W. R. Berkley - 10-Q quarterly report FY

 

 

(Mark one)

(Exact name of registrant as specified in its charter)

(203) 629-3000

None

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 whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o No þ

Number of shares of common stock, $.20 par value, outstanding as of May 1, 2008: 168,474,586.

 

 

ITEM 1. Financial Statements

See accompanying notes to interim consolidated financial statements.

See accompanying notes to interim consolidated financial statements.

See accompanying notes to interim consolidated financial statements.

See accompanying notes to consolidated financial statements.

1. GENERAL

     The accompanying consolidated financial statements should be read in conjunction with the following notes and with the Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007. Reclassifications have been made in the 2007 financial statements as originally reported to conform them to the presentation of the 2008 financial statements.

     The income tax provision has been computed based on the Company’s estimated annual effective tax rate, which differs from the federal income tax rate of 35% principally because of tax-exempt investment income.

     The Company presents both basic and diluted earnings per share (EPS) amounts. Basic EPS is calculated by dividing net income by weighted average number of common shares outstanding during the period. Diluted EPS is based upon the weighted average number of common and common equivalent shares outstanding during the period and is calculated using the treasury stock method for stock incentive plans. Common equivalent shares are excluded from the computation in periods in which they have an anti-dilutive effect. Stock options for which the exercise price exceeds the average market price over the period have an anti-dilutive effect on EPS and, accordingly, are excluded from the calculation.

     In the opinion of management, the financial information reflects all adjustments that are necessary for a fair presentation of financial position and results of operations for the interim periods. Seasonal weather variations and natural and man-made catastrophes can have a significant impact on the results of any one or more reporting periods.

2. COMPREHENSIVE INCOME (LOSS)

     The following is a reconciliation of comprehensive income:

3. INVESTMENTS

     The amortized cost, fair value and carrying value of fixed maturity securities and equity securities are as follows (dollars in thousands):

4. FAIR VALUE MEASUREMENTS

     On January 1, 2008, the Company adopted Statement of Financial Accounting Standards No. 157, “Fair Value Measurements” (“FAS 157”), which was issued by the Financial Accounting Standards Board in September 2006. FAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. The adoption of FAS 157 did not have a material impact on the Company’s financial condition or results of operations.

     FAS 157 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability. Unobservable inputs may only be used to measure fair value to the extent that observable inputs are not available.

     The Company utilizes information provided by third party pricing services to determine the fair value of approximately 95% of the Company’s financial assets and liabilities. Because many fixed income securities do not trade on a daily basis, third party pricing service providers utilize pricing models and processes which may include benchmark curves, benchmarking of like securities, sector groupings and matrix pricing. Market inputs used to evaluate securities include benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data.

     Prices from third party pricing services are often unavailable for recently issued securities, securities that are infrequently traded or securities that are only traded in

private transactions. For publicly traded securities for which third party pricing is unavailable, the Company determines fair value based on independent broker quotations and other observable market data. For securities traded only in private negotiations, the Company determines fair value based primarily on the cost of such securities, which is adjusted to reflect prices of recent placements of securities of the same issuer, financial data, projections and business developments of the issuer and other relevant information.

     The following table presents the assets and liabilities measured at fair value on a recurring basis as of March 31, 2008 by level (dollars in thousands):

     The following table summarizes changes in Level 3 assets (dollars in thousands):

5. REINSURANCE CEDED

     The Company reinsures a portion of its exposures principally to reduce its net liability on individual risks and to protect against catastrophic losses. Estimated amounts due from reinsurers are reported net of reserves for uncollectible reinsurance of $2.9 million as of each of March 31, 2008 and December 31, 2007. The following amounts arising under reinsurance ceded contracts have been deducted in arriving at the amounts reflected in the statements of income (dollars in thousands):

6. INDUSTRY SEGMENTS

     The Company’s operations are presently conducted in five segments of the insurance business: specialty lines of insurance, regional property casualty insurance, alternative markets, reinsurance and international.

     Our specialty segment underwrites complex and sophisticated third-party liability risks, principally within the excess and surplus lines. The primary lines of business are premises operations, professional liability, commercial automobile, products liability and property lines. 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.

     Our regional segments provide commercial insurance products to customers primarily in 44 states. Key clients of this segment are small-to-mid-sized businesses and state and local governmental entities. The regional subsidiaries are organized geographically, which provides them with the flexibility to adapt to local market conditions, while enjoying the superior administrative capabilities and financial strength of the Company. The regional operations are organized geographically based on markets served.

