurs and when it is actually reported and settled. By definition on most occasions, we will not have specific information on IBNR claims; they need to be estimated by actuarial methodologies. IBNR reserves are therefore generally calculated at an aggregate level and cannot generally be identified as reserves for a particular loss or contract. We calculate IBNR reserves by line of business. IBNR reserves are calculated by projecting our ultimate losses on each class of business and subtracting paid losses and case reserves.

 

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The main projection methodologies that are used by our actuaries are:

 

 

Initial expected loss ratio (“IELR”) method:  This method calculates an estimate of ultimate losses by applying an estimated loss ratio to an estimate of ultimate earned premium for each accident year. The estimated loss ratio may be based on pricing information and/or industry data and/or historical claims experience revalued to the year under review.

 

 

Bornhuetter-Ferguson (“BF”) method:  The BF method uses as a starting point an assumed IELR and blends in the loss ratio implied by the claims experience to date by using benchmark loss development patterns on paid claims data (“Paid BF”) or reported claims data (“Reported BF”). Although the method tends to provide less volatile indications at early stages of development and reflects changes in the external environment, this method can be slow to react to emerging loss development and if IELR proves to be inaccurate can produce loss estimates which take longer to converge with the final settlement value of loss.

 

 

Loss development (“Chain Ladder”) method:  This method uses actual loss data and the historical development profiles on older accident years to project more recent, less developed years to their ultimate position.

 

 

Exposure-based method:  This method is used for specific large typically catastrophic events such as a major hurricane. All exposure is identified and we work with known market information and information from our cedants to determine a percentage of the exposure to be taken as the ultimate loss.

In addition to these methodologies, our actuaries may use other approaches depending upon the characteristics of the line of business and available data.

In general terms, the IELR method is most appropriate for lines of business and/or accident years where the actual paid or reported loss experience is not yet mature enough to override our initial expectations of the ultimate loss ratios. Typical examples would be recent accident years for lines of business in the casualty reinsurance segment. The BF method is generally appropriate where there are few reported claims and a relatively less stable pattern of reported losses. Typical examples would be our treaty risk excess line of business in our reinsurance segment and marine hull line of business in our insurance segment. The Chain Ladder method is appropriate when there is a relatively stable pattern of loss emergence and a relatively large number of reported claims. Typical examples are the U.K. commercial property and U.K. commercial liability lines of business in the insurance segment. There are no differences between our year end and our quarterly reserving procedures in the sense that our actuaries perform the basic projections and analyses described above for each line of business.

While our actuaries calculate the IELR, BF and Chain Ladder methods for each line of business and each accident year, they provide a range of ultimate losses (“ultimates”) within which management’s best estimate is most likely to fall. This range will usually reflect a blend of the various methodologies. These methodologies involve significant subjective judgments reflecting many factors such as changes in legislative conditions, changes in judicial interpretation of legal liability policy coverages and inflation. Our actuaries collaborate with underwriting, claims, legal and finance in identifying factors which are incorporated in their range of ultimates in which management’s best estimate is most likely to fall. The actuarial ranges are not intended to include the minimum or maximum amount that the claims may ultimately settle at, but are designed to provide management with ranges from which it is reasonable to select a single best estimate for inclusion in our financial statements.

 

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Management through its Reserve Committees then reviews the range of actuarial estimates and any other evidence before selecting its best estimate of reserves for each line of business and accident year. Management may select outside the range provided by the actuaries but to date gross reserves are within the range of actuarial estimates. This provides the basis for the recommendation made by management to the Audit Committee and the Board regarding the reserve amount to be recorded in the Company’s financial statements.

There are two Reserve Committees, one for each of the insurance and reinsurance segments. Common membership to both committees includes the Group Head of Risk (the acting Chair), the Group Chief Actuary, the Group Chief Financial Officer, the Chairman of Aspen Insurance and the Chief Underwriting Officer of Aspen Re.

Each line of business is reviewed in detail by management, through its Reserve Committee, at least once a year; the timing of such reviews varies throughout the year. Additionally, for all lines of business, we review the emergence of actual losses relative to expectations every fiscal quarter. If warranted from these loss emergence tests, we may accelerate the timing of our detailed actuarial reviews.

We take all reasonable steps to ensure that we utilize all appropriate information and actuarial techniques in establishing our IBNR reserves. However, given the uncertainty in establishing claims liabilities, it is likely that the final outcome will prove to be different from the original provision established at the balance sheet date. Changes to our previous estimates of prior period loss reserves impact the reported calendar year underwriting results by worsening our reported results if the prior year reserves prove to be deficient or improving our reported results if the prior year reserves prove to be redundant. A 5% change in our net loss reserves equates to $214.0 million and represents 6.1% of shareholders’ equity at December 31, 2012.

Reinsurance recoveries.  In determining net reserves, we estimate recoveries due under our proportional and excess of loss reinsurance programs. For proportional reinsurance we apply the appropriate cession percentages to estimate how much of the gross reserves will be collectable. For excess of loss recoveries, individual large losses are modeled through our reinsurance program. An assessment is also made of the collectability of reinsurance recoveries taking into account market data on the financial strength of each of the reinsurance companies.

 

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The following tables show an analysis of consolidated loss and loss expense reserve development net and gross of reinsurance recoverables as at December 31, 2012, 2011, 2010, 2009, 2008, 2007, 2006, 2005, 2004, 2003 and 2002.

Analysis of Consolidated Loss and Loss Expense Reserve Development Net of Reinsurance Recoverables

 

    As at December 31,  
    2002     2003     2004     2005     2006     2007     2008     2009     2010     2011     2012  
    ($ in millions)  

Estimated liability for unpaid losses and loss expenses, net of reinsurance recoverables

    81.4        482.2        1,080.2        1,848.9        2,351.7        2,641.3        2,787.0        3,009.6        3,540.6        4,098.6        4,280.7   

Liability re-estimate as of:

                     

One year later

    71.8        420.2        1,029.6        1,797.6        2,244.3        2,557.8        2,702.6        2,988.2        3,448.3        3,961.2     

Two years later

    53.1        398.3        983.5        1,778.8        2,153.1        2,536.0        2,662.5        2,937.6        3,363.5       

Three years later

    52.4        381.2        952.1        1,726.4        2,114.8        2,480.0        2,621.4        2,858.2         

Four years later

    49.5        369.5        928.4        1,687.2        2,066.4        2,405.3        2,546.9           

Five years later

    47.3        365.0        910.5        1,641.2        2,008.1        2,342.7             

Six years later

    45.1        357.1        890.2        1,608.2        1,964.2               

Seven years later

    44.2        342.2        870.2        1,575.9                 

Eight years later

    40.6        328.5        859.6                   

Nine years later

    37.5        325.2                     

Ten years later

    36.7                       

Cumulative redundancy

    44.7        157.0        220.6        273.0        387.5        298.6        240.1        151.4        177.1        137.4     

Cumulative paid losses, net of reinsurance recoveries, as of:

                     

One year later

    9.0        88.0        399.7        332.4        585.1        534.2        677.0        550.3        712.9        835.7     

Two years later

    18.7        152.6        452.5        815.4        931.9        1,002.1        1,080.9        1,101.5        1,172.4       

Three years later

    19.6        156.3        555.1        1,083.3        1,240.0        1,227.0        1,501.9        1,394.7         

Four years later

    25.4        203.3        597.7        1,310.0        1,379.4        1,520.0        1,694.3           

Five years later

    27.7        210.4        652.4        1,397.9        1,579.1        1,619.5             

Six years later

    30.5        225.2        682.2        1,528.8        1,637.9               

Seven years later

    31.3        233.8        717.9        1,579.3                 

Eight years later

    31.6        244.9        726.4                   

Nine years later

    34.7        249.8                     

Ten years later

    34.7                       

 

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Analysis of Consolidated Loss and Loss Expense Reserve Development Gross of Reinsurance Recoverables

 

    As at December 31,  
    2002     2003     2004     2005     2006     2007     2008     2009     2010     2011     2012  
    ($ in millions)  

Estimated liability for unpaid losses and loss expenses, gross of reinsurance recoverables

    93.9        525.8        1,277.9        3,041.6        2,820.0        2,946.0        3,070.3        3,331.1        3,820.5        4,525.2        4,779.7   

Liability re-estimate as of:

                     

One year later

    88.4        455.4        1,260.0        3,048.3        2,739.9        2,883.3        3,041.9        3,338.3        3,773.6        4,396.4     

Two years later

    69.7        433.5        1,174.9        3,027.6        2,634.6        2,896.1        3,011.3        3,330.4        3,689.5       

Three years later

    69.0        403.7        1,157.4        2,957.4        2,625.9        2,853.5        2,994.3        3,260.4         

Four years later

    61.8        398.5        1,134.1        2,943.6        2,589.0        2,792.3        2,938.2           

Five years later

    65.2        393.5        1,118.4        2,909.5        2,541.3        2,733.1             

Six years later

    62.7        386.1        1,098.4        2,886.0        2,497.3               

Seven years later

    62.2        371.6        1,082.2        2,854.8                 

Eight years later

    58.6        360.0        1,071.4                   

Nine years later

    55.4        357.1                     

Ten years later

    54.6                       

Cumulative redundancy (deficiency)

    39.3        168.7        206.5        186.8        322.7        212.9        132.1        70.7        131.0        128.8     

For additional information concerning our reserves, see Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Part II, Item 8, “Financial Statements and Supplementary Data.”

Investments

The Investment Committee of the Board establishes investment guidelines and supervises our investment activity. The Investment Committee regularly monitors our overall investment results and reviews compliance with our investment objectives and guidelines. These guidelines specify minimum criteria on the overall credit quality and liquidity characteristics of the portfolio. They include limitations on the size of certain holdings as well as restrictions on purchasing certain types of securities. Management and the Investment Committee review our investment performance and assess credit and market risk concentrations and exposures to issuers.

We follow an investment strategy designed to emphasize the preservation of capital and provide sufficient liquidity for the prompt payment of claims. As of December 31, 2012, our investments consisted of a diversified portfolio of fixed income securities, global equities and money market funds.

For 2012, we engaged BlackRock Financial Management Inc., Alliance Capital Management L.P., Amundi (UK) Limited, Deutsche Investment Management Americas Inc., Pacific Investment Management Company LLC, Goldman Sachs Asset Management L.P. and Conning Asset Management Limited to provide investment advisory and management services for our portfolio of fixed income and equity assets. We replaced Amundi (UK) Limited with Conning Asset Management Limited in August 2012. We have agreed to pay investment management fees based on the average market values of total assets held under management at the end of each calendar quarter. These agreements may be terminated generally by either party on short notice without penalty.

The total return of our portfolio of fixed income investments, cash and cash equivalents for the twelve months ended December 31, 2012 was 2.9% (2011 — 4.7%). Total return is calculated based

 

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on total net investment return, including interest on cash equivalents and any change in unrealized gains/losses on our investments, divided by the average market value of our investments and cash balances during the twelve months ended December 31, 2012.

Fixed Income Portfolio.  We employ an active investment strategy that focuses on the outlook for interest rates, the yield curve and credit spreads. In addition, we manage the duration of our fixed income portfolio having regard to the average liability duration of our reinsurance and insurance risks.

BB Securities.  In September 2012, we established a bespoke portfolio to invest in U.S. Dollar BB High Yield bonds (“BB High Yield Bonds”) and in October 2012 amended the portfolio guidelines to allow investment in U.S. Dollar BB Bank Loans (“BB Bank Loans”). As of December 31, 2012, the portfolio had $24.6 million invested in BB High Yield Bonds and $Nil in BB Bank Loans.

We continue to maintain our $1 billion interest rate swaps program to mitigate the negative impact of rises in interest rates on the market value of our fixed income portfolio. The interest rate swaps reduce the fixed income portfolio duration by 0.53 years. At December 31, 2012, the fixed income portfolio duration was 2.47 years including the impact of swaps and 3.00 years excluding the impact of swaps. At December 31, 2011, the fixed income portfolio duration was 2.88 years excluding the impact of swaps and 2.21 years including the impact of swaps. As of December 31, 2012, the fixed income portfolio book yield was 2.9% compared to 3.4% as of December 31, 2011.

We employ several third-party investment managers to manage our fixed income assets. We agree separate investment guidelines with each investment manager. These investment guidelines cover, among other things, counterparty limits, credit quality, and limits on investments in any one sector. We expect our investment managers to adhere to strict overall portfolio credit and duration limits to ensure that a minimum “AA–” credit rating for the aggregate fixed income portfolio is maintained.

The following presents the cost or amortized cost, gross unrealized gains and losses, and estimated fair market value of available for sale investments in fixed income maturities, short-term investments and equity securities as at December 31, 2012 and 2011:

 

     As at December 31, 2012  
     Cost or
Amortized Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair Market
Value
 
     ($ in millions)  

U.S. Government

   $ 1,071.8       $ 54.8       $ (0.3   $ 1,126.3   

U.S. Agency

     288.3         20.3                308.6   

Municipal

     37.2         2.6         (0.1     39.7   

Corporate

     1,889.2         149.9         (0.6     2,038.5   

Non-U.S. Government-backed Corporate

     98.0         3.1                101.1   

Foreign Government

     617.0         24.1         (0.1     641.0   

Asset-backed

     49.2         4.6                53.8   

Non-agency Commercial Mortgage-backed

     61.7         9.4                71.1   

Agency Mortgage-backed

     1,116.1         61.2         (0.1     1,177.2   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total Fixed Income Maturities — Available for Sale

     5,228.5         330.0         (1.2     5,557.3   

Total Short-term Investments — Available for Sale

     431.5                        431.5   

Total Equity Securities — Available for Sale

     174.0         28.2         (2.1     200.1   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 5,834.0       $ 358.2       $ (3.3   $ 6,188.9   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

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     As at December 31, 2011  
     Cost or
Amortized Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair Market
Value
 
     ($ in millions)  

U.S. Government

   $ 873.9       $ 58.5       $      $ 932.4   

U.S. Agency

     271.7         23.8                295.5   

Municipal

     33.6         2.0                35.6   

Corporate

     1,722.6         127.7         (3.8     1,846.5   

FDIC Guaranteed Corporate

     72.5         0.4                72.9   

Non-U.S. Government-backed Corporate

     163.9         3.9                167.8   

Foreign Government

     632.1         28.4         (0.1     660.4   

Asset-backed

     56.4         4.6                61.0   

Non-agency Commercial Mortgage-backed

     77.1         8.3                85.4   

Agency Mortgage-backed

     1,195.9         72.5         (0.1     1,268.3   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total Fixed Income Maturities — Available for Sale

     5,099.7         330.1         (4.0     5,425.8   

Total Short-term Investments — Available for Sale

     298.2                        298.2   

Total Equity Securities — Available for Sale

     169.8         15.1         (5.4     179.5   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 5,567.7       $ 345.2       $ (9.4   $ 5,903.5   
  

 

 

    

 

 

    

 

 

   

 

 

 

The following tables present the cost or amortized cost, gross unrealized gains and losses, and estimated fair market value of trading investments in fixed income maturities, short-term investments and equity securities as at December 31, 2012 and 2011:

 

     As at December 31, 2012  
     Cost or
Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair Market
Value
 
     ($ in millions)  

U.S. Government

   $ 9.3       $ 0.2       $ (0.1   $ 9.4   

U.S. Agency

     0.2                        0.2   

Municipal

     2.8         0.1                2.9   

Corporate

     392.0         22.7         (0.3     414.4   

Foreign Government

     24.4         1.9                26.3   

Asset-backed

     2.9                        2.9   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total Fixed Income Maturities — Trading

   $ 431.6       $ 24.9       $ (0.4   $ 456.1   

Total Short-term Investments — Trading

     2.4                        2.4   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 434.0       $ 24.9       $ (0.4   $ 458.5   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

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     As at December 31, 2011  
     Cost or
Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair Market
Value
 
     ($ in millions)  

U.S. Government

   $ 30.3       $ 2.0       $      $ 32.3   

U.S. Agency

     1.6         0.2                1.8   

Municipal

     2.8         0.1                2.9   

Corporate

     337.9         15.6         (4.2     349.3   

Foreign Government

     7.1         0.3                7.4   

Asset-backed

     0.7                        0.7   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total Fixed Income Maturities — Trading

   $ 380.4       $ 18.2       $ (4.2   $ 394.4   

Total Short-Term Investments — Trading

     4.1                        4.1   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 384.5       $ 18.2       $ (4.2   $ 398.5   
  

 

 

    

 

 

    

 

 

   

 

 

 

As at December 31, 2012, we held 111 fixed maturities (December 31, 2011 — 155 fixed maturities) in an unrealized loss position with a fair value of $376.1 million (2011 — $227.4 million) and gross unrealized losses of $1.2 million (2011 — $4.0 million). We believe that the gross unrealized losses are attributable mainly to a combination of widening credit spreads and interest rate movements. We have assessed these securities which are in an unrealized loss position and believe the decline in value to be temporary.

U.S. Government and Agency Securities.  U.S. government and agency securities are composed of bonds issued by the U.S. Treasury and corporate debt issued by agencies such as Government National Mortgage Association (“GNMA”), Federal National Mortgage Association (“FNMA”), Federal Home Loan Mortgage Corporation (“FHLMC”) and Federal Home Loan Bank.

Corporate Securities.  Corporate securities are composed of short-term, medium-term and long-term debt issued by corporations and supra-national entities.

Foreign Government Securities.  Foreign government securities are composed of bonds issued and guaranteed by foreign governments such as the U.K., Australia, Canada, Germany and France.

Municipal Securities.  Municipal securities are composed of bonds issued by U.S. municipalities.

Asset-Backed Securities.  Asset-backed securities are securities backed by notes or receivables against assets other than real estate.

Mortgage-Backed Securities.  Mortgage-backed securities are securities that represent ownership in a pool of mortgages. Both principal and income are backed by the group of mortgages in the pool. They include bonds issued by government-sponsored enterprises such as FNMA, FHLMC and GNMA.

Short-Term Investments.  Short-term investments comprise highly liquid debt securities with a maturity greater than three months but less than one year from the date of purchase and are held as part of the investment portfolio of the Company. Short-term investments are classified as either trading or available for sale according to the facts and circumstances of the investment held, and carried at estimated fair value.

 

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Equity Securities.  Equity securities are comprised of U.S. and foreign equity securities and are classified as available for sale or trading. The portfolio invests in global equity securities with attractive dividend yields.

Interest rate swaps.  As at December 31, 2012, we held fixed for floating interest rate swaps with a total notional amount of $1.0 billion (2011 — $1.0 billion) that are due to mature between June 4, 2013 and November 9, 2020. The swaps are used in the ordinary course of our investment activities to partially mitigate the negative impact of rises in interest rates on the market value of our fixed income portfolio.

For additional information concerning the Company’s investments, see Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, Note 6 in our consolidated financial statements, “Investments,” and Note 7 in our consolidated financial statements, “Fair Value Measurements.”

For additional information concerning Other-than-temporary Impairment of Investments, see Note 2(c) in our consolidated financial statements, “Basis of Preparation and Significant Accounting Policies — Accounting for Investments, Cash and Cash Equivalents.”

Competition

The insurance and reinsurance industries are highly competitive. We compete with major U.S., U.K., European and Bermudian insurers and reinsurers and underwriting syndicates from Lloyd’s, some of which have greater financial, marketing and management resources than us, as well as participants in the alternative capital markets such as Nephila and Aeolus. We compete with insurers that provide property and casualty-based lines of insurance and reinsurance, some of which may be more specific to a particular product or geographical area.

In our reinsurance segment, we compete principally with Arch Capital Group Ltd., Axis Capital Holdings Limited (“Axis”), Endurance Specialty Holdings Ltd. (“Endurance”), Everest Re Group Limited, Lancashire Holdings Limited, Montpelier Re Holdings Limited, PartnerRe Ltd., Platinum Underwriters Holdings Ltd., Renaissance Re Holdings Ltd., Validus Holdings Ltd., XL Capital Ltd. (“XL”) and various Lloyd’s syndicates.

In our insurance segment competition varies significantly on the basis of product and geography.

Competition in the types of business that we underwrite is based on many factors, including:

 

   

the experience of the management in the line of insurance or reinsurance to be written;

 

   

financial ratings assigned by independent rating agencies and actual and perceived financial strength;

 

   

responsiveness to clients, including speed of claims payment;

 

   

services provided, products offered and scope of business (both by size and geographic location);

 

   

relationships with brokers;

 

   

premiums charged and other terms and conditions offered; and

 

   

reputation.

 

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Increased competition could result in fewer submissions, lower rates charged, slower premium growth and less favorable policy terms, which could adversely impact our growth and profitability.

Ratings

Ratings by independent agencies are an important factor in establishing the competitive position of insurance and reinsurance companies and are important to our ability to market and sell our products. Rating organizations continually review the financial positions of insurers, including us. As of February 15, 2013, our Operating Subsidiaries are rated as follows:

 

Aspen U.K.

  

A.M. Best

   A (Excellent) (third highest of fifteen levels)

S&P

   A (Strong) (seventh highest of twenty-two levels)

Moody’s

   A2 (Good) (eighth highest of twenty-three levels)

Aspen Bermuda

  

A.M. Best

   A (Excellent) (third highest of fifteen levels)

S&P

   A (Strong) (seventh highest of twenty-two levels)

Moody’s

   A2 (Good) (eighth highest of twenty-three levels)

Aspen Specialty

  

A.M. Best

   A (Excellent) (third highest of fifteen levels)

AAIC

  

A.M. Best

   A (Excellent) (third highest of fifteen levels)

These ratings reflect A.M. Best’s, S&P’s and Moody’s respective opinions of Aspen U.K.’s, Aspen Bermuda’s, Aspen Specialty’s and AAIC’s ability to pay claims and are not evaluations directed to investors in our ordinary shares and other securities and are not recommendations to buy, sell or hold our ordinary shares and other securities. A.M. Best maintains a letter scale rating system ranging from “A++” (Superior) to “F” (in liquidation). S&P maintains a letter scale rating system ranging from “AAA” (Extremely Strong) to “R” (under regulatory supervision). Moody’s maintains a letter scale rating system ranging from “Aaa” (Exceptional) to “C” (Lowest). Aspen Specialty’s and AAIC’s ratings reflect the Aspen group rating issued by A.M. Best.

These ratings are subject to periodic review by, and may be revised downward or revoked at the sole discretion of, A.M. Best, S&P and Moody’s.

Employees

As of December 31, 2012, we employed 835 persons through the Company and our subsidiaries, Aspen Bermuda, Aspen U.K. Services and Aspen U.S. Services, none of whom was represented by a labor union.

As at December 31, 2012 and 2011, our employees were located in the following countries:

 

Country

   As at
December 31,
2012
     As at
December 31,
2011
 

United Kingdom

     450         446   

United States

     272         251   

Bermuda

     48         51   

France

     5         4   

Switzerland

     35         28   

Singapore

     14         10   

Ireland

     8         9   

Germany

     3         3   
  

 

 

    

 

 

 

Total

     835         802   
  

 

 

    

 

 

 

 

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Regulatory Matters

General

The business of insurance and reinsurance is regulated in most countries, although the degree and type of regulation varies significantly from one jurisdiction to another.

The discussion below summarizes the material laws and regulations applicable to our Operating Subsidiaries. In addition, our Operating Subsidiaries have met and exceeded the solvency margins and ratios applicable to them.

Bermuda Regulation

General.  The Insurance Act 1978 of Bermuda and related rules and regulations, as amended (the “Insurance Act”), regulates the insurance business of Aspen Bermuda, and provides that no person may carry on any insurance business in or from within Bermuda unless registered as an insurer by the Bermuda Monetary Authority (the “BMA”). Of the six classifications of insurers carrying on general business, Aspen Bermuda is registered as a Class 4 insurer which is the highest classification.

The Insurance Act requires Aspen Bermuda to appoint and maintain a principal representative resident in Bermuda and to maintain a principal office in Bermuda. The principal representative must be knowledgeable in insurance and is responsible for arranging the maintenance and custody of the statutory accounting records and for filing the annual Statutory Financial Return and Capital and Solvency Return. The principal representative is also responsible for notifying the BMA where the principal representative believes there is a likelihood of the insurer becoming insolvent or that a reportable “event” under the Insurance Act has, to the principal representative’s knowledge, occurred or believed to have occurred.

The Insurance Act imposes solvency, capital adequacy and liquidity standards and auditing and reporting requirements. It also grants the BMA powers to supervise, investigate, require information and the production of documents, and intervene in the affairs of insurance companies. Significant requirements include the appointment of an independent auditor, the appointment of a loss reserve specialist and the filing of the required annual returns with the BMA.

Supervision, Investigation and Intervention.  The BMA may appoint an inspector with extensive powers to investigate the affairs of Aspen Bermuda if it believes that such an investigation is in the best interests of its policyholders or persons who may become policyholders. In order to verify or supplement information otherwise provided to the BMA, the BMA may direct Aspen Bermuda to produce documents or information relating to matters connected with its business. If it appears to the BMA that there is a risk of Aspen Bermuda becoming insolvent, or being in breach of the Insurance Act, or any conditions imposed upon its registration under the Insurance Act, the BMA may, among other things, direct Aspen Bermuda: (i) not to take on any new insurance business; (ii) not to vary any insurance contract if the effect would be to increase its liabilities; (iii) not to make certain investments; (iv) to realize certain investments; (v) to maintain in or transfer to the custody of a specified bank certain assets; (vi) not to declare or pay any dividends or other distributions, or to restrict the making of such payments; (vii) to limit its premium income; (viii) to remove a controller or officer; and/or (ix) to file a petition for the winding up of the insurer.

Restrictions on Dividends and Distributions.  Aspen Bermuda and Aspen Holdings must comply with the provisions of the Bermuda Companies Act 1981, as amended, (the “Companies Act”)

 

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regulating the payment of dividends and distributions. A Bermuda company may not declare or pay a dividend or make a distribution out of contributed surplus if there are reasonable grounds for believing that: (a) the company is, or would after the payment be, unable to pay its liabilities as they become due; or (b) the realizable value of the company’s assets would thereby be less than its liabilities. Further, an insurer may not declare or pay any dividends during any financial year if it would cause the insurer to fail to meet its relevant margins, and an insurer which fails to meet its relevant margins on the last day of any financial year may not, without the approval of the BMA, declare or pay any dividends during the next financial year. In addition, as a Class 4 insurer, Aspen Bermuda may not in any financial year pay dividends which would exceed 25% of its total statutory capital and surplus, as shown on its statutory balance sheet in relation to the previous financial year, unless it files with the BMA a solvency affidavit at least seven days in advance. Further, Aspen Bermuda must obtain the prior approval of the BMA before reducing by 15% or more its total statutory capital as set out in its previous year’s financial statements.

