W. R. Berkley - 10-K annual report

 

 

 

 

 

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes þ     Noo

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act.  Yes o     No þ

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 ofRegulation S-Kis not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Annual Report onForm 10-Kor any amendment to this Annual Report onForm 10-K.  þ

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” inRule 12b-2of the Exchange Act. (Check one):

 

Large accelerated filer þ     Accelerated filer o     Non-accelerated filer o

 

Indicate by check mark whether the registrant is a shell company (as defined inRule 12b-2of the Act).  Yes o  No þ

 

The aggregate market value of the voting and non-voting common stock held by non-affiliates (computed by reference to the price at which the common stock was last sold) as of the last business day of the Registrant’s most recently completed second fiscal quarter was $5,734,489,801.

 

Number of shares of common stock, $.20 par value, outstanding as of February 23, 2007: 192,839,255.

Portions of the Company’s 2006 Annual Report to Stockholders for the year ended December 31, 2006 are incorporated herein by reference in Part II, and portions of the registrant’s definitive proxy statement, which will be filed with the Securities and Exchange Commission within 120 days after December 31, 2006, are incorporated herein by reference in Part III.

 

 

This is a “Safe Harbor” Statement under the Private Securities Litigation Reform Act of 1995. This document may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Some of the forward-looking statements can be identified by the use of forward-looking words such as “believes,” “expects,” “potential,” “continued,” “may,” “will,” “should,” “seeks,” “approximately,” “predicts,” “intends,” “plans,” “estimates,” “anticipates” or the negative version of those words or other comparable words. Any forward-looking statements contained herein including statements related to our outlook for the industry and for our performance for the year 2007 and beyond, are based upon our historical performance and on current plans, estimates and expectations. The inclusion of this forward-looking information should not be regarded as a representation by us that the future plans, estimates or expectations contemplated by us will be achieved. They are subject to various risks and uncertainties, including but not limited to:

We describe these risks and uncertainties in greater detail in Item 1A, Risk Factors. These risks and uncertainties could cause our actual results for the year 2007 and beyond to differ materially from those expressed in any forward-looking statement we make. Any projections of growth in our net premiums written and management fees would not necessarily result in commensurate levels of underwriting and operating profits. Our future financial performance is dependent upon factors discussed elsewhere in thisForm 10-Kand our other SEC filings. Forward-looking statements speak only as of the date on which they are made.

 

W. R. Berkley Corporation, a Delaware corporation, is an insurance holding company that is among the largest commercial lines writers in the United States and operates in five segments of the property casualty insurance business:

Our holding company structure provides us with the flexibility to respond to local or specific market conditions and to pursue specialty business niches. It also allows us to be closer to our customers in order to better understand their individual needs and risk characteristics. Our structure allows us to capitalize on the benefits of economies of scale through centralized capital, investment and reinsurance management, and actuarial, financial and corporate legal staff support.

Unless otherwise indicated, all references in thisForm 10-Kto “W. R. Berkley,” “we,” “us,” “our,” the “Company” or similar terms refer to W. R. Berkley Corporation together with its subsidiaries.

Our specialty insurance and reinsurance operations are conducted nationwide. Regional insurance operations are conducted primarily in the Midwest, Northeast, Southern (excluding Florida and Louisiana) and Mid Atlantic regions of the United States. Alternative markets operations are conducted throughout the United States. International operations are conducted in Europe, South America and the Philippines.

Net premiums written, as reported based on United States generally accepted accounting principles (“GAAP”), for each of the past five years were as follows:

 

The following sections describe our insurance segments and their operating units. These operating units underwrite on behalf of one or more affiliated insurance companies within the group pursuant to underwriting management agreements. Certain operating units are identified by us for descriptive purposes only and are not legal entities.

Five of our insurance company subsidiaries, Admiral Insurance Company, Nautilus Insurance Company, Admiral Indemnity Company, Great Divide Insurance Company, and Clermont Insurance Company, have A.M. Best Company, Inc. (“A.M. Best”) ratings of “A+ (Superior)” which is A.M. Best’s second highest rating. All of our other domestic insurance and company subsidiaries and W. R. Berkley Insurance (Europe), Limited have A.M. Best ratings of “A (Excellent)” which is the third highest rating out of 15 possible ratings by A.M. Best. A.M. Best’s ratings are based upon factors of concern to policyholders, insurance agents and brokers and are not directed toward the protection of investors. A.M. Best states: “While Best’s Financial Strength Ratings reflect [its] opinion as to a company’s financial strength and ability to meet its ongoing obligations to policyholders, they are not a warranty, nor are they a recommendation of a specific policy form, contract, rate or claim practice.” A.M. Best reviews its ratings on a periodic basis, and ratings of the Company’s subsidiaries are therefore subject to change.