     Our alternative markets operations specialize in developing, insuring, reinsuring and administering self-insurance programs and other alternative risk transfer mechanisms. Our clients include employers, employer groups, insurers, and alternative market funds seeking less costly, more efficient ways to manage exposure to risks. In addition to providing insurance, the alternative markets segment also provides a wide variety of fee-based services, including consulting and administrative services.

     Our reinsurance operations specialize in underwriting property casualty reinsurance on both a treaty and a facultative basis. The principal reinsurance units are facultative reinsurance, which writes individual certificates and program facultative business, treaty reinsurance, which functions as a traditional reinsurer in specialty and standard reinsurance lines, and Lloyd’s reinsurance, which writes property and casualty reinsurance through Lloyd’s.

     Our international segment offers personal and commercial property casualty insurance in South America and commercial insurance and reinsurance in the United Kingdom, Continental Europe, Australia and Hong Kong.

     The accounting policies of the segments are the same as those described in the summary of significant accounting policies. Income tax expense and benefits are calculated based upon the Company’s overall effective tax rate.

6. INDUSTRY SEGMENTS (continued)

     Summary financial information about the Company’s operating segments is presented in the following table. Net income by segment consists of revenues less expenses related to the respective segment’s operations, including allocated investment income. Identifiable assets by segment are those assets used in or allocated to the operation of each segment.

Identifiable assets by segment are as follows (dollars in thousands):

6. INDUSTRY SEGMENTS (continued)

Net premiums earned by major line of business are as follows (dollars in thousands):

7. COMMITMENTS, LITIGATION AND CONTINGENT LIABILITIES

     The Company’s subsidiaries are subject to disputes, including litigation and arbitration, arising in the ordinary course of their insurance and reinsurance businesses. The Company’s estimates of the costs of settling such matters are reflected in its aggregate reserves for losses and loss expenses, and the Company does not believe that the ultimate outcome of such matters will have a material adverse effect on its financial condition or results of operations.

     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 2008 and beyond, are based upon the Company’s 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 or any other person 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, the cyclical nature of the property casualty industry, the long-tail and potentially volatile nature of the insurance and reinsurance business, product demand and pricing, claims development and the process of estimating reserves, the uncertain nature of damage theories and loss amounts, natural and man-made catastrophic losses, including as a result of terrorist activities, the impact of significant and increasing competition, the success of our new ventures or acquisitions and the availability of other opportunities, the availability of reinsurance, exposure as to coverage for terrorist acts, our retention under the Terrorism Risk Insurance Program Reauthorization Act of 2007, the ability of our reinsurers to pay reinsurance recoverables owed to us, investment risks, including those of our portfolio of fixed income securities and investments in equity securities, including merger arbitrage and private equity investments, exchange rate and political risks relating to our international operations, legislative and regulatory developments, including those related to alleged anti-competitive or other improper business practices in the insurance or reinsurance industry, changes in the ratings assigned to us or our insurance company subsidiaries by ratings agencies, the availability of dividends from our insurance company subsidiaries, our ability to attract and retain qualified employees, and other risks detailed from time to time in the Company’s filings with the Securities and Exchange Commission (“SEC”). These risks and uncertainties could cause actual results of the industry or our actual results for the year 2008 and beyond to differ materially from those expressed in any forward-looking statement made by or on behalf of the Company. Any projections of growth in the Company’s 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 this Form 10-Q and our other SEC filings. Forward-looking statements speak only as of the date on which they are made.

Overview

     W. R. Berkley Corporation is an insurance holding company that is among the largest commercial lines writers in the United States and operates in five business segments: specialty insurance, regional property casualty insurance, alternative markets, reinsurance and international. The Company’s primary sources of revenues and earnings are insurance and investments.

     The profitability of the Company’s insurance business is affected primarily by the adequacy of premium rates. The ultimate adequacy of premium rates is not known with certainty at the time a property casualty insurance policy is issued because premiums are determined before claims are reported. The ultimate adequacy of premium rates is affected mainly by the severity and frequency of claims, which are influenced by many factors, including natural and other disasters, regulatory measures and court decisions that define and change the extent of coverage and the effects of economic inflation on the amount of compensation due for injuries or losses. General insurance prices are also influenced by available insurance capacity, i.e., the level of policyholders’ surplus employed in the industry, and the industry’s willingness to deploy that capital.

