26th Mar 2009 07:00
Tawa plc
PRESS RELEASE 26 March 2009
FOR IMMEDIATE RELEASE
PRELIMINARY RESULTS ANNOUNCEMENT
Enquiries:
|
Gilles Erulin, Chief Executive Tawa plc |
020 7068 8000 |
|
Peter Rigby or Alex Parry Haggie Financial LLP |
020 7417 8989 |
|
James Britton or Guy Wiehan KBC Peel Hunt (nominated adviser and broker) |
020 7418 8900 |
Note for Editors
Tawa plc was formed in 2001 with the purpose of acquiring and managing the run-off portfolios of insurance and reinsurance companies. It also provides run-off related services through a dedicated subsidiary, Tawa Management.
As a consolidator of the run-off market, Tawa's strategy is to acquire companies and portfolios in run-off in the UK, US, continental Europe, Bermuda, Australia and elsewhere as opportunities arise.
By creating a diversified portfolio of run-off businesses at different stages of the run-off process Tawa will gain economies of scale whilst also enhancing and stabilising earnings.
Since its formation, Tawa has acquired CX Reinsurance Company Limited (CX Re), KX Reinsurance Company limited (KX Re) and PXRE Reinsurance Company and is managing the run-off of these businesses.
In July 2007 Tawa plc was floated on the AIM market.
Further information can be found on the Company's website:
www.tawaplc.com
Joint statement of the Chairman and Chief Executive Officer
Global economic turmoil made 2008 a challenging year both for our industry and for Tawa. Whilst our financial results for 2008 are disappointing, we are pleased to announce that the FSA has confirmed that it has no objection to a $40 million capital reduction from KX Re. We take this as validation of our cash-oriented business model. We therefore look forward to 2009 with confidence knowing that Tawa is well positioned to take advantage of opportunities in changing and unpredictable markets. While we are by no means immune to market cycles, nor to competition, we believe we are in a good position to take opportunities as they occur.
The pending reduction in the capital of KX Re and the intra-group dividend is an important landmark for Tawa as it is the first full cycle of our business model. Indeed, Tawa's expertise is focused on rapid downscaling of the run-off liabilities it manages with the goal of extracting trapped equity. Part of the KX Re initial capital distribution will be utilised to repay in whole or in part existing acquisition debt. The remainder will be used to provide working capital at Group level.
Besides the successful PXRE acquisition in March 2008, the management team have invested significant efforts in reviewing numerous acquisitions during the year; however the Company's Internal Rate of Return ("IRR") target for projected investments has limited its ability to acquire other portfolios in a very competitive 2008 acquisition market environment. While not achieving our previously communicated growth objectives we believe this discipline has protected the value of our existing business.
2008 Results
2008 resulted in an after tax consolidated loss of $42.4 million. Of this sum, $25 million has come from widening of spreads creating temporary reductions in the value of investments (the so-called mark to market effect) and $17 million from the decline of the pound on the value of sterling investments held in the CX Re reorganisation escrow. While Tawa's NAV expressed in US dollar per share has decreased from $2.33 to $1.90, expressed in sterling terms, the NAV per share has increased from 116p per share to 127p per share. The sterling balances arising from the CX Re reorganisation and subsequent surrender of tax losses to its consortium shareholders alone account for 29p per share and the remaining US dollar book accounts for 98p per share at the current sterling to US dollar foreign exchange rate.
The main aspect of our negative results this year is linked to the performance of our asset portfolio. The Group has experienced less than $1 million of realised losses on assets under management of $484 million, but has suffered from significant spread widening on some of the corporate fixed income investments. In 2008, the mark to market impact on assets under management has been $25 million. This accounting impact, although quite significant, represents less than 5% of our total assets under management. As these assets are matched in duration with our liabilities, it is our expectation that a significant part of these unrealised losses will be recouped over time, provided future economic conditions do not contribute to increased default rates on corporate bonds.
Dividends and share buy back
The Board is recommending that a dividend of 0.5p per share to be paid on 31 July 2009 from the ordinary cash flow of the Company.
Cash focus, tight acquisition discipline, an investment strategy linked to a portfolio of highly rated assets which broadly matches the duration and currency of our insurance liabilities and prudent expense management, all of which have stood us in good stead through a difficult economic climate, have not spared Tawa's shareholders from erosion in the market value of their shares. On December 31st 2008, our stock closed at 37p, in comparison with a net asset value ("NAV") per share of 127p.
At such a considerable discount to NAV we believe that it is in shareholders' interests that we consider a share buy-back programme. At our Annual General Meeting we will be seeking shareholders' authority to purchase up to 10% of our shares up to a maximum price of 127p per share.
Objectives and Prospects
This annual report provides us also with an opportunity to list the key objectives the Board and the management team have set out for Tawa to benefit from the current market environment:
Tawa will pursue its claims-focused, accelerated run-off strategy which is a key strength for the Group. It is designed to protect and then create shareholder value while respecting the rights of policyholders, in order to provide further capital extraction from risk-carriers.
Tawa will continue to investigate opportunities to acquire or manage run-offs in the Property and Casualty world, but will increase its 2008 efforts to expand in other segments of the run-off world such as life run-off, broker legacy run-off or mortgage insurance run-off, provided these investments match Tawa's appetite for risk and long stated profitability benchmarks.
Tawa seeks to grow its NAV per share in excess of 15% per year. Such long term growth will mainly be formed by carefully structured acquisitions of run-off portfolios. As demonstrated in 2008, Tawa pursues this long term goal while accepting short term earnings will vary, arising from the volatility of individual portfolios.