Enhanced Capital Requirements and Minimum Solvency.  The BMA has introduced a risk-based capital adequacy model called the Bermuda Solvency Capital Requirement (“BSCR”) for Class 4 insurers like Aspen Bermuda to assist the BMA both in measuring risk and in determining appropriate levels of capitalization. The BSCR employs a standard mathematical model that correlates the risk underwritten by Bermuda insurers to the capital that is dedicated to their business. The BSCR applies a standard measurement format to the risk associated with an insurer’s assets, liabilities and premiums, including a formula to take account of the catastrophe risk exposure. Aspen Bermuda must maintain available capital and surplus in an amount equal to or exceeding its enhanced capital requirements (“ECR”) calculated using the BSCR model.

In order to minimize the risk of a shortfall in capital arising from an unexpected adverse deviation, the BMA expects that insurers operate at or above a threshold captive level (termed the target capital level (“TCL”)), which exceeds an insurer’s ECR. The TCL for a Class 4 insurer is set at 120% of ECR. Aspen Bermuda holds capital in excess of its TCL.

As a Class 4 Insurer, Aspen Bermuda is also required to meet a minimum margin of solvency being equal to the greater of:

(a) $100,000,000;

(b) 50% of net premiums written (being gross premiums written less any premiums ceded by the insurer, but the insurer may not deduct more than 25% of gross premiums when computing net premiums written) in its current financial year; or

(c) 15% of net losses and loss expense reserves.

The BMA has also introduced a three tiered capital system for Class 4 insurers designed to assess the quality of capital resources that an insurer has available to meet its capital requirements. The tiered capital system classifies all capital instruments into one of three tiers based on their “loss absorbency” characteristics with the highest quality capital classified as Tier 1 Capital and lesser quality capital classified as either Tier 2 Capital or Tier 3 Capital. Only Tier 1 and Tier 2 Capital may be used to support an insurer’s minimum solvency margin. Only certain percentages of Tier 1, 2 and 3 Capital may be used to satisfy an insurer’s ECR. Any combination of Tier 1, 2 or 3 Capital may be used to meet the TCL.

Class 4 insurers are also required to perform an assessment of their own risk and solvency requirements, referred to as a Commercial Insurer’s Solvency Self Assessment (“CISSA”). The CISSA

 

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allows the BMA to obtain an insurer’s view of the capital resources required to achieve its business objectives and to assess the company’s governance, risk management and controls surrounding this process. Class 4 insurers must also file with the BMA a Catastrophe Risk Return which assesses an insurer’s reliance on vendor models in assessing catastrophe exposure.

Minimum Liquidity Ratio.  The Insurance Act provides a minimum liquidity ratio for general business insurers, like Aspen Bermuda. An insurer engaged in general business is required to maintain the value of its relevant assets at not less than 75% of the amount of its relevant liabilities. Relevant assets include, but are not limited to, cash and time deposits, quoted investments, unquoted bonds and debentures, first liens on real estate, investment income due and accrued, accounts and premiums receivable, reinsurance balances receivable and funds held by ceding reinsurers. There are certain categories of assets which, unless specifically permitted by the BMA, do not automatically qualify as relevant assets, such as unquoted equity securities, investments in and advances to affiliates and real estate and collateral loans. The relevant liabilities are total general business insurance reserves and total other liabilities less deferred income tax, sundry liabilities (by interpretation, those not specifically defined), and letters of credit and guarantees.

Change of Controller and Officer Notifications.  Under the Insurance Act, each shareholder or prospective shareholder will be responsible for notifying the BMA in writing of his becoming a shareholder controller, directly or indirectly, of 10%, 20%, 33% or 50% of Aspen Holdings and ultimately Aspen Bermuda within 45 days of becoming such a controller. The BMA may serve a notice of objection on any shareholder controller of Aspen Bermuda if it appears to the BMA that the person is no longer fit and proper to be such a controller. Aspen Bermuda is required to notify the BMA in writing in the event of any person becoming or ceasing to be a controller, a controller being a managing director, chief executive or other person in accordance with whose directions or instructions the directors of Aspen Bermuda are accustomed to act, including any person who holds, or is entitled to exercise, 10% or more of the voting shares or voting power or is able to exercise a significant influence over the management of Aspen Bermuda.

Each of Aspen Holdings and Aspen Bermuda are required to notify the BMA in writing in the event any person has become or ceased to be an officer of it, an officer being a director, chief executive or senior executive performing duties of underwriting, actuarial, risk management, compliance, internal audit, finance or investment matters.

The Bermuda Insurance Code of Conduct.  The BMA has implemented an insurance code, the Insurance Code of Conduct (the “Bermuda Insurance Code”), which came into effect on July 1, 2010.

The Code is divided into six categories, including:

(1) Proportionality Principle;

(2) Corporate Governance;

(3) Risk Management;

(4) Governance Mechanism;

(5) Outsourcing; and

(6) Market Discipline and Disclosure.

 

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These categories contain the duties, requirements and compliance standards to be adhered to by all insurers.

Group Supervision.  The BMA has implemented a framework for group supervision. The BMA has notified Aspen Holdings that it is the group supervisor of the Aspen group of companies and has designated Aspen Bermuda as the designated insurer. Key elements of the framework for group supervision are:

 

   

the Insurance (Group Supervision) Rules 2011, as amended (“Group Supervision Rules”), sets out the rules in respect of: the assessment of the financial situation and solvency of an insurance group, the system of governance and risk management of the insurance group; and supervisory reporting and disclosures of the insurance group. The majority of the Group Supervision Rules came into operation on January 1, 2013. However, certain sections came into operation on January 16, 2012 which include that every insurance group must prepare (a) consolidated financial statements of the parent company of the group, (b) financial statements of the parent company of the group, and (c) annual statutory financial return, each of which is to be prepared in accordance with the Group Supervision Rules. The transition period for insurers to bring their capital instruments in compliance with the BMA’s eligible capital standards is ten years, i.e., to January 1, 2024; and

 

   

the Insurance (Prudential Standards) (Insurance Group Solvency Requirement) Rules 2011, as amended (“Group Solvency Rules”), which came into operation on January 16, 2012. The Group Solvency Rules set out the rules in respect of the capital and solvency return and ECR for an insurance group. The BMA has by notice to the public dated November 14, 2012 advised that the ECR for insurance groups has been suspended until January 1, 2014.

U.K. and E.U. Regulation

General.  The Financial Services Authority (the “FSA”) is the single statutory regulator responsible for regulating the financial services industry in respect of the carrying on of “regulated activities” (including insurance, investment management, deposit taking and most other financial services carried on by way of business in the U.K.). Aspen U.K. has received authorization from the FSA to effect and carry out contracts of insurance (which includes reinsurance) in the U.K. in all classes of general (non-life) business. An insurance company with FSA authorization to write insurance business in the U.K. may provide cross-border services in other member states of the European Economic Area (“EEA”) subject to notifying the FSA prior to commencement of the provision of services and the FSA not having good reason to refuse consent. As an alternative, such an insurance company may establish a branch office within another member state. Aspen U.K. has notified the FSA of its intention to write insurance and reinsurance business in other EEA member states. As a result, Aspen U.K. is licensed to write insurance business under the “freedom of services” and under the “freedom of establishment” rights contained in the European Council’s Insurance Directives within the EEA members states and as a general insurer is also able to carry out reinsurance business on a cross-border services basis across the EEA. The FSA remains responsible for the supervision of Aspen U.K.’s European branches.

The FSA has extensive powers to intervene in the affairs of an authorized person, culminating in the ultimate sanction of the removal of authorization to carry on a regulated activity. The FSA has power, among other things, to enforce and take disciplinary measures in respect of breaches of its rules by authorized firms and approved persons.

 

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Supervision.  The FSA visited Aspen U.K. in October 2011 and carried out a risk assessment and high level review of our Individual Capital Assessment (“ICA”). The FSA highlighted in its report a small number of areas where it intended to perform additional work, none of which are deemed to be material.

Restrictions on Dividend Payments.  The company law of England and Wales prohibits Aspen U.K. from declaring a dividend to its shareholders unless it has “profits available for distribution.” The determination of whether a company has profits available for distribution is based on its accumulated realized profits less its accumulated realized losses. While the U.K. insurance regulatory laws impose no statutory restrictions on a general insurer’s ability to declare a dividend, the FSA’s rules require each insurance company within its jurisdiction to maintain its solvency margin at all times.

Solvency Requirements.  Aspen U.K. is required to maintain a margin of solvency at all times, the calculation of which depends on the type and amount of insurance business written. The method of calculation of the solvency margin (or “capital resources requirement”) is set out in the FSA’s Prudential Sourcebook for Insurers, and for these purposes, all assets and liabilities are subject to specific valuation rules.

In addition to its required minimum solvency margin, each insurance company is required to calculate an ECR, which is a measure of the capital resources a firm may need to hold, based on risk-sensitive calculations applied to a company’s business profile which includes capital charges based on assets, claims and premiums. An insurer is also required to maintain financial resources which are adequate, both as to amount and quality, to ensure that there is no significant risk that its liabilities cannot be met as they fall due. This process is called the ICA. As part of the ICA, the insurer is required to take comprehensive risk factors into account, including market, credit, operational, liquidity and group risks, and to carry out stress and scenario tests to identify an appropriate range of realistic adverse scenarios in which the risk crystallizes and to estimate the financial resources needed in each of the circumstances and events identified. The FSA may give individual capital guidance to insurers and reinsurers following receipt of ICAs. If the FSA considers that there are insufficient capital resources it can give guidance advising the insurer of the amount and quality of capital resources it considers necessary for that insurer. Additionally, Aspen U.K. is required to meet local capital requirements for its branches in Canada, Singapore, Australia and its insurance branch in Switzerland. Aspen U.K. holds capital in excess of all of its regulatory capital requirements.

An insurer that is part of a group is also required to perform and submit to the FSA a solvency margin calculation return in respect of its ultimate parent undertaking, in accordance with the FSA’s rules. This return is not part of an insurer’s own solvency return and is not publicly available. Although there is no requirement for the parent undertaking solvency calculation to show a positive result where the ultimate parent undertaking is outside the EEA, the FSA may take action where it considers that the solvency of the U.K. insurance company is or may be jeopardized due to the group solvency position. Further, an insurer is required to report in its annual returns to the FSA all material related party transactions (e.g., intra-group reinsurance, whose value is more than 5% of the insurer’s general insurance business amount).

An E.U. directive covering the capital adequacy, risk management and regulatory reporting for insurers, known as Solvency II, was adopted by the European Parliament in April 2009. Until recently the anticipated implementation date of this legislation was January 1, 2014; however, in the light of delays in the parliamentary process within Europe, the FSA has confirmed that the official Solvency II implementation date of January 1, 2014 is no longer tenable. For more information regarding the risks associated with Solvency II, please refer to Item 1A, “Risk Factors.”

 

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Change of Control.  The FSA regulates the acquisition of “control” of any U.K. insurance company and Lloyd’s managing agent which are authorized under Financial Services and Markets Act (“FSMA”). Any company or individual that (together with any person with whom it or he is “acting in concert”) directly or indirectly acquires 10% or more of the shares in a U.K. authorized insurance company or Lloyd’s managing agent, or their parent company, or is entitled to exercise or control the exercise of 10% or more of the voting power in such authorized insurance company or Lloyd’s managing agent or their parent company, would be considered to have acquired “control” for the purposes of the relevant legislation, as would a person who had significant influence over the management of such authorized insurance company or their parent company by virtue of his shareholding or voting power in either. A purchaser of 10% or more of the ordinary shares would therefore be considered to have acquired “control” of Aspen U.K. or AMAL. Under FSMA, any person proposing to acquire “control” over a U.K. authorized insurance company must give prior notification to the FSA of his intention to do so. The FSA would then have sixty working days to consider that person’s application to acquire “control.” Failure to make the relevant prior application could result in action being taken against Aspen U.K. or AMAL (as relevant) by the FSA. Failure to make the relevant prior application would constitute criminal offence. A person who is already deemed to have “control” will require prior approval of the FSA if such person increases their level of “control” beyond certain percentages. These percentages are 20%, 30% and 50%.

Changes to U.K. Regulation.   In June 2010, the U.K. Chancellor announced changes to the way in which financial services firms will be regulated. These changes include separating the regulation of prudential and conduct operations — both currently regulated by the FSA — into two new operations: the Prudential Regulation Authority (“PRA”) and the Financial Conduct Authority (“FCA”). This is also known as the “twin peaks” operating model.

The PRA and FCA are expected to officially come into existence on April 1, 2013 (known as “Legal cutover”), subject to the Financial Services Bill being approved by Parliament. Once implemented, regulated firms, such as Aspen U.K., will be supervised separately by the PRA and FCA, with the two organizations working to different objectives as follows:

 

   

prudential supervision under the PRA will continue to have dedicated resources supervising firms; and

 

   

conduct supervision under the FCA will focus more on thematic work, and less on firm-specific work.

The PRA and FCA are expected to coordinate closely and share information and data on regulated firms.

Branch Regulations

Switzerland

General.  Aspen U.K. established a branch in Zurich, Switzerland to write property and casualty reinsurance. The Federal Office of Private Insurance, a predecessor to the Financial Markets Supervisory Authority (“FINMA”) confirmed that the Swiss branch of Aspen U.K. for its reinsurance operations is not subject to its supervision under the Insurance Supervision Act (Switzerland), so long as the Swiss branch only writes reinsurance. If Swiss legislation is amended, the Swiss reinsurance branch may be subject to supervision by FINMA in the future.

 

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On October 29, 2010, Aspen U.K. received approval from FINMA to establish another branch in Zurich, Switzerland to write insurance products. The activities of the Switzerland insurance branch are regulated by FINMA pursuant to the Insurance Supervision Act (Switzerland).

Supervision.  Currently, the FSA assumes regulatory authority over the Swiss reinsurance branch, while FINMA assumes regulatory authority over the insurance branch. FINMA has not conducted a review of the Swiss insurance branch of Aspen U.K.

Singapore

General.  On June 23, 2008, Aspen U.K. received approval from the Monetary Authority of Singapore (“MAS”) to establish a branch in Singapore. The activities of the Singapore branch are regulated by the MAS pursuant to The Insurance Act of Singapore. Aspen U.K. is also registered by the Accounting and Corporate Regulatory Authority (“ACRA”) as a foreign company in Singapore and in that capacity is separately regulated by ACRA pursuant to The Companies Act of Singapore.

Supervision.  The MAS conducted a review in June 2011 of the Singapore branch of Aspen U.K. No material issues were identified.

Canada

General.  Aspen U.K. has a Canadian branch whose activities are regulated by the Office of the Superintendent of Financial Institutions (“OSFI”). OSFI is the federal regulatory authority that supervises federal Canadian and non-Canadian insurance companies operating in Canada pursuant to the Insurance Companies Act (Canada). In addition, the branch is subject to the laws and regulations of each of the provinces and territories in which it is licensed.

Supervision.  OSFI carried out an inspection visit to the Canadian branch of Aspen U.K. in November 2009. No material issues were identified.

Australia

General.  On November 27, 2008, Aspen U.K. received authorization from the Australian Prudential Regulation Authority (“APRA”) to establish a branch in Australia. The activities of the Australian branch are regulated by APRA pursuant to the Insurance Act of Australia 1973. Aspen U.K. is also registered by the Australian Securities and Investments Commission as a foreign company in Australia under the Corporations Act of Australia 2001.

Supervision.  APRA undertook a review of Aspen U.K.’s Australian branch in June 2009. No material issues were identified.

For additional information on our branches, refer to Note 18(a) of our consolidated financial statements, “Commitments and Contingencies — Restricted Assets.”

Other Applicable FSA Regulations

General.  We purchased APJ Services Limited, a U.K. based insurance broker in 2010. APJ Services Limited, now AUSSL, is authorized and regulated by the FSA. On September 7, 2012, the FSA authorized ARML as a general insurance intermediary. ARML was previously exempt from authorization by Aspen U.K. as an Appointed Representative. Both companies are subject to a separate prudential regime and other requirements for insurance intermediaries under the FSA Handbook.

 

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Lloyd’s Regulation

General.  We participate in the Lloyd’s market through our ownership of AMAL and AUL. AMAL is the managing agent for Syndicate 4711. AUL provides underwriting capacity to Syndicate 4711 and is a Lloyd’s corporate member. Our Lloyd’s operations are subject to regulation by the FSA, as established by FSMA. We received FSA authorization on March 28, 2008 for AMAL. Our Lloyd’s operations are also subject to supervision by the Council of Lloyd’s. We received authorization from Lloyd’s for Syndicate 4711 on April 4, 2008. The FSA has been granted broad authorization and intervention powers as they relate to the operations of all insurers, including Lloyd’s syndicates, operating in the U.K. Lloyd’s is authorized by the FSA and is required to implement certain rules prescribed by the FSA, which it does by the powers it has under the Lloyd’s Act 1982 relating to the operation of the Lloyd’s market. Lloyd’s prescribes, in respect of its managing agents and corporate members, certain minimum standards relating to their management and control, solvency and various other requirements. The FSA directly monitors Lloyd’s managing agents’ compliance with the FSA’s own regulatory requirements. If it appears to the FSA that either Lloyd’s is not fulfilling its regulatory responsibilities or that managing agents are not complying with the applicable regulatory rules and guidance, the FSA may intervene in accordance with its powers under the FSMA. By entering into a membership agreement with Lloyd’s, AUL undertakes to comply with all Lloyd’s bye-laws and regulations as well as the provisions of the Lloyd’s Acts and FSMA that are applicable to it. The operation of Syndicate 4711, as well as AMAL and their respective directors, are subject to the Lloyd’s supervisory regime.

Supervision.  AMAL was in scope for the FSA risk assessment visit performed in October 2011. The FSA highlighted in its report a small number of areas where it intended to perform additional work, none of which are deemed to be material.

Solvency Requirements.  Underwriting capacity of a member of Lloyd’s must be supported by providing a deposit (referred to as “Funds at Lloyd’s”) in the form of cash, securities or letters of credit in an amount determined under the ICA regime of the FSA as noted above. The amount of such deposit is calculated for each member through the completion of an annual capital adequacy exercise. Under these requirements, Lloyd’s must demonstrate that each member has sufficient assets to meet its underwriting liabilities plus a required solvency margin. This margin can have the effect of reducing the amount of funds available to distribute as profits to the member or increasing the amount required to be funded by the member to cover its solvency margin.

Restrictions.  A Reinsurance to Close (“RTC”) is a reinsurance contract to transfer the responsibility for discharging all the liabilities that attach to one year of account of a syndicate into a later year of account of the same or different syndicate in return for a premium. An RTC is put in place after the third year of operations of a syndicate year of account. If the managing agency concludes that an appropriate RTC for a syndicate that it manages cannot be determined or negotiated on commercially acceptable terms in respect of a particular underwriting year, the underwriting year must remain open and be placed into run-off. During this period there cannot be a release of the Funds at Lloyd’s of a corporate member that is a member of that syndicate without the consent of Lloyd’s and such consent will only be considered where the member has surplus Funds at Lloyd’s.

Intervention Powers.  The Council of Lloyd’s has wide discretionary powers to regulate members’ underwriting at Lloyd’s. It may, for instance, change the basis on which syndicate expenses are allocated or vary the Funds at Lloyd’s or the investment criteria applicable to the provision of Funds at Lloyd’s. Exercising any of these powers might affect the return on an investment of the corporate

 

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member in a given underwriting year. Further, the annual business plans of a syndicate are subject to the review and approval of the Lloyd’s Franchise Board. The Lloyd’s Franchise Board was formally constituted on January 1, 2003 through the Franchise Board Directorate. The Franchise Board is responsible for setting risk management and profitability targets for the Lloyd’s market and operates a business planning and monitoring process for all syndicates.

If a member of Lloyd’s is unable to pay its debts to policyholders, such debts may be payable by the Lloyd’s Central Fund, which in many respects acts as an equivalent to a state guaranty fund in the United States. If Lloyd’s determines that the Central Fund needs to be increased, it has the power to assess premium levies on current Lloyd’s members. The Council of Lloyd’s has discretion to call or assess up to 3% of a member’s underwriting capacity in any one year as a Central Fund contribution. Above this level, it requires consent of members voting at a general meeting.

States of Jersey Regulation

General.  On March 22, 2010, we purchased APJ Jersey, a Jersey registered insurance company, which is subject to the jurisdiction of the Jersey Financial Services Commission (“JFSC”). The JFSC sets the solvency regime for those insurance companies under its jurisdiction. APJ Jersey holds funds in excess of the minimum requirement.

Supervision.  JFSC undertook a review of APJ Jersey in November 2009 just prior to our purchase of the company. No material matters were brought to the attention of APJ Jersey’s prior management arising from that review.

U.S. Regulation

General.  We write surplus lines policies on an approved, non-admitted basis through Aspen Specialty and Aspen U.K. Aspen Specialty is an insurance company domiciled and licensed in North Dakota. It is eligible to write surplus lines policies on a non-admitted basis in 48 U.S. states and the District of Columbia. Aspen Specialty accepts business only through surplus lines brokers and does not market directly to the public.

AAIC is a Texas-domiciled insurance company and is licensed to write insurance on an admitted basis in the 50 U.S. states, the District of Columbia and the U.S. Virgin Islands.

Aspen U.K. is writing surplus lines business in certain states, as noted above. Aspen U.K. appears on the Quarterly Listing of the International Insurers Department of the National Association of Insurance (“IID List”). Pursuant to IID requirements, Aspen U.K. has established a U.S. surplus lines trust fund with a U.S. bank to secure U.S. surplus lines policies. As of December 31, 2012, Aspen U.K.’s surplus lines trust fund was $104.2 million. As noted above, we participate in the Lloyd’s market through our ownership of AMAL and AUL; AMAL is the managing agent for Syndicate 4711, and AUL provides underwriting capacity to Syndicate 4711 and is therefore a Lloyd’s corporate member. Syndicate 4711 also appears on the IID List.

Following the enactment of the Non-Admitted and Reinsurance Reform Act (the “NRRA”) as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), as of July 22, 2011, no U.S. state can prohibit a surplus lines broker from placing business with a non-admitted insurer domiciled outside the U.S., such as Aspen U.K., that appears on the IID List. As a matter of U.S. federal law, this means that Aspen U.K. should be eligible in every U.S. state, even in states where Aspen U.K. had not previously been an eligible surplus lines insurer.

 

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Certain jurisdictions also require annual requalification filings from Aspen U.K. to maintain the company’s surplus lines eligibility. Such filings customarily include financial and related information, updated national and state-specific business plans, descriptions of reinsurance programs, updated officers’ and directors’ biographical affidavits and similar information. As a result of the Dodd-Frank Act, such state regulatory filings for non-U.S. surplus lines insurers should be eliminated. IID filing and eligibility requirements were amended in February 2012 and, among other changes, beginning January 1, 2013, new company applicants are required to report and continually maintain a capital and/or surplus amount of $45 million. This minimum capital/surplus requirement will apply to all IID listed companies, such as Aspen U.K., reporting year-end 2013 financial results to the IID.

Aspen Specialty and Aspen U.K. are subject to limited state insurance regulations in states where they are surplus lines eligible. Specifically, rate and form regulations otherwise applicable to authorized insurers generally do not apply to Aspen Specialty and Aspen U.K.’s surplus lines transactions. In addition, U.S. solvency regulation tools, including risk-based capital standards, investment limitations, credit for reinsurance and holding company filing requirements, otherwise applicable to authorized insurers do not generally apply to alien surplus lines insurers such as Aspen U.K. However, Aspen U.K. may be subject to state-specific incidental regulations in areas such as those pertaining to post-disaster Emergency Orders. We monitor all states for such activities and comply as necessary with pertinent legislation or insurance department directives, for all affected subsidiaries.

Aspen Management is a Massachusetts corporation licensed as a surplus line broker in Massachusetts, Connecticut, New York and Texas. ASIS is a California limited liability company licensed as a surplus line broker in California. Aspen Solutions is a Connecticut limited liability company licensed as a surplus line broker in Connecticut. Aspen Management, ASIS and Aspen Solutions serve as surplus line brokers only for companies within the Aspen Group, and do not act on behalf of non-Aspen third parties or market directly to the public.

Aspen Re America is a Delaware corporation and functions as a reinsurance intermediary with offices in Connecticut, Florida, Georgia, Illinois and New York. ARA-CA is a California limited liability company and is licensed as a California reinsurance intermediary. Aspen Re America and ARA-CA both act as brokers for Aspen U.K. only and do not currently serve as intermediaries for non-Aspen third parties or market directly to the public.

Aspen U.S. Services is a Delaware corporation that provides administrative and technical services to the above U.S. entities, primarily from our Rocky Hill, Connecticut office. It is authorized to do business in the various states where we have physical offices. No filings are required with state insurance departments.

U.S. Insurance Holding Company Regulation.  Aspen U.S. Holdings is a Delaware corporation and is the direct holding company parent of all above U.S. entities. Aspen Specialty and its affiliates are subject to the insurance holding company laws of North Dakota and AAIC and its affiliates are subject to the insurance holding company laws of Texas. The holding company laws require that each insurance company within the holding company system furnish annual information about certain transactions with affiliated companies. Generally, all material transactions among companies in the holding company system affecting Aspen Specialty or AAIC, including sales, loans, reinsurance agreements, service agreements and dividend payments, must be fair and, if material or of a specified category, require prior notice and approval or non-disapproval by the North Dakota Commissioner of Insurance (“NDCI”) for Aspen Specialty, or the Texas Commissioner of Insurance (“TCI”) for AAIC.