     Available insurance capacity has increased in recent years, increasing competition in the industry and putting downward pressure on pricing and terms and conditions. In 2007, we saw increased competition and decreased prices across most of our business segments. This trend of increased competition and decreased prices has continued in 2008.

     The Company’s profitability is also affected by its investment income. The Company’s invested assets, which are derived from its own capital and cash flow from its insurance business, are invested principally in fixed maturity securities. The return on fixed maturity securities is affected primarily by general interest rates and the credit quality and duration of the securities. The Company also invests in equity securities, including merger arbitrage, private equity investments and real estate securities.

Critical Accounting Estimates

     The following presents a discussion of accounting policies and estimates relating to reserves for losses and loss expenses, assumed premiums and investments. Management believes these policies and estimates are the most critical to its operations and require the most difficult, subjective and complex judgments.

     Reserves for Losses and Loss Expenses. 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 external and internal events, such as inflation and economic volatility, judicial and litigation trends, reinsurance coverage, legislative changes and claim handling and reserving practices, 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.

     Loss reserves included in the Company’s financial statements represent management’s best estimates based upon an actuarially derived point estimate and other considerations. The Company uses a variety of actuarial techniques and methods to derive an actuarial point estimate for each operating unit. These methods include paid loss development, incurred loss development, paid and incurred Bornhuetter-Ferguson methods and frequency and severity methods. In circumstances where one actuarial method is considered more credible than the others, that method is used to set the point estimate. For example, the paid loss and incurred loss development methods rely on historical paid and incurred loss data. For new lines of business, where there is insufficient history of paid and incurred claims data, or in circumstances where there have been significant changes in claim practices, the paid and incurred loss development methods would be less credible than other actuarial methods. The actuarial point estimate may also be based on a judgmental weighting of estimates produced from each of the methods considered. Industry loss experience is used to supplement the Company’s own data in selecting “tail factors” and in areas where the Company’s own data is limited. The actuarial data is analyzed by line of business, coverage and accident or policy year, as appropriate, for each operating unit.

     The establishment of the actuarially derived loss reserve point estimate also includes consideration of qualitative factors that may affect the ultimate losses. These qualitative considerations include, among others, the impact of re-underwriting initiatives, changes in the mix of business, changes in distribution sources and changes in policy terms and conditions. Examples of changes in terms and conditions that can have a significant impact on reserve levels are the use of aggregate policy limits, the expansion of coverage exclusions, whether or not defense costs are within policy limits, and changes in deductibles and attachment points.

     The key assumptions used to arrive at the best estimate of loss reserves are the expected loss ratios, rate of loss cost inflation, and reported and paid loss emergence patterns. Expected loss ratios represent management’s expectation of losses at the time the business is written, before any actual claims experience has emerged. This expectation is a significant determinant of the estimate of loss reserves for recently written business where there is little paid or incurred loss data to consider. Expected loss ratios are generally derived from historical loss ratios adjusted for the impact of rate increases, loss cost trends and known changes in the type of risks underwritten. Expected loss ratios are estimated for each key line of business within each operating unit. Expected loss cost inflation is particularly important for the long-tail lines, such as excess casualty, and claims with a high medical component, such as workers’ compensation. Reported and paid loss emergence patterns are used to project current reported or paid loss amounts to their ultimate settlement value. Loss development factors are based on the historical emergence patterns of paid and incurred losses, and are derived from the Company’s own experience and industry data. The paid loss emergence pattern is also significant to excess and assumed workers’ compensation reserves because those reserves are discounted to their estimated present value based upon such estimated payout patterns. Management believes the estimates and assumptions it makes in the reserving process provide the best estimate of the ultimate cost of settling claims and related expenses with respect to insured events which have occurred; however, different assumptions and variables could lead to significantly different reserve estimates.

     Loss frequency and severity are measures of loss activity that are considered in determining the key assumptions described in our discussion of loss and loss expense reserves, including expected loss ratios, rate of loss cost inflation and reported and paid loss emergence patterns. Loss frequency is a measure of the number of claims per unit of insured exposure, and loss severity is a measure of the average size of claims. Factors affecting loss frequency include the effectiveness of loss controls and safety programs and changes in economic activity or weather patterns. Factors affecting loss severity include changes in policy limits, retentions, rate of inflation and judicial interpretations.

