Buffett Comment Causes Concerns on Reinsurance

March 11, 2003

When Berkshire Hathaway’s Warren Buffett, the “Oracle of Omaha,” speaks people listen. So when he addressed his latest letter to the company’s shareholders it was quite natural that everyone paid attention. On page 9, while discussing the significant turn around at General Re and the fact that it’s now the worlds only ‘AAA’ rated reinsurer, he sent a shock wave through the industry.

“No attribute [financial strength] is more important,” wrote Buffett. “Recently, in contrast, one of the world’s largest reinsurers – a company regularly recommended to primary insurers by leading brokers – has all but ceased paying claims, including those both valid and due. This company owes many billions of dollars to hundreds of primary insurers who now face massive write-offs. ‘Cheap’ reinsurance is a fool’s bargain: When an insurer lays out money today in exchange for a reinsurer’s promise to pay a decade or two later, it’s dangerous – and possibly life-threatening – for the insurer to deal with any but the strongest reinsurer around.”

Buffett pointedly did not name the reinsurer in question, but the primary candidate, according to most commentators and analysts, is almost certainly Germany’s Gerling Group, at one time the world’s sixth largest reinsurer. The company has been negotiating to sell off both its life reinsurance and P/C reinsurance operations since last summer. It recently failed to receive approval from BaFin, the German financial regulator, for a proposed sale to the Lago Achte group of investors. The regulators apparently determined that the proposed buyer’s capital was insufficient. Buffett’s letter is dated February 21, shortly before that announcement was made.

Gerling, which has stopped writing new reinsurance business, and is essentially running off its previously written book, denied that it has stopped paying claims. According to a report from Dow Jones Newswires, Christoph Groffy, a spokesman for the company, stated “We are paying all outstanding claims.”

Gerling’s problems stem from the double whammy produced by the need to increase reserves, especially following Sept. 11, while at the same time seeing returns on investments and equity values plunge. Deutsche Bank (DB), which owns 34.5 percent of the company forced through an agreement last year with majority shareholder Rolf Gerling to put the reinsurance units up for sale after it had injected an additional 300 million Euros ($331 million) in the company.

DB’s presence and Gerling’s assurances are going to have to face the immense credibility of Warren Buffett, who’s as renowned for telling it straight as he is for making shrewd investments. So far Buffett hasn’t confirmed or denied that Gerling was the company he mentioned, but if it turns out to be Gerling, his statement may have been a subtle reminder to the bank to get out its checkbook again.

Editor’s note:
Anyone interested in the industry should read Buffett’s letter to Berkshire’s shareholders. His trenchant comments on CEO’s, corporate reform and the insurance industry are about the best analysis around. The letter is available in PDF format on the company web site: http://berkshirehathaway.com.

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