2013.06.30 - 10Q

Table of Contents

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 __________________________________________________
 Form 10-Q 
__________________________________________________

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2013

Commission file number 001-33606
__________________________________________________
VALIDUS HOLDINGS, LTD.
(Exact name of registrant as specified in its charter)
__________________________________________________
BERMUDA
 
98-0501001
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
29 Richmond Road, Pembroke, Bermuda HM 08
(Address of principal executive offices and zip code)
 (441) 278-9000
(Registrant’s telephone number, including area code)
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x  No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer x
 
Accelerated filer o
 
 
 
Non-accelerated filer o
 
Smaller reporting company o
(Do not check if a smaller reporting company)
 
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x
 
As of August 6, 2013 there were 99,823,852 outstanding Common Shares, $0.175 par value per share, of the registrant.
 

1

Table of Contents

INDEX
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

1

Table of Contents

PART I. FINANCIAL INFORMATION 
ITEM 1. FINANCIAL STATEMENTS

Validus Holdings, Ltd.
Consolidated Balance Sheets
As at June 30, 2013 and December 31, 2012 (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)
 
June 30,
2013
 
December 31,
2012
 
(unaudited)
 
 
Assets
 

 
 

Fixed maturities, at fair value (amortized cost: 2013—$5,322,882; 2012—$5,008,514)
$
5,318,993

 
$
5,085,334

Short-term investments, at fair value (amortized cost: 2013—$611,708; 2012—$1,112,929)
609,778

 
1,114,250

Other investments, at fair value (cost: 2013—$604,092; 2012—$583,068)
514,385

 
564,448

Cash and cash equivalents
1,317,061

 
1,219,379

Total investments and cash
7,760,217

 
7,983,411

Investments in affiliates
110,472

 
172,329

Premiums receivable
1,374,486

 
802,159

Deferred acquisition costs
206,623

 
146,588

Prepaid reinsurance premiums
224,886

 
99,593

Securities lending collateral
1,900

 
225

Loss reserves recoverable
418,693

 
439,967

Paid losses recoverable
22,356

 
46,435

Income taxes recoverable
1,725

 
—

Intangible assets
108,489

 
110,569

Goodwill
20,393

 
20,393

Accrued investment income
19,334

 
21,321

Other assets
318,805

 
177,274

Total assets
$
10,588,379

 
$
10,020,264

 
 
 
 
Liabilities
 

 
 

Reserve for losses and loss expenses
$
3,283,450

 
$
3,517,573

Unearned premiums
1,439,597

 
894,362

Reinsurance balances payable
344,418

 
138,550

Securities lending payable
2,366

 
691

Deferred income taxes
22,600

 
20,259

Net payable for investments purchased
29,031

 
38,346

Accounts payable and accrued expenses
131,903

 
167,577

Variable funding notes
431,093

 
—

Senior notes payable
247,144

 
247,090

Debentures payable
540,476

 
540,709

Total liabilities
$
6,472,078

 
$
5,565,157

 
 
 
 
Commitments and contingent liabilities


 


 
 
 
 
Shareholders’ equity
 

 
 

Common shares, 571,428,571 authorized, par value $0.175 (Issued: 2013—154,225,781; 2012—152,698,191; Outstanding: 2013—99,737,461; 2012—107,921,259)
$
26,989

 
$
26,722

Treasury shares (2013—54,488,320; 2012—44,776,932)
(9,535
)
 
(7,836
)
Additional paid-in-capital
1,813,461

 
2,160,478

Accumulated other comprehensive (loss)
(8,262
)
 
(2,953
)
Retained earnings
1,795,203

 
1,844,416

Total shareholders’ equity available to Validus
3,617,856

 
4,020,827

Noncontrolling interest
498,445

 
434,280

Total shareholders’ equity
$
4,116,301

 
$
4,455,107

 
 
 
 
Total liabilities and shareholders’ equity
$
10,588,379

 
$
10,020,264


The accompanying notes are an integral part of these consolidated financial statements (unaudited).

2

Table of Contents

Validus Holdings, Ltd.
Consolidated Statements of Comprehensive Income
For the Three and Six Months Ended June 30, 2013 and 2012 (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information) 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013
 
June 30,
2012
 
June 30,
2013
 
June 30,
2012
 
(unaudited)
 
(unaudited)
 
(unaudited)
 
(unaudited)
Revenues
 

 
 

 
 
 
 
Gross premiums written
$
702,313

 
$
627,089

 
$
1,807,073

 
$
1,464,378

Reinsurance premiums ceded
(121,396
)
 
(119,052
)
 
(308,612
)
 
(226,104
)
Net premiums written
580,917

 
508,037

 
1,498,461

 
1,238,274

Change in unearned premiums
(33,459
)
 
(60,410
)
 
(419,942
)
 
(339,448
)
Net premiums earned
547,458

 
447,627

 
1,078,519

 
898,826

Net investment income
26,210

 
25,885

 
51,859

 
53,645

Net realized gains on investments
3,409

 
6,154

 
5,130

 
13,686

Net unrealized (losses) on investments
(141,348
)
 
(53,574
)
 
(148,585
)
 
(32,903
)
Income (loss) from investment affiliate
1,753

 
(398
)
 
3,230

 
(398
)
Other income
4,418

 
5,994

 
7,103

 
14,885

Foreign exchange (losses) gains
(8,223
)
 
(652
)
 
(1,301
)
 
2,514

Total revenues
433,677

 
431,036

 
995,955

 
950,255

 
 
 
 
 
 
 
 
Expenses
 

 
 

 
 
 
 
Losses and loss expenses
265,044

 
153,692

 
409,815

 
385,681

Policy acquisition costs
87,152

 
76,129

 
180,763

 
154,261

General and administrative expenses
70,967

 
61,635

 
151,246

 
128,010

Share compensation expenses
6,638

 
6,800

 
8,956

 
12,238

Finance expenses
37,830

 
13,706

 
62,276

 
29,985

Total expenses
467,631

 
311,962

 
813,056

 
710,175

 
 
 
 
 
 
 
 
(Loss) income before taxes and income from operating affiliates
(33,954
)
 
119,074

 
182,899

 
240,080

Tax (expense) benefit
(93
)
 
(404
)
 
225

 
(543
)
Income from operating affiliates
3,793

 
3,592

 
7,316

 
6,959

Net (loss) income
$
(30,254
)
 
$
122,262

 
$
190,440

 
$
246,496

Net loss attributable to noncontrolling interest
60,976

 
45,360

 
63,525

 
45,360

Net income available to Validus
$
30,722

 
$
167,622

 
$
253,965

 
$
291,856

 
 
 
 
 
 
 
 
Other comprehensive income (loss)
 

 
 

 
 
 
 
Foreign currency translation adjustments
186

 
(757
)
 
(9,599
)
 
636

 
 
 
 
 
 
 
 
Other comprehensive income (loss)
$
186

 
$
(757
)
 
$
(9,599
)
 
$
636

 
 
 
 
 
 
 
 
Comprehensive income available to Validus
$
30,908

 
$
166,865

 
$
244,366

 
$
292,492

 
 
 
 
 
 
 
 
Earnings per share
 

 
 

 
 
 
 
Weighted average number of common shares and common share equivalents outstanding
 

 
 

 
 
 
 
Basic
103,133,188

 
98,254,186

 
105,259,813

 
98,839,663

Diluted
104,734,643

 
103,667,967

 
107,393,822

 
104,382,030

 
 
 
 
 
 
 
 
Basic earnings per share available to common shareholders
$
0.28

 
$
1.69

 
$
2.26

 
$
2.92

Diluted earnings per share available to common shareholders
$
0.28

 
$
1.62

 
$
2.21

 
$
2.80

 
 
 
 
 
 
 
 
Cash dividends declared per share
$
0.30

 
$
0.25

 
$
2.60

 
$
0.50


The accompanying notes are an integral part of these consolidated financial statements (unaudited).

3

Table of Contents

Validus Holdings, Ltd.
Consolidated Statements of Shareholders’ Equity
For the Six Months Ended June 30, 2013 and 2012 (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)
 
 
June 30,
2013
 
June 30,
2012
 
(unaudited)
 
(unaudited)
Common shares
 

 
 

Balance - Beginning of period
$
26,722

 
$
23,538

Common shares issued, net
267

 
153

Balance - End of period
$
26,989

 
$
23,691

 
 
 
 
Treasury shares
 

 
 

Balance - Beginning of period
$
(7,836
)
 
$
(6,131
)
Repurchase of common shares
(1,699
)
 
(1,212
)
Balance - End of period
$
(9,535
)
 
$
(7,343
)
 
 
 
 
Additional paid-in capital
 

 
 

Balance - Beginning of period
$
2,160,478

 
$
1,893,890

Common shares (redeemed), net
(488
)
 
(1,307
)
Repurchase of common shares
(355,485
)
 
(220,040
)
Share compensation expenses
8,956

 
12,238

Balance - End of period
$
1,813,461

 
$
1,684,781

 
 
 
 
Accumulated other comprehensive (loss)
 

 
 

Balance - Beginning of period
$
(2,953
)
 
$
(6,601
)
Amounts reclassified to retained earnings
4,290

 
—

Other comprehensive (loss) income
(9,599
)
 
636

Balance - End of period
$
(8,262
)
 
$
(5,965
)
 
 
 
 
Retained earnings
 

 
 

Balance - Beginning of period
$
1,844,416

 
$
1,543,729

Dividends
(298,888
)
 
(52,915
)
Net income
190,440

 
246,496

Net loss attributable to noncontrolling interest
63,525

 
45,360

Amounts reclassified from accumulated other comprehensive income
(4,290
)
 
—

Balance - End of period
$
1,795,203

 
$
1,782,670

 
 
 
 
Total shareholders’ equity available to Validus
$
3,617,856

 
$
3,477,834

 
 
 
 
Noncontrolling interest
$
498,445

 
$
404,740

 
 
 
 
Total shareholders’ equity
$
4,116,301

 
$
3,882,574

 
 
 
 
 
The accompanying notes are an integral part of these consolidated financial statements (unaudited).

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Table of Contents

Validus Holdings, Ltd.
Consolidated Statements of Cash Flows
For the Six Months Ended June 30, 2013 and 2012 (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)
 
June 30,
2013
 
June 30,
2012
 
(unaudited)
 
(unaudited)
Cash flows provided by (used in) operating activities
 

 
 

Net income
$
190,440

 
$
246,496

Adjustments to reconcile net income to cash provided by (used in) operating activities:
 

 
 

Share compensation expenses
8,956

 
12,238

Amortization of discount on senior notes
54

 
54

(Income) loss from investment affiliate
(3,230
)
 
398

Net realized (gains) on investments
(5,130
)
 
(13,686
)
Net unrealized losses on investments
148,585

 
32,903

Amortization of intangible assets
2,080

 
2,080

(Income) from operating affiliates
(7,316
)
 
(6,959
)
Foreign exchange losses (gains) included in net income
30,868

 
(5,844
)
Amortization of premium on fixed maturities
10,163

 
12,253

Change in:
 

 
 

Premiums receivable
(558,107
)
 
(330,214
)
Deferred acquisition costs
(60,035
)
 
(54,667
)
Prepaid reinsurance premiums
(125,293
)
 
(85,006
)
Loss reserves recoverable
20,000

 
1,475

Paid losses recoverable
23,840

 
58,149

Income taxes recoverable
(852
)
 
(2,720
)
Accrued investment income
1,903

 
4,534

Other assets
22,009

 
(11,777
)
Reserve for losses and loss expenses
(216,535
)
 
(43,198
)
Unearned premiums
545,235

 
424,454

Reinsurance balances payable
186,906

 
65,154

Deferred income taxes
2,081

 
2,565

Accounts payable and accrued expenses
(42,917
)
 
(3,518
)
Net cash provided by operating activities
173,705

 
305,164

 
 
 
 
Cash flows provided by (used in) investing activities
 

 
 

Proceeds on sales of investments
2,686,285

 
1,829,294

Proceeds on maturities of investments
316,860

 
295,192

Purchases of fixed maturities
(3,318,638
)
 
(1,975,225
)
Sales (purchases) of short-term investments, net
500,191

 
(31,629
)
(Purchases) of other investments
(23,674
)
 
(500,632
)
(Increase) decrease in securities lending collateral
(1,675
)
 
4,317

Redemption from (purchase of) investment in operating affiliates
79,307

 
(26,500
)
Purchase of investment in investment affiliate
(6,904
)
 
(3,368
)
Net cash provided by (used in) investing activities
231,752

 
(408,551
)
 
 
 
 
Cash flows provided by (used in) financing activities
 

 
 

Net proceeds on issuance of variable funding notes
262,037

 
—

(Redemption) of common shares, net
(221
)
 
(1,154
)
Purchases of common shares under share repurchase program
(357,184
)
 
(221,252
)
Dividends paid
(297,539
)
 
(56,260
)
Increase (decrease) in securities lending payable
1,675

 
(4,317
)
Third party investment in noncontrolling interest
127,690

 
450,100

Net cash (used in) provided by financing activities
(263,542
)
 
167,117

 
 
 
 
Effect of foreign currency rate changes on cash and cash equivalents
(44,233
)
 
6,736

 
 
 
 
Net increase in cash
97,682

 
70,466

 
 
 
 
Cash and cash equivalents - beginning of period
$
1,219,379

 
$
832,844

 
 
 
 
Cash and cash equivalents - end of period
$
1,317,061

 
$
903,310

 
 
 
 
Taxes paid during the period
$
(1,326
)
 
$
3,764

 
 
 
 
Interest paid during the period
$
24,955

 
$
20,117

 The accompanying notes are an integral part of these consolidated financial statements (unaudited).

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Table of Contents


1. Basis of preparation and consolidation
 
These unaudited consolidated financial statements include Validus Holdings, Ltd. and its subsidiaries (together, the "Company") and have been prepared in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP") for interim financial information and with the instructions to Form 10-Q and Article 10 in Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In addition, the year-end balance sheet data was derived from audited financial statements but does not include all disclosures required by U.S. GAAP. This Quarterly Report should be read in conjunction with the financial statements included in the Company's Annual Report on Form 10-K/A for the year ended December 31, 2012, as filed with the U.S. Securities and Exchange Commission (the "SEC").
In the opinion of management, these unaudited consolidated financial statements reflect all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the Company's financial position and results of operations as at the end of and for the periods presented. Certain amounts in prior periods have been reclassified to conform to current period presentation. All intercompany accounts and transactions have been eliminated. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The significant estimates reflected in the Company's consolidated financial statements include the reserve for losses and loss expenses, premium estimates for business written on a line slip or proportional basis, the valuation of goodwill and intangible assets, reinsurance premiums ceded and reinsurance recoverable balances including the provision for unrecoverable reinsurance recoverable balances and investment valuation. Actual results could differ materially from those estimates. The results of operations for any interim period are not necessarily indicative of the results for a full year. The term "ASC" used in these notes refers to Accounting Standard Codifications issued by the United States Financial Accounting Standards Board ("FASB").
On November 30, 2012, the Company acquired all of the outstanding common shares of Flagstone Reinsurance Holdings, S.A. ("Flagstone") in exchange for 0.1935 Company common shares and $2.00 in cash per Flagstone common share (the "Flagstone Acquisition"). For segmental reporting purposes, the results of Flagstone’s operations since the acquisition date have been included within the Validus Re segment in the consolidated financial statements.
On April 25, 2013, the Company acquired Longhorn Re, Ltd., a single contract Bermuda domiciled crop reinsurer.


2. Recent accounting pronouncements

(a) Adoption of new accounting standards

Disclosures about Offsetting Assets and Liabilities

In December 2011, the FASB issued Accounting Standards Update No. 2011-11, "Disclosures about Offsetting Assets and Liabilities" ("ASU 2011-11"). The objective of ASU 2011-11 is to enhance disclosures by requiring improved information about financial instruments and derivative instruments in relation to netting arrangements.
In January 2013, the FASB issued Accounting Standards Update No. 2013-01, “Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities” (“ASU 2013-01”). The objective of ASU 2013-01 is to address implementation issues about the scope of ASU 2011-11, Disclosures about Offsetting Assets and Liabilities. The amendments clarify that the scope of ASU 2011-11 applies to derivatives, including bifurcated embedded derivatives, repurchase agreements and reverse repurchase agreements, and securities borrowing and securities lending transactions that are either or subject to an enforceable master netting arrangement or similar agreement. Entities with other types of financial assets and financial liabilities subject to a master netting arrangement or similar agreement also are affected because these amendments make them no longer subject to the disclosure requirements in ASU 2011-11. ASU 2011-11 and 2013-01 became effective for fiscal periods beginning on or after January 1, 2013, and as a result, the Company adopted ASU 2011-11 and 2013-01 effective January 1, 2013. The adoption of these new accounting standards impacts disclosures only; therefore they did not have an impact on the Company's consolidated financial statements. Please refer to Note 7: "Derivative instruments".

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Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income
In February 2013, the FASB issued Accounting Standard Update No. 2013-02, “Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income” (“ASU 2013-02”). The objective of this update is to improve the reporting of reclassifications out of accumulated other comprehensive income. The amendments do not change the current requirements for reporting net income or other comprehensive income in financial statements. However, the amendments require an entity to provide information about the amounts reclassified out of accumulated other comprehensive income by component. The amendments became effective for reporting periods beginning after December 15, 2012, and as a result, the Company adopted ASU 2013-02 effective January 1, 2013. Please refer to Note 14 "Accumulated other comprehensive income (loss)."
(b) Recently issued accounting standards not yet adopted

In March 2013, the FASB issued Accounting Standard Update No. 2013-05, “Parent's Accounting for the Cumulative Translation Adjustment upon Derecognition of Certain Subsidiaries or Groups of Assets within a Foreign Entity or of an Investment in a Foreign Entity” (“ASU 2013-05”). The objective of this update is to resolve the diversity in practice about whether Subtopic 810-10, Consolidation-Overall, or Subtopic 830-30, Foreign Currency Matters-Translation of Financial Statements, applies to the release of the cumulative translation adjustment into net income when a parent either sells a part or all of its investment in a foreign entity or no longer holds a controlling financial interest in a subsidiary within a foreign entity. The amendments in this Update are effective prospectively for fiscal years (and interim reporting periods within those years) beginning after December 15, 2013. Early adoption is permitted. The Company is currently evaluating the impact of this guidance; however it is not expected to have a material impact on the Company's consolidated financial statements.
In June 2013, the FASB issued Accounting Standard Update No. 2013-08, “Financial Services - Investment Companies - Amendments to the Scope, Measurement, and Disclosure Requirements” (“ASU 2013-08”). The amendments in this Update change the assessment of whether an entity is an investment company by developing a new two-tiered approach for that assessment, which requires an entity to possess certain fundamental characteristics while allowing judgment in assessing other typical characteristics. The new approach requires an entity to assess all of the characteristics of an investment company and consider its purpose and design to determine whether it is an investment company. The amendments in this Update are effective prospectively for fiscal years (and interim reporting periods within those years) beginning after December 15, 2013. Early adoption is prohibited. The Company is currently evaluating the impact of this guidance; however it is not expected to have a material impact on the Company's consolidated financial statements.

In July 2013, the FASB issued Accounting Standard Update No. 2013-10, “Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes” (“ASU 2013-10”). The amendments in this Update permit the Fed Funds Effective Swap Rate also referred to as the overnight index swap rate (“OIS”) to be used as a U.S. benchmark interest rate for hedge accounting purposes in addition to U.S. Treasury rate and LIBOR. The amendments also remove the restriction on using different benchmark rates for similar hedges. Before the amendments in this Update, only the U.S. Treasury rate and the LIBOR swap rate were considered benchmark interest rates in the United States. The amendments are effective prospectively for qualifying new or redesignated hedging relationships entered into on or after July 17, 2013. The Company is currently evaluating the impact of this guidance; however it is not expected to have a material impact on the Company's consolidated financial statements.

In July 2013, the FASB issued Accounting Standard Update No. 2013-11 “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists” (“ASU 2013-10”). This Update applies to all entities that have unrecognized tax benefits when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists at the reporting date. An unrecognized tax benefit should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward. To the extent a net operating loss carryforward is not available to settle any additional income taxes that would result from the disallowance of a tax position at the reporting date, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. The amendments in this Update are effective for fiscal years beginning after December 15, 2013. The Company is currently evaluating the impact of this guidance; however it is not expected to have a material impact on the Company's consolidated financial statements.




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Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


3. Investments

(a) Trading Securities

The Company's investments in fixed maturities, short-term investments and other investments are classified as trading and carried at fair value, with related net unrealized gains or losses included in earnings.

The amortized cost (or cost), gross unrealized gains and (losses) and estimated fair value of investments at June 30, 2013 were as follows:
 
Amortized Cost or Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
U.S. government and government agency
$
1,209,597

 
$
2,430

 
$
(5,807
)
 
$
1,206,220

Non-U.S. government and government agency
385,458

 
2,089

 
(6,523
)
 
381,024

States, municipalities, political subdivision
44,230

 
485

 
(422
)
 
44,293

Agency residential mortgage-backed securities
338,313

 
9,042

 
(1,841
)
 
345,514

Non-agency residential mortgage-backed securities
25,584

 
121

 
(1,069
)
 
24,636

U.S. corporate
1,378,522

 
9,232

 
(14,224
)
 
1,373,530

Non-U.S. corporate
668,678

 
4,760

 
(7,341
)
 
666,097

Bank loans
750,527

 
5,470

 
(1,378
)
 
754,619

Catastrophe bonds
54,005

 
1,139

 
(381
)
 
54,763

Asset-backed securities
467,968

 
1,670

 
(1,341
)
 
468,297

Total fixed maturities
5,322,882

 
36,438

 
(40,327
)
 
5,318,993

Total short-term investments
611,708

 
30

 
(1,960
)
 
609,778

Other investments
 
 
 
 
 
 
 
Fund of hedge funds
3,733

 
216

 
(921
)
 
3,028

Private equity investments
12,771

 
984

 
(67
)
 
13,688

Hedge funds (a)
581,389

 
22,718

 
(115,665
)
 
488,442

   Mutual funds
6,199

 
3,028

 
—

 
9,227

Total other investments
604,092

 
26,946

 
(116,653
)
 
514,385

Total
$
6,538,682

 
$
63,414

 
$
(158,940
)
 
$
6,443,156

Noncontrolling interest (a)
$
(508,500
)
 
$
(18,492
)
 
$
104,099

 
$
(422,893
)
Total investments excluding noncontrolling interest
$
6,030,182

 
$
44,922

 
$
(54,841
)
 
$
6,020,263


(a)
Included in the Hedge funds balance are investments held by PaCRe in which the Company has an equity interest of 10%. The remaining 90% interest is held by third party investors.


8
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The amortized cost (or cost), gross unrealized gains and (losses) and estimated fair value of investments at December 31, 2012 were as follows:
 
 
Amortized Cost or Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
U.S. government and government agency
$
1,091,357

 
$
7,957

 
$
(84
)
 
$
1,099,230

Non-U.S. government and government agency
295,602

 
6,904

 
(227
)
 
302,279

States, municipalities, political subdivision
41,286

 
800

 
(23
)
 
42,063

Agency residential mortgage-backed securities
375,368

 
13,708

 
(202
)
 
388,874

Non-agency residential mortgage-backed securities
106,536

 
1,266

 
(1,346
)
 
106,456

U.S. corporate
1,189,173

 
21,681

 
(681
)
 
1,210,173

Non-U.S. corporate
582,115

 
11,373

 
(223
)
 
593,265

Bank loans
663,217

 
10,593

 
(427
)
 
673,383

Catastrophe bonds
56,757

 
481

 
(291
)
 
56,947

Asset-backed securities
607,103

 
5,767

 
(206
)
 
612,664

Total fixed maturities
5,008,514

 
80,530

 
(3,710
)
 
5,085,334

Total short-term investments
1,112,929

 
1,349

 
(28
)
 
1,114,250

Other investments
 
 
 
 
 
 
 
Fund of hedge funds
4,677

 
299

 
(219
)
 
4,757

Private equity investments
12,857

 
94

 
—

 
12,951

Hedge funds (a)
559,335

 
21,814

 
(42,623
)
 
538,526

Mutual funds
6,199

 
2,015

 
—

 
8,214

Total other investments
583,068

 
24,222

 
(42,842
)
 
564,448

Total
$
6,704,511

 
$
106,101

 
$
(46,580
)
 
$
6,764,032

Noncontrolling interest (a)
(450,000
)
 
(19,427
)
 
36,690

 
(432,737
)
Total investments excluding noncontrolling interest
$
6,254,511

 
$
86,674

 
$
(9,890
)
 
$
6,331,295


(a)
Included in the Hedge funds balance are investments held by PaCRe in which the Company has an equity interest of 10%. The remaining 90% interest is held by third party investors.


9
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The following table sets forth certain information regarding the investment ratings of the Company’s fixed maturities portfolio as at June 30, 2013 and December 31, 2012. Investment ratings are the lower of Moody’s or Standard & Poor’s rating for each investment security, presented in Standard & Poor’s equivalent rating. For investments where Moody’s and Standard & Poor’s ratings are not available, Fitch ratings are used and presented in Standard & Poor’s equivalent rating.
 
 
June 30, 2013
 
December 31, 2012
 
Estimated Fair Value
 
% of Total
 
Estimated Fair Value
 
% of Total
AAA
$
768,907

 
14.4
%
 
$
1,062,794

 
20.9
%
AA
2,127,840

 
40.0
%
 
1,862,322

 
36.6
%
A
1,216,451

 
22.9
%
 
1,049,969

 
20.6
%
BBB
408,034

 
7.7
%
 
374,447

 
7.4
%
Investment grade
4,521,232

 
85.0
%
 
4,349,532

 
85.5
%
 
 
 
 
 
 
 
 
BB
356,521

 
6.7
%
 
373,907

 
7.4
%
B
409,962

 
7.7
%
 
330,416

 
6.5
%
CCC
4,081

 
0.1
%
 
4,483

 
0.1
%
CC
3,023

 
—
%
 
3,259

 
0.1
%
D/NR
24,174

 
0.5
%
 
23,737

 
0.4
%
Non-Investment grade
797,761

 
15.0
%
 
735,802

 
14.5
%
Total Fixed Maturities
$
5,318,993

 
100.0
%
 
$
5,085,334

 
100.0
%
 
The amortized cost and estimated fair value amounts for fixed maturity securities held at June 30, 2013 and December 31, 2012 are shown below by contractual maturity. Actual maturity may differ from contractual maturity because certain borrowers may have the right to call or prepay certain obligations with or without call or prepayment penalties.
 
 
June 30, 2013
 
December 31, 2012
 
Amortized Cost
 
Estimated Fair Value
 
Amortized Cost
 
Estimated Fair Value
Due in one year or less
$
818,318

 
$
823,145

 
$
526,529

 
$
530,499

Due after one year through five years
3,291,462

 
3,280,086

 
2,971,118

 
3,018,544

Due after five years through ten years
368,207

 
364,246

 
418,377

 
424,304

Due after ten years
13,030

 
13,069

 
3,483

 
3,993

 
4,491,017

 
4,480,546

 
3,919,507

 
3,977,340

Asset-backed and mortgage-backed securities
831,865

 
838,447

 
1,089,007

 
1,107,994

Total Fixed Maturities
$
5,322,882

 
$
5,318,993

 
$
5,008,514

 
$
5,085,334

 

10
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


(b)  Net investment income
 
Net investment income was derived from the following sources: 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013
 
June 30,
2012
 
June 30,
2013
 
June 30,
2012
Fixed maturities and short-term investments
$
26,151

 
$
26,471

 
$
53,682

 
$
53,747

Cash and cash equivalents
1,629

 
1,449

 
2,162

 
3,766

Securities lending income
—

 
1

 
—

 
6

Total gross investment income
27,780

 
27,921

 
55,844

 
57,519

Investment expenses
(1,570
)
 
(2,036
)
 
(3,985
)
 
(3,874
)
Net investment income
$
26,210

 
$
25,885

 
$
51,859

 
$
53,645

 
(c)
Net realized gains (losses) and change in net unrealized gains (losses)
 
The following represents an analysis of net realized gains (losses) and the change in net unrealized (losses) on investments:
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013
 
June 30,
2012
 
June 30,
2013
 
June 30,
2012
Fixed maturities, short-term and other investments and cash equivalents
 

 
 

 
 
 
 
Gross realized gains
$
7,152

 
$
9,415

 
$
17,872

 
$
19,423

Gross realized (losses)
(3,743
)
 
(3,261
)
 
(12,742
)
 
(5,737
)
Net realized gains on investments
3,409

 
6,154

 
5,130

 
13,686

Net unrealized gains on securities lending
—

 
—

 
—

 
37

Change in net unrealized (losses) on investments
(141,348
)
 
(53,574
)
 
(148,585
)
 
(32,940
)
Net change in unrealized (losses) on investments
$
(141,348
)
 
$
(53,574
)
 
$
(148,585
)
 
$
(32,903
)
Total net realized gains and change in net unrealized (losses) on investments
$
(137,939
)
 
$
(47,420
)
 
$
(143,455
)
 
$
(19,217
)
Noncontrolling interest (a)
63,694

 
44,882

 
68,345

 
44,882

Total net realized gains and change in net unrealized (losses) on investments excluding noncontrolling interest
$
(74,245
)
 
$
(2,538
)
 
$
(75,110
)
 
$
25,665


(a)
Includes change in net unrealized (losses) on investments held by PaCRe in which the Company has an equity interest of 10%. The remaining 90% interest is held by third party investors.



11
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


(d) Pledged investments

The following tables outline investments pledged as collateral under the Company's credit facilities. For further details of the credit facilities, please refer to Note 12: “Debt and financing arrangements.”
 
