An Ariel view
Ariel Holdings Ltd. is the Bermuda-based parent of reinsurance and insurance operating companies located in Bermuda, London and New York. Subsidiaries—Ariel Re, Atrium and Valiant Insurance— provide a range of property-casualty reinsurance and insurance products. Ariel had consolidated shareholders’ equity of $1.76 billion as of December 31, 2009, a number subsequently reduced by a special dividend.
Established by serial insurance entrepreneur Don Kramer and his team in 2005, Ariel operates a slightly different model from many of its peers. Ariel is still owned by its founding investors, which include several of the world’s largest private equity firms.
Rivaz has been with Ariel since its start. He worked previously with Kramer at Tempest Re; and together they constitute a winning team. Rivaz is very much chief executive, with Kramer an active non-executive chairman in dealing with investors—his natural theatre of operations.
Early in October, Bermuda Re spoke with Rivaz at length. He was in London on business, but found time to discuss Ariel and some topical industry issues.
Bermuda Re: What sort of a year is Ariel having?
Rivaz: Investment returns have exceeded expectations for each of the fi rst three quarters. Our underwriting result in the fi rst quarter was strong: we were less affected by (the earthquake in) Chile than many of our competitors. So on a relative basis we had a terrific first quarter.
In the second quarter, we were affected by losses from the Deepwater Horizon (Gulf blowout). we took a conservative view on the ultimate cost to the industry and provisioned accordingly.
We do not have a material exposure to the New Zealand earthquake in the third quarter, so this year, through three quarters, we are a little ahead of plan.
BR: How is the soft market affecting you?
Rivaz: Fortunately, we’re not much involved in casualty, and will be even less so following the imminent closing of the sale of Valiant, our US casualty operation. we are more focused in property catastrophe reinsurance, especially in the US. The US constitutes more than half of the global market premiums for prop cat, and a substantially higher proportion for our book, which is actively positioned as underweight on international risks.
Pricing in the US prop cat market has come down over the past 12 to 18 months, but from a starting point of historic highs, and so remains largely technically adequate or better. The international catastrophe business is not so favourable; the bulk of the business is priced below where we can see adequate reward for the risk, so we have been very selective, writing business on a smaller scale.
The marine and energy market has had ups and downs. Energy was very hard when we were formed, and we’ve seen some softening. We will see further price improvements as a result of Deepwater and other energy losses in the past year. So market conditions for a fair part of our Bermuda business are not yet in cyclical troughs.
The casualty business is under much more pressure. It’s been softening for five consecutive years now. The pricing peaks achieved in 2003 and 2004 have generated very attractive returns, but looking forward, the picture is very challenging, particularly with fixed income yields at such low levels today. That’s why we took the decision to look for an exit from the US specialty casualty business and sold Valiant.
Ariel started work on diversification initiatives in 2006, which led to our purchase of the Valiant shell and commencing underwriting in 2007. Our strategy was to build a profitable specialty casualty operation to offer diversification, but our ability to successfully do so was frustrated by market conditions. Not only were the volumes we were able to write on sensible underwriting terms and conditions lower than planned, but we can’t see with any clarity when competitive conditions will change for the better, enabling the business to move into significant profitability.
Although the catalyst for a market change remains hard to see, not too many people are pulling back or out of the market.
BR: You returned almost a quarter of your year-end 2009 capital to shareholders earlier this year.
Rivaz: Yes. We issued a special dividend in the first quarter of $422 million to shareholders. If we have attractive underwriting opportunities, we would always favor deploying retained earnings as additional capital employed in the business. When we don’t see those opportunities, we will return excess capital.
After a highly profitable 2009, we anticipated some softness, and so elected to distribute all our 2009 earnings and also to slightly trim the amount of capital. In the long run, managing capital downwards and demonstrating a degree of discipline enhances our ability to manage it upwards. Not returning excess capital when we don’t have a good use for it might put investors off sending more when we need it.
BR: Ariel is privately owned. Does that make your job easier?
Rivaz: There is a degree of advantage in terms of communicating and executing longer-term plans and objectives against a noisy background. It can be difficult to represent the continuity and underlying trends of a long-term business which can be dramatically affected by disasters in any given quarter. Ninety percent of our owners are represented on our board, so communication with our investor base is greatly enhanced. That’s been a strong point of our five-year history to date.
And, obviously, there are some savings in cost and time spent. We don’t have to structure our communication with investors according to the regulatory rulebook of the public markets. We do, however,report in considerable detail to our board on a quarterly basis. We have voluntarily adopted Sarbanes-Oxley.
BR: Are there disadvantages to being privately owned?
Rivaz: There is always the question as to what the longer-term outcome will be in regard to ownership. Private equity owners will at some stage look to achieve liquidity and an exit: they’re not with us indefinitely. Having said that, we have generated very respectable double digit growth in book value so far, and expect that to continue, so our investors can afford to be patient.