Tawa prices its acquisitions with an IRR target in excess of 20% post leverage. While having been able to create some leverage in its prior acquisitions, Tawa believes that the built in leverage of its targets sets natural limits to bank financing, especially in the current state of the banking market. In the event that we are able to acquire portfolios in exchange for shares, which has been Tawa's long stated policy, we would expect an exchange value in line with net asset values.
As to future prospects, we believe that active underwriting companies, in all sectors of the insurance world have suffered and that there will be more run-off opportunities as a result. Insurance companies are now under increasing pressure to focus on efficient use of scarce capital, which should create a greater need for redeployment of capital tied up in discontinued business. In this context, run-off vendors will want to ensure that transfers of discontinued insurance businesses will go with minimal execution risk, with no reputation risk, and even more that the finality such sales procure will not be jeopardized by future mismanagement of divested assets. Tawa is committed to providing high quality run-off operations that meet these objectives.
The continuing descaling strategy which Tawa is executing for its risk carriers regrettably has led us to reduce our work force quite significantly in 2008 to keep costs in line with the size of our balance sheet. We were disappointed to have let go some of our long term and very professional employees and would like to extend our appreciation for their contribution over the years.
As disclosed in the circular issued at the time of the Company's admission to AIM, Colin Bird has indicated his intention to step down as the Company's Chief Financial Officer with effect from 30 April 2009. He will remain a director of Tawa plc and will continue as Chief Executive Officer of the Company's risk carriers, CX Re and KX Re. On behalf of all shareholders we wish to express our gratitude for his significant contribution to the Company over these past years. The Board has appointed Simon Byrne to succeed Colin as Chief Financial Officer. Mr Byrne, currently Tawa's Group Chief Accountant, is a senior finance professional with substantial experience.
Similarly, we would like to thank, once again our shareholders and all our employees for their immense support in 2008.
Lastly, but significantly, while we believe that all of this year's work has significantly reduced the volatility of our Group and provided us with a very significant cash extraction from KX Re we must remind our shareholders that we are in the business of assuming risks. In our view, our downscaling strategy mitigates those risks, but it is only through careful assessment and management of those risks that we can earn the level of return our shareholders are expecting from us.
Business model
Certain aspects of Tawa's business model are quite distinctive:
1) Tawa's asset investment strategy is focused on matching interest rate, duration and foreign exchange risks existing in our insurance portfolios. In order to do so we also employ discounted balance sheets. This means that Tawa has very limited exposure as regards its insurance assets and liabilities to yield curve movements, whether upwards or downwards, or foreign exchange movements against the US dollar. We believe this strategy is the safest, if not the only safe strategy for a run-off portfolio which by nature is not in a position to compensate asset losses by hypothetical future underwriting profits.
2) Tawa's asset portfolio is very solid and has moderate exposure to market turmoil. Assets under management are 70% treasuries or cash and cash equivalents with the remainder having an average rating of AA+. Tawa's asset exposure is hence limited only to the impact of the spread-widening on its corporate assets - something which took place in previously unknown proportions in 2008, creating mark to market losses. Tawa carries no equity investments, no derivative contracts, no hedge fund shares or other similar assets.
3) Tawa is a sterling listed share which has over 70% of its assets in US dollars. As such the sterling net asset per share has significantly benefited from the US dollars improvement against the sterling this year, in spite of accounting results which show a foreign exchange loss on the value of assets arising from the reorganisation of CX Re in 2006.
4) Tawa is a cash extraction oriented business and management believes that it should soon be in a position to continue extracting excess capital both from its underlying insurance businesses and from assets held in escrow following CX Re's reorganisation. The table below shows management targets for releases of capital from the Group's risk carriers. As all capital extractions from our risk carriers are subject to regulatory approval, this is not a forecast and the annual releases may well differ significantly from those shown in the table below.
|
$ millions |
2009 |
2010 |
2011 |
2012 |
Total |
|
Pre Debt |
40 |
73 |
54 |
51 |
218 |
|
Post Debt |
3 |
49 |
44 |
51 |
147 |
Financial review
Introduction to the Group's business
Tawa's strategy is to build up and manage a portfolio of run-off businesses and by doing so become a consolidator of the run-off market. By creating a diversified portfolio of run-off businesses at different stages of the run-off process, Tawa will gain economies of scale and enhanced and more stable earnings. Since its formation, Tawa has acquired CX Reinsurance Company Limited ("CX Re"), KX Reinsurance Company Limited ("KX Re") and PXRE Reinsurance Company ("PXRE") Connecticut and is successfully managing the run-off of these businesses.
Tawa seeks to generate value from run-offs in a variety of ways, depending on the nature of each run-off entity in question. These include:
Buying net assets at a significant discount to economic value and accelerating capital extraction;
Buying volatile books of business and applying Tawa's management techniques to create value and reduce volatility;
Earning management fees from managing run-offs; and
Obtaining synergies and process efficiencies from combining the management of multiple run-offs.
During the course of a run-off the Group will be exposed to a range of risks which need to be identified and managed. These risks include adverse loss development (insurance risk), liquidity and operational risks, fluctuating foreign exchange rates and interest rates, credit risk both in respect of investments and reinsurer solvency. It is Tawa's expertise to manage and mitigate these risks.
The assets of a run-off company typically comprise cash, investments and reinsurance recoveries. From these assets and any associated investment income the company must meet the cost of administering and paying all future claims on policies issued prior to the run-off. The residual balance, if any, will be returned to shareholders once all liabilities have been repaid or when the regulator is satisfied, inter alia, that the volatility is reduced to a level where capital can be released based on estimates as to the appropriate level of reserves and capital that the business requires to settle all valid claims.
Summary of 2008 results
In 2008, Tawa continued its strategy to acquire run-off companies and portfolios with the completion of its first US based acquisition, PXRE, on 31 March 2008. The acquisition was funded by a $30 million debt facility and the issue of new shares raising $28.4 million (£14.2 million). All the new shares were issued to Karrick Limited at a price of $2.60 (£1.30) per share.
