With a $7 billion deal in the works to take over Lloyd's Equitas operation, Berkshire Hathaway is gambling that the move will be profitable in the long term because of its expertise with asbestos claims, according to a brokerage expert. The move, which analysts greeted positively, will see Equitas–Lloyd's runoff operation for asbestos and other long-term exposures–buying $7 billion in reinsurance from the Berkshire subsidiary National Indemnity Company, which will run its operations.
Besides providing the reinsurance for all Equitas' liabilities, National Indemnity will take on the staff and operations of Equitas and conduct the runoff of Equitas' liabilities.
Paul Little, executive vice president and chief brokerage officer of Holborn Corporation, a reinsurance brokerage, said Berkshire has substantial background in the area of asbestos claims. In 2001 it purchased Johns Manville, a major manufacturer of asbestos products before asbestos injury claims soared out of control.
"Berkshire has a lot of information about the asbestos world and environmental claims," Mr. Little explained. "They can leverage that. They're betting they can settle claims more efficiently than what Equitas is able to do."
This is good news for Holborn clients that trade with Lloyd's, he noted, because while the market has always claimed that Equitas "ring fenced" Lloyd's exposures, "there's always been some doubts about the quality of security." The move, he added, will likely attract new capital to Lloyd's.
Don Thorpe, senior insurance analyst for Fitch Ratings, which put Lloyd's on "A" Ratings Watch Positive as a result of the deal, agreed that in addition to a strong knowledge of asbestos through Johns Manville, Berkshire has done similar transactions with insurance units.
He said they had written coverage for a Cigna subsidiary with long-term obligations that was purchased by Ace in 1999. They also recently bought Swiss reinsurer Converium's U.S. operation, which was in runoff with a lot of long-tailed business.
The deal takes the [Equitas claims] overhang away from Lloyd's head, said Mr. Thorpe.
Fitch noted that the Berkshire-Equitas deal establishes a vehicle to reinsure and runoff the 1992 and prior-years' liabilities of Lloyd's members.
Berkshire will reinsure all of Equitas' liabilities and provide up to $7 billion in reinsurance protection above Equitas' undiscounted reserves, which stood at $8.7 billion in the first quarter of this year.
The companies said the transaction will occur over two phases. In Phase I, Berkshire will provide $5.7 billion in reinsurance protection to Equitas and take on the staff, operations and management of the runoff of Equitas. Phase II will result in the transfer of Lloyd's members' pre-1993 liabilities into Equitas or a U.K.-based subsidiary of Berkshire and the provision of additional reinsurance protection of up to $1.3 billion.
Lloyd's will make a contribution of $169 million toward the premium paid to Berkshire for the reinsurance protection under Phase I and Phase II of the transaction.
The transaction is subject to various regulatory and legal approvals.
Standard & Poor's Ratings Services said it revised to positive from stable the outlook on the U.K.-based Lloyd's insurance market and on The Society of Lloyd's. At the same time, the "A" insurer financial strength ratings on Lloyd's were affirmed, as well as the "A" counterparty credit rating on The Society of Lloyd's.
Based upon what has been disclosed to-date, the Equitas deal "may remove any realistic potential for reserve inadequacy at Equitas Ltd. to undermine confidence in Lloyd's–in particular, amongst clients, brokers and capital providers," said Standard & Poor's credit analyst Marcus Rivaldi.
Bill Adamson, chief executive officer of U.S. operations for Carvill, the specialty reinsurance intermediary, said that "any move that has the potential to strengthen the view of Lloyd's security is a positive and the fact the two major insurance entities in the United States and London are working together to find a solution has to be a boost for the industry."
Terms Of The Deal
The transaction between Equitas and National Indemnity Company will take place in two phases.
Phase I: National Indemnity Company will provide reinsurance cover to Equitas of $5.7 billion over and above Equitas' March 31 reserves–$8.7 billion–less adjustment for payments and recoveries since that date.
Phase I premium payable to National Indemnity Company will be 358 million pounds ($672.36 million), consisting of:
o All of Equitas' assets less than 172 million pounds (totaling 286 million pounds or $537.14 million).
o A contribution of 72 million pounds from the Corporation of Lloyd's ($135.22 million).
The staff and operations of Equitas and the management of the runoff will all pass to an English subsidiary of Berkshire Hathaway.
Phase II: Equitas will seek approval of the High Court to transfer all the liabilities of Reinsured Names into Equitas or a subsidiary of Berkshire Hathaway. If the transfer occurs before the end of 2009, National Indemnity Company will provide up to $1.3 billion of additional reinsurance cover.
The further premium payable would be up to 40 million pounds ($75.12 million).
At the time of any such business transfer, or on Dec. 31, 2009 if a transfer has not occurred, Lloyd's will provide a further contribution of 18 million pounds, according to Equitas.
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