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The “Spitzer Effect” - Main Areas of Investigation
 EXTENT OF PROBES: Major Thrusts of Investigation
 41 states + DC taken some form of action either through Ins. Depts. or Attorney General’s office; Feds too (SEC)
Not all have issued subpoenas; Some are just “inquiries”
Abroad: Canada, UK and other European/EU regulators
PROBE 1: Anti-Competitive Acts
Bid-rigging, fraud is the only actual illegal act
Contingent commissions not illegal but painted as root of problem
Accusation: Broker contractual responsibility to buyer breached
Likely Outcome: Fines, penalties, disclosure; E&O/D&O, shareholder suits
New Economic Model Needed to replace lost broker (agent?) income
Independent Agents: Distinction that agent works for insurer not as helpful as commonly believed
PROBE 2: Tying
Alleges brokers steered business to certain insurers who would then utilize their reinsurance broker affiliate
Likely Outcome: Fines, penalties, disclosure; divestiture (worse case)
PROBE 3: Finite (Re) Insurance/“Non-Traditional” Products
Issue 1: Was there “significant” transfer of risk or merely a loan disguised as insurance?
Issue 2: Was there proper accounting treatment?
Issue 3: Misrepresentation of policy details
Likely Outcome: Fines, penalties, revamped accounting definitions/standards
Other Probes could impact Legal Malpractice and Claims outsourcing areas.
Source: Insurance Information Institute
Market Conditions – Reinsurance Accounting Changes
Source: Insurance Information Institute AIG acknowledged last week that the Gen Re contracts did not have risk transfer, and that
several of its offshore reinsurers were actually controlled affiliates. They have further delayed
their year-end results to the end of April and cautioned that they expect at least a billion dollars
in pre-tax charges. These changes correct violations of existing rules. The issues were largely
with the SEC, not NAIC.
The NYID issued a circular letter on March 29 that will require all licensed insurers, not just NY
domiciles, to provide a sworn CEO statement that there are no side agreements that promise
payback to reinsurers (which is already forbidden) and that ceding companies have a file that
documents risk transfer.
This letter applies to all New York licensed insurers and is effective immediately. Holborn
began providing our analysis of risk transfer for 2005 placements.
There are also proposals to change the rules, as well as to enhance disclosure. Much of the
current debate involves quota share contracts, especially when they are use to manage leverage
ratios. Interestingly, very little of the proposals would address the AIG - Gen Re contracts.
“Stay tuned!”
Market Conditions – Insurance: Outlook / Summary
Consolidation: Recent mega-deals outside the industry could embolden insurer
management considering transactions. Recent Travelers – MetLife transaction could help
focus interest on insurance transactions.
Spin-Offs: Resolution of SEC/Spitzer investigations could result in spin-offs by larger
Brokers, either divisions with conflicted interest or positions in insurers (e.g. Brokers &
Wholesale operations).
Sarbanes Oxley: Compliance costs and other regulatory pressures could force some
companies to “throw in the towel” leading to potential increase in M&A activity.
Regulator Scrutiny: Primary Insurers’ improved results and other industry “noise” (i.e.
Spitzer) will lead to increased scrutiny from regulators - could accelerate competition,
softening ( e.g. rate rollbacks in Personal Lines) or restrict certain underwriting controls
(credit scoring). Might also fuel federal regulation.
Market Conditions – Reinsurance: Overview
Reinsurer (RAA) results deteriorated in 2004:
2004 reported combined ratio was 106% (incl. companies in run-off) following the 2003 combined ratio of
101.2% (excluding National Indemnity, the combined ratio deteriorated further, to 109%).
Following a 33% growth in PHS in ‘03 to $31.28Bn, this figure grew in 2004 to $33.6Bn.
Following a period of major upheaval in the reinsurance market with a changing landscape of players,
significant ownership or management changes, as well as Rating Actions, the market has begun to show
some stability. But…
Reinsurers with exposure to long-tail lines continue to be plagued with problems of the past and will
need to refine/retool their strategy against “new” competition from Bermuda and London.
The Bermuda market continues to expand their presence (11 of the top 35 global reinsurers are now
based in Bermuda) and enjoy profitable results, limited legacy issues, favorable tax treatment and
strong demand for their products and services. Diversification beyond Cat business will continue in
order to achieve premium targets and deliver adequate returns.
The 2004 storm losses, however, impacted Bermuda reinsurers’ results (Old & New). While most
diversified companies (Partner, XL, Arch, ACE) performed better, stand-alone reinsurers and those with
a property focus (IPC, PXRE, Ren Re) suffered the worst. Ren Re posted their first underwriting loss
ever with a combined ratio of 104.4%, a 48 point deterioration from 2003 (56.4%).
Lloyd’s continues to broaden their platform beyond the traditional framework and expand their
presence via separate entities in Bermuda and the U.S. (Aspen, Catlin, Wellington and, most recently,
Beazley).
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