     Another factor affecting estimates of loss frequency and severity is the loss reporting lag, which is the period of time between the occurrence of a loss and the date the loss is reported to the Company. The length of the loss reporting lag affects our ability to accurately predict loss frequency (loss frequencies are more predictable for lines with short reporting lags) as well as the amount of reserves needed for incurred but not reported losses (less IBNR is required for lines with short reporting lags). As a result, loss reserves for lines with short reporting lags are likely to have less variation from initial loss estimates. For lines with short reporting lags, which include commercial automobile, primary workers’ compensation, commercial multi-peril business, other liability (claims-made) and property business, the key assumption is the loss emergence pattern used to project ultimate loss estimates from known losses paid or reported to date. For lines of business with long reporting lags, which include other liability (occurrence), products liability, excess workers’ compensation and liability reinsurance, the key assumption is the expected loss ratio since there is little paid or incurred loss data to consider.

     Historically, the Company has experienced less variation from its initial loss estimates for lines of businesses with short reporting lags than for lines of business with long reporting lags. For example, as of December 31, 2007, initial loss estimates for accident years 1998 through 2006 were increased by an average of 2% for lines with short reporting lags and by an average of 16% for lines with long reporting lags. For the latest accident year ended December 31, 2007, initial loss estimates were $1.8 billion for lines with short reporting lags and $1.0 billion for lines with long reporting lags.

     The key assumptions used in calculating the most recent estimate of the loss reserves are reviewed each quarter and adjusted, to the extent necessary, to reflect historical changes, current trends and other factors observed. If the actual level of loss frequency and severity are higher or lower than expected, the ultimate losses will be different than management’s estimate. The following table reflects the impact of changes (which could be favorable or unfavorable) in frequency and severity on our loss estimate for claims occurring in 2007 (dollars in thousands):

     Our net reserves for losses and loss expenses of $8.0 billion as of March 31, 2008 relate to multiple accident years. Therefore, the impact of changes in frequency or severity for more than one accident year could be higher or lower than the amounts reflected above.

     Approximately $1.9 billion, or 24%, of the Company’s net loss reserves relate to assumed reinsurance business. There is a higher degree of uncertainty and greater variability regarding estimates of assumed loss reserves because those estimates are based, in part, upon information received from ceding companies. If information received from ceding companies is not timely or correct, the Company’s estimate of ultimate losses may not be accurate. Furthermore, due to delayed reporting of claim information by ceding companies, the claim settlement tail for assumed reinsurance is extended. Management considers the impact of delayed reporting in its selection of assumed loss development factors.

     Information received from ceding companies is used to set initial expected loss ratios, to establish case reserves and to estimate reserves for incurred but not reported losses on assumed reinsurance business. This information, which is generally provided through reinsurance intermediaries, is gathered through the underwriting process and from periodic claim reports and other correspondence with ceding companies. The Company performs underwriting and claim audits of selected ceding companies to determine the accuracy and completeness of information provided to the Company. The information received from the ceding companies is supplemented by the Company’s own loss development experience with similar lines of business as well as industry loss trends and loss development benchmarks.

     Following is a summary of the Company’s reserves for losses and loss expenses by business segment as of March 31, 2008 and December 31, 2007 (dollars in thousands):

     Following is a summary of the Company’s net reserves for losses and loss expenses by major line of business as of March 31, 2008 and December 31, 2007 (dollars in thousands):

     For the three months ended March 31, 2008, the Company reported losses and loss expenses of $683 million, of which $54 million represented a decrease in estimates for claims occurring in prior years. The estimates for claims occurring in prior years decreased by $55 million for primary business and increased by $1 million for assumed reinsurance. On an accident year basis, the change in prior year reserves is comprised of an increase in estimates for claims occurring in accident years 2003 and prior of $13 million and a decrease in estimates for claims occurring in accident years 2004 through 2007 of $67 million. The changes in prior year loss reserve estimates are generally the result of ongoing analysis of recent loss development trends. Original estimates are increased or decreased as additional information becomes known regarding individual claims and aggregate claim trends.

     Case reserves for primary business increased 4% to $2.4 billion as a result of a 1% increase in the number of outstanding claims and a 3% increase in the average case reserve per claim. Reserves for incurred but not reported losses for primary business increased 1% to $3.7 billion at March 31, 2008 from $3.6 billion at December 31, 2007. By segment, prior year reserves decreased by $24 million for specialty, $20 million for alternative markets, $7 million for regional and $4 million for international. By line of business, prior year reserves decreased by $36 million for general liability, $11 million for workers’ compensation, $2 million for property and $6 million for commercial automobile. The decrease in prior year reserves for general liability reflects the favorable loss reserve trends for excess and surplus lines for accident years 2004 through 2007.