 

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The National Association of Insurance Commissioners (“NAIC”) has recently adopted amendments to the model holding company law and regulations, expanding upon the regulation of holding company systems (the “Model HCA Amendments”). The Model HCA Amendments include the following: (i) annual submission of an enterprise risk report by the domestic insurer’s ultimate controlling person identifying the material risks within the insurance holding company system that could pose enterprise risk to such insurer; and (ii) prior notice of the proposed divestiture of a controlling interest in a domestic insurer. Therefore, to the extent such Model HCA Amendments are adopted by the states, Aspen Holdings will be required to file an enterprise risk report under applicable state law. With respect to Texas and North Dakota, only Texas has adopted the Model HCA Amendments in substantial part, and there are currently no laws pending in North Dakota with respect thereto. Adoption of the Model HCA Amendments in other states such as North Dakota is expected by January 1, 2016, pursuant to certain NAIC guidelines.

Change of Control.  Before a person can acquire control of a U.S. domestic insurer, prior written approval must be obtained from the insurance commissioner of the state where the insurer is domiciled, or the acquirer must make a disclaimer of control filing with the insurance department of such state and obtain approval thereon. Prior to granting approval of an application to acquire control of a domestic insurer, the domiciliary state insurance commissioner will consider such factors as the financial strength of the proposed acquirer, the integrity and management of the acquirer’s Board of Directors and executive officers, the acquirer’s plans for the future operations of the domestic insurer and any anti-competitive results that may arise from the consummation of the acquisition of control. Generally, state insurance statutes provide that control over a domestic insurer is presumed to exist if any person, directly or indirectly, owns, controls, holds with the power to vote, or holds proxies representing, 10% or more of the voting securities of the domestic insurer. Because a person acquiring 10% or more of Aspen Holdings’ ordinary shares would indirectly acquire the same percentage of common stock of Aspen Holdings’ U.S. operating subsidiaries, the U.S. insurance change of control laws will likely apply to such a transaction. These laws may discourage potential acquisition proposals and may delay, deter or prevent a change of control of Aspen Holdings, including through transactions, and in particular unsolicited transactions, that some or all of the shareholders of Aspen Holdings might consider to be desirable.

State Insurance Regulation.  State insurance authorities have broad authority to regulate admitted insurance business, including licensing, admitted assets, capital and surplus, regulating unfair trade and claims practices, establishing reserve requirements or solvency standards, filing of rates and forms and regulating investments and dividends.

AAIC and Aspen Specialty prepare statutory financial statements in accordance with Statutory Accounting Principles (“SAP”) and procedures prescribed or permitted by applicable domiciliary states. State insurance laws and regulations require Aspen Specialty and AAIC to file statutory financial statements with insurance departments in every state where they are licensed. State insurance departments also conduct periodic examinations of the books and records, financial reporting, policy filings and market conduct of insurance companies licensed in their states, generally once every three to five years. Examinations are generally carried out in cooperation with the insurance departments of other states under guidelines promulgated by the NAIC.

State Dividend Limitations.  Under North Dakota law, Aspen Specialty may only pay dividends out of earned surplus as distinguished from contributed surplus. Under Texas law, AAIC’s policyholder surplus after payment of a dividend shall be an amount reasonable in relation to AAIC’s outstanding liabilities and adequate to AAIC’s financial needs.

 

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In addition, the ability of Aspen Specialty or AAIC to declare extraordinary dividends is subject to prior approval of the applicable state insurance regulator. North Dakota and Texas define an extraordinary dividend as a dividend that exceeds, together with all dividends declared or distributed by the insurer within the preceding twelve months, the greater of:

 

   

10% of its policyholders surplus as of the 31st day of December of the preceding year; or

 

   

the statutory net income, not including realized capital gains for the 12-month period ending, for the preceding calendar year (the 31st day of December next preceding).

Any dividend paid by Aspen Specialty and AAIC is paid to Aspen U.S. Holdings. Aspen U.S. Holdings and any other Aspen holding company entities must also meet their own dividend eligibility requirements in order to pass along any dividends received from subsidiary insurance companies such as Aspen Specialty and AAIC.

The dividend limitations imposed by North Dakota and Texas insurance laws are based on the financial results of the Company’s U.S. operating subsidiaries determined by using SAP accounting practices, which differ in certain respects from accounting principles used in financial statements prepared in conformity with U.S. GAAP. The significant differences relate to deferred acquisition expenses, deferred income taxes, required investment reserves, reserve calculation assumptions and surplus notes. At December 31, 2011, Aspen Specialty and AAIC did not have earned surplus and therefore could not declare or distribute dividends in 2012.

State Risk-Based Capital Regulations.  Most states require their domestic insurers to annually report their risk-based capital based on a formula that takes into account the risk characteristics of the insurer, including asset risk, insurance risk, interest rate risk and business risk. The states use the formula as an early warning regulatory tool to identify possibly inadequately capitalized insurers for the purposes of initiating regulatory action, and not as a means to rank insurers generally. Most states’ insurance law imposes broad confidentiality requirements on those engaged in any manner in the insurance business and on the regulator as to the use and publication of risk-based capital data. The regulator typically has explicit regulatory authority to require various actions by, or to take various actions against, insurers whose total adjusted capital does not exceed certain risk-based capital levels.

Statutory Accounting Principles.  SAP is a basis of accounting developed to assist insurance regulators in monitoring and regulating the solvency of insurance companies. SAP is primarily concerned with measuring an insurer’s surplus to policyholders. Accordingly, statutory accounting focuses on valuing assets and liabilities of insurers at financial reporting dates in accordance with appropriate insurance law and regulatory provisions applicable in each insurer’s domiciliary state.

U.S. GAAP is concerned with a company’s solvency, but it is also concerned with other financial measurements, such as income and cash flows. Accordingly, U.S. GAAP gives more consideration to appropriate matching of revenue and expenses and accounting for management’s stewardship of assets than does SAP. As a direct result, different assets and liabilities and different amounts of assets and liabilities will be reflected in financial statements prepared in accordance with U.S. GAAP as opposed to SAP.

SAP, which is established by the NAIC and adopted by the Departments of Insurance of most states, determines, among other things, the amount of statutory surplus and statutory net income of our U.S. Operating Subsidiaries and thus determines, in part, the amount of funds they have available to pay as dividends to parent company entities.

 

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Guaranty Funds and Residual Market Mechanisms.  Licensed and admitted U.S. insurers such as AAIC are required to participate in various state residual market mechanisms whose goal is to provide affordability and availability of insurance to those consumers who may not otherwise be able to obtain insurance, including, for example catastrophe insurance in high-risk areas. The mechanics of how each state’s residual markets operate may differ, but generally, risks are either assigned to various private carriers or the state manages the risk through a pooling arrangement. If losses exceed the funds the pool has available to pay those losses, the pools have the ability to assess insurers to provide additional funds to the pool. The amounts of the assessment for each company are normally based upon the proportion of each insurer’s (and in some cases the insurer’s and its affiliates’) written premium for coverages similar to those provided by the pool, and are frequently uncapped. State guaranty associations also have the ability to assess licensed U.S. insurers in order to provide funds for payment of losses for insurers which have become insolvent. In many cases, but not all, assessed insurers may recoup the amount of these guaranty fund and state pool assessments through premium rates, premium tax credits or policy surcharges.

Operations of Aspen U.K. and Aspen Bermuda.  Aspen U.K. and Aspen Bermuda are not admitted to engage in the business of insurance in the U.S., although Aspen U.K. is eligible to write surplus lines business in 51 U.S. jurisdictions as an alien, non-admitted insurer. The laws of most states regulate or prohibit the sale of insurance and reinsurance within their jurisdictions by non-admitted insurers and reinsurers. We do not intend that Aspen Bermuda maintain an office or solicit, advertise, settle claims or conduct other insurance activities in any jurisdiction other than Bermuda where the conduct of such activities would require Aspen Bermuda to be so admitted. However, Aspen Bermuda is authorized by the BMA to write excess casualty insurance business for U.S. insureds. This effectively means that U.S. insureds are able to go out of state directly to Aspen Bermuda to insure their risks without the involvement of a local surplus line broker. Aspen U.K. does not maintain an office in the U.S. but it reinsures U.S. primary risk and writes excess and surplus lines business as an eligible, but non-admitted, alien surplus lines insurer. It accepts business only through U.S. licensed surplus lines brokers and does not market directly to the public. Although it does not underwrite or handle claims directly in the U.S., Aspen U.K. may grant limited underwriting authorities and retain third-party administrators, duly licensed, for the purpose of facilitating U.S business. Aspen U.K. has also issued limited underwriting authorities to various affiliated U.S. entities described above.

In addition to the regulatory requirements imposed by the jurisdictions in which they are licensed, reinsurers’ business operations are affected by regulatory requirements in various U.S. states governing “credit for reinsurance” laws imposed on ceding companies. In general, a ceding company which obtains reinsurance from a reinsurer that is licensed, accredited or approved by the jurisdiction or state in which the reinsurer files statutory financial statements is permitted to reflect in its statutory financial statements a credit in an aggregate amount equal to the liability for unearned premiums (which are that portion of premiums written which applies to the unexpired portion of the policy period) and loss reserves and loss adjustment expense reserves ceded to the reinsurer. Aspen Bermuda is not licensed, accredited or approved in any state in the United States. The great majority of states, however, permit a credit to statutory surplus resulting from reinsurance obtained from a non-licensed or non-accredited reinsurer to the extent that the reinsurer provides a letter of credit or other acceptable security arrangement. A few states do not allow credit for reinsurance ceded to non-licensed reinsurers except in certain limited circumstances and others impose additional requirements that make it difficult to become accredited.

For its U.S. reinsurance activities, Aspen U.K. has established and must retain a multi-beneficiary U.S. trust fund for the benefit of its U.S. cedants so that they are able to take financial statement credit

 

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for reinsurance without the need for Aspen U.K. to post contract-specific security. The minimum trust fund amount is $20 million plus an amount equal to 100% of Aspen U.K.’s U.S. reinsurance liabilities, which were $1,170.5 million and $1,289.1 million at December 31, 2011 and 2012, respectively. In the past, Aspen U.K. has applied for “trusteed reinsurer” approvals in states where U.S. cedants are domiciled and is currently an approved trusteed reinsurer in 49 U.S. jurisdictions.

As a result of the Dodd-Frank Act, only a ceding insurer’s state of domicile can dictate the credit for reinsurance requirements. Other states in which a ceding insurer is licensed will no longer be able to require additional collateral from non-admitted reinsurers or otherwise impose their own credit for reinsurance laws on ceding insurers domiciled in other states. In addition, several states have begun efforts to change their credit for reinsurance laws and regulations as Florida and New York already have, so that qualifying non-admitted reinsurers meeting certain minimum rating and capital requirements would, upon application to the state Insurance Departments, be permitted to post less than the 100% collateral currently required in most U.S. states. As collateral reduction efforts continue, we will continue to monitor developments. Aspen U.K. and Aspen Bermuda intend to seek approval to post reduced collateral in relevant states.

Lloyd’s is licensed as a market in Illinois, Kentucky and the U.S Virgin Islands to write insurance business. It is also eligible to write surplus lines and reinsurance business in all other U.S. states and territories. Lloyd’s as a whole makes certain returns to U.S. regulators and each syndicate makes returns to the New York Insurance Department with respect to its surplus lines and reinsurance business. Separate trust funds are in place to support this business.

 

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Item 1A. Risk Factors

We outline below factors that could cause our actual results to differ materially from those in the forward-looking and other statements contained in this report and other documents that we file with the United States Securities and Exchange Commission (the “SEC”). The risks and uncertainties described below are not the only ones we face. However, these are the risks we believe to be material as of the date of this report. Additional risks not presently known to us or that we currently deem immaterial may also impair our future business or operating results. Any of the risks described below could result in a significant or material adverse effect on our operating results or financial condition.

Introduction

As with any publicly traded company, investing in our equity and debt securities carries risks. Our risk management strategy is designed to identify, measure, monitor and manage material risks that could adversely affect our financial condition and operating results and we have invested significant resources to develop the appropriate risk management policies and procedures to implement this strategy. Nonetheless, the future business environment is intrinsically uncertain and difficult to forecast and our risk management methods may not be successful for this reason or because of other unintended weaknesses in our approach.

We set out below the risks that we have identified using the classification system that we use in our risk management process.

For this purpose, we divide risks into core and non-core risks. Core risks comprise those risks which are inherent in the operation of our business including insurance risks in respect of our underwriting operations and market and liquidity risks in respect of our investment activity. We intentionally expose the Company to core risks with a view to generating shareholder value, but seek to manage the resulting volatility in our earnings and financial condition to within the limits defined by our risk appetite. However, these core risks are intrinsically difficult to measure and manage and we may not therefore be successful in this respect.

All other risks, including regulatory and operational risks, are classified as non-core. We seek as far as is practicable and economic to avoid or minimize our exposure to non-core risks that we identify as potentially material.

Insurance Risks

Our financial condition and operating results may be adversely affected by the occurrence of natural catastrophic events.

As part of our insurance and reinsurance operations, we assume substantial exposure to losses resulting from natural catastrophic events including, but not limited to, severe weather, floods, wildfires, volcanic eruptions, earthquakes and tsunamis. The severe weather events to which we are exposed include tropical storms, cyclones, hurricanes, winter storms, tornadoes, hailstorms and severe rainfall causing flash floods.

The incidence, severity and magnitude of such catastrophes are inherently unpredictable and our losses from catastrophes have been and can be substantial. The occurrence of large claims from catastrophic events may result in substantial volatility in, and materially affect, our financial condition, operating results for any fiscal quarter or year and our ability to write new business.

 

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We expect that increases in the values and concentrations of insured property will increase the severity of such occurrences in the future and that climate change may increase the frequency and severity of severe weather events and flooding. Although we attempt to manage our exposure to these events through a multitude of approaches including geographic diversification, geographical limits, individual policy limits, exclusions or limitations from coverage and purchase of reinsurance, these management tools may not react in the way that we expect. In addition, a single catastrophic event could affect multiple geographic zones or the frequency or severity of catastrophic events could exceed our estimates, either of which could have a material adverse effect on our business, financial condition or operating results.

The models we use to assess our exposure to losses from future natural catastrophes contain inherent uncertainties and our actual losses may therefore differ significantly from expectations.

To help assess our exposure to losses from natural catastrophes we use computer-based models, which simulate multiple scenarios using a variety of assumptions. These models are developed in part by third-party vendors and their effectiveness relies on many inputs and assumptions including, but not limited to, scientific research, historical data, exposure data provided by insureds and reinsureds, data on the terms and conditions of insurance policies, and the professional judgment of our employees and other industry specialists. While the models have evolved considerably over time they do not necessarily accurately measure the statistical distribution of future losses due to the inherent limitations of the inputs and assumptions on which they rely. These limitations are evidenced by significant variation in the results obtained from different models, material changes in model results over time due to refinement of the underlying data elements and assumptions and the uncertain predictive capability and performance of industry models over longer time intervals.

The effect of these limitations is that future losses from catastrophic events may be larger and more frequent than expected and larger or more frequent than those reported in the company’s financial statements to date.

The frequency and severity of weather-related catastrophes may increase due to cyclical variations in climate and global climate change.

Weather patterns, including the frequency and severity of severe weather events, are believed to be influenced by cyclical phenomena operating over periods of months or years.

For example, many observers believe that the Atlantic basin is in the active phase of a multi-decadal cycle in which conditions in the ocean and atmosphere, including warmer than average sea-surface temperatures and low wind shear, enhance hurricane activity. This increase in the number and intensity of tropical storms and hurricanes can span multiple decades (approximately 20 to 30 years). There have been larger than long term average numbers of Atlantic tropical storms and hurricanes in recent years although the impact on insurance losses is determined not by the number of storms that form, but by the number making landfall in populated areas with high insured values.

There is widespread consensus in the scientific community that there is a long term upward trend in global air and sea temperatures and that this is likely to increase the frequency and severity of severe weather events over the coming decades. In addition, rising sea levels are expected to add to the risks associated with coastal flooding in many areas.

 

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Given the scientific uncertainty of predicting the effect of climate cycles and climate change on the frequency and severity of catastrophes and the lack of adequate predictive tools, we may not be able to adequately model the associated exposures and potential losses which could have a material adverse effect on our financial condition or operating results.

Our operating results may be adversely affected by one or more large losses from events other than natural catastrophes.

Large losses from single events can occur if we are exposed to such events through more than one insurance or reinsurance contract. Such losses are referred to as “clash losses.” Our results can be adversely affected if there is an unexpectedly large number of clash losses in a period or if there is one or more such loss of unexpectedly large value.

We seek to manage our exposure to large losses from events other than natural catastrophes by identifying possible scenarios under which we could be exposed and limiting our exposure to these potential scenarios.

Some of the more significant scenarios which we have identified in this respect are terrorist attacks, fire, explosion or spill at a refinery or offshore oil and gas installation, a poison gas cloud, the collapse of a major office building, accidents at nuclear power stations, the collision of two ships and the loss of a passenger airplane.

These risks are inherently unpredictable. It is difficult to predict the frequency of events of this nature and to estimate the amount of loss that any given occurrence will generate. To the extent that losses from these risks occur, our financial condition and operating results could be materially adversely affected.

Our operating results may be adversely affected by an unexpected accumulation of attritional losses.

In addition to our exposures to natural catastrophe and other large losses as discussed above, our operating results may also be adversely affected by unexpectedly large accumulations of smaller losses. We seek to manage this risk by using appropriate underwriting processes to guide the pricing and acceptance of risks. These processes, which include pricing models where appropriate, are intended to ensure that premiums received are sufficient to cover the expected levels of attritional loss as well as a contribution to the cost of natural catastrophes and large losses where necessary. However, it is possible that our underwriting approaches or our pricing models may not work as intended in this respect and that actual losses from a class of risks may be greater than expected thus causing adverse variation in our financial condition and/or operating results.

The effects of emerging claim and coverage issues on our business are uncertain.

Claim and coverage issues can arise when the application of insurance or reinsurance policy language to potentially covered claims is unclear or disputed by the parties. When new such issues emerge they may adversely affect our business by either extending coverage beyond our underwriting intent or by increasing the number or size of claims. In some instances, these changes may not become apparent until some time after we have issued insurance or reinsurance contracts that are affected by the changes. As a result, the full extent of our liability under insurance or reinsurance policies may not be known for many years after the policies are issued. Emerging claim and coverage issues could therefore have an adverse effect on our operating results and financial condition.

 

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In particular, our exposure to casualty reinsurance and insurance lines increases our potential exposure to this risk due to the uncertainties of expanded theories of liability and the “long-tail” nature of these lines of business.

We may face increased exposure as a result of litigation related to the 2008 crisis in financial markets and subsequent recessions, volatility in capital and credit markets, distressed financial institutions and sovereign debt crises. These economic and market conditions may increase allegations of misconduct, fraud and negligence, which may result in increased levels of insured claims arising in lines of business such as financial institutions, management liability and professional liability and in reinsurance of these lines. The full extent of our liability and exposure to claims of this sort may not be known for many years. This could adversely affect our financial condition or operating results.

The monetary impact of certain claims may be hard to predict or ascertain upon inception and potential losses from such claims can be significant. For example, the full extent of our liability and exposure from claims of ‘bad faith’ is not ascertainable until the claim has been presented and investigated. As such, a significant claim in monetary terms on the basis of ‘bad faith’ could adversely affect our financial condition or operating results.

The insurance and reinsurance business is historically cyclical and we expect to experience periods with excess underwriting capacity and unfavorable premium rates and policy terms and conditions.

Historically the insurance and reinsurance industry has been cyclical. It is characterized by periods of intense competition on price and policy terms due to excessive underwriting capacity as well as periods when shortages of capacity permit favorable premium levels. In addition, any prolonged economic downturn could result in reduced demand for insurance and reinsurance products which could adversely impact the pricing of our products. The supply of insurance and reinsurance may increase, either by capital provided by new entrants or by the commitment of additional capital by existing or new insurers or reinsurers, which may cause prices to decrease. Any of these factors could lead to a significant reduction in premium rates, less favorable policy terms and fewer submissions for our underwriting services. In addition to these considerations, changes in the frequency and severity of losses suffered by insureds and insurers may affect the cycles of the insurance and reinsurance business significantly, and we expect to experience the effects of such cyclicality. To the extent these trends emerge, our financial condition or operating results could be adversely affected.

A material proportion of our business relies on the assessment and pricing of individual risks by third parties, including insurance companies which we reinsure and agents to whom we delegate underwriting authority for certain insurance products.

From time to time, we authorize managing general agents, general agents and other producers to write business on our behalf within underwriting authorities prescribed by us. We rely on the underwriting controls of these agents to write business within the underwriting authorities provided by us. Although we monitor our underwriting on an ongoing basis, our monitoring efforts may not be adequate and our agents may exceed their underwriting authorities or otherwise breach obligations owed to us. If our agents exceed their authorities or otherwise breach obligations owed to us, our operating results and financial condition may be materially adversely affected.

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risks assumed under most reinsurance treaties. Therefore, we are largely dependent on the original underwriting decisions made by ceding companies. We are subject to the risk that the ceding companies may not have adequately evaluated the risks to be reinsured and that the premiums ceded to us may not adequately compensate us for the risks we assume and the losses we may incur.

The failure of any risk management and loss limitation methods we employ could have a material adverse effect on our financial condition and operating results.

We seek to mitigate our loss exposure by writing a number of our insurance and reinsurance contracts on an excess of loss basis, such that we only pay losses that exceed a specified retention. We also seek to limit certain risks, such as natural catastrophe and political risks by geographic diversification. Geographic zone limitations involve significant underwriting judgments, including the determination of zone boundaries and the allocation of policy limits to zones. In the case of proportional property reinsurance treaties, we seek per occurrence limitations or loss and loss expense ratio caps to limit the impact of losses from any one event, though we may not be able to obtain such limits in certain markets.

Various provisions of our policies, such as limitations or exclusions from coverage and choice of forum, intended to limit our risks may not be enforceable. We cannot be sure that any of these loss limitation methods will be effective or that disputes relating to coverage will be resolved in our favor. As a result of the risks that we insure and reinsure, unforeseen events could result in claims that substantially exceed our expectations, which could have a material adverse effect on our financial condition or operating results.

Reinsurance purchase is another loss limitation method we employ which may not always act in the way intended due to disputes relating to coverage or exclusions.

The reinsurance that we purchase may not always be available on favorable terms or we may choose to retain a higher proportion of particular risks than in previous years.

From time to time, market conditions have limited, and in some cases have prevented, insurers and reinsurers from obtaining the types and amounts of reinsurance that they consider adequate for their business needs. Accordingly, we may not be able to obtain our desired amount of reinsurance or retrocession protection on terms that are acceptable to us from entities with a satisfactory credit rating. We also may choose to retain a higher proportion of particular risks than in previous years due to pricing, terms and conditions or strategic emphasis. We may seek alternative means to transfer risk, such as catastrophe bonds, contingent capital arrangements and other capital market solutions. These solutions may not provide commensurate levels of protection compared to traditional retrocession. Our inability to obtain adequate reinsurance or other protection for our own account could have a material adverse effect on our business, operating results and financial condition.

Our financial condition and operating results may be adversely affected if actual claims exceed our loss reserves.

Our operating results and financial condition depend upon our ability to accurately assess the potential losses associated with the risks that we insure and reinsure. Establishing an appropriate level of loss reserves is an inherently uncertain process. To the extent actual claims exceed our expectations, we will be required immediately to recognize the less favorable experience. This could cause a

 

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material increase in our provisions for liabilities and a reduction in our profitability, including operating losses and reduction of capital. If natural catastrophic events or other large losses occur, we may fail to adequately estimate our reserve requirements and our actual losses and loss expenses may deviate, perhaps substantially, from our reserve estimates.

Only reserves applicable to losses incurred up to the reporting date may be set aside in our financial statements, with no allowance for future losses. See Item 1 above, “Business — Reserves” and Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for further description of our reserving process and methodology.

There are specific areas of our selected reserves which have additional uncertainty associated with them. In property reinsurance, there is still the potential for adverse development from litigation associated with Hurricane Katrina and losses related to Superstorm Sandy and the 2011 catastrophe events, in particular the Thai floods. In casualty reinsurance, there are additional uncertainties associated with claims emanating from the global financial crisis and the potential for new types of claim top arise given the long-tail nature of many of the reinsurance risks. In the insurance segment, we wrote a book of financial institutions risks which have a number of notifications relating to the financial crisis in 2008 and 2009 and there is also a specific area of uncertainty relating to a book of New York contractor business.

Our calculation of reserves for losses and loss expenses also includes assumptions about future payments for settlement of claims and claims-handling expenses, such as medical treatment and litigation costs. We write casualty business in the United States, the United Kingdom, Australia and certain other territories, where claims inflation has in many years run at higher rates than general inflation. To the extent inflation causes these costs to increase above reserves established for these claims, we will be required to increase our loss reserves with a corresponding reduction in our net income in the period in which the deficiency is identified. See also Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Market and Liquidity Risks

Our financial condition and financial results may be adversely affected by reductions in the value of our aggregate investment portfolio.

Our funds are invested by several professional investment management firms in accordance with detailed investment guidelines set by us. See “Business — Investments” under Item 1, above. Our investment policies stress diversification of risks, conservation of principal and liquidity through conservative investment guidelines. However, our investments are subject to a variety of financial and capital market risks, including changes in interest rates, credit spreads, equity prices, foreign currency exchange rates, market volatility and risks inherent to particular securities. Prolonged and severe disruptions in the public debt and equity markets, including, among other things, widening of credit spreads, bankruptcies, defaults, and significant ratings downgrades, may cause significant losses in our investment portfolio. Market volatility can make it difficult to value certain securities if their trading becomes infrequent. Depending on market conditions, we could incur substantial additional realized and unrealized investment losses in future periods. Separately, the occurrence of large claims may force us to liquidate securities at an inopportune time, which may cause us to realize capital losses. Large investment losses could decrease our asset base, thereby affecting our ability to underwrite new business. Additionally, such losses could have a material adverse impact on our shareholders’ equity,

 

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business and financial strength and debt ratings. For the twelve months ended December 31, 2012, $204.9 million of our income before tax was derived from our net invested assets.

The aggregate performance of our investment portfolio depends to a significant extent on the ability of our investment managers to select and manage appropriate investments. As a result, we are also exposed to operational risks which may include, but are not limited to, a failure to follow our investment guidelines, technological and staffing deficiencies and inadequate disaster recovery plans. The failure of these investment managers to perform their services in a manner consistent with our expectations and investment objectives could adversely affect our ability to conduct our business.

Unexpected volatility or illiquidity associated with some of our investments could significantly and negatively affect our financial results and ability to conduct business.