 
June 30, 2013
Description
 
Commitment
 
Issued and Outstanding
 
Investments pledged as collateral
$400,000 syndicated unsecured letter of credit facility
 
$
400,000

 
$
—

 
$
—

$525,000 syndicated secured letter of credit facility
 
525,000

 
373,318

 
527,564

$200,000 secured bi-lateral letter of credit facility
 
200,000

 
73,523

 
129,590

Talbot FAL Facility
 
25,000

 
25,000

 
36,508

PaCRe senior secured letter of credit facility
 
10,000

 
258

 
—

IPC bi-lateral facility
 
40,000

 
24,788

 
97,735

$375,000 Flagstone bi-lateral facility
 
375,000

 
313,398

 
450,880

 
 
$
1,575,000

 
$
810,285

 
$
1,242,277

 
 
December 31, 2012
Description
 
Commitment
 
Issued and Outstanding
 
Investments pledged as collateral
$400,000 syndicated unsecured letter of credit facility
 
$
400,000

 
$
—

 
$
—

$525,000 syndicated secured letter of credit facility
 
525,000

 
376,570

 
517,210

$500,000 secured bi-lateral letter of credit facility
 
500,000

 
92,402

 
125,991

Talbot FAL Facility
 
25,000

 
25,000

 
41,372

PaCRe senior secured letter of credit facility
 
10,000

 
219

 
—

IPC bi-lateral facility
 
80,000

 
40,613

 
98,593

$550,000 Flagstone bi-lateral facility
 
550,000

 
381,019

 
416,414

 
 
$
2,090,000

 
$
915,823

 
$
1,199,580


4. Fair Value Measurements

The Company has adopted all authoritative guidance in effect as of the balance sheet date regarding certain market conditions that allow for fair value measurements that incorporate unobservable inputs where active market transaction based measurements are unavailable.
 
(a)
Classification within the fair value hierarchy
 
Under U.S. GAAP, a company must determine the appropriate level in the fair value hierarchy for each fair value measurement. The fair value hierarchy prioritizes the inputs, which refer broadly to assumptions market participants would use in pricing an asset or liability, into three levels. It gives the highest priority to quoted prices (unadjusted) in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The level in the fair value hierarchy within which a fair value measurement in its entirety falls is determined based on the lowest level input that is significant to the fair value measurement in its entirety.
 
The three levels of the fair value hierarchy are described below:

•
Level 1 - Fair values are measured based on unadjusted quoted prices in active markets for identical assets or liabilities that we have the ability to access.

•
Level 2 - Fair values are measured based on quoted prices in active markets for similar assets or liabilities, quoted prices for identical assets or liabilities in inactive markets, or for which significant inputs are observable (e.g. interest rates, yield curves, prepayment speeds, default rates, loss severities, etc.) or can be corroborated by observable market data.
 

12
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


•
Level 3 - Fair values are measured based on inputs that are unobservable and significant to the overall fair value measurement. The unobservable inputs reflect our own judgments about assumptions where there is little, if any, market activity for that asset or liability that market participants might use.

The availability of observable inputs can vary from financial instrument to financial instrument and is affected by a wide variety of factors including, for example, the type of financial instrument, whether the financial instrument is new and not yet established in the marketplace, and other characteristics particular to the transaction. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires significantly more judgment.

Accordingly, the degree of judgment exercised by management in determining fair value is greatest for instruments categorized in Level 3. In periods of market dislocation, the observability of prices and inputs may be reduced for many instruments. This may lead us to change the selection of our valuation technique (from market to cash flow approach) or may cause us to use multiple valuation techniques to estimate the fair value of a financial instrument. This circumstance could cause an instrument to be reclassified between levels within the fair value hierarchy.

There have been no material changes in the Company's valuation techniques during the period represented by these consolidated financial statements. The following methods and assumptions were used in estimating the fair value of each class of financial instrument recorded in the Consolidated Balance Sheets.

(b) Level 1 and Level 2 assets measured at fair value

Fixed maturity investments

Fixed maturity investments included in Level 2 are U.S. government and government agency, non-U.S. government and government agency, states, municipalities, political subdivision, agency residential mortgage-backed, non-agency residential mortgage-backed, U.S. corporate, non-U.S. corporate, bank loans, catastrophe bonds and asset backed securities.

In general, the Company's fixed maturity investment portfolios are priced using pricing services, such as index providers and pricing vendors, as well as broker quotations. The pricing vendors provide pricing for a high volume of liquid securities that are actively traded. For securities that do not trade on an exchange, the pricing services generally utilize market data and other observable inputs in matrix pricing models to determine month end prices. Prices are generally verified using third party data. Securities which are priced by an index provider are generally included in the index.

In general, broker-dealers value securities through their trading desks based on observable inputs. The methodologies include mapping securities based on trade data, bids or offers, observed spreads, and performance on newly issued securities. Broker-dealers also determine valuations by observing secondary trading of similar securities. Prices obtained from broker quotations are considered non-binding, however they are based on observable inputs and by observing secondary trading of similar securities obtained from active, non-distressed markets.

The Company considers these Level 2 inputs as they are corroborated with other market observable inputs. The techniques generally used to determine the fair value of the Company's fixed maturity investments are detailed below by asset class.

U.S. government and government agency

Level 2 - U.S. government and agency securities consist primarily of debt securities issued by the U.S. Treasury and mortgage pass-through agencies such as the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and the Government National Mortgage Association. Fixed maturity investments included in U.S. government and government agency securities are primarily priced by pricing services. When evaluating these securities, the pricing services gather information from market sources and integrate other observations from markets and sector news. Evaluations are updated by obtaining broker dealer quotes and other market information including actual trade volumes, when available. The fair value of each security is individually computed using analytical models which incorporate option adjusted spreads and other daily interest rate data.





13
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


Non-U.S. government and government agency

Level 2 - Non-U.S. government and government agency securities consist of debt securities issued by non-U.S. governments and their agencies along with supranational organizations (also known as sovereign debt securities). Securities held in these sectors are primarily priced by pricing services who employ proprietary discounted cash flow models to value the securities. Key quantitative inputs for these models are daily observed benchmark curves for treasury, swap and high issuance credits. The pricing services then apply a credit spread for each security which is developed by in-depth and real time market analysis. For securities in which trade volume is low, the pricing services utilize data from more frequently traded securities with similar attributes. These models may also be supplemented by daily market and credit research for international markets.

States, municipalities, political subdivision

Level 2 - The Company's states, municipal and political subdivision portfolio contains debt securities issued by U.S. domiciled state and municipal entities. These securities are generally priced by independent pricing services using the techniques described for U.S. government and government agency securities described above.

Agency residential mortgage-backed securities

Level 2 - The Company's agency residential mortgage-backed investments are primarily priced by pricing services using a mortgage pool specific model which utilizes daily inputs from the active to be announced ("TBA") market which is very liquid, as well as the U.S. treasury market. The model also utilizes additional information, such as the weighted average maturity, weighted average coupon and other available pool level data which is provided by the sponsoring agency. Valuations are also corroborated with daily active market quotes.

Non-agency residential mortgage-backed securities

Level 2 - The Company's non-agency mortgage-backed investments include non-agency prime residential mortgage-backed fixed maturity investments. The Company has no fixed maturity investments classified as sub-prime held in its fixed maturity investments portfolio. Securities held in these sectors are primarily priced by pricing services using an option adjusted spread ("OAS") model or other relevant models, which principally utilize inputs including benchmark yields, available trade information or broker quotes, and issuer spreads. The pricing services also review collateral prepayment speeds, loss severity and delinquencies among other collateral performance indicators for the securities valuation, when applicable.

U.S. corporate

Level 2 - Corporate debt securities consist primarily of investment-grade debt of a wide variety of corporate issuers and industries. The Company's corporate fixed maturity investments are primarily priced by pricing services. When evaluating these securities, the pricing services gather information from market sources regarding the issuer of the security and obtain credit data, as well as other observations, from markets and sector news. Evaluations are updated by obtaining broker dealer quotes and other market information including actual trade volumes, when available. The pricing services also consider the specific terms and conditions of the securities, including any specific features which may influence risk. In certain instances, securities are individually evaluated using a spread which is added to the U.S. treasury curve or a security specific swap curve as appropriate.

Non - U.S. corporate

Level 2 - Non - U.S. corporate debt securities consist primarily of investment-grade debt of a wide variety of non-U.S. corporate issuers and industries. The Company's non - U.S. corporate fixed maturity investments are primarily priced by pricing services. When evaluating these securities, the pricing services gather information from market sources regarding the issuer of the security and obtain credit data, as well as other observations, from markets and sector news. Evaluations are updated by obtaining broker dealer quotes and other market information including actual trade volumes, when available. The pricing services also consider the specific terms and conditions of the securities, including any specific features which may influence risk.





14
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


Bank loans

Level 2 - The Company's bank loan investments consist primarily of below-investment-grade debt of a wide variety of corporate issuers and industries. The Company's bank loans are primarily priced by pricing services. When evaluating these securities, the pricing services gather information from market sources regarding the issuer of the security and obtain credit data, as well as other observations, from markets and sector news. Evaluations are updated by obtaining broker dealer quotes and other market information including actual trade volumes, when available. The pricing services also consider the specific terms and conditions of the securities, including any specific features which may influence risk.

Catastrophe bonds

Level 2 - Catastrophe bonds are recorded at fair value and are based on broker or underwriter bid indications.

Asset-backed securities

Level 2 - Asset backed securities include mostly investment-grade debt securities backed by pools of loans with a variety of underlying collateral, including automobile loan receivables, student loans, credit card receivables, and CLO debt originated by a variety of financial institutions. Securities held in these sectors are primarily priced by pricing services. The pricing services apply dealer quotes and other available trade information such as bids and offers, prepayment speeds which may be adjusted for the underlying collateral or current price data, the U.S. treasury curve and swap curve as well as cash settlement. The pricing services determine the expected cash flows for each security held in this sector using historical prepayment and default projections for the underlying collateral and current market data. In addition, a spread is applied to the relevant benchmark and used to discount the cash flows noted above to determine the fair value of the securities held in this sector.

Short term investments

Level 1 & Level 2 - Short term investments consist primarily of highly liquid securities with maturities less than one year from the date of purchase. The fair value of the Company's portfolio of short term investments are generally determined using amortized cost which approximates fair value. These securities are classified within Level 2 because these securities are typically not actively traded due to their approaching maturity and, as such, their amortized cost approximates fair value. The Company determined that certain of its short-term investments held in highly liquid money market-type funds would be included in Level 1 as their fair values are based on quoted market prices in active markets.

Mutual funds

Level 2 -Mutual funds consist of two investment funds which are invested in various quoted investments. The fair value of units in the mutual funds is based on the net asset value of the fund as reported by the fund manager.
 
(c) Level 3 assets measured at fair value

Other investments

Level 3 includes financial instruments that are valued using market approach and income approach valuation techniques. These models incorporate both observable and unobservable inputs. The Company's hedge funds, a fund of hedge funds and private equity investments are the only financial instruments in this category as at June 30, 2013. For each respective hedge fund investment, the Company obtains and reviews the valuation methodology used by the fund administrators and investment managers to ensure that the hedge fund investments are following fair value principles consistent with U.S. GAAP in determining the net asset value (“NAV”).

Within the hedge fund industry, there is a general lack of transparency necessary to facilitate a detailed independent assessment of the values placed on the securities underlying the NAV provided by the fund manager or fund administrator. To address this, on a quarterly basis, we perform a number of monitoring procedures designed to assist us in the assessment of the quality of the information provided by managers and administrators. These procedures include, but are not limited to, regular review and discussion of each fund's performance with its manager and regular evaluation of fund performance against applicable benchmarks.


15
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


Hedge funds

The hedge funds were valued at $488,442 at June 30, 2013. The hedge funds consist of an investment in four Paulson & Co. managed funds (the "Paulson hedge funds") and three investment funds assumed from the Flagstone Acquisition (the "Flagstone investment funds"). The Paulson hedge funds' administrator provides monthly reported NAVs with a one-month delay in its valuation. As a result, the funds' administrator's May 31, 2013 NAV was used as a partial basis for fair value measurement in the Company's June 30, 2013 balance sheet. The fund manager provides an estimate of the NAV at June 30, 2013 based on estimated performance. The Company adjusts fair value to the fund manager's estimated NAV that incorporates relevant valuation sources on a timely basis. To determine the reasonableness of the estimated NAV, the Company assesses the variance between the fund manager's estimated NAV and the fund administrator's NAV. Material variances are recorded in the current reporting period while immaterial variances are recorded in the following reporting period. Historically, our valuation estimates have not materially differed from the subsequent NAVs. The Flagstone investment fund administrators provide either monthly or quarterly reported NAVs with a one-month or one-quarter delay in valuation, respectively. As a result, the May 31, 2013 NAV or the March 31, 2013 NAV was used as a basis for fair value measurement in the Company's June 30, 2013 balance sheet. As these valuation techniques incorporate both observable and significant unobservable inputs, both the Paulson hedge funds and the Flagstone investment funds are classified as Level 3 assets. The Paulson hedge funds are subject to quarterly liquidity.

Private equity investments

Private equity investments consist of an investment in three private equity funds assumed from the Flagstone Acquisition. The private equity investments respective fund administrator provides either monthly or quarterly NAVs with a one-month or one-quarter delay in valuation, respectively. As a result, the May 31, 2013 NAV or the March 31, 2013 NAV was used as a basis for fair value measurement in the Company's June 30, 2013 balance sheet. As this valuation technique incorporates both observable and significant unobservable inputs, the private equity investments are classified as Level 3 assets.

Fund of hedge funds

The fund of hedge funds includes a side pocket. While a redemption request has been submitted, the timing of receipt of proceeds on the side pocket is unknown. The fund's administrator provides a monthly reported NAV with a one-month delay in its valuation. As a result, the fund administrator's May 31, 2013 NAV was used as a basis for fair value measurement in the Company's June 30, 2013 balance sheet. The fund manager provides an estimate of the fund NAV at June 30, 2013 based on the estimated performance provided from the underlying third-party funds. To determine the reasonableness of the NAV, the Company compares the one-month delayed fund administrator's NAV to the fund manager's estimated NAV that incorporates relevant valuation sources on a timely basis. Material variances are recorded in the current reporting period while immaterial variances are recorded in the following reporting period. As this valuation technique incorporates both observable and significant unobservable inputs, the fund of hedge funds is classified as a Level 3 asset.


16
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


At June 30, 2013, the Company’s investments were allocated between Levels 1, 2 and 3 as follows:
 
 
Level 1
 
Level 2
 
Level 3
 
Total
U.S. government and government agency
$
—

 
$
1,206,220

 
$
—

 
$
1,206,220

Non-U.S. government and government agency
—

 
381,024

 
—

 
381,024

States, municipalities, political subdivision
—

 
44,293

 
—

 
44,293

Agency residential mortgage-backed securities
—

 
345,514

 
—

 
345,514

Non-agency residential mortgage-backed securities
—

 
24,636

 
—

 
24,636

U.S. corporate
—

 
1,373,530

 
—

 
1,373,530

Non-U.S. corporate
—

 
666,097

 
—

 
666,097

Bank loans
—

 
754,619

 
—

 
754,619

Catastrophe bonds
—

 
54,763

 
—

 
54,763

Asset-backed securities
—

 
468,297

 
—

 
468,297

Total fixed maturities
—

 
5,318,993

 
—

 
5,318,993

Short-term investments
583,518

 
26,260

 
—

 
609,778

Other investments
 
 
 
 
 
 
 
Fund of hedge funds
—

 
—

 
3,028

 
3,028

Private equity investments
—

 
—

 
13,688

 
13,688

Hedge funds (a)
—

 
—

 
488,442

 
488,442

Mutual funds
—

 
9,227

 
—

 
9,227

Total other investments
—

 
9,227

 
505,158

 
514,385

Total
$
583,518

 
$
5,354,480

 
$
505,158

 
$
6,443,156

Noncontrolling interest (a)
—

 
—

 
(422,893
)
 
(422,893
)
Total investments excluding noncontrolling interest
$
583,518

 
$
5,354,480

 
$
82,265

 
$
6,020,263


(a)
Included in the Hedge funds balance are investments held by PaCRe in which the Company has an equity interest of 10%. The remaining 90% interest is held by third party investors.


17
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)



At December 31, 2012, the Company’s investments were allocated between Levels 1, 2 and 3 as follows:
 
 
Level 1
 
Level 2
 
Level 3
 
Total
U.S. government and government agency
$
—

 
$
1,099,230

 
$
—

 
$
1,099,230

Non-U.S. government and government agency
—

 
302,279

 
—

 
302,279

States, municipalities, political subdivision
—

 
42,063

 
—

 
42,063

Agency residential mortgage-backed securities
—

 
388,874

 
—

 
388,874

Non-agency residential mortgage-backed securities
—

 
106,456

 
—

 
106,456

U.S. corporate
—

 
1,210,173

 
—

 
1,210,173

Non-U.S. corporate
—

 
593,265

 
—

 
593,265

Bank loans
—

 
673,383

 
—

 
673,383

Catastrophe bonds
—

 
56,947

 
—

 
56,947

Asset-backed securities
—

 
612,664

 
—

 
612,664

Total fixed maturities
—

 
5,085,334

 
—

 
5,085,334

Short-term investments
1,063,175

 
51,075

 
—

 
1,114,250

Other investments
 
 
 
 
 
 
 
Fund of hedge funds
—

 
—

 
4,757

 
4,757

Private equity investments
—

 
—

 
12,951

 
12,951

Hedge funds (a)
—

 
—

 
538,526

 
538,526

Mutual funds
—

 
8,214

 
—

 
8,214

Total other investments
—

 
8,214

 
556,234

 
564,448

Total
$
1,063,175

 
$
5,144,623

 
$
556,234

 
$
6,764,032

Noncontrolling interest (a)
—

 
—

 
(432,737
)
 
(432,737
)
Total investments excluding noncontrolling interest
$
1,063,175

 
$
5,144,623

 
$
123,497

 
$
6,331,295


(a)
Included in the Hedge funds balance are investments held by PaCRe in which the Company has an equity interest of 10%. The remaining 90% interest is held by third party investors.

At June 30, 2013, Level 3 investments excluding the noncontrolling interest totaled $82,265 (December 31, 2012: $123,497), representing 1.4% (December 31, 2012: 2.0%) of total investments, excluding noncontrolling interest, measured at fair value on a recurring basis.
 

18
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The following tables present a reconciliation of the beginning and ending balances for all investments measured at fair value on a recurring basis using Level 3 inputs during the three and six months ended June 30, 2013 and 2012:
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
Total Fair Market Value
 
Total Fair Market Value
 
 
Other Investments
 
Other Investments
Level 3 investments - Beginning of period
 
$
523,693

 
$
8,325

Purchases
 
65,056

 
500,000

Sales
 
(13,498
)
 
(277
)
Realized gains
 
300

 
21

Unrealized (losses)
 
(70,393
)
 
(48,494
)
Transfers
 
—

 
(4,782
)
Level 3 investments - End of period
 
$
505,158

 
$
454,793

Noncontrolling interest (a)
 
(422,893
)
 
(405,118
)
Level 3 investments excluding noncontrolling interest
 
$
82,265

 
$
49,675


 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
Total Fair Market Value
 
Total Fair Market Value
 
 
Other Investments
 
Other Investments
Level 3 investments - Beginning of period
 
$
556,234

 
$
8,880

Purchases
 
65,515

 
500,000

Sales
 
(44,831
)
 
(896
)
Realized gains
 
340

 
48

Unrealized (losses)
 
(72,100
)
 
(49,986
)
Transfers
 
—

 
(3,253
)
Level 3 investments - End of period
 
$
505,158

 
$
454,793

Noncontrolling interest (a)
 
(422,893
)
 
(405,118
)
Level 3 investments excluding noncontrolling interest
 
$
82,265

 
$
49,675


(a)
Includes Level 3 investments held by PaCRe in which the Company has an equity interest of 10%. The remaining 90% interest is held by third party investors.

There have not been any transfers between Levels 1 and 2 during the three and six months ended June 30, 2013 or 2012. There have not been any transfers into or out of Level 3 during the three and six months ended June 30, 2013. During the three months ended June 30, 2012, there was a transfer of the private equity investment out of Level 3 "Other investments" to "Investment in affiliates." Refer to Note 5: "Investments in affiliates."

5. Investments in affiliates

(a) Operating affiliates

AlphaCat Re 2011, Ltd.
 
On May 25, 2011, the Company joined with other investors in capitalizing AlphaCat Re 2011, Ltd. ("AlphaCat Re 2011"), a special purpose reinsurer formed for the purpose of writing collateralized reinsurance and retrocessional reinsurance. At the time of formation, Validus Reinsurance, Ltd. ("Validus Re"), a wholly owned subsidiary of the Company, had a majority voting equity

19
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


interest in AlphaCat Re 2011 and as a result, the financial statements of AlphaCat Re 2011 were included in the consolidated financial statements of the Company.

On December 23, 2011, AlphaCat Re 2011 completed a secondary offering of its common shares to third party investors, along with a partial sale of Validus Re's common shares to one of the third party investors.

As a result of these transactions, Validus Re maintained an equity interest in AlphaCat Re 2011, however its share of AlphaCat Re 2011's outstanding voting rights decreased to 43.7%. As a result of the Company's voting interest falling below 50%, the individual assets and liabilities and corresponding noncontrolling interest of AlphaCat Re 2011 were derecognized from the consolidated balance sheet of the Company as at December 31, 2011 and the remaining investment in AlphaCat Re 2011 has been treated as an equity method investment effective December 31, 2011.

AlphaCat Re 2011 is now considered "off-risk" as all reinsurance contracts written by the company have expired. As a result, on January 4, 2013, January 23, 2013, May 1, 2013 and May 28, 2013 partial returns of investment were made to the investors of AlphaCat Re 2011. Validus Re's corresponding portion of the return of investment was $52,114.

AlphaCat Re 2012, Ltd.

On May 29, 2012, the Company joined with other investors in capitalizing AlphaCat Re 2012, Ltd. ("AlphaCat Re 2012"), a special purpose reinsurer formed for the purpose of writing collateralized reinsurance with a particular focus on windstorm risks for Florida domiciled insurance companies. The Company holds an equity interest of 37.9% and a voting interest of 49.0% in AlphaCat Re 2012, therefore the investment has been treated as an equity method investment as at June 30, 2013.

AlphaCat Re 2012 is now considered "off-risk" as all reinsurance contracts written by the company have expired. As a result, on February 22, 2013 and June 20, 2013, partial returns of investment were made to the investors of AlphaCat Re 2012. Validus Re's corresponding portion of the return of investment was $27,193.
AlphaCat 2013, Ltd.
On December 17, 2012, the Company joined with other investors in capitalizing AlphaCat 2013, Ltd. ("AlphaCat 2013"), a special purpose vehicle formed for the purpose of investing in collateralized reinsurance. The Company holds an equity interest of 19.7% and a voting interest of 40.9% in AlphaCat 2013, therefore the investment has been treated as an equity method investment as at June 30, 2013.

Investment in Insurance Linked Securities ("ILS")
The Company received $219,400 of third party subscriptions in three of the AlphaCat ILS funds as of December 31, 2012. During the three and six months ended June 30, 2013, the Company received $13,500 and $69,190 in additional third party subscriptions, respectively. The AlphaCat ILS funds invest in instruments with returns linked to property catastrophe reinsurance, retrocession and ILS contracts. Two of the funds are variable interest entities and are consolidated by the Company as Validus Re is deemed to be the primary beneficiary. The third fund is also a variable interest entity, however, it is not consolidated by the Company as Validus Re is not deemed to be the primary beneficiary. As a result, the investment in this fund is included in "Investments in affiliates" as at June 30, 2013. Income from this fund was $177 and $326 for the three and six months ended June 30, 2013. The Company's carrying value of this fund amounted to $20,326 and $20,000 as at June 30, 2013 and December 31, 2012, respectively. The Company's maximum exposure to loss with respect to this investment is limited to the investment carrying value reported in the Company's Consolidated Balance Sheets.

The following table presents a reconciliation of the beginning and ending investment in operating affiliates balances for the three and six months ended June 30, 2013 and 2012:

20
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
Three Months Ended June 30, 2013
 
Investment in operating affiliates
 
AlphaCat Re 2011
 
AlphaCat Re 2012
 
 AlphaCat 2013
 
AlphaCat ILS funds
 
Total
As at March 31, 2013
$
16,805

 
$
27,358

 
$
46,100

 
$
20,149

 
$
110,412

Return of investment
(5,678
)
 
(23,407
)
 
—

 
—

 
(29,085
)
Income from operating affiliates
(73
)
 
1,253

 
2,436

 
177

 
3,793

As at June 30, 2013
$
11,054

 
$
5,204

 
$
48,536

 
$
20,326

 
$
85,120


 
Three Months Ended June 30, 2012
 
Investment in operating affiliates
 
AlphaCat Re 2011
 
AlphaCat Re 2012
 
Total
As at March 31, 2012
$
56,398

 
$
—

 
$
56,398

Purchase of shares
—

 
26,500

 
26,500

Income from operating affiliates
2,840

 
752

 
3,592

As at June 30, 2012
$
59,238

 
$
27,252

 
$
86,490

 
Six Months Ended June 30, 2013
 
Investment in operating affiliates
 
AlphaCat Re 2011
 
AlphaCat Re 2012
 
 AlphaCat 2013
 
AlphaCat ILS funds
 
Total
As at December 31, 2012
$
62,792

 
$
29,319

 
$
45,000

 
$
20,000

 
$
157,111

Return of investment
(52,114
)
 
(27,193
)
 
—

 
—

 
(79,307
)
Income from operating affiliates
376

 
3,078

 
3,536

 
326

 
7,316

As at June 30, 2013
$
11,054

 
$
5,204

 
$
48,536

 
$
20,326

 
$
85,120


 
Six Months Ended June 30, 2012
 
Investment in operating affiliates
 
AlphaCat Re 2011
 
AlphaCat Re 2012
 
Total
As at December 31, 2011
$
53,031

 
$
—

 
$
53,031

Purchase of shares
—

 
26,500

 
26,500

Income from operating affiliates
6,207

 
752

 
6,959

As at June 30, 2012
$
59,238

 
$
27,252

 
$
86,490


The following table presents the Company's investments in operating affiliates as at June 30, 2013:
 
Investment in operating affiliates
 
Investment at cost
 
Voting ownership %
 
Equity ownership %
 
Carrying value
AlphaCat Re 2011
$
11,128

 
43.7
%
 
22.3
%
 
$
11,054

AlphaCat Re 2012
3,950

 
49.0
%
 
37.9
%
 
5,204

AlphaCat 2013
45,000

 
40.9
%
 
19.7
%
 
48,536

AlphaCat ILS Fund
20,000

 
—
%
 
12.5
%
 
20,326

Total
$
80,078

 
 
 
 
 
$
85,120



21
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The following table presents the Company's investments in operating affiliates as at December 31, 2012:
 
Investment in operating affiliates
 
Investment at cost
 
Voting ownership %
 
Equity ownership %
 
Carrying value
AlphaCat Re 2011
$
41,389

 
43.7
%
 
22.3
%
 
$
62,792

AlphaCat Re 2012
26,500

 
49.0
%
 
37.9
%
 
29,319

AlphaCat 2013
45,000

 
40.9
%
 
19.7
%
 
45,000

AlphaCat ILS Fund
$
20,000

 
—
%
 
11.8
%
 
$
20,000

Total
$
60,078

 
 
 
 
 
$
157,111


(b) Investment affiliate

Aquiline Financial Services Fund II L.P.

On December 20, 2011, Validus Re entered into an Assignment and Assumption Agreement (the "Agreement") with Aquiline Capital Partners LLC, a Delaware limited liability company (the "Assignor") and Aquiline Capital Partners II GP (Offshore) Ltd., a Cayman Islands company limited by shares (the "General Partner") pursuant to which Validus Re has assumed 100% of the Assignor's interest in Aquiline Financial Services Fund II L.P. (the "Partnership") representing a total capital commitment of $50,000 (the "Commitment"), as a limited partner in the Partnership (the "Transferred Interest"). The Transferred Interest is governed by the terms of an Amended and Restated Exempted Limited Partnership Agreement dated as of July 2, 2010 (the "Limited Partnership Agreement"). Pursuant to the terms of the Limited Partnership Agreement, the Commitment will expire on July 2, 2015.

The private equity limited partnership provides quarterly capital account statements with a three-month delay in its valuation. As a result, the limited partnership's March 31, 2013 capital account statement was used as the basis for calculating the Company's share of partnership income for the period.

The following table presents a reconciliation of the beginning and ending investment in the Company's investment affiliate balance for the three and six months ended June 30, 2013 and 2012:
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013
 
June 30,
2012
 
June 30,
2013
 
June 30,
2012
Investment affiliate, beginning of period
$
18,036

 
$
3,347

 
$
15,218

 
$
3,253

Capital contributions
5,563

 
3,368

 
6,904

 
4,898

Net unrealized (loss) on investments (a)
—

 
—

 
—

 
(1,436
)
Income (loss) from investment affiliate
1,753

 
(398
)
 
3,230

 
(398
)
Investment affiliate, end of period
$
25,352

 
$
6,317

 
$
25,352

 
$
6,317

(a)
As at March 31, 2012, this investment was included in " Other investments" as a level 3 investment in the fair value hierarchy, hence the change in fair value was included in net unrealized (losses) gains on investments.