The acquisition of PXRE resulted in a $6.4 million profit being reflected in the income statement, representing the difference between the total cost of the acquisition and the fair value of the net assets acquired.
The Group has been adversely affected by its share in associate and deferred consideration derived from its sale of CX Re in 2006. Share of associate's losses was $5.7 million (2007: $0.8 million) and deferred consideration loss on sale of associate was $39.2 million (2007: $2.9 million).
Loss for the year attributable to shareholders was $42.4 million (2007: profit of $42.9 million).
The Group's net assets have decreased by $22.5 million to $214.6 million ($1.90 per share) at 31 December 2008.
Net assets per share in US dollar declined from $2.33 to $1.90, net assets per share in sterling increased from £1.16 to £1.27.
Balance Sheet
The Group focuses its business performance on growing the net assets per share and aligns its performance rewards to increasing shareholder value through the increase in the overall net asset value. The table below shows the Group's performance over the last four years. The loss for the year of $42.4 million has decreased the net assets in 2008 by 9.5%.
|
2008 |
% |
2007 |
% |
2006 |
% |
2005 |
||||||
|
$m |
Decrease |
$m |
Increase |
$m |
Increase |
$m |
||||||
|
Group's net asset development |
214.6 |
237.1 |
142.5 |
88.4 |
||||||||
|
Percentage (decrease) / increase in Group net assets |
(9.5)% |
66.4% |
61.2% |
Whilst the decline in the value of sterling compared to the US dollar has created a foreign exchange loss which comes through as a decline in the value of the deferred assets, the Group's net assets per share in sterling has increased to £1.27 at 31 December 2008 (2007: £1.16) reflecting that 70% of the Group's assets are held in US dollars.
KX Re & PXRE discounted balance sheet
The Group's insurance subsidiaries, KX Re and PXRE, maintain discounted balance sheets. Discounting is applied to insurance assets and liabilities with a mean term in excess of 4 years. At 31 December 2008 KX Re's portfolios had an average mean term of 10.42 years (2007: 10.37 years) and PXRE had an average mean term of 4.58 years.
The Group's policy is to discount the insurance liabilities and the reinsurance assets at the risk free rate applicable to the relevant currency at the duration of the liabilities. Currencies held are US dollar, sterling and euro. The average effective rate of investment return used to discount KX Re's net liabilities is 2.66% (2007: 4.21%). The average effective rate of investment return used to discount PXRE's net liabilities is 2.01%.
KX Re's net liabilities before discounting as at 31 December 2008 were $68.8 million (2007: $94.9 million). After applying a discount of $14.1 million (2007: $26.2 million) they were $54.7 million (2007: $68.7 million). The discount is unwound over the life of the portfolio, which represents a charge to the income statement and actual investment income is measured against this to ensure that it remains appropriate to continue to discount at the chosen rate. In 2008 the investment return for KX Re was $2.0 million (2007: $1.5 million) in excess of the discount unwind.
PXRE's net liabilities before discounting as at 31 December 2008 were $88.7 million. After applying a discount of $6.9 million they were $81.8 million. The discount is unwound over the life of the portfolio, which represents a charge to the income statement and actual investment income is measured against this to ensure that it remains appropriate to continue to discount at the chosen rate. In 2008 the investment return for PXRE was $1.1 million less than the unwinding of the discount due to the relatively light impact of spread-widening on the investment portfolio.
Cash and investments
The Group's consolidated cash position at 31 December 2008 was $29 million (2007: $38.5 million). Of that amount $26.8 million (2007: $26 million) related to the Group's insurance subsidiaries KX Re and PXRE and is not considered to be freely distributable within the Group. In 2009 KX Re has received approval for a reduction in capital of $40 million. The Group intends to utilise the $40 million to repay outstanding debt of $37 million and the remainder will be used to provide working capital at Group level.
The Group's investment strategy is to mitigate, in so far as is possible, the risks relating to changes in interest rates, foreign exchange rates and liquidity risk, whilst adopting a conservative approach to credit risk. This mitigation is achieved by broadly matching the duration and currency of the liabilities and maintaining a high quality portfolio of fixed income securities. Within the confines of this strategy and taking into account the current market turbulence in structured finance investments, the Group continues to look for opportunities to enhance the return from its portfolios.
The Group's investments, which are derived from its subsidiaries KX Re and PXRE, at the end of the period, were $322.4 million (2007: $165.0 million). The KX Re portfolio of $146.9 million is broadly matched in terms of foreign exchange exposure and duration. It comprises almost exclusively treasuries and money market deposits and has therefore been largely unaffected by the severe market volatility related to the significant spread-widening on asset backed securities and corporate bonds. The entire portfolio is invested in instruments with a credit rating of "A" or better. The PXRE portfolio of $175.5 million includes $42.7 million of securities which are held in a separate trust account for a single counterparty which bears the investment risk of these securities. Assets in the remainder of the portfolio of $132.8 million broadly match the duration and currency of the underlying net liabilities and comprise treasuries ($87.8 million - 70%) and corporates and mortgage-backed securities ($45.0 million - 30%).
|
31 Dec 2008 |
31 Dec 2007 |
|||
|
By category |
% |
% |
||
|
Treasuries |
28.6% |
44.8% |
||
|
Corporates |
11.3% |
3.7% |
||
|
CMO, MBS & ABS |
9.2% |
0.8% |
||
|
Cash (equivalents, MM and short term) |
50.9% |
50.7% |
||
|
100.0% |
100.0% |
|||
|
By credit rating |
||||
|
AAA |
88.7% |
96.3% |
||
|
AA |
0.0% |
1.2% |
||
|
A |
11.3% |
2.5% |
||
|
100.0% |
100.0% |
Deferred assets
On 21 March 2006, the Group disposed of 87.35% of its shareholding in CX Re. The retained shareholding of 12.65% has been accounted for under the equity method since that date.
