Atlantic Mutual Cos. Downgraded

A.M. Best Co. downgraded the financial strength rating to "B+" (very good) from "B++" (very good) of The Atlantic Mutual Cos. based in New York, N.Y. Best also downgraded the debt rating to "b+" from "bb+" of Atlantic Mutual Insurance Company's existing $100 million 8.15 percent surplus notes. The outlook for both ratings is negative.

These rating actions follow The Atlantic's sale of its subsidiary, Atlantic Specialty Insurance Company and the renewal rights to the majority of its commercial lines business to OneBeacon Insurance Company in Boston. These actions also follow Best's ongoing review of the group's other recent restructuring and capital enhancement initiatives as well as a review of its current capitalization, recent operating performance and future prospects.

The actions recognize the group's reduced capitalization as a result of significant reserve strengthening in the fourth quarter of 2003, the potential for continued adverse loss reserve development within its sizable commercial lines reserves and the uncertainty regarding The Atlantic's future profitability.

In each of the past five years, adverse loss reserve development has contributed to substantial underwriting losses. While largely related to commercial lines, now in run-off, adverse reserve development in private passenger auto lines was reported in 2003. Combined with substantial catastrophe losses, The Atlantic ended 2003 with substantial underwriting losses in its core personal lines operations.

Also considered were The Atlantic's substantially scaled down operations as a personal lines insurer focusing on the affluent market and its ability to generate future earnings and accumulate capital. This takes into account its historically weak underwriting performance and operating results in personal lines, continued earnings drag—albeit declining—associated with interest expense on funds-held reinsurance and surplus notes and the potential for continued adverse prior year loss reserve development. These factors are partially tempered by investment income on commercial reserves, which is expected to cover interest expense on funds-held reinsurance treaties. While several of The Atlantic's funds-held reinsurance treaties were commuted in 2003 and early 2004, an adverse development cover is being left in place due to economic reasons.

The downgrading of the debt rating reflects these ongoing concerns and possible constraints from regulators on future interest payments. Despite these actions, Best recognizes the potential benefits of management's actions, the adequacy of The Atlantic's capitalization and recent accident year improvement in its core personal lines operations, excluding higher than normal catastrophe losses.

Moreover, management attributes much of the reported improvement to increased pricing and re-underwriting initiatives taken over the past several years, with The Atlantic Master Plan package policy at the core of its personal lines strategy. Price firming throughout the property/casualty markets over the past several years also has been highly beneficial in this regard. Stable reserve development, improved profitability in personal lines and evidence in the ability to accumulate capital needs to be demonstrated before positive actions can occur.