The following table presents the Company's investment in the Aquiline Financial Services Fund II L.P. as at June 30, 2013:
 
Investment in investment affiliate
 
Investment at cost
 
Voting ownership %
 
Equity Ownership
 
Carrying Value
Aquiline Financial Services Fund II L.P
$
24,522

 
—
%
 
6.7
%
 
$
25,352



22
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


6. Noncontrolling interest
 On April 2, 2012, the Company joined with other investors in capitalizing PaCRe a new Class 4 Bermuda reinsurer formed for the purpose of writing high excess property catastrophe reinsurance. On May 1, 2013, PaCRe received additional capital contributions of $6,500 from Validus Re and $58,500 from a third party investor. Validus Re has a majority voting equity interest in PaCRe and as a result, the financial statements of PaCRe are included in the consolidated financial statements of the Company. The portion of PaCRe's earnings attributable to third party investors for the three and six months ended June 30, 2013 and 2012 is recorded in the Consolidated Statements of Comprehensive Income as net loss attributable to noncontrolling interest. The Company has an equity interest of 10% and the remaining 90% interest is held by third party investors.
The Company received $219,400 of third party subscriptions in three of the AlphaCat ILS funds as of December 31, 2012. During the three and six months ended June 30, 2013, the Company received $13,500 and $69,190 in additional third party subscriptions, respectively. The AlphaCat ILS funds invest in instruments with returns linked to property catastrophe reinsurance, retrocession and ILS contracts. Two of the funds are variable interest entities and are consolidated by the Company as Validus Re is deemed to be the primary beneficiary. Validus Re has a majority participating interest in these funds and as a result, the financial statements of these funds are included in the consolidated financial statements of the Company. The portion of the AlphaCat ILS funds' earnings attributable to third party investors for the three and six months ended June 30, 2013 is recorded in the Consolidated Statements of Comprehensive Income within net loss attributable to noncontrolling interest.

The following table presents a reconciliation of the beginning and ending balances of noncontrolling interest for the three and six months ended June 30, 2013 and 2012:
 
Three Months Ended June 30, 2013
 
PaCRe
 
AlphaCat ILS funds
 
Total
As at March 31, 2013
$
431,145

 
$
56,276

 
$
487,421

   Purchase of shares by noncontrolling interest
58,500

 
13,500

 
72,000

   Net (loss) income attributable to noncontrolling interest
(61,890
)
 
914

 
(60,976
)
As at June 30, 2013
$
427,755

 
$
70,690

 
$
498,445

 
Three Months Ended June 30, 2012
 
PaCRe
 
Total
As at March 31, 2012
$
—

 
$
—

   Purchase of shares by noncontrolling interest
450,100

 
450,100

   Net (loss) attributable to noncontrolling interest
(45,360
)
 
(45,360
)
As at June 30, 2012
$
404,740

 
$
404,740

 
Six Months Ended June 30, 2013
 
PaCRe
 
AlphaCat ILS Funds
 
Total
As at December 31, 2012
$
434,280

 
$
—

 
$
434,280

   Purchase of shares by noncontrolling interest
58,500

 
69,190

 
127,690

   Net (loss) income attributable to noncontrolling interest
(65,025
)
 
1,500

 
(63,525
)
As at June 30, 2013
$
427,755

 
$
70,690

 
$
498,445


23
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
Six Months Ended June 30, 2012
 
PaCRe
 
Total
As at December 31, 2011
$
—

 
$
—

   Purchase of shares by noncontrolling interest
450,100

 
450,100

   Net (loss) attributable to noncontrolling interest
(45,360
)
 
(45,360
)
As at June 30, 2012
$
404,740

 
$
404,740


7. Derivative instruments
 
The Company enters into derivative instruments for risk management purposes, specifically to hedge unmatched foreign currency exposures and interest rate exposures. As at June 30, 2013, the Company held a foreign currency forward contract to mitigate the risk of foreign currency exposure of unpaid losses denominated in Chilean Pesos (CLP) as well as foreign currency forward contracts to mitigate the risk of fluctuations in the Euro and British Pound Sterling to U.S. dollar exchange rates. As at June 30, 2013, the Company held two interest rate swap contracts to mitigate the risk of interest rate exposure on the payment of interest on the Company's 2006 and 2007 Junior Subordinated Deferrable Debentures, as well as three interest rate swaps and one cross-currency interest rate swap to mitigate the risk of interest rate and foreign exchange rate exposure on the payment of interest on Flagstone's 2006 and 2007 Junior Subordinated Deferrable Interest Notes.

As part of the Flagstone Acquisition, the Company assumed foreign currency forward contracts which are not designated as hedging instruments. As at June 30, 2013, the Company held nine foreign currency forward contracts to mitigate the risk of fluctuations against the U.S. dollar.

The following table summarizes information on the location and amount of the fair value of derivatives not designated as hedging instruments on the consolidated balance sheet at June 30, 2013 and December 31, 2012:

 
 
At June 30, 2013
 
At December 31, 2012
Derivatives not designated as hedging instruments:
 
Net notional exposure
 
Asset Derivative at Fair Value
 
Liability Derivative at Fair Value
 
Net notional exposure
 
Asset Derivative at Fair Value
 
Liability Derivative at Fair Value
Currency swaps
 
$
—

 
$
—

 
$
—

 
$
17,153

 
$
—

 
$
772

Foreign currency forward contracts
 
$
132,702

 
$
—

 
$
8,265

 
$
310,541

 
$
—

 
$
394


Asset and liability derivatives are classified within other assets and accounts payable and accrued expenses on the Consolidated Balance Sheets.

The following table summarizes information on the location and amount of the fair value of derivatives designated as hedging instruments on the consolidated balance sheet at June 30, 2013 and December 31, 2012:
 
 
At June 30, 2013
 
At December 31, 2012
Derivatives designated as hedging instruments:
 
Net notional exposure
 
Asset Derivative at Fair Value
 
Liability Derivative at Fair Value
 
Net notional exposure
 
Asset Derivative at Fair Value
 
Liability Derivative at Fair Value
Foreign currency forward contracts
 
$
55,541

 
$
383

 
$
1,243

 
$
35,976

 
$
—

 
$
223

Interest rate swap contracts
 
$
552,263

 
$
—

 
787

 
$
289,800

 
$
—

 
$
220

 
Asset and liability derivatives are classified within other assets and accounts payable and accrued expenses on the Consolidated Balance Sheets.


24
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


(a)
Classification within the fair value hierarchy
 
As described in Note 4: "Fair value measurements," under U.S. GAAP, a company must determine the appropriate level in the fair value hierarchy for each fair value measurement. The assumptions used within the valuation are observable in the marketplace, can be derived from observable data or are supported by observable levels at which other similar transactions are executed in the marketplace. Accordingly, these derivatives were classified within Level 2 of the fair value hierarchy.

(b)
Derivative instruments designated as a fair value hedge
 
The Company designates its foreign currency forward contract derivative instruments as fair value hedges and formally and contemporaneously documents all relationships between the hedging instruments and hedged items and links the hedging derivatives to specific assets and liabilities. The Company assesses the effectiveness of the hedges, both at inception and on an on-going basis and determines whether the hedges are highly effective in offsetting changes in fair value of the linked hedged items.
 
The following table provides the total impact on earnings relating to the derivative instruments formally designated as fair value hedges along with the impact of the related hedged items for the three and six months ended June 30, 2013 and 2012:

Foreign currency forward contracts
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
Amount of gain (loss) recognized in income on derivative
 
$
(1,707
)
 
$
1,700

 
$
(445
)
 
$
(1,618
)
Amount of gain (loss) on hedged item recognized in income attributable to risk being hedged
 
$
1,707

 
$
(1,700
)
 
$
445

 
$
1,618

Amount of gain (loss) recognized in income on derivative (ineffective portion)
 
$
—

 
$
—

 
$
—

 
$
—


The gain (loss) is recognized in income within foreign exchange gains (losses).

(c) Derivative instruments designated as a cash flow hedge
The Company designates its interest rate derivative instruments as cash flow hedges and formally and contemporaneously documents all relationships between the hedging instruments and hedged items and links the hedging derivatives to specific assets and liabilities. The Company assesses the effectiveness of the hedges, both at inception and on an on-going basis (as required) and determines whether the hedges are highly effective in offsetting changes in fair value of the linked hedged items. The Company currently applies the long haul method when assessing the hedge's effectiveness.

The following table provides the total impact on other comprehensive income and earnings relating to the derivative instruments formally designated as cash flow hedges along with the impact of the related hedged items for the three and six months ended June 30, 2013:

Interest rate swap contracts
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
Amount of effective portion recognized in other comprehensive income
 
$
2,962

 
$
—

 
$
4,570

 
$
—

Amount of effective portion subsequently reclassified to earnings
 
$
(2,962
)
 
$
—

 
$
(4,570
)
 
$
—

Amount of ineffective portion excluded from effectiveness testing
 
$
—

 
$
—

 
$
—

 
$
—


The above balances relate to interest paid and have been classified as finance expenses in the consolidated statements of comprehensive income. There was no interest rate swap contract activity for the three and six months ended June 30, 2012.


25
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


(d) Balance sheet offsetting

There was no balance sheet offsetting activity as at June 30, 2013 or December 31, 2012.

The Company currently provides cash collateral as security for interest rate swap contracts. The Company does not provide cash collateral or financial instruments as security for foreign currency forward contracts. Our derivative instruments are generally traded under International Swaps and Derivatives Association master netting agreements, which establish terms that apply to all transactions. On a periodic basis, the amounts receivable from or payable to the counterparties are settled in cash. The Company has not elected to settle multiple transactions with an individual counterparty on a net basis.
 
 
 
 
 
 
 
8. Reserve for losses and loss expenses
 
Reserves for losses and loss expenses are based in part upon the estimation of case reserves reported from brokers, insureds and ceding companies. The Company also uses statistical and actuarial methods to estimate ultimate expected losses and loss expenses. The period of time from the occurrence of a loss, the reporting of a loss to the Company and the settlement of the Company's liability may be several months or years. During this period, additional facts and trends may be revealed. As these factors become apparent, case reserves will be adjusted, sometimes requiring an increase or decrease in the overall reserves of the Company, and at other times requiring a reallocation of incurred but not reported reserves to specific case reserves. These estimates are reviewed and adjusted regularly, and such adjustments, if any, are reflected in earnings in the period in which they become known. While management believes that it has made a reasonable estimate of ultimate losses, there can be no assurances that ultimate losses and loss expenses will not exceed the total reserves.

 The following table represents an analysis of paid and unpaid losses and loss expenses incurred and a reconciliation of the beginning and ending unpaid losses and loss expenses for the three and six months ended June 30, 2013 and 2012:
 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013
 
June 30,
2012
 
June 30,
2013
 
June 30,
2012
Reserve for losses and loss expenses, beginning of period
$
3,357,691

 
$
2,649,610

 
$
3,517,573

 
$
2,631,143

Losses and loss expenses recoverable
(429,252
)
 
(351,292
)
 
(439,967
)
 
(372,485
)
Net reserves for losses and loss expenses, beginning of period
2,928,439

 
2,298,318

 
3,077,606

 
2,258,658

Net reserves acquired
948

 
—

 
948

 
—

Increase (decrease) in net losses and loss expenses incurred in respect of losses occurring in:
 

 
 

 
 

 
 

Current year
306,033

 
191,252

 
516,602

 
453,665

Prior years
(40,989
)
 
(37,560
)
 
(106,787
)
 
(67,984
)
Total incurred losses and loss expenses
265,044

 
153,692

 
409,815

 
385,681

Total net paid losses
(312,212
)
 
(220,529
)
 
(572,324
)
 
(424,752
)
Foreign exchange
(17,462
)
 
(11,666
)
 
(51,288
)
 
228

Net reserve for losses and loss expenses, end of period
2,864,757

 
2,219,815

 
2,864,757

 
2,219,815

Losses and loss expenses recoverable
418,693

 
371,484

 
418,693

 
371,484

Reserve for losses and loss expenses, end of period
$
3,283,450

 
$
2,591,299

 
$
3,283,450

 
$
2,591,299

 

26
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


9. Reinsurance
 
The Company enters into reinsurance and retrocession agreements in order to mitigate its accumulation of loss, reduce its liability on individual risks, enable it to underwrite policies with higher limits and increase its aggregate capacity. The cession of insurance and reinsurance does not legally discharge the Company from its primary liability for the full amount of the policies, and the Company is required to pay the loss and bear collection risk if the reinsurer fails to meet its obligations under the reinsurance or retrocession agreement. Amounts recoverable from reinsurers are estimated in a manner consistent with the underlying liabilities.

Credit risk
 
The Company evaluates the financial condition of its reinsurers and monitors concentration of credit risk arising from its exposure to individual reinsurers. The reinsurance program is generally placed with reinsurers whose rating, at the time of placement, was A- or better by Standard & Poor's or the equivalent with other rating agencies. Exposure to a single reinsurer is also controlled with restrictions dependent on rating. At June 30, 2013, 96.9% of reinsurance recoverables (which includes loss reserves recoverable and recoverables on paid losses) were from reinsurers rated A- or better and included $206,746 of IBNR recoverable (December 31, 2012: $185,255). Reinsurance recoverables by reinsurer are as follows:
 
 
June 30, 2013
 
December 31, 2012
 
Reinsurance Recoverable
 
% of Total
 
Reinsurance Recoverable
 
% of Total
Top 10 reinsurers
$
335,954

 
76.2
%
 
$
360,234

 
74.1
%
Other reinsurers’ balances > $1 million
102,523

 
23.2
%
 
115,262

 
23.7
%
Other reinsurers’ balances < $1 million
2,572

 
0.6
%
 
10,906

 
2.2
%
Total
$
441,049

 
100.0
%
 
$
486,402

 
100.0
%
 
 
June 30, 2013
Top 10 Reinsurers
 
Rating
 
Reinsurance Recoverable
 
% of Total
Lloyd’s Syndicates
 
A+
 
$
68,745

 
20.5
%
National Indemnity
 
AA+
 
59,667

 
17.8
%
Everest Re
 
A+
 
54,832

 
16.3
%
Hannover Re
 
AA-
 
42,446

 
12.6
%
Fully Collateralized
 
NR
 
36,206

 
10.8
%
Transatlantic Re
 
A+
 
18,922

 
5.6
%
Swiss Re
 
AA-
 
16,106

 
4.8
%
XL Re
 
A
 
13,517

 
4.0
%
Third Point Re
 
A-
 
13,254

 
3.9
%
Munich Re
 
AA-
 
12,259

 
3.7
%
Total
 
 
 
$
335,954

 
100.0
%

27
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
 
December 31, 2012
Top 10 Reinsurers
 
Rating
 
Reinsurance Recoverable
 
% of Total
Lloyd’s Syndicates
 
A+
 
$
71,469

 
19.9
%
National Indemnity
 
AA+
 
59,941

 
16.6
%
Everest Re
 
A+
 
51,340

 
14.3
%
Fully Collateralized
 
NR
 
47,445

 
13.2
%
Hannover Re
 
AA-
 
40,552

 
11.3
%
Munich Re
 
AA-
 
20,954

 
5.8
%
Transatlantic Re
 
A+
 
20,320

 
5.6
%
Swiss Re
 
AA-
 
16,992

 
4.7
%
Allianz
 
AA-
 
16,367

 
4.5
%
XL Re
 
A
 
14,854

 
4.1
%
Total
 
 
 
$
360,234

 
100.0
%
NR: Not rated

At June 30, 2013 and December 31, 2012, the provision for uncollectible reinsurance relating to losses recoverable was $5,983 and $6,602, respectively. To estimate the provision for uncollectible reinsurance recoverable, the reinsurance recoverable is first allocated to applicable reinsurers. This determination is based on a process rather than an estimate, although an element of judgment is applied. As part of this process, ceded IBNR is allocated by reinsurer. Of the $441,049 reinsurance recoverable at June 30, 2013 (December 31, 2012: $486,402), $36,206 was fully collateralized (December 31, 2012: $47,445).

The Company uses a default analysis to estimate uncollectible reinsurance. The primary components of the default analysis are reinsurance recoverable balances by reinsurer and default factors used to determine the portion of a reinsurer's balance deemed to be uncollectible. Default factors require considerable judgment and are determined using the current rating, or rating equivalent, of each reinsurer as well as other key considerations and assumptions.


28
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


10. Share capital
 
(a)
Authorized and issued
 
The Company’s authorized share capital is 571,428,571 common shares with a par value of $0.175 per share. The holders of common shares are entitled to receive dividends. Holders of common shares are allocated one vote per share, provided that, if the controlled shares of any shareholder or group of related shareholders constitute more than 9.09 percent of the outstanding common shares of the Company, their voting power will be reduced to 9.09 percent.

The Company may from time to time repurchase its securities, including common shares, Junior Subordinated Deferrable Debentures, Junior Subordinated Deferrable Interest Notes and Senior Notes. On February 6, 2013, the Board of Directors of the Company announced an increase in the Company's common share purchase authorization to $500,000. This amount is in addition to the $1,206,845 of common shares repurchased by the Company through February 6, 2013 under its previously authorized share repurchase programs.

The Company has repurchased approximately 52,849,445 common shares for an aggregate purchase price of $1,564,029 from the inception of its share repurchase program to June 30, 2013. The Company had $142,816 remaining under its authorized share repurchase program as of June 30, 2013.

On November 30, 2012, the Company acquired all of the outstanding shares of Flagstone from a group of institutional and other investors. Pursuant to the merger agreement, the Company acquired all of Flagstone's outstanding common shares in exchange for the Company's common shares and cash. The Company issued 14,202,664 common shares, net of 87,725 shares withheld for income taxes, valued at $34.87 per share as partial consideration for the acquisition. In addition, 1,638,875 common shares recorded in treasury are owned by Flagstone (Bermuda) Holdings Limited, a wholly-owned subsidiary of Validus Holdings, Ltd. As part of the Flagstone Acquisition, warrants to acquire Flagstone shares were converted into 121,942 warrants to acquire the Company's common shares. In accordance with the merger agreement, these warrants have a $62.02 strike price and expire on December 31, 2013.

The Company expects the purchases under its share repurchase program to be made from time to time in the open market or in privately negotiated transactions. The timing, form and amount of the share repurchases under the program will depend on a variety of factors, including market conditions, the Company’s capital position relative to internal and rating agency targets, legal requirements and other factors. The repurchase program may be modified, extended or terminated by the Board of Directors at any time.
 
The following table is a summary of the common shares issued and outstanding:
 
Common Shares
Common shares issued, December 31, 2012
152,698,191

Restricted share awards vested, net of shares withheld
734,910

Restricted share units vested, net of shares withheld
14,381

Options exercised
235,091

Warrants exercised
508,193

Direct issuance of common stock
183

Performance share awards vested, net of shares withheld
31,897

Deferred share units vested, net of shares withheld
2,935

Common shares issued, June 30, 2013
154,225,781

Shares repurchased, June 30, 2013
(54,488,320
)
Common shares outstanding, June 30, 2013
99,737,461


29
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
Common Shares
Common shares issued, December 31, 2011
134,503,065

Restricted share awards vested, net of shares withheld
687,990

Restricted share units vested, net of shares withheld
12,336

Options exercised
171,100

Common shares issued, June 30, 2012
135,374,491

Shares repurchased, June 30, 2012
(41,963,429
)
Common shares outstanding, June 30, 2012
93,411,062


(b)
Warrants

During the three and six months ended June 30, 2013, 950,644 warrants were exercised which resulted in the issuance of 508,193 common shares. During the three and six months ended June 30, 2012, no warrants were exercised. No further warrants are anticipated to be issued. Holders of the outstanding warrants are entitled to exercise the warrants in whole or in part at any time until the expiration date.
 
(c)
Deferred share units
 
Under the terms of the Company’s Director Stock Compensation Plan, non-management directors may elect to receive their director fees in deferred share units rather than cash.  The number of share units distributed in case of election under the plan is equal to the amount of the annual retainer fee otherwise payable to the director on such payment date divided by 100% of the fair market value of a share on such payment date. Additional deferred share units are issued in lieu of dividends that accrue on these deferred share units.  The total outstanding deferred share units at June 30, 2013 were $nil (December 31, 2012: 5,001).

As of February 16, 2013, John Hendrickson became an employee director. As a result, his 5,039 deferred share units vested and 2,935 common shares were issued to him, net of shares withheld for taxes.

(d)
Dividends

On February 6, 2013, the Company announced a special dividend in the amount of $2.00 per common share and $2.00 per common share equivalent for which each outstanding warrant is exercisable (the "2013 Special Dividend"). The 2013 Special Dividend was paid on February 26, 2013 to shareholders and warrant holders of record as of February 19, 2013.

In addition, the Company announced a quarterly cash dividend of $0.30 (2012: $0.25) per common share and $0.30 per common share equivalent for which each outstanding warrant is exercisable. This dividend was paid on March 29, 2013 to holders of record on March 15, 2013.

On May 1, 2013, the Company announced a quarterly cash dividend of $0.30 (2012: $0.25) per common share and $0.30 per common share equivalent for which each outstanding warrant is exercisable. This dividend was paid on June 28, 2013 to holders of record on June 14, 2013.

11. Stock plans
 
Long Term Incentive Plan and Short Term Incentive Plan
 
The Company’s Amended and Restated 2005 Long Term Incentive Plan (“LTIP”) provides for grants to employees of options, stock appreciation rights (“SARs”), restricted shares, restricted share units, performance shares, dividend equivalents or other share-based awards. In addition, the Company may issue restricted share awards or restricted share units in connection with awards issued under its annual Short Term Incentive Plan (“STIP”). The total number of shares reserved for issuance under the LTIP and STIP are 13,126,896 shares of which 1,868,465 shares are remaining. The LTIP and STIP are administered by the Compensation Committee of the Board of Directors. No SARs have been granted to date. Grant prices are established at the fair market value of the Company’s common shares at the date of grant.
 

30
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)



i.Options
 
Options may be exercised for voting common shares upon vesting. Options have a life of 10 years and vest either ratably or at the end of the required service period from the date of grant. Fair value of the option awards at the date of grant is determined using the Black-Scholes option-pricing model.
 
Expected volatility is based on stock price volatility of comparable publicly-traded companies. The Company used the simplified method consistent with U.S. GAAP authoritative guidance on stock compensation expenses to estimate expected lives for options granted during the period as historical exercise data was not available and the options met the requirement as set out in the guidance.
 
The Company has not granted any stock options since September 4, 2009.

Share compensation expenses in respect of options of $nil were recorded for the three months ended June 30, 2013 (2012: $7). Share compensation expenses in respect of options of $nil were recorded for the six months ended June 30, 2013 (2012: $142). The expenses represent the proportionate accrual of the fair value of each grant based on the remaining vesting period.

A modification event was triggered as a result of the 2013 Special Dividend. In accordance with the terms of the LTIP under which the options were issued, an adjustment was required to protect the holders of such stock options from changes in the value of the stock options following the declaration of the 2013 Special Dividend. The modification of the options included a decrease in the exercise price of each stock option and an increase in the number of shares underlying each stock option. The fair value of the options before and after the modification was unchanged.
 
Activity with respect to options for the six months ended June 30, 2013 was as follows:
 
 
Options
 
Weighted Average Grant Date Fair Value
 
Weighted Average Grant Date Exercise Price
Options outstanding, December 31, 2012
1,823,947

 
$
6.52

 
$
20.69

Options regranted (modified)
1,833,414

 
6.76

 
19.02

Options exercised
(235,091
)
 
4.86

 
24.78

Options cancelled (modified)
(1,733,139
)
 
6.76

 
20.12

Options outstanding, June 30, 2013
1,689,131

 
$
6.76

 
$
18.89

Options exercisable, June 30, 2013
1,689,131

 
$
6.76

 
$
18.89


Activity with respect to options for the six months ended June 30, 2012 was as follows: 
 
Options
 
Weighted Average Grant Date Fair Value
 
Weighted Average Grant Date Exercise Price
Options outstanding, December 31, 2011
2,263,012

 
$
6.69

 
$
20.12

Options exercised
(171,100
)
 
7.52

 
17.99

Options outstanding, June 30, 2012
2,091,912

 
$
6.63

 
$
20.29

Options exercisable, June 30, 2012
2,091,912

 
$
6.63

 
$
20.29

 
At June 30, 2013, there were $nil (December 31, 2012: $nil) of total unrecognized share compensation expenses in respect of options that are expected to be recognized over a weighted-average period of 0.0 years (December 31, 2012: 0.0 years).


31
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


ii.Restricted share awards
 
Restricted shares granted under the LTIP and STIP vest either ratably or at the end of the required service period and contain certain restrictions during the vesting period, relating to, among other things, forfeiture in the event of termination of employment and transferability. Share compensation expenses of $5,933 were recorded for the three months ended June 30, 2013 (2012: $6,176). Share compensation expenses of $9,994 were recorded for the six months ended June 30, 2013 (2012: $12,116). The expenses represent the proportionate accrual of the fair value of each grant based on the remaining vesting period.
 
Activity with respect to unvested restricted share awards for the six months ended June 30, 2013 was as follows:
 
Restricted Share Awards
 
Weighted Average Grant Date Fair Value
Restricted share awards outstanding, December 31, 2012
2,170,547

 
$
29.24

Restricted share awards granted
1,491,967

 
36.10

Restricted share awards vested
(890,600
)
 
27.99

Restricted share awards forfeited
(107,221
)
 
28.15

Restricted share awards outstanding, June 30, 2013
2,664,693

 
$
33.54

 
Activity with respect to unvested restricted share awards for the six months ended June 30, 2012 was as follows:
 
Restricted Share Awards
 
Weighted Average Grant Date Fair Value
Restricted share awards outstanding, December 31, 2011
3,003,547

 
$
25.77

Restricted share awards granted
900,725

 
31.38

Restricted share awards vested
(803,917
)
 
25.93

Restricted share awards forfeited
(30,801
)
 
28.10

Restricted share awards outstanding, June 30, 2012
3,069,554

 
$
27.35

 
At June 30, 2013, there were $82,867 (December 31, 2012: $43,952) of total unrecognized share compensation expenses in respect of restricted share awards that are expected to be recognized over a weighted-average period of 3.5 years (December 31, 2012: 2.6 years ).

iii.Restricted share units
 
Restricted share units under the LTIP and STIP vest either ratably or at the end of the required service period and contain certain restrictions during the vesting period, relating to, among other things, forfeiture in the event of termination of employment and transferability. Share compensation expenses of $130 were recorded for the three months ended June 30, 2013 (2012: $111). Share compensation expenses of $251 were recorded for the six months ended June 30, 2013 (2012: $231). The expenses represent the proportionate accrual of the fair value of each grant based on the remaining vesting period.
 
Activity with respect to unvested restricted share units for the six months ended June 30, 2013 was as follows:
 
Restricted Share Units
 
Weighted Average Grant Date Fair Value
Restricted share units outstanding, December 31, 2012
47,238

 
$
29.61

Restricted share units granted
36,635

 
36.11

Restricted share units vested
(21,814
)
 
28.17

Restricted share units issued in lieu of cash dividends
3,380

 
29.74

Restricted share units outstanding, June 30, 2013
65,439

 
$
33.74


32
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
Activity with respect to unvested restricted share units for the six months ended June 30, 2012 was as follows:
 
Restricted Share Units
 
Weighted Average Grant Date Fair Value
Restricted share units outstanding, December 31, 2011
53,312

 
$
27.60

Restricted share units granted
13,625

 
31.38

Restricted share units vested
(18,175
)
 
26.58

Restricted share units issued in lieu of cash dividends
789

 
28.01

Restricted share units forfeited
(1,150
)
 
30.07

Restricted share units outstanding, June 30, 2012
48,401

 
$
29.00

 
At June 30, 2013, there were $2,000 (December 31, 2012: $978) of total unrecognized share compensation expenses in respect of restricted share units that are expected to be recognized over a weighted-average period of 3.7 years (December 31, 2012: 2.6 years).
 
iv.Performance share awards
 
The performance share awards contain a performance based component. The performance component relates to the compounded growth in the Dividend Adjusted Diluted Book Value per Share over a three year period. For performance share awards granted during the period, the grant date Diluted Book Value per Share (“DBVPS”) is based on the DBVPS at the end of the most recent financial reporting year. The Dividend Adjusted Performance Period End DBVPS will be the DBVPS three years after the grant date DBVPS. The fair value estimate earns over the requisite attribution period and the estimate will be reassessed at the end of each performance period which will reflect any adjustments in the consolidated statements of comprehensive income in the period in which they are determined.
 
Share compensation expenses of $575 were recorded for the three months ended June 30, 2013 (2012: $506). Share compensation expenses of ($1,289) were recorded for the six months ended June 30, 2013 (2012: ($251)). The negative expense is due to a reversal of expenses on unvested performance share awards based on a review of current and projected performance criteria.
 
Activity with respect to unvested performance share awards for the six months ended June 30, 2013 was as follows:
 
Performance Share Awards
 
Weighted Average Grant Date Fair Value
Performance share awards outstanding, December 31, 2012
220,845

 
$
31.81

Performance share awards granted
38,386

 
36.11

Performance share awards vested
(39,094
)
 
28.70

Performance share awards forfeited
(18,701
)
 
31.05

Performance share awards conversion adjustment
(99,616
)
 
$
33.05

Performance share awards outstanding, June 30, 2013
101,820

 
$
33.56

 
Activity with respect to unvested performance share awards for the six months ended June 30, 2012 was as follows:

33
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
Performance Share Awards
 
Weighted Average Grant Date Fair Value
Performance share awards outstanding, December 31, 2011
279,019

 
$
30.77

Performance share awards granted
41,128

 
31.38

Performance share awards forfeited
(99,302
)
 
28.70

Performance share awards outstanding, June 30, 2012
220,845

 
$
31.81

 
At June 30, 2013, there were $2,195 (December 31, 2012: $3,328) of total unrecognized share compensation expenses in respect of performance share awards that are expected to be recognized over a weighted-average period of 2.4 years (December 31, 2012: 1.7 years).
 
