Employers Reinsurance Corp., the chief operating unit of General Electric’s sprawling reinsurance empire, is facing an uncertain future. It’s been hit by the same problems as Munich Re, Swiss Re, SCOR, Gerling and other reinsurers. Growing loss estimates from Sept. 11, asbestos, D&O and a host of other long-tail liabilities, have led to the need to increase reserves at a time when market values and returns have plummeted.
The overall vehicle for GE’s reinsurance operations is actually “GE Global Insurance Holding Corporation,” of which ERC, GE Reinsurance Corp., Medical Protective Corp. and a number of other companies are subsidiaries. ERC is the main operating company, and the most important in the group.
ERC’s situation is compounded by the fact that, even though it’s the world’s fourth largest reinsurer—it took in seven percent of the world’s reinsurance premiums and posted over $9 billion in gross revenues in 2001—it can’t seem to make money, even in a market that’s seeing sharp premium increases. According to Standard & Poor’s, GE has had to strengthen ERC’s reserves by “more than $4.5 billion (excluding World Trade Center-related losses) for business written largely since 1996.” While the financial strength of its parent assures that ERC will avoid Gerling’s fate, even a company with GE’s market cap of around $270 billion can’t keep writing blank checks.
Paradoxically GE’s looming presence may account for some of ERC’s problems. No other big reinsurer is part of a conglomerate, unless you count Berkshire Hathaway’s General Re, which is a special case. So, while GE protects ERC financially, the reinsurer’s business plans and decisions are also subject to the group’s overall strategy, which may sometimes run counter to sound reinsurance practices.
“The fact is that reinsurance is a deceptively simplistic business, you use capital to make money,” said Andy Barile, who operates a consulting firm in Rancho Santa Fe, Calif., and has over 30 years experience in the reinsurance business, notably as an executive with American Re. Summing up ERC’s situation, Barile noted that, for the all the money they have, they haven’t used it wisely. He feels that one of the main reasons is a lack of experienced reinsurance talent managing it, especially at the top. There is also “too much interference from other GE operations, and too much turnover at the managerial levels.” This has led to the creation of unrealistic business models, and to the company being “too aggressive in a soft insurance market.”
Operating as a division of a larger company, however, doesn’t really explain much. After all ERC has been part of another company for over 20 years, following its acquisition by Getty Oil in 1980. It became part of GE when Getty was taken over by Texaco in 1984, and with considerable support from GE was able to expand its operations and become one of the world’s biggest reinsurers.
Recently, however, the strains between group management and individual company management have affected the top executive levels at ERC. It has had three CEO’s in as many years. Kaj Ahlman, who joined the company in 1987 when it acquired Nordisk Re, became CEO in 1993. Under his direction the company established itself in the Canadian market and acquired Frankona Re, Aachen Re, Coregis, The Medical Protective Company, Kemper Re and Eagle Star Re.
Ahlman left in 1999. He currently heads inreon, the Internet reinsurance trading platform established by Swiss Re and Munich Re. His replacement, David L. Calhoun, left his position as CEO of GE Lighting to head the reinsurer. Despite his broad background—he also served as head of GE Transportation Systems, as a marketing manager for GE’s leveraged buyout programs, a member of its audit staff and President of the Pacific Region for GE Plastics—he did not have significant experience in the reinsurance industry.
Barile observed that when there’s a change at the top of a company, it’s quite common for the new CEO to bring along an experienced cadre of managers he’s worked with, who are knowledgeable about the business their boss is running. Calhoun’s background precluded this, as he had never worked with a team of reinsurance experts. It also made it difficult for him to render informed judgments on the decisions taken by the people who were working for him.
Calhoun left in 2000 and now heads GE Aircraft Engines. His replacement, the current CEO Ron Pressman, a Wharton graduate, is also one of GE’s highly skilled managers. He began his career with the company in the audit department, headed GE Power Systems Europe and eventually its global power plant business before becoming president of GE Capital Real Estate in 1997. He’s a senior VP at GE, and reports directly to CEO Jeffrey Immelt. However, like his predecessor, his experience hasn’t been in reinsurance.