But as far as running the business is concerned, it’s not an issue. We deliver attractive returns in relation to the risks assumed. Investors will value us accordingly.
BR: There’s been quite a lot of chatter about a merger involving Ariel.
Rivaz: Over the five years, we have been approached by quite a large number of companies interested in buying us or combining with us. To date, none have been able to offer a combination that we thought made sense for our business and our investors, who felt we were worth more than what has been put out there to date.
In thinking that, we are making a positive judgment that we are of sufficient scale to compete effectively.
"Although the catalyst for a market change remains hard to see, not too many people are pulling back or out of the market."
The most obvious theoretical argument for looking for greater scale would be to achieve economy of scale in underwriting, modelling, even management, over a larger premium and capital base and thereby to gain a cost advantage. We did a bit of research to find evidence to support that idea. But when we plotted general and administrative expense ratios against capital, in Bermuda and elsewhere, we found no meaningful correlation. So, when companies are bulking up, they may not be gaining real operating efficiency or competitive advantage. And of course the added complexity of greater scale is an organizational cost as well as a financial one.
In terms of access to business and significance to customers, we don’t perceive we have much of a problem. The areas of businesses in which we operate are largely set up to provide solutions from numerous providers simultaneously, a method we don’t see changing any time soon. Syndication is the dominant architecture of reinsurance. We don’t feel there’s a real bar to a company on our scale getting access to much the same opportunities as larger companies.
BR: How is your Lloyd’s business doing?
Rivaz: We purchased Atrium, a very successful Lloyd’s business of long-standing, in 2007. It had been publicly traded in the UK prior to that. It had been through a strategic review that concluded that its organisation was short of scale and resources and would be better placed to grow and thrive if it were part of a bigger organisation—one with better capital efficiency and an offshore domicile, and one with more resources and modelling capability. So they began a process to look for compatible potential buyers.
Simultaneously, we were looking at a diversification strategy. We had identified the US casualty market and Lloyds as the two most likely avenues of diversification for Ariel.
Our intention was very much to preserve the same level of performance and quality that they had indicated over a long period historically, so by design we left it as a largely autonomous operating subsidiary with the same management. There has been essentially no turnover in the senior management ranks since the acquisition, and their performance continues to be very strong.I was familiar with Atrium, because, prior to my initial roles with Ariel, I had been a director of Atrium. I was well aware of the quality of their business. They were looking for a partnership with a bigger entity and I was therefore able to indicate from the outset that the opportunity might be quite interesting to Ariel.
BR: And you’ve recently set up a Swiss operation.
Rivaz: In the third quarter of 2009 we hired a team who were all involved in underwriting credit and surety reinsurance business for Swiss Re. At the time, Swiss Re had reached a conclusion that they wanted to scale back very dramatically in that business segment and downsize their staffing.
Because of the circumstances, we were able to gain a high quality team with minimal difficulty: senior people with Swiss Re who had a great deal of experience and market profile, as well as the technical modelling, portfolio and risk management know-how to position us sensibly in that line of business. Their first year with us has gone very well.
BR: Was it an opportunistic move?
Rivaz: Our view is that we have a long-term strategy, aiming to further diversify our business where we can see profit streams outside our core prop cat business, but we will only choose to do so with the right quality of people and when trading conditions are supportive of a reasonable return on capital.
We really can’t predict when market opportunities will arise, when suitable talent will be available, so there is a degree of opportunism rather than definitive planning as to what to enter and when. This was a move in keeping with our strategic objectives.
BR: A few major companies have redomiciled away from Bermuda. Might you do the same?
Rivaz: We have no immediate plans to do so and are not actively investigating other domiciles. Bermuda works for us under the present circumstances and that would only be likely to change if the tax or regulatory playing field were altered at a future time, in a way adverse to Bermuda but not to other jurisdictions.
BR: How are you doing with Solvency II?
Rivaz: Our Lloyd’s business is well into an extensive Solvency II implementation project, working with Lloyd’s centrally to achieve ‘own model’ Solvency II compliance. We are committing a lot of resources to that, and progress is definitely on track.
We are very supportive of the BMA’s efforts to achieve Solvency II regulatory equivalence, and if this succeeds, would expect the BMA to be our Group regulator as well as Ariel Re’s.
BR: And International Financial Reporting Standards (IFRS)?
Rivaz: We have to work with a set of parameters. Currently, we use US GAAP, which our investors are most comfortable with. We are keeping an eye on potential changes to US GAAP and IFRS and the desired convergence of the two. Both make fairly radical changes to the way insurance contracts are accounted for, but it’s a little too early in the process for us to be engaging with practical work.
BR: Finally, are you enjoying being chief executive officer?
Rivaz: It’s working very well. Don Kramer continues as chairman. He’s working more with the board and investors, so he’s not around the business as much, day to day. The change in the role was less than might typically be the case, since Don—with his background largely in finance, and investor relations—had always been more on that side. Am I enjoying myself? Yes. I would be enjoying it more with less of a challenging marketplace.