The initial consideration for the shares was $1.00, together with a deferred consideration equal to the purchaser's share of 100 % of the amount of distributions made by CX Re up to $171 million and thereafter equal to 95% of the distributions made by CX Re.
Deferred assets relate to the consideration outstanding on the disposal of CX Re and the Group's receipt of a facilitation fee in respect of the sale following which tax losses have been surrendered to CX Re's shareholders. The deferred consideration is accounted for in two ways:
Adjustment in the overall net asset value of the Group's associate, CX Re, through the income statement; and
Transaction facilitation fee due directly to Tawa plc.
The effect of the deferred consideration on the Group's balance sheet is as follows:
|
$m |
Group share |
|||
|
100% |
87.35% |
|||
|
CX Re net assets December 2007 |
92.2 |
80.6 |
||
|
CX Re net assets December 2008 |
47.4 |
41.4 |
||
|
Movement in CX Re's net assets |
(44.8) |
(39.2) |
The drivers behind the Group's reduction in deferred consideration in respect of CX Re are discussed below in the section on the income statement.
The transaction facilitation fee is derived from the level of tax losses surrendered by way of consortium relief to the associate's shareholders. Deferred consideration in respect of the Group's transaction facilitation fee amounts to $18.5 million (2007: $23.8 million). The Group's transaction facilitation fee is held as a sterling asset and has suffered foreign exchange losses of $5.6 million as a result of the 25% deterioration of sterling against the US dollar in the second half of 2008.
At 31 December 2008 the total deferred consideration was $59.9 million (2007: $104.3 million).
|
31 Dec 2008 |
31 Dec 2007 |
|||
|
$m |
$m |
|||
|
Balance at 1 January |
104.3 |
106.0 |
||
|
Reduction in CX Re's surplus |
(39.2) |
(5.1) |
||
|
Increase in transaction facilitation fee |
- |
2.2 |
||
|
Interest on transaction facilitation fee |
0.4 |
0.5 |
||
|
Exchange (loss) / gain |
(5.6) |
0.7 |
||
|
Balance at 31 December |
59.9 |
104.3 |
Insurance liabilities - KX Re & PXRE
The Group's expected loss development is determined by the Group's internal actuaries based on historical claims analysis and projected trends. Actual reported losses may vary from expected loss development. Generally, as an underwriting year matures the level of newly reported claims decreases.
During the year the Group experienced deterioration in the prior year net reserves before discount excluding commutations of $1.2 million (2007: $1.9 million improvement). This net deterioration has been driven by net adverse loss development on PXRE of $3.2 million caused mainly on World Trade Centre aviation policies. KX Re had a net improvement before discount of $4.5 million due to a reserve redundancy review. After discount favourable reserve development during the year was $9.6 million (2007: $7.3 million) net of reinsurance and commutations.
Income statement
The Group's operating segments are:
Underwriting run-off - this segment comprises the results from the Group's acquired run-off companies KX Re and PXRE. CX Re became an associate on 21 March 2006 when Tawa plc disposed of 87.35% of the shares held;
Run-off management - this segment includes results of the operations of subsidiary Tawa Management Limited ("Tawa Management"), the Group's provider of run off management and consultancy services; and
Other corporate activities - this segment reflects results from the acquisition of PXRE, the Group's investment in its associated undertaking CX Re, the change in the deferred consideration attributable to the sale of 87.35% of the shares of CX Re on 21 March 2006 and the costs of developing the business.
Underwriting run-off
The underwriting run-off profit for the period was $1.2 million (2007: $9.4 million).
The business of KX Re comprises a collection of mature portfolios of long-tail liabilities, including exposure to asbestos, environmental and other latent claims. The Group's objective for KX Re is to reduce the company's liabilities by accelerating the natural run-off of the portfolio to enable the extraction of capital with regulatory approval. The contribution of KX Re in 2008 was $2.4 million. PXRE, which has a shorter tail and is mainly comprised of catastrophe exposures, made a net loss of $1.2 million.
The Group's strategic principles for its asset and liability management in the insurance entities ("ALM") are to:
Provide liquid funds to finance liability and capital management;
Mitigate exposure to changes in interest and foreign exchange rates;
Assume measured credit risk in line with agreed guidelines; and
Invest the Group's surplus in line with agreed guidelines.
The ALM return represents the increase in value to the Group balance sheet from investment activities after taking into account the unwinding of the discount and fees. The KX Re and PXRE ALM return for 2008 was $0.9 million (2007:$3.8 million).
Run-off management
The revenue of Tawa Management comprises:
Management fees from CX Re and KX Re;
Expenses recharged to CX Re, KX Re and PXRE;
Income from consultancy services provided to a range of third party clients;
Income from inspections performed on behalf of CX Re; and
Expenses recharged to Tawa plc in relation to acquisitions and business development.
Revenue in 2008 was $19.8 million (2007: $30.6 million) generating a profit for the period of $4.5 million (2007: $3.7 million).