 Total share compensation expenses
 
The breakdown of share compensation expenses by award type was as follows:
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013
 
June 30,
2012
 
June 30,
2013
 
June 30,
2012
Options
$
—

 
$
7

 
$
—

 
$
142

Restricted share awards
5,933

 
6,176

 
9,994

 
12,116

Restricted share units
130

 
111

 
251

 
231

Performance share awards
575

 
506

 
(1,289
)
 
(251
)
Total
$
6,638

 
$
6,800

 
$
8,956

 
$
12,238

 
12. Debt and financing arrangements
 
(a)
Financing structure and finance expenses
 
The financing structure at June 30, 2013 was:
 
 
Commitment
 
Outstanding (a)
 
Drawn
2006 Junior Subordinated Deferrable Debentures
$
150,000

 
$
150,000

 
$
150,000

2007 Junior Subordinated Deferrable Debentures
200,000

 
139,800

 
139,800

2010 Senior Notes due 2040
250,000

 
250,000

 
247,144

$400,000 syndicated unsecured letter of credit facility
400,000

 
—

 
—

$525,000 syndicated secured letter of credit facility
525,000

 
373,318

 
—

$200,000 bi-lateral secured letter of credit facility
200,000

 
73,532

 
—

Talbot FAL Facility (b)
25,000

 
25,000

 
—

PaCRe senior secured letter of credit facility
10,000

 
258

 
—

IPC bi-lateral facility
40,000

 
24,788

 
—

$375,000 Flagstone bi-lateral facility
375,000

 
313,398

 
—

Flagstone 2006 Junior Subordinated Deferrable Interest Notes
136,926

 
136,926

 
136,926

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
113,750

 
113,750

 
113,750

Total
$
2,425,676

 
$
1,600,770

 
$
787,620

 

34
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The financing structure at December 31, 2012 was:
 
 
Commitment
 
Outstanding (a)
 
Drawn
2006 Junior Subordinated Deferrable Debentures
$
150,000

 
$
150,000

 
$
150,000

2007 Junior Subordinated Deferrable Debentures
200,000

 
139,800

 
139,800

2010 Senior Notes due 2040
250,000

 
250,000

 
247,090

$400,000 syndicated unsecured letter of credit facility
400,000

 
—

 
—

$525,000 syndicated secured letter of credit facility
525,000

 
376,570

 
—

$500,000 secured letter of credit facility
500,000

 
92,402

 
—

Talbot FAL Facility (b)
25,000

 
25,000

 
—

PaCRe senior secured letter of credit facility
10,000

 
219

 
—

IPC bi-lateral facility
80,000

 
40,613

 
—

$550,000 Flagstone bi-lateral facility
550,000

 
381,019

 
—

Flagstone 2006 Junior Subordinated Deferrable Interest Notes
137,159

 
137,159

 
137,159

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
113,750

 
113,750

 
113,750

Total
$
2,940,909

 
$
1,706,532

 
$
787,799

(a)
Indicates utilization of commitment amount, not drawn borrowings.

(b)
Talbot operates in the Lloyd’s market ("Lloyds") through a corporate member, Talbot 2002 Underwriting Capital Ltd (“T02”), which is the sole participant in Syndicate 1183. Lloyd’s sets T02’s required capital annually based on Syndicate 1183’s business plan, rating environment, reserving environment together with input arising from Lloyd’s discussions with, inter alia, regulatory and rating agencies.  Such capital, called Funds at Lloyd’s (“FAL”), comprises: cash, investments and undrawn letters of credit provided by various banks.
 
Finance expenses consist of interest on our junior subordinated deferrable debentures, junior subordinated deferrable interest notes, senior notes, variable funding notes, the amortization of debt offering costs, fees relating to our credit facilities, bank charges and the costs of FAL as follows:
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013

June 30,
2012
 
June 30,
2013
 
June 30,
2012
2006 Junior Subordinated Deferrable Debentures
$
2,211

 
$
1,552

 
$
4,398

 
$
3,101

2007 Junior Subordinated Deferrable Debentures
1,835

 
2,832

 
3,644

 
5,861

2010 Senior Notes due 2040
5,598

 
5,598

 
11,195

 
11,195

Variable Funding Notes (a)
21,478

 
—

 
32,669

 
—

Flagstone 2006 Junior Subordinated Deferrable Interest Notes
2,231

 
—

 
3,703

 
—

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
1,547

 
—

 
2,619

 
—

Credit facilities
2,799

 
3,566

 
3,753

 
9,582

Bank charges
99

 
126

 
232

 
183

Talbot FAL Facility
32

 
32

 
63

 
63

Total
$
37,830

 
$
13,706

 
$
62,276

 
$
29,985

(a)
Includes Variable funding note expense and other AlphaCat related fees. Refer to Note 13: "Variable funding notes" for further details.
 
(b)
$250,000 2010 Senior Notes due 2040
 
On January 21, 2010, the Company offered and sold $250,000 of Senior Notes due 2040 (the “2010 Senior Notes”) in a registered public offering. The 2010 Senior Notes mature on January 26, 2040, and are redeemable at the Company’s option in whole any time or in part from time to time at a make-whole redemption price. The Company may redeem the notes in whole, but not in part, at any time upon the occurrence of certain tax events as described in the prospectus supplement of the 2010 Senior Notes. The 2010 Senior Notes bear interest at the rate of 8.875% per annum from January 26, 2010 to maturity or early redemption. Interest on the 2010 Senior Notes is payable semi-annually in arrears on January 26 and July 26 of each year, commencing on

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Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


July 26, 2010.  The net proceeds of $243,967 from the sale of the 2010 Senior Notes, after the deduction of commissions paid to the underwriters in the transaction and other expenses, was used by the Company for general corporate purposes, which included the repurchase of its outstanding capital stock and payment of dividends to shareholders.  Debt issuance costs of $2,808 were deferred as an asset and amortized over the life of the 2010 Senior Notes. There were no redemptions made during the six months ended June 30, 2013 and 2012.
 
The 2010 Senior Notes are unsecured and unsubordinated obligations of the Company and rank equally in right of payment with all of the Company’s existing and future unsecured and unsubordinated indebtedness.  The 2010 Senior Notes will be effectively junior to all of the Company’s future secured debt, to the extent of the value of the collateral securing such debt, and will rank senior to all our existing and future subordinated debt.  The 2010 Senior Notes are structurally subordinated to all obligations of the Company’s subsidiaries.
 
Future expected payments of principal on the 2010 Senior Notes are as follows:
2013
$
—

2014
—

2015
—

2016
—

2017 and thereafter
250,000

Total minimum future payments
$
250,000

 
(c)
Junior subordinated deferrable debentures and Junior subordinated deferrable interest notes
 
On June 15, 2006, the Company participated in a private placement of $150,000 of junior subordinated deferrable interest debentures due 2036 (the “2006 Junior Subordinated Deferrable Debentures”). The 2006 Junior Subordinated Deferrable Debentures mature on June 15, 2036, are redeemable at the Company’s option at par as of June 15, 2011, and require quarterly interest payments by the Company to the holders of the 2006 Junior Subordinated Deferrable Debentures. Interest was payable at 9.069% per annum through June 15, 2011, and thereafter at a floating rate of three-month LIBOR plus 355 basis points, reset quarterly. The proceeds of $150,000 from the sale of the 2006 Junior Subordinated Deferrable Debentures, after the deduction of commissions paid to the placement agents in the transaction and other expenses, were used by the Company to fund Validus Re segment operations and for general working capital purposes. Debt issuance costs of $3,750 were deferred as an asset and were amortized to income over the five year optional redemption period. There were no redemptions made during the six months ended June 30, 2013 and 2012.
 
On June 21, 2007, the Company participated in a private placement of $200,000 of junior subordinated deferrable interest debentures due 2037 (the “2007 Junior Subordinated Deferrable Debentures”). The 2007 Junior Subordinated Deferrable Debentures mature on June 15, 2037, are redeemable at the Company’s option at par as of June 15, 2012, and require quarterly interest payments by the Company to the holders of the 2007 Junior Subordinated Deferrable Debentures. Interest was payable at 8.480% per annum through June 15, 2012, and thereafter at a floating rate of three-month LIBOR plus 295 basis points, reset quarterly. The proceeds of $200,000 from the sale of the 2007 Junior Subordinated Deferrable Debentures, after the deduction of commissions paid to the placement agents in the transaction and other expenses, were used by the Company to fund the purchase of Talbot Holdings Ltd. Debt issuance costs of $2,000 were deferred as an asset and were amortized to income over the five year optional redemption period. There were no redemptions made during the six months ended June 30, 2013 and 2012.

As part of the Flagstone Acquisition, the Company assumed $136,926 of junior subordinated deferrable interest notes due 2036 (the “Flagstone 2006 Junior Subordinated Deferrable Interest Notes”). The Flagstone 2006 Junior Subordinated Deferrable Interest Notes mature on September 15, 2036, are redeemable at the Company's option at par beginning as of September 15, 2011, and require quarterly interest payments by the Company to the holders of the Flagstone 2006 Junior Subordinated Deferrable Interest Notes. Interest is payable at a floating rate of three-month LIBOR plus 354 basis points, reset quarterly. There were no redemptions made during the six months ended June 30, 2013 and 2012.

 As part of the Flagstone Acquisition, the Company assumed $113,750 of junior subordinated deferrable interest notes due 2037 (the “Flagstone 2007 Junior Subordinated Deferrable Interest Notes”). Of these, $88,750 of the Flagstone 2007 Junior Subordinated Deferrable Interest Notes mature on July 30, 2037, are redeemable at the Company's option at par as of July 30,

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Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


2012, and require quarterly interest payments by the Company to the holders of the Flagstone 2007 Junior Subordinated Deferrable Interest Notes. Interest is payable at a floating rate of three-month LIBOR plus 300 basis points, reset quarterly. The remaining $25,000 of the Flagstone 2007 Junior Subordinated Deferrable Interest Notes mature on September 15, 2037, are redeemable at the Company's option at par as of September 15, 2012, and require quarterly interest payments by the Company to the holders of the Flagstone 2007 Junior Subordinated Deferrable Interest Notes. Interest is payable at a floating rate of three-month LIBOR plus 310 basis points, reset quarterly. There were no redemptions made during the six months ended June 30, 2013 and 2012.
Future expected payments of principal on the 2006 and 2007 Junior Subordinated Deferrable Debentures and Flagstone 2006 and 2007 Junior Subordinated Deferrable Interest Notes are as follows:
2013
$
—

2014
—

2015
—

2016
—

2017 and thereafter
540,709

Total minimum future payments
$
540,709

 
(d)
Credit facilities
 
(i)
$400,000 syndicated unsecured letter of credit facility and $525,000 syndicated secured letter of credit facility
 
On March 9, 2012, the Company, Validus Re Americas, Ltd. ("Validus Re Americas"), PaCRe and Validus Re entered into a $400,000 four year unsecured credit facility with Deutsche Bank Securities Inc., as syndication agent, JPMorgan Chase Bank, N.A. as administrative agent, Lloyds Securities Inc. and Suntrust Bank, as co-documentation agents and the lenders party thereto, which provides for letter of credit availability for the Company and certain designated subsidiaries of the Company and revolving credit availability for the Company (the "Four Year Unsecured Facility") (the full $400,000 of which is available for letters of credit and/or revolving loans). The Four Year Unsecured Facility was provided by a syndicate of commercial banks arranged by J.P. Morgan Securities LLC, Deutsche Bank Securities Inc., Lloyds Securities Inc. and SunTrust Robinson Humphrey, Inc. Letters of credit under the Four Year Unsecured Facility are available to support obligations in connection with the insurance business of the Company and its subsidiaries. Loans under the Four Year Unsecured Facility are available for the general corporate and working capital purposes of the Company. The Company may request that existing lenders under the Four Year Unsecured Facility or prospective additional lenders agree to make available additional commitments from time to time so long as the aggregate commitments under the Four Year Unsecured Facility do not exceed $500,000. Letter of credit fees are payable on account of each letter of credit issued under the Four Year Unsecured Facility at a rate per annum equal to an applicable rate. Borrowings under the Four Year Unsecured Facility bear interest, at the option of the Company, at the base rate (the higher of the prime rate announced by JPMorgan Chase Bank, N.A., the federal funds effective rate plus 0.5%, and the adjusted LIBOR rate plus 1.0%) or the adjusted LIBOR rate applicable to such loans, plus an applicable rate.
 
Also on March 9, 2012, the Company, Validus Re Americas and Validus Re entered into a $525,000 four-year secured credit facility with Deutsche Bank Securities Inc., as syndication agent, JPMorgan Chase Bank, N.A. as administrative agent, Lloyds Securities Inc. and Suntrust Bank, as co-documentation agents and the lenders party thereto, which provides for letter of credit availability for the Company and certain designated subsidiaries of the Company (the "Four Year Secured Facility" and together with the Four Year Unsecured Facility, the "Credit Facilities"). The Four Year Secured Facility was provided by a syndicate of commercial banks arranged by J.P. Morgan Securities LLC, Deutsche Bank Securities Inc., Lloyds Securities Inc. and SunTrust Robinson Humphrey, Inc. Letters of credit under the Four Year Secured Facility will be available to support obligations in connection with the insurance business of the Company and its subsidiaries. The Company may request that existing lenders under the Four Year Secured Facility or prospective additional lenders agree to make available additional commitments from time to time so long as the aggregate commitments under the Four Year Secured Facility do not exceed $700,000. The obligations of the Company and its designated subsidiaries under the Four Year Secured Facility are secured by cash and securities deposited into cash collateral accounts from time to time with The Bank of New York Mellon. Letter of credit fees are payable on account of each letter of credit issued under the Four Year Secured Facility at a rate per annum equal to an applicable rate. Borrowings under the Four Year Secured Facility bear interest at the base rate (the higher of the prime rate announced by JPMorgan Chase Bank, N.A., the federal funds effective rate plus 0.5%, and the adjusted LIBOR rate plus 1.0%).
 

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Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The Credit Facilities contain covenants that include, among other things (i) the requirement that the Company initially maintain a minimum level of consolidated net worth of at least $2,600,000 and, commencing with the end of the fiscal quarter ending March 31, 2012, to be increased quarterly by an amount equal to 50.0% of the Company's consolidated net income (if positive) for such quarter plus 50.0% of the aggregate increases in the consolidated shareholders' equity of the Company during such fiscal quarter by reason of the issuance and sale of common equity interests of the Company, including upon any conversion of debt securities of the Company into such equity interests, (ii) the requirement that the Company maintain at all times a consolidated total debt to consolidated total capital ratio not greater than 0.35:1.00, and (iii) the requirement that Validus Re and any other material insurance subsidiaries maintain a financial strength rating by A.M. Best of not less than "B++" (Fair).  In addition, the Credit Facilities contain customary negative covenants applicable to the Company and its subsidiaries, including limitations on the ability to pay dividends and other payments in respect of equity interests at any time that the Company is otherwise in default with respect to certain provisions under the respective Credit Facilities, limitations on the ability to incur liens, sell assets, merge or consolidate with others, enter into transactions with affiliates, and limitations on the ability of its subsidiaries to incur indebtedness. The Credit Facilities also contain customary affirmative covenants, representations and warranties and events of default for credit facilities of its type.
 
As of June 30, 2013, there was $373,318 in outstanding letters of credit under the Four Year Secured Facility (December 31, 2012: $376,570) and $nil outstanding under the Four Year Unsecured Facility (December 31, 2012: $nil).

As of June 30, 2013, and throughout the reporting periods presented, the Company was in compliance with all covenants and restrictions under the Credit Facilities.
On March 9, 2012, upon entering into the Credit Facilities, the Company terminated its (a) three-year bi-lateral $60,000 unsecured revolving credit facility, dated March 12, 2010 with Lloyds TSB Bank plc, (b) $340,000 three-year unsecured credit facility, dated March 12, 2010 with Deutsche Bank Securities Inc., as syndication agent and JPMorgan Chase Bank, N.A. as administrative agent and (c) $500,000 five-year secured credit facility, dated March 12, 2007 with Deutsche Bank Securities Inc., as syndication agent and JPMorgan Chase Bank, N.A. as administrative agent. No early termination penalties were incurred.

(ii)
Talbot FAL Facility
 
On November 28, 2007, Talbot entered into a $100,000 standby Letter of Credit facility (the “Talbot FAL Facility”) to provide Funds at Lloyd’s for the 2008 and 2009 underwriting years of account; this facility is guaranteed by the Company and is secured against the assets of Validus Re. The Talbot FAL Facility was provided by a syndicate of commercial banks arranged by Lloyds TSB Bank plc and ING Bank N.V., London Branch.
 
On November 19, 2009, the Company entered into an Amendment and Restatement of the Talbot FAL Facility to reduce the commitment from $100,000 to $25,000, and to extend the support to the 2010 and 2011 underwriting years of account. On November 18, 2011, the Company entered into an Amendment and Restatement of the Talbot FAL Facility to extend the support to the 2012 and 2013 underwriting years of account.
 
As amended, the Talbot FAL Facility contains affirmative covenants that include, among other things, (i) the requirement that the Company initially maintain a minimum level of consolidated net worth of at least $2,589,615, and commencing with the end of the fiscal quarter ended December 31, 2011 to be increased quarterly by an amount equal to 50% of our consolidated net income (if positive) for such quarter plus 50% of any net proceeds received from any issuance of common shares during such quarter, and (ii) the requirement that we maintain at all times a consolidated total debt to consolidated total capitalization ratio not greater than 0.35:1.00.
 
The Talbot FAL Facility also contains restrictions on our ability to incur debt at our subsidiaries, incur liens, sell assets and merge or consolidate with others. Other than in respect of existing and future preferred and hybrid securities, the payment of dividends and other payments in respect of equity interests are not permitted at any time that we are in default with respect to certain provisions under the Talbot FAL Facility. As of June 30, 2013, the Company had $25,000 (December 31, 2012: $25,000) in outstanding letters of credit under this facility.
 
As of June 30, 2013, and throughout the reporting periods presented, the Company was in compliance with all covenants and restrictions under the Talbot FAL Facility.
 

38
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


(iii)
IPC Syndicated Facility and IPC bi-lateral facility
 
IPC obtained letters of credit through the IPC Syndicated Facility and the IPC Bi-Lateral Facility. In July 2009, certain terms of these facilities were amended including suspending IPC’s ability to increase existing letters of credit or to issue new letters of credit. Effective March 31, 2010, the IPC Syndicated Facility was closed. During the three months ended June 30, 2013, the commitment of the facility was reduced from $80,000 to $40,000. As of June 30, 2013, $24,788 of outstanding letters of credit were issued under the IPC bi-lateral facility (December 31, 2012: $40,613).
 
As of June 30, 2013, and throughout the reporting periods presented, the Company was in compliance with all covenants and restrictions under the IPC bi-lateral facility.

(iv) $200,000 secured bi-lateral letter of credit facility

On August 10, 2009, Validus Re entered into an uncommitted secured bi-lateral letter of credit facility with Citibank Europe plc (the “secured bi-lateral letter of credit facility”). Letters of credit were first issued under the Secured Bi-Lateral Letter of Credit Facility during the first quarter of 2012. During the three months ended June 30, 2013, the commitment of the facility was reduced from $500,000 to $200,000. As of June 30, 2013, $73,532 of letters of credit were outstanding under the Secured Bi-Lateral Letter of Credit Facility (December 31, 2012: $92,402). The secured bi-lateral letter of credit facility has no fixed termination date and as of June 30, 2013, Validus Re was in compliance with all terms and covenants thereof.

(v) $10,000 PaCRe Senior secured letter of credit facility

On May 11, 2012, PaCRe (as Borrower) and its subsidiary, PaCRe Investments, Ltd. (as Guarantor) entered into a 364-Day secured revolving credit and letter of credit facility with JPMorgan Chase Bank, N.A. This facility provides for revolving borrowings by the Borrower and for letters of credit issued by the Borrower to be used to support its reinsurance obligations in aggregate amount of $10,000. As of June 30, 2013, $258 of letters of credit were outstanding under this facility (December 31, 2012: $219).

As of June 30, 2013, and throughout the reporting periods presented, the Company was in compliance with all covenants and restrictions under the PaCRe Senior secured letter of credit facility.

(vi) $375,000 Flagstone bi-lateral facility

As part of the Flagstone Acquisition, the Company assumed a Letters of Credit Master Agreement between Citibank Europe Plc and Flagstone Reassurance Suisse, S.A. (the “Flagstone bi-lateral facility”). During the three months ended June 30, 2013, the commitment of the facility was reduced from $550,000 to $375,000. At June 30, 2013, the Flagstone bi-lateral facility had $313,398 letters of credit issued and outstanding (December 31, 2012: $381,019).

As of June 30, 2013, and throughout the reporting periods presented, the Company was in compliance with all covenants and restrictions under the Flagstone bi-lateral facility.

13. Variable funding notes

AlphaCat Master Fund Ltd. (“Master Fund”), a Bermuda registered exempt mutual fund company and AlphaCat Reinsurance Ltd. (“AlphaCat Re”), a Bermuda Class 3 licensed insurance company, issued Variable Funding Notes (“VFNs”) to the AlphaCat ILS Funds ("ILS Funds") and AlphaCat 2013. 

The purpose of the VFNs is to enable the ILS Funds to invest in specific contracts or cat bonds through the market facing entities. The economic benefit of the investments is transferred to the ILS Funds and AlphaCat 2013 by way of interim payments, which accrue to the ILS Funds and AlphaCat 2013 according to the earnings in AlphaCat Re and Master Fund. 

The following table presents a summary of the VFNs on the balance sheet as at June 30, 2013: 

39
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
June 30,
2013
AlphaCat 2013
$
208,958

ILS Funds
222,135

Total
$
431,093


For details on the VFNs interest expense which is included in the Company's Consolidated Statements of Comprehensive Income, refer to Note 12: "Debt and financing arrangements."

14. Accumulated other comprehensive income (loss)

The changes in accumulated other comprehensive income ("AOCI"), by component for the three and six months ended June 30, 2013 are as follows:
 
 
Three months ended
 
 
June 30, 2013
 
 
Foreign currency translation adjustments
Beginning Balance - March 31, 2013
(12,738
)
Amounts reclassified to retained earnings
4,290

Current period foreign currency translation adjustments
186

Ending balance - June 30, 2013
(8,262
)
 
 
 
 
 
Six months ended
 
 
June 30, 2013
 
 
Foreign currency translation adjustments
Beginning Balance - December 31, 2012
(2,953
)
Amounts reclassified to retained earnings
4,290

Current period foreign currency translation adjustments
(9,599
)
Ending balance - June 30, 2013
(8,262
)

15. Commitments and contingencies
 
(a)
Concentrations of credit risk

The Company's investments are managed following prudent standards of diversification. The Company attempts to limit its credit exposure by purchasing high quality fixed income investments to maintain an average portfolio, excluding bank loans, credit quality of AA- or higher, with mortgage and commercial mortgage-backed issues having an aggregate weighted average credit quality of AAA. In addition, the Company limits its exposure to any single issuer to 3% or less, excluding government and agency securities. With the exception of the Company's bank loan portfolio, which represents 11.7% of the Company's total investments as at June 30, 2013, the minimum credit rating of any security purchased is Baa3/BBB- and where investments are downgraded, the Company permits a holding of up to 2% in aggregate market value, or 10% with written pre-authorization. At June 30, 2013, 1.3% of the portfolio, excluding bank loans, had a split rating below Baa3/BBB- and the Company did not have an aggregate exposure to any single issuer of more than 1.1% of its investment portfolio, other than with respect to government and agency securities.
(b)
Funds at Lloyd's

Talbot operates in Lloyd's through a corporate member, Talbot 2002 Underwriting Capital Ltd ("T02"), which is the sole participant in Syndicate 1183. Lloyd's sets T02's required capital annually based on Syndicate 1183's business plan, rating environment, reserving environment together with input arising from Lloyd's discussions with, inter alia, regulatory and rating

40
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


agencies. Such capital, called Funds at Lloyd's (“FAL”), comprises: cash, investments and undrawn letters of credit provided by various banks. The amounts of cash, investments and letters of credit at June 30, 2013 amounted to $428,700 (December 31, 2012: $428,700) of which $25,000 is provided under the Talbot FAL Facility (December 31, 2012: $25,000).
The amounts which the Company provides as FAL are not available for distribution to the Company for the payment of dividends. Talbot’s corporate member may also be required to maintain funds under the control of Lloyd’s in excess of its capital requirement and such funds also may not be available for distribution to the Company for the payment of dividends.
The amounts provided under the Talbot FAL Facility would become a liability of the Company in the event of Syndicate 1183 declaring a loss at a level between $403,700 and $428,700 which would call on this arrangement.
(c)
Lloyd's Central Fund

Whenever a member of Lloyd's is unable to pay its debts to policyholders, such debts may be payable by the Lloyd's Central Fund. If Lloyd's determines that the Central Fund needs to be increased, it has the power to assess premium levies on current Lloyd's members up to 3% of a member's underwriting capacity in any one year. The Company does not believe that any assessment is likely in the foreseeable future and has not provided any allowance for such an assessment. However, based on the Company's 2013 underwriting capacity at Lloyd's of £620,000, at the June 30, 2013 exchange rate of £1 equals $1.5216 and assuming the maximum 3% assessment, the Company would be assessed approximately $28,302.
(d) Aquiline Commitment
On December 20, 2011, Validus Re entered into an Assignment and Assumption Agreement (the "Agreement") with Aquiline Capital Partners LLC, a Delaware limited liability company (the "Assignor") and Aquiline Capital Partners II GP (Offshore) Ltd., a Cayman Islands company limited by shares (the "General Partner") pursuant to which Validus Re has assumed 100% of the Assignor's interest in Aquiline Financial Services Fund II L.P. (the "Partnership") representing a total capital commitment of $50,000 (the "Commitment"), as a limited partner in the Partnership (the "Transferred Interest"). The Transferred Interest is governed by the terms of an Amended and Restated Exempted Limited Partnership Agreement dated as of July 2, 2010 (the "Limited Partnership Agreement"). Pursuant to the terms of the Limited Partnership Agreement, the Commitment will expire on July 2, 2015. The Company's remaining commitment at June 30, 2013 was $25,478.

41
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


16. Related party transactions
 
The transactions listed below are classified as related party transactions as each counter party has either a direct or indirect shareholding in the Company.
Aquiline Capital Partners, LLC and its related companies ("Aquiline"), which own 4,946,643 shares in the Company, hold warrants to purchase 2,756,088 shares, and have two employees on the Company's Board of Directors who do not receive compensation from the Company, are shareholders of Group Ark Insurance Holdings Ltd. ("Group Ark"). Christopher E. Watson, a director of the Company, also serves as a director of Group Ark. Pursuant to reinsurance agreements with a subsidiary of Group Ark, the Company recognized gross premiums written during the three and six months ended June 30, 2013 of $1,053 (2012: $1,118) and $2,848 (2012: $1,415) of which $843 was included in premiums receivable at June 30, 2013 (December 31, 2012: $251). The Company also recognized reinsurance premiums ceded during the three and six months ended June 30, 2013 of $nil (2012: $nil) and $4 (2012: $nil). The Company recorded $4,295 of loss reserves recoverable at June 30, 2013 (December 31, 2012: $3,694). Earned premium adjustments of $710 (2012: $370) and $1,429 (2012: $732) were recorded during the three and six months ended June 30, 2013.
Aquiline was previously a shareholder of Tiger Risk Partners LLC (“Tiger Risk”). Christopher E. Watson, a director of the Company serves as a director of Tiger Risk. As of March 31, 2013, Tiger Risk was no longer a related party due to Aquiline's disposal of its investment. Pursuant to certain reinsurance contracts, the Company recognized brokerage expenses paid to Tiger Risk for the three and six months ended June 30, 2012 of $2,070 and $2,360 of which $964 was included in accounts payable and accrued expenses at December 31, 2012.

On November 24, 2009, the Company entered into an Investment Management Agreement with Conning, Inc. ("Conning") to manage a portion of the Company's investment portfolio. Aquiline acquired Conning on June 16, 2009. Jeffrey W. Greenberg, a director of the Company, serves as a director of Conning Holdings Corp., the parent company of Conning and Michael Carpenter, the Chairman of Talbot Holdings Ltd. and a director of the Company, serves as a director of a subsidiary company of Conning Holdings Corp. Investment management fees earned by Conning for the three and six months ended June 30, 2013 were $40 (2012: $205) and $231 (2012: $404) of which $414 was included in accounts payable and accrued expenses at June 30, 2013 (December 31, 2012: $201).
On December 20, 2011, Validus Re entered into an Assignment and Assumption Agreement (the "Agreement") with Aquiline Capital Partners LLC, a Delaware limited liability company (the "Assignor") and Aquiline Capital Partners II GP (Offshore) Ltd., a Cayman Islands company limited by shares (the "General Partner") pursuant to which Validus Re has assumed 100% of the Assignor's interest in Aquiline Financial Services Fund II L.P. (the "Partnership") representing a total capital commitment of $50,000 (the "Commitment"), as a limited partner in the Partnership (the "Transferred Interest"). Messrs. Greenberg and Watson, directors of the Company, serve as managing principal and senior principal, respectively, of Aquiline Capital Partners LLC. For the three and six months ended June 30, 2013, the Company incurred $nil (2012: $450) and $120 (2012: $1,886) in partnership fees and made $5,563 (2012: $3,368) and $6,904 (2012: $4,898) of capital contributions respectively, of which $nil was included in accounts payable and accrued expenses at June 30, 2013 (December 31, 2012: $nil).
Certain shareholders of the Company and their affiliates, as well as the employers or entities otherwise associated with certain directors and officers or their affiliates, have purchased insurance and/or reinsurance from the Company in the ordinary course of business on terms the Company believes were no more favorable to these (re)insureds than those made available to other customers.