We hold, or may in the future purchase, certain investments such as High Yield bonds, Bank Loans, non-agency Residential Mortgage-Backed Securities, Asset-Backed Securities and Commercial Mortgage-Backed Securities which may have less liquidity than other fixed income securities. During the height of the financial crisis some high quality assets were more illiquid than expected. If we require significant amounts of cash on short notice in excess of normal cash requirements, we may have difficulty selling these investments in a timely manner, be forced to sell them for less than we otherwise would have been able to realize, or both. If we were forced to sell our assets in unfavorable market conditions, there can be no assurance that we will be able to sell them for the prices at which we have recorded them and we may be forced to sell them at significantly lower prices. As a result, our business, financial condition or operating results could be adversely affected.

Our financial results may be adversely affected by foreign currency fluctuations.

Our reporting currency is the U.S. Dollar. The functional currencies of our operations are the U.S. Dollar, the British Pound, the Euro, the Swiss Franc, the Australian Dollar, the Canadian Dollar and the Singaporean Dollar. During the course of 2012, the U.S. Dollar/British Pound exchange rate, our most significant exchange rate exposure, fluctuated from a high of £1:$1.6268 to a low of £1:$1.5308. For the twelve months ended December 31, 2012, 2011 and 2010, 17.2%, 18.0% and 19.8%, respectively, of our gross premiums were written in currencies other than the U.S. Dollar and the British Pound. A portion of our loss reserves and investments are also in currencies other than the U.S. Dollar and the British Pound. We may, from time to time, experience losses resulting from fluctuations in the values of these non-U.S./non-British currencies, which could adversely affect our operating results.

We use forward exchange contracts to manage some of our foreign currency exposure. However, it is possible that we will not successfully structure those contracts so as to effectively manage these risks, which could adversely affect our operating results.

The continuation of heightened systemic financial risks, including excess sovereign debt, risks to the banking system and the Eurozone debt crisis, could have a material adverse effect on global and regional economies and capital markets which could adversely affect our business prospects, financial condition, financial results and liquidity.

In recent years, global financial markets have been characterized by volatility and uncertainty. Unfavorable economic conditions could increase our funding costs, limit our access to the capital markets or make credit harder to obtain. Developments in the financial markets may also affect our

 

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counterparties which could adversely affect their ability to meet their obligations to us. In the event of further deterioration or volatility in financial markets or general economic conditions, it could result in a prolonged economic downturn or recession and our operating results, financial position and liquidity could be materially and adversely affected.

In addition, global markets and economic conditions continue to be negatively impacted by the ability of certain Eurozone member states to service their sovereign debt obligations. If the fiscal obligations of these Eurozone member states continue to exceed their fiscal revenue, taking into account the reactions of the credit and swap markets, the ability of such member states to service their debt in a cost efficient manner will be impaired. The continued uncertainty over the outcome of various Eurozone and international financial support programs and the possibility that other Eurozone member states may experience similar financial pressures could further disrupt global markets. In particular, this crisis has disrupted and could further disrupt equity and fixed income markets and could result in volatile and unserviceable bond yields on the sovereign debt of some Eurozone members.

The issues arising out of the current Eurozone debt crisis may cause investors to lose confidence in the safety and soundness of European financial institutions and the stability of Eurozone member economies, and likewise affect U.K. and U.S.- based financial institutions, the stability of the global financial markets and any economic recovery. If a Eurozone member state were to default on its obligations or seek to leave the Eurozone, the impact on the financial and currency markets would be significant and could materially impact all financial institutions, including our business, financial condition, operating results and liquidity.

Credit Risks

Our operating results may be adversely affected by the failure of policyholders, brokers or other intermediaries to honor their payment obligations to us.

In accordance with industry practice, we generally pay amounts owed on claims under our insurance and reinsurance contracts to brokers and these brokers, in turn, pay these amounts over to the clients that have purchased insurance or reinsurance from us. Although the law is unsettled and depends upon the facts and circumstances of the particular case, in some jurisdictions, if a broker fails to make such a payment, in a significant majority of business that we write, it is highly likely that we will be liable to the client for the deficiency because of local laws or contractual obligations. Likewise, when the client pays premiums for these policies to brokers for payment over to us, these premiums are considered to have been paid and, in most cases, the client will no longer be liable to us for those amounts, whether or not we have actually received the premiums. Consequently, we assume a degree of credit risk associated with brokers with respect to most of our insurance and reinsurance business. To date, we have not experienced any material losses related to such credit risks. In addition, bankruptcy, liquidity problems, distressed financial condition or the general effects of economic recession may increase the risk that policyholders may not pay a part of or the full amount of premiums owed to us, despite an obligation to do so. The terms of our contracts may not permit us to cancel our insurance even though we have not received payment. If non-payment becomes widespread, whether as a result of bankruptcy, lack of liquidity, adverse economic conditions, operational failure or otherwise, it could have a material adverse impact on our business and operating results.

 

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Our financial condition and operating results may be adversely affected by the failure of one or more reinsurers to meet their payment obligation to us.

We purchase reinsurance for our own account in order to mitigate the effect of certain large and multiple losses upon our financial condition. Our reinsurers are dependent on their ratings in order to continue to write business, and some have suffered downgrades in ratings as a result of their exposures in the past. Our reinsurers may also be affected by recent adverse developments in the financial markets, which could adversely affect their ability to meet their obligations to us. A reinsurer’s insolvency, its inability to continue to write business or its reluctance to make timely payments under the terms of its reinsurance agreement with us could have a material adverse effect on us because we may remain liable to our insureds or cedants in respect of the reinsured risks.

The impairment of financial institutions increases our counterparty risk.

We have exposure to many different counterparties, and routinely execute transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks and other institutions. We also hold as investments various fixed income securities issued by financial institutions, which may be unsecured. Many of these transactions expose us to credit risk in the event of default of our counterparty. In addition, with respect to secured transactions, our credit risk may be exacerbated when our collateral cannot be realized or is liquidated at prices not sufficient to recover the full amount of the loan or derivative exposure due to it. Any such losses or impairments to the carrying value of these assets could materially and adversely affect our business and operating results.

Strategic Risks

We operate in a highly competitive environment, and substantial new capital inflows into the insurance and reinsurance industry may increase competition.

Insurance and reinsurance markets remain highly competitive. We continue to compete with existing international and regional insurers and reinsurers some of which have greater financial, marketing and management resources than we do. We also compete with new market entrants and with alternative capital markets, funds and other providers of insurance products such as insurance-linked securities, catastrophe bonds and derivatives. See “Business — Competition” under Item 1, above for a list of our competitors. Recently, insureds have retained a greater proportion of their risk portfolios than previously, and industrial and commercial companies have been increasingly relying upon their own subsidiary insurance companies, and other mechanisms for funding their risks, rather than risk transferring insurance.

Increased competition could result in fewer submissions, lower premium rates, less favorable policy terms and conditions and greater expenses relating to customer acquisition and retention, which could have a material adverse impact on our growth and profitability. We have recently experienced increased competition in some lines of business which has caused a decline in rate increases or a reduction in rates. See Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

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Recent events may result in political, regulatory and industry initiatives which could adversely affect our business.

Governments and regulatory bodies may take unpredictable action to ensure continued supply of insurance, particularly where a given event leads to withdrawal of capacity from the market. For example, as a result of the financial crisis affecting the banking system and financial markets, a number of government initiatives have been launched recently that are designed to stabilize market conditions. The U.S. Federal Government, Federal Reserve, U.K. Treasury and Government and other governmental and regulatory bodies have taken or are considering taking other extraordinary actions to address the global financial crisis. There can be no assurance as to the effect that any such governmental actions will have on the financial markets generally or on our competitive position, business and financial condition in particular, although we continue to monitor these and similar proposals. See “Regulatory Risks” below.

Our Operating Subsidiaries are rated, and our Lloyd’s business benefits from a rating by one or more of A.M. Best, S&P and Moody’s, and a decline in any of these ratings could adversely affect our standing among brokers and customers and cause our premiums and earnings to decrease.

Ratings have become an increasingly important factor in establishing the competitive position of insurance and reinsurance companies. The ratings of our Operating Subsidiaries are subject to periodic review by, and may be placed on credit watch, revised downward or revoked at the sole discretion of, A.M. Best, S&P or Moody’s. If our or Lloyd’s ratings are reduced from their current levels by any of A.M. Best, Moody’s or S&P, our competitive position in the insurance industry might suffer and it might be more difficult for us to market our products, expand our insurance and reinsurance portfolio and renew our existing insurance and reinsurance policies and agreements. A downgrade also may require us to establish trusts or post letters of credit for ceding company clients, and could trigger provisions allowing some clients to terminate their insurance and reinsurance contracts with us. Some contracts also provide for the return of premium to the ceding client in the event of a downgrade. It is increasingly common for our reinsurance contracts to contain such terms. A significant downgrade could result in a substantial loss of business as ceding companies and brokers that place such business move to other reinsurers with higher ratings and therefore may materially and adversely impact our business, operating results, liquidity and financial flexibility.

In addition, a downgrade of the financial strength rating of Aspen U.K., Aspen Bermuda or Aspen Specialty by A.M. Best below “B++” would constitute an event of default under our revolving credit facility with Barclays Bank PLC and other lenders. Similarly, a downgrade of Aspen U.K. and Aspen Bermuda by A.M. Best below “B++” would constitute an event of default under our letter of credit facility with Barclays Bank PLC. A lower rating may lead to higher borrowing costs, thereby adversely impacting our liquidity and financial flexibility.

Acquisitions or strategic investments that we may make could turn out to be unsuccessful.

As part of our long-term strategy, we may pursue growth through acquisitions and/or strategic investments in businesses or new underwriting or marketing platforms. The negotiation of potential acquisitions or strategic investments as well as the integration of an acquired business, new personnel, new underwriting or marketing platforms could result in a substantial diversion of management resources. Acquisitions could involve numerous additional risks such as potential losses from

 

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unanticipated litigation, higher levels of claims than is reflected in reserves and an inability to generate sufficient revenue to offset acquisition costs. Any future acquisitions or strategic investments may expose us to operational risks including:

 

   

integrating financial and operational reporting systems;

 

   

establishing satisfactory budgetary and other financial controls;

 

   

funding increased capital needs and overhead expenses;

 

   

the value of assets acquired may be lower than expected or may diminish due to credit defaults or changes in interest rates and liabilities assumed may be greater than expected; and

 

   

financial exposures in the event that the sellers of the entities we acquire are unable or unwilling to meet their indemnification, reinsurance and other obligations to us.

We have limited experience in identifying quality merger candidates, as well as successfully acquiring and integrating their operations.

Our ability to manage our growth through acquisitions, strategic investments or new platforms will depend, in part, on our success in addressing these risks. Any failure by us to effectively implement our acquisitions or strategic investment strategies could have a material adverse effect on our business, financial condition or operating results.

Since we depend on a few brokers for a large portion of our insurance and reinsurance revenues, loss of business provided by any one of them could adversely affect us.

We market our insurance and reinsurance worldwide primarily through insurance and reinsurance brokers. See Item 1 above, “Business — Business Distribution” for our principal brokers by segment. Several of these brokers also have, or may in the future acquire, ownership interests in insurance and reinsurance companies that compete with us, and these brokers may favor their own insurers or reinsurers over other companies. In addition, as brokers merge with, or acquire, each other, there could be further strain on our ability to access business due to a reduction in distribution channels. Loss of all or a substantial portion of the business provided by one or more of these brokers could have a material adverse effect on our business.

We may require additional capital in the future, which may not be available or may only be available on unfavorable terms.

Our future capital requirements depend on many factors, including our ability to write new business successfully, to deploy capital into more profitable business lines, to identify acquisition opportunities, to manage investments and preserve capital in volatile markets, and to establish premium rates and reserves at levels sufficient to cover losses. We monitor our capital adequacy on an ongoing basis. To the extent that our funds are insufficient to fund future operating requirements and/or cover claims losses, we may need to raise additional funds through corporate finance transactions or curtail our growth and reduce our liabilities. Our additional needs for capital will depend on our actual claims experience, especially for catastrophic events. Any equity, hybrid or debt financing, if available at all, may be on terms that are not favorable to us. In the case of equity financings, dilution to our shareholders could result, and, in any case, such securities may have rights, preferences and privileges that are senior to those of our outstanding securities. If we cannot obtain adequate capital on favorable terms or at all, our business, financial condition and operating results could be adversely affected.

 

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Our debt, credit and International Swap Dealers Association (ISDA) agreements may limit our financial and operational flexibility, which may affect our ability to conduct our business.

We have incurred indebtedness and may incur additional indebtedness in the future. Additionally, we have entered into credit facilities with various institutions. Under these credit facilities, the institutions provide revolving lines of credit to us and our major Operating Subsidiaries and issue letters of credit to our clients in the ordinary course of business. We have also entered into ISDA agreements relating to derivative transactions such as interest rate swaps.

The agreements relating to our debt, credit facilities and our ISDA agreements contain covenants that may limit our ability, among other things, to borrow money, make particular types of investments or other restricted payments, sell assets, merge or consolidate. Some of these agreements also require us to maintain specified ratings and financial ratios, including a minimum net worth covenant. If we fail to comply with these covenants or meet required financial ratios, the lenders or counterparties under these agreements could declare a default and demand immediate repayment of all amounts owed to them.

If we are in default under the terms of these agreements, then we may also be restricted in our ability to declare or pay any dividends, redeem, purchase or acquire any shares or make a liquidation payment and are at risk of cross-default on other arrangements.

The development of our U.S.-based insurance operations is subject to execution risks and increased risk from changing market conditions.

Excess and surplus lines insurance forms a substantial portion of the business written by our U.S.-based insurance operations. Excess and surplus lines insurance covers risks that are typically more complex and unusual than standard risks and require a high degree of specialized underwriting. As a result, excess and surplus lines risks do not often fit the underwriting criteria of standard insurance carriers. Our excess and surplus lines insurance business fills the insurance needs of businesses with unique characteristics and is generally considered higher risk than those in the standard market. If our underwriting staff inadequately judges and prices the risks associated with the business underwritten in the excess and surplus lines market, our financial results could be adversely impacted.

Further, the excess and surplus lines market is significantly affected by the conditions of the property and casualty insurance market in general. This cyclicality can be more pronounced in the excess and surplus market than in the standard insurance market. During times of hard market conditions (when market conditions are more favorable to insurers), as rates increase and coverage terms become more restrictive, business tends to move from the admitted market to the excess and surplus lines market and growth in the excess and surplus market tends to accelerate faster than growth in the standard insurance market. When soft market conditions are prevalent (when market conditions are less favorable to insurers), standard insurance carriers tend to reduce underwriting standards and expand market share by moving into business lines traditionally characterized as excess and surplus lines, exacerbating the effect of rate decreases. If we fail to manage the cyclical nature and volatility of the revenues and profit we generate in the excess and surplus lines market, our financial results could be adversely impacted.

 

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Regulatory Risks

The regulatory systems under which we operate, and potential changes thereto, could have a material adverse effect on our business.

Our Operating Subsidiaries may not be able to maintain necessary licenses, permits, authorizations or accreditations in territories where we currently engage in business or obtain them in new territories, or may be able to do so only at significant cost. In addition, we may not be able to comply fully with, or obtain appropriate exemptions from, the wide variety of laws and regulations applicable to insurance or reinsurance companies or holding companies. Failure to comply with or to obtain appropriate authorizations and/or exemptions under any applicable laws could result in restrictions on our ability to do business or to engage in certain activities that are regulated in one or more of the jurisdictions in which we operate and could subject us to fines and other sanctions, which could have a material adverse effect on our business. In addition, changes in the laws or regulations to which our Operating Subsidiaries are subject could have a material adverse effect on our business. See “Business — Regulatory Matters” in Item 1, above.

Material changes in voting rights and connected party transactions may require regulatory approval or oversight by the FSA or other insurance regulators.

Insurance regulators, such as the FSA and the BMA, impose certain requirements on operating entities they regulate including notification of shareholders, whether directly or indirectly, reaching certain levels of ownership. Prior approval of ownership and transfer of shares by the regulators may be required under certain circumstances. If any entity were to hold 20% or more of the voting rights or 20% or more of the issued ordinary shares of Aspen Holdings, transactions between Aspen U.K. and such entity may have to be reported to the FSA if the value of those transactions exceeds certain threshold amounts that would render them material connected party transactions. In these circumstances, we can give no assurance that these material connected party transactions will not be subject to regulatory intervention by the FSA or other insurance regulators.

Any transactions between companies within the Aspen Group that are material connected party transactions would also have to be reported to the FSA and other insurance regulators. We can give no assurance that the existence or effect of such connected party transactions and the FSA’s or any other insurance regulator’s assessment of the overall solvency of Aspen Holdings and its subsidiaries, even in circumstances where the Operating Subsidiary has on its face sufficient assets of its own to cover its required margin of solvency, would not result in regulatory intervention by the FSA or other insurance regulators with regard to such Operating Subsidiary.

One or more of our insurance subsidiaries may be required by its regulator to hold additional capital to meet relevant solvency requirements.

Any of our Operating Subsidiaries may be required to hold additional capital in order to meet solvency requirements. For example, Aspen U.K. is required to provide the FSA with information about Aspen Holdings’ notional solvency, which involves calculating the solvency position of Aspen Holdings in accordance with the FSA’s rules. In this regard, if Aspen Bermuda, Aspen Specialty, AAIC or Syndicate 4711 were to experience financial difficulties, it could affect the “solvency” position of Aspen Holdings and in turn trigger regulatory intervention by the FSA with respect to Aspen U.K. The FSA requires insurers and reinsurers to calculate their ECR, an indicative measure of

 

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the capital resources a firm may need to hold, based on risk-sensitive calculations applied to its business profile which includes capital charges based on assets, claims and premiums. The FSA may give insurers “individual capital guidance,” which may result in guidance that a company should hold capital in excess of the ECR. These changes may increase the required regulatory capital of Aspen U.K., impacting our profitability.

Among other matters, Bermuda statutes, regulations and policies of the BMA require Aspen Bermuda to maintain minimum levels of statutory capital, surplus and liquidity, to meet solvency standards. The BMA has a risk-based capital adequacy model called the BSCR to assist the BMA both in measuring risk and in determining appropriate levels of capitalization. In 2011, the CISSA for Class 4 insurers was introduced which requires commercial insurers to perform an assessment of their own risk and solvency requirements. The CISSA has the insurer determine the capital resources required to achieve its strategic goal, after it has assessed all reasonably foreseeable material risks arising from its operations or operational environment. These statutes and regulations may, in effect, restrict Aspen Bermuda’s ability to write insurance and reinsurance policies, to make certain investments and to distribute funds.

The E.U. Directive on Solvency II may affect the way in which Aspen U.K. manages its business and may lead to Aspen Bermuda posting collateral in respect of its EEA cedants.

An E.U. directive covering the capital adequacy, risk management and regulatory reporting for insurers, known as Solvency II, was adopted by the European Parliament in April 2009. Solvency II presents a number of risks to Aspen U.K. and AMAL. Insurers are expecting to undertake a significant amount of work to ensure that they will meet the new requirements and this may divert finite resources from other business related activities. In addition, the measures implementing Solvency II are currently subject to a consultation process and are not expected to be finalized until 2015 at the earliest; consequently, Aspen’s implementation plans are based on its current understanding of the Solvency II requirements, which may change. Increases in capital requirements as a result of Solvency II may be required and may impact our operating results. Further, under Solvency II, unless the European Commission assesses the regulatory regime in Bermuda as “equivalent” to Solvency II, then Aspen Bermuda may be required to post collateral in respect of any reinsurance of EEA cedants, including Aspen U.K., which may have a negative impact on Aspen Bermuda’s and Aspen Holdings’ results. Under Solvency II, if a non-EC reinsurer is in a country that is deemed not equivalent, then an EEA cedant may not be able to take any reinsurance into account for solvency purposes unless the non-EC reinsurer is of a certain minimum credit rating or collateral has been provided. Therefore, if Bermuda’s solvency regime is not deemed “equivalent” to Solvency II, then Aspen Bermuda’s EEA cedants may require collateral from Aspen Bermuda in order for the cedant to take credit for such reinsurance. As of January 1, 2011, the European Insurance and Occupational Pensions Authority (“EIOPA”) has replaced the Committee of European Insurance and Pensions Supervisor. EIOPA’s final advice to the European Commission was that Bermuda meets the criteria set out in EIOPA’s methodology for equivalence assessments under Solvency II for insurers of Aspen Bermuda’s class but with certain qualifications.

The activities of any of our insurance subsidiaries may be subject to review by insurance regulators of differing jurisdiction.

Review of the activities of our Operating Subsidiaries by regulators could exceed expectations. For example, Aspen U.K. is authorized to do business in the United Kingdom and has permission to conduct business in Canada, Switzerland, Australia, Singapore, France, Ireland, Germany, all other

 

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EEA states and certain Latin American countries. In addition, Aspen U.K. is eligible to write surplus lines business in 50 U.S. States, the District of Columbia, Puerto Rico and the U.S. Virgin Islands. We can give no assurance, however, that insurance regulators in the United States, Bermuda or elsewhere will not review the activities of Aspen U.K. and assess that Aspen U.K. is subject to such jurisdiction’s licensing or other requirements.

Aspen Bermuda does not maintain a principal office, and its personnel do not solicit, advertise, settle claims or conduct other activities that may constitute the transaction of the business of insurance or reinsurance, in any jurisdiction in which it is not licensed or otherwise not authorized to engage in such activities. Although Aspen Bermuda does not believe it is or will be in violation of insurance laws or regulations of any jurisdiction outside Bermuda, inquiries or challenges to Aspen Bermuda’s insurance or reinsurance activities may still be raised in the future. The offshore insurance and reinsurance regulatory environment has become subject to increased scrutiny in many jurisdictions, including the United States at both Federal and state levels. Compliance with any new laws, regulations or settlements impacting offshore insurers or reinsurers, such as Aspen Bermuda, could have a material adverse effect on our business.

Changes to the Bermuda regulatory system, including changes to its Group Supervisory regime, could have a material adverse effect on our business.

A number of Bermuda registered (re)insurers operates within a group structure. This means that an insurer’s financial position and risk profile, and its overall prudential position, may be impacted by being part of a group. The BMA has therefore established a group supervision framework for insurance groups to (1) ensure solvency at group level, (2) monitor inter-group transactions and (3) assess corporate governance, risk management and internal control processes.

The BMA has notified us that it will act as the group supervisor of the Aspen group of companies and has designated Aspen Bermuda as the designated insurer. As group supervisor, the BMA will (1) assess the Aspen group’s compliance with the BMA’s solvency rules, (2) perform ongoing supervisory review and assessment of the Aspen group’s financial position and governance systems, (3) coordinate the gathering and dissemination of relevant or essential information, (4) convene and conduct supervisory colleges with other supervisory authorities that have regulatory oversight of entities within a group and (5) coordinate any enforcement action that may be taken against any of the members of the Aspen group.

The BMA has published a number of consultation and discussion papers covering the following proposed regulatory changes which may or may not become adopted in present or revised form in the future:

 

   

the introduction, for solvency purposes, of an Economic Balance Sheet to ensure that all assets and liabilities are valued on a consistent economic basis;

 

   

enhancements to the disclosure and transparency regime; and

 

   

the imposition of a minimum, or floor, for the minimum margin of solvency (“MSM”) that would be equal to 25% of the ECR. The MSM floor would apply only at the legal entity level.

Along with the implementation delays announced by the European Commission, the BMA has delayed, or deferred, some aspects of its regime change. For example, the Economic Balance Sheet

 

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process has been deferred to consider the direction of other international bodies such as the IASB. In addition, some aspects of the BMA’s Group Capital requirements and the requirements for the Group Actuary have also been deferred.

We are unable to predict with certainty how these laws, frameworks and/or regulations will be enforced or amended, the form in which any pending or future laws, frameworks and/or regulations could be adopted, the effectiveness of the coordination and cooperation of information sharing among supervisory bodies and regulators, such as the FSA, with the BMA as group supervisor or the effect, if any, any of these developments would have on our operations and financial condition.

The Council of Lloyd’s and the Lloyd’s Franchise Board have wide discretionary powers to supervise members of Lloyd’s.

The Council of Lloyd’s may, for instance, vary the method by which the capital requirement is determined, or the investment criteria applicable to Funds at Lloyd’s. Variance to the capital requirement determination method might affect the maximum amount of the overall premium income that we are able to underwrite. Variation in both might affect our return on investments. The Lloyd’s Franchise Board also has wide discretionary powers in relation to the business of Lloyd’s managing agents, such as AMAL, including the requirement for compliance with the franchise performance and underwriting guidelines. The Lloyd’s Franchise Board imposes certain restrictions on underwriting or on reinsurance arrangements for any Lloyd’s syndicate and changes in these requirements imposed on us may have an adverse impact on our ability to underwrite which in turn will have an adverse effect on our financial performance.

Changes in Lloyd’s regulation or the Lloyd’s market could make Syndicate 4711 less attractive.

Changes in Lloyd’s regulation or other developments in the Lloyd’s market could make operating Syndicate 4711 less attractive. For example, Lloyd’s imposes a number of charges on businesses operating in the Lloyd’s market, including, for example, annual subscriptions and Central Fund levies for members and policy signing charges. Despite the principle that each member of Lloyd’s is only responsible for the proportion of risk written on his or her behalf, a Central Fund acts as a policyholder’s protection fund to make payments where other members have failed to pay valid claims. The Council of Lloyd’s may resolve to make payments from the Central Fund for the advancement and protection of members, which could lead to additional or special levies being payable by Syndicate 4711. The bases and amounts of these charges may be varied by Lloyd’s and could adversely affect our financial and operating results.

Syndicate 4711 may also be affected by a number of other changes in Lloyd’s regulation, such as changes to the process for the release of profits and new member compliance requirements. The ability of Lloyd’s syndicates to trade in certain classes of business at current levels may be dependent on the maintenance by Lloyd’s of a satisfactory credit rating issued by an accredited rating agency. At present, the financial security of the Lloyd’s market is regularly assessed by three independent rating agencies, A.M. Best, S&P and Fitch Ratings. See “— Our Operating Subsidiaries are rated, and our Lloyd’s business benefits from a rating by one or more of A.M. Best, S&P and Moody’s, and a decline in any of these ratings could affect our standing among brokers and customers and cause our premiums and earnings to decrease,” above.

