Acquisition of Radian Asset Assurance Inc.

9 Months Ended

Sep. 30, 2015

Business Combinations [Abstract]

Acquisition of Radian Asset Assurance Inc.

Acquisition of Radian Asset Assurance Inc.

On April 1, 2015 (“Acquisition Date”), AGC completed the acquisition (“Radian Asset Acquisition”) of all of the issued and outstanding capital stock of financial guaranty insurer Radian Asset Assurance Inc. (“Radian Asset”) for $804.5 million; the cash consideration was paid from AGC's available funds and from the proceeds of a $200 million loan from AGC’s direct parent, AGUS. AGC repaid the loan in full to AGUS on April 14, 2015. Radian Asset was merged with and into AGC, with AGC as the surviving company of the merger. The Radian Asset Acquisition added $13.6 billion to the Company's net par outstanding on April 1, 2015, and is consistent with one of the Company's key business strategies of supplementing its book of business through acquisitions.

Radian Asset Acquisition was accounted for under the acquisition method of accounting which required that the assets and liabilities acquired be recorded at fair value. The Company was required to exercise significant judgment to determine the fair value of the assets it acquired and liabilities it assumed in the Radian Asset Acquisition. The most significant of these determinations related to the valuation of Radian Asset's financial guaranty insurance and credit derivative contracts. On an aggregate basis, Radian Asset’s contractual premiums for financial guaranty contracts were less than the premiums a market participant of similar credit quality would demand to acquire those contracts at the Acquisition Date, particularly for below-investment-grade transactions, resulting in a significant amount of the purchase price being allocated to these contracts. For information on the methodology the Company used to measure the fair value of assets it acquired and liabilities it assumed in the Radian Asset Acquisition, including financial guaranty insurance and credit derivative contracts, please refer to Note 8, Fair Value Measurement.

The fair value of the Company's stand-ready obligation for financial guaranty insurance contracts on the Acquisition Date is recorded in unearned premium reserve. At the Acquisition Date, the fair value of each financial guaranty insurance contract acquired was in excess of the expected losses for each contract and therefore no explicit loss reserves were recorded on the Acquisition Date. Instead, loss reserves and loss and loss adjustment expenses ("LAE") will be recorded when the expected losses for each contract exceeds the remaining unearned premium reserve, in accordance with the Company's accounting policy described in the Annual Report on Form 10-K. The expected losses acquired by the Company as part of the Radian Asset Acquisition are included in the description of expected losses to be paid under Note 6, Expected Losses to be Paid.

The excess of the fair value of net assets acquired over the consideration transferred was recorded as a bargain purchase gain in "bargain purchase gain and settlement of pre-existing relationships" in net income. In addition, the Company and Radian Asset had pre-existing reinsurance relationships, which were also effectively settled at fair value on the Acquisition Date. The gain on settlement of these pre-existing reinsurance relationships represents the net difference between the historical ceded balances that were recorded by AGM and the fair value of assumed balances acquired from Radian. The Company believes the bargain purchase resulted from the announced desire of Radian Guaranty Inc. to focus its business strategy on the mortgage and real estate markets and to monetize its investment in Radian Asset and thereby accelerate its ability to comply with the financial requirements of the final Private Mortgage Insurer Eligibility Requirements.

The following table shows the net effect of the Radian Asset Acquisition at the Acquisition Date, including the effects of the settlement of pre-existing relationships.

	Fair Value of Net Assets Acquired, before Settlement of Pre-existing Relationships			Net effect of Settlement of Pre-existing Relationships			Net Effect of Radian Asset Acquisition
	(in millions)
Cash purchase price(1)	$	804		$	—		$	804
Identifiable assets acquired:
Investments	1,473			—			1,473
Cash	4			—			4
Ceded unearned premium reserve	(3		)	(65		)	(68		)
Credit derivative assets	30			—			30
Deferred tax asset, net	263			(56		)	207
Financial guaranty VIE assets	122			—			122
Other assets	86			(67		)	19
Total assets	1,975			(188		)	1,787
Liabilities assumed:
Unearned premium reserves	697			(216		)	481
Credit derivative liabilities	271			(26		)	245
Financial guaranty VIE liabilities	118			—			118
Other liabilities	30			(49		)	(19		)
Total liabilities	1,116			(291		)	825
Net asset effect of Radian Asset Acquisition	859			103			962
Bargain purchase gain and settlement of pre-existing relationships resulting from Radian Asset Acquisition, after-tax	55			103			158
Deferred tax	—			56			56
Bargain purchase gain and settlement of pre-existing relationships resulting from Radian Asset Acquisition, pre-tax	$	55		$	159		$	214

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(1) The cash purchase price of $804 million was the cash transferred for the acquisition which was allocated as follows: (1) $987 million for the purchase of net assets of $1,042 million, and (2) the settlement of pre-existing relationships between Radian and Assured Guaranty at a fair value of $(183) million.

Revenue and net income related to Radian Asset from the Acquisition Date through September 30, 2015 included in the consolidated statement of operations were approximately $348 million and $228 million, respectively. In the second quarter of 2015, the Company recorded transaction expenses related to the Radian Asset Acquisition in net income as part of other operating expenses. These expenses were primarily driven by the fees paid to the Company's legal and financial advisors and to the Company's independent auditor.

Radian Asset Acquisition-Related Expenses

	Nine Months 2015
	(in millions)
Professional services	$	2
Financial advisory fees	10
Total	$	12

Unaudited Pro Forma Results of Operations

The following unaudited pro forma information presents the combined results of operations of Assured Guaranty and Radian Asset as if the acquisition had been completed on January 1, 2014, as required under GAAP. The pro forma accounts include the estimated historical results of the Company and Radian Asset and pro forma adjustments primarily comprising the earning of the unearned premium reserve and the expected losses that would be recognized in net income for each prior period presented, as well as the accounting for bargain purchase gain, settlement of pre-existing relationships and Radian acquisition related expenses, all net of tax at the applicable statutory rate.

The unaudited pro forma combined financial information is presented for illustrative purposes only and does not indicate the financial results of the combined company had the companies actually been combined as of January 1, 2014, nor is it indicative of the results of operations in future periods.

Pro Forma Unaudited Results of Operations

	Nine Months 2015		Nine Months 2014
	(in millions, except per share amounts)
Pro forma revenues	$	1,255	$	1,542
Pro forma net income	493		958
Pro forma earnings per share:
Basic	3.27		5.43
Diluted	3.25		5.40