     Case reserves for reinsurance business decreased 1% to $786 million at March 31, 2008 from $796 million at December 31, 2007. Reserves for incurred but not reported losses for reinsurance business increased to $1,110 million at March 31, 2008 from $1,088 million at December 31, 2007. Prior year reserves increased $1 million.

     Loss Reserve Discount. The Company discounts its liabilities for excess and assumed workers’ compensation 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. For non-proportional business, reserves for losses and loss expenses have been discounted using risk-free discount rates determined by reference to the U.S. Treasury yield curve. These discount rates range from 3.7% to 6.5% with a weighted average discount rate of 4.9%. For proportional business, reserves for losses and loss expenses have been discounted at the statutory rate permitted by the Department of Insurance of the State of Delaware of 2.6%. The aggregate net discount, after reflecting the effects of ceded reinsurance, is $806 and $788 million as of March 31, 2008 and December 31, 2007, respectively.

     Assumed Reinsurance Premiums. The Company estimates the amount of assumed reinsurance premiums that it will receive under treaty reinsurance agreements at the inception of the contracts. These premium estimates are revised as the actual amount of assumed premiums is reported to the Company by the ceding companies. As estimates of assumed premiums are made or revised, the related amount of earned premium, commissions and incurred losses associated with those premiums are recorded. Estimated assumed premiums receivable were approximately $72 million and $69 million at March 31, 2008 and December 31, 2007, respectively. The assumed premium estimates are based upon terms set forth in the reinsurance agreement, information received from ceding companies during the underwriting and negotiation of the agreement, reports received from ceding companies and discussions and correspondence with reinsurance intermediaries. The Company also considers its own view of market conditions, economic trends and experience with similar lines of business. These premium estimates represent management’s best estimate of the ultimate premiums to be received under its assumed reinsurance agreements.

     Other-Than-Temporary Declines in the Value of Investments. The cost of securities is adjusted where appropriate to include a provision for decline in value which is considered to be other than temporary. An other than temporary decline is considered to occur in investments where there has been a sustained reduction in market value and where the Company does not expect the fair value to recover prior to the time of sale or maturity. Management regularly reviews securities that have a fair value less than cost to determine whether an other than temporary impairment has occurred. In determining whether a decline in fair value is other than temporary, management assesses whether the fair value is expected to recover and whether the Company intends to hold the investment until it recovers. The Company’s assessment of its intent to hold an investment until it recovers is based on conditions at the time the assessment is made, including general market conditions, the Company’s overall investment strategy and management’s view of the underlying value of an investment relative to its current price. If a decline in value is considered other than temporary, the Company reduces the carrying value of the security and reports a realized loss on its statement of income.

     Following is a summary of gross and net premiums written, premiums earned, loss ratios (losses and loss expenses incurred expressed as a percentage of premiums earned), expense ratios (underwriting expenses expressed as a percentage of premiums earned) and combined ratios (sum of loss ratio and expense ratio) for each of our business segments for the three months ended March 31, 2008 and 2007. The combined ratio represents a measure of underwriting profitability, excluding investment income. A combined ratio in excess of 100 indicates an underwriting loss; a number below 100 indicates an underwriting profit.

     The following table presents the Company’s net income and net income per diluted share for the three months ended March 31, 2008 and 2007 (amounts in thousands, except per share data):

     Net income in 2008 was nearly unchanged from 2007 as higher realized investment gains were offset by lower underwriting profits and lower investment income. The decrease in the weighted average diluted shares resulted from the Company’s repurchases of its common stock in 2007 and in the first quarter of 2008.

     Gross Premiums Written. Gross premiums written were $1.3 billion in 2008, down 7% from 2007. The Company has experienced increased competition and downward pressure on pricing since 2004. This trend continued in 2008, with price levels for renewal business declining approximately 5% as compared with the prior year period.

     A summary of gross premiums written in the first quarter of 2008 compared with the first quarter of 2007 by business segment follows:

     Net Premiums Earned. Net premiums earned decreased 3% to $1,124 million from $1,155 million in 2007. Insurance premiums are earned ratably over the policy term, and therefore premiums earned in 2008 are related to business written during both 2008 and 2007. The 3% decrease for 2008 earned premiums reflects the underlying decline in net premiums written in 2007.

     Net Investment Income. Following is a summary of net investment income for the three months ended March 31, 2008 and 2007.

