NOTE 3. Reinsurance

In the normal course of business, Montpelier purchases reinsurance from third parties in order to manage its exposures. The amount of reinsurance that Montpelier buys varies from year to year depending on its risk appetite, as well as the availability and cost of the reinsurance coverage. Ceded reinsurance premiums are accounted for on bases consistent with those used in accounting for the underlying premiums assumed, and are reported as reductions of net premiums written and earned. Certain of Montpelier’s assumed pro-rata contracts incorporate reinsurance protection provided by third-party reinsurers that inures to Montpelier’s benefit. These inuring reinsurance premiums are reported as reductions in gross premiums written and net premiums earned.

All of Montpelier’s reinsurance purchases to date have represented prospective cover, meaning that the coverage has been purchased to protect Montpelier against the risk of future losses as opposed to covering losses that have already occurred but have not yet been paid. Montpelier’s reinsurance contracts consist of excess-of-loss contracts covering one or more lines of business and pro-rata reinsurance with respect to specific lines of its business. Montpelier also purchases industry loss warranty (“ILW”) policies which provide coverage for certain losses incurred, provided they are triggered by events exceeding a specified industry loss size as well as Montpelier’s own incurred loss. For non-ILW excess-of-loss reinsurance contracts, the attachment point and exhaustion of these contracts are based solely on the amount of Montpelier’s actual losses incurred from an event or events.

Montpelier remains liable for losses it incurs to the extent that any third-party reinsurer is unable or unwilling to make timely payments under reinsurance agreements. Montpelier would also be liable in the event that its ceding companies were unable to collect amounts due from underlying third-party reinsurers.

Montpelier records provisions for uncollectible reinsurance recoverable when collection becomes unlikely due to the reinsurer’s inability to pay. Montpelier does not believe that there are any amounts uncollectible from its reinsurers as of the balance sheet dates presented.

Earned reinsurance premiums ceded were $20.8 million and $20.9 million for the three month periods ended March 31, 2014 and 2013, respectively. Net decreases in estimated ultimate reinsurance recoveries included in loss and LAE were $3.4 million and $10.2 million for the three month periods ended March 31, 2014 and 2013, respectively. Changes in estimated ultimate reinsurance recoveries are primarily the result of changes in the estimated gross losses incurred. In addition to loss recoveries, certain of Montpelier’s ceded reinsurance contracts provide for recoveries of additional premiums, reinstatement premiums and for forgone no-claims bonuses, which are incurred when losses are ceded to these reinsurance contracts.

Reinsurance Recoverable on Paid and Unpaid Losses

Under Montpelier’s reinsurance security policy, reinsurers are typically required to be rated “A-” (Excellent) or better by A.M. Best (or an equivalent rating with another recognized rating agency) at the time the policy is written. Montpelier also considers reinsurers that are not rated or do not fall within this threshold on a case-by-case basis if adequately collateralized. Montpelier monitors the financial condition and ratings of its reinsurers on an ongoing basis.

The A.M. Best ratings of Montpelier’s reinsurers related to reinsurance recoverable on paid and unpaid losses at March 31, 2014 and December 31, 2013 are as follows:

	March 31, 2014				December 31, 2013
Rating	Amount		% of Total		Amount		% of Total
A+	$	2.3	53	%	$	0.7	19	%
A	0.7		16		1.4		39
A-	0.2		5		—		—
Unrated by A.M. Best	1.1		26		1.5		42
Total reinsurance recoverable on paid losses	$	4.3	100	%	$	3.6	100	%

	March 31, 2014				December 31, 2013
Rating	Amount		% of Total		Amount		% of Total
A+	$	24.4	44	%	$	28.6	45	%
A	19.8		36		20.2		32
A-	2.8		5		4.2		6
Unrated by A.M. Best	8.0		15		10.6		17
Total reinsurance recoverable on unpaid losses	$	55.0	100	%	$	63.6	100	%

Montpelier’s unrated reinsurance recoverables as of March 31, 2014 and December 31, 2013 relate to reinsurers that have either: (i) fully-collateralized the reinsurance obligation; (ii) a Standard & Poor’s financial strength rating equivalent to an A.M. Best rating of “A-” (Excellent) or better; or (iii) subsequently entered run-off but are considered by management to be financially sound.

Reinsurance Disputes

Montpelier is subject to litigation and arbitration proceedings in the normal course of its business. These proceedings often involve reinsurance contract disputes which are typical for the reinsurance industry. Expected or actual reductions in reinsurance recoveries due to contract disputes (as opposed to a reinsurer’s inability to pay) are not recorded as an uncollectible reinsurance recoverable. Rather, they are factored into the determination of, and are reflected in, Montpelier’s net loss and LAE reserves.

As of March 31, 2014, Montpelier had no ongoing material insurance or reinsurance contract disputes.