42
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


17. Earnings per share
 
The following table sets forth the computation of basic and diluted earnings per share for the three and six months ended June 30, 2013 and 2012: 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2013
 
June 30,
2012
 
June 30,
2013
 
June 30,
2012
Basic earnings per share
 
 
 
 
 

 
 

Net (loss) income
$
(30,254
)

$
122,262


$
190,440


$
246,496

Loss attributable to noncontrolling interest
60,976


45,360


63,525


45,360

Net income available to Validus
30,722


167,622


253,965


291,856

Less: Dividends and distributions declared on outstanding warrants
(1,646
)
 
(1,729
)
 
(16,110
)
 
(3,458
)
Net income available to common shareholders
$
29,076

 
$
165,893

 
$
237,855

 
$
288,398

 
 
 
 
 
 
 
 
Weighted average number of common shares outstanding
103,133,188

 
98,254,186

 
105,259,813

 
98,839,663

 
 
 
 
 
 
 
 
Basic earnings per share available to common shareholders
$
0.28

 
$
1.69

 
$
2.26

 
$
2.92

 
 
 
 
 
 
 
 
Diluted earnings per share
 
 
 
 
 

 
 

Net (loss) income
$
(30,254
)
 
$
122,262

 
$
190,440

 
$
246,496

Loss attributable to noncontrolling interest
60,976

 
45,360

 
63,525

 
45,360

Net income available to Validus
30,722

 
167,622

 
253,965

 
291,856

Less: Dividends and distributions declared on outstanding warrants
(1,646
)
 
—

 
(16,110
)
 
—

Net income available to common shareholders
$
29,076

 
$
167,622

 
$
237,855

 
$
291,856

 
 
 
 
 
 
 
 
Weighted average number of common shares outstanding
103,133,188

 
98,254,186

 
105,259,813

 
98,839,663

Share equivalents:
 
 
 
 
 
 
 
Warrants
—

 
3,077,136

 
—

 
3,050,054

Stock options
857,179

 
801,180

 
1,244,368

 
807,522

Unvested restricted shares
744,276

 
1,535,465

 
889,641

 
1,684,791

Weighted average number of diluted common shares outstanding
104,734,643

 
103,667,967

 
107,393,822

 
104,382,030

 
 
 
 
 
 
 
 
Diluted earnings per share available to common shareholders
$
0.28

 
$
1.62

 
$
2.21

 
$
2.80


Share equivalents that would result in the issuance of common shares of 1,163,413 (2012: 675,478) and 633,910 (2012: 346,070) were outstanding for the three and six months ended June 30, 2013, respectively, but were not included in the computation of diluted earnings per share because the effect would be antidilutive.
 
18. Segment information
 
The Company conducts its operations worldwide through two wholly-owned subsidiaries, Validus Reinsurance, Ltd. and Talbot Holdings Ltd. from which three operating segments have been determined under U.S. GAAP segment reporting. During the first quarter of 2012, to better align the Company's operating and reporting structure with its current strategy, there was a change in the segment structure. This change included the AlphaCat group of companies as a separate operating segment. "AlphaCat segment" was included as an additional segment and includes the Company's investments in AlphaCat Re 2011, AlphaCat Re 2012, AlphaCat 2013, PaCRe and the AlphaCat ILS funds. The Company's operating segments are strategic business units that offer different products and services. They are managed and have capital allocated separately because each business requires different strategies.

43
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
Validus Re Segment
 
The Validus Re segment is focused on short-tail lines of reinsurance. The primary lines in which the segment conducts business are property, marine and specialty which includes agriculture, aerospace and aviation, financial lines of business, nuclear, terrorism, life, accident & health, workers' compensation, crisis management, contingency, motor, technical lines and composite.
 
AlphaCat Segment
 
The AlphaCat segment manages strategic relationships that leverage the Company's underwriting and investment expertise and earns management, performance and underwriting fees primarily from the Company's operating affiliates, AlphaCat Re 2011, AlphaCat Re 2012 and AlphaCat 2013 as well as investments in PaCRe and the AlphaCat ILS funds.
 
Talbot Segment
 
The Talbot segment focuses on a wide range of marine and energy, war, political violence, commercial property, financial institutions, contingency, accident & health and aviation classes of business on an insurance or facultative reinsurance basis and principally property, aerospace and marine classes of business on a treaty reinsurance basis.
 
Corporate and other reconciling items
 
The Company has a "Corporate" function, which includes the activities of the parent company, and which carries out certain functions for the group. "Corporate" includes non-core underwriting expenses, predominantly general and administrative and stock compensation expenses. "Corporate" also denotes the activities of certain key executives such as the Chief Executive Officer and Chief Financial Officer. For internal reporting purposes, "Corporate" is reflected separately, however "Corporate" is not considered an operating segment under these circumstances. Other reconciling items include, but are not limited to, the elimination of intersegment revenues and expenses and unusual items that are not allocated to segments.


44
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The following tables summarize the results of our operating segments and "Corporate":
Three Months Ended June 30, 2013
 
Validus Re Segment
 
AlphaCat Segment
 
Talbot Segment
 
Corporate & Eliminations
 
Total
Underwriting income
 
 

 
 
 
 

 
 

 
 

Gross premiums written
 
$
353,384

 
$
46,760

 
$
315,518

 
$
(13,349
)
 
$
702,313

Reinsurance premiums ceded
 
(87,558
)
 
—

 
(47,187
)
 
13,349

 
(121,396
)
Net premiums written
 
265,826

 
46,760

 
268,331

 
—

 
580,917

Change in unearned premiums
 
38,925

 
(11,770
)
 
(60,614
)
 
—

 
(33,459
)
Net premiums earned
 
304,751

 
34,990

 
207,717

 
—

 
547,458

 
 
 
 
 
 
 
 
 
 
 
Underwriting deductions
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses
 
183,646

 
1,313

 
80,085

 
—

 
265,044

Policy acquisition costs
 
42,789

 
3,586

 
41,667

 
(890
)
 
87,152

General and administrative expenses
 
20,423

 
3,992

 
32,192

 
14,360

 
70,967

Share compensation expenses
 
1,529

 
85

 
2,357

 
2,667

 
6,638

Total underwriting deductions
 
248,387

 
8,976

 
156,301

 
16,137

 
429,801

 
 
 
 
 
 
 
 
 
 
 
Underwriting income (loss)
 
$
56,364

 
$
26,014

 
$
51,416

 
$
(16,137
)
 
$
117,657

 
 
 
 
 
 
 
 
 
 
 
Net investment income
 
22,949

 
973

 
4,383

 
(2,095
)
 
26,210

Other income
 
(361
)
 
7,015

 
491

 
(2,727
)
 
4,418

Finance expenses
 
(5,241
)
 
(23,209
)
 
(75
)
 
(9,305
)
 
(37,830
)
Operating income (loss) before taxes and income from operating affiliates
 
73,711

 
10,793

 
56,215

 
(30,264
)
 
110,455

Tax (expense) benefit
 
(145
)
 
—

 
383

 
(331
)
 
(93
)
Income from operating affiliates
 
—

 
3,793

 
—

 
—

 
3,793

Net operating income (loss)
 
$
73,566

 
$
14,586

 
$
56,598

 
$
(30,595
)
 
$
114,155

 
 
 
 
 
 
 
 
 
 
 
Net realized gains on investments
 
2,754

 
—

 
655

 
—

 
3,409

Net unrealized (losses) on investments
 
(57,834
)
 
(70,386
)
 
(13,128
)
 
—

 
(141,348
)
Income from investment affiliate
 
1,753

 
—

 
—

 
—

 
1,753

Foreign exchange (losses) gains
 
(5,882
)
 
136

 
(2,197
)
 
(280
)
 
(8,223
)
Net income (loss)
 
$
14,357

 
$
(55,664
)
 
$
41,928

 
$
(30,875
)
 
$
(30,254
)
 
 
 
 
 
 
 
 
 
 
 
Net loss attributable to noncontrolling interest
 
—

 
60,976

 
—

 
—

 
60,976

Net income (loss) available (attributable) to Validus
 
$
14,357

 
$
5,312

 
$
41,928

 
$
(30,875
)
 
$
30,722

 
 
 
 
 
 
 
 
 
 
 
Selected ratios:
 
 
 
 
 
 
 
 
 
 
Net premiums written / Gross premiums written
 
75.2
%
 
100.0
%
 
85.0
%
 
 
 
82.7
%
 
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses (a)
 
60.3
%
 
3.8
%
 
38.6
%
 
 
 
48.4
%
 
 
 
 
 
 
 
 
 
 
 
Policy acquisition costs (a)
 
14.0
%
 
10.2
%
 
20.1
%
 
 
 
15.9
%
General and administrative expenses (a) (b)
 
7.2
%
 
11.7
%
 
16.6
%
 
 
 
14.2
%
Expense ratio (a)
 
21.2
%
 
21.9
%
 
36.7
%
 
 
 
30.1
%
 
 
 
 
 
 
 
 
 
 
 
Combined ratio (a)
 
81.5
%
 
25.7
%
 
75.3
%
 
 
 
78.5
%
 
 
 
 
 
 
 
 
 
 
 
Total assets
 
$
6,107,318


$
1,379,452


$
2,897,998


$
203,611


$
10,588,379

(a)
Ratios are based on net premiums earned.
(b)
The general and administrative expense ratio includes share compensation expenses.


    


45
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


Three Months Ended June 30, 2012
 
Validus Re Segment
 
AlphaCat Segment
 
Talbot Segment
 
Corporate & Eliminations
 
Total
Underwriting income
 
 

 
 
 
 

 
 

 
 

Gross premiums written
 
$
340,850

 
$
15,155

 
$
283,528

 
$
(12,444
)
 
$
627,089

Reinsurance premiums ceded
 
(97,077
)
 
—

 
(34,419
)
 
12,444

 
(119,052
)
Net premiums written
 
243,773

 
15,155

 
249,109

 
—

 
508,037

Change in unearned premiums
 
(1,087
)
 
(11,568
)
 
(47,755
)
 
—

 
(60,410
)
Net premiums earned
 
242,686

 
3,587

 
201,354

 
—

 
447,627

 
 
 
 
 
 
 
 
 
 
 
Underwriting deductions
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses
 
53,190

 
—

 
100,502

 
—

 
153,692

Policy acquisition costs
 
37,084

 
382

 
41,803

 
(3,140
)
 
76,129

General and administrative expenses
 
14,142

 
2,402

 
30,957

 
14,134

 
61,635

Share compensation expenses
 
1,966

 
59

 
1,799

 
2,976

 
6,800

Total underwriting deductions
 
106,382

 
2,843

 
175,061

 
13,970

 
298,256

 
 
 
 
 
 
 
 
 
 
 
Underwriting income (loss)
 
$
136,304

 
$
744

 
$
26,293

 
$
(13,970
)
 
$
149,371

 
 
 
 
 
 
 
 
 
 
 
Net investment income
 
21,694

 
820

 
5,425

 
(2,054
)
 
25,885

Other income
 
467

 
6,589

 
327

 
(1,389
)
 
5,994

Finance expenses
 
(2,145
)
 
(437
)
 
(120
)
 
(11,004
)
 
(13,706
)
Operating income (loss) before taxes and income from operating affiliates
 
156,320

 
7,716

 
31,925

 
(28,417
)
 
167,544

Tax (expense) benefit
 
(2
)
 
—

 
(419
)
 
17

 
(404
)
Income from operating affiliates
 
—

 
3,592

 
—

 
—

 
3,592

Net operating income (loss)
 
$
156,318

 
$
11,308

 
$
31,506

 
$
(28,400
)
 
$
170,732

 
 
 
 
 
 
 
 
 
 
 
Net realized gains (losses) on investments
 
4,823

 
(84
)
 
1,415

 
—

 
6,154

Net unrealized (losses) on investments
 
(3,697
)
 
(49,519
)
 
(358
)
 
—

 
(53,574
)
(Loss) from investment affiliate
 
(398
)
 
—

 
—

 
—

 
(398
)
Foreign exchange gains (losses)
 
2,715

 
26

 
(3,435
)
 
42

 
(652
)
Net income (loss)
 
$
159,761

 
$
(38,269
)
 
$
29,128

 
$
(28,358
)
 
$
122,262

 
 
 
 
 
 
 
 
 
 
 
Net loss attributable to noncontrolling interest
 
—

 
45,360

 
—

 
—

 
45,360

Net income (loss) available (attributable) to Validus
 
$
159,761

 
$
7,091

 
$
29,128

 
$
(28,358
)
 
$
167,622

 
 
 
 
 
 
 
 
 
 
 
Selected ratios:
 
 
 
 
 
 
 
 
 
 
Net premiums written / Gross premiums written
 
71.5
%
 
100.0
%
 
87.9
%
 
 
 
81.0
%
 
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses (a)
 
21.9
%
 
0.0
%
 
49.9
%
 
 
 
34.3
%
 
 
 
 
 
 
 
 
 
 
 
Policy acquisition costs (a)
 
15.3
%
 
10.6
%
 
20.8
%
 
 
 
17.0
%
General and administrative expenses (a) (b)
 
6.6
%
 
68.6
%
 
16.3
%
 
 
 
15.3
%
Expense ratio (a)
 
21.9
%
 
79.2
%
 
37.1
%
 
 
 
32.3
%
 
 
 
 
 
 
 
 
 
 
 
Combined ratio (a)
 
43.8
%
 
79.2
%
 
87.0
%
 
 
 
66.6
%
 
 
 
 
 
 
 
 
 
 
 
Total assets
 
$
4,846,607


$
696,236


$
2,931,430


$
25,295


$
8,499,568

(a)
Ratios are based on net premiums earned.
(b)
The general and administrative expense ratio includes share compensation expenses.



46
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


Six Months Ended June 30, 2013
 
Validus Re Segment
 
AlphaCat Segment
 
Talbot Segment
 
Corporate & Eliminations
 
Total
Underwriting income
 
 

 
 
 
 

 
 

 
 

Gross premiums written
 
$
1,101,347

 
$
143,276

 
$
609,048

 
$
(46,598
)
 
$
1,807,073

Reinsurance premiums ceded
 
(213,286
)
 
—

 
(141,924
)
 
46,598

 
(308,612
)
Net premiums written
 
888,061

 
143,276

 
467,124

 
—

 
1,498,461

Change in unearned premiums
 
(280,176
)
 
(80,669
)
 
(59,097
)
 
—

 
(419,942
)
Net premiums earned
 
607,885

 
62,607

 
408,027

 
—

 
1,078,519

 
 
 
 
 
 
 
 
 
 
 
Underwriting deductions
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses
 
257,048

 
1,313

 
151,454


—


409,815

Policy acquisition costs
 
94,533

 
6,224

 
82,193


(2,187
)

180,763

General and administrative expenses
 
49,864

 
8,029

 
63,104


30,249


151,246

Share compensation expenses
 
2,942

 
162

 
3,762


2,090


8,956

Total underwriting deductions
 
404,387

 
15,728

 
300,513


30,152


750,780

 
 
 
 
 
 
 
 
 
 
 
Underwriting income (loss)
 
$
203,498


$
46,879


$
107,514


$
(30,152
)

$
327,739

 
 
 
 
 
 
 
 
 
 
 
Net investment income
 
46,142


1,854


9,101


(5,238
)

51,859

Other income
 
13,129


13,648


491


(20,165
)

7,103

Finance expenses
 
(8,493
)

(34,534
)

(149
)

(19,100
)

(62,276
)
Operating income (loss) before taxes and income from operating affiliates
 
254,276


27,847


116,957


(74,655
)

324,425

Tax benefit (expense)
 
1,612


—


(671
)

(716
)

225

Income from operating affiliates
 
—


7,316


—


—


7,316

Net operating income (loss)
 
$
255,888


$
35,163


$
116,286


$
(75,371
)

$
331,966

 
 
 
 
 
 
 
 
 
 
 
Net realized gains on investments
 
4,347


—


783


—


5,130

Net unrealized (losses) on investments
 
(60,027
)

(75,174
)

(13,384
)

—


(148,585
)
Income from investment affiliate
 
3,230


—


—


—


3,230

Foreign exchange gains (losses)
 
5,280


(1,051
)

(6,115
)

585


(1,301
)
Net income (loss)
 
$
208,718


$
(41,062
)

$
97,570


$
(74,786
)

$
190,440

 
 
 
 
 
 
 
 
 
 
 
Net loss attributable to noncontrolling interest
 
—


63,525


—


—


63,525

Net income (loss) available (attributable) to Validus
 
$
208,718


$
22,463


$
97,570


$
(74,786
)

$
253,965

 
 
 
 
 
 
 
 
 
 
 
Selected ratios:
 
 
 
 
 
 
 
 
 
 
Net premiums written / Gross premiums written
 
80.6
%

100.0
%

76.7
%




82.9
%
 
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses (a)
 
42.3
%

2.1
%

37.1
%




38.0
%
 
 
 
 
 
 
 
 
 
 
 
Policy acquisition costs (a)
 
15.6
%

9.9
%

20.1
%




16.8
%
General and administrative expenses (a) (b)
 
8.7
%

13.1
%

16.4
%




14.9
%
Expense ratio (a)
 
24.3
%

23.0
%

36.5
%




31.7
%
 
 
 
 
 
 
 
 
 
 
 
Combined ratio (a)
 
66.6
%

25.1
%

73.6
%




69.7
%
 
 
 
 
 
 
 
 
 
 
 
Total assets
 
$
6,107,318


$
1,379,452


$
2,897,998


$
203,611


$
10,588,379

(a)
Ratios are based on net premiums earned.
(b)
The general and administrative expense ratio includes share compensation expenses.



47
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


Six Months Ended June 30, 2012
 
Validus Re Segment
 
AlphaCat Segment
 
Talbot Segment
 
Corporate & Eliminations
 
Total
Underwriting income
 
 

 
 
 
 

 
 

 
 

Gross premiums written
 
$
907,716

 
$
18,673

 
$
576,781

 
$
(38,792
)
 
$
1,464,378

Reinsurance premiums ceded
 
(127,078
)
 
—

 
(137,818
)
 
38,792

 
(226,104
)
Net premiums written
 
780,638

 
18,673

 
438,963

 
—

 
1,238,274

Change in unearned premiums
 
(284,943
)
 
(12,423
)
 
(42,082
)
 
—

 
(339,448
)
Net premiums earned
 
495,695

 
6,250

 
396,881

 
—

 
898,826

 
 
 
 
 
 
 
 
 
 
 
Underwriting deductions
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses
 
177,396

 
—

 
208,285

 
—

 
385,681

Policy acquisition costs
 
75,874

 
638

 
80,541

 
(2,792
)
 
154,261

General and administrative expenses
 
31,394

 
3,434

 
64,305

 
28,877

 
128,010

Share compensation expenses
 
3,838

 
111

 
3,147

 
5,142

 
12,238

Total underwriting deductions
 
288,502

 
4,183

 
356,278

 
31,227

 
680,190

 
 
 
 
 
 
 
 
 
 
 
Underwriting income (loss)
 
$
207,193

 
$
2,067

 
$
40,603

 
$
(31,227
)
 
$
218,636

 
 
 
 
 
 
 
 
 
 
 
Net investment income
 
45,271

 
1,479

 
11,215

 
(4,320
)
 
53,645

Other income
 
2,686

 
14,563

 
1,353

 
(3,717
)
 
14,885

Finance expenses
 
(5,839
)
 
(439
)
 
(151
)
 
(23,556
)
 
(29,985
)
Operating income (loss) before taxes and income from operating affiliates
 
249,311

 
17,670

 
53,020

 
(62,820
)
 
257,181

Tax (expense) benefit
 
(9
)
 
—

 
(551
)
 
17

 
(543
)
Income from operating affiliates
 
—

 
6,959

 
—

 
—

 
6,959

Net operating income (loss)
 
$
249,302

 
$
24,629

 
$
52,469

 
$
(62,803
)
 
$
263,597

 
 
 
 
 
 
 
 
 
 
 
Net realized gains (losses) on investments
 
11,065

 
(84
)
 
2,705

 
—

 
13,686

Net unrealized gains (losses) on investments
 
16,168

 
(50,116
)
 
1,045

 
—

 
(32,903
)
(Loss) from investment affiliate
 
(398
)
 
—

 
—

 
—

 
(398
)
Foreign exchange gains (losses)
 
2,453

 
17

 
188

 
(144
)
 
2,514

Net income (loss)
 
$
278,590

 
$
(25,554
)
 
$
56,407

 
$
(62,947
)
 
$
246,496

 
 
 
 
 
 
 
 
 
 
 
Net loss attributable to noncontrolling interest
 
—

 
45,360

 
—

 
—

 
45,360

Net income (loss) available (attributable) to Validus
 
$
278,590

 
$
19,806

 
$
56,407

 
$
(62,947
)
 
$
291,856

 
 
 
 
 
 
 
 
 
 
 
Selected ratios:
 
 
 
 
 
 
 
 
 
 
Net premiums written / Gross premiums written
 
86.0
%
 
100.0
%
 
76.1
%
 
 
 
84.6
%
 
 
 
 
 
 
 
 
 
 
 
Losses and loss expenses (a)
 
35.8
%
 
0.0
%
 
52.5
%
 
 
 
42.9
%
 
 
 
 
 
 
 
 
 
 
 
Policy acquisition costs (a)
 
15.3
%
 
10.2
%
 
20.3
%
 
 
 
17.2
%
General and administrative expenses (a) (b)
 
7.1
%
 
56.7
%
 
17.0
%
 
 
 
15.6
%
Expense ratio (a)
 
22.4
%
 
66.9
%
 
37.3
%
 
 
 
32.8
%
 
 
 
 
 
 
 
 
 
 
 
Combined ratio (a)
 
58.2
%
 
66.9
%
 
89.8
%
 
 
 
75.7
%
 
 
 
 
 
 
 
 
 
 
 
Total assets
 
$
4,846,607

 
$
696,236

 
$
2,931,430

 
$
25,295

 
$
8,499,568

(a)
Ratios are based on net premiums earned.
(b)
The general and administrative expense ratio includes share compensation expenses.

48
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


The Company’s exposures are generally diversified across geographic zones. The following tables set forth the gross premiums written allocated to the territory of coverage exposure for the periods indicated:
 
Three Months Ended June 30, 2013
 
Gross Premiums Written
 
Validus Re
 
AlphaCat
 
Talbot
 
Eliminations
 
Total
 
%
United States
$
194,631

 
$
30,900

 
$
35,516

 
$
(1,630
)
 
$
259,417

 
36.9
%
Worldwide excluding United States (a)
2,201

 
112

 
35,353

 
(419
)
 
37,247

 
5.2
%
Australia and New Zealand
5,572

 
—

 
2,020

 
(1
)
 
7,591

 
1.1
%
Europe
19,864

 
173

 
13,434

 
(58
)
 
33,413

 
4.8
%
Latin America and Caribbean
(8,435
)
 
—

 
44,036

 
(741
)
 
34,860

 
5.0
%
Japan
43,839

 
653

 
3,538

 
(796
)
 
47,234

 
6.7
%
Canada
392

 
—

 
3,335

 
(71
)
 
3,656

 
0.5
%
Rest of the world (b)
4,491

 
—

 
22,322

 
(467
)
 
26,346

 
3.8
%
Sub-total, non United States
67,924

 
938

 
124,038

 
(2,553
)
 
190,347

 
27.1
%
Worldwide including United States (a)
50,470

 
14,922

 
26,596

 
(4,860
)
 
87,128

 
12.4
%
Other location non-specific (c)
40,359

 
—

 
129,368

 
(4,306
)
 
165,421

 
23.6
%
Total
$
353,384

 
$
46,760

 
$
315,518

 
$
(13,349
)
 
$
702,313

 
100.0
%

 
Three Months Ended June 30, 2012
 
Gross Premiums Written
 
Validus Re
 
AlphaCat
 
Talbot
 
Eliminations
 
Total
 
%
United States
$
187,418

 
$
9,106

 
$
23,473

 
$
(1,626
)
 
$
218,371

 
34.8
 %
Worldwide excluding United States (a)
7,088

 
(1
)
 
79,009

 
(4,041
)
 
82,055

 
13.1
 %
Australia and New Zealand
7,802

 
—

 
1,768

 
(36
)
 
9,534

 
1.5
 %
Europe
11,681

 
482

 
14,198

 
(585
)
 
25,776

 
4.1
 %
Latin America and Caribbean
1,368

 
—

 
34,934

 
(1,368
)
 
34,934

 
5.6
 %
Japan
32,127

 
—

 
3,427

 
(212
)
 
35,342

 
5.6
 %
Canada
63

 
—

 
2,148

 
(58
)
 
2,153

 
0.3
 %
Rest of the world (b)
157

 
—

 
(20,482
)
 
1,840

 
(18,485
)
 
(2.9
)%
Sub-total, non United States
60,286

 
481

 
115,002

 
(4,460
)
 
171,309

 
27.3
 %
Worldwide including United States (a)
45,600

 
5,568

 
18,369

 
(873
)
 
68,664

 
10.9
 %
Other location non-specific (c)
47,546

 
—

 
126,684

 
(5,485
)
 
168,745

 
26.9
 %
Total
$
340,850

 
$
15,155

 
$
283,528

 
$
(12,444
)
 
$
627,089

 
100.0
 %
(a)
Represents risks in two or more geographic zones.
(b)
Represents risks in one geographic zone.
(c)
The Other location non-specific category refers to business for which an analysis of exposure by geographic zone is not applicable such as marine and aerospace risks and can span multiple geographic areas and are not fixed locations in some instances.


49
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


 
Six Months Ended June 30, 2013
 
Gross Premiums Written
 
Validus Re
 
AlphaCat
 
Talbot
 
Eliminations
 
Total
 
%
United States
$
431,127

 
$
48,389

 
$
56,057

 
$
(8,494
)
 
$
527,079

 
29.1
%
 
 
 
 
 
 
 
 
 
 
 
 
Worldwide excluding United States (a)
52,509

 
14,801

 
74,811

 
(4,927
)
 
137,194

 
7.6
%
Australia and New Zealand
30,598

 
2,183

 
5,025

 
(231
)
 
37,575

 
2.1
%
Europe
60,734

 
2,137

 
31,745

 
(2,906
)
 
91,710

 
5.1
%
Latin America and Caribbean
(17
)
 
—

 
86,036

 
(3,959
)
 
82,060

 
4.5
%
Japan
44,576

 
653

 
4,192

 
(846
)
 
48,575

 
2.7
%
Canada
3,034

 
318

 
6,041

 
(596
)
 
8,797

 
0.5
%
Rest of the world (b)
23,570

 
—

 
40,636

 
(1,870
)
 
62,336

 
3.4
%
Sub-total, non United States
215,004

 
20,092

 
248,486

 
(15,335
)
 
468,247

 
25.9
%
Worldwide including United States (a)
151,010

 
74,795

 
45,752

 
(8,549
)
 
263,008

 
14.6
%
Other location non-specific (c)
304,206

 
—

 
258,753

 
(14,220
)
 
548,739

 
30.4
%
Total
$
1,101,347

 
$
143,276

 
$
609,048

 
$
(46,598
)
 
$
1,807,073

 
100.0
%
 
Six Months Ended June 30, 2012
 
Gross Premiums Written
 
Validus Re
 
AlphaCat
 
Talbot
 
Eliminations
 
Total
 
%
United States
$
294,354

 
$
10,432

 
$
41,899

 
$
(3,282
)
 
$
343,403

 
23.5
%
 
 
 
 
 
 
 
 
 
 
 
 
Worldwide excluding United States (a)
44,204

 
278

 
130,326

 
(8,652
)
 
166,156

 
11.3
%
Australia and New Zealand
32,587

 
—

 
5,302

 
(352
)
 
37,537

 
2.6
%
Europe
56,955

 
820

 
29,445

 
(1,955
)
 
85,265

 
5.8
%
Latin America and Caribbean
5,157

 
—

 
75,504

 
(5,013
)
 
75,648

 
5.2
%
Japan
30,816

 
—

 
4,087

 
(271
)
 
34,632

 
2.3
%
Canada
2,493

 
—

 
5,670

 
(376
)
 
7,787

 
0.5
%
Rest of the world (b)
17,554

 
—

 
—

 
—

 
17,554

 
1.2
%
Sub-total, non United States
189,766

 
1,098

 
250,334

 
(16,619
)
 
424,579

 
29.0
%
Worldwide including United States (a)
149,175

 
7,143

 
33,166

 
(2,202
)
 
187,282

 
12.8
%
Other location non-specific (c)
274,421

 
—

 
251,382

 
(16,689
)
 
509,114

 
34.8
%
Total
$
907,716

 
$
18,673

 
$
576,781

 
$
(38,792
)
 
$
1,464,378

 
100.0
%
(a)
Represents risks in two or more geographic zones.
(b)
Represents risks in one geographic zone.
(c)
The Other location non-specific category refers to business for which an analysis of exposure by geographic zone is not applicable such as marine and aerospace risks and can span multiple geographic areas and are not fixed locations in some instances.



50
Table of Contents

Validus Holdings, Ltd.
Notes to Consolidated Financial Statements (unaudited)
(Expressed in thousands of U.S. dollars, except share and per share information)


19. Subsequent events
 
(a)
 Quarterly Dividend
 
On July 30, 2013, the Company announced a quarterly cash dividend of $0.30 per each common share and $0.30 per common share equivalent for which each outstanding warrant is exercisable, payable on September 30, 2013 to holders of record on September 13, 2013.


ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
The following is a discussion and analysis of the Company's consolidated results of operations for the three and six months ended June 30, 2013 and 2012 and the Company's consolidated financial condition, liquidity and capital resources at June 30, 2013 and December 31, 2012. This discussion and analysis should be read in conjunction with the audited consolidated financial statements and related notes for the fiscal year ended December 31, 2012, the discussions of critical accounting policies and the qualitative and quantitative disclosure about market risk contained in the Company's Annual Report on Form 10-K/A for the fiscal year ended December 31, 2012.
 
For a variety of reasons, the Company's historical financial results may not accurately indicate future performance. See "Cautionary Note Regarding Forward-Looking Statements." The Risk Factors set forth in Item 1A of the Company's Annual Report on Form 10-K/A for the fiscal year ended December 31, 2012 present a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained herein.
 