     Net investment income decreased 13% to $144 million in 2008 from $165 million in 2007 primarily as a result of lower income from the arbitrage trading account and from partnerships and affiliates. Earnings from arbitrage investments decreased 82% as the dramatic reduction in merger activity that began in late 2007 continued in the first quarter. The decrease in income from partnership and affiliates reflects lower income from real estate funds as well as the costs, including management fees, associated with new funds that are not yet fully invested. Average invested assets (including cash and cash equivalents) increased 8% to $13.1 billion in 2008 from $12.1 billion in 2007 primarily as a result of cash flow from operations.

     Insurance Service Fees. The alternative markets and specialty segments offer fee-based services to help clients develop and administer self-insurance programs, primarily for workers’ compensation coverage. Service fees were $27 million in 2008, up from $26 million in 2007, primarily as a result of service fees from an insurance company that was acquired by the Company in October 2007.

     Realized Investment Gains. Realized investment gains result primarily from sales of securities, as well as from provisions for other than temporary impairment in securities. The Company buys and sells securities on a regular basis in order to maximize the total return on investments. Decisions to sell securities are based on management’s view of the underlying fundamentals of specific securities as well as management’s expectations regarding interest rates, credit spreads, currency values and general economic conditions.

     Realized investment gains were $54 million in 2008 compared with $7 million in 2007. The Company reported a gain of $70 million from the sale of its interest in Kiln Ltd in the first quarter of 2008. The gain was partially offset by a $19 million write-down of securities determined to have had other than temporary declines in market values.

     Revenues from Wholly-Owned Investees. Revenues from wholly-owned investees were $25 million in 2008 compared with $5 million in 2007. These revenues were derived from two separate fixed base operators that the Company acquired in the first quarter and the third quarter of 2007. These companies provide services to the general aviation market, including fuel and line service, aircraft sales and maintenance, avionics and engineering services and parts fabrication. The first quarter of 2008 results include a full quarter of operations for both companies, whereas the first quarter of 2007 included only the results from the first purchased fixed base operator.

     Losses and Loss Expenses. Losses and loss expenses decreased to $683 million in 2008 from $685 million in 2007. The consolidated loss ratio was 60.8% in 2008 compared with 59.3% in 2007. Loss ratios for accident year 2008 were higher due to a decline in price levels, higher than expected loss costs and higher weather-related losses. Weather-related losses were $14 million in 2008 compared with $6 million in 2007. The increase in accident year 2008 loss ratios was partially offset by favorable reserve development. Net favorable prior year development was $54 million in 2008 compared with $22 million in 2007. The favorable loss reserve development was primarily related to the specialty segment. The Company also experienced favorable development for the regional, alternative markets and international segments. A summary of loss ratios in 2008 compared with 2007 by business segment follows:

     Other Operating Costs and Expenses. Following is a summary of other operating costs and expenses for the three months ended March 31, 2008 and 2007 (dollars in thousands):

     Underwriting expenses are comprised of commissions paid to agents and brokers, premium taxes and other assessments and internal underwriting costs. Underwriting expenses increased 2% in 2008 primarily as a result of higher employment costs. The consolidated expense ratio (underwriting expenses expressed as a percentage of premiums earned) was 29.4% in 2008 compared with 28.2% in 2007.

     Service expenses, which represent the costs associated with the alternative markets’ and specialty’s fee-based businesses, decreased 3% to $23 million due to lower employment costs.

     Other costs and expenses, which represent general and administrative expenses for the parent company, decreased 15% to $26 million primarily as a result of lower employment costs.

     Expenses from Wholly-Owned Investees. Expenses from wholly-owned investees were $25 million in 2008 compared to $5 million in 2007. These expenses represent costs associated with two separate fixed base operators that the Company acquired in the first quarter and third quarter of 2007. These include cost of goods sold related to aircraft and other sales, labor and equipment costs related to repairs and other services and general and administrative expenses. The first quarter of 2008 results include a full quarter of operations for both companies, whereas the first quarter of 2007 only includes results from the first purchased fixed base operator.

     Interest Expense. Interest expense increased 10% to $23 million as a result of the issuance of $250 million of 6.25% senior notes in February 2007.

     Income Taxes. The effective income tax rate was 29% in 2008 and 30% in 2007. The effective tax rate differs from the federal income tax rate of 35% primarily because of tax-exempt investment income.

Investments

     As part of its investment strategy, the Company establishes a level of cash and highly liquid short-term and intermediate-term securities that, combined with expected cash flow, it believes adequate to meet payment obligations. The Company also attempts to maintain an appropriate relationship between the average duration of the investment portfolio and the approximate duration of its liabilities, i.e., policy claims and debt obligations.