Other corporate activities
The losses generated from other corporate activities for the year were $48.1 million (2007: profit $29.8 million). The main categories within this division are:
Acquisition of subsidiaries;
Finance costs; and
Share in associate and deferred consideration derived from the sale of CX Re;
|
31 Dec 2008 |
31 Dec 2007 |
|||
|
$m |
$m |
|||
|
Business development and other expenses |
(5.9) |
(5.0) |
||
|
Acquisition of subsidiaries |
6.4 |
41.3 |
||
|
Finance costs |
(4.3) |
(2.8) |
||
|
Share in associate |
(5.7) |
(0.8) |
||
|
Deferred consideration of CX Re and facilitation fee |
(39.2) |
(2.9) |
||
|
Taxation |
0.6 |
- |
||
|
(48.1) |
29.8 |
Acquisition of subsidiaries
On 31 March 2008, 100% of the issued share capital of PXRE was acquired by WT Holdings Incorporated, a wholly owned subsidiary. The table below shows the consideration paid, the net assets at fair values and the negative goodwill arising on acquisition. Analysis of the assets and liabilities acquired are detailed below.
|
Book value |
Fair value adjustments |
Fair value on acquisition |
||||
|
$m |
$m |
$m |
||||
|
Assets |
||||||
|
Cash and cash equivalents |
10.3 |
- |
10.3 |
|||
|
Financial assets - investments |
187.6 |
- |
187.6 |
|||
|
Loans and receivables including insurance receivables |
22.6 |
- |
22.6 |
|||
|
Reinsurers' share of technical provisions |
31.1 |
2.5 |
33.6 |
|||
|
Liabilities |
||||||
|
Creditors arising out of reinsurance operations |
62.8 |
2.8 |
65.6 |
|||
|
Technical provisions |
118.1 |
4.3 |
122.4 |
|||
|
70.7 |
(4.6) |
66.1 |
||||
|
Negative goodwill on acquisition |
6.4 |
|||||
|
Consideration paid |
59.7 |
|||||
|
Consideration paid net of cash and cash equivalents |
49.4 |
|||||
In determining the fair value of PXRE's assets and liabilities acquired, the technical provisions have been increased to include an insurance risk premium which reflects management's consideration of the uncertainty of the technical provisions acquired. The risk premium was assessed at $8 million at acquisition and will be released to profits, in accordance with the Group's accounting policy on risk premiums, over four years from the date of acquisition.
Finance costs
The Group has two loan facilities, both with Natixis, in respect of the purchases of its insurance subsidiaries KX Re and PXRE. The acquisition of KX Re was financed by a four year loan of $35 million and a $5 million revolving facility. $1.6 million of the revolving facility was drawn in 2008. The KX Re loan facility is repayable in May 2011. The acquisition of PXRE was financed by a four year loan of $30 million and a $5 million revolving facility. $1.2 million of the revolving facility was drawn down in 2008. The PXRE loan facility is repayable in March 2012.
The finance costs in relation to these loans in 2008 were $4.3 million (2007: $2.8 million).
Other corporate activities
Share in associate and deferred consideration derived from the sale of CX Re
The Group made a loss of $5.7 million (2007: $0.8 million) from its share of losses of its associate CX Re. In addition, through the deferred consideration following the sale of CX Re on 21 March 2006, which is dependent upon the ultimate earn out value of the company, the Group's results are affected by changes in the net assets of CX Re. The change in the deferred consideration for the year resulted in a loss to the Group of $39.2 million (2007: $2.9 million).
During the year CX Re's net assets decreased by $44.8 million from $92.2 million to $47.4 million. The significant decrease in CX Re's net assets was driven primarily by $23.1 million unrealised investment losses in its fixed income bond portfolio due to the extreme turbulence in the investment markets and a currency translation loss of $9.8 million on the sterling assets held in the escrow accounts set up at the time of the reorganisation of the Company's share capital in 2006 and which relates to the surrender of consortium relief to the shareholders. Details of CX Re performance are discussed below.
CX Re asset and liability management;
CX Re claims management; and
CX Re operating expenses & consortium relief
CX Re asset and liability management
The key principles within the ALM strategy for CX Re continue to be the mitigation of risks due to:
changes in interest rates;
changes in foreign exchange rates;
illiquidity of assets; and
excess credit risk.
To address these risks CX Re has consistently adopted a conservative policy towards credit risk and maintains a portfolio of high quality, readily realisable assets which broadly matches the duration and currency of the liabilities. Average rating of the portfolio remains at AA+. The objective each year is for the investment return to exceed the unwinding of the discount on the net reserves.
The significant reduction in the interest rates in all major currencies during the second half of 2008 and the large swings in foreign currency rates had an immaterial effect on the CX Re balance sheet due to the duration of insurance liabilities and supporting assets being broadly matched. The increase in net discounted insurance liabilities due to reductions in interest rates was largely offset by gains on the supporting fixed income assets. The loss due to changes in interest rates was $0.4 million.
The return on investments supporting the liabilities (excluding the impact of changes in interest rates) was $23.1 million less than the unwinding of the discount. This significant underperformance of the assets was attributable to the impact of the spread-widening brought about by the crisis in the banking sector, the dislocation of investment markets and the onset of global recession. These losses are unrealised and arise from marking to market the fixed income portfolio.