Our specialty segment underwrites complex and sophisticated third-party liability risks, principally within excess and surplus lines. Excess and surplus lines differ from standard market lines in that excess and surplus lines are generally free of rate and form regulation and provide coverage for more complex andhard-to-placerisks. The primary specialty lines of business are premises operations, professional liability, commercial automobile, products liability and property lines. The specialty business is conducted through nine operating units. The companies within the segment are divided along the different customer bases and product lines that they serve. The specialty units

deliver their products through a variety of distribution channels depending on the customer base and particular risks insured. The customers in this segment are highly diverse.

Admiral Insurance Company (“Admiral”) provides excess and surplus lines coverage that generally involves a moderate to high degree of hazard due to the nature of the class of coverage or type of business insured. Admiral concentrates on general liability, professional liability, property, and excess and umbrella liability lines of business. Admiral products are distributed by wholesale brokers. The average annual premium per policy was approximately $35,000 in 2006.

Nautilus Insurance Company (“Nautilus”) insures excess and surplus risks for small to medium-sized commercial risks with low to moderate susceptibility to loss. Admitted business is also written through an affiliate, Great Divide Insurance Company. A substantial portion of Nautilus’ business is written on a binding authority basis, subject to certain contractual limitations. The average annual premium per policy was approximately $3,700 in 2006.

Carolina Casualty Insurance Company(“Carolina”) provides commercial insurance products and services to the transportation industry with an emphasis on intermediate and long-haul trucking and various classes of business and public auto. Carolina operates as an admitted carrier in all states.

Vela Insurance Services, LLC (“Vela”) underwriters excess and surplus lines casualty business with a primary focus on contractors. Vela has offices in Chicago, Illinois and Solvang, California and underwrites a variety of classes nationwide through a network of appointed excess and surplus lines brokers. Vela also underwriteswrap-uppolicies for large residential projects, primarily in California, through a managing general agency. The average annual premium per policy was approximately $76,000 in 2006.

Berkley Specialty Underwriting Managers, LLC(“Berkley Specialty”) has three underwriting divisions. The specialty casualty division underwrites excess and surplus lines general liability coverage with an emphasis on products liability. The entertainment and sports division underwrites property casualty insurance products, both on an admitted and non-admitted basis, for the entertainment industry and sports-related organizations. The environmental division underwrites specialty insurance products to environmental customers such as contractors, consultants and owners of sites and facilities.

Monitor Liability Managers, Inc. (“Monitor”) specializes in professional liability insurance, including directors’ and officers’ liability, employment practices liability, lawyers’ professional liability, management liability and non-profit directors’ and officers’ liability.

Berkley Underwriting Partners, LLC (“Berkley Underwriting Partners”) underwrites specialty insurance products through program administrators and managing general underwriters. Berkley Underwriting Partners underwrites business nationwide on an admitted and non-admitted basis.

Clermont Specialty Managers, Ltd. (“Clermont”) underwrites package insurance programs, including workers’ compensation, for luxury condominium, cooperative and rental apartment buildings and restaurants in the New York City and Chicago metropolitan areas.

Berkley Aviation, LLC (“Aviation”), which began operations in December 2005, underwrites general and specialty aviation insurance. It underwrites coverage for airlines, helicopters, miscellaneous general aviation operations, non-owned aircraft, fixed-base operations, control towers, airports, financial institutions, and related businesses.

The following table sets forth the percentage of gross premiums written by specialty unit:

 

The following table sets forth the percentages of gross premiums written, by line, by our specialty insurance operations:

Our regional companies provide commercial insurance products to customers primarily in 42 states and the District of Columbia. Key clients of this segment aresmall-to-mid-sizedbusinesses and state and local governmental entities. The regional business is sold through a network of non-exclusive independent agents who are compensated on a commission basis. The regional companies are organized geographically in order to provide them with the flexibility to adapt quickly to local market conditions.

Continental Western Group (“Continental Western Group”) is based in Des Moines, Iowa and operates in 18 states in the Midwest and Pacific Northwest.

Acadia Insurance Company (“Acadia”) is based in Westbrook, Maine and operates in 8 states in the Northeast.

Union Standard Insurance Group (“Union Standard”) is based in Irving, Texas and operates in 9 states in southern states other than Florida and Louisiana.