     The carrying value of the Company’s investment portfolio and investment-related assets as of March 31, 2008 and December 31, 2007 were as follows (dollars in thousands):

     Fixed Maturity Securities. The Company’s investment policy with respect to fixed maturity securities is generally to purchase instruments with the expectation of holding them to their maturity. However, management of the available for sale portfolio is considered necessary to maintain an approximate matching of assets and liabilities as well as to adjust the portfolio as a result of changes in financial market conditions and tax considerations. At March 31, 2008 (as compared to December 31, 2007), the fixed maturities portfolio mix was as follows: U.S. Government securities were 12% (15% in 2007); state and municipal securities were 56% (53% in 2007); corporate securities were 11% (11% in 2007); mortgage-backed securities were 17% (18% in 2007); and foreign bonds were 4% (3% in 2007).

     The Company’s philosophy related to holding or selling fixed maturity securities is based on its objective of maximizing total return. The key factors that management considers in its investment decisions as to whether to hold or sell fixed maturity securities are its view of the underlying fundamentals of specific securities as well as its expectations regarding interest rates, credit spreads and currency values. In a period in which management expects interest rates to rise, the Company may sell longer duration securities in order to mitigate the impact of an interest rate rise on the market value of the portfolio. Similarly, in a period in which management expects credit spreads to widen, the Company may sell lower quality securities, and in a period in which management expects certain foreign currencies to decline in value, the Company may sell securities denominated in those foreign currencies. The sale of fixed maturity securities in order to achieve the objective of maximizing total return may result in realized gains; however, there is no reason to expect these gains to continue in future periods.

     Equity Securities Available for Sale. Equity securities available for sale primarily represent investments in common and preferred stocks of publicly traded real estate investment trusts, banks, Fannie Mae, Freddie Mac and utilities.

     Arbitrage Trading Account. The Arbitrage trading account is comprised of direct investments in arbitrage securities. Merger arbitrage is the business of investing in the securities of publicly held companies that are the targets in announced tender offers and mergers. Convertible arbitrage is the business of investing in convertible securities with the goal of capitalizing on price differentials between these securities and their underlying equities.

     Investment in arbitrage funds. Investment in merger arbitrage funds represents investments in limited partnerships that specialize in merger arbitrage and convertible arbitrage strategies.

     Partnerships and Affiliates. At March 31, 2008 and 2007, the Company’s investment in partnerships and affiliates was $481 million and $546 million, respectively, and included investments in real estate funds of $300 million and $294 million, respectively.

     In March 2008, the Company sold its interest in Kiln Ltd for $174 million and reported a realized investment gain of $70 million. At December 31, 2007, the carrying value of the Company’s investment in Kiln Ltd was $109 million.

     Loans Receivable. Loans receivable represent commercial real estate mortgage loans and related instruments with maturities of five years or less and floating, LIBOR-based interest rates.

     Securities in an Unrealized Loss Position. The following table summarizes all securities in an unrealized loss position at March 31, 2008 and December 31, 2007 by the length of time those securities have been continuously in an unrealized loss position:

     At March 31, 2008, gross unrealized gains were $267 million, or 2.1% of total investments, and gross unrealized losses were $202 million, or 1.5% of total investments. There were 233 securities where the estimated fair value had declined and remained below amortized cost for more than six months. Those securities had an aggregate unrealized loss of $122 million, or 7.0% of their aggregate amortized cost.

     There were 31 securities where the estimated fair value had declined below amortized cost by 20% or more. Those securities had an aggregate unrealized loss of $103 million, or 28.7% of their aggregate amortized cost. There were two securities with a combined unrealized loss of $0.4 million where the estimated fair value had declined and remained below amortized cost by 20% or more for more than six months. Most of the unrealized losses of 20% or more were related to preferred stocks issued by banks, Fannie Mae and Freddie Mac and were due to the credit markets disruption that began in late 2007 and continued through the first quarter of 2008.

     Management regularly reviews securities that have a fair value less than cost to determine whether an other than temporary impairment has occurred. In determining whether a decline in fair value is other than temporary, management assesses whether the fair value is expected to recover and whether the Company intends to hold the investment until it recovers. The Company’s assessment of its intent to hold an investment until it recovers is based on conditions at the time the assessment is made, including general market conditions, the Company’s overall investment strategy and management’s view of the underlying value of an investment relative to its current price. If a decline in value is considered other than temporary, the Company reduces the carrying value of the security and reports a realized loss on its statement of income.