Executive Overview
The Company conducts its operations worldwide through three operating segments which have been determined under U.S. GAAP segment reporting, Validus Re, AlphaCat and Talbot. The Company, provides reinsurance, insurance and insurance linked securities ("ILS") fund management. Validus Re is a Bermuda based reinsurer focused on short tail lines of reinsurance. Talbot Holdings Ltd. is the Bermuda parent of the specialty insurance group primarily operating within the Lloyd's insurance market through Syndicate 1183. AlphaCat is a Bermuda based investment adviser, managing capital for third-parties and the Group in ILS and other property catastrophe reinsurance investments. 
The Company’s strategy has been to concentrate primarily on short-tail risks, which has been an area where management believes current prices and terms provide an attractive risk adjusted return and the management team has proven expertise. The Company’s profitability in any given period is based upon premium and investment revenues, less net losses and loss expenses, acquisition expenses and operating expenses. Financial results in the insurance and reinsurance industry are influenced by the frequency and/or severity of claims and losses, including as a result of catastrophic events, changes in interest rates, financial markets and general economic conditions, the supply of insurance and reinsurance capacity and changes in legal, regulatory and judicial environments.
 
On April 2, 2012, the Company capitalized PaCRe, a Class 4 Bermuda reinsurer formed for the purpose of writing high excess property catastrophe reinsurance. PaCRe was initially funded with $500.0 million of contributed capital. Validus invested $50.0 million in PaCRe's common equity. On May 1, 2013, PaCRe received an additional $58.5 million in contributed capital from a third party investor and $6.5 million from Validus Re. The Company underwrites business for PaCRe, for which it is paid a profit commission based on PaCRe's underwriting results. As Validus Re holds a majority of PaCRe's outstanding voting rights, the financial statements of PaCRe are included in the consolidated financial statements for the Company and its results are reported within the AlphaCat segment. The portion of PaCRe's earnings attributable to third party investors for the three and six months ended June 30, 2013 is recorded in the consolidated Statements of Comprehensive Income as "Net loss attributable to noncontrolling interest."

On May 29, 2012, the Company announced that it joined with other investors in capitalizing AlphaCat Re 2012. AlphaCat Re 2012 is a special purpose reinsurer formed for the purpose of writing collateralized reinsurance with a particular focus on windstorm risks for Florida domiciled insurance companies. AlphaCat Re 2012 was funded with $70.0 million of equity capital. The Company underwrites business for AlphaCat Re 2012, for which it is paid a commission for originating the business and a profit commission based on underwriting results. Validus Re has an equity interest and voting rights in AlphaCat Re 2012 which is below 50%,

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Table of Contents

therefore the investment in AlphaCat Re 2012 is included as an equity method investment in the consolidated financial statements of the Company.

AlphaCat Re 2012 is now considered "off-risk" as all reinsurance contracts written by this company have expired. As a result, on February 22, 2013 and June 20, 2013, partial returns of investment were made to the investors of AlphaCat Re 2012. Validus Re's corresponding portion of the returns of investment was $27.2 million.
On November 30, 2012, the Company acquired all of the outstanding shares of Flagstone Reinsurance Holdings S.A. ("Flagstone"), strengthening the Company's leading property catastrophe reinsurance and short-tail specialty insurance platform. For segmental reporting purposes, the results of Flagstone’s operations since the acquisition date have been included within the Validus Re segment in the consolidated financial statements.
On December 17, 2012, the Company joined with other investors in capitalizing AlphaCat 2013, a special purpose vehicle formed for the purpose of investing in collateralized reinsurance. AlphaCat 2013 was funded with $230.0 million of contributed capital. Validus Re has an equity interest and voting rights in AlphaCat 2013 which is below 50%, therefore the investment in AlphaCat 2013 is included as an equity method investment in the consolidated financial statements of the Company.

On December 17, 2012, the Company received $219.4 million of third party subscriptions for three AlphaCat ILS Funds. Validus Re holds a majority of participation rights in two of the funds, therefore the financial statements of these funds are included in the consolidated financial statements of the Company. The portion of the funds' earnings attributable to third party investors for the three months ended June 30, 2013 is recorded in the consolidated Statements of Comprehensive Income as "Net (income) loss attributable to noncontrolling interest." The third fund is a variable interest entity, however, it is not consolidated by the Company as Validus Re is not deemed to be the primary beneficiary. As a result, the investment in this fund is included in "Investments in affiliates" as at June 30, 2013. The Company's maximum exposure to loss with respect to this investment is limited to the investment carrying amount reported in the Company's Consolidated Balance Sheet.

AlphaCat Re 2011 is now considered "off-risk" as all reinsurance contracts written by this company have expired. As a result, on January 4, 2013, January 23, 2013, May 1, 2013 and May 28, 2013, partial returns of investment were made to the investors of AlphaCat Re 2011. Validus Re's corresponding portion of the returns of investment was $52.1 million.

On April 25, 2013, the Company acquired Longhorn Re, Ltd., a single contract Bermuda domiciled crop reinsurer.

Overview of the Results of Operations for the Three and Six Months Ended June 30, 2013

Three month results
 
Net income available to Validus for the three months ended June 30, 2013 was $30.7 million compared to $167.6 million for the three months ended June 30, 2012, a decrease of $136.9 million or 81.7%. The primary factors driving the decrease were:

•
An unfavorable movement of $87.8 million in net unrealized losses on investments;

•
Decrease in underwriting income of $31.7 million primarily due to:
 
•
An increase in underwriting deductions of $131.5 million which includes $77.6 million of losses from a notable loss event, offset by;

•
An increase in net premiums earned of $99.8 million; and

•
Increase of $24.1 million in finance expenses; and

•
Unfavorable movement in foreign exchange of $7.6 million.


 The change in net income available to Validus for the three months ended June 30, 2013 of $136.9 million as compared to the three months ended June 30, 2012 is described in the following table:
 

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Table of Contents

 
 
Three Months Ended June 30, 2013
 
 
Increase (Decrease) Over the Three Months Ended June 30, 2012
(Dollars in thousands)
 
Validus Re
 
AlphaCat
 
Talbot
 
Corporate and Eliminations
 
Total
Notable losses - (increase) in net loss and loss expenses (a)
 
$
(69,895
)
 
$
(975
)
 
$
(6,717
)
 
—

 
$
(77,587
)
Less: Notable losses - increase in net reinstatement premiums (a)
 
6,849

 
—

 
297

 
—

 
7,146

Other underwriting (loss) income
 
(16,894
)
 
26,245

 
31,543

 
(2,167
)
 
38,727

Underwriting income (b)
 
(79,940
)
 
25,270

 
25,123

 
(2,167
)
 
(31,714
)
Net investment income
 
1,255

 
153

 
(1,042
)
 
(41
)
 
325

Other income
 
(828
)
 
426

 
164

 
(1,338
)
 
(1,576
)
Finance expenses
 
(3,096
)
 
(22,772
)
 
45

 
1,699

 
(24,124
)
Operating (loss) income before taxes and income from operating affiliates
 
(82,609
)
 
3,077

 
24,290

 
(1,847
)
 
(57,089
)
Tax (expense) benefit
 
(143
)
 
—

 
802

 
(348
)
 
311

Income from operating affiliates
 
—

 
201

 
—

 
—

 
201

Net operating (loss) income
 
(82,752
)
 
3,278

 
25,092

 
(2,195
)
 
(56,577
)
Net realized (losses) on investments
 
(2,069
)
 
84

 
(760
)
 
—

 
(2,745
)
Net unrealized (losses) on investments
 
(54,137
)
 
(20,867
)
 
(12,770
)
 
—

 
(87,774
)
Income from investment affilate
 
2,151

 
—

 
—

 
—

 
2,151

Foreign exchange (losses) gains
 
(8,597
)
 
110

 
1,238

 
(322
)
 
(7,571
)
Net (loss) income
 
(145,404
)
 
(17,395
)
 
12,800

 
(2,517
)
 
(152,516
)
Net loss attributable to noncontrolling interest
 
—

 
15,616

 
—

 
—

 
15,616

Net (loss) income (attributable) available to Validus
 
$
(145,404
)
 
$
(1,779
)
 
$
12,800

 
$
(2,517
)
 
$
(136,900
)
 
(a)
Notable losses for the three months ended June 30, 2013 were the European Floods. There were no notable losses for the three months ended June 30, 2012. Excludes the reserve for potential development on 2011 notable loss events.

(b)      Non-GAAP Financial Measures: In presenting the Company's results, management has included and discussed underwriting income (loss) that is not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Non-GAAP measures may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP. A reconciliation of this measure to net income, the most comparable U.S. GAAP financial measure, is presented in the section below entitled "Underwriting Income."

Six month results
 
Net income available to Validus for the six months ended June 30, 2013 was $254.0 million compared to $291.9 million for the six months ended June 30, 2012, a decrease of $37.9 million or 13.0%. The primary factors driving the decrease were:
 
•
An unfavorable movement of $115.7 million in net unrealized (losses) on investments;

•
An unfavorable movement in finance expenses of $32.3 million;

•
The decrease was offset by an increase in underwriting income of $109.1 million primarily due to:
 
•
An increase in net premiums earned of $179.7 million, partially offset by;

•
An increase in underwriting deductions of $70.6 million which includes an increase in losses and loss expenses of $24.1 million.

The change in net income available to Validus for the six months ended June 30, 2013 of $37.9 million as compared to the six months ended June 30, 2012 is described in the following table:

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Table of Contents

 
 
Six Months Ended June 30, 2013
 
 
Increase (Decrease) Over the Six Months Ended June 30, 2012
(Dollars in thousands)
 
Validus Re
 
AlphaCat
 
Talbot
 
Corporate and Eliminations
 
Total
Notable losses — decrease (increase) in net loss and loss expenses (a)
 
$
14,822

 
$
(975
)
 
$
9,283

 
$
—

 
$
23,130

Less: Notable losses - (decrease) increase in net reinstatement premiums (a)
 
(15,924
)
 
—

 
4,632

 
—

 
(11,292
)
Other underwriting (loss) income
 
(2,593
)
 
45,787

 
52,996

 
1,075

 
97,265

Underwriting (loss) income (b)
 
(3,695
)
 
44,812

 
66,911

 
1,075

 
109,103

Net investment income
 
871

 
375

 
(2,114
)
 
(918
)
 
(1,786
)
Other income
 
10,443

 
(915
)
 
(862
)
 
(16,448
)
 
(7,782
)
Finance expenses
 
(2,654
)
 
(34,095
)
 
2

 
4,456

 
(32,291
)
Operating income (loss) before taxes and income from operating affiliates
 
4,965

 
10,177

 
63,937

 
(11,835
)
 
67,244

Tax benefit (expense)
 
1,621

 
—

 
(120
)
 
(733
)
 
768

Income from operating affiliates
 
—

 
357

 
—

 
—

 
357

Net operating income (loss)
 
6,586

 
10,534

 
63,817

 
(12,568
)
 
68,369

Net realized (losses) gains on investments
 
(6,718
)
 
84

 
(1,922
)
 
—

 
(8,556
)
Net unrealized (losses) on investments
 
(76,195
)
 
(25,058
)
 
(14,429
)
 
—

 
(115,682
)
Income from investment affiliate
 
3,628

 
—

 
—

 
—

 
3,628

Foreign exchange gains (losses)
 
2,827

 
(1,068
)
 
(6,303
)
 
729

 
(3,815
)
Net (loss) income
 
(69,872
)
 
(15,508
)
 
41,163

 
(11,839
)
 
(56,056
)
Net loss attributable to noncontrolling interest
 
—

 
18,165

 
—

 
—

 
18,165

Net (loss) income (attributable) available to Validus
 
(69,872
)
 
2,657

 
41,163

 
(11,839
)
 
(37,891
)

(a)
Notable losses for the six months ended June 30, 2013 were the European Floods. Notable losses for the six months ended June 30, 2012 included: Costa Concordia and Cat 67. Excludes the reserve for potential development on 2011 notable loss events.

(b)
Non-GAAP Financial Measures: In presenting the Company's results, management has included and discussed underwriting income (loss) and net operating income that are not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Non-GAAP measures may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP. A reconciliation of this measure to net income, the most comparable U.S. GAAP financial measure, is presented in the section below entitled "Underwriting Income (Loss)."


Business Outlook and Trends
 
We underwrite global specialty property insurance and reinsurance and have large aggregate exposures to natural and man-made disasters. The occurrence of claims from catastrophic events results in substantial volatility, and can have material adverse effects on the Company’s financial condition, results and ability to write new business. This volatility affects results for the period in which the loss occurs because U.S. accounting principles do not permit reinsurers to reserve for such catastrophic events until they occur. Catastrophic events of significant magnitude historically have been relatively infrequent, although management believes the property catastrophe reinsurance market has experienced a higher level of worldwide catastrophic losses in terms of both frequency and severity in the period from 1992 to the present. We also expect that increases in the values and concentrations of insured property will increase the severity of such occurrences in the future. The Company seeks to reflect these trends when pricing contracts.
 
Property and other reinsurance premiums have historically risen in the aftermath of significant catastrophic losses. As loss reserves are established, industry surplus is depleted and the industry’s capacity to write new business diminishes. At the same time, management believes that there is a heightened awareness of exposure to natural catastrophes on the part of cedants, rating agencies and catastrophe modeling firms, resulting in an increase in the demand for reinsurance protection. The global property
and casualty insurance and reinsurance industry has historically been highly cyclical. Since 2007, increased capital provided by new entrants or by the commitment of capital by existing insurers and reinsurers increased the supply of insurance and reinsurance which resulted in a softening on rates on most lines. During 2010 and 2011, there was an increased level of catastrophe activity, principally the Chilean earthquake, Deepwater Horizon, Tohoku and Christchurch earthquakes events but the Company continued to see increased competition and decreased premium rates in most classes of business.
During the January 2013 renewal season, the Validus Re and AlphaCat segments underwrote $655.7 million in gross premiums written, an increase of 12.7% from the prior year period. This increase was driven primarily by an increase in gross premiums written in the specialty lines. This renewal data does not include Talbot’s operations as its business is distributed relatively evenly throughout the year. During the mid-year 2013 renewal period, the Validus Re segment experienced rate softening across U.S. and International property lines. The Talbot segment experienced a marginal cumulative rate increase to the end of June 30, 2013 with the largest increases being generated by the energy, marine treaty and marine liability accounts.

Financial Measures
 
The Company believes the following financial indicators are important in evaluating performance and measuring the overall growth in value generated for shareholders:
 
Annualized return on average equity represents the level of net income available to shareholders generated from the average shareholders’ equity during the period. Annualized return on average equity is calculated by dividing the net income available to Validus for the period by the average shareholders’ equity available to Validus during the period. Average shareholders’ equity available to Validus is the average of the beginning, ending and intervening quarter end shareholders’ equity available to Validus balances. Percentages for the quarter and interim periods are annualized. The Company’s objective is to generate superior returns on capital that appropriately reward shareholders for the risks assumed and to grow premiums written only when returns meet or exceed internal requirements. Details of annualized return on average equity are provided below.
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
Year Ended December 31,
 
2013
 
2012
 
2013
 
2012
 
2012
Annualized return on average equity
3.3
%
 
19.1
%
 
13.2
%
 
16.7
%
 
11.3
%
 
The decrease in annualized return on average equity for the three and six months ended June 30, 2013 was driven primarily by a decrease in net income available to Validus. Net income available to Validus for the three and six months ended June 30, 2013 decreased by $136.9 million or 81.7% and $37.9 million or 13.0%, respectively, compared to the three and six months ended June 30, 2012. The decrease for the three months ended June 30, 2013 was primarily due to a decrease in underwriting income of $31.7 million and an unfavorable movement of $87.8 million in net unrealized losses on investments. The decrease for the six months ended June 30, 2013 was primarily due to an unfavorable movement of $115.7 million in net unrealized losses on investments.
 
Diluted book value per common share is considered by management to be an appropriate measure of our returns to common shareholders, as we believe growth in our book value on a diluted basis ultimately translates into growth of our stock price. Diluted book value per common share decreased by $1.03, or 2.9%, from $35.22 at December 31, 2012 to $34.19 at June 30, 2013, primarily due to the restricted shares granted, the special dividend of $2.00 per share and the increased quarterly dividends of $0.30 per share which were paid during the three and six months ended June 30, 2013, offset by an increase in share repurchases during the six months ended June 30, 2013 and positive net income. Diluted book value per common share is a Non-GAAP financial measure. The most comparable U.S. GAAP financial measure is book value per common share. Diluted book value per common share is calculated based on total shareholders’ equity plus the assumed proceeds from the exercise of outstanding options and warrants, divided by the sum of common shares, unvested restricted shares, options and warrants outstanding (assuming their exercise). A reconciliation of diluted book value per common share to book value per common share is presented below in the section entitled “Other Non-GAAP Financial Measures.”
 
Cash dividends per common share are an integral part of the value created for shareholders. On July 30, 2013, the Company announced a quarterly cash dividend of $0.30 per each common share and $0.30 per common share equivalent for which each outstanding warrant is exercisable, payable on September 30, 2013 to holders of record on September 13, 2013.
 
Underwriting income measures the performance of the Company’s core underwriting function, excluding revenues and expenses such as net investment income (loss), other income, finance expenses, net realized and unrealized gains (losses) on

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investments and foreign exchange gains (losses). The Company believes the reporting of underwriting income enhances the understanding of our results by highlighting the underlying profitability of the Company’s core insurance and reinsurance operations. Underwriting income for the three months ended June 30, 2013 and 2012 was $117.7 million and $149.4 million, respectively, and for the six months ended June 30, 2013 and 2012 was $327.7 million and $218.6 million, respectively. Underwriting income is a non-GAAP financial measure as described in detail and reconciled in the section below entitled “Underwriting Income.”

Critical Accounting Policies and Estimates
 
There are certain accounting policies that the Company considers to be critical due to the judgment and uncertainty inherent in the application of those policies. In calculating financial statement estimates, the use of different assumptions could produce materially different estimates. The Company believes the following critical accounting policies affect significant estimates used in the preparation of our consolidated financial statements:
 
•
Reserve for losses and loss expenses;

•
Premiums;

•
Reinsurance premiums ceded and reinsurance recoverable; and

•
Investment valuation.

Critical accounting policies and estimates are discussed further in Item 7, Management's Discussion and Analysis of Results of Operations and Financial Condition in the Company's Annual Report on Form 10-K/A for the year ended December 31, 2012.

Segment Reporting
Management has determined that the Company operates in three reportable segments. These segments are its significant operating subsidiaries, Validus Re, AlphaCat and Talbot. For segmental reporting purposes, the results of Flagstone’s operations since the acquisition date have been included within the Validus Re segment in the consolidated financial statements.
 
Results of Operations

 The Company commenced operations on December 16, 2005. The Company’s fiscal year ends on December 31. Financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information.


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Table of Contents

The following table presents results of operations for the three and six months ended June 30, 2013 and 2012:  
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(Dollars in thousands)
 
2013

2012 (a)
 
2013
 
2012 (a)
Underwriting income
 
 
 
 
 
 
 
 
Gross premiums written
 
$
702,313

 
$
627,089

 
$
1,807,073

 
$
1,464,378

Reinsurance premiums ceded
 
(121,396
)
 
(119,052
)
 
(308,612
)
 
(226,104
)
Net premiums written
 
580,917

 
508,037

 
1,498,461

 
1,238,274

Change in unearned premiums
 
(33,459
)
 
(60,410
)
 
(419,942
)
 
(339,448
)
Net premiums earned
 
547,458

 
447,627

 
1,078,519

 
898,826

 
 
 
 
 
 
 
 
 
Underwriting deductions
 
 
 
 
 
 
 
 
Losses and loss expenses
 
265,044

 
153,692

 
409,815

 
385,681

Policy acquisition costs
 
87,152

 
76,129

 
180,763

 
154,261

General and administrative expenses
 
70,967

 
61,635

 
151,246

 
128,010

Share compensation expenses
 
6,638

 
6,800

 
8,956

 
12,238

Total underwriting deductions
 
429,801

 
298,256

 
750,780

 
680,190

 
 
 
 
 
 
 
 
 
Underwriting income (b)
 
117,657

 
149,371

 
327,739

 
218,636

 
 
 
 
 
 
 
 
 
Net investment income
 
26,210

 
25,885

 
51,859

 
53,645

Other income
 
4,418

 
5,994

 
7,103

 
14,885

Finance expenses
 
(37,830
)
 
(13,706
)
 
(62,276
)
 
(29,985
)
Operating income before taxes and income from operating affiliates (b)
 
110,455

 
167,544

 
324,425

 
257,181

Tax (expense) benefit
 
(93
)
 
(404
)
 
225

 
(543
)
Income from operating affiliates
 
3,793

 
3,592

 
7,316

 
6,959

Net operating income (b)
 
114,155

 
170,732

 
331,966

 
263,597

 
 
 
 
 
 
 
 
 
Net realized gains on investments
 
3,409

 
6,154

 
5,130

 
13,686

Net unrealized (losses) on investments
 
(141,348
)
 
(53,574
)
 
(148,585
)
 
(32,903
)
Income (loss) from investment affiliate
 
1,753

 
(398
)
 
3,230

 
(398
)
Foreign exchange (losses) gains
 
(8,223
)
 
(652
)
 
(1,301
)
 
2,514

Net (loss) income
 
(30,254
)
 
122,262

 
190,440

 
246,496

Net loss attributable to noncontrolling interest
 
60,976

 
45,360

 
63,525

 
45,360

Net income available to Validus
 
$
30,722

 
$
167,622

 
$
253,965

 
$
291,856

 
 
 
 
 
 
 
 
 
Selected ratios:
 
 

 
 

 
 

 
 
Net premiums written / Gross premiums written
 
82.7
%
 
81.0
%
 
82.9
%
 
84.6
%
 
 
 
 
 
 
 
 
 
Losses and loss expenses
 
48.4
%
 
34.3
%
 
38.0
%
 
42.9
%
 
 
 
 
 
 
 
 
 
Policy acquisition costs
 
15.9
%
 
17.0
%
 
16.8
%
 
17.2
%
General and administrative expenses (c)
 
14.2
%
 
15.3
%
 
14.9
%
 
15.6
%
Expense ratio
 
30.1
%
 
32.3
%
 
31.7
%
 
32.8
%
Combined ratio
 
78.5
%
 
66.6
%
 
69.7
%
 
75.7
%

a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

b)      Non-GAAP Financial Measures: In presenting the Company's results, management has included and discussed underwriting income and net operating income that are not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Non-GAAP measures may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP. A reconciliation of underwriting income to net income, the most comparable U.S. GAAP financial measure, is presented in the section below entitled "Underwriting Income."

 c)    The general and administrative expense ratio includes share compensation expenses.


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Table of Contents

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2013
 
2012 (a)
 
2013
 
2012 (a)
Validus Re
 

 
 

 
 
 
 
Gross premiums written
$
353,384

 
$
340,850

 
$
1,101,347

 
$
907,716

Reinsurance premiums ceded
(87,558
)
 
(97,077
)
 
(213,286
)
 
(127,078
)
Net premiums written
265,826

 
243,773

 
888,061

 
780,638

Change in unearned premiums
38,925

 
(1,087
)
 
(280,176
)
 
(284,943
)
Net premiums earned
304,751

 
242,686

 
607,885

 
495,695

 
 
 
 
 
 
 
 
Losses and loss expenses
183,646

 
53,190

 
257,048

 
177,396

Policy acquisition costs
42,789

 
37,084

 
94,533

 
75,874

General and administrative expenses
20,423

 
14,142

 
49,864

 
31,394

Share compensation expenses
1,529

 
1,966

 
2,942

 
3,838

Total underwriting deductions
248,387

 
106,382

 
404,387

 
288,502

 
 
 
 
 
 
 
 
Underwriting income (b)
$
56,364

 
$
136,304

 
$
203,498

 
$
207,193

 
 
 
 
 
 
 
 
AlphaCat
 
 
 
 
 
 
 
Gross premiums written
$
46,760

 
$
15,155

 
$
143,276

 
$
18,673

Reinsurance premiums ceded
—

 
—

 
—

 
—

Net premiums written
46,760

 
15,155

 
143,276

 
18,673

Change in unearned premiums
(11,770
)
 
(11,568
)
 
(80,669
)
 
(12,423
)
Net premiums earned
34,990

 
3,587

 
62,607

 
6,250

 
 
 
 
 
 
 
 
Losses and loss expenses
1,313

 
—

 
1,313

 
—

Policy acquisition costs
3,586

 
382

 
6,224

 
638

General and administrative expenses
3,992

 
2,402

 
8,029

 
3,434

Share compensation expenses
85

 
59

 
162

 
111

Total underwriting deductions
8,976

 
2,843

 
15,728

 
4,183

 
 
 
 
 
 
 
 
Underwriting income (b)
$
26,014

 
$
744

 
$
46,879

 
$
2,067

 
 
 
 
 
 
 
 
Talbot
 

 
 

 
 
 
 
Gross premiums written
$
315,518

 
$
283,528

 
$
609,048

 
$
576,781

Reinsurance premiums ceded
(47,187
)
 
(34,419
)
 
(141,924
)
 
(137,818
)
Net premiums written
268,331

 
249,109

 
467,124

 
438,963

Change in unearned premiums
(60,614
)
 
(47,755
)
 
(59,097
)
 
(42,082
)
Net premiums earned
207,717

 
201,354

 
408,027

 
396,881

 
 
 
 
 
 
 
 
Losses and loss expenses
80,085

 
100,502

 
151,454

 
208,285

Policy acquisition costs
41,667

 
41,803

 
82,193

 
80,541

General and administrative expenses
32,192

 
30,957

 
63,104

 
64,305

Share compensation expenses
2,357

 
1,799

 
3,762

 
3,147

Total underwriting deductions
156,301

 
175,061

 
300,513

 
356,278

 
 
 
 
 
 
 
 
Underwriting income (b)
$
51,416

 
$
26,293

 
$
107,514

 
$
40,603

 
 
 
 
 
 
 
 
Corporate & Eliminations
 

 
 

 
 
 
 
Gross premiums written
$
(13,349
)
 
$
(12,444
)
 
$
(46,598
)
 
$
(38,792
)
Reinsurance premiums ceded
13,349

 
12,444

 
46,598

 
38,792

Net premiums written
—

 
—

 
—

 
—

 
 
 
 
 
 
 
 
Policy acquisition costs
(890
)
 
(3,140
)
 
(2,187
)
 
(2,792
)
General and administrative expenses
14,360

 
14,134

 
30,249

 
28,877

Share compensation expenses
2,667

 
2,976

 
2,090

 
5,142

Total underwriting deductions
16,137

 
13,970

 
30,152

 
31,227

 
 
 
 
 
 
 
 
Underwriting (loss) (b)
$
(16,137
)
 
$
(13,970
)
 
$
(30,152
)
 
$
(31,227
)
 
 
 
 
 
 
 
 
Total underwriting income (b)
$
117,657

 
$
149,371

 
$
327,739

 
$
218,636


a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

b)     
 Non-GAAP Financial Measures: In presenting the Company's results, management has included and discussed underwriting income that is not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Non-GAAP measures may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP. A reconciliation of this measure to net income, the most comparable U.S. GAAP financial measure, is presented in the section below entitled "Underwriting Income."






57

Table of Contents



Three Months Ended June 30, 2013 compared to Three Months Ended June 30, 2012
 
Gross Premiums Written
 
Gross premiums written for the three months ended June 30, 2013 were $702.3 million compared to $627.1 million for the three months ended June 30, 2012, an increase of $75.2 million or 12.0%. Details of gross premiums written by line of business are provided below.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
$
462,873

 
65.9
%
 
$
392,218

 
62.5
%
 
18.0
 %
Marine
 
115,935

 
16.5
%
 
128,269

 
20.5
%
 
(9.6
)%
Specialty
 
123,505

 
17.6
%
 
106,602

 
17.0
%
 
15.9
 %
Total
 
$
702,313

 
100.0
%
 
$
627,089

 
100.0
%
 
12.0
 %
 
a)    The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Validus Re. Validus Re gross premiums written for the three months ended June 30, 2013 were $353.4 million compared to $340.9 million for the three months ended June 30, 2012, an increase of $12.5 million or 3.7%. Details of Validus Re gross premiums written by line of business are provided below.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premium Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
$
304,899

 
86.3
%
 
$
292,264

 
85.8
%
 
4.3
 %
Marine
 
10,764

 
3.0
%
 
24,898

 
7.3
%
 
(56.8
)%
Specialty
 
37,721

 
10.7
%
 
23,688

 
6.9
%
 
59.2
 %
Total
 
$
353,384

 
100.0
%
 
$
340,850

 
100.0
%
 
3.7
 %

 a)    The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

The increase in gross premiums written in the property lines of $12.6 million was due primarily to an increase of $32.1 million in catastrophe excess of loss treaties as a result of new business written and a $4.5 million increase in reinstatement premiums due to the European floods. These increases were offset by decreases in per risk excess of loss treaties of $9.7 million primarily due to the non-renewal of business on a particular account. In addition, there was a $14.6 million variance in premium adjustments written in prior quarters. The decrease in gross premiums written of $14.1 million in the marine lines was due primarily to a year over year variance in premium adjustments on proportional business of $9.6 million and a $6.0 million decrease in per risk excess of loss treaties due to the non-renewal of business on a number of accounts that no longer met the Company's underwriting threshold. The increase in gross premiums written in the specialty lines of $14.0 million was due primarily to $17.2 million in new business incepting during the quarter, partially offset by a $3.2 million variance in premium adjustments written in prior quarters.

Gross premiums written under the quota share, surplus treaty and excess of loss contracts with Talbot for the three months ended June 30, 2013 were $5.5 million compared to $11.9 million for the three months ended June 30, 2012, a decrease of $6.4 million on all lines, as compared to the three months ended June 30, 2012. These reinsurance agreements with Talbot are eliminated upon consolidation.

AlphaCat. AlphaCat gross premiums written for the three months ended June 30, 2013 were $46.8 million compared to $15.2 million for the three months ended June 30, 2012, an increase of $31.6 million. Details of AlphaCat gross premiums written by line of business are provided below.