Berkley Mid Atlantic Group is based in Glen Allen, Virginia and operates in 7 states in the Mid Atlantic region and District of Columbia.

Berkley Surety Group, Inc. (“Berkley Surety”), offers surety bonds on a nationwide basis through a network of ten regional and branch offices.

Berkley Regional Specialty Insurance Company(“BRSIC”) offers excess and surplus lines products through independent agents in our regional territories.

The following table sets forth the percentage of gross premiums written by each region:

 

The following table sets forth the percentages of gross premiums written, by line, by our regional insurance operations:

The following table sets forth the percentages of direct premiums written, by state, by our regional insurance operations:

Our alternative markets operations specialize in insuring, reinsuring and administering self-insurance programs and other alternative risk transfer mechanisms. Our clients include employers, employer groups, insurers, and other groups seeking alternative ways to manage their exposure to risks. Often, this results in our customers choosing to retain more of this risk than they might otherwise retain in the traditional insurance market. In addition to providing insurance, the alternative markets segment also provides a wide variety of fee-based services, including claims, administrative and consulting services.

Midwest Employers Casualty Company (“MECC”) provides excess workers’ compensation coverage and risk management services to self-insured employers and groups. Excess workers compensation is coverage above an amount retained, or self-insured, by the employer or group and includes large deductible and reinsurance programs.

Key Risk Insurance Company (“Key Risk”) offers primary workers’ compensation insurance principally in North Carolina. Key Risk focuses on middle-market accounts in specialty niches and on larger self-insured entities, with a special emphasis on managed care services. An affiliate, Key Risk Management Services, Inc., provides third party administration of self-insured workers’ compensation programs.

Preferred Employers Insurance Company (“Preferred Employers”) offers workers’ compensation insurance in California with an emphasis on owner-managed small employers.

Berkley Risk Administrators Company, LLC(“BRAC”) underwrites property casualty insurance primarily for human services and not-for profit entities and provides risk management services to business, governmental entities, assigned risk plans, non-profit entities and insurance companies. BRAC’s services include third-party administration, claims adjustment and management, risk management, employee benefit consulting, accounting services, loss control and safety consulting, management information systems, regulatory compliance and alternative markets program management.

Berkley Medical Excess Underwriters, LLC, (“Medical Excess”) underwrites medical malpractice excess insurance and reinsurance coverage and services to hospitals and hospital associations.

Berkley Net Underwriters, LLC, (“Net”), which was formed in December 2005, uses a web-based system to allow producers to quote, bind and service insurance policies. Its initial focus is on the workers’ compensation market.

Berkley Accident and Health, LLC, (“A&H”), which was formed in December 2005, underwrites accident and health insurance and reinsurance products.

The following table sets forth the percentages of gross premiums written by each alternative markets unit:

 

The following table sets forth services fees for insurance services business conducted by BRAC and Key Risk (amounts in thousands):

Our reinsurance operations consist of seven operating units, which specialize in underwriting property casualty reinsurance on both a treaty and a facultative basis on behalf of Berkley Insurance Company. Treaty reinsurance is the reinsurance of all or a specified portion or category of risks underwritten by the ceding company during the term of the agreement. Facultative reinsurance is the reinsurance of individual risks whereby a reinsurer generally has the opportunity to analyze and separately underwrite a risk prior to agreeing to be bound.

Signet Star Re, LLC (“Treaty”) focuses on underwriting specialty lines of business, including professional liability, umbrella, workers’ compensation, commercial automobile and trucking. Signet Star emphasizes casualty excess of loss treaties and seeks significant participations in order to have greater influence over the terms and conditions of coverage. Signet Star business is produced through reinsurance brokers or intermediaries as opposed to direct relationships with the ceding companies.

Facultative ReSources, Inc. (“Fac Re”) specializes in underwriting individual certificate and program facultative business developed through brokers. Its experienced underwriters seek to offset the underwriting and pricing cycles in the underlying insurance business by working closely with ceding company clients to develop appropriate underwriting criteria and through superior risk selection.

Lloyd’s of London (“Lloyd’s”) represents a broad range of mainly short-tail classes of business, which are written through Lloyd’s.

B F Re Underwriters, LLC. (“BF Re”) is a direct facultative casualty reinsurance underwriting manager that serves clients through a nationwide network of regional offices. B F Re’s primary lines of business are professional liability, excess and surplus, umbrella and medical malpractice.