The syndicate capital setting process within AMAL is subject to FSA rules but is conducted by Lloyd’s under its detailed procedures. Lloyd’s could request an increase in capital under the FSA rules

 

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in similar circumstances as set out above in the section on Aspen U.K. Lloyd’s as whole, including Syndicate 4711, is also subject to the provisions of Solvency II as noted above.

Potential changes to the U.S. regulatory system could have an adverse effect on the business of our U.S. operating companies.

Aspen Specialty is organized in and has received a license to write certain lines of insurance business in the State of North Dakota and, as a result, is subject to North Dakota law and regulation under the supervision of the NDCI. AAIC is organized in Texas and has licenses to write property and casualty insurance business on an admitted basis in all 50 states and the District of Columbia. North Dakota and Texas also have regulatory authority over a number of affiliate transactions between the insurance companies and other members of our holding company system. The purpose of the state insurance regulatory statutes is to protect U.S. policyholders, not our shareholders or noteholders. Among other matters, state insurance regulations will require Aspen entities to maintain minimum levels of capital, surplus and liquidity, require insurers to comply with applicable risk-based capital requirements and will impose restrictions on the payment of dividends and distributions. These statutes and regulations may, in effect, restrict the ability of Aspen entities in the U.S. to write new business or distribute assets to Aspen Holdings.

Recently, the NAIC adopted revisions to its model law and regulation relating to insurance holding companies. A number of states have adopted or are considering adopting proposals to amend their insurance holding company laws to increase the scope of regulation. The amendments address a number of standards that affect insurance holding company systems, including corporate governance, group-wide supervision, accounting for group-wide risks in risk-based capital calculations and imposition of additional disclosure obligations. As the NAIC continues its solvency modernization initiative, additional changes may be made to solvency regulations in various state laws and regulations.

In recent years, the U.S. insurance regulatory framework has come under increased federal scrutiny, and some state legislators have considered or enacted laws that may alter or increase state regulation of insurance and reinsurance companies and holding companies. In addition, the U.S. Congress has enacted legislation providing a greater role for the federal government in the regulation of insurance. Moreover, the NAIC and state insurance regulators regularly examine existing laws and regulations. New laws and regulations or changes in existing laws and regulations or the interpretation of these laws and regulations could have a material adverse effect on our business or operating results.

Changes in U.S. state insurance legislation and insurance department legislation may impact liabilities assumed by our business.

Aspen Specialty, AAIC, Aspen U.K. and various affiliates are subject to periodic changes in U.S. state insurance legislation and insurance department regulation which may materially affect the liabilities assumed by the companies in such states. For example, as a result of natural disasters, Emergency Orders and related regulations may be periodically issued or enacted by individual states. This may impact the cancellation or non-renewal of property policies issued in those states for an extended period of time, increasing the potential liability to the company on such extended policies. Failure to adhere to these regulations could result in the imposition of fines, fees, penalties and loss of approval to write business in such states. Certain states with catastrophe exposures (e.g., California earthquakes, Florida hurricanes) have opted to establish state-run, state-owned reinsurers that compete with us and our peers. These entities tend to reduce the amount of business available to us.

 

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From time to time, government authorities seek to more closely monitor and regulate the insurance industry, which may adversely affect our business.

The Attorneys General for multiple states and other insurance regulatory authorities have previously investigated a number of issues and practices within the insurance industry, and in particular insurance brokerage compensation practices.

To the extent that state regulation of brokers and intermediaries becomes more onerous, costs of regulatory compliance for Aspen Management, ASIS, Aspen Re America and ARA-CA will increase. Finally, to the extent that any of the brokers with whom we do business suffer financial difficulties as a result of the investigations or proceedings, we could suffer increased credit risk. See “— Since we depend on a few brokers for a large portion of our insurance and reinsurance revenues, loss of business provided by any one of them could adversely affect us” above.

These investigations of the insurance industry in general, whether involving the Company specifically or not, together with any legal or regulatory proceedings, related settlements and industry reform or other changes arising therefrom, may materially adversely affect our business and future financial results or operating results.

The preparation of our financial statements requires us to make many estimates and judgments that are more difficult than companies operating outside the financial sector.

The preparation of our consolidated financial statements requires us to make many estimates and judgments that affect the reported amounts of assets, liabilities (including reserves), revenues and expenses and related disclosures of contingent liabilities. On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, insurance and other reserves, reinsurance recoverables, investment valuations, intangible assets, bad debts, impairments, income taxes, contingencies, derivatives and litigation. We base our estimates on historical experience, where possible, and on various other assumptions that we believe to be reasonable under the circumstances, which form the basis for our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.

Estimates and judgments for a relatively new insurance and reinsurance company, like us, are more difficult to make than those made for a more mature company because we have more limited historical information through December 31, 2012. A significant part of our current loss reserves is in respect of IBNR. This IBNR reserve is based almost entirely on estimates involving actuarial and statistical projections of our expectations of the ultimate settlement and administration costs. In addition to limited historical information, we utilize actuarial models as well as historical insurance industry loss development patterns to establish loss reserves. Accordingly, actual claims and claim expenses paid may deviate, perhaps substantially, from the reserve estimates reflected in our financial statements.

Changes in current accounting practices and future pronouncements may materially impact our reported financial results.

Unanticipated developments in accounting practices may require us to incur considerable additional expenses to comply with such developments, particularly if we are required to prepare information relating to prior periods for comparative purposes or to apply the new requirements retroactively. The impact of changes in current accounting practices and future pronouncements cannot be predicted but may affect the calculation of net income, net equity and other relevant financial statement line items. In

 

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particular, the U.S. Financial Accounting Standards Board (“FASB”) and the International Accounting Standards Board (“IASB”) have been working jointly on an insurance contract project, resulting in the issuance of an Exposure Draft by the IASB in June 2010 and a Discussion Paper by the FASB in September 2010. FASB and IASB are deliberating significant issues based on feedback received to IASB’s 2010 Exposure Draft and FASB’s 2010 Discussion Paper. The proposed guidance on accounting for and reporting of insurance contracts by these two boards would result in a material change from the current insurance accounting models toward more fair value-based models. Additionally, each board recently issued Exposure Drafts for the accounting for and reporting of financial instruments, which may lead to further recognition of fair value changes through net income. These two proposals could introduce significant volatility in the earnings of insurance industry participants. There is considerable uncertainty with respect to the final outcome of these two proposed standards.

Other Operational Risks

We could be adversely affected by the loss of one or more of our senior underwriters or principal employees or by an inability to attract and retain senior staff.

Our success has depended, and will continue to depend in substantial part, upon our ability to attract and retain our teams of underwriters in various business lines and other key employees. The loss of one or more of our senior underwriters could adversely impact our business by, for example, making it more difficult to retain clients or other business contacts whose relationship depends in part on the service of the departing personnel. In addition, the loss of services of underwriters could strain our ability to execute our new business lines, as described elsewhere in this report. In general, the loss of key services of any members of our current underwriting teams may adversely affect our business and operating results.

We also rely substantially upon the services of our senior management team. Although we have employment agreements with all of the members of our senior management team, if we were to unexpectedly lose the services of one or more of the members of our senior management team or other key personnel, our business could be adversely affected. We do not currently maintain key-man life insurance policies with respect to any of our employees.

Changes in employment laws, taxation and acceptable compensation practice may limit our ability to attract senior employees to our current operating platforms.

Our insurance and reinsurance operations are, by their nature, international and we compete for senior employees on a global basis. Changes in employment legislation, taxation and the approach of regulatory bodies to compensation practice within our operating jurisdictions may impact our ability to recruit or retain senior employees or the cost to us of doing so. Any failure to retain senior employees may adversely affect the strategic growth of our business and the operating results.

We may be adversely affected by action taken against us by former employers of our staff who allege that their former employees may be in breach of legal obligations to them.

Within our industry it is common for employers to seek to restrict an employee’s ability either to work for a competitor or to engage in business activities with the customers or staff of a former employer after leaving employment. In addition, our employees may owe statutory or fiduciary obligations to former employers. The extent of any such post-termination restrictions and the extent to

 

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which any alleged contractual restrictions are enforceable is highly fact specific and dependent upon the local laws in the applicable jurisdiction in any case. Action taken by former employers to enforce such restrictions, however, even if ultimately found not to be legally binding, may adversely affect our ability to pursue current business objectives.

We rely on third-party service providers for some of our operations and systems.

We rely on third-party service providers for a variety of services and systems, which include, but are not limited to, claims handling activity, support on our underwriting and finance systems, investment management and catastrophe modeling. If our third-party service providers fail to perform as expected, it could have a negative impact on our business and operating results.

We rely on information and technology for many of our business operations which could fail and cause disruption to our business operations.

Our business is dependent upon our employees’ and outsourcers’ ability to perform, in an efficient and uninterrupted fashion, necessary business functions, such as processing policies and paying claims. A shutdown of, or inability to access, one or more of our facilities, a power outage or a failure of one or more of our information technology, telecommunications or other systems could significantly impair our ability to perform such functions on a timely basis. Computer viruses, cyberattacks, other external hazards and human error could result in the misappropriation of assets or sensitive information, corruption of data or operational disruption. If sustained or repeated, such a business interruption, system failure, service denial or data loss and damage could result in a deterioration of our ability to write and process business, provide customer service, pay claims in a timely fashion or perform other necessary business functions.

We do not perform online customer transactions and our externally-accessible systems are for staff remote access use only. Nevertheless, we continually monitor risks to our information technology, telecommunications and other systems and believe we have the necessary measures appropriate to prevent and manage those risks. Our key technologies are largely resilient and secure in line with current financial services best practice.

Risks Related to Our Ordinary Shares

Our ability to pay dividends or to meet ongoing cash requirements may be constrained by our holding company structure.

We are a holding company and, as such, we do not expect to have any significant operations or assets other than our ownership of the shares of our Operating Subsidiaries. Dividends and other permitted distributions and loans from our Operating Subsidiaries are expected to be our sole source of funds to meet ongoing cash requirements, including our debt service payments and other expenses, and dividend payments, to our preference and ordinary shareholders, as appropriate. Our Operating Subsidiaries are subject to capital and other requirements that inform their ability to declare and pay dividends and make loans to other Group companies. These requirements may mean that our Operating Subsidiaries are unable to pay sufficient dividends to enable us to meet our ongoing cash requirements. See “Business — Regulatory Matters — Bermuda Regulation — Restrictions on Dividends and Distributions,” “Business — Regulatory Matters — U.K. and E.U. Regulation — Restrictions on Dividend Payments,” and “Business — Regulatory Matters — U.S. Regulation — State Dividend Limitations” in Item 1, above.

 

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Certain regulatory and other constraints may limit our ability to pay dividends.

We are subject to Bermuda regulatory constraints that affect our ability to pay dividends on our ordinary shares and make other distributions. Under the Bermuda Companies Act, we may declare or pay a dividend out of contributed surplus only if we have reasonable grounds to believe that we are, and would after the payment be, able to meet our liabilities as they become due or if the realizable value of our assets would thereby not be less than the aggregate of our liabilities and issued share capital and share premium accounts. For more information regarding restrictions on the payment of dividends by us and our Operating Subsidiaries, see “Business — Regulatory Matters” in Item 1, above and “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity” in Part II, Item 7.

There are provisions in our charter documents which may reduce or increase the voting rights of our ordinary shares.

In general, and except as provided below, shareholders have one vote for each ordinary share held by them and are entitled to vote at all meetings of shareholders. However, if, and so long as, the ordinary shares of a shareholder are treated as “controlled shares” (as determined under section 958 of the Internal Revenue Code of 1986, as amended (the “Code”)) of any U.S. Person (as defined below) and such controlled shares constitute 9.5% or more of the votes conferred by our issued shares, the voting rights with respect to the controlled shares of such U.S. Person (a “9.5% U.S. Shareholder”) shall be limited, in the aggregate, to a voting power of less than 9.5%, under a formula specified in our bye-laws. The formula is applied repeatedly until the voting power of all 9.5% U.S. Shareholders has been reduced to less than 9.5%.

In addition, the Board may limit a shareholder’s voting rights (including appointment rights, if any, granted to holders of our Perpetual Preferred Income Equity Replacement Securities (the “Perpetual PIERS”) or to holders of our 7.250% Perpetual Non-Cumulative Preference Shares or 7.401% Perpetual Non-Cumulative Preference Shares (liquidation preference $25 per share) (collectively, the “Perpetual Preference Shares”) where it deems it appropriate to do so to (i) avoid the existence of any 9.5% U.S. Shareholder, and (ii) avoid certain material adverse tax, legal or regulatory consequences to us or any holder of our shares or its affiliates. “Controlled shares” includes, among other things, all shares of the Company that such U.S. Person is deemed to own directly, indirectly or constructively (within the meaning of section 958 of the Code). As of December 31, 2012, there were 70,753,723 ordinary shares outstanding of which 6,721,604 ordinary shares would constitute 9.5% of the votes conferred by our issued and outstanding shares.

For purposes of this discussion, the term “U.S. Person” means: (i) a citizen or resident of the United States, (ii) a partnership or corporation, or entity treated as a corporation, created or organized in or under the laws of the United States, or any political subdivision thereof, (iii) an estate the income of which is subject to U.S. federal income taxation regardless of its source, or (iv) a trust if either (x) a court within the United States is able to exercise primary supervision over the administration of such trust and one or more U.S. Persons have the authority to control all substantial decisions of such trust or (y) the trust has a valid election in effect to be treated as a U.S. Person for U.S. federal income tax purposes or (z) any other person or entity that is treated for U.S. federal income tax purposes as if it were one of the foregoing.

Under these provisions, certain shareholders may have their voting rights limited to less than one vote per share, while other shareholders may have voting rights in excess of one vote per share. See Part II, Item 5, “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer

 

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Purchaser of Equity Securities — Bye-Laws.” Moreover, these provisions could have the effect of reducing the votes of certain shareholders who would not otherwise be subject to the 9.5% limitation by virtue of their direct share ownership. Our bye-laws provide that shareholders will be notified of their voting interests prior to any vote to be taken by them.

As a result of any reallocation of votes, voting rights of some of our shareholders might increase above 5% of the aggregate voting power of the outstanding ordinary shares, thereby possibly resulting in such shareholders becoming a reporting person subject to Schedule 13D or 13G filing requirements under the Exchange Act. In addition, the reallocation of the votes of our shareholders could result in some of the shareholders becoming subject to filing requirements under Section 16 of the Exchange Act.

We also have the authority under our bye-laws to request information from any shareholder for the purpose of determining whether a shareholder’s voting rights are to be reallocated under the bye-laws. If a shareholder fails to respond to our request for information or submits incomplete or inaccurate information in response to a request by us, we may, in our sole discretion, eliminate such shareholder’s voting rights.

There are provisions in our bye-laws which may restrict the ability to transfer ordinary shares and which may require shareholders to sell their ordinary shares.

The Board may decline to register a transfer of any ordinary shares if it appears to the Board, in its sole and reasonable discretion, after taking into account the limitations on voting rights contained in our bye-laws, that any non-de minimis adverse tax, regulatory or legal consequences to us, any of our subsidiaries or any of our shareholders or their affiliates may occur as a result of such transfer.

Our bye-laws also provide that if the Board determines that share ownership by a person may result in material adverse tax consequences to us, any of our subsidiaries or any shareholder or its affiliates, then we have the option, but not the obligation, to require that shareholder to sell to us or to third parties to whom we assign the repurchase right for fair market value the minimum number of ordinary shares held by such person which is necessary to eliminate the material adverse tax consequences.

Anti-takeover provisions in our bye-law and laws and regulations of the jurisdictions where we conduct business could delay or deter a takeover attempt that shareholders might consider to be desirable and may make it more difficult to replace members of our Board.

Our bye-laws contain provisions that may entrench directors and make it more difficult for shareholders to replace directors even if the shareholders consider it beneficial to do so. In addition, these provisions could delay or prevent a change of control that a shareholder might consider favorable. For example, these provisions may prevent a shareholder from receiving the benefit from any premium over the market price of our ordinary shares offered by a bidder in a potential takeover. Even in the absence of an attempt to effect a change in management or a takeover attempt, these provisions may adversely affect the prevailing market price of our ordinary shares if they are viewed as discouraging changes in management and takeover attempts in the future.

For example, our bye-laws contain the following provisions that could have such an effect:

 

   

election of directors is staggered, meaning that members of only one of three classes of directors are elected each year;

 

   

directors serve for a term of three years (unless aged 70 years or older);

 

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our directors may decline to approve or register any transfer of shares to the extent they determine, in their sole discretion, that any non-de minimis adverse tax, regulatory or legal consequences to Aspen Holdings, any of its subsidiaries, shareholders or affiliates would result from such transfer;

 

   

if our directors determine that share ownership by any person may result in material adverse tax consequences to Aspen Holdings, any of its subsidiaries, shareholders or affiliates, we have the option, but not the obligation, to purchase or assign to a third party the right to purchase the minimum number of shares held by such person solely to the extent that it is necessary to eliminate such material risk;

 

   

shareholders have limited ability to remove directors; and

 

   

if the ordinary shares of any U.S. Person constitute 9.5% or more of the votes conferred by the issued shares of Aspen Holdings, the voting rights with respect to the controlled shares of such U.S. Person shall be limited, in the aggregate, to a voting power of less than 9.5%.

In addition, as described under Part I, Item 1, “Business — Regulatory Matters”, prospective shareholders are required to notify our regulators on becoming “controllers” of any of our Operating Subsidiaries through ownership of Aspen Holdings shares above certain thresholds, typically 10% of outstanding shares. Some regulators, such as the FSA, require their approval prior to such shareholder becoming a “controller”. Other regulators may serve a notice of objection or are entitled to injunctive relief.

There can be no assurance that the applicable regulatory body would agree that a shareholder who owned greater than 10% of our ordinary shares did not, because of the limitation on the voting power of such shares, control the applicable Operating Subsidiary.

These laws may discourage potential acquisition proposals and may delay, deter or prevent a change of control of the Company, including through transactions, and in particular unsolicited transactions, that some or all of our shareholders might consider to be desirable. If these restrictions delay, deter or prevent a change of control, such restrictions may make it more difficult to replace members of our Board and may have the effect of entrenching management regardless of their performance.

We cannot pay a dividend on our ordinary shares unless the full dividends for the most recently ended dividend period on all outstanding Perpetual PIERS, underlying perpetual preference shares and Perpetual Preference Shares have been declared and paid.

Our Perpetual PIERS, our perpetual preference shares that are issuable upon conversion of our Perpetual PIERS at the option of the holders thereof and our Perpetual Preference Shares will rank senior to our ordinary shares with respect to the payment of dividends. As a result, unless the full dividends for the most recently ended dividend period on all outstanding Perpetual PIERS, underlying perpetual preference shares and Perpetual Preference Shares have been declared and paid (or declared and a sum (or, if we so elect with respect to our Perpetual PIERS and underlying perpetual preference shares, ordinary shares) sufficient for the payment thereof has been set aside), we cannot declare or pay a dividend on our ordinary shares. Under the terms of our Perpetual PIERS and our Perpetual Preference Shares, these restrictions will continue until full dividends on all outstanding Perpetual PIERS, underlying perpetual preference shares and Perpetual Preference Shares for four consecutive dividend periods have been declared and paid (or declared and a sum (or, if we so elect with respect to our Perpetual PIERS and underlying perpetual preference shares, ordinary shares) sufficient for the payment thereof has been set aside for payment).

 

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Our ordinary shares rank junior to our Perpetual PIERS, underlying perpetual preference shares and Perpetual Preference Shares in the event of a liquidation, winding up or dissolution of the Company.

In the event of a liquidation, winding up or dissolution of the Company, our ordinary shares rank junior to our Perpetual PIERS, our perpetual preference shares issuable upon conversion of our Perpetual PIERS and our Perpetual Preference Shares. In such an event, there may not be sufficient assets remaining, after payments to holders of our Perpetual PIERS, underlying perpetual preference shares and Perpetual Preference Shares, to ensure payments to holders of ordinary shares.

U.S. persons who own our ordinary shares may have more difficulty in protecting their interests than U.S. persons who are shareholders of a U.S. corporation.

The Companies Act, which applies to us, differs in some material respects from laws generally applicable to U.S. corporations and their shareholders. Set forth below is a summary of certain significant provisions of the Companies Act which includes, where relevant, information on modifications thereto adopted under our bye-laws, applicable to us, which differ in certain respects from provisions of Delaware corporate law (the state that is most renowned for its corporate law statutes). Because the following statements are summaries, they do not discuss all aspects of Bermuda law that may be relevant to us and our shareholders.

Interested Directors.  Under Bermuda law and our bye-laws, a transaction entered into by us, in which a director has an interest, will not be voidable by us, and such director will not be accountable to us for any benefit realized under that transaction, provided the nature of the interest is disclosed at the first opportunity at a meeting of directors, or in writing, to the directors. In addition, our bye-laws allow a director to be taken into account in determining whether a quorum is present and to vote on a transaction in which that director has an interest following a declaration of the interest under the Companies Act, unless the majority of the disinterested directors determine otherwise. Under Delaware law, the transaction would not be voidable if:

 

   

the material facts as to the interested director’s relationship or interests were disclosed or were known to the Board and the Board in good faith authorized the transaction by the affirmative vote of a majority of the disinterested directors;

 

   

the material facts were disclosed or were known to the shareholders entitled to vote on such transaction and the transaction was specifically approved in good faith by vote of the majority of shares entitled to vote thereon; or

 

   

the transaction was fair as to the corporation at the time it was authorized, approved or ratified.

Business Combinations with Large Shareholders or Affiliates.  As a Bermuda company, we may enter into business combinations with our large shareholders or one or more wholly-owned subsidiaries, including asset sales and other transactions in which a large shareholder or a wholly-owned subsidiary receives, or could receive, a financial benefit that is greater than that received, or to be received, by other shareholders or other wholly-owned subsidiaries, without obtaining prior approval from our shareholders and without special approval from the Board. Under Bermuda law, amalgamations and mergers require the approval of the Board, and except in the case of amalgamations with and between wholly-owned subsidiaries, shareholder approval. However, when the affairs of a Bermuda company are being conducted in a manner which is oppressive or prejudicial to the interests of some shareholders, one or more shareholders may apply to a Bermuda court, which

 

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may make an order as it sees fit, including an order regulating the conduct of the company’s affairs in the future or ordering the purchase of the shares of any shareholders by other shareholders or the company. If we were a Delaware company, we would need prior approval from the Board or a supermajority of our shareholders to enter into a business combination with an interested shareholder for a period of three years from the time the person became an interested shareholder, unless we opted out of the relevant Delaware statute. Bermuda law or our bye-laws would require the Board’s approval and, in some instances, shareholder approval of such transactions.

Shareholders’ Suits.  The rights of shareholders under Bermuda law are not as extensive as the rights of shareholders in many U.S. jurisdictions. Class actions and derivative actions are generally not available to shareholders under the laws of Bermuda. However, the Bermuda courts ordinarily would be expected to follow English case law precedent, which would permit a shareholder to commence a derivative action in our name to remedy a wrong done to us where an act is alleged to be beyond our corporate power, is illegal or would result in the violation of our memorandum of association or bye-laws. Furthermore, consideration would be given by the court to acts that are alleged to constitute a fraud against the minority shareholders or where an act requires the approval of a greater percentage of our shareholders than actually approved it. The winning party in such an action generally would be able to recover a portion of attorneys’ fees incurred in connection with the action. Our bye-laws provide that shareholders waive all claims or rights of action that they might have, individually or in the right of the Company, against any director or officer for any act or failure to act in the performance of such director’s or officer’s duties, except with respect to any fraud or dishonesty of the director or officer or to recover any gain, personal profit or advantage to which the director or officer is not legally entitled. Class actions and derivative actions generally are available to shareholders under Delaware law for, among other things, breach of fiduciary duty, corporate waste and actions not taken in accordance with applicable law. In such actions, the court has discretion to permit the winning party to recover attorneys’ fees incurred in connection with the action.

Indemnification of Directors and Officers.  Under Bermuda law and our bye-laws, we may indemnify our directors, officers, any other person appointed to a committee of the Board or resident representative (and their respective heirs, executors or administrators) to the full extent permitted by law against all actions, costs, charges, liabilities, loss, damage or expense, incurred or suffered by such persons by reason of any act done, conceived in or omitted in the conduct of our business or in the discharge of their duties; provided that such indemnification shall not extend to any matter which would render such indemnification void under the Companies Act. Under Delaware law, a corporation may indemnify a director or officer of the corporation against expenses (including attorneys’ fees), judgments, fines and amounts paid in settlement actually and reasonably incurred in defense of an action, suit or proceeding by reason of such position if (i) such director or officer acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the corporation and (ii) with respect to any criminal action or proceeding, such director or officer had no reasonable cause to believe his conduct was unlawful.

We are a Bermuda company and it may be difficult to enforce judgments against us or our directors and executive officers.

We are incorporated under the laws of Bermuda and our business is based in Bermuda. In addition, certain of our directors and officers reside outside the United States, and a substantial portion of our assets and the assets of such persons are located in jurisdictions outside the United States. As such, it may be difficult or impossible to effect service of process within the United States upon us or those persons or to recover against us or them on judgments of U.S. courts, including judgments predicated

 

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upon civil liability provisions of the U.S. federal securities laws. Further, no claim may be brought in Bermuda against us or our directors and officers in the first instance for violation of U.S. federal securities laws because these laws have no extraterritorial jurisdiction under Bermuda law and do not have force of law in Bermuda. A Bermuda court may, however, impose civil liability, including the possibility of monetary damages, on us or our directors and officers if the facts alleged in a complaint constitute or give rise to a cause of action under Bermuda law.

We have been advised by Bermuda counsel that there is no treaty in force between the U.S. and Bermuda providing for the reciprocal recognition and enforcement of judgments in civil and commercial matters. As a result, whether a U.S. judgment would be enforceable in Bermuda against us or our directors and officers depends on whether the U.S. court that entered the judgment is recognized by the Bermuda court as having jurisdiction over us or our directors and officers, as determined by reference to Bermuda conflict of law rules. A judgment debt from a U.S. court that is final and for a sum certain based on U.S. federal securities laws will not be enforceable in Bermuda unless the judgment debtor had submitted to the jurisdiction of the U.S. court, and the issue of submission and jurisdiction is a matter of Bermuda (not U.S.) law.

