A.M. Best Co. has assigned a debt rating of “bb+” to the Senior Secured Credit Facility of up to $375 million due February, 2012 of Concord Re Limited (the issuer), a newly created Bermuda exempted, limited-life special purpose Class 3 insurer. Concurrently, Best assigned Concord Re an overall credit rating of “bbb-“. The outlook for both ratings is stable.
Best explained: “The issuer is a single purpose, dedicated reinsurance vehicle (the sidecar) established to provide U.S. commercial property reinsurance coverage to its sole client, Lexington Insurance Company a subsidiary of American International Group, Inc. Under the reinsurance agreement, the issuer will accept a quota share of the gross premiums and risks on the first $10 million of limits per policy, per occurrence (the first $5 million of limits per policy, per occurrence for the business classified as construction services) on businesses underwritten or assumed by the Lexington Property Division (the target policies).”
Best the noted that the “assigned ratings take into consideration a multitude of factors and conditions including:
— Attachment probability–The annualized attachment probability (i.e. the probability of the first dollar loss to the debt facility) was calculated using RMS’s latest catastrophe model, Risk Link(R) 6.0, and was provided by Lexington for review.
Additional stochastic assessment of the cash flow model using carefully selected parameters was also conducted. The additional stress testing affecting the facility resulted in cumulative default probabilities that were within acceptable levels to support the assigned debt rating.
— Cedent’s underwriting and risk management–Lexington has a mature underwriting team that has many years of experience in the excess and surplus property/casualty lines of business. Strict adherence to underwriting guidelines, including maximum line size and retention levels, is expected to minimize risk exposure. Lexington has a disciplined risk management approach in which it manages its exposure by carefully monitoring it by risk type, zone, region and brokers. Portfolio monitoring is conducted on a regular basis. Lexington is required to maintain a minimum of two times the risk ceded to the issuer.
— Pre-defined target policies–The target policies are well-diversified by zones, business lines, region and aggregate property limits. The majority of individual policy risk periods do not exceed 12 month terms, though a nominal percentage provide coverage for up to a maximum of 18 months. The issuer is not allowed to accept any other business risk other than what is defined in the reinsurance agreement and what is ceded by Lexington. Under the quota share reinsurance agreement, the issuer will be directly correlated to Lexington’s underwriting capabilities and risk management practices.
— Collateral trust account–Proceeds from the issuance of the loan (net of transaction expenses) together with the equity contributions, net ceded premiums and investment income, will be required to be deposited to an independent trust for the purpose of providing collateral to secure the issuer’s obligations under the quota share agreement and will be available as well to pay amounts owed by the issuer. These obligations include loss payments required to be made by the issuer under the multi-year quota share reinsurance agreement entered into between the issuer and Lexington, expenses and fees of the administrative agent, payments (interest costs) in respect of the credit facility, reasonable operating expenses of the issuer, permitted dividend payments and payments upon wind down of the facility. All proceeds will be deposited into an eligible bank institution that has a long-term deposit rating that meets or exceeds the minimum pre-established rating threshold.
— Collateral requirement and adequacy level–Stress testing of both collateral level amounts and aggregate annual losses was conducted to determine adequacy levels and to calculate potential “over-the-top” risk exposure, the risk that the collateral is insufficient to cover losses. The collateral amount required is a function of the projected in-force premiums and annual aggregate probable maximum loss (PML) associated with the perils, wind and earthquake. In the event that the target collateral falls below the required amount, the issuer has a right to post additional collateral but is not obligated. To the extent that the issuer does not meet the collateral requirements, the quota share percentage may be scaled back to an appropriate level to meet the collateral requirement.
— Counterparty risk–Consideration of the creditworthiness (ability) of Lexington, which under the reinsurance agreement, is responsible for making periodic premium payments to the issuer. Lexington’s financial strength rating of A+ (Superior), which includes both implicit and explicit support from AIG, is a strong indicator of its ability to manage its obligations.
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