Standard & Poor’s Ratings Services affirmed its ‘BBB-‘ counterparty credit and financial strength ratings on Best Meridian Insurance Co. (BMI) and its subsidiary, Best Meridian International Insurance Co. (Best Meridian International). The outlook remains negative.
The ratings are based on the group’s marginal capitalization and earnings, unpredictable financial results, and stagnant business growth. These negative factors are offset by a better-than-average understanding of the Latin American insurance market, conservative investments, relatively strong liquidity, and improvements in the holding company’s financial leverage. These two entities are rated together because Best Meridian International, which is domiciled in the Cayman Islands, is considered a core subsidiary of BMI. Outlook
If BMI cannot demonstrate its ability to forecast underwriting results accurately and provide a stable stream of earnings and capital growth, Standard & Poor’s will likely lower the ratings. Increased competition in the Latin American market – both from international and local companies – will put pressure on business growth and profit margins. The group’s consolidated GAAP pretax earnings are expected to be $3 million-$4 million for 2004, driven by strong investment income. Statutory capital is expected to increase $2 million-$3 million by year-end 2004. Life and health premiums at year-end 2004 are expected to exceed 2003 levels, with a more profitable block of business for each line.
Major rating factors
— Marginal capitalization. The group’s capitalization was considered marginal on an absolute basis as of year-end 2003. BMI exited a reinsurance agreement in 2003, which resulted in a one-time net loss of $3.8 million. The majority of this loss ($3.7 million) was replaced by a capital infusion from the parent company, BMI Financial Group Inc., in early 2004. Prior to the additional paid-in-capital, statutory surplus declined by $2.4 million to $9.9 million at year-end 2003 from $12.3 million at year-end 2002. BMI’s capital adequacy ratio, based on Standard & Poor’s model, was 130% for year-end 2003, which is considered strong. However, the company’s small size exposes it to more volatility than larger companies (as demonstrated by the drop in the capital adequacy ratio from 190% in 2002) and qualitatively reduces Standard & Poor’s opinion of BMI’s capital to a marginal level. Through the first quarter of 2004, statutory surplus increased by $580,000, including the $3.7 million additional paid-in-capital. The company’s surplus would have declined to $6.8 million without the support. The group was in compliance with NAIC statutory surplus requirements in 2003.
— Marginal earnings. The group’s earnings adequacy is marginal, as demonstrated by a Standard & Poor’s earnings adequacy ratio of 20% for 2003. The drastic decline from a strong score of 190% in 2002 can be attributed mostly to the aforementioned unwinding of the reinsurance agreement. The consolidated GAAP pretax loss for 2003 was $4.6 million, with about $900,000 of the loss stemming from poor underwriting results in the normal course of business. Through the first quarter of 2004, BMI’s underwriting problems continued, with a statutory pretax loss of $500,000. Strong investment income over the last five years and into 2004 has prevented the company from experiencing large losses.
— Unpredictable financial results. The company has historically had difficulties in predicting underwriting results with any high degree of accuracy. The relatively small size of the policy portfolio makes it more exposed to the fluctuations caused by the poor experiences of even a few customers. BMI does carry excess-of-loss reinsurance with retention limits of $200,000 on life policies and $250,000 on health policies, but a handful of bad claims in any year could quickly leave the company with a net loss.
— Stagnant business growth. The company’s direct premiums written have been about flat for both major lines during the last four years. Life insurance premiums were $20.2 million at year-end 2003 compared with $19.9 million in 2002. Health insurance premiums declined slightly for the year, with $19.6 million in 2003 compared with $21.8 million in 2002. However, both lines are expected to experience good growth for the full year in 2004 while remaining priced at profitable rates.
— Better-than-average understanding of the Latin American insurance market. Management has followed a niche strategy by selectively underwriting insurance for upper-income business executives and professionals in Latin America. BMI has established good relationships with its general agents and understands the cultural uniqueness of each Latin American country. BMI utilizes a network of about 300 general agents in various countries throughout Latin America that are centrally managed through Coral Gables, Fla.-based Business Men’s Insurance Corp. With distribution as a critical success factor to the group’s ability to grow and prosper in this niche market, most recruiting is done through word of mouth and personal relationships.
— Conservative investments. A third-party asset manager, Asset Allocation & Management Co. (AAM), replaced Deutsche Asset Management and currently handles the investment portfolio for BMI. AAM follows conservative guidelines and is expected to continue the historically good job of producing a stable stream of investment income over the years. Although the company has some exposure to interest rate risk because it invests about 40% of the total invested assets in ABS and MBS, these are all in nonexotic, less interest-rate-sensitive tranches. Corporate and municipal bonds constitute about 43% of the portfolio, and there is minimal exposure to equities. Established guidelines limit the portfolio to investment-grade securities, and the effective duration is relatively short at 5.3 years.
— Relatively strong liquidity. Liquidity is considered extremely strong based on a on Standard & Poor’s liquidity ratio of more than 250% as of year-end 2003. BMI’s conservative investment policy and the above-average surrender protection of the insurance products help maintain the company’s strong liquidity characteristics.
— Improved holding company financial leverage. BMI Financial Group Inc. paid off $4.9 million of $8.0 million in notes payable in 2003. This reduced the holding company’s debt leverage to about 9% (excluding goodwill), which is considered conservative for the rating category.
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