Fairfax to Restructure TIG Insurance

December 17, 2002

Canada’s Fairfax Financial Holdings Ltd. revealed plans on Monday to significantly restructure its Dallas-based subsidiary TIG Insurance.

Plans call for a portion of the company’s business to be placed into runoff, while Fairfax will acquire full control of International Insurance Co. by buying the remaining 72 percent that it doesn’t already own, and eventually merging its operations with TIG. The changes are extensive. A summary of Fairfax’ announcement describes them as follows:
— TIG is discontinuing the remainder of its program business, which represented 56 percent of its U.S.$722 million in net premiums written during the nine months to September 30, 2002.
— TIG’s discontinued business will be managed by the highly skilled TRG/RiverStone team led by Michael A. Coutu and Dennis C. Gibbs.
— TIG will distribute to Fairfax approximately Cdn$1.25 billion [U.S. $800 million] of assets, “including 33.2 million of TIG’s 47.8 million shares of NYSE-listed Odyssey Re Holdings Corp.” These will “initially be held in trust for TIG’s benefit, principally pending TIG’s satisfaction of certain financial tests at the end of 2003.”
— TIG has merged with IIC, which had unaudited GAAP equity of US$547 million at September 30, 2002.
— “Over the next 15 years, Fairfax will purchase additional shares of TRG, International Insurance’s holding company, for US$425 million (US$204 million at current value, using a discount rate of 9% per annum), payable approximately US$5 million a quarter from 2003 to 2017 and approximately US$128 million at the end of 2017, thereby becoming the sole shareholder of TRG.”
— Fairfax will recognize a charge of approximately Cdn$28 million [U.S. $18 million] after tax as a result of strengthening TIG’s reserves by US$200 million, incurring a restructuring charge and related charges aggregating approximately US$65 million, and offsetting the approximately US$204 million of negative goodwill arising from the International Insurance transactions.

Faifax said that “TIG’s special risk operations unit based in Napa, California, under the continuing leadership of Steve Brett, will operate going forward predominantly as a managing general underwriter, focusing on excess property and excess casualty insurance. The special risk operations represented approximately 20% of TIG’s US$722 million of net premiums written during the nine months to September 30, 2002.”

Fairfax plans for its Odyssey Re Holdings subsidiary to acquire the healthcare division of TIG’s special risk operations unit, together with an excess and surplus lines subsidiary “through which the majority of this business will be written.” It will not assume prior liabilities

Fairfax is continuing to evaluate the remaining 24 percent of TIG’s business, and said that units which are performing well “will be carried on in a separate insurance subsidiary which will not be a subsidiary of TIG.” Fairfax also indicated that it “has guaranteed that TIG will maintain US$500 million of statutory surplus at the end of 2003, a risk-based capital of at least 200% at each year-end, and a continuing net reserves to surplus ratio not exceeding 3 to 1. Immediately after TIG’s distribution of securities to Fairfax described in this announcement, TIG will have more than US$500 million of statutory surplus and a net reserves to surplus ratio less than 3 to 1.”

Standard & Poor’s reacted to the announcement by changing its outlook on Fairfax from “stable” to “negative,” while it affirmed its ‘BB+’ counterparty credit rating and its ‘BBB’ counterparty credit and financial strength ratings on Fairfax’s affiliates.

S&P analyst Matthew Coyle cited the broad restructuring plan as the reason for the change and noted that “Fairfax is acquiring IIC, a runoff subsidiary, for about $200 million on a present-value basis. The terms of the transaction require Fairfax to make payments over the next 15 years.”

S&P called the announcement “a setback for Fairfax and the progress it has made in other areas of the organization in the first nine months of 2002.” It indicated that it considers the “reemergence of reserve issues at TIC (especially after 2001’s gross charge of $210 million) to be disappointing and may be an indication that Fairfax management has not fully identified the extent of reserve issues elsewhere (e.g., Crum & Forster, Ranger Insurance Co., etc.) in the organization.”

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