Byrne Says White Mountains Shareholders Protected By Sidecar Deal

Olympus was one of two sidecars formed in 2001 (RenaissanceRe's DaVinci was the other), and since last year's storms, nearly $2.5 billion of investor dollars have poured into sidecars, capital markets experts say.

Of particular concern was a June 19 announcement that Folksamerica had boosted gross loss estimates for last year's storms by $203 million–an action that should have contractually bound Olympus to pay $143 million of the losses under the terms of a quota-share reinsurance treaty with Folkamerica.

But in the same announcement, White Mountains revealed that it agreed to reimburse Olympus for up to $137 million of the ceded losses, which would otherwise wipe out most of Olympus' capital base. The reimbursement, bailing out private investors in the sidecar, impacts White Mountains public shareholders, who will see their company's earnings drop $12 per share.

Mr. Byrne, one of the original investors in Olympus, began his remarks by saying that White Mountains had "a long history of treating [its] owners well."

Asked directly how the board reached its decision to reimburse the sidecar in which he and other members of management once had an economic interest, he distinguished between "the first Olympus," which was wiped out by a wave of storm losses, and the newly recapitalized Olympus, which would have taken the latest wave of losses from offshore energy exposures, if not for the reimbursement deal.

Mr. Byrne said he raised capital for "the first Olympus" in 2001 from "a collection of institutions and people," including Mr. Fass and himself–"all of those were friends of the company in one way or another." The idea was to be able to participate in an exciting property market at a time when Folksamerica didn't have enough capital to do so on its own.

"The theory is still sound, but it's been a sorry chapter in our life here," he said, referring to the fact that in 2005, Folksamerica incurred $1.5 billion in gross losses from hurricanes. But the sidecar worked well for White Mountains from 2002 to 2004, he said, and in 2005 because "it did what it was supposed to do."

It also worked well for sidecar investors for the first three years, "but in 2005, we wiped out all the original investors…They do not have a financial stake in anything going forward," he said, counting his wife among those who lost significant investment dollars. "So, when management decided to reimburse the new investors in Olympus, their decision process was 100 percent in the interests of White Mountains shareholders," he continued.

Mr. Byrne's reference to "new investors" refers to the fact that Olympus raised $156 million to recapitalize after an early round of loss estimates dealt the first serious blow to the sidecar.

"New investors came into Olympus based on year-end estimates that have proven to be inaccurate very quickly," Mr. Fass said, noting during his remarks that an impetus for reimbursing these investors was to "protect and reinforce" White Mountains' reputation with co-investors.

"We believe that taking this action now maintains the financial strength and market position of Folksamerica," Mr. Fass said, noting the company's reputation with private investors has been "carefully nurtured over the years to the great benefit of [White Mountains'] owners, who have made a lot of money through our ability to quickly access capital."

Mr. Byrne and Mr. Fass began their review of recent events by explaining the revised loss estimates that set the reimbursement deal in motion, noting that new claims information on offshore energy exposures prompted management to reserve all energy contracts to full policy limits.

That action prompted A.M. Best to downgrade Folksamerica to "A-minus" on June 19, and to issue an announcement that included some biting remarks about "the timing of this most recent disclosure in relation to A.M. Best's most recent discussions with company management."

The Oldwick, N.J.-based rating agency had clearly been blindsided, because just three days earlier it had affirmed its ratings on Folksamerica.

"There was a sorry accident…where information passed in the night," Mr. Byrne said, noting the company has since apologized to the rating agency.

Going forward, Best will have questions about risk management capabilities, executives said, adding that a changed strategy–reducing property exposures and becoming a more balanced property-casualty reinsurer–should have positive implications for rating agencies.

Mr. Byrne took note of a satisfactory assessment from Moody's that affirmed its "A3″ rating, but even Moody's noted that "White Mountains' intention to reimburse Olympus raises some questions about the efficacy of sidecar structures, particularly with respect to their independence from ceding company control and/or support."

In addition to Olympus, White Mountains set up another sidecar on Jan. 1–Helicon Reinsurance–to participate only on 2006 and subsequent business. White Mountains executives said they have no ownership interest in the newer sidecar.