R&SA Confirms 1st Half Profit Increase, Rights Issue; Sells Some U.S. Renewal Rights to Travelers

September 4, 2003

The U.K.’s Royal & Sun Alliance confirmed a 14.25 percent increase in net group profits for the first half of 2003 – £351 million ($556 million), compared to £301 million ($477 million) in 1st half 2002. It also said it plans to raise an additional £960 million ($1.52 billion) through a one-for-one rights issue, and has agreed to sell a large portion of its U.S. personal and commercial lines business to Travelers.

Under the direction of Andy Haste, who succeeded long-time CEO Bob Mendelsohn last year, R&SA has weathered somewhat of a crisis, and has undergone a significant restructuring. Haste indicated that the ongoing review of the company’s business would continue as it “has large variations in the strength of its market positions.” He stressed that the review showed that the company is in a good position “to build on the stronger market positions and improve the scale and quality of services by focussing on areas of market strength, addressing issues of business weakness, poor performance, and longer term strategic uncertainties, and strengthening the balance sheet.”

“The components of a winning business exist but much more needs to be done for that potential to be realised,” Haste continued. The rights issue and the sale to Travelers of certain U.S. lines, which were detailed in the report, are part of that overall strategy.

In general R&SA posted good gains everywhere except notably the U.S. Revenues from net premiums written fell significantly from £4.268 billion ($6.764 billion) in the first six months of 2002 to £3.654 billion ($5.791 billion) in the equivalent period this year, but the decrease was largely the result of steps the company has taken to exit unprofitable lines and to sell off of certain operating units, notably Promina in Australia and New Zealand.

Haste indicated that the company intends to concentrate on “general insurance in those markets where we have a strong position, primarily the UK, Scandinavia and Canada,” while restructuring its operations in the U.S. His intention is to “create a more focussed business with commercial continuing to be weighted more towards property and personal lines focussing on direct distribution and selected intermediated lines. In personal lines, in particular, we will focus on driving down the cost of delivery.”

Haste expressed confidence that the stricter underwriting standards and cost control measures along with the ongoing restructuring would reduce R&SA’s combined ration to under 100 percent. Part of the plan includes reducing the number of U.K. employees by up to 1000 by the end of 2004.

The first six months results showed good progress in reducing the combined ratio. Perhaps helped by benign weather conditions the group posted a “reported” ratio of 99.3 percent, and an “accident year” combined ratio of 97.1 percent for the period.

The rights issue will essentially be used for the following purposes, said the bulletin:
— To fund our restructuring plans in the US
— Subject to validation and confirmation, potentially to make further general insurance loss reserves to the extent of the deficit identified by Tillinghast’s review
— To allow us to grow the profitable parts of our business identified by our review
— To enable us to reduce our quota share arrangement with Munich Re from 2004 onwards. [R&SA indicated elsewhere that it hopes to thereby save nearly £800 million ($1.268 billion) in reinsurance premiums]

“This action should also strengthen our position with the rating agencies, and should increase our flexibility to deal with future regulatory developments,” Haste stated. The company will offer existing shareholders the right to acquire an additional share for each one they hold for 70 pence (around $1.11). Its shares were down sharply on the London Stock Exchange following the announcement, trading at around 132 pence ($2.09).

The decline can be at least partially attributed to R&SA’s indication that it plans to further increase reserves. Haste noted that part of the review, undertaken by Tillinghast, Towers Perrin, had concluded there “was a £744m [$1.18 billion] deficit between our reserves and their best estimate as of 31 March.” He went on to say “we may make additional reserves, at a Group level, to the extent of this deficit, in the third quarter,” and gave a figure of around £800 million ($1.268 billion) pre-tax. The reserves would go mainly to strengthen U.S. requirements – £150 million ($238 million) directly to asbestos and environmental risk in the US and UK, and approximately £500 million ($792.5 million) “relating to potential US requirements.”

Haste recognized that despite its ongoing restructuring efforts in the U.S., the company found itself “constrained by a restricted capital position and adverse reserve developments in certain business lines.” This resulted in the decision to sell the renewal rights to R&SA’s standard personal lines business and the majority of its commercial lines business to The Travelers Indemnity Company, a subsidiary of Travelers Property Casualty Corp. “In 2002 these portfolios accounted for net premiums of US$395m (£245m) and US$1,172m (£728m) respectively,” Haste indicated.

Travelers will make a minimum initial payment of $25 million, with a potential additional payment, contingent on the volume of business actually written, estimated to be in the $35 million to $40 million range.

Haste stated that R&SA “will continue to operate our non standard personal motor line, and certain specialty commercial lines in the architects and engineers professional indemnity and wholesale agency programme business sectors. These portfolios represented approximately US$935m (£581m) of 2002 net premiums written.” He didn’t, however, rule out further sales of the U.S. units.

Travelers seemed very pleased with its new acquisition. A company bulletin detailed the following advantages:
— An attractive purchase price.
— An ability to acquire up to approximately $1.5 billion in new net written premiums.
— Accretive to earnings in 2004 and provides incremental net income of approximately $50 to $60 million in 2005.
— Expanded distribution network in Personal Lines of a potential 500 new agents, to complement our 6,500 personal lines agents offering standard and preferred products.
— Expanded presence in Commercial Lines.

“This is a very attractive transaction that enhances our Personal Lines distribution network and expands our presence in Commercial Lines. This transaction is consistent with our strategy of supplementing internal growth through selected acquisitions that complement our core businesses,” commented Chairman and CEO Robert I. Lipp.

“Royal & SunAlliance’s accounts are a great fit with ours, and we believe that their customers, agents and brokers will consider this an excellent opportunity to align themselves with Travelers. In addition, we look forward to welcoming many talented Royal & SunAlliance employees into the Travelers family to ensure a smooth transition for our new customers and to help us maintain and grow this business.

“Over the years, we have been very successful in acquiring and integrating books of business through renewal rights transactions. Our success is based on our ability to only write business that meets our underwriting standards and to achieve economies of scale by leveraging our claims handling, policy support centers, technology and infrastructure platforms,” he concluded.

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