Berkley Risk Solutions, Inc. (“Berkley Risk Solutions”) underwrites insurance and reinsurance-based financial solutions to insurance companies and self-insured entities. It also underwrites traditional treaty reinsurance of domestic medical malpractice insurers.

Watch Hill Fac Management, LLC, (“Watch Hill”), which commenced operations in 2005, underwrites business on an excess of loss basis or, in the case of umbrella business, on a contributing excess basis, for most commercial casualty lines of business with an emphasis on general liability, products liability, construction risks, automobile liability and umbrella.

Berkley Insurance Company — Hong Kong Branch(“Hong Kong”), which was formed in 2006, provides most major classes of general insurance business in the Asia Pacific region with an initial focus on property facultative reinsurance.

The following table sets forth the percentages of gross premiums written by each reinsurance unit:

The following table sets forth the percentages of gross premiums written, by property versus casualty business, by our reinsurance operations:

Our international segment has operations in Argentina, the United Kingdom, Spain, Brazil and the Philippines. We apply the same long-term strategies that that we use in our domestic operations — decentralized structures with products and services tailored to the local environments.

W. R. Berkley Insurance (Europe), Limited (“Berkley Europe”) which is owned 80% by W. R. Berkley Corporation and 20% by Kiln plc, is a London-based specialty casualty insurer that writes professional indemnity, directors’ and officers’ liability, medical malpractice, general liability and personal accident and travel business, primarily in the United Kingdom. In 2005, Berkley Europe began offering medical malpractice and professional indemnity coverage in Spain through its branch offices in Madrid and Barcelona.

South America provides commercial and personal property casualty insurance primarily in Argentina and surety business in Brazil.

Philippines provide savings and life products to customers in the Philippines.

The following table set forth the percentages of direct premiums for our international operations:

Summary financial information about our operating segments is presented on a GAAP basis in the following table:

 

The table below represents summary underwriting ratios, on a GAAP accounting basis for our insurance segments. The combined ratio represents a measure of underwriting profitability, excluding investment income. A number in excess of 100 indicates an underwriting loss; a number below 100 indicates an underwriting profit:

 

Investment results, before income taxes, were as follows:

 

For comparison, the following are the coupon returns for selected bond indices and the dividend returns for the S&P 500^®Index:

The percentages of the fixed maturity portfolio categorized by contractual maturity, based on fair value, on the dates indicated, are set forth below. Actual maturities may differ from contractual maturities because certain issuers may have the right to call or prepay certain obligations.

 

To recognize liabilities for unpaid losses, either known or unknown, insurers establish reserves, which is a balance sheet account representing estimates of future amounts needed to pay claims and related expenses with respect to insured events which have occurred. Estimates and assumptions relating to reserves for losses and loss expenses are based on complex and subjective judgments, often including the interplay of specific uncertainties with related accounting and actuarial measurements. Such estimates are also susceptible to change as significant periods of time may elapse between the occurrence of an insured loss, the report of the loss to the insurer, the ultimate determination of the cost of the loss and the insurer’s payment of that loss.

In general, when a claim is reported, claims personnel establish a “case reserve” for the estimated amount of the ultimate payment. The estimate represents an informed judgment based on general reserving practices and reflects the experience and knowledge of the claims personnel regarding the nature and value of the specific type of claim. Reserves are also established on an aggregate basis to provide for losses incurred but not reported (“IBNR”) to the insurer, potential inadequacy of case reserves and the estimated expenses of settling claims, including legal

and other fees and general expenses of administrating the claims adjustment process. Reserves are established based upon the then current legal interpretation of coverage provided.

In examining reserve adequacy, several factors are considered in addition to the economic value of losses. These factors include historical data, legal developments, changes in social attitudes and economic conditions, including the effects of inflation. The actuarial process relies on the basic assumption that past experience, adjusted judgmentally for the effects of current developments and anticipated trends, is an appropriate basis for predicting future outcomes. Reserve amounts are necessarily based on management’s informed estimates and judgments using currently available data. As additional experience and other data become available and are reviewed, these estimates and judgments may be revised. This may result in reserve increases or decreases that would be reflected in our results in periods in which such estimates and assumptions are changed.