In addition to and irrespective of jurisdictional issues, the Bermuda courts will not enforce a U.S. federal securities law that is either penal or contrary to public policy. It is the advice of our Bermuda counsel that an action brought pursuant to a public or penal law, the purpose of which is the enforcement of a sanction, power or right at the instance of the state in its sovereign capacity, will not be entertained by a Bermuda court. Certain remedies available under the laws of U.S. jurisdictions, including certain remedies under U.S. federal securities laws, would not be available under Bermuda law or enforceable in a Bermuda court, as they would be contrary to Bermuda public policy. Further, no claim may be brought in Bermuda against us or our directors and officers in the first instance for violation of U.S. federal securities laws because these laws have no extraterritorial jurisdiction under Bermuda law and do not have force of law in Bermuda. A Bermuda court may, however, impose civil liability on us or our directors and officers if the facts alleged in a complaint constitute or give rise to a cause of action under Bermuda law.

Risks Related to Taxation

Our non-U.S. companies (other than AUL) may be subject to U.S. income tax and that may have a material adverse effect on our operating results and your investment.

If Aspen Holdings or any of its non-U.S. subsidiaries (other than AUL) were considered to be engaged in a trade or business in the United States, it could be subject to U.S. corporate income and additional branch profits taxes on the portion of its earnings effectively connected to such U.S. business, in which case its operating results could be materially adversely affected (although its operating results should not be materially adversely affected if Aspen U.K. is considered to be engaged in a U.S. trade or business solely as a result of the binding authorities granted to Aspen Re America, ARA-CA, ASIS, Aspen Management and Aspen Solutions.

Aspen Holdings, Aspen Bermuda and Acorn are Bermuda companies, Aspen U.K. Holdings, Aspen U.K., Aspen U.K. Services, AMAL, AUL, AIUK Trustees, ARML, APJ, Aspen Recoveries and AUSSL are U.K. companies and APJ Jersey is a Jersey company. We intend to manage our business so that each of these companies (other than AUL) will operate in such a manner that none of these companies should be subject to U.S. tax (other than U.S. excise tax on insurance and reinsurance premium income attributable to insuring or reinsuring U.S. risks and U.S. withholding tax on certain

 

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U.S. source investment income, and the likely imposition of U.S. corporate income and additional branch profits tax on the profits attributable to the business of Aspen U.K. produced pursuant to the binding authorities granted to Aspen Re America, ARA-CA, ASIS, Aspen Solutions and Aspen Management, as well as the binding authorities previously granted to Wellington Underwriting Inc. (“WU Inc.”) because none of these companies should be treated as engaged in a trade or business within the United States (other than Aspen U.K. with respect to the business produced pursuant to the Aspen Re America, ARA-CA, ASIS, Aspen Management and prior WU Inc. binding authorities agreements). However, because there is considerable uncertainty as to the activities which constitute being engaged in a trade or business within the United States, we cannot be certain that the U.S. Internal Revenue Service (“IRS”) will not contend successfully that some or all of Aspen Holdings or its non-U.S. subsidiaries (other than AUL) is/are engaged in a trade or business in the United States based on activities in addition to the binding authorities discussed above. AUL is a member of Lloyd’s and subject to a closing agreement between Lloyd’s and the IRS (the “Closing Agreement”). Pursuant to the terms of the Closing Agreement all members of Lloyd’s, including AUL, are subject to U.S. federal income taxation. Those members that are entitled to the benefits of a U.S. income tax treaty are deemed to be engaged in a U.S. trade or business through a U.S. permanent establishment. Those members not entitled to the benefits of such a treaty are merely deemed to be engaged in a U.S. trade or business. The Closing Agreement provides rules for determining the income considered to be attributable to the permanent establishment or U.S. trade or business. We believe that AUL may be entitled to the benefits of the U.S. income tax treaty with the U.K. (the “U.K. Treaty”), although the position is not certain.

Our non-U.K. companies may be subject to U.K. tax that may have a material adverse effect on our operating results.

None of our subsidiaries, except for Aspen U.K. Holdings, Aspen U.K., Aspen U.K. Services, AMAL, AUL, AIUK Trustees, ARML, APJ, Aspen Recoveries and AUSSL (collectively, the “U.K. Subsidiaries”), is incorporated in the United Kingdom. Accordingly, none of us, other than the U.K. Subsidiaries, should be treated as being resident in the United Kingdom for corporation tax purposes except for APJ Jersey which, although not incorporated in the United Kingdom, is treated as resident in the United Kingdom as a result of its central management and control being exercised from the United Kingdom. Each of us, other than the U.K. Subsidiaries and APJ Jersey, currently intends to manage our affairs so that none of us, other than the U.K. Subsidiaries and APJ Jersey, is resident in the United Kingdom for tax purposes.

A company not resident in the United Kingdom for corporation tax purposes can nevertheless be subject to U.K. corporation tax if it carries on a trade through a permanent establishment in the United Kingdom but the charge to U.K. corporation tax is limited to profits (including revenue profits and capital gains) attributable directly or indirectly to such permanent establishment.

Each of us, other than the U.K. Subsidiaries and APJ Jersey, currently intends that we will operate in such a manner so that none of us (other than the U.K. Subsidiaries and APJ Jersey), carries on a trade through a permanent establishment in the United Kingdom. Nevertheless, because neither case law nor U.K. statute definitively defines the activities that constitute trading in the United Kingdom through a permanent establishment, Her Majesty’s Revenue and Customs might contend successfully that any of us (other than the U.K. Subsidiaries and APJ Jersey) are trading in the United Kingdom through a permanent establishment.

 

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The United Kingdom has no income tax treaty with Bermuda. There are circumstances in which companies that are neither resident in the United Kingdom nor entitled to the protection afforded by a double tax treaty between the United Kingdom and the jurisdiction in which they are resident may be exposed to income tax in the United Kingdom (other than by deduction or withholding) on the profits of a trade carried on there even if that trade is not carried on through a permanent establishment but each of us intends that we will operate in such a manner that none of us will fall within the charge to income tax in the United Kingdom (other than by deduction or withholding) in this respect.

If any of us, other than the U.K. Subsidiaries and APJ Jersey, were treated as being resident in the United Kingdom for U.K. corporation tax purposes, or as carrying on a trade in the United Kingdom, whether or not through a permanent establishment, our operating results could be materially adversely affected.

Our U.K. operations may be affected by future changes in U.K. tax law.

The U.K. Subsidiaries and APJ Jersey should be treated as resident in the United Kingdom and accordingly be subject to U.K. tax in respect of their worldwide income and gains. Any change in the basis or rate of U.K. corporation tax could materially adversely affect the operations of the U.K. companies. The U.K. corporation tax rate has reduced from 26% to 24% with effect from April 1, 2012, and will further reduce to 23% with effect from April 1, 2013.

Our U.K. and U.S. operations may be adversely affected by a transfer pricing adjustment in computing U.K. or U.S. taxable profits.

Any arrangements between U.K.-resident entities of the Aspen group and other members of the Aspen group are subject to the U.K. transfer pricing regime. Consequently, if any agreement (including any reinsurance agreements) between a U.K.-resident entity of the Aspen group and any other Aspen group entity (whether that entity is resident in or outside the U.K.) is found not to be on arm’s length terms and as a result a U.K. tax advantage is being obtained, an adjustment will be required to compute U.K. taxable profits as if such an agreement were on arm’s length terms. Similar rules apply in the U.S and would have a similar impact on our U.S. resident entities if transfer pricing adjustments were required. Any transfer pricing adjustment could adversely impact the tax charge suffered by the relevant U.K. or U.S. resident entities of the Aspen Group.

Holders of 10% or more of Aspen Holdings’ shares may be subject to U.S. income taxation under the “controlled foreign corporation” (“CFC”) rules.

If you are a “10% U.S. Shareholder” (defined as a U.S. Person (as defined below) who owns (directly, indirectly through non-U.S. entities or “constructively” (as defined below)) at least 10% of the total combined voting power of all classes of stock entitled to vote of a non-U.S. corporation), that is a CFC for an uninterrupted period of 30 days or more during a taxable year, and you own shares in the non-U.S corporation directly or indirectly through non-U.S. entities on the last day of the non-U.S. corporation’s taxable year on which it is a CFC, you must include in your gross income for U.S. federal income tax purposes your pro rata share of the CFC’s “subpart F income,” even if the subpart F income is not distributed. “Subpart F income” of a non-U.S. insurance corporation typically includes “foreign personal holding company income” (such as interest, dividends and other types of passive income), as well as insurance and reinsurance income (including underwriting and investment

 

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income). A non-U.S. corporation is considered a CFC if “10% U.S. Shareholders” own (directly, indirectly through non-U.S. entities or by attribution by application of the constructive ownership rules of section 958(b) of the Code (i.e., “constructively”)) more than 50% of the total combined voting power of all classes of voting stock of that non-U.S. corporation, or the total value of all stock of that non-U.S. corporation. For purposes of taking into account insurance income, a CFC also includes a non-U.S. corporation earning insurance income in which more than 25% of the total combined voting power of all classes of stock (or more than 25% of the total value of the stock) is owned by 10% U.S. Shareholders on any day during the taxable year of such corporation, if the gross amount of premiums or other consideration for the reinsurance or the issuing of insurance or annuity contracts (other than certain insurance or reinsurance related to some country risks written by certain insurance companies, not applicable here) exceeds 75% of the gross amount of all premiums or other consideration in respect of all risks.

For purposes of this discussion, the term “U.S. Person” means: (i) a citizen or resident of the United States, (ii) a partnership or corporation created or organized in or under the laws of the United States, or organized under the laws of any political subdivision thereof, (iii) an estate the income of which is subject to U.S. federal income taxation regardless of its source, (iv) a trust if either (x) a court within the United States is able to exercise primary supervision over the administration of such trust and one or more U.S. Persons have the authority to control all substantial decisions of such trust or (y) the trust has a valid election in effect to be treated as a U.S. Person for U.S. federal income tax purposes and (v) any other person or entity that is treated for U.S. federal income tax purposes as if it were one of the foregoing.

We believe that because of the anticipated dispersion of our share ownership, provisions in our organizational documents that limit voting power (these provisions are described under “Bye-Laws” in Part II, Item 5 below) and other factors, no U.S. Person who owns shares of Aspen Holdings directly or indirectly through one or more non-U.S. entities should be treated as owning (directly, indirectly through non-U.S. entities, or constructively) 10% or more of the total voting power of all classes of shares of Aspen Holdings or any of its non-U.S. subsidiaries. It is possible, however, that the IRS could successfully challenge the effectiveness of these provisions.

U.S. Persons who hold our shares may be subject to U.S. income taxation at ordinary income rates on their proportionate share of our “related party insurance income” (“RPII”).

If the RPII (determined on a gross basis) of any of our non-U.S. Operating Subsidiaries were to equal or exceed 20% of that company’s gross insurance income in any taxable year and direct or indirect insureds (and persons related to those insureds) own directly or indirectly through entities 20% or more of the voting power or value of Aspen Holdings, then a U.S. Person who owns any shares of such non-U.S. Operating Subsidiary (directly or indirectly through non-U.S. entities) on the last day of the taxable year on which it is an RPII CFC would be required to include in its income for U.S. federal income tax purposes such person’s pro rata share of such company’s RPII for the entire taxable year, determined as if such RPII were distributed proportionately only to U.S. Persons at that date regardless of whether such income is distributed, in which case your investment could be materially adversely affected. In addition, any RPII that is includible in the income of a U.S. tax-exempt organization may be treated as unrelated business taxable income. The amount of RPII earned by a non-U.S. Operating Subsidiary (generally, premium and related investment income from the indirect or direct insurance or reinsurance of any direct or indirect U.S. holder of shares or any person related to such holder) will depend on a number of factors, including the identity of persons directly or indirectly insured or

 

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reinsured by the company. We believe that the direct or indirect insureds of each of our non-U.S. Operating Subsidiaries (and related persons) did not directly or indirectly own 20% or more of either the voting power or value of our shares in prior years of operation and we do not expect this to be the case in the foreseeable future. Additionally, we do not expect gross RPII of each of our foreign Operating Subsidiaries to equal or exceed 20% of its gross insurance income in any taxable year for the foreseeable future, but we cannot be certain that this will be the case because some of the factors which determine the extent of RPII may be beyond our control.

U.S. Persons who dispose of our shares may be subject to U.S. federal income taxation at the rates applicable to dividends on a portion of such disposition.

Section 1248 of the Internal Revenue Code of 1986, as amended, in conjunction with the RPII rules provides that if a U.S. Person disposes of shares in a non-U.S. corporation that earns insurance income in which U.S. Persons own 25% or more of the shares (even if the amount of gross RPII is less than 20% of the corporation’s gross insurance income and the ownership of its shares by direct or indirect insureds and related persons is less than the 20% threshold), any gain from the disposition will generally be treated as a dividend to the extent of the holder’s share of the corporation’s undistributed earnings and profits that were accumulated during the period that the holder owned the shares (whether or not such earnings and profits are attributable to RPII). In addition, such a holder will be required to comply with certain reporting requirements, regardless of the amount of shares owned by the holder. These RPII rules should not apply to dispositions of our shares because Aspen Holdings will not itself be directly engaged in the insurance business. The RPII provisions, however, have never been interpreted by the courts or the Treasury Department in final regulations, and regulations interpreting the RPII provisions of the Code exist only in proposed form. It is not certain whether these regulations will be adopted in their proposed form or what changes or clarifications might ultimately be made thereto or whether any such changes, as well as any interpretation or application of the RPII rules by the IRS, the courts, or otherwise, might have retroactive effect. The Treasury Department has authority to impose, among other things, additional reporting requirements with respect to RPII. Accordingly, the meaning of the RPII provisions and the application thereof to us is uncertain.

U.S. Persons who hold our shares will be subject to adverse tax consequences if we are considered to be a passive foreign investment company (“PFIC”) for U.S. federal income tax purposes.

If we are considered a PFIC for U.S. federal income tax purposes, a U.S. Person who owns any of our shares will be subject to adverse tax consequences including subjecting the investor to a greater tax liability than might otherwise apply and subjecting the investor to tax on amounts in advance of when tax would otherwise be imposed, in which case your investment could be materially adversely affected. In addition, if we were considered a PFIC, upon the death of any U.S. individual owning shares, such individual’s heirs or estate would not be entitled to a “step-up” in the basis of the shares that might otherwise be available under U.S. federal income tax laws. We believe that we are not, have not been, and currently do not expect to become, a PFIC for U.S. federal income tax purposes. We cannot assure you, however, that we will not be deemed a PFIC by the IRS. If we were considered a PFIC, it could have material adverse tax consequences for an investor that is subject to U.S. federal income taxation. There are currently no regulations regarding the application of the PFIC provisions to an insurance company. New regulations or pronouncements interpreting or clarifying these rules may be forthcoming. We cannot predict what impact, if any, such guidance would have on an investor that is subject to U.S. federal income taxation.

 

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U.S. tax-exempt organizations who own our shares may recognize unrelated business taxable income.

A U.S. tax-exempt organization may recognize unrelated business taxable income if a portion of the insurance income of any of our non-U.S. Operating Subsidiaries is allocated to the organization, which generally would be the case if any of our non-U.S. Operating Subsidiaries is a CFC and the tax-exempt shareholder is a U.S. 10% Shareholder or there is RPII, certain exceptions do not apply and the tax-exempt organization owns any of our shares. Although we do not believe that any U.S. Persons should be allocated such insurance income, we cannot be certain that this will be the case. U.S. tax-exempt investors are advised to consult their own tax advisors.

Changes in U.S. federal income tax law or the manner in which it is interpreted could materially adversely affect us.

Legislation has been introduced in the U.S. Congress intended to eliminate some perceived tax advantages of companies (including insurance companies) that have legal domiciles outside the United States, but have certain U.S. connections. It is possible that legislation could be introduced in and enacted by the current Congress or future Congresses that could have an adverse impact on us. In addition, existing interpretations of U.S. federal income tax laws could change, also resulting in an adverse impact on us.

Scope of application of recently enacted legislation is uncertain.

Congress enacted legislation in 2010 known as the Foreign Account Tax Compliance Act (“FATCA”) provisions. These provisions require withholding agents to withhold 30% of a U.S. Source payment made to a Foreign Financial Institution (“FFI”) unless the FFI has entered into an agreement with the IRS to report account information for any of the FFI’s U.S. accountholders. Final regulations were issued by the U.S. Treasury on January 17, 2013. The U.S. Treasury has released models for Intergovernmental FATCA Agreements (“IGAs”) with other jurisdictions that will allow FFIs in those jurisdictions to report U.S. accountholder information only to local revenue authorities rather than the IRS. The U.K. / U.S. IGA was signed in September 2012. IRS announcement 2012-42, released in October 2012 provided a number of updates to various FATCA implementation deadlines. The principle commencement date is January 1, 2014. As a result, Non-Publicly Traded Securities Holders may be required to provide any information that we determine necessary to avoid the imposition of such withholding tax in order to allow us to satisfy such obligations. In the event that this withholding tax is imposed, our operating results could be materially adversely affected.

Potential FBAR reporting and reporting of “Specified Foreign Financial Assets.”

U.S. Persons holding our shares should consider their possible obligation to file an IRS Form TD F 90-22.1 — Foreign Bank and Financial Accounts Report — with respect to their shares. Additionally, such U.S. and non-U.S. persons should consider their possible obligations to annually report certain information with respect to us with their U.S. federal income tax returns. Shareholders should consult their tax advisors with respect to these or any other reporting requirement which may apply with respect to their ownership of our shares.

 

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The impact of Bermuda’s letter of commitment to the Organization for Economic Cooperation and Development to eliminate harmful tax practices is uncertain and could adversely affect our tax status in Bermuda.

The Organization for Economic Cooperation and Development (“OECD”) has published reports and launched a global dialogue among member and non-member countries on measures to limit harmful tax competition. These measures are largely directed at counteracting the effects of tax havens and preferential tax regimes in countries around the world. In the OECD’s progress report dated April 2, 2009, Bermuda was designated as an OECD “White List” jurisdiction that has substantially implemented the internationally agreed tax standards. The standards for the OECD compliance are to have at least 12 signed Tax Information Exchange Agreements (“TIEAs”) with other OECD members or non-OECD members. As at December 31, 2012, Bermuda had 38 signed TIEAs which exceeds the requisite amount and demonstrates Bermuda’s commitment to preserve the standards. We are not able to predict what changes will arise from the commitment or whether such changes will subject us to additional taxes.

Changes to Bermuda tax policies may impact our financial position.

The duration of the assurance granted to us under the Exempted Undertakings Tax Protection Act, 1966 (as amended) is limited and expires on March 31, 2035. Tax policy and legislation in Bermuda could change in the future (as is the case in other jurisdictions) and as such no guarantee can be given as to whether the current tax treatment afforded to us will continue after March 31, 2035.

Additional Information

Aspen’s website address is www.aspen.co. We make available on our website our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC.

 

Item 1B. Unresolved Staff Comments

Not applicable.

 

Item 2. Properties

We terminated our existing Bermuda lease and entered into a new 14,000 square foot lease on September 1, 2011. The term of the rental lease agreement is for ten years from September 1, 2011, with a break clause at five years and an additional five-year option commencing September 2021.

For our U.K.-based reinsurance and insurance operations, on April 1, 2005, Aspen U.K. signed an agreement (following our entry in October 2004 into a heads of terms agreement) with B.L.C.T. (29038) Limited (the landlord), Tamagon Limited and Cleartest Limited in connection with leasing office space in London of approximately a total of 49,500 square feet covering three floors. The term of each lease for each floor commenced in November 2004 and runs for 15 years. In 2007, the building was sold to Tishman International. The terms of the lease remain unchanged. Each lease will be subject to 5-yearly upwards-only rent reviews. We also license office space within the Lloyd’s building on the basis of a renewable 24-month lease. We also entered into new leases for two additional premises in London (18,000 square feet total), which expire in December 2015 and March 2016. Each lease has a further negotiable extension provision.

 

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In 2010, we entered into a five-year lease for office space in Manhattan, New York, covering 24,000 square feet. An additional floor of 24,000 square feet was also leased in the same building in 2011. Also, in 2011, we leased a 5,000 square foot of office space in Chicago, Illinois; and a 6,300 square foot office space in San Francisco, California. On September 28, 2012, we entered into a new 8,000 square foot lease in Boston for a five-year period.

We also have smaller serviced or leased office space in other U.K. or U.S. locations.

Our international offices for our subsidiaries include locations with leased office space in Paris, Zurich, Geneva, Singapore, Cologne and Dublin.

We believe that our office space is sufficient for us to conduct our operations for the foreseeable future in these locations.

 

Item 3. Legal Proceedings

In common with the rest of the insurance and reinsurance industry, we are also subject to litigation and arbitration in the ordinary course of our business. Our Operating Subsidiaries are regularly engaged in the investigation, conduct and defense of disputes, or potential disputes, resulting from questions of insurance or reinsurance coverage or claims activities. Pursuant to our insurance and reinsurance arrangements, many of these disputes are resolved by arbitration or other forms of alternative dispute resolution. In some jurisdictions, noticeably the U.S., a failure to deal with such disputes or potential disputes in an appropriate manner could result in an award of “bad faith” punitive damages against our Operating Subsidiaries.

While any legal or arbitration proceedings contain an element of uncertainty, we do not believe that the eventual outcome of any specific litigation, arbitration or alternative dispute resolution proceedings to which we are currently a party will have a material adverse effect on the financial condition of our business as a whole.

 

Item 4. Mine Safety Disclosures

Not applicable.

 

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PART II

 

Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information

Our ordinary shares began publicly trading on December 4, 2003. Our New York Stock Exchange (“NYSE”) symbol for our ordinary shares is AHL. Prior to that time, there was no trading market for our ordinary shares. The following table sets forth, for the periods indicated, the high and low sales prices per share of our ordinary shares as reported in composite NYSE trading:

 

     Price Range of
Ordinary Shares
     Dividends Paid  Per
Ordinary Share
 
     High      Low     

Period

        

2012

        

First Quarter

   $ 28.64       $ 25.89       $ 0.15   

Second Quarter

   $ 30.25       $ 26.92       $ 0.17   

Third Quarter

   $ 30.91       $ 27.92       $ 0.17   

Fourth Quarter

   $ 33.70       $ 29.18       $ 0.17   

2011

        

First Quarter

   $ 31.57       $ 25.86       $ 0.15   

Second Quarter

   $ 29.09       $ 24.71       $ 0.15   

Third Quarter

   $ 27.19       $ 22.01       $ 0.15   

Fourth Quarter

   $ 27.32       $ 21.99       $ 0.15   

Number of Holders of Ordinary Shares

As of February 15, 2013, there were 119 holders of record of our ordinary shares, not including beneficial owners of ordinary shares registered in nominee or street name, and there was one holder of record of each of our Perpetual PIERS and Perpetual Preference Shares.

Dividends

Any determination to pay cash dividends will be at the discretion of the Board and will be dependent upon our operating results and cash flows, our financial position and capital requirements, general business conditions, legal, tax, regulatory and any contractual restrictions on the payment of dividends and any other factors the Board deems relevant at the time. See table above for dividends paid.

We are a holding company and have no direct operations. Our ability to pay dividends depends, in part, on the ability of our Operating Subsidiaries to pay us dividends. The Operating Subsidiaries are subject to significant regulatory restrictions limiting their ability to declare and pay dividends. For a summary of these restrictions, see Part I, Item 1, “Business — Regulatory Matters” and Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Additionally, we are subject to Bermuda regulatory constraints that will affect our ability to pay dividends on our ordinary shares and make other payments. Under the Companies Act, we may declare

 

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or pay a dividend out of distributable reserves only if we have reasonable grounds for believing that we are, and would after the payment be, able to pay our liabilities as they become due and if the realizable value of our assets would thereby not be less than our liabilities.

Generally, unless the full dividends for the most recently ended dividend period on all outstanding Perpetual PIERS, any preference shares issued upon conversion of our Perpetual PIERS, and Perpetual Preference Shares have been declared and paid, we cannot declare or pay a dividend on our ordinary shares. Our credit facilities also restrict our ability to pay dividends. See Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity.”

Purchases of Equity Securities by Issuer and Affiliated Purchasers

The following table provides information about purchases by the Company of the Company’s equity securities during the three months ended December 31, 2012:

 

Period

   Total
Number of
Shares (or
Units)
Purchased
     Average
Price
Paid per
Shares (or
Units)
     Total Number
of Shares (or
Units)
Purchased as
Part of Publicly
Announced
Plans or
Programs
     Maximum
Number (or
Approximate
Dollar Value) of
Shares (or Units)
that May Yet Be
Purchased Under
the Plans or
Programs
 

October 1, 2012 to October 31, 2012

                               

November 1, 2012 to November 30, 2012

                          

December 1, 2012 to December 31, 2012(1)

     308,674         $31.85         308,674         $390.2 million   

Total

     308,674         $31.85         308,674         $390.2 million   

 

(1) During the fourth quarter of 2012, we repurchased 308,674 ordinary shares in the open market at an average price of $31.85 per share for a total cost of $9.8 million. We had $390.2 million remaining under our current share buyback authorization at December 31, 2012. On October 24, 2012, our Board approved a new share repurchase authorization for up to $400.0 million of outstanding ordinary shares.

Securities Authorized For Issuance Under Equity Compensation Plans

See “Equity Compensation Plan Information” contained in Part III, Item 12 herein.

 

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Performance Graph

The following information is not deemed to be “soliciting material” or to be “filed” with the SEC or subject to the liabilities of Section 18 of the Exchange Act, and the report shall not be deemed to be incorporated by reference into any prior or subsequent filing by the Company under the Securities Act or the Exchange Act.

The following graph illustrates the cumulative 5-year shareholder return, including reinvestment of dividends, of our ordinary shares, compared with such return for the (i) S&P 500 Composite Stock Price Index and (ii) S&P Property & Casualty Industry Group Stock Price Index, in each case measured during the period from December 31, 2007 to December 31, 2012, assuming $100 was invested on December 31, 2007. As depicted in the graph below, during this period, the cumulative total return on our ordinary shares was 24.3%, the cumulative total return for the S&P 500 Composite Stock Price Index was 8.6% and the cumulative total return for the S&P Property & Casualty Industry Group Stock Price Index was 3.7%.