General proficiency isn’t the problem. Jack Welch, the company’s legendary CEO, made his reputation by selecting and promoting highly competent people to run GE’s far-flung empire with spectacular results. But the lack of a background in the industry does seem to indicate that in the relatively small and arcane world of reinsurance—experience counts.
Of the top 17 people listed as having the primary responsibility for ERC’s operations none of the top three—Pressman, CFO Marc Weiches, Commercial Insurance CEO Louis Parker—had experience in the industry before they joined ERC. The number four man, John Tiller, is an expert in life reinsurance, but the head of the P/C division comes from GE Plastics. One waits until the sixth person listed, Andrea Pearson, who heads Claims Services, and the seventh, Hoyt Wood, the executive VP who heads global underwriting, to find an extensive insurance background.
It’s unclear to what extent this lack of reinsurance talent has caused ERC’s recent problems, but it’s reasonable to surmise that managers with more experience in the business might have avoided some of them.
Barile also pointed out that the rapid turnovers were accompanied by a lack of focus at the reinsurance group, which changed its goals frequently, often losing clients it should perhaps have kept, and gaining some it should have avoided. In a soft market, but one that offered high investment returns, it wasn’t too heavily penalized, but now, in a hard market, with investment income drastically lower than it was even two years ago, it’s paying the price.
Immelt has made no secret of the fact that he doesn’t like the reinsurance business, and doesn’t think ERC fits into GE’s business model. In November GE put ERC’s life operations on the block. At the same time it announced that its reinsurance division would probably lose $1.9 billion this year. The question remains as to what it will do with its P/C operations, which constitute better than 75 percent of its business.
There are some positive signs. At the beginning of December S&P’s downgraded ERC’s ratings from “AA+” to “AA-,” but acknowledged that the company “has taken steps to mitigate prospective exposure by exiting lines that are unprofitable, re-pricing risks maintained, improving terms and conditions, and capturing their actuarial input of risk at the point of sale.”
Commenting on the downgrade, Pressman stressed his commitment over the last three years “to sustain and grow this franchise for the long term.” He reiterated the company’s commitment to a “rigorous underwriting culture focused on strategic customers and products in place today along with new clients and innovative new products into the future,” while acknowledging that ERC’s main challenge remains to “demonstrate consistent operating underwriting performance.” Whether Pressman will be given the opportunity to do so, however, remains problematical.
Rumors surfaced in October that Berkshire’s Warren Buffett was interested in acquiring ERC to go along with General Re to create the world’s largest reinsurer with around $20 billion in turnover, but the deal apparently stalled when GE asked too much, around $8 billion. Buffett doesn’t believe in paying too much. Immelt on the other hand has said he won’t let ERC go at a “fire sale” price.
That standoff evinces ERC’s dilemma. “What they have to contend with,” said Barile, “is what is the value of their franchise? What is the value of their strategy? What is the value of their people?” Essentially Barile asks, “What are they bringing to the table that someone should pay $8 billion to acquire?”
To put it in better perspective, consider the Bermuda companies formed after Sept. 11, many of which are capitalized at over $1 billion. Without exception, the biggest players in the industry established them—AIG, Chubb, Marsh, Aon, Zurich, Goldman Sachs, JP Morgan Chase, etc. They’re run by experienced reinsurance industry professionals, some of whom were lured out of retirement. Their ratings are almost uniformly in the “A” range, reflecting their financial strength, and their lack of long-term liabilities.
Contrast this to ERC’s situation. It’s sitting on a bunch of long-tail liabilities; it doesn’t appear to have an experienced team of reinsurance professionals running it, and it’s changed focus too many times to have a thoroughly reliable base of clients to acquire. If you’re Buffett, or any other investor, and you’ve got $8 billion you want to invest in the reinsurance market, you’ve got other options besides buying ERC.
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