The table below analyses the components of the relevant categories from CX Re's profit and loss account and sets out the results of the ALM activities during the year:
|
Analysis of investment return and change in impact of discounting |
$m |
$m |
||
|
Impact of discounting |
||||
|
Changes in incurred claims, commutations and timing of payments |
(3.6) |
|||
|
Reduction in discount on reserves due to changes in interest rates |
(16.9) |
|||
|
Unwinding of the discount due to claims moving towards maturity |
(4.6) |
|||
|
Impact of discounting in the income statement |
(25.1) |
|||
|
Investment return |
||||
|
Investment income and realised gains (income statement) |
12.3 |
|||
|
Unrealised investment losses (income statement) |
(13.0) |
|||
|
(0.7) |
||||
|
Investment return less change in impact of discounting |
(25.8) |
Other corporate activities
Share in associate and deferred consideration derived from the sale of CX Re
CX Re asset and liability management ("ALM")
|
Representation of information to explain ALM results |
$m |
$m |
||
|
Net impact of changes in interest rates |
||||
|
Reduction in discount on reserves |
(16.9) |
|||
|
Increase in investments |
16.5 |
|||
|
(0.4) |
||||
|
Losses due to spread-widening within bond portfolio |
(23.1) |
|||
|
Investment return on Company's surplus |
1.3 |
|||
|
Change in discount due to changes in incurred claims, commutations and timing of payments |
(3.6) |
|||
|
(25.8) |
Allocation of assets within the portfolio and excess returns of market indices compared to treasuries are set out in the table below:
|
Asset class |
Allocation |
Allocation |
Benchmark |
Benchmark |
||||||||
|
at 31/12/08 |
at 31/12/07 |
excess |
excess |
|||||||||
|
return |
return |
|||||||||||
|
2008 |
2007 |
|||||||||||
|
% |
% |
% |
% |
|||||||||
|
Treasuries |
28.2 |
22.9 |
||||||||||
|
Corporate bonds |
26.3 |
36.9 |
(17.9) |
(4.6) |
||||||||
|
Agencies |
3.9 |
2.0 |
(1.5) |
(0.6) |
||||||||
|
ABS |
2.0 |
6.1 |
(22.2) |
(6.3) |
||||||||
|
CMBS |
11.4 |
12.8 |
(32.7) |
(4.4) |
||||||||
|
MBS |
7.6 |
5.9 |
(2.3) |
(1.8) |
||||||||
|
Other |
1.4 |
- |
||||||||||
|
Cash |
19.2 |
13.4 |
||||||||||
|
100.0 |
100.0 |
|||||||||||
Overall, the performance of CX Re's investments was close to that of the market indices. Performance of the CMBS component was better than the index due to a weighting towards earlier dated vintages, whereas the performance of the corporate bonds was worse than the index due to the higher allocation to financial institutions. The change in allocations to asset class is attributable to the impact of unrealised losses due to spread-widening on valuations and a strategy of reducing exposure to financial institutions. A low level of realised losses has been incurred and, as CX Re continues to be comfortable with the underlying security of investments held following regular discussions with its asset managers, the strategy is either to retain investments with unrealised losses to enable CX Re to benefit from the reversal of such losses as the securities approach maturity or market conditions improve, or to transfer such bonds as consideration for commutations. CX Re is continually reviewing the appropriateness of this strategy in the light of economic and market developments and its regulatory capital requirements.
Cash flow projections demonstrate that CX Re has sufficient liquidity to meet likely payments and retain investments with unrealised losses to anticipated maturity.
All investments are currently valued using market prices derived from standard pricing sources. Due to the low levels of liquidity and transactions in the markets for a significant proportion of CX Re's investments, the Directors' view is that the economic value of the investment portfolio is appreciably higher than the marked to market valuation. Internally modelled projections of cash flows from investments applying spreads from normalised fully operational markets indicate that the internally modelled economic value is $22 million higher than the marked to market values in the balance sheet at the end of 2008.
As a function of the marked to market valuation, the market yield of the portfolio was around 3% above risk free returns at 31 December 2008. CX Re however, continues to apply risk free yield curves for principal currencies in discounting its reserves and provides for appropriate levels of unallocated loss adjustment expenses required to service the run-off. The impact of discounting for the time value of money in the balance sheet at 31 December 2008 was $33.8 million (2007: $64.3 million).
The loss due to changes in foreign exchange rates was $9.8 million (2007: gain of $1.0 million). This loss was attributable to the impact of the weakening of sterling against the US dollar in the second half of the year on the sterling assets held in the escrow accounts set up at the time of the reorganisation of the Company's share capital in 2006 and which relate to the surrender of consortium relief to the shareholders.
Other corporate activities
CX Re claims management
The change in incurred claims due to actuarial projections during the year was negligible and the levels of claims and commutations paid were lower than in previous years. Partially offsetting these developments, costs were incurred in reducing the resources required to manage the Company's current and future operations.
Gross claims and run-off expenses paid during the period were $73.1 million (2007: $159.0 million) and gross undiscounted reserves were reduced by $71.4 million (2007: $261.9 million), after taking account of the impact of foreign exchange differences, to $237.5 million (2007: $332.0 million).
Reinsurers' share of claims paid was $19.1 million (2007: $19.5 million) and undiscounted reinsurance on reserves was reduced by $19.8 million (2007: $94.6 million) to $34.6 million (2007: $55.5 million).
As a result of the above, undiscounted reserves net of reinsurance decreased by 26.6% (2007: 36.2%) to $202.9 million as at 31 December 2008 (2007: $276.5 million).
CX Re operating expenses & consortium relief
Net operating expenses, in excess of unallocated loss adjustment expenses, in the period were $8.6 million (2007: $4 million). Expenses in 2008 comprised management fees payable, staff bonuses awarded in 2008 on 2007 performance and redundancy costs.
The Company generated a further $2.7 million in 2008 by the surrender for value of tax losses by way of consortium relief.
Tawa's overall result & future prospects
Clearly 2008 was a challenging year for the Group as although in excess of 90% of the Group's $322.4 million investments are in cash equivalents or treasuries it suffered the effects of spread-widening on asset backed securities and corporate bonds indirectly through the $39.2 million reduction in the deferred consideration of its associate CX Re. This severe downturn mainly occurred in the last quarter of the year.
The Group completed the PXRE transaction during the year and this has been successfully integrated into its operations. The post acquisition experience of PXRE has been satisfactory with the exception of some significant additional losses relating to the World Trade Centre ("WTC") disaster on a number of aviation policies. Prior management reserved only one loss rather than two in respect of those aviation contracts. All claims have now been fully reserved within PXRE's 2008 reserves and the Group's subsidiary, WT Holdings Incorporated, PXRE's immediate parent, has notified Argo Group, the seller, of a $13.1 million indemnity claim under the stock purchase agreement and, following the Argo Group's denial of the claim, is seeking legal relief in New York state court. The actual amount, if any, which may be recovered in the dispute is subject to litigation risk.