58

Table of Contents

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
$
46,760

 
100.0
%
 
$
15,155

 
100.0
%
 
208.5
%
Total
 
$
46,760

 
100.0
%
 
$
15,155

 
100.0
%
 
208.5
%


The increase in gross premiums written in the property lines of $31.6 million was due primarily to the renewal of business through AlphaCat Reinsurance, Ltd. ("AlphaCat Re"), which is fully consolidated, whereas the comparable business was included within AlphaCat Re 2011 and 2012 which were not consolidated in 2012, and were accounted for as operating affiliates under the equity method of accounting. The comparable renewals were included in managed gross premiums, a comparable measure. A reconciliation of managed gross premiums written to gross premiums written, the most comparable U.S. GAAP financial measure, is presented below in the section entitled "Other Non-GAAP Financial Measures."

Gross premiums written under the property quota share contracts assumed from Validus Re for the three months ended June 30, 2013 were $7.4 million compared to $nil million for the three months ended June 30, 2012. These reinsurance agreements with Validus Re are eliminated upon consolidation.
 
Managed gross premiums written, including our non-consolidated affiliates, AlphaCat Re 2011 and AlphaCat Re 2012, for the three months ended June 30, 2013 were $46.3 million compared to $58.5 million for the three months ended June 30, 2012, a decrease of $12.3 million or 21.0%. The decrease in gross premiums written was due primarily to AlphaCat Re 2011 and AlphaCat Re 2012 now being considered "off-risk" as all reinsurance contracts written by the company have now expired.

Talbot. Talbot gross premiums written for the three months ended June 30, 2013 were $315.5 million compared to $283.5 million for the three months ended June 30, 2012, an increase of $32.0 million or 11.3%. The $315.5 million of gross premiums written translated at 2012 rates of exchange would have been $318.5 million for the three months ended June 30, 2013, resulting in an effective increase of $35.0 million or 12.3%. Details of Talbot gross premiums written by line of business are provided below.
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
$
124,199

 
39.4
%
 
$
96,797

 
34.1
%
 
28.3
%
Marine
 
105,530

 
33.4
%
 
103,822

 
36.7
%
 
1.6
%
Specialty
 
85,789

 
27.2
%
 
82,909

 
29.2
%
 
3.5
%
Total
 
$
315,518

 
100.0
%
 
$
283,528

 
100.0
%
 
11.3
%
 
The increase in gross premiums written in the property lines of $27.4 million was due primarily to a $14.5 million increase in premiums written in the direct property lines which was driven by an increase of $12.7 million in new business written due to the hiring of an additional experienced property underwriter. In addition, there was a $7.6 million increase in the construction lines, primarily driven by premium adjustments on prior period policies and a $3.6 million increase in onshore energy lines mainly due to new policies written. The increase in gross premiums written in specialty lines of $2.9 million was due primarily to new political risk policies written in the quarter.
 
Reinsurance Premiums Ceded
 
Reinsurance premiums ceded for the three months ended June 30, 2013 were $121.4 million compared to $119.1 million for the three months ended June 30, 2012, an increase of $2.3 million or 2.0%. Details of reinsurance premiums ceded by line of business are provided below.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
% Change
Property
 
$
110,631

 
91.1
%
 
$
105,750

 
88.8
 %
 
4.6
 %
Marine
 
7,980

 
6.6
%
 
13,752

 
11.6
 %
 
(42.0
)%
Specialty
 
2,785

 
2.3
%
 
(450
)
 
(0.4
)%
 
NM

Total
 
$
121,396

 
100.0
%
 
$
119,052

 
100.0
 %
 
2.0
 %

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Table of Contents

 
a)    The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful

Validus Re. Validus Re reinsurance premiums ceded for the three months ended June 30, 2013 were $87.6 million compared to $97.1 million for the three months ended June 30, 2012, a decrease of $9.5 million or 9.8%. Details of Validus Re reinsurance premiums ceded by line of business are provided below.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
% Change
Property
 
$
84,987

 
97.1
%
 
$
83,746

 
86.3
%
 
1.5
 %
Marine
 
2,193

 
2.5
%
 
13,294

 
13.7
%
 
(83.5
)%
Specialty
 
378

 
0.4
%
 
37

 
—
%
 
NM

Total
 
$
87,558

 
100.0
%
 
$
97,077

 
100.0
%
 
(9.8
)%
 
a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful

Reinsurance premiums ceded in the property lines increased by $1.2 million due to a significant restructuring of retrocessional coverage purchased. New coverage purchased in 2013 included $27.4 million for an industry loss product, $12.8 million for an aggregate excess cover and $10.0 million for European excess cover. In addition, $7.4 million of proportional quota share coverage was ceded to AlphaCat Re. Industry loss warranties purchased for $57.4 million in 2012 were not renewed in 2013, offsetting the increases in reinsurance premiums ceded from the covers discussed above. Reinsurance premiums ceded in the marine lines decreased by $11.1 million, primarily due to a $12.4 million decrease in non-proportional retrocessional coverage, which was not renewed in the quarter.

Reinsurance premiums ceded under the property quota share contracts with AlphaCat for the three months ended June 30, 2013 were $7.4 million compared to $nil for the three months ended June 30, 2012, an increase of $7.4 million. These reinsurance agreements with AlphaCat are eliminated upon consolidation.

AlphaCat. AlphaCat did not cede reinsurance premiums for the three months ended June 30, 2013 and 2012.

Talbot. Talbot reinsurance premiums ceded for the three months ended June 30, 2013 were $47.2 million compared to $34.4 million for the three months ended June 30, 2012, an increase of $12.8 million or 37.1%. Details of Talbot reinsurance premiums ceded by line of business are provided below.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
% Change
Property
 
$
38,629

 
81.9
%
 
$
34,002

 
98.8
 %
 
13.6
%
Marine
 
6,146

 
13.0
%
 
909

 
2.6
 %
 
NM

Specialty
 
2,412

 
5.1
%
 
(492
)
 
(1.4
)%
 
NM

Total
 
$
47,187

 
100.0
%
 
$
34,419

 
100.0
 %
 
37.1
%

NM: Not meaningful
 
Reinsurance premiums ceded in the property lines increased by $4.6 million, primarily due to $1.4 million and $1.8 million increases in quota share ceded premium for the onshore energy and construction lines, respectively, related to the increases in gross premiums written on these lines. The increase in reinsurance premiums ceded of $5.2 million in the marine lines was due primarily to a $3.3 million increase in energy lines due to an increase in reinstatement premiums of $2.2 million and additional quota share coverage purchased.

Reinsurance premiums ceded under the quota share, surplus treaty and excess of loss contracts with Validus Re and AlphaCat for the three months ended June 30, 2013 were $5.5 million compared to $12.4 million for the three months ended June 30, 2012, a decrease of $6.9 million.

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Table of Contents


The quota share, surplus treaty and excess of loss contracts with Validus Re and AlphaCat are eliminated upon consolidation.

Net Premiums Written
 
Net premiums written for the three months ended June 30, 2013 were $580.9 million compared to $508.0 million for the three months ended June 30, 2012, an increase of $72.9 million or 14.3%. The ratios of net premiums written to gross premiums written for the three months ended June 30, 2013 and 2012 were 82.7% and 81.0%, respectively. Details of net premiums written by line of business are provided below.

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
352,242

 
60.6
%
 
$
286,468

 
56.4
%
 
23.0
 %
Marine
 
107,955

 
18.6
%
 
114,517

 
22.5
%
 
(5.7
)%
Specialty
 
120,720

 
20.8
%
 
107,052

 
21.1
%
 
12.8
 %
Total
 
$
580,917

 
100.0
%
 
$
508,037

 
100.0
%
 
14.3
 %
 
a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

Validus Re. Validus Re net premiums written for the three months ended June 30, 2013 were $265.8 million compared to $243.8 million for the three months ended June 30, 2012, an increase of $22.1 million or 9.0%.  Details of Validus Re net premiums written by line of business are provided below.
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
219,912

 
82.8
%
 
$
208,518

 
85.5
%
 
5.5
 %
Marine
 
8,571

 
3.2
%
 
11,604

 
4.8
%
 
(26.1
)%
Specialty
 
37,343

 
14.0
%
 
23,651

 
9.7
%
 
57.9
 %
Total
 
$
265,826

 
100.0
%
 
$
243,773

 
100.0
%
 
9.0
 %
 
a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

The increase in Validus Re net premiums written was driven by the factors highlighted above in respect of gross premiums written and reinsurance premiums ceded. The ratios of net premiums written to gross premiums written were 75.2% and 71.5% for the three months ended June 30, 2013 and 2012, respectively, reflecting both an increased retention on property lines and the non-renewal of some marine retrocessional cover.
 
AlphaCat. AlphaCat net premiums written for the three months ended June 30, 2013 were $46.8 million compared to $15.2 million for the three months ended June 30, 2012, an increase of $31.6 million. Details of AlphaCat net premiums written by line of business are provided below.

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
46,760

 
100.0
%
 
$
15,155

 
100.0
%
 
208.5
%
Total
 
$
46,760

 
100.0
%
 
$
15,155

 
100.0
%
 
208.5
%
NM: Not meaningful

The increase in AlphaCat net premiums written was driven by the factors highlighted above in respect of gross premiums written. The ratios of net premiums written to gross premiums written were 100.0% for the three months ended June 30, 2013 and 2012.

Talbot. Talbot net premiums written for the three months ended June 30, 2013 were $268.3 million compared to $249.1 million for the three months ended June 30, 2012, an increase of $19.2 million or 7.7%. Details of Talbot net premiums written by line of business are provided below.

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Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
85,570

 
31.9
%
 
$
62,795

 
25.2
%
 
36.3
 %
Marine
 
99,384

 
37.0
%
 
102,913

 
41.3
%
 
(3.4
)%
Specialty
 
83,377

 
31.1
%
 
83,401

 
33.5
%
 
—
 %
Total
 
$
268,331

 
100.0
%
 
$
249,109

 
100.0
%
 
7.7
 %
 
The increase in net premiums written was driven by the factors highlighted above in respect of gross premiums written and reinsurance premiums ceded. The ratios of net premiums written to gross premiums written for the three months ended June 30, 2013 and 2012 were 85.0% and 87.9%, respectively, reflecting the additional ceded reinstatement premiums and increased coverage on marine lines.
 
Net Change in Unearned Premiums
 
Net change in unearned premiums for the three months ended June 30, 2013 was ($33.5) million compared to ($60.4) million for the three months ended June 30, 2012, an increase of $27.0 million or 44.6%.

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Change in Unearned Premiums
 
Net Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
(57,768
)
 
$
(111,390
)
 
48.1
 %
Change in prepaid reinsurance premiums
 
24,309

 
50,980

 
(52.3
)%
Net change in unearned premiums
 
$
(33,459
)
 
$
(60,410
)
 
44.6
 %
 
a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

Validus Re. Validus Re net change in unearned premiums for the three months ended June 30, 2013 was $38.9 million compared to ($1.1) million for the three months ended June 30, 2012, an increase of $40.0 million.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Change in Unearned Premiums
 
Net Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
5,771

 
$
(70,676
)
 
108.2
 %
Change in prepaid reinsurance premiums
 
33,154

 
69,589

 
(52.4
)%
Net change in unearned premiums
 
$
38,925

 
$
(1,087
)
 
NM

a)    The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful

Validus Re net change in unearned premiums has increased for the three months ended June 30, 2013 due to changes in the timing and earnings pattern of gross premiums written and reinsurance premiums ceded.

AlphaCat. AlphaCat net change in unearned premiums for the three months ended June 30, 2013 was ($11.8) million compared to ($11.6) million for the three months ended June 30, 2012, a decrease of $0.2 million or 1.7%.
    
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Change in Unearned Premiums
 
Net Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
(11,770
)
 
$
(11,568
)
 
(1.7
)%
Net change in unearned premiums
 
$
(11,770
)
 
$
(11,568
)
 
(1.7
)%
NM: Not meaningful

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Table of Contents


AlphaCat net change in unearned premiums decreased for the three months ended June 30, 2013 due to the earnings pattern of gross premiums written.
 
Talbot. Talbot net change in unearned premiums for the three months ended June 30, 2013 was ($60.6) million compared to ($47.8) million for the three months ended June 30, 2012, a decrease of $12.9 million or 26.9%.
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Change in Unearned Premiums
 
Net Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
(51,769
)
 
$
(29,146
)
 
(77.6
)%
Change in prepaid reinsurance premiums
 
(8,845
)
 
(18,609
)
 
52.5
 %
Net change in unearned premiums
 
$
(60,614
)
 
$
(47,755
)
 
(26.9
)%
 
Talbot net change in unearned premium decreased for the three months ended June 30, 2013 due to the earnings pattern of gross premiums written and reinsurance premiums ceded.

Net Premiums Earned
 
Net premiums earned for the three months ended June 30, 2013 were $547.5 million compared to $447.6 million for the three months ended June 30, 2012, an increase of $99.8 million or 22.3%. Details of net premiums earned by line of business are provided below.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
261,087

 
47.7
%
 
$
202,692

 
45.3
%
 
28.8
 %
Marine
 
139,341

 
25.5
%
 
146,682

 
32.8
%
 
(5.0
)%
Specialty
 
147,030

 
26.8
%
 
98,253

 
21.9
%
 
49.6
 %
Total
 
$
547,458

 
100.0
%
 
$
447,627

 
100.0
%
 
22.3
 %
 
a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

Validus Re. Validus Re net premiums earned for the three months ended June 30, 2013 were $304.8 million compared to $242.7 million for the three months ended June 30, 2012, an increase of $62.1 million or 25.6%. Details of Validus Re net premiums earned by line of business are provided below.

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
176,640

 
58.0
%
 
$
158,360

 
65.3
%
 
11.5
 %
Marine
 
52,378

 
17.2
%
 
61,185

 
25.2
%
 
(14.4
)%
Specialty
 
75,733

 
24.8
%
 
23,141

 
9.5
%
 
227.3
 %
Total
 
$
304,751

 
100.0
%
 
$
242,686

 
100.0
%
 
25.6
 %

a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

The increase in net premiums earned in the property lines of $18.3 million was primarily due to a $25.1 million increase in net premiums earned relating to business assumed through the Flagstone acquisition, partially offset by a decrease in premiums assumed from Talbot of $4.8 million. The decrease in premiums earned in the marine lines of $8.8 million was due primarily to the reduction in levels of gross premiums written over recent quarters. The increase in premiums earned in the specialty lines of $52.6 million was due primarily to the earnings of new agricultural business written during the first quarter of 2013. The increase in net premiums earned is consistent with the relevant pattern of net premiums written influencing the earned premiums for the three months ended June 30, 2013 compared to the three months ended June 30, 2012.


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Table of Contents

AlphaCat. AlphaCat net premiums earned for the three months ended June 30, 2013 were $35.0 million compared to $3.6 million for the three months ended June 30, 2012, an increase of $31.4 million. Details of AlphaCat net premiums earned by line of business are provided below.
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
34,990

 
100.0
%
 
$
3,587

 
100.0
%
 
NM
Total
 
$
34,990

 
100.0
%
 
$
3,587

 
100.0
%
 
NM
NM: Not meaningful

The increase in net premiums earned is consistent with the relevant pattern of net premiums written, influencing the earned premiums for three months ended June 30, 2013 compared to the three months ended June 30, 2012. The increase in net premiums earned is due primarily to the renewal of business through AlphaCat Reinsurance, Ltd. ("AlphaCat Re"), which is fully consolidated, whereas the comparable business was included within AlphaCat Re 2011 and 2012 which were not consolidated in 2012, and were accounted for as operating affiliates under the equity method of accounting. The comparable renewals were included in managed gross premiums, a comparable measure. A reconciliation of managed gross premiums written to gross premiums written, the most comparable U.S. GAAP financial measure, is presented below in the section entitled "Other Non-GAAP Financial Measures."

Talbot. Talbot net premiums earned for the three months ended June 30, 2013 were $207.7 million compared to $201.4 million for the three months ended June 30, 2012, an increase of $6.4 million or 3.2%. Details of Talbot net premiums earned by line of business are provided below.

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
49,457

 
23.8
%
 
$
40,745

 
20.2
%
 
21.4
 %
Marine
 
86,963

 
41.9
%
 
85,497

 
42.5
%
 
1.7
 %
Specialty
 
71,297

 
34.3
%
 
75,112

 
37.3
%
 
(5.1
)%
Total
 
$
207,717

 
100.0
%
 
$
201,354

 
100.0
%
 
3.2
 %
 
The increase in net premiums earned is consistent with the relevant patterns of net premiums written influencing the earned premiums for three months ended June 30, 2013 compared to the three months ended June 30, 2012.
 
Losses and Loss Expenses
 
Losses and loss expenses for the three months ended June 30, 2013 were $265.0 million compared to $153.7 million for the three months ended June 30, 2012, an increase of $111.4 million or 72.5%. The loss ratios, defined as losses and loss expenses divided by net premiums earned, for the three months ended June 30, 2013 and 2012 were 48.4% and 34.3%, respectively. Details of loss ratios by line of business are provided below.
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
Percentage Point Change
Property
32.6
%
 
37.1
%
 
(4.5
)
Marine
70.9
%
 
30.6
%
 
40.3

Specialty
55.2
%
 
34.3
%
 
20.9

All lines
48.4
%
 
34.3
%
 
14.1

 
a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

During the three months ended June 30, 2013, the Company incurred $77.6 million of losses from a notable loss event, which represented 14.2 percentage points of the loss ratio. For the three months ended June 30, 2012, there were no notable losses. The Company's loss ratio, excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development for the three months ended June 30, 2013 and 2012 was 41.7% and 42.7%, respectively.


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Table of Contents

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30, 2013
 
 
 
 
(Dollars in thousands)
Second Quarter 2013 Notable Loss Events (a)
 
Validus Re
 
AlphaCat (d)
 
Talbot
 
Total
Description
 
 
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
European floods
 
Floods
 
$
69,895

 
22.9
%
 
$
975

 
2.8
%
 
$
6,717

 
3.2
%
 
$
77,587

 
14.2
%
Total
 
 
 
$
69,895

 
22.9
%
 
$
975

 
2.8
%
 
$
6,717

 
3.2
%
 
$
77,587

 
14.2
%

 
 
 
 
Three Months Ended June 30, 2012
 
 
 
 
(Dollars in thousands)
Second Quarter 2012 Notable Loss Events (a)
 
Validus Re
 
AlphaCat
 
Talbot
 
Total
Description
 
 
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
 
Net Losses and Loss Expenses(b)
 
% of NPE(c)
None
 
 
 
$
—

 
—
%
 
$
—

 
—
%
 
$
—

 
—
%
 
$
—

 
—
%
Total
 
 
 
$
—

 
—
%
 
$
—

 
—
%
 
$
—

 
—
%
 
$
—

 
—
%

(a)
The notable loss event amounts were based on management's estimates following a review of the company's potential exposure and discussions with certain clients and brokers. Given the magnitude of this event, and other uncertainties inherent in loss estimation, meaningful uncertainty remains regarding losses from this event and the Company's actual ultimate net losses from this event may vary materially from this estimate.

(b) 
Net of reinsurance but not net of reinstatement premiums. Total reinstatement premiums were $7.1 million for the three months ended June 30, 2013.

(c)
NPE = net premiums earned.

(d)
The AlphaCat segment incurred loss and loss expenses of $1.0 million. The Company's share of the loss was $0.1 million as a result of Validus' investment in an AlphaCat ILS fund.


Details of loss ratios by line of business and period of occurrence are provided below.
 
Three Months Ended June 30,
 
2013
 
2012 (a)
 
Percentage Point Change
Property - current period - excluding items below
31.4
 %
 
35.5
 %
 
(4.1
)
Property - current period - notable losses
29.0
 %
 
0.0
 %
 
29.0

Property - change in prior accident years
(27.8
)%
 
1.6
 %
 
(29.4
)
Property - loss ratio
32.6
 %
 
37.1
 %
 
(4.5
)
 
 
 
 
 
 
Marine - current period - excluding items below
38.2
 %
 
50.5
 %
 
(12.3
)
Marine - current period - notable losses
1.4
 %
 
0.0
 %
 
1.4

Marine - change in prior accident years
31.3
 %
 
(19.9
)%
 
51.2

Marine - loss ratio
70.9
 %
 
30.6
 %
 
40.3

 
 
 
 
 
 
Specialty - current period - excluding items below
63.4
 %
 
46.1
 %
 
17.3

Specialty - current period - notable losses
0.0
 %
 
0.0
 %
 
0.0

Specialty - change in prior accident years
(8.2
)%
 
(11.8
)%
 
3.6

Specialty – loss ratio
55.2
 %
 
34.3
 %
 
20.9

 
 
 
 
 
 
All lines - current period - excluding items below
41.7
 %
 
42.7
 %
 
(1.0
)
All lines - current period - notable losses
14.2
 %
 
0.0
 %
 
14.2

All lines - change in prior accident years
(7.5
)%
 
(8.4
)%
 
0.9

All lines - loss ratio
48.4
 %
 
34.3
 %
 
14.1

 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

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Table of Contents


Validus Re. Validus Re losses and loss expenses for the three months ended June 30, 2013 were $183.6 million compared to $53.2 million for the three months ended June 30, 2012, an increase of $130.5 million or 245.3%. The loss ratio, was 60.3% and 21.9% for the three months ended June 30, 2013 and 2012, respectively. For the three months ended June 30, 2013, Validus Re incurred losses of $186.7 million related to current year losses and $3.0 million of favorable loss reserve development relating to prior accident years. For the three months ended June 30, 2013, favorable loss reserve development on prior accident years benefited the Validus Re loss ratio by 1.0 percentage point. For the three months ended June 30, 2012, Validus Re incurred losses of $63.9 million related to current year losses and $10.7 million of favorable loss reserve development relating to prior accident years. For the three months ended June 30, 2012, favorable loss reserve development on prior years benefited the Validus Re loss ratio by 4.4 percentage points.

During the three months ended June 30, 2013, Validus Re incurred $69.9 million of losses from a notable loss event, which represented 22.9 percentage points of the loss ratio. For the three months ended June 30, 2012, Validus Re did not incur any notable losses. Validus Re segment loss ratios excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development for the three months ended June 30, 2013 and 2012 were 38.4% and 26.3%, respectively. Details of Validus Re loss ratios by line of business and period of occurrence are provided below.

 
Three Months Ended June 30,
 
2013
 
2012 (a)
 
Percentage Point Change
Property - current period excluding items below
28.4
 %
 
26.9
 %
 
1.5

Property - current period - notable losses
39.6
 %
 
0.0
 %
 
39.6

Property - change in prior accident years
(27.8
)%
 
6.1
 %
 
(33.9
)
Property - loss ratio
40.2
 %
 
33.0
 %
 
7.2

 
 
 
 
 
 
Marine - current period excluding items below
36.7
 %
 
28.5
 %
 
8.2

Marine - current period - notable losses
0.0
 %
 
0.0
 %
 
—

Marine - change in prior accident years
89.6
 %
 
(25.5
)%
 
115.1

Marine - loss ratio
126.3
 %
 
3.0
 %
 
123.3

 
 
 
 
 
 
Specialty - current period excluding items below
62.7
 %
 
16.5
 %
 
46.2

Specialty - current period - notable losses
0.0
 %
 
0.0
 %
 
0.0

Specialty - change in prior accident years
(1.2
)%
 
(20.6
)%
 
19.4

Specialty – loss ratio
61.5
 %
 
(4.1
)%
 
65.6

 
 
 
 
 
 
All lines - current period excluding items below
38.4
 %
 
26.3
 %
 
12.1

All lines - current period - notable losses
22.9
 %
 
0.0
 %
 
22.9

All lines - change in prior accident years
(1.0
)%
 
(4.4
)%
 
3.4

All lines - loss ratio
60.3
 %
 
21.9
 %
 
38.4

 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

For the three months ended June 30, 2013, Validus Re property lines losses and loss expenses included $120.0 million related to current year losses and $49.0 million of favorable loss reserve development relating to prior accident years. The favorable loss reserve development was due to lower than expected claims development on the Chilean earthquake of $10.7 million and lower than expected claims emergence on attritional losses. For the three months ended June 30, 2012, Validus Re property lines losses and loss expenses included $42.6 million related to current year losses and $9.7 million of adverse loss reserve development relating to prior accident years. The adverse loss reserve development was due to an increase in loss estimates on prior year notable loss events, which led to a movement in the reserve for potential development on notable loss events during the three months ended June 30, 2012.

For the three months ended June 30, 2013, Validus Re property lines incurred $69.9 million of losses from a notable loss event, which represented 39.6 percentage points of the property lines loss ratio. For the three months ended June 30, 2012, Validus Re property lines did not incur any notable losses. Validus Re property lines loss ratios, excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development, for the three months ended June 30, 2013 and 2012 were 28.4% and 26.9%, respectively.


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Table of Contents

For the three months ended June 30, 2013, Validus Re marine lines losses and loss expenses included $19.2 million related to current year losses and $46.9 million of adverse loss reserve development relating to prior accident years. The adverse loss reserve development related primarily to an increase in the ultimate loss estimate on Costa Concordia of $32.6 million, a $5.3 million adverse movement on the Deepwater Horizon as well as higher than expected claims emergence on attritional losses. For the three months ended June 30, 2012, Validus Re marine lines losses and loss expenses included $17.5 million related to current year losses and $15.6 million of favorable loss reserve development relating to prior accident years. The favorable loss reserve development was due primarily to a reduction in loss estimates on attritional losses.
 
For the three months ended June 30, 2013 and 2012, Validus Re marine lines did not incur any notable losses. Validus Re marine lines loss ratios, excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development, for the three months ended June 30, 2013 and 2012 were 36.7% and 28.5%, respectively.

For the three months ended June 30, 2013, Validus Re specialty lines losses and loss expenses included $47.5 million related to current year losses and $0.9 million of favorable loss reserve development relating to prior accident years. The favorable loss reserve development was due primarily to lower than expected claims emergence on attritional losses. For the three months ended June 30, 2012, Validus Re specialty lines losses and loss expenses included $3.8 million related to current year losses and $4.8 million of favorable loss reserve development relating to prior accident years. The favorable loss reserve development was due primarily to a reduction in loss estimates on attritional losses.
 
For the three months ended June 30, 2013 and 2012, Validus Re specialty lines did not incur any notable losses. Validus Re specialty lines loss ratios, excluding prior year loss reserve development, for the three months ended June 30, 2013 and 2012 were 62.7% and 16.5%, respectively. The increase specialty lines loss ratio was due primarily to the impact of the increase in agricultural premiums which typically has a higher attritional loss ratio than other specialty classes. 
 
AlphaCat. AlphaCat losses and loss expenses for the three months ended June 30, 2013 were $1.3 million compared to $nil for the three months ended June 30, 2012, an increase of $1.3 million. The loss ratio, was 3.8% and 0.0% for the three months ended June 30, 2013 and 2012. For the three months ended June 30, 2013, AlphaCat incurred losses of $1.3 million related to current year losses. For the three months ended June 30, 2012, AlphaCat did not incur any losses and loss expenses. The Company's share of any losses incurred by our non-consolidated affiliates, AlphaCat Re 2011 and AlphaCat Re 2012, are included in "Income from operating affiliates."

For the three months ended June 30, 2013, AlphaCat incurred losses of $1.0 million from a notable loss event, which represented 2.8 percentage points of the loss ratio. Through our investments in certain AlphaCat companies, Validus' share of this loss was $0.1 million. For the three months ended June 30, 2012, AlphaCat did not incur any losses from notable loss events. AlphaCat loss ratios, excluding notable loss events and prior year loss reserve development, for the three months ended June 30, 2013 and 2012 were 1.0% and 0.0%, respectively.
 
Talbot. Talbot losses and loss expenses for the three months ended June 30, 2013 were $80.1 million compared to $100.5 million for the three months ended June 30, 2012, a decrease of $20.4 million or 20.3%. The loss ratio, was 38.6% and 49.9% for the three months ended June 30, 2013 and 2012, respectively.  For the three months ended June 30, 2013, Talbot incurred losses of $118.1 million related to current year losses and $38.0 million of favorable loss reserve development relating to prior accident years. For the three months ended June 30, 2013, favorable loss reserve development on prior accident years benefited the Talbot loss ratio by 18.3 percentage points. For the three months ended June 30, 2012, Talbot incurred losses of $127.4 million related to current year losses and $26.9 million in favorable loss reserve development relating to prior accident years. For the three months ended June 30, 2012, favorable loss reserve development on prior accident years benefited the Talbot loss ratio by 13.4 percentage points.
 
During the three months ended June 30, 2013, Talbot incurred $6.7 million of losses from a notable loss event, which represented 3.2 percentage points of the loss ratio. For the three months ended June 30, 2012, Talbot did not incur any notable loss events. Talbot loss ratios, excluding notable loss events and prior year loss reserve development, for the three months ended June 30, 2013 and 2012 were 53.7% and 63.3%, respectively. Details of Talbot loss ratios by line of business and period of occurrence are provided below.