Reserves do not represent an exact calculation of liability. Rather, reserves represent an estimate of what management expects the ultimate settlement and claim administration will cost. While the methods for establishing the reserves are well tested over time, some of the major assumptions about anticipated loss emergence patterns are subject to unanticipated fluctuation. These estimates, which generally involve actuarial projections, are based on management’s assessment of facts and circumstances then known, as well as estimates of future trends in claims severity and frequency, judicial theories of liability and other factors, including the actions of third parties which are beyond the Company’s control. These variables are affected by internal and external events, such as inflation and economic volatility, judicial and litigation trends, reinsurance coverage and legislative changes, which make it more difficult to accurately predict claim costs. The inherent uncertainties of estimating reserves are greater for certain types of liabilities where long periods of time elapse before a definitive determination of liability is made. Because setting reserves is inherently uncertain, the Company cannot assure that its current reserves will prove adequate in light of subsequent events.

We discount our liabilities for excess workers’ compensation business and the workers’ compensation portion of our reinsurance business because of the long period of time over which losses are paid. Discounting is intended to appropriately match losses and loss expenses to income earned on investment securities supporting the liabilities. The expected losses and loss expense payout pattern subject to discounting was derived from the Company’s loss payout experience and is supplemented with data compiled from insurance companies writing similar business. The liabilities for losses and loss expenses have been discounted using risk-free discount rates determined by reference to the U.S. Treasury yield curve for non-proportional business, and at the statutory rate for proportional business. The discount rates range from 2.7% to 6.5% with a weighted average rate of 4.7%. The aggregate net discount, after reflecting the effects of ceded reinsurance, is $699,883,000, $575,485,000 and $502,874,000 at December 31, 2006, 2005 and 2004, respectively. The increase in the aggregate discount from 2005 to 2006 and from 2004 to 2005 resulted from the increase in workers’ compensation gross reserves.

To date, known asbestos and environmental claims at our insurance company subsidiaries have not had a material impact on our operations. Environmental claims have not materially impacted us because these subsidiaries generally did not insure the larger industrial companies which are subject to significant environmental exposures.

Our net reserves for losses and loss adjustment expenses relating to asbestos and environmental claims were $37,473,000 and $37,453,000 at December 31, 2006 and 2005, respectively. The Company’s gross reserves for losses and loss adjustment expenses relating to asbestos and environmental claims were $49,937,000 and $53,731,000 at December 31, 2006 and 2005, respectively. Net incurred losses and loss expenses for reported asbestos and environmental claims were approximately $3,000,000, $1,853,000 and $9,194,000 in 2006, 2005 and 2004, respectively. Net paid losses and loss expenses for reported asbestos and environmental claims were approximately $2,980,000, $2,658,000 and $2,802,000 in 2006, 2005 and 2004, respectively. The estimation of these liabilities is subject to significantly greater than normal variation and uncertainty because it is difficult to make a reasonable actuarial estimate of these liabilities due to the absence of a generally accepted actuarial methodology for these exposures and the potential affect of significant unresolved legal matters, including coverage issues as well as the cost of litigating the legal issues. Additionally, the determination of ultimate damages and the final allocation of such damages to financially responsible parties are highly uncertain.

The table below provides a reconciliation of the beginning of year and end of year property casualty reserves for the indicated years(amounts in thousands):

 

Also, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for further information regarding the increase in estimates for claims occurring in prior years.

A reconciliation between the reserves as of December 31, 2006 as reported in the accompanying consolidated GAAP financial statements and those reported on the basis of statutory accounting principles (“SAP”) is as follows (amounts in thousands):

 

The following table presents the development of net reserves for 1996 through 2006. The top line of the table shows the estimated reserves for unpaid losses and loss expenses recorded at the balance sheet date for each of the indicated years. This represents the estimated amount of losses and loss expenses for claims arising in all prior years that are unpaid at the balance sheet date, including losses that had been incurred but not reported to us. The upper portion of the table shows the re-estimated amount of the previously recorded reserves based on experience as of the end of each succeeding year. The estimate changes as more information becomes known about the frequency and severity of claims for individual years.

The “cumulative redundancy (deficiency)” represents the aggregate change in the estimates over all prior years. For example, the 1996 reserves have developed a $214 million redundancy over ten years. That amount has been reflected in income over the ten years. The impact on the results of operations of the past three years of changes in reserve estimates is shown in the reconciliation tables above. It should be noted that the table presents a “run off” of balance sheet reserves, rather than accident or policy year loss development. Therefore, each amount in the table includes the effects of changes in reserves for all prior years. For example, assume a claim that occurred in 1996 is reserved for $2,000 as of December 31, 1996. Assuming this claim estimate was changed in 2006 to $2,300, and was settled for $2,300 in 2006, the $300 deficiency would appear as a deficiency in each year from 1996 through 2006.