Variable Interest Entities and Noncontrolling Interests

A variable interest entity (“VIE”) refers to an entity that has characteristics such as (i) insufficient equity at risk to allow the entity to finance its activities without additional financial support or (ii) instances where the equity investors, as a group, do not have characteristics of a controlling financial interest. The primary beneficiary of a VIE is defined as the variable interest holder that is determined to have the controlling financial interest as a result of having both (i) the power to direct the activities of a VIE that most significantly impact the economic performance of the VIE and (ii) the obligation to absorb losses or right to receive benefits from the VIE that could potentially be significant to the VIE. If a company is determined to be the primary beneficiary, it is required to consolidate the VIE in its financial statements.

Watford Holdings Ltd.

In March 2014, the Company invested $100.0 million and acquired approximately 11% of Watford Holdings Ltd.’s common equity and a warrant to purchase additional common equity. Watford Holdings Ltd. is the parent of Watford Re Ltd., a multi-line Bermuda reinsurance company (together with Watford Holdings Ltd., “Watford Re”). Watford Re is considered a VIE and the Company concluded that it is the primary beneficiary of Watford Re. As such, the results of Watford Re are included in the Company’s consolidated financial statements.

The Company does not guarantee or provide credit support for Watford Re, and the Company’s financial exposure to Watford Re is limited to its investment in Watford Re’s common and preferred shares and counterparty credit risk (mitigated by collateral) arising from reinsurance transactions.

The following table provides the carrying amount and balance sheet caption in which the assets and liabilities of Watford Re are reported:



	June 30,		December 31,
	2018		2017
Assets
Investments accounted for using the fair value option	$	2,385,316	$	2,426,066
Fixed maturities available for sale, at fair value	279,177		—
Equity securities, at fair value	63,010		—
Cash	45,644		54,503
Accrued investment income	18,108		18,261
Premiums receivable	232,842		177,492
Reinsurance recoverable on unpaid and paid losses and LAE	54,299		42,777
Ceded unearned premiums	55,853		24,762
Deferred acquisition costs	88,752		85,961
Receivable for securities sold	31,387		36,374
Goodwill and intangible assets	7,650		7,650
Other assets	75,478		140,808
Total assets of consolidated VIE	$	3,337,516	$	3,014,654

Liabilities
Reserves for losses and loss adjustment expenses	$	899,395	$	798,262
Unearned premiums	384,537		330,644
Reinsurance balances payable	41,185		18,424
Revolving credit agreement borrowings	447,289		441,132
Payable for securities purchased	132,164		42,501
Other liabilities	244,320		215,186
Total liabilities of consolidated VIE	$	2,148,890	$	1,846,149

Redeemable noncontrolling interests	$	220,805	$	220,622

For the six months ended June 30, 2018, Watford Re generated $92.4 million of cash provided by operating activities, $168.0 million of cash used for investing activities and $2.1 million of cash used for financing activities, compared to $134.4 million of cash provided by operating activities, $63.5 million of cash used for investing activities and $76.4 million of cash used for financing activities for the six months ended June 30, 2017.

Non-redeemable noncontrolling interests

The Company accounts for the portion of Watford Re’s common equity attributable to third party investors in the shareholders’ equity section of its consolidated balance sheets. The noncontrolling ownership in Watford Re’s common shares was approximately 89% at June 30, 2018. The portion of Watford Re’s income or loss attributable to third party investors is recorded in the consolidated statements of income in ‘net (income) loss attributable to noncontrolling interests.’