On a more positive note, KX Re has been performing well and its net asset value has grown to $130.7 million despite the historically low yield on its investments which are 99% treasuries or cash and cash equivalents. The positive trade off on the low portfolio yield has been the lack of any losses, realised or otherwise, as a result of the dislocated financial markets. KX Re will continue to review its options on its investment strategy as 2009 unfolds. As discussed in the joint statement of the Chairman and Chief Executive Officer, the FSA has confirmed that it has no objection to a $40 million capital reduction in KX Re. The subsequent inter-group dividend will be utilised to repay in whole or in part existing acquisition debt and the remainder will be used to provide working capital at Group level.
In addition, the consulting business is receiving investment in new products and there are some innovative projects expected to come to market in 2009.
The Group is well aware that it needs to control its cost base in order to maximise shareholder value. Accordingly, a full scale review has been undertaken that will in 2009 deliver cost savings across the Group in excess of $6 million. All redundancy costs related to the review have been provided for in 2008.
Consolidated income statement For the year ended 31 December 2008
|
31 Dec 2008 |
31 Dec 2007 |
||||
|
$m |
$m |
||||
|
Continuing operations |
|||||
|
Insurance premium revenue |
0.5 |
- |
|||
|
Insurance premium ceded to reinsurers |
0.2 |
- |
|||
|
Net earned premium revenue |
0.7 |
- |
|||
|
Revenue from run-off services |
20.3 |
30.6 |
|||
|
Investment return |
15.7 |
11.5 |
|||
|
Income |
36.0 |
42.1 |
|||
|
Insurance claims and loss adjustment expenses |
(10.0) |
5.0 |
|||
|
Insurance claims and loss adjustment expenses recovered from reinsurers |
2.8 |
1.2 |
|||
|
Net insurance claims |
(7.2) |
6.2 |
|||
|
Cost of run-off services |
(13.5) |
(27.3) |
|||
|
Administrative expenses |
(16.1) |
(12.9) |
|||
|
Expenses |
(29.6) |
(40.2) |
|||
|
Results of operating activities |
(0.1) |
8.1 |
|||
|
Share of results of associate |
(5.7) |
(0.8) |
|||
|
Negative goodwill recognised |
6.4 |
41.3 |
|||
|
Profit before finance costs |
0.6 |
48.6 |
|||
|
Finance costs |
(4.4) |
(2.8) |
|||
|
(Loss) / profit before taxation |
(3.8) |
45.8 |
|||
|
Taxation |
0.6 |
- |
|||
|
(Loss) / profit for the year from continuing operations |
(3.2) |
45.8 |
|||
|
Loss for the year from discontinued operations |
(39.2) |
(2.9) |
|||
|
(Loss) / profit for the year |
(42.4) |
42.9 |
|||
|
Attributable to: |
|||||
|
Equity holders of the Group |
(42.4) |
42.9 |
|||
|
Earnings per share |
|||||
|
From continuing and discontinued operations |
|||||
|
Basic: Ordinary shares ($ per share) |
(0.385) |
0.389 |
|||
|
Diluted: Ordinary shares ($ per share) |
(0.376) |
0.386 |
|||
|
From continuing operations |
|||||
|
Basic: Ordinary shares ($ per share) |
(0.029) |
0.416 |
|||
|
Diluted: Ordinary shares ($ per share) |
(0.028) |
0.412 |
Consolidated balance sheet As at 31 December 2008
|
31 Dec 2008 |
31 Dec 2007 |
||||
|
$m |
$m |
||||
|
Assets |
|||||
|
Cash and cash equivalents |
29.0 |
38.5 |
|||
|
Financial assets - investments |
322.4 |
165.0 |
|||
|
Loans and receivables including insurance receivables |
66.1 |
18.8 |
|||
|
Reinsurers' share of technical provisions |
31.5 |
18.1 |
|||
|
Property, plant and equipment |
1.0 |
0.1 |
|||
|
Deferred assets |
59.9 |
104.3 |
|||
|
Interest in associate |
6.0 |
11.8 |
|||
|
Goodwill |
18.2 |
18.2 |
|||
|
Total assets |
534.1 |
374.8 |
|||
|
Equity |
|||||
|
Share capital |
22.2 |
20.0 |
|||
|
Share premium |
111.4 |
85.2 |
|||
|
Share based payments reserve |
1.3 |
- |
|||
|
Retained earnings |
79.7 |
131.9 |
|||
|
Total equity attributable to equity holders |
214.6 |
237.1 |
|||
|
Liabilities |
|||||
|
Creditors arising out of insurance operations |
65.3 |
4.5 |
|||
|
Other liabilities |
8.9 |
6.8 |
|||
|
Financial liabilities - borrowings |
67.8 |
35.0 |
|||
|
Technical provisions |
177.5 |
91.4 |
|||
|
Total liabilities |
319.5 |
137.7 |
|||
|
Total liabilities and equity |
534.1 |
374.8 |
Consolidated statement of changes in equity As at 31 December 2008
|
Share |
||||||||||
|
Share |
based |
|||||||||
|
Issued |
premium |
payments |
Retained |
|||||||
|
capital |
reserve |
reserve |
earnings |
Total |
||||||
|
$m |
$m |
$m |
$m |
$m |
||||||
|
Balance at 1 January 2007 |
57.2 |
- |
- |
85.3 |
142.5 |
|||||
|
Share capital restructure |
(37.2) |
- |
- |
- |
(37.2) |
|||||
|
Premium arising on issue of equity |
- |
90.9 |
- |
- |
90.9 |
|||||
|
Expenses on issue of equity |
- |
(5.7) |
- |
- |
(5.7) |
|||||
|
Currency translation differences |
- |
- |
- |
3.7 |
3.7 |
|||||
|
Profit for the period |
- |
- |
- |
42.9 |
42.9 |
|||||
|
Balance at 31 December 2007 |
20.0 |
85.2 |
- |
131.9 |
237.1 |
|||||
|
Balance at 1 January 2008 |
20.0 |
85.2 |
- |
131.9 |
237.1 |
|||||
|
Share issue |
2.2 |
- |
- |
- |
2.2 |
|||||
|
Premium arising on issue of equity shares |
- |
26.5 |
- |
- |
26.5 |
|||||
|
Expenses on issue of equity |
- |
(0.3) |
- |
- |
(0.3) |
|||||
|
Share based payments |