     The following table shows the composition by Standard & Poor’s (“S&P”) and Moody’s ratings of the fixed maturity securities in our portfolio with gross unrealized losses at March 31, 2008. Not all of the securities are rated by S&P and/or Moody’s (dollars in thousands).

     The scheduled maturity dates for fixed maturity securities in an unrealized loss position at March 31, 2008 are shown in the following table (dollars in thousands):

Liquidity and Capital Resources

     Cash Flow. Cash flow provided from operating activities decreased to $214 million in 2008 from $357 million in 2007 due to a decline in premiums collected and investment income received as well as an increase in paid losses.

     The Company’s insurance subsidiaries’ principal sources of cash are premiums, investment income, service fees and proceeds from sales and maturities of portfolio investments. The principal uses of cash are payments for claims, taxes, operating expenses and dividends. The Company expects its insurance subsidiaries to fund the payment of losses with cash received from premiums, investment income and fees. The Company targets an average duration for its investment portfolio that is within one year of the average duration of its liabilities so that portions of its investment portfolio mature throughout the claim cycle and are available for the payment of claims if necessary. In the event operating cash flow and proceeds from maturities and prepayments of fixed income securities are not sufficient to fund claim payments and other cash requirements, the remainder of the Company’s cash and investments is available to pay claims and other obligations as they become due. The Company’s investment portfolio is highly liquid, with approximately 82% invested in cash, cash equivalents and marketable fixed maturity securities as of March 31, 2008. If the sale of fixed maturity securities were to become necessary, a realized gain or loss equal to the difference between the cost and sales price of securities sold would be recognized.

Financing Activity

     During the first quarter of 2008, the Company repurchased 10,410,280 shares of its common stock for $295 million.

     At March 31, 2008, the Company had senior notes, junior subordinated debentures and other debt outstanding with a carrying value of $1,360 million and a face amount of $1,377 million. The maturities of the outstanding debt are $90 million in 2008, $1 million in 2009, $150 million in 2010, $2 million in 2012, $200 million in 2013, $200 million in 2015, $150 million in 2019, $77 million in 2022, $7 million in 2035 (prepayable in 2010), $250 million in 2037 and $250 million in 2045 (prepayable in 2010).

     At March 31, 2008, stockholders’ equity was $3.4 billion and total capitalization (stockholders’ equity, senior notes, junior subordinated debentures and other debt) was $4.8 billion. The percentage of the Company’s capital attributable to senior notes, junior subordinated debentures and other debt was 28% at March 31, 2008 and at December 31, 2007.

Item 3. Quantitative and Qualitative Disclosure About Market Risk

     The Company’s market risk generally represents the risk of loss that may result from the potential change in the fair value of the Company’s investment portfolio as a result of fluctuations in prices, interest rates and currency exchange rates. The Company attempts to manage its interest rate risk by maintaining an appropriate relationship between the average duration of its investment portfolio and the approximate duration of its liabilities, i.e., policy claims and debt obligations.

     The duration of the investment portfolio was 3.4 years at March 31, 2008 and 3.3 years at December 31, 2007. The overall market risk relating to the Company’s portfolio has remained similar to the risk at December 31, 2007.

Item 4. Controls and Procedures

     Disclosure Controls and Procedures. The Company’s management, including its Chief Executive Officer and Chief Financial Officer, has conducted an evaluation of the effectiveness of the Company’s disclosure controls and procedures pursuant to Securities Exchange Act Rule 13a-14 as of the end of the period covered by this quarterly report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company has in place effective controls and procedures designed to ensure that information required to be disclosed by the Company in the reports it files or submits under the Securities Exchange Act and the rules there under, is recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms.

     Changes in Internal Control over Financial Reporting. During the quarter ended March 31, 2008, there were no changes in the Company’s internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II — OTHER INFORMATION

Item 1. Legal Proceedings

     The Company’s subsidiaries are subject to disputes, including litigation and arbitration, arising in the ordinary course of their insurance and reinsurance businesses. The Company’s estimates of the costs of settling such matters are reflected in its aggregate reserves for losses and loss expenses, and the Company does not believe that the ultimate outcome of such matters will have a material adverse effect on its financial condition or results of operations.

Item 1A. Risk Factors

     There have been no material changes from the risk factors previously disclosed in the Company’s annual report on Form 10-K for the fiscal year ended December 31, 2007.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

     Set forth below is a summary of the shares repurchased by the Company during the quarter and the number of shares remaining authorized for purchase by the Company.