Lancashire grows pre-tax profits despite reinsurance & retro pressure

Specialty insurance and reinsurance company Lancashire Holdings reported an increase in pre-tax profits this morning, and growing contribution from third-party capital at Kinesis, despite the “pressures” in reinsurance and retrocession markets.

Lancashire has been adapting to its new platform over the course of 2014, having brought the Cathedral at Lloyd’s business on board restructured its third-party reinsurance capital management business into Kinesis Capital Management all in the latter part of 2013.

The broad and diverse platform appears to be paying dividends as Lancashire reported pre-tax profit of $91.5m for Q4 2014, compared to $55.2m in Q4 2013 and full-year pre-tax profits of $226.5m, compared to $218.1m in 2013.

Kinesis Capital Management, the firm’s third-party reinsurance capital unit, continued to contribute strongly through the final quarter of the year, with Lancashire reporting a share of profit of associates of $1.6m and $5.9m  for Q4 and for 2014 respectively,  which largely reflects Lancashire’s 10% equity interest in the Kinesis Holdings I Limited vehicle.

Additionally for Q4 Lancashire reported that Kinesis Capital Management earned underwriting fees of $1.9m for providing underwriting services to the Kinesis vehicle, which for the full-year are reported as $6.2m.

Additionally from third-party capital activities in 2014, Lancashire reports $3m of final profit commission from its run-off Saltire vehicle and final profit commission of $6.7m from the Accordion vehicle which was booked in Q1.

So the overall contribution from third-party capital management activities under the Kinesis Capital Management brand has been very healthy throughout the year, as well as providing Lancashire with a useful source of lower-cost underwriting capital to deploy alongside its own capacity.

CEO Alex Maloney commented on the firm’s performance; “I’m delighted to report another good quarter and year for Lancashire, with our key performance indicators demonstrating that our business model is built to provide strong results across the market cycle.  A solid return on equity and an excellent combined ratio have been achieved in difficult trading conditions and allowed us to maintain our excellent dividend record, based on our continued commitment to focusing on our underwriting and capital management.”

The combined ratio has certainly been a help in 2014, as it has for the majority of insurance and reinsurance businesses that have reported results. Lancashire reported 50.4% for Q4 and 68.7% for the full-year, both of which are lower than the prior year figures.

The addition of the Cathedral operations and also further expansion in specialties has helped Lancashire to become better insulated against the reductions in reinsurance and retrocession pricing. Alongside these Kinesis provides a way that Lancashire can offer a unique multi-class collateralized reinsurance and retrocession product in the market, using third-party capital alongside its own share in the vehicle, all of which results in new opportunities for the firm.

“With market-leading underwriters across all three of our business platforms we have defended our core portfolio, built out lines where we had true growth opportunities, reduced exposures where competition made returns unacceptable, and maintained our relevance to brokers and clients. We attracted quality new underwriting talent, and this helped us to grow the stamp capacity of Cathedral Syndicate 3010 from £30 million when we acquired it in November 2013 to £100 million for 2015, building out new specialist teams in energy, terrorism and aviation lines,” Maloney explained.

Maloney then gave some market commentary, saying; “Lancashire has always given a realistic view of the market, and the truth is that there is too much capacity in many of the reinsurance and specialty arenas. This is driving competition on both price and terms and conditions.”

However the firm feels it remains insulated to a degree through its risk selection, expertise and solid reputation and relationships with brokers.

Maloney explained; “But our focus on employing lead underwriters with the ability to work with clients and brokers to design programmes and supply meaningful capacity protects us from the pressures on the smaller following markets who cannot fulfil these requirements. We did see some pressure on signings throughout the year, but on our core books we maintained, and even in some cases added to, our share of the risks we really like.”

Lancashire continued to utilise the attractive reinsurance and retrocesssion market conditions to help it to balance its portfolio, but Maloney noted the challenges in these markets.

“The greatest pressures are in the reinsurance, and in particular, the retrocession markets where barriers to entry are comparatively low. But as a company that spent over $164 million in 2014 on outwards reinsurance premiums we are obviously a beneficiary of this as well,” he said.

He continued, explaining that the firm holds less risk than ever; “We enter 2015 with historically low retained risk levels, without having had to sacrifice any meaningful share of our inwards portfolio, except property retrocession which has been replaced with better margin, less volatile catastrophe business.”

The firm continued to pull-back on property retrocession business in Q4 and for the full-year reduced its property premiums written by 21%. However big increases in Lloyd’s business thanks to the Cathedral acquisition now look set to offset much of the challenges in that market for the firm, providing a more diverse business structure and resulting in an overall growth in premiums written of 33.5% for the year.

Lancashire also cited further deterioration in terms and conditions for property retrocession business as another key reason for its pull-back there, explaining; “As property retrocession rates, terms and conditions continued to deteriorate, we redeployed capital to property catastrophe excess of loss, adding some new business and restructuring some existing programs for core clients, including writing some business on a multi-year basis.”

“Of course you only get the credit for doing the right thing and reducing net exposure in a soft market if there are losses to prove it, and the last couple of years have been very quiet in terms of major insured events; but we are committed to underwriting for profit not volume, and we still have plenty of firepower in Lancashire, Cathedral and Kinesis to take advantage of any market dislocation,” Maloney said.

It’s clear that a lot of work has gone into restructuring Lancashire’s business mix in the last year or so, since the Cathedral acquisition and Kinesis launch. Additionally the firm has run-down legacy third-party capital vehicles successfully and now the benefits of the diversified platform it has built are becoming evident.

Lancashire has once again added to its dividend for the quarter, as it seeks to ensure that shareholders benefit from good results and a good outlook for 2015. With less retained risk than ever, much of its renewals for reinsurance completed in January, growing income from Cathedral and Kinesis, Lancashire appears set up well for the year ahead.