Comparison of 5 Year Cumulative Total Return*

Among Aspen Insurance Holdings Ltd, the S&P 500 Composite Stock Price Index and the S&P 500 Property & Casualty Industry Group Stock Price Index

 

LOGO

 

* $100 invested on December 31, 2007 in stock or index, including reinvestment of dividend (fiscal year ending December 31)

 

     12/07      12/08      12/09      12/10      12/11      12/12  

Aspen Insurance Holdings Limited

     100.00         86.20         92.60         106.30         100.60         124.30   

S&P 500

     100.00         63.40         79.90         91.70         93.70         108.60   

S&P 500 Property & Casualty Insurance

     100.00         70.80         79.20         86.50         86.20         103.70   

The stock price performance included in this graph is not necessarily indicative of future stock performance.

 

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Shareholders’ Agreement and Registration Rights Agreement

We entered into an amended and restated shareholders’ agreement dated as of September 30, 2003 with all of the shareholders who purchased their shares in our initial private placement, and certain members of management. Of these initial shareholders, Appleby Services (Bermuda) Ltd. (“the Names’ Trustee”) is the only remaining shareholder to which such agreement applies.

If a change of control (as defined in the shareholders’ agreement) is approved by the Board and by investors (as defined in the shareholders’ agreement) holding not less than 60% of the voting power of shares held by the investors (in each case, after taking into account voting power adjustments under the bye-laws), the Names’ Trustee undertakes to:

 

   

exercise respective voting rights as shareholders to approve the change of control; and

 

   

tender its respective shares for sale in relation to the change of control on terms no less favorable than those on which the investors sell their shares.

We also entered into an amended and restated registration rights agreement dated as of November 14, 2003 with the existing shareholders prior to our initial public offering, pursuant to which we may be required to register our ordinary shares held by such parties under the Securities Act. Any such shareholder party or group of shareholders (other than directors, officers or employees of the Company) that held in the aggregate $50 million of our shares had the right to request registration for a public offering of all or a portion of its shares. Of these initial shareholders, the Names’ Trustee is the only remaining shareholder to which such agreement applies.

Under the registration rights agreement, if we propose to register the sale of any of our securities under the Securities Act (other than a registration on Form S-8 or F-4), such parties (now only the Names’ Trustee) holding our ordinary shares or other securities convertible into, exercisable for or exchangeable for our ordinary shares, will have the right to participate proportionately in such sale.

The registration rights agreement contains various lock-up, or hold-back, agreements preventing sales of ordinary shares just prior to and for a period following an underwritten offering. In general, the Company agreed in the registration rights agreement to pay all fees and expenses of registration and the subsequent offerings, except the underwriting spread or pay brokerage commission incurred in connection with the sales of the ordinary shares.

Bye-Laws

The Board approved amendments to our bye-laws on March 3, 2005, February 16, 2006, February 6, 2008 and February 3, 2009, which were subsequently approved by our shareholders at our annual general meetings on May 26, 2005, May 25, 2006, April 30, 2008 and April 29, 2009, respectively. Below is a description of our bye-laws as amended.

The Board and Corporate Action.  Our bye-laws provide that the Board shall consist of not less than six and not more than 15 directors. Subject to our bye-laws and Bermuda law, the directors shall be elected or appointed by holders of ordinary shares. The Board is divided into three classes, designated Class I, Class II and Class III and is elected by the shareholders as follows. Our Class I directors are elected to serve until the 2014 annual general meeting, our Class II directors are elected to serve until the 2015 annual general meeting and our Class III directors are elected to serve until our 2013 annual general meeting. Notwithstanding the foregoing, directors who are 70 years or older shall be elected

 

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every year and shall not be subject to a three-year term. In addition, notwithstanding the foregoing, each director shall hold office until such director’s successor shall have been duly elected or until such director is removed from office or such office is otherwise vacated. In the event of any change in the number of directors, the Board shall apportion any newly created directorships among, or reduce the number of directorships in, such class or classes as shall equalize, as nearly as possible, the number of directors in each class. In no event will a decrease in the number of directors shorten the term of any incumbent director.

Generally, the affirmative vote of a majority of the directors present at any meeting at which a quorum is present shall be required to authorize corporate action. Corporate action may also be taken by a unanimous written resolution of the Board without a meeting and with no need to give notice, except in the case of removal of auditors or directors. The quorum necessary for the transaction of business of the Board may be fixed by the Board and, unless so fixed at any other number, shall be a majority of directors in office from time to time and in no event less than two directors.

Voting Cutbacks.  In general, and except as provided below, shareholders have one vote for each ordinary share held by them and are entitled to vote at all meetings of shareholders. However, if, and so long as, the shares of a shareholder in the Company are treated as “controlled shares” (as determined pursuant to section 958 of the Code) of any U.S. Person and such controlled shares constitute 9.5% or more of the votes conferred by the issued shares of Aspen Holdings, the voting rights with respect to the controlled shares owned by such U.S. Person shall be limited, in the aggregate, to a voting power of less than 9.5%, under a formula specified in our bye-laws. The formula is applied repeatedly until the voting power of all 9.5% U.S. Shareholders has been reduced to less than 9.5%. In addition, our Board may limit a shareholder’s voting rights when it deems it appropriate to do so to (i) avoid the existence of any 9.5% U.S. Shareholder; and (ii) avoid certain material adverse tax, legal or regulatory consequences to the Company or any of its subsidiaries or any shareholder or its affiliates. “Controlled shares” includes, among other things, all shares of the Company that such U.S. Person is deemed to own directly, indirectly or constructively (within the meaning of section 958 of the Code). The amount of any reduction of votes that occurs by operation of the above limitations will generally be reallocated proportionately among all other shareholders of Aspen Holdings whose shares were not “controlled shares” of the 9.5% U.S. Shareholder so long as such: (i) reallocation does not cause any person to become a 9.5% U.S. Shareholder and (ii) no portion of such reallocation shall apply to the shares held by Wellington Underwriting plc (“Wellington”) or the Names’ Trustee, except where the failure to apply such increase would result in any person becoming a 9.5% shareholder.

These voting cut-back provisions have been incorporated into the Company’s bye-laws to seek to mitigate the risk of any U.S. person that owns our ordinary shares directly or indirectly through non-U.S. entities being characterized as a 10% U.S. shareholders for purposes of the U.S. controlled foreign corporation rules. If such a direct or indirect U.S. shareholder of the Company were characterized as 10% U.S. shareholder of the Company and the Company or one of its subsidiaries were characterized as a CFC, such shareholder might have to include its pro rata share of the Company income (subject to certain exceptions) in its U.S. federal gross income, even if there have been no distributions to the U.S. shareholders by the Company.

Under these provisions, certain shareholders may have their voting rights limited to less than one vote per share, while other shareholders may have voting rights in excess of one vote per share.

 

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Moreover, these provisions could have the effect of reducing the votes of certain shareholders who would not otherwise be subject to the 9.5% limitation by virtue of their direct share ownership. Our bye-laws provide that shareholders will be notified of their voting interests prior to any vote to be taken by them.

We are authorized to require any shareholder to provide information as to that shareholder’s beneficial share ownership, the names of persons having beneficial ownership of the shareholder’s shares, relationships with other shareholders or any other facts the directors may deem relevant to a determination of the number of ordinary shares attributable to any person. If any holder fails to respond to this request or submits incomplete or inaccurate information, we may, in our sole discretion, eliminate the shareholder’s voting rights. All information provided by the shareholder shall be treated by the Company as confidential information and shall be used by the Company solely for the purpose of establishing whether any 9.5% U.S. Shareholder exists (except as otherwise required by applicable law or regulation).

Shareholder Action.  Except as otherwise required by the Companies Act and our bye-laws, any question proposed for the consideration of the shareholders at any general meeting shall be decided by the affirmative vote of a majority of the voting power of votes cast at such meeting (in each case, after taking into account voting power adjustments under our bye-laws). Our bye-laws require 21 days’ notice of annual general meetings.

The following actions shall be approved by the affirmative vote of at least 75% of the voting power of shares entitled to vote at a meeting of shareholders (in each case, after taking into account voting power adjustments under our bye-laws): any amendment to Bye-Laws 13 (first sentence — Modification of Rights); 24 (Transfer of Shares); 49 (Voting); 63, 64, 65 and 66 (Adjustment of Voting Power); 67 (Other Adjustments of Voting Power); 76 (Purchase of Shares); 84 or 85 (Certain Subsidiaries); provided, however, that in the case of any amendments to Bye-Laws 24, 63, 64, 65, 66, 67 or 76, such amendment shall only be subject to this voting requirement if the Board determines in its sole discretion that such amendment could adversely affect any shareholder in any non-de minimis respect. The following actions shall be approved by the affirmative vote of at least 66% of the voting power of shares entitled to vote at a meeting of shareholders (in each case, after taking into account voting power adjustments under our bye-laws): (i) a merger or amalgamation with, or a sale, lease or transfer of all or substantially all of the assets of the Company to a third party, where any shareholder does not have the same right to receive the same consideration as all other shareholders in such transaction; or (ii) discontinuance of the Company out of Bermuda to another jurisdiction. In addition, any amendment to Bye-Law 50 shall be approved by the affirmative vote of at least 66% of the voting power of shares entitled to vote at a meeting of shareholders (after taking into account voting power adjustments under our bye-laws).

Shareholder action may be taken by resolution in writing signed by the shareholder (or the holders of such class of shares) who at the date of the notice of the resolution in writing represent the majority of votes that would be required if the resolution had been voted on at a meeting of the shareholders.

Amendment.  Our bye-laws may be revoked or amended by a majority of the Board, but no revocation or amendment shall be operative unless and until it is approved at a subsequent general meeting of the Company by the shareholders by resolution passed by a majority of the voting power of votes cast at such meeting (in each case, after taking into account voting power adjustments under the bye-laws) or such greater majority as required by our bye-laws.

 

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Voting of Non-U.S. Subsidiary Shares.  If the voting rights of any shares of the Company are adjusted pursuant to our bye-laws and we are required or entitled to vote at a general meeting of any of Aspen U.K., Aspen Bermuda, Aspen U.K. Holdings, Aspen U.K. Services, AIUK Trustees, AMAL, AUL, Acorn or any other non-U.S. subsidiary of ours (together, the “Non-U.S. Subsidiaries”), our directors shall refer the subject matter of the vote to our shareholders and seek direction from such shareholders as to how they should vote on the resolution proposed by the Non-U.S. Subsidiary.

In the event that a voting cutback is required, substantially similar provisions are or will be contained in the bye-laws (or equivalent governing documents) of the Non-U.S. Subsidiaries. This provision was amended at the 2009 annual general meeting to require the application of this bye-law only in the event that a voting cutback is required, as described above.

Capital Reduction.  At the 2009 annual general meeting, our bye-laws were amended to permit a capital reduction of part of a class or series of shares.

Treasury Shares.  Our bye-laws permit the Board, at its discretion and without the sanction of a shareholder resolution, to authorize the acquisition of our own shares, or any class, at any price (whether at par or above or below) to be held as treasury shares upon such terms as the Board may determine, provided that such acquisition is effected in accordance with the provisions of the Companies Act. Subject to the provisions of our bye-laws, any of our shares held as treasury shares shall be at the disposal of the Board, which may hold all or any of the shares, dispose of or transfer all or any of the shares for cash or other consideration, or cancel all or any of the shares.

Corporate Purpose.  Our certificate of incorporation, memorandum of association and our bye-laws do not restrict our corporate purpose and objects.

Investor Options

Upon our formation in June 2002, we issued to the Names’ Trustee, as trustee of the Names’ Trust for the benefit of the unaligned members of Syndicate 2020 (the “Unaligned Members”), options to purchase 3,006,760 non-voting shares (the “Names’ Options”). All non-voting shares issued or to be issued upon the exercise of the Names’ Options will automatically convert into ordinary shares at a one-to-one ratio upon issuance. The rights of the holders of the Names’ Options are governed by an option instrument dated June 21, 2002, which was amended and restated on December 2, 2003 and further amended and restated on September 30, 2005, to effect certain of the provisions described below (the “Option Instrument”). The Names’ Options could be exercised in whole or in part. All options were exercised prior to the expiry date of June 21, 2012.

The Names’ Options were exercisable without regard to a minimum number of options to be exercised, at a sale (as defined in the Option Instrument) and on a monthly basis beginning in October 2005 (expiring on June 21, 2012) following notification by the Unaligned Members to the Names’ Trustee of their elections to exercise the Names’ Options.

The exercise price payable for each option share was £10, together with interest accruing at 5% per annum (less any dividends or other distributions) from the date of issue of the Names’ Options (June 21, 2002) until the date of exercise of the Names’ Options. Each optionholder could exercise its options on a cashless basis, subject to relevant requirements of the Companies Act. A cashless exercise would allow the optionholders to realize, through the receipt of ordinary shares, the economic benefit of the difference between the subscription price under the Names’ Options and the then-prevailing

 

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market prices without having to pay the subscription price for any such ordinary shares. As a result, the optionholder would receive fewer shares upon exercise. For any exercise of the Names’ Options on a cashless basis, the number of ordinary shares to be issued would be based on the difference between the exercise price on the date of exercise and the then-prevailing market price of the ordinary shares, calculated using the average closing price for five preceding trading days.

Following the issuance of the Names’ Options, there were a range of anti-dilution protections for the optionholders if any issuance or reclassification of our shares or similar matters are effected below fair market value, subject to certain exceptions. Under these circumstances, an adjustment to the subscription rights of the optionholders or the subscription price of the Names’ Options would be made by the Board. If optionholders holding 75% or more of the rights to subscribe for non-voting shares under the Names’ Options requested, any adjustment proposed by the Board may be referred to independent financial advisors for their determination.

Description of our Perpetual PIERS

In December 2005, the Board authorized the issuance and sale of up to an aggregate amount of 4,600,000 of our 5.625% Perpetual PIERS, with a liquidation preference of $50 per security. In the event of a liquidation, winding up or dissolution of the Company, our ordinary shares will rank junior to our Perpetual PIERS.

Dividends on our Perpetual PIERS are payable on a non-cumulative basis only when, as and if declared by the Board at the annual rate of 5.625% of the $50 liquidation preference of each Perpetual PIERS, payable quarterly in cash, or if we elect, ordinary shares or a combination of cash and ordinary shares. Generally, unless the full dividends for the most recently ended dividend period on all outstanding Perpetual PIERS, any perpetual preference shares issued upon conversion of the Perpetual PIERS and Perpetual Preference Shares have been declared and paid, we cannot declare or pay a dividend on our ordinary shares.

Each Perpetual PIERS is convertible, at the holder’s option at any time, initially based on a conversion rate of 1.7077 ordinary shares per $50 liquidation preference of Perpetual PIERS (equivalent to an initial conversion price of approximately $29.28 per ordinary share), subject to certain adjustments.

Whenever dividends on any Perpetual PIERS have not been declared and paid for the equivalent of any six dividend periods, whether or not consecutive (a “nonpayment”), subject to certain conditions, the holders of our Perpetual PIERS will be entitled to the appointment of two directors, and the number of directors that comprise our Board will be increased by the number of directors so appointed. These appointing rights and the terms of the directors so appointed will continue until dividends on our Perpetual PIERS and any such series of voting preference shares following the nonpayment shall have been fully paid for at least four consecutive dividend periods.

In addition, the affirmative vote or consent of the holders of at least 66 2/3% of the aggregate liquidation preference of outstanding Perpetual PIERS and any series of appointing preference shares, acting together as a single class, will be required for the authorization or issuance of any class or series of share capital (or security convertible into or exchangeable for shares) ranking senior to our Perpetual PIERS as to dividend rights or rights upon our liquidation, winding-up or dissolution and for amendments to our memorandum of association or bye-laws that would materially adversely affect the rights of holders of Perpetual PIERS. Our Perpetual PIERS are listed on the NYSE under the symbol “AHLPR.”

 

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Description of our 7.401% Perpetual Preference Shares

In November 2006, the Board authorized the issuance and sale of up to an aggregate amount of 8,000,000 of our 7.401% Perpetual Preference Shares, with a liquidation preference of $25 per security. In the event of our liquidation, winding up or dissolution, our ordinary shares will rank junior to our Perpetual Preference Shares. On March 31, 2009, we purchased 2,672,500 of our 7.401% $25 liquidation price preference shares at a price of $12.50 per share. As at December 31, 2012, there were 5,327,300 7.401% Perpetual Preference Shares outstanding.

Dividends on our Perpetual Preference Shares are payable on a non-cumulative basis only when, as and if declared by the Board at the annual rate of 7.401% of the $25 liquidation preference of each Perpetual Preference Share, payable quarterly in cash. Commencing on January 1, 2017, dividends on our Perpetual Preference Shares will be payable, on a non-cumulative basis, when, as and if declared by the Board, at a floating annual rate equal to 3-month LIBOR plus 3.28%. This floating dividend rate will be reset quarterly. Generally, unless the full dividends for the most recently ended dividend period on all outstanding Perpetual Preference Shares, Perpetual PIERS and any perpetual preference shares issued upon conversion of the Perpetual PIERS have been declared and paid, we cannot declare or pay a dividend on our ordinary shares.

Whenever dividends on any Perpetual Preference Shares shall have not been declared and paid for the equivalent of any six dividend periods, whether or not consecutive (a “nonpayment”), subject to certain conditions, the holders of our Perpetual Preference Shares, acting together as a single class with holders of any and all other series of preference shares having similar appointing rights then outstanding (including any Perpetual PIERS and any perpetual preference shares issued upon conversion of the Perpetual PIERS), will be entitled to the appointment of two directors, and the number of directors that comprise our Board will be increased by the number of directors so appointed. These appointing rights and the terms of the directors so appointed will continue until dividends on our Perpetual Preference Shares and any such series of voting preference shares following the nonpayment shall have been fully paid for at least four consecutive dividend periods.

In addition, the affirmative vote or consent of the holders of at least 662/3% of the aggregate liquidation preference of outstanding Perpetual Preference Shares and any series of appointing preference shares (including any Perpetual PIERS and any perpetual preference shares issued upon conversion of the Perpetual PIERS), acting together as a single class, will be required for the authorization or issuance of any class or series of share capital (or security convertible into or exchangeable for shares) ranking senior to the Perpetual Preference Shares as to dividend rights or rights upon our liquidation, winding-up or dissolution and for amendments to our memorandum of association or bye-laws that would materially adversely affect the rights of holders of Perpetual Preference Shares.

On and after January 1, 2017, we may redeem the Perpetual Preference Shares at our option, in whole or in part, at a redemption price equal to $25 per Perpetual Preference Share, plus any declared and unpaid dividends.

Our 7.401% Perpetual Preference Shares are listed on the NYSE under the symbol “AHLPRA.”

 

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Description of our 7.250% Perpetual Preference Shares

On April 3, 2012, the Pricing and Repurchase Committee of the Board authorized the issuance and sale of up to $230,000,000 of our 7.250% Perpetual Preference Shares, with a liquidation preference of $25 per security. On April 11, 2012, we issued 6,400,000 7.250% Perpetual Preference Shares for an aggregate amount of $160 million. In the event of our liquidation, winding up or dissolution, our ordinary shares will rank junior to our Perpetual Preference Shares.

Dividends on our Perpetual Preference Shares are payable on a non-cumulative basis only when, as and if declared by the Board at the annual rate of 7.250% of the $25 liquidation preference of each Perpetual Preference Share, payable quarterly in cash on January 1, April 1, July 1 and October 1 of each year.

Whenever dividends on any Perpetual Preference Shares shall have not been declared and paid for the equivalent of any six dividend periods, whether or not consecutive (a “nonpayment”), subject to certain conditions, the holders of our Perpetual Preference Shares, acting together as a single class with holders of any and all other series of preference shares having similar appointing rights then outstanding (including any Perpetual PIERS, any perpetual preference shares issued upon conversion of the Perpetual PIERS and the 7.401% Perpetual Preference Shares), will be entitled to the appointment of a total of two directors and the number of directors that comprise our Board will be increased by the number of directors so appointed. These appointing rights and the terms of the directors so appointed will continue until dividends on our Perpetual Preference Shares and any such series of voting preference shares following the nonpayment shall have been fully paid for at least four consecutive dividend periods.

In addition, the affirmative vote or consent of the holders of at least 662/3% of the aggregate liquidation preference of outstanding Perpetual Preference Shares and any series of appointing preference shares (including any Perpetual PIERS, any perpetual preference shares issued upon conversion of the Perpetual PIERS and the 7.401% Perpetual Preference Shares), voting together as a single class, will be required for the authorization or issuance of any class or series of senior shares (or any security convertible into or exchangeable for senior shares) ranking senior to the Perpetual Preference Shares as to dividend rights or rights upon our liquidation and for amendments to our memorandum of association or bye-laws that would materially adversely affect the rights of holders of Perpetual Preference Shares.

We may redeem the Perpetual Preference Shares at our option, in whole or in part, at a redemption price equal to $25 per Perpetual Preference Share, plus any declared and unpaid dividends, if any, (i) at any time following the occurrence of a tax event and (ii) on July 1, 2017 and any dividend payment date thereafter.

Our 7.250% Perpetual Preference Shares are listed on the NYSE under the symbol “AHLPRB.”

 

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Item 6. Selected Consolidated Financial Data

The following table sets forth our selected historical financial information for the periods ended and as of the dates indicated. The summary income statement data for the twelve months ended December 31, 2012, 2011, 2010, 2009 and 2008 and the balance sheet data as of December 31, 2012, 2011, 2010, 2009 and 2008 are derived from our audited consolidated financial statements. The consolidated financial statements as of December 31, 2012, and for each of the twelve months ended December 31, 2012, 2011 and 2010, and the report thereon of KPMG Audit Plc, an independent registered public accounting firm, are included elsewhere in this report. These historical results, including the ratios presented below, are not necessarily indicative of results to be expected from any future period. You should read the following selected consolidated financial information along with the information contained in this report, including Item 8, “Financial Statements and Supplementary Data” and Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the audited consolidated financial statements, condensed consolidated financial statements and related notes included elsewhere in this report.

 

     Twelve Months Ended December 31,  
     2012     2011     2010     2009     2008  
    

($ in millions, except per share amounts and percentages)

(As Adjusted)

 

Summary Income Statement Data

          

Gross written premiums

   $ 2,583.3      $ 2,207.8      $ 2,076.8      $ 2,067.1      $ 2,001.7   

Net premiums written

     2,246.9        1,929.1        1,891.1        1,836.8        1,835.5   

Net premiums earned

     2,083.5        1,888.5        1,898.9        1,823.0        1,701.7   

Loss and loss adjustment expenses

     (1,238.5     (1,556.0     (1,248.7     (948.1     (1,119.5

Policy acquisition, general, administrative and corporate expenses(1)

     (726.3     (631.5     (587.1     (586.6     (507.4

Net investment income

     204.9        225.6        232.0        248.5        139.2   

Net income/(loss)

     280.4        (110.1     312.7        473.9        103.8   

Basic earnings/(loss) per share

     3.51        (1.88     3.80        5.82        0.92   

Fully diluted earnings/(loss) per share

     3.38        (1.88     3.62        5.64        0.89   

Basic weighted average shares outstanding (millions)

     71.1        70.7        76.3        82.7        83.0   

Diluted weighted average shares outstanding (millions)

     73.7        70.7        80.0        85.3        85.5   

Selected Ratios (based on U.S. GAAP income statement data):

          

Loss ratio (on net premiums earned)(2)

     59.4     82.4     65.8     52.0     65.8

Expense ratio (on net premiums earned)(3)

     34.9     33.5     30.9     32.1     29.8

Combined ratio(4)

     94.3     115.9     96.7     84.1     95.6

Summary Balance Sheet Data

          

Total cash and investments(5)

   $ 8,203.9      $ 7,624.9      $ 7,320.0      $ 6,811.9      $ 5,974.9   

Premiums receivable(6)

     1,141.8        985.1        905.0        793.4        762.5   

Total assets

     10,310.6        9,460.5        8,832.1        8,257.2        7,288.8   

Loss and loss adjustment expense reserves

     4,779.7        4,525.2        3,820.5        3,331.1        3,070.3   

Reserves for unearned premiums

     1,120.8        916.1        859.0        907.6        810.7   

Long-term debt

     499.1        499.0        498.8        249.6        249.5   

Total shareholders’ equity

     3,488.4        3,156.0        3,241.9        3,305.4        2,779.1   

Per Share Data (Based on U.S. GAAP Balance Sheet Data):

          

Book value per ordinary share(7)

   $ 42.12      $ 39.66      $ 40.96      $ 35.42      $ 28.95   

Diluted book value per share (treasury stock method)(8)

   $ 40.65      $ 38.21      $ 38.90      $ 34.14      $ 28.19   

Cash dividend declared per ordinary share

   $ 0.66      $ 0.60      $ 0.60      $ 0.60      $ 0.60   

 

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(1) In 2012, the Company adopted the provision of ASU 2010-26, “Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts.” Under the standard, the Company is required to expense the proportion of its general and administrative deferred acquisition costs not directly related to successful acquisition. For more information on the impact of ASU 2010-26 refer to Note 2(l) in our consolidated financial statements, “Basis of Preparation and Significant Accounting Policies — New Accounting Policies.”

 

(2) The loss ratio is calculated by dividing losses and loss adjustment expenses by net premiums earned.

 

(3) The expense ratio is calculated by dividing policy acquisition expenses and general and administrative expenses by net premiums earned.

 

(4) The combined ratio is the sum of the loss ratio and the expense ratio.

 

(5) Total cash and investments include cash, cash equivalents, fixed maturities, other investments, short-term investments, accrued interest and receivables for investments sold.

 

(6) Premiums receivable including funds withheld.

 

(7) Book value per ordinary share is based on total shareholders’ equity excluding the aggregate value of the liquidation preferences of our preference shares, divided by the number of shares outstanding of 81,506,503, 83,327,594, 70,508,013, 70,655,698 and 70,753,723 at December 31, 2008, 2009, 2010, 2011 and 2012, respectively.