The following table sets forth activity in the non-redeemable noncontrolling interests:



	June 30,
	2018			2017
Three Months Ended
Balance, beginning of period	$	854,112		$	868,186
Amounts attributable to noncontrolling interests	8,116			9,346
Other comprehensive income attributable to noncontrolling interests	(1,075		)	(76		)
Balance, end of period	$	861,153		$	877,456

Six Months Ended
Balance, beginning of year	$	843,411		$	851,854
Amounts attributable to noncontrolling interests	19,492			25,670
Other comprehensive income attributable to noncontrolling interests	(1,750		)	(68		)
Balance, end of period	$	861,153		$	877,456

Redeemable noncontrolling interests

The Company accounts for redeemable noncontrolling interests in the mezzanine section of its consolidated balance sheets in accordance with applicable accounting guidance. Such redeemable noncontrolling interests relate to the 9,065,200 cumulative redeemable preference shares (“Watford Preference Shares”) issued in March 2014 with a par value of $0.01 per share and a liquidation preference of $25.00 per share. Preferred dividends, including the accretion of the discount and issuance costs, are included in ‘net (income) loss attributable to noncontrolling interests’ in the Company’s consolidated statements of income.

The following table sets forth activity in the redeemable non-controlling interests:



	June 30,
	2018		2017
Three Months Ended
Balance, beginning of period	$	206,013	$	205,644
Accretion of preference share issuance costs	92		92
Balance, end of period	$	206,105	$	205,736

Six Months Ended
Balance, beginning of year	$	205,922	$	205,553
Accretion of preference share issuance costs	183		183
Balance, end of period	$	206,105	$	205,736

The portion of Watford Re’s income or loss attributable to third party investors, recorded in the Company’s consolidated statements of income in ‘net (income) loss attributable to noncontrolling interests,’ are summarized in the table below:



	June 30,
	2018			2017
Three Months Ended
Amounts attributable to non-redeemable noncontrolling interests	$	(8,116	)	$	(9,346	)
Dividends attributable to redeemable noncontrolling interests	(4,585		)	(4,586		)
Net (income) loss attributable to noncontrolling interests	$	(12,701	)	$	(13,932	)

Six Months Ended
Amounts attributable to non-redeemable noncontrolling interests	$	(19,492	)	$	(25,670	)
Dividends attributable to redeemable noncontrolling interests	(9,170		)	(9,170		)
Net (income) loss attributable to noncontrolling interests	$	(28,662	)	$	(34,840	)

Bellemeade Re

The Company has entered into various aggregate excess of loss reinsurance agreements with Bellemeade Re I Ltd. (July 2015), with Bellemeade Re II Ltd. (May 2016), with Bellemeade 2017-1 Ltd. (October 2017) and with Bellemeade 2018-1 Ltd. (April 2018) (the “Bellemeade Agreements”), special purpose reinsurance companies domiciled in Bermuda. At the time the Bellemeade Agreements were entered into, the applicability of the accounting guidance that addresses VIEs was evaluated. As a result of the evaluation of the Bellemeade Agreements, the Company concluded that Bellemeade Re I Ltd., Bellemeade Re II Ltd., Bellemeade 2017-1 Ltd. and Bellemeade 2018-1 Ltd. are VIEs. However, given that the ceding insurers do not have the unilateral power to direct those activities that are significant to the economic performance of Bellemeade Re I Ltd., Bellemeade Re II Ltd., Bellemeade 2017-1 Ltd. and Bellemeade 2018-1 Ltd., the Company does not consolidate such companies in its consolidated financial statements.

The following table presents total assets of the Bellemeade entities, as well as the Company’s maximum exposure to loss associated with these VIEs as of June 30, 2018 and December 31, 2017:



			Maximum Exposure to Loss
	Total VIE Assets		On-Balance Sheet		Off-Balance Sheet		Total
June 30, 2018
Bellemeade Re I Ltd.	$	69,079	$	263	$	469	$	732
Bellemeade Re II Ltd.	55,388		14		110		124
Bellemeade 2017-1 Ltd.	329,030		815		1,759		2,574
Bellemeade 2018-1 Ltd.	374,460		1,242		2,050		3,292
Total	$	827,957	$	2,334	$	4,388	$	6,722
December 31, 2017
Bellemeade Re I Ltd.	$	92,390	$	471	$	832	$	1,303
Bellemeade Re II Ltd.	135,201		20		527		547
Bellemeade 2017-1 Ltd.	347,139		391		1,867		2,258
Total	$	574,730	$	882	$	3,226	$	4,108