S&P Raises Validus Outlook to ‘Positive;’ IPC Outlook Stays Negative

July 13, 2009

Standard & Poor’s Ratings Services has revised its outlook on Bermuda-based insurance and reinsurance holding company Validus Holdings Ltd. to positive from stable, and has affirmed its ‘BBB-‘ counterparty credit rating on the holding company.

However, in a separate bulletin S&P also announced that it is “keeping its ‘BBB’ counterparty credit rating on Bermuda-based IPC Holdings Ltd. on CreditWatch with negative implications.” S&P added said its ‘A-‘ counterparty credit and financial strength ratings on IPCRe Ltd. and the ‘A-‘ financial strength rating on IPCRe Europe Ltd. Also remain on CreditWatch negative. These are IPC’s main operating subsidiaries.

“We’re keeping the IPC ratings on CreditWatch negative to reflect the uncertainty surrounding IPC’s management team and corporate strategy under the new ownership,” explained credit analyst Taoufik Gharib. “With the possibility of a different corporate strategy under a new ownership and a potentially changing management team, IPC is entering hurricane season with many uncertainties, which raises our concern,” S&P added. “However, IPC remains well capitalized and profitable, having generated strong underwriting results in first quarter of 2009 (including merger-related expenses).We will continue to monitor any developments.”

“We expect to resolve the CreditWatch status of the ratings within the next three months, contingent on the company’s future actions and initiatives regarding its corporate strategy and management team,” Gharib added. “During this time, if the company suffers a significant catastrophe loss and becomes an outlier relative to its peers, we could lower the rating.”

Turning to Validus, credit analyst Laline Carvalho explained that the “positive outlook reflects our view that the IPC transaction will significantly enhance Validus’ competitive position. We believe it will significantly expand Validus’ market presence in the global property catastrophe marketplace.” In addition, the combined company’s pro forma capital base will be significantly higher, which should provide the group with a greater capacity to participate in a variety of programs and market opportunities. We expect that the merged group’s capital adequacy will remain strong after the merger and that financial leverage will remain moderate.

However, S&P also said that it is concerned “about Validus’ aggressive appetite for acquisitions, with IPC’s deal constituting the second major acquisition by Validus over the last two years. In July 2007, Validus acquired Lloyd’s syndicate Talbot Underwriting Holdings (Talbot) in a transaction that effectively doubled Validus’ premium writings. We also have concerns related to Validus’ ability to transfer its enterprise risk management capabilities, which we consider to be adequate overall, into a fast-growing and significantly larger organization.” Taken together, S&P sees these concerns as offsetting factors.

The rating agency did note that “Validus’ track record of a successful integration of Talbot to date partially mitigates these concerns. In addition, with property catastrophe risks constituting one of Validus’ core lines of business, the group is familiar with IPC’s property catastrophe book of business, which we expect to be quickly integrated into Validus’ proprietary VCAPS underwriting system.”

Overall, S&P said its “ratings on Validus are based on the group’s good and expanding competitive position, strong capitalization, strong risk controls around exposure management, underwriting and modeling, and very strong operating performance since inception. Partially offsetting these strengths are the potential integration risk related to the expected IPC transaction, the group’s adequate strategic risk management practices, the possibility of significant earnings volatility because of its short-tail focus and catastrophe exposure (the latter of which we expect to increase significantly with the IPC deal), and some remaining integration and execution risks associated with the acquisition of Talbot.”

S&P also “expects that Validus’ operating performance will remain strong in years with normal catastrophe activity. Results will be volatile because of the company’s property catastrophe focus (which will increase with the acquisition of IPC), but the diversification by the Talbot book of business partially mitigates this volatility.

“We expect that the group’s competitive position will improve over the next 12 months as the IPC acquisition significantly expands Validus’ footprint and global presence in the property catastrophe reinsurance market. We also expect the group to continue to exhibit underwriting prudence and to continue to enhance its enterprise risk management capabilities.

“Although the timing of the closing of the Validus/IPC transaction in the third quarter of this year will significantly increase Validus’ exposure to potential property/catastrophe losses because of the upcoming peak of the U.S. hurricane season, we believe this concern is partially mitigated by the expectation that the merged group will continue to benefit from substantial excess capital, as measured by Standard & Poor’s capital adequacy model. We expect the capital adequacy of the merged group to remain strong and supportive of the rating over the next two years.”

Carvalho explained that the “positive outlook means that we could raise our rating on Validus by one notch over the next 12-18 months. Factors that would contribute to an upgrade would include the continuation of the group’s strong earnings generation, demonstrated successful integration of IPC’s book of business, continued enhancements in ERM in line with the growing complexity of the organization, and maintenance of capital adequacy and financial leverage supportive of the rating level. If Validus does not meet these expectations over the outlook horizon, we could revise the outlook back to stable.”

Source: Standard & Poor’s – www.standardandpoors.com

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