- |
- |
1.3 |
- |
1.3 |
|||||
|
Currency translation differences |
- |
- |
- |
(6.5) |
(6.5) |
|||||
|
Loss for the period |
- |
- |
- |
(42.4) |
(42.4) |
|||||
|
Dividends paid |
- |
- |
- |
(3.3) |
(3.3) |
|||||
|
Balance at 31 December 2008 |
22.2 |
111.4 |
1.3 |
79.7 |
214.6 |
Consolidated cash flow statement For the year ended 31 December 2008
|
31 Dec 2008 |
31 Dec 2007 |
||||
|
$m |
$m |
||||
|
Net cash from operations |
(66.6) |
(12.1) |
|||
|
Investing activities |
|||||
|
Cash payments to acquire equity and debt securities |
(1,023.6) |
(256.5) |
|||
|
Cash receipts from sale of equity and debt securities |
1,038.8 |
85.9 |
|||
|
Cash transferred from investing activities |
26.9 |
81.4 |
|||
|
Cash receipts from interest |
7.2 |
6.5 |
|||
|
Purchases of property, plant and equipment |
(1.3) |
- |
|||
|
Acquisition of subsidiary net of cash and cash equivalents |
(49.4) |
44.6 |
|||
|
Cash used in investing activities |
(1.4) |
(38.1) |
|||
|
Financing activities |
|||||
|
Dividends paid |
(3.3) |
- |
|||
|
Proceeds from issue of equity shares |
28.4 |
48.0 |
|||
|
Proceeds from financial borrowings |
33.4 |
70.0 |
|||
|
Repayments of financial borrowings |
- |
(35.0) |
|||
|
Cash flows generated from financing activities |
58.5 |
83.0 |
|||
|
Net (decrease) / increase in cash and cash equivalents |
(9.5) |
32.8 |
|||
|
Cash and cash equivalents at beginning of year |
38.5 |
5.7 |
|||
|
Cash and cash equivalents at end of year |
29.0 |
38.5 |
Notes to the consolidated financial statements For the year ended 31 December 2008
1 General information
Tawa plc (the "Company") and its subsidiaries (together the "Group") are engaged in two principal business activities:
The acquisition and run-off of insurance companies that have ceased underwriting; and
The provision of run-off management services to acquired insurance companies.
The Group acquired the entire share capital of PXRE Reinsurance Company ("PXRE") on 31 March 2008.
On 21 March 2006, the Company disposed of 87.35% of its "A" Shares (carrying the economic rights) and 50.05% of its "B" Shares (carrying the voting rights) of CX Reinsurance Company Limited ("CX Re"). As a result of the disposal, the classification of the Company's 12.65% shareholding in CX Re changed from "subsidiary" to "associate", as the Group retains 49.95% of the voting power, and the equity accounting method has been adopted. An initial consideration was payable with further amounts being payable to the Company, referenced to future distributions from CX Re to its shareholders. Deferred consideration related to the disposal has been recorded in the balance sheet as an asset and is dependant on the net asset value of CX Re. Any adjustments to deferred consideration will be accounted for as adjustments to the profit on disposal, which is disclosed as "Profit / (loss) for the year from discontinued operations" in the income statement, in the years in which the adjustments to the deferred consideration arise.
The Directors have considered the position of the Group's investments and assets compared to the technical provisions and other liabilities. In addition they have assessed the Group's liquidity with regard to expected future cash flows. They have also considered the performance of the business, as discussed in the financial review. Furthermore a $40 million capital extraction from KX Re has been confirmed by the FSA. Part of the KX Re initial capital distribution will be utilised to repay in whole or in part the outstanding acquisition debt of $37 million. The remainder will be used to provide working capital at Group level. In light of these reviews they have concluded that it is appropriate to adopt the going concern basis in preparing the annual report and accounts.
The preliminary announcement is based on the Company's financial statements which are being prepared in accordance with International Financial Reporting Standards as adopted for use in the EU.
The income statement, balance sheet and cash flow statement are presented in millions of US dollars, rounded to the nearest hundred-thousand. They have been prepared under the historical cost convention, as modified by the revaluation of financial assets at fair value through the income statement.
The financial information set out in the announcement does not constitute the Company's statutory accounts for the years ended 31 December 2008 or 2007. The financial information for the year ended 31 December 2007 is derived from the statutory accounts for that year which have been delivered to the Registrar of Companies. The auditors reported on those accounts: their report was unqualified, did not draw attention to any matters by way of emphasis and did not contain a statement under s237(2) or (3) Companies Act 1985. The audit of the statutory accounts for the year ended 31 December 2008 is not yet complete. These accounts will be finalised on the basis of the financial information presented by the Directors in this preliminary announcement and will be delivered to the Registrar of Companies following the company's annual general meeting.
Related Shares:
ACH.L