 

(8) Diluted book value per share is calculated based on total shareholders’ equity excluding the aggregate value of the liquidation preferences of our preference shares, at December 31, 2008, 2009, 2010, 2011 and 2012, divided by the number of dilutive equivalent shares outstanding of 83,705,984, 86,465,357, 74,172,657, 73,355,674 and 73,312,340 at December 31, 2008, 2009, 2010, 2011 and 2012, respectively. At December 31, 2008, 2009, 2010, 2011 and 2012, there were 2,199,481, 3,137,763, 3,664,644, 2,699,976 and 2,558,617 of dilutive equivalent shares, respectively. Potentially dilutive shares outstanding are calculated using the treasury method and all relate to employee, director and investor options

 

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Item  7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following is a discussion and analysis of the results of our operations for the twelve months ended December 31, 2012, 2011 and 2010 and of our financial condition as at December 31, 2012. This discussion and analysis should be read in conjunction with our audited consolidated financial statements and accompanying Notes included in this report. This discussion contains forward-looking statements that involve risks and uncertainties and that are not historical facts, including statements about our beliefs and expectations. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those discussed below and particularly under the headings “Risk Factors,” “Business” and “Forward-Looking Statements” contained in Item 1A, Item 1, and Part I of this report, respectively.

Aspen’s Year in Review

In 2012, Aspen celebrated its 10-year anniversary. Our success over the last 10 years reflects the support of our clients, with whom we have built strong relationships, the hard work and skill of all our people, and the diversified Reinsurance and Insurance platforms that we have built together. We made strong progress in 2012 against our strategic objectives and continued to execute our strategy to increase the size and diversity of our insurance segment. This was the first full year of contributions from a number of our U.S.-based teams and was the most significant driver for our growth in gross written premiums. We experienced a significant reduction in catastrophe-related claims compared to 2011, with Superstorm Sandy being the only event to generate significant claims in 2012 as well as the sinking of the Costa Concordia cruise liner, which was a large loss. We continued to execute our strategy to grow our business, protect our balance sheet, preserve shareholder value and position our business for future growth. For 2012, we reported a net profit of $3.38 per diluted ordinary share and return on equity of 8.5% and increased our diluted book value per share by $2.44, an increase of 6.4% from year end 2011.

Insurance.  In 2012, our insurance segment experienced losses from Superstorm Sandy and the sinking of the Costa Concordia cruise liner. Nevertheless, we achieved an underwriting profit of $6.3 million for 2012 and a combined ratio of 99.3%, compared with an underwriting profit of $30.2 million and a combined ratio of 96.1% for 2011. Gross written premiums for the segment increased by 32.8% reflecting significant growth in the U.S. but also an improvement across a number of international lines. The premium growth in the U.S. was achieved following the successful application and approval of admitted licenses in 50 U.S. states and the District of Columbia. We also continued to build out management expertise and infrastructure to support growth and development.

Reinsurance.  Our reinsurance segment had a successful year notwithstanding pre-tax losses of $129.5 million, net of reinsurance and reinstatement premiums, from Superstorm Sandy. We had good performance in each of our principal lines of business — property, casualty and specialty reinsurance. We achieved an underwriting profit of $165.4 million for 2012 and a combined ratio of 85.4%, compared with an underwriting loss of $284.5 million and a combined ratio of 125.6% for 2011. Premium production was broadly consistent with the prior year as we maintained rates for casualty business and benefited from rate increases on catastrophe-exposed accounts. Catastrophe losses in 2012 were significantly lower than in 2011 with limited losses in the first nine months of 2012 and Superstorm Sandy in the fourth quarter.

Capital management.  During 2012, we continued to execute our strategy to return excess capital to shareholders. In the second quarter, we increased our quarterly dividend from $0.15 to $0.17 per

 

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ordinary share and we returned additional funds to shareholders through the repurchase of ordinary shares. In total during 2012 we repurchased 2,168,080 ordinary shares, for a total consideration of $62.7 million. On October 24, 2012, our Board approved a new share repurchase authorization for up to $400.0 million of outstanding ordinary shares, which was recently increased to $500.0 million. See “Recent Developments,” below. The share repurchase authorization permits us to effect the repurchases from time to time through a combination of transactions, including open market repurchases, privately negotiated transactions and accelerated share repurchase transactions.

Financial Overview

The following overview of our 2012, 2011 and 2010 operating results and financial condition is intended to identify important themes and should be read in conjunction with the more detailed discussion further below.

Operating highlights

 

   

Annualized net income return on average equity of 8.5% for 2012 compared with (4.8)% in 2011 and 11.2% in 2010.

 

   

Gross written premiums of $2,583.3 million in 2012, an increase of 17.0% compared to 2011 and 24.4% compared to 2010, principally in the insurance segment.

 

   

Combined ratio for 2012 of 94.3%, including $205.0 million, or 10.8 percentage points of pre-tax catastrophe losses, net of reinsurance and reinstatements, compared with 115.9% for 2011, which included 31.5 percentage points of pre-tax catastrophe losses, net of reinsurance and reinstatements and 96.7% for 2010, which included 9.0 percentage points of pre-tax catastrophe losses, net of reinsurance and reinstatements.

 

   

Net favorable development on prior year loss reserves of $137.4 million, or 6.6 combined ratio points, for the year compared with $92.3 million, or 4.9 combined ratio points, for 2011 and $21.4 million, or 1.1 combined ratio points, for 2010.

Gross written premiums.  The changes in our segments’ gross written premiums for the twelve months ended December 31, 2012, 2011 and 2010 are as follows:

 

     Gross Written Premiums for the Twelve Months Ended December  31,  

Business Segment

   2012     2011     2010  
     ($ in millions)      % increase     ($ in millions)      % increase     ($ in millions)  

Reinsurance

     $1,227.9         3.4     $1,187.5         2.2     $1,162.2   

Insurance

     1,355.4         32.8     1,020.3         11.6     914.6   
  

 

 

      

 

 

      

 

 

 

Total

     $2,583.3         17.0     $2,207.8         6.3     $2,076.8   
  

 

 

      

 

 

      

 

 

 

Gross written premiums increased by 17.0% in 2012 compared to 2011 due predominantly to the continued development of our U.S. insurance platform. The increase in gross written premiums in the insurance segment was across all lines, but is mainly attributable to our property and programs business. Increases in gross written premiums in our marine, energy and transportation insurance lines were mainly due to increased premiums for marine, energy and liability business which achieved significant rate increases following a series of industry losses in the past year. The increase in gross

 

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written premiums in the reinsurance segment arose from other property and casualty reinsurance business. The increase in other property is due to strong production from our proportional treaty and facultative business as we benefited from positive pricing momentum in catastrophe-exposed accounts while casualty benefited from favorable prior year premium adjustments. In 2012, we recognized $9.9 million of reinstatement premiums associated with Superstorm Sandy. In 2011, we recognized $32.5 million of reinstatement premiums associated with the New Zealand earthquakes, the Australian floods, the Japanese earthquake, the Thai floods, the U.S. storms, and other natural catastrophe events, mainly included in property catastrophe. In 2011, the principal growth in premiums was in our insurance segment, mainly from our U.S. insurance lines as we started benefiting from our investment in 2010 in the U.S.

Combined ratio.  We monitor the ratio of losses and expenses to net earned premium (the “combined ratio”) as a measure of relative performance where a lower ratio represents a better result than a higher ratio. The combined ratios for our two business segments for the twelve months ended December 31, 2012, 2011 and 2010 were as follows:

 

     Combined Ratios for  the
Twelve Months Ended
December 31,
 

Business Segment

     2012         2011         2010    

Reinsurance

     85.4     125.6     88.2

Insurance

     99.3     96.1     103.1

Total

     94.3     115.9     96.7

The combined ratio for 2012 decreased by 21.6 percentage points compared to 2011. The decrease was primarily due to a reduction in pre-tax catastrophe losses, net of reinsurance and reinstatements, of $329.3 million of net losses from major natural catastrophes from $534.3 million in 2011 to $205.0 million in 2012 but was partially offset by an increase in the expense ratio.

In each of the years ended December 31, 2012, 2011 and 2010, we recorded a reduction in the level of reserves for prior years. In 2012, we reported net favorable development on prior year loss reserves of $137.4 million, or 6.6 combined ratio points, compared with $92.3 million, or 4.9 combined ratio points, for 2011 and $21.4 million, or 1.1 combined ratio points, for 2010.

Reserve releases increased by $45.1 million in 2012 due to a net reserve release in our reinsurance segment of $102.2 million compared to $72.3 million in 2011. The insurance segment had a $35.2 million reserve release in 2012 compared to a $20.0 million reserve release in 2011.

Reserve releases increased by $70.9 million in 2011 due mainly to a net reserve release of $20.0 million for our insurance segment compared to a $44.2 million reserve strengthening in 2010. Reserve releases were $64.2 million lower in 2010 due to less favorable developments impacting our insurance segment, particularly our casualty insurance and financial and professional lines.

Further information relating to the release of reserves can be found below under “— Reserves for Loss and Loss Adjustment Expenses — Prior Year Loss Reserves”.

Policy acquisition expenses reduced in 2012 compared to 2011 due mainly to adjustments in profit-related commission accruals and increased in 2011 from 2010 mainly due to an increase in profit-related commissions in the insurance segment. General, administrative and corporate expenses have increased to $345.1 million in 2012 from $284.5 million in 2011 and $258.6 million in 2010. The

 

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increase in 2012 is due to an increase in performance-related accruals and the continued build out of our U.S. insurance and U.K. regional platforms. General, administrative and corporate expense increased in 2011 compared to 2010 due to increases in costs associated mainly with growth in our insurance business.

Net investment income.  In 2012, we generated net investment income of $204.9 million, a decrease of 9.2% on the prior year (2011 — $225.6 million; 2010 — $232.0 million). Net investment income has steadily declined over the years from 2010 to 2012, due to the continuing decline in our reinvestment rate reflecting lower yields on investment grade fixed income securities. Relative to 2010, in 2011, lower reinvestment rates and declining book yields from fixed income securities were partially offset by $6.1 million of dividend income from global equity securities.

Taxes.  We recognized a tax expense in 2012 of $15.0 million (2011 — $37.2 million credit; 2010 — $27.6 million expense), equivalent to a consolidated rate on income before tax of 5.1% in 2012 compared to 25.3% tax credit in 2011 and 8.1% in 2010. The tax in each of the years is representative of the geographic spread of our business between taxable and non-taxable jurisdictions in such years. The tax credit in 2011 was due to a greater proportion of losses having been incurred by Operating Subsidiaries in tax paying jurisdictions, adjustments to prior years’ tax provisions as well as reductions in the U.K. corporation tax rates.

Net income.  For 2012, we reported income after taxes of $280.4 million, compared to a loss after taxes of $110.1 million in 2011, and income after taxes of $312.7 million in 2010. The increase in net income in 2012 over 2011 was due to primarily to the $417.7 million increase in underwriting income including corporate expenses which more than offset the $20.7 million reduction in investment income. The significant decrease in net income from 2011 compared to 2010 was due to total net losses after tax of $485.4 million from natural disasters in 2011 which included $223.7 million from the Japanese earthquake and tsunami, $93.8 million from the U.S. storms, $53.5 million from the Thai floods, $60.1 million from the 2011 New Zealand earthquake, $18.1 million from the Australian floods and $36.2 million from other natural catastrophes.

Dividends.  In April 2012, the Board approved an increase in the quarterly dividend on our ordinary shares from $0.15 per ordinary share to $0.17 per ordinary share (2011 — $0.15 quarterly dividend; 2010 — $0.15 quarterly dividend). Dividends paid on the preference shares in 2012 were $31.1 million (2011 — $22.8 million; 2010 — $22.8 million). The increase was due to issuance in April 2012 of additional $160.0 million of preference shares.

Shareholders’ equity and financial leverage.  Total shareholders’ equity increased from $3,156.0 million as at December 31, 2011 to $3,488.4 million as at December 31, 2012. The most significant movements were:

 

   

the issue of 6,400,000 7.25% perpetual non-cumulative preference shares for net proceeds of $154.5 million;

 

   

a $280.6 million increase in retained earnings for the period;

 

   

cash repurchases of 2,168,080 ordinary shares for $62.7 million; and

 

   

dividends paid on ordinary and preference shares of $47.0 million and $31.1 million, respectively.

 

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As at December 31, 2012, our total shareholders’ equity included preference shares with a total value as measured by their respective liquidation preferences of $523.2 million (2011 — $363.2 million) less issue costs of $15.1 million (2011 — $9.6 million).

Our Senior Notes were the only material debt that we had issued as of December 31, 2012 and 2011 of $499.1 million and $499.0 million, respectively. Management monitors the ratio of debt to total capital, with total capital being defined as shareholders’ equity plus outstanding debt. At December 31, 2012, this ratio was 12.5% (2011 — 13.7%).

Our preference shares are classified in our balance sheet as equity but may receive a different treatment in some cases under the capital adequacy assessments made by certain rating agencies. We also monitor the ratio of the total of debt and the liquidation preference of our preference shares to total capital which was 25.3% as of December 31, 2012 (2011 — 23.3%).

Diluted book value per ordinary share at December 31, 2012 was $40.65, an increase of 6.4% compared to $38.21 at December 31, 2011.

Book value per ordinary share is based on total shareholders’ equity, less preference shares (liquidation preference less issue expenses), divided by the number of ordinary shares in issue at the end of the period.

Balances as at December 31, 2012 and December 31, 2011 were:

 

     As at
December 31, 2012
    As at
December 31, 2011
 
     ($ in millions, except for share amounts)  

Total shareholders’ equity

   $ 3,488.4      $ 3,156.0   

Preference shares less issue expenses

     (508.1     (353.6
  

 

 

   

 

 

 

Net assets attributable to ordinary shareholders

   $ 2,980.3      $ 2,802.4   
  

 

 

   

 

 

 

Issued ordinary shares

     70,753,723        70,655,698   

Issued and potentially dilutive ordinary shares

     73,312,340        73,355,674   

Market Conditions, Rate Trends and Developments in 2012 and Early 2013

Overall.  For 2012 as a whole, we achieved an approximate average rate increase of 4% on renewals across our business with approximately 5% in reinsurance and approximately 3% in insurance. Currently, the U.S. primary insurance market is achieving the most promising rate increases across the greatest number of lines. These increases are now beginning to flow through to the reinsurance market.

In our insurance segment, in early 2013 we are seeing favorable rating conditions in marine, energy and construction liability and global excess and U.S. primary casualty and a perceptibly hardening market in financial institutions both in the U.S. and internationally as well as increased deal flow in our credit, political and terrorism team.

In our reinsurance segment, in early 2013 we are seeing good rating momentum in marine and U.S. property reinsurance with an improving market in parts of our casualty business. We are also benefiting from our regional network, where we are achieving favorable rate increases for many international accounts notwithstanding a tough trading environment in those geographic markets.

Reinsurance.  January 1 is a significant renewal date in the reinsurance market. The renewal period is dominated by the U.S. and European markets. For 2012, the property catastrophe business achieved

 

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a rate increase of approximately 11%. Prior to Superstorm Sandy, there were initial indications in the market that January 1 renewal rates would be flat or declining. The loss experience from Superstorm Sandy reversed that trajectory. We achieved significant rate increases in loss affected accounts, but accounts with no loss experience were mostly flat. We are experiencing a similar trend across most of our property treaty book. For specific lines and geographies where there has been meaningful loss activity we are seeing significant rate increases. The U.S. property facultative market has responded to Superstorm Sandy with significant increases for flood cover but fire rates remain flat. The tendency for cedants to retain more risk continued during the January renewal period.

In a largely benign year for losses outside the U.S., rates in international property markets are generally flat or showing a small decrease. It is encouraging that the markets are responding to the Asian catastrophe events of 2011 with event limits becoming the norm rather than the exception and markets willing to reduce limits for business interruption and Japanese interest abroad exposures.

Casualty reinsurance achieved a rate increase of approximately 1% for 2012. The rate environment continues to vary based on line and geography. The most meaningful rate increases were within our U.S. general and professional excess and surplus lines where we have seen increases of up to approximately 5%. This trend continued in our January renewals. Overall, we remain cautious about our growth opportunities in casualty reinsurance given the prolonged low interest rate environment. It is however important to note that we do not see any significant changes in loss cost trends for this line and the rates achieved in our current account are keeping in front of any inflationary indications.

In specialty reinsurance, rates declined approximately 2% on average in 2012, with the softest rates in credit and surety reinsurance following another profitable year. The rates for the January 1 renewals were mixed. Marine was dominated by the uncertainty over the Superstorm Sandy and Costa Concordia losses. Business affected by these events experienced rate increases of up to approximately 30% with increased client risk retention. Competition in credit and surety was high with plenty of capacity supplemented by a few new entrants to the market but both primary and reinsurance contract terms and conditions remain disciplined.

Insurance.  January 1 is not a major renewal date for insurance overall. For our property insurance lines across the U.S. and the U.K. we achieved an approximate average rate increase of 5% and the U.S. property team achieved an approximate increase of 6% in 2012. We saw no major changes in the U.S. property insurance terms and conditions during the most recent quarter although we are anticipating approximate price increases at mid-year 2013 renewals in the 5% - 25% range in the loss-affected Northeast and 5% - 10% overall as the market responds to Superstorm Sandy losses.

We also expect terms and conditions for windstorm and flood to tighten in the Northeast. In our programs business, we achieved rate increases of approximately 3% for 2012 and anticipate rates increasing further in response to Superstorm Sandy losses. In our U.K. property business, the market remains very competitive but the rating environment appears to have stabilized and we continue to focus on our strict underwriting discipline.

In casualty insurance, we continue to see positive momentum in the U.S. primary casualty market. We achieved average rate increases of approximately 8% for 2012 and the outlook continues to be favorable. The global casualty market achieved an approximate average rate increase of 4% in 2012.

In our marine, energy and transportation business we achieved an overall rate increase of approximately 2% for 2012. This increase was led by our marine, energy and construction liability accounts where the market continues to harden following significant loss activity. Terms remain strong

 

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in this account and we achieved an increase of approximately 9% for 2012. The aviation market remains challenging with rate decreases of approximately 8% for 2012.

The rating environment in financial and professional lines is mixed, achieving an approximate average rate increase of 1%. Rate increases were led by the financial institutions account which increased by approximately 7% and U.S. management liability which increased by approximately 5% while rates in the U.K. remain pressured in areas such as U.K. management liability and professional indemnity accounts.

Investments.  We recognize that the low interest rate environment is likely to remain for at least the immediate future. We have evaluated investment opportunities that will help us generate increased returns, while remaining within our risk tolerances. As a result, we are increasing the total allocation of our investment portfolio to equities and BB rated securities by $200.0 million in each sector. We completed our additional investment in equities on February 1, 2013. Our additional investment in BB securities will be predominantly in bank loans and we expect to complete this in the medium term.

Recent Developments

From January 1, 2013 to February 25, 2013, we repurchased 1,344,873 ordinary shares under its Rule 10b5-1 plan at an average price of $33.95 per share for a total cost of $45.7 million.

On February 1, 2013, we announced that Aspen U.K. and Aspen Bermuda entered into an amendment to the secured letter of credit facility agreement with Barclays Bank PLC dated as of October 6, 2009 and amended as of February 28, 2011. The amendment extends the maturity date of the credit facility to January 31, 2015.

On February 7, 2013, we announced the appointment of Mr. Gordon Ireland to our Board as a Class III director. In addition, Mr. Julian Cusack will resign as a director of the Company at the next Annual General Meeting scheduled for April 24, 2013. Mr. Cusack has stepped down from his role as Aspen’s Chief Risk Officer with effect on February 7, 2013, but will remain with us in a strategic role and as Chairman of Aspen Bermuda. Further, Mr. Ian Cormack will not stand for re-election as a director of the Company at the next Annual General Meeting scheduled for April 24, 2013.

On February 7, 2013, we announced that our Board has replaced the existing share repurchase authorization of $400.0 million with a new authorization of $500.0 million. The total share repurchase authorization, which is effective immediately through February 7, 2015, permits us to effect the repurchases from time to time through a combination of transactions, including open market repurchases, privately negotiated transactions and accelerated share repurchase transactions.

On February 7, 2013, we announced that we would commence a significant and controlled reduction of our wind and earthquake exposure within our U.S. property insurance account. The decision to reduce our exposures was taken following a review of all business lines, after which we concluded that the earnings from our U.S. property insurance portfolio were excessively volatile as a result of inadequate original rates for catastrophe exposure and expensive reinsurance costs. We expect the reduction in wind and earthquake exposure to result in a release of capital over the next two years which we will utilize to repurchase shares unless other compelling opportunities emerge.

Critical Accounting Policies

Our consolidated financial statements contain certain amounts that are inherently subjective in nature and require management to make assumptions and best estimates to determine the reported

 

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values. We believe that the following critical accounting policies affect the more significant estimates used in the preparation of our consolidated financial statements. A statement of all the significant accounting policies we use to prepare our financial statements is included in the Notes to the consolidated financial statements. If factors such as those described in Item 1A, “Risk Factors” cause actual events to differ from the assumptions used in applying the accounting policy and calculating financial results, there could be a material adverse effect on our operating results, financial condition and liquidity.

Written Premiums

Written premiums are comprised of the estimated premiums on contracts of insurance and reinsurance entered into in the reporting period, except in the case of proportional reinsurance contracts, where written premium relates only to our estimated proportional share of premiums due on contracts entered into by the ceding company prior to the end of the reporting period.

All premium estimates are reviewed regularly, comparing actual reported premiums to expected ultimate premiums along with a review of the collectability of premiums receivable. Based on management’s review, the appropriateness of the premium estimates is evaluated, and any adjustments to these estimates are recorded in the periods in which they become known. Adjustments to original premium estimates could be material and these adjustments may directly and significantly impact earnings in the period they are determined because the subject premium may be fully or substantially earned.

We refer to premiums receivable which are not fixed at the inception of the contract as adjustment premiums. The proportion of adjustment premiums included in the premium estimates varies between business lines with the largest adjustment premiums associated with property and casualty reinsurance business and the smallest with property and liability insurance lines.

Adjustment premiums are most significant in relation to reinsurance contracts. Differing considerations apply to non-proportional and proportional treaties as follows:

Non-proportional treaties.  A large number of the reinsurance contracts we write are written on a non-proportional or excess of loss treaty basis. As the ultimate level of business written by each cedant can only be estimated at the time the reinsurance is placed, the reinsurance contracts generally stipulate a minimum and deposit premium payable under the contract with an adjustable premium determined by variables such as the number of contracts covered by the reinsurance, the total premium received by the cedant and the nature of the exposures assumed. Minimum and deposit premiums generally cover the majority of premiums due under such treaty reinsurance contracts and the adjustable portion of the premium is usually a small portion of the total premium receivable. For excess of loss contracts, the minimum and deposit premium, as defined in the contract, is generally considered to be the best estimate of the contract’s written premium at inception. Accordingly, this is the amount we generally record as written premium in the period the underlying risks incept.

During the life of a contract, notifications from cedants and brokers may affect the estimate of ultimate premium and result in either increases or reductions in reported revenue. Changes in estimated adjustable premiums do not generally have a significant impact on short-term liquidity as the payment of adjustment premiums generally occurs after the expiration of a contract.

Many non-proportional treaties also include a provision for the payment to us by the cedant of reinstatement premiums based on loss experience under such contracts. Reinstatement premiums are

 

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the premiums charged for the restoration of the reinsurance limit of an excess of loss contract to its full amount after payment by the reinsurer of losses as a result of an occurrence. These premiums relate to the future coverage obtained during the remainder of the initial policy term and are included in revenue in the same period as the corresponding losses.

Proportional treaties (“treaty pro rata”).  Estimates of premiums assumed under treaty pro rata reinsurance contracts are recorded in the period in which the underlying risks are expected to incept and are based on information provided by brokers and ceding companies and estimates of the underlying economic conditions at the time the risk is underwritten. We estimate premium receivable initially and update our estimates regularly throughout the contract term based on treaty statements received from the ceding company.

The reported gross written premiums for treaty pro rata business include estimates of premiums due to us but not yet reported by the cedant because of time delays between contracts being written by our cedants and their submission of treaty statements to us. This additional premium is normally described as pipeline premium. Treaty statements disclose information on the underlying contracts of insurance written by our cedants and are generally submitted on a monthly or quarterly basis, from 30 to 90 days in arrears. In order to report all risks incepting prior to a period end, we estimate the premiums written between the last submitted treaty statement and the period end.

Property treaty pro rata made a significant contribution to our reinsurance segment where we wrote $171.3 million in gross written premium in 2012 (2011 — $136.0 million), or 14.0% of our reinsurance segment, of which $52.5 million was estimated (2011 — $46.7 million) and $118.8 million was reported by the cedants (2011 — $89.3 million). Excluding the impact of fixed costs such as reinsurance premiums and operating expenses, we estimate that the impact of a $1.0 million increase in our estimated gross premiums written in our property treaty pro rata business would increase net income before tax by $0.1 million for our property reinsurance segment for the year to December 31, 2012. Conversely in the year to December 31, 2011, property treaty pro rata posted a loss and as a result a $1.0 million increase in our estimated gross premiums written would decrease our net income before tax by $0.8 million for our property reinsurance segment.

The most likely drivers of change in the estimates in decreasing order of magnitude are:

 

   

changes in the renewal rate or rate of new business acceptances by the cedant insurance companies leading to lower or greater volumes of ceded premiums than our estimate, which could result from changes in the relevant primary market that could affect more than one of our cedants or could be a consequence of changes in marketing strategy or risk appetite by a particular cedant;

 

   

changes in the rates being charged by cedants; and

 

   

differences between the pattern of inception dates assumed in our estimate and the actual pattern of inception dates.

We anticipate that ultimate premiums might reasonably be expected to vary by up to 5% as a result of variations in one or more of the assumptions described above, although larger variations are possible. Based on gross written premiums of $171.3 million (2011 — $136.0 million) in our property reinsurance treaty pro rata account as of December 31, 2012, a variation of 5% could increase or reduce net income before taxation by approximately $0.9 million (2011 — $5.2 million).

 

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Earned premiums.  Premiums are recognized as earned over the policy exposure periods. The premium related to the unexpired portion of each policy at the end of the reporting period is included in the balance sheet as unearned premiums.

Reserving Approach

We are required by U.S. GAAP to establish loss reserves for the estimated unpaid portion of the ultimate liability for losses and loss expenses (“ultimate losses”) under the terms of our policies and agreements with our insured and reinsured customers. Our loss reserves comprise the following components:

 

   

the cost of claims reported to us but not yet paid known as case reserves (“case reserves”);

 

   

the cost of claims that have not yet been reported to use known as IBNR claims; and

 

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