Rating Agencies React Negatively to XL, SCA Bailout Plan

July 30, 2008

XL Capital received the inevitable negative reaction from the rating agencies following its announcement that it would pay $1.78 billion in cash and issue 8 million shares as part of a bailout plan to shore up former subsidiary Security Capital Assurance [See IJ web site – https://www.insurancejournal.com/news/international/2008/07/29/92274.htm].

Standard & Poor’s Ratings Services said its ‘BBB-‘ financial strength ratings on XL Capital Assurance Inc. (XLCA) and XL Financial Assurance Ltd. (XLFA) would remain on CreditWatch with negative implications, following the announcement of the plan.

A.M. Best Co. placed its financial strength rating (FSR) of ‘A’ (Excellent) and issuer credit ratings (ICR) of “a” on the XL Capital Group and its members under review with negative implications. Best also placed the ICR of “bbb” and all debt ratings of the holding company, Cayman Islands-based XL Capital Ltd. under review with negative implications, as well as all of XL’s life and health subsidiaries.

In a related action Best said it has assigned a debt rating of “bbb” to XL Capital’s $500 million equity security units, which are part of the bailout plan, but has also placed these ratings under review with negative implications

Fitch Ratings downgraded the following ratings on XL and Security Capital:
— Insurer financial strength (IFS) to ‘CCC’ from ‘BB’ on XL Capital Assurance Inc. (XLCA), XL Capital Assurance (U.K.) Ltd. (XLCA-UK) and XL Financial Assurance Ltd. (XLFA). Fitch lowered its ratings on Security Capital’s long term debt to ‘CCC-‘ from ‘B-‘ and its rating on SCA’s $250 million Fixed/Floating Series A Perpetual Non-cumulative Preference Shares to ‘CCC-‘ from ‘CCC’.

Fitch also said it has “placed all ratings on Rating Watch Evolving.”

S&P credit analyst David Veno explained: “While these actions would help to stabilize the capital position of XLCA and XLFA, the ratings remain on CreditWatch because we believe there is execution risk in management’s strategy, including possible regulatory intervention, and that business prospects for the companies remain challenging.” Fitch and A.M. Best expressed similar concerns.

S&P added that, in it its view, the companies’ franchise “continues to be impaired due to their scaled-back underwriting activity, concerns that arose around SCA’s ability to address its subsidiaries’ capital needs, and questions relating potential CDS losses. Should management prove unsuccessful in implementing a new business strategy and commuting its CDS exposure, notwithstanding a strengthened financial position, we believe that XLCA and XLFA would effectively be in runoff, in which case the ratings could be further lowered.”

Best pointed out that it had already downgraded XL Capital’s ICR two notches to “a” from “aa-” last January. Best said it took the action as it “anticipated the strong possibility of additional charges relating to XL Capital’s guarantee issued to SCA’s operating subsidiary,” XLCA and its affiliate, XLFA.

On an encouraging note, Best indicated that the “agreement with SCA significantly reduces the uncertainty regarding what had become a serious encumbrance to the company.”

However the rating agency also warned that it “remains concerned with the prospective impact this issue may have had on XL Capital’s market profile and the potential effect on the company’s operations and competitive position.” As a result best will maintain its “under review with negative implications ” status on XL and its affiliates ratings “pending the successful issuance of its ordinary shares and equity security units.”

For Best’s complete listing of XL Capital Ltd’s FSRs, ICRs and debt ratings, go to: www.ambest.com/press/072902xlcapital.pdf.

Sources: Standard & Poor’s – www.standardandpoors.com; A.M. best – www.ambest.com, and Fitch ratings – www.fitchratings.com

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