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Three Months Ended June 30,
 
2013
 
2012
 
Percentage Point Change
Property - current period excluding items below
64.1
 %
 
72.0
 %
 
(7.9
)
Property - current period - notable losses
9.5
 %
 
0.0
 %
 
9.5

Property - change in prior accident years
(47.7
)%
 
(15.9
)%
 
(31.8
)
Property - loss ratio
25.9
 %
 
56.1
 %
 
(30.2
)
 
 
 
 
 
 
Marine - current period excluding items below
39.0
 %
 
66.1
 %
 
(27.1
)
Marine - current period - notable losses
2.3
 %
 
0.0
 %
 
2.3

Marine - change in prior accident years
(3.8
)%
 
(15.8
)%
 
12.0

Marine - loss ratio
37.5
 %
 
50.3
 %
 
(12.8
)
 
 
 
 
 
 
Specialty - current period excluding items below
64.2
 %
 
55.3
 %
 
8.9

Specialty - current period - notable losses
0.0
 %
 
0.0
 %
 
0.0

Specialty - change in prior accident years
(15.6
)%
 
(9.2
)%
 
(6.4
)
Specialty – loss ratio
48.6
 %
 
46.1
 %
 
2.5

 
 
 
 
 
 
All lines - current period excluding items below
53.7
 %
 
63.3
 %
 
(9.6
)
All lines - current period - notable losses
3.2
 %
 
0.0
 %
 
3.2

All lines - change in prior accident years
(18.3
)%
 
(13.4
)%
 
(4.9
)
All lines - loss ratio
38.6
 %
 
49.9
 %
 
(11.3
)
 
For the three months ended June 30, 2013, Talbot property lines losses and loss expenses included $36.4 million related to current year losses and $23.6 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was driven primarily by favorable loss experience in particular on the Tohoku earthquake and Hurricane Irene together with lower than expected development on attritional losses. For the three months ended June 30, 2012, Talbot property lines losses and loss expenses included $29.3 million related to current year losses and $6.5 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due to lower than expected claims development on attritional losses.
 
For the three months ended June 30, 2013, Talbot property lines incurred $4.7 million of losses from a notable loss event, which represented 9.5 percentage points on the property lines loss ratio. For the three months ended June 30, 2012, Talbot property lines did not incur any notable losses. Talbot property line loss ratio, excluding notable loss events and prior year loss reserve development for the three months ended June 30, 2013 and 2012 were 64.1% and 72.0%, respectively.
 
For the three months ended June 30, 2013, Talbot marine lines losses and loss expenses included $35.9 million related to current year losses and $3.3 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due to favorable development on attritional losses offset by adverse large loss experience, most notably an increase in the ultimate loss estimate on Costa Concordia of $8.5 million. For the three months ended June 30, 2012, Talbot marine lines losses and loss expenses included $56.5 million related to current year losses and $13.5 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due primarily to favorable development on attritional losses.
 
For the three months ended June 30, 2013, Talbot marine lines incurred $2.0 million of losses from a notable loss event, which represented 2.3 percentage points on the marine lines loss ratio. For the three months ended June 30, 2012, Talbot marine lines did not incur any notable losses. Talbot marine lines loss ratios, excluding notable loss events and prior year loss reserve development for the three months ended June 30, 2013 and 2012 were 39.0% and 66.1%, respectively due to a lower level of claims activity than normal in 2013.
 
For the three months ended June 30, 2013, Talbot specialty lines losses and loss expenses included $45.8 million relating to current year losses and $11.1 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due to favorable attritional loss development and the low emergence of large losses. For the three months ended June 30, 2012, Talbot specialty lines losses and loss expenses included $41.5 million relating to current year losses and $6.9 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was attributable to lower than expected claims development on attritional losses.
 

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For the three months ended June 30, 2013 and 2012 Talbot specialty lines did not incur any notable losses. Talbot specialty lines loss ratios, excluding notable loss events and prior year loss reserve development for the three months ended June 30, 2013 and 2012 were 64.2% and 55.3%, respectively.


Reserves for Losses and Loss Expenses
 
At June 30, 2013, gross and net reserves for losses and loss expenses were estimated using the methodology as outlined in the critical accounting policies and estimates as discussed in Item 7, Management's Discussion and Analysis of Results of Operations and Financial Condition in the Company's Annual Report on Form 10-K/A for the year ended December 31, 2012. The Company did not make any significant changes in the assumptions or methodology used in its reserving process for the three and six months ended June 30, 2013.

 
 
As at June 30, 2013
(Dollars in thousands)
 
Gross Case Reserves
 
Gross IBNR
 
Total Gross Reserve for Losses and Loss Expenses
Property
 
$
849,263

 
$
719,469

 
$
1,568,732

Marine
 
495,962

 
512,589

 
1,008,551

Specialty
 
258,753

 
447,414

 
706,167

Total
 
$
1,603,978

 
$
1,679,472

 
$
3,283,450

 
 
 
As at June 30, 2013
(Dollars in thousands)
 
Net Case Reserves
 
Net IBNR
 
Total Net Reserve for Losses and Loss Expenses
Property
 
$
719,837

 
$
624,998

 
$
1,344,835

Marine
 
445,383

 
459,949

 
905,332

Specialty
 
226,811

 
387,779

 
614,590

Total
 
$
1,392,031

 
$
1,472,726

 
$
2,864,757

 
The following table sets forth a reconciliation of gross and net reserves for losses and loss expenses by segment for the three months ended June 30, 2013:
 
 
 
Three Months Ended June 30, 2013
(Dollars in thousands)
 
Validus Re Segment
 
AlphaCat Segment
 
Talbot Segment
 
Eliminations
 
Total
Gross reserves at period beginning
 
$
2,015,463

 
$
5,000

 
$
1,420,136

 
$
(82,908
)
 
$
3,357,691

Losses recoverable
 
(142,828
)
 
—

 
(369,332
)
 
82,908

 
(429,252
)
Net reserves at period beginning
 
1,872,635

 
5,000

 
1,050,804

 
—

 
2,928,439

 
 
 
 
 
 
 
 
 
 
 
Net reserves acquired
 
948

 
—

 
—

 
—

 
948

Incurred losses - current year
 
186,661

 
1,313

 
118,059

 
—

 
306,033

Change in prior accident years
 
(3,015
)
 
—

 
(37,974
)
 
—

 
(40,989
)
Incurred losses
 
183,646

 
1,313

 
80,085

 
—

 
265,044

 
 
 
 
 
 
 
 
 
 
 
Foreign exchange
 
(17,179
)
 
—

 
(283
)
 
—

 
(17,462
)
Total net paid losses
 
(199,144
)
 
—

 
(113,068
)
 
—

 
(312,212
)
Net reserves at period end
 
1,840,906

 
6,313

 
1,017,538

 
—

 
2,864,757

Losses recoverable
 
138,976

 
—

 
350,075

 
(70,358
)
 
418,693

Gross reserves at period end
 
$
1,979,882

 
$
6,313

 
$
1,367,613

 
$
(70,358
)
 
$
3,283,450

 
The amount of recorded reserves represents management's best estimate of expected losses and loss expenses on premiums earned. For the three months ended June 30, 2013, favorable loss reserve development on prior accident years was $41.0 million, of which, $3.0 million related to the Validus Re segment and $38.0 million related to the Talbot segment. Favorable loss reserve

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development benefited the Company's loss ratio by 7.5 percentage points for the three months ended June 30, 2013. For the three months ended June 30, 2012, favorable loss reserve development on prior accident years was $37.6 million, of which, $10.7 million related to the Validus Re segment and $26.9 million related to the Talbot segment. Favorable loss reserve development benefited the Company's loss ratio by 8.4 percentage points for the three months ended June 30, 2012.
 
Management of insurance and reinsurance companies use significant judgment in the estimation of reserves for losses and loss expenses. Given the magnitude of recent loss events and other uncertainties inherent in loss estimation, meaningful uncertainty remains regarding the estimation for recent notable loss events. The Company's actual ultimate net loss may vary materially from these estimates. Ultimate losses for notable loss events are estimated through detailed review of contracts which are identified by the Company as potentially exposed to the specific notable loss event. However, there can be no assurance that the ultimate loss amount estimated for a specific contract will be accurate, or that all contracts with exposure to a specific notable loss event will be identified in a timely manner. Potential losses in excess of the estimated ultimate loss assigned to a contract on the basis of a specific review, or loss amounts from contracts not specifically included in the detailed review are reserved for in the reserve for potential development on notable loss events. The reserve for potential development on notable loss events (or “RDE”) is included as part of the Company's overall reserve requirement as defined and disclosed in the Critical Accounting Policies and Estimates section of the Company's Annual Report on Form 10-K/A.

As at March 31, 2013 and June 30, 2013, the RDE on 2011 notable loss events was $34.2 million. During the three months ended June 30, 2013, the Company did not allocate any of the 2011 RDE. Contract complexity, the nature and number of perils arising from these events, limits and sub limits exposed, the quality, flow and timing of information received by the Company, information regarding retrocessional covers, assumptions, both explicit and implicit, regarding future paid and reported loss development patterns, frequency and severity trends, claims settlement practices and potential changes in the legal environment continue to lead to complexity and volatility in the ultimate loss estimates for these events. No RDE was established for 2012 or 2013 notable losses.

Policy Acquisition Costs
 
Policy acquisition costs for the three months ended June 30, 2013 were $87.2 million compared to $76.1 million for the three months ended June 30, 2012, an increase of $11.0 million or 14.5%. Policy acquisition costs as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 15.9% and 17.0%, respectively. The changes in policy acquisition costs are due to the factors described below.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
33,536

 
38.5
%
 
12.8
%
 
$
22,355

 
29.3
%
 
11.0
%
 
50.0
 %
Marine
 
28,921

 
33.2
%
 
20.8
%
 
31,482

 
41.4
%
 
21.5
%
 
(8.1
)%
Specialty
 
24,695

 
28.3
%
 
16.8
%
 
22,292

 
29.3
%
 
22.7
%
 
10.8
 %
Total
 
$
87,152

 
100.0
%
 
15.9
%
 
$
76,129

 
100.0
%
 
17.0
%
 
14.5
 %
 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

Validus Re. Validus Re policy acquisition costs for the three months ended June 30, 2013 were $42.8 million compared to $37.1 million for the three months ended June 30, 2012, an increase of $5.7 million or 15.4%.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
25,875

 
60.5
%
 
14.6
%
 
$
21,389

 
57.7
%
 
13.5
%
 
21.0
 %
Marine
 
9,150

 
21.4
%
 
17.5
%
 
11,783

 
31.8
%
 
19.3
%
 
(22.3
)%
Specialty
 
7,764

 
18.1
%
 
10.3
%
 
3,912

 
10.5
%
 
16.9
%
 
98.5
 %
Total
 
$
42,789

 
100.0
%
 
14.0
%
 
$
37,084

 
100.0
%
 
15.3
%
 
15.4
 %
 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.


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Table of Contents

Policy acquisition costs include brokerage, commission and excise tax, are generally driven by contract terms, are normally a set percentage of premiums and are also net of ceding commission income on retrocessions. Items such as ceded premium, earned premium adjustments and reinstatement premiums that are recognized in the period have an effect on the policy acquisition cost ratio. Validus Re policy acquisition costs as a percent of net premiums earned (the acquisition cost ratio) for the three months ended June 30, 2013 and 2012 were 14.0% and 15.3%, respectively. The policy acquisition cost ratio on the specialty lines has decreased by 6.6 percentage points primarily due to the effect of lower commission rates on the agricultural business written during the first quarter.

AlphaCat. AlphaCat policy acquisition costs for the three months ended June 30, 2013 were $3.6 million compared to $0.4 million for the three months ended June 30, 2012, an increase of $3.2 million.

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
3,586

 
100.0
%
 
10.2
%
 
$
382

 
100.0
%
 
10.6
%
 
NM
Total
 
$
3,586

 
100.0
%
 
10.2
%
 
$
382

 
100.0
%
 
10.6
%
 
NM
NM: Not meaningful

Policy acquisition costs as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 10.2% and 10.6%, respectively.

Talbot. Talbot policy acquisition costs for the three months ended June 30, 2013 were $41.7 million compared to $41.8 million for the three months ended June 30, 2012, a decrease of $0.1 million or 0.3%.

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
4,903

 
11.8
%
 
9.9
%
 
$
3,718

 
8.9
%
 
9.1
%
 
31.9
 %
Marine
 
19,808

 
47.5
%
 
22.8
%
 
19,646

 
47.0
%
 
23.0
%
 
0.8
 %
Specialty
 
16,956

 
40.7
%
 
23.8
%
 
18,439

 
44.1
%
 
24.5
%
 
(8.0
)%
Total
 
$
41,667

 
100.0
%
 
20.1
%
 
$
41,803

 
100.0
%
 
20.8
%
 
(0.3
)%
 
Policy acquisition costs as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 20.1% and 20.8%, respectively.

General and Administrative Expenses
 
General and administrative expenses for the three months ended June 30, 2013 were $71.0 million compared to $61.6 million for the three months ended June 30, 2012, an increase of $9.3 million or 15.1%.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
General and Administrative Expenses
 
General and Administrative Expenses (%)
 
General and Administrative Expenses
 
General and Administrative Expenses (%)
 
% Change
Validus Re (a)
 
$
20,423

 
28.8
%
 
$
14,142

 
23.0
%
 
44.4
%
AlphaCat
 
3,992

 
5.6
%
 
2,402

 
3.9
%
 
66.2
%
Talbot
 
32,192

 
45.4
%
 
30,957

 
50.2
%
 
4.0
%
Corporate & Eliminations
 
14,360

 
20.2
%
 
14,134

 
22.9
%
 
1.6
%
Total
 
$
70,967

 
100.0
%
 
$
61,635

 
100.0
%
 
15.1
%

(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

General and administrative expenses of $71.0 million in the three months ended June 30, 2013 represents 13.0 percentage points of the expense ratio. Share compensation expense is discussed in the following section.

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Table of Contents

 
Validus Re. Validus Re general and administrative expenses for the three months ended June 30, 2013 were $20.4 million compared to $14.1 million for the three months ended June 30, 2012, an increase of $6.3 million or 44.4%. General and administrative expenses have increased primarily due to the acquisition of Flagstone, which accounted for an additional $6.0 million of general and administrative expenses for the three months ended June 30, 2013. General and administrative expenses include salaries and benefits, professional fees, rent and office expenses. Validus Re general and administrative expenses as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 6.7% and 5.8%, respectively.
 
AlphaCat. AlphaCat general and administrative expenses for the three months ended June 30, 2013 were $4.0 million compared to $2.4 million for the three months ended June 30, 2012, an increase of $1.6 million or 66.2%. General and administrative expenses have increased primarily due to an increase in management and performance fees during the quarter. AlphaCat's general and administrative expenses as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 11.5% and 67.0%, respectively. The AlphaCat segment's general and administrative ratio has been impacted by the increase in net premiums earned as the comparatives have a greater proportion of revenues generated in equity earnings from operating affiliates which is not included in the ratio calculation.
 
Talbot. Talbot general and administrative expenses for the three months ended June 30, 2013 were $32.2 million compared to $31.0 million for the three months ended June 30, 2012, an increase of $1.2 million or 4.0%. Talbot's general and administrative expenses as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 15.5% and 15.4%, respectively.
 
Corporate & Eliminations. Corporate general and administrative expenses for the three months ended June 30, 2013 were $14.4 million compared to $14.1 million for the three months ended June 30, 2012, an increase of $0.2 million or 1.6%. Corporate general and administrative expenses are comprised of executive and board expenses, internal and external audit expenses and other costs relating to the Company as a whole.
 
Share Compensation Expenses
 
Share compensation expenses for the three months ended June 30, 2013 were $6.6 million compared to $6.8 million for the three months ended June 30, 2012, a decrease of $0.2 million or 2.4%. This expense is non-cash and has no net effect on total shareholders' equity, as it is balanced by an increase in additional paid-in capital.
 
 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Share Compensation Expenses
 
Share Compensation Expenses (%)
 
Share Compensation Expenses
 
Share Compensation Expenses (%)
 
% Change
Validus Re (a)
 
$
1,529

 
23.0
%
 
$
1,966

 
28.8
%
 
(22.2
)%
AlphaCat
 
85

 
1.3
%
 
59

 
0.9
%
 
44.1
 %
Talbot
 
2,357

 
35.5
%
 
1,799

 
26.5
%
 
31.0
 %
Corporate & Eliminations
 
2,667

 
40.2
%
 
2,976

 
43.8
%
 
(10.4
)%
Total
 
$
6,638

 
100.0
%
 
$
6,800

 
100.0
%
 
(2.4
)%

(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition. 
 
Validus Re. Validus Re share compensation expenses for the three months ended June 30, 2013 were $1.5 million compared to $2.0 million for the three months ended June 30, 2012, a decrease of $0.4 million or 22.2%. Share compensation expenses as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 0.5% and 0.8%, respectively.
 
AlphaCat. AlphaCat share compensation expenses for the three months ended June 30, 2013 were $0.1 million compared to $0.1 million for the three months ended June 30, 2012. Share compensation expenses as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 0.2% and 1.6%, respectively.
 
Talbot. Talbot share compensation expenses for the three months ended June 30, 2013 was $2.4 million compared to $1.8 million for the three months ended June 30, 2012, an increase of $0.6 million or 31.0%. Share compensation expenses as a percent of net premiums earned for the three months ended June 30, 2013 and 2012 were 1.1% and 0.9%, respectively.
 

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Table of Contents

Corporate & Eliminations.Corporate share compensation expenses for the three months ended June 30, 2013 were $2.7 million compared to $3.0 million for the three months ended June 30, 2012, a decrease of $0.3 million or 10.4%.

Selected Ratios
 
The underwriting results of an insurance or reinsurance company are often measured by reference to its combined ratio, which is the sum of the loss ratio and the expense ratio. The following table presents the losses and loss expenses ratio, policy acquisition cost ratio, general and administrative expense ratio, expense ratio and combined ratio for the three months ended June 30, 2013 and 2012.
 
Consolidated
 
Three Months Ended June 30, 2013

Three Months Ended June 30, 2012 (a)
 
Percentage Point Change
Losses and loss expense ratio
 
48.4
%
 
34.3
%
 
14.1

Policy acquisition cost ratio
 
15.9
%
 
17.0
%
 
(1.1
)
General and administrative expense ratio (b)
 
14.2
%
 
15.3
%
 
(1.1
)
Expense ratio
 
30.1
%
 
32.3
%
 
(2.2
)
Combined ratio
 
78.5
%
 
66.6
%
 
11.9

 
Validus Re
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
Percentage Point Change
Losses and loss expense ratio
 
60.3
%
 
21.9
%
 
38.4

Policy acquisition cost ratio
 
14.0
%
 
15.3
%
 
(1.3
)
General and administrative expense ratio (b)
 
7.2
%
 
6.6
%
 
0.6

Expense ratio
 
21.2
%
 
21.9
%
 
(0.7
)
Combined ratio
 
81.5
%
 
43.8
%
 
37.7


AlphaCat
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
Percentage Point Change
Losses and loss expense ratio
 
3.8
%
 
0.0
%
 
3.8

Policy acquisition cost ratio
 
10.2
%
 
10.6
%
 
(0.4
)
General and administrative expense ratio (b)
 
11.7
%
 
68.6
%
 
(56.9
)
Expense ratio
 
21.9
%
 
79.2
%
 
(57.3
)
Combined ratio
 
25.7
%
 
79.2
%
 
(53.5
)

Talbot
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
 
Percentage Point Change
Losses and loss expense ratio
 
38.6
%
 
49.9
%
 
(11.3
)
Policy acquisition cost ratio
 
20.1
%
 
20.8
%
 
(0.7
)
General and administrative expense ratio (b)
 
16.6
%
 
16.3
%
 
0.3

Expense ratio
 
36.7
%
 
37.1
%
 
(0.4
)
Combined ratio
 
75.3
%
 
87.0
%
 
(11.7
)

(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

(b)
Includes general and administrative expenses and share compensation expenses.
 
General and administrative expense ratios for the three months ended June 30, 2013 and 2012 were 14.2% and 15.3%, respectively. General and administrative expense ratio is the sum of general and administrative expenses and share compensation expenses divided by net premiums earned.


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Table of Contents

 
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
(Dollars in thousands)
 
Expenses
 
Expenses as % of Net Earned Premiums
 
Expenses
 
Expenses as % of Net Earned Premiums
General and administrative expenses
 
$
70,967

 
13.0
%
 
$
61,635

 
13.8
%
Share compensation expenses
 
6,638

 
1.2
%
 
6,800

 
1.5
%
Total
 
$
77,605

 
14.2
%
 
$
68,435

 
15.3
%
 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

Underwriting Income
 
Underwriting income for the three months ended June 30, 2013 was $117.7 million compared to $149.4 million for the three months ended June 30, 2012, a decrease of $31.7 million, or 21.2%.
(Dollars in thousands)
 
Three Months Ended June 30, 2013
 
% of sub-total
 
Three Months Ended June 30, 2012 (a)
 
% of sub-total
 
% Change
Validus Re
 
$
56,364

 
42.2
%
 
$
136,304

 
83.4
%
 
(58.6
)%
AlphaCat
 
26,014

 
19.4
%
 
744

 
0.5
%
 
NM

Talbot
 
51,416

 
38.4
%
 
26,293

 
16.1
%
 
95.6
 %
Sub-total
 
133,794

 
100.0
%
 
163,341

 
100.0
%
 
(18.1
)%
Corporate & Eliminations
 
(16,137
)
 
 

 
(13,970
)
 
 

 
(15.5
)%
Total
 
$
117,657

 
 

 
$
149,371

 
 

 
(21.2
)%

(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful
The underwriting results of an insurance or reinsurance company are also often measured by reference to its underwriting income, which is a non-GAAP measure as previously defined. Underwriting income, as set out in the table below, is reconciled to net income (the most directly comparable GAAP financial measure) by the addition or subtraction of certain Consolidated Statement of Comprehensive Income (Loss) line items, as illustrated below.
 
(Dollars in thousands)
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
Underwriting income
 
$
117,657

 
$
149,371

Net investment income
 
26,210

 
25,885

Other income
 
4,418

 
5,994

Finance expenses
 
(37,830
)
 
(13,706
)
Net realized gains on investments
 
3,409

 
6,154

Net unrealized (losses) on investments
 
(141,348
)
 
(53,574
)
Income (loss) from investment affiliate
 
1,753

 
(398
)
Foreign exchange (losses)
 
(8,223
)
 
(652
)
Tax (expense)
 
(93
)
 
(404
)
Income from operating affiliates
 
3,793

 
3,592

Net (loss) income
 
$
(30,254
)
 
$
122,262

 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

Underwriting income indicates the performance of the Company's core underwriting function, excluding revenues and expenses such as the reconciling items in the table above. The Company believes the reporting of underwriting income enhances the understanding of our results by highlighting the underlying profitability of the Company's core insurance and reinsurance business. Underwriting profitability is influenced significantly by earned premium growth, adequacy of the Company's pricing and loss frequency and severity. Underwriting profitability over time is also influenced by the Company's underwriting discipline, which seeks to manage exposure to loss through favorable risk selection and diversification, its management of claims, its use of reinsurance and its ability to manage its expense ratio, which it accomplishes through its management of acquisition costs and other underwriting expenses. The Company believes that underwriting income provides investors with a valuable measure of profitability derived from underwriting activities.
 

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The Company excludes the U.S. GAAP income statement line items noted above, from its calculation of underwriting income. Net realized and unrealized gains (losses) on investments are excluded because the amount of these gains and losses is heavily influenced by, and fluctuates in part, according to availability of investment market opportunities. The Company believes the other line items excluded are largely independent of its underwriting business and including them distorts the analysis of trends in its operations. In addition to presenting net income determined in accordance with U.S. GAAP, the Company believes that showing underwriting income enables investors, analysts, rating agencies and other users of its financial information to more easily analyze the Company's results of operations in a manner similar to how management analyzes the Company's underlying business performance. The Company uses underwriting income as a primary measure of underwriting results in its analysis of historical financial information and when performing its budgeting and forecasting processes. Analysts, investors and rating agencies who follow the Company request this non-GAAP financial information on a regular basis. In addition, underwriting income is one of the factors considered by the compensation committee of our Board of Directors in determining the bonus component of the total annual incentive compensation.
 
Underwriting income should not be viewed as a substitute for U.S. GAAP net income as there are inherent material limitations associated with the use of underwriting income as compared to using net income, which is the most directly comparable U.S. GAAP financial measure. The most significant limitation is the ability of users of the financial information to make comparable assessments of underwriting income with other companies, particularly as underwriting income may be defined or calculated differently by other companies. Therefore, the Company provides more prominence in this filing to the use of the most comparable U.S. GAAP financial measure, net income, which includes the reconciling items in the table above. The Company compensates for these limitations by providing both clear and transparent disclosure of net income and reconciliation of underwriting income to net income.
 
Net Investment Income
 
Net investment income for the three months ended June 30, 2013 was $26.2 million compared to $25.9 million for the three months ended June 30, 2012, an increase of $0.3 million or 1.3%. Net investment income increased primarily as a result of the addition of the Flagstone investment portfolio. Net investment income includes accretion of premium or discount on fixed maturities, interest on coupon-paying bonds, short-term investments and cash and cash equivalents, partially offset by investment management fees. The components of net investment income for the three months ended June 30, 2013 and 2012 are provided below.
 
(Dollars in thousands)
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012 (a)
 
% Change
Fixed maturities and short-term investments
 
$
26,151

 
$
26,471

 
(1.2
)%
Cash and cash equivalents
 
1,629

 
1,449

 
12.4
 %
Securities lending income
 
—

 
1

 
NM

Total gross investment income
 
27,780

 
27,921

 
(0.5
)%
Investment expenses
 
(1,570
)
 
(2,036
)
 
22.9
 %
Net investment income
 
$
26,210

 
$
25,885

 
1.3
 %
 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful

Annualized investment yield is calculated by dividing net investment income (excluding other investments) by the average balance of the assets managed by our portfolio managers (excluding other investments). Average assets is the average of the beginning, ending and intervening quarter end asset balances. The Company's annualized effective investment yield was 1.43% and 1.69% for the three months ended June 30, 2013 and 2012, respectively, and the average duration of the portfolio at June 30, 2013 was 1.69 years (December 31, 2012- 1.34 years).
 
Other Income
 
Other income for the three months ended June 30, 2013 was $4.4 million compared to $6.0 million for the three months ended June 30, 2012, a decrease of $1.6 million or 26.3%. Other income primarily includes underwriting and performance fees from the AlphaCat segment earned from business written by non consolidated affiliates and the AlphaCat ILS funds.

Finance Expenses
 
Finance expenses for the three months ended June 30, 2013 were $37.8 million compared to $13.7 million for the three months ended June 30, 2012, an increase of $24.1 million or 176.0%. Finance expenses consist of interest on our junior subordinated

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deferrable debentures, junior subordinated deferrable interest notes, senior notes, variable funding notes, the amortization of debt offering costs, fees relating to our credit facilities, bank charges and the costs of the Talbot FAL facility.

 
 
Three Months Ended June 30,
 
 
(Dollars in thousands)
 
2013
 
2012 (a)
 
% Change
2006 Junior Subordinated Deferrable Debentures
 
$
2,211

 
$
1,552

 
42.5
 %
2007 Junior Subordinated Deferrable Debentures
 
1,835

 
2,832

 
(35.2
)%
2010 Senior Notes due 2040
 
5,598

 
5,598

 
0.0
 %
Flagstone 2006 Junior Subordinated Deferrable Interest Notes
 
2,231

 
—

 
NM

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
 
1,547

 
—

 
NM

Credit facilities
 
2,799

 
3,566

 
(21.5
)%
Bank charges
 
99

 
126

 
(21.4
)%
Variable Funding Notes (b)
 
21,478

 
—

 
NM

Talbot FAL Facility
 
32

 
32

 
0.0
 %
Finance expenses
 
$
37,830

 
$
13,706

 
176.0
 %

(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

(b)
Includes Variable funding note expense and other AlphaCat related fees. Please refer to Note 13 "Variable funding notes" in the unaudited Consolidated Financial Statements contained herein for further details.

NM: Not Meaningful
 
The increase in finance expenses of $24.1 million for the three months ended June 30, 2013 was due primarily to the interest expense related to the variable funding notes of $21.5 million issued in 2013 and other AlphaCat related fees.

Tax Expense
 
Tax expenses for the three months ended June 30, 2013 was $0.1 million compared to $0.4 million for the three months ended June 30, 2012, an decrease of $0.3 million or 77.0%.

The Company provides for income taxes based upon amounts reported in the financial statements and the provisions of currently enacted tax laws. The Company is registered in Bermuda and is subject to Bermuda law with respect to taxation. Under current Bermuda law, the Company is not taxed on any Bermuda income or capital gains and has received an undertaking from the Bermuda Minister of Finance that, in the event of any Bermuda income or capital gains taxes being imposed, the Company will be exempt from those taxes until March 31, 2035.

Within the segment information contained in the Financial Statements, gross premiums written allocated to the territory of coverage exposure are presented for the periods indicated. Gross premiums written allocated to the United States are written primarily through Validus Reinsurance, Ltd., a Bermuda Registered Reinsurance Company. As noted, under current Bermuda law, the Company is not taxed on any Bermuda income and therefore the premium disclosed in the segment information does not correlate to pre-tax income generated in the United States.
 
Income From Operating Affiliates
 
Income from operating affiliates for the three months ended June 30, 2013 was $3.8 million compared to $3.6 million for the three months ended June 30, 2012, an increase of $0.2 million or 5.6%. For the three months ended June 30, 2013, income (loss) from operating affiliates included ($0.1) million in equity earnings relating to AlphaCat Re 2011 ($2.8 million - June 30, 2012), $1.3 million in equity earnings relating to AlphaCat Re 2012 ($0.8 million - June 30, 2012), $2.4 million in equity earnings relating to AlphaCat 2013 ($nil - June 30, 2012) and $0.2 million relating to the AlphaCat ILS funds ($nil - June 30, 2012).

AlphaCat Re 2011 was formed on May 25, 2011. As at June 30, 2013, the Company owned 22.3% of AlphaCat Re 2011, therefore income from operating affiliates reflects the Company's share of AlphaCat Re 2011's net income for the three months ended June 30, 2013.

AlphaCat Re 2012 was formed on May 29, 2012. As at June 30, 2013, the Company owned 37.9% of AlphaCat Re 2012, therefore income from operating affiliates reflects the Company's share of AlphaCat Re 2012's net income for the three months ended June 30, 2013.

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AlphaCat 2013 was formed on December 17, 2012, therefore there is no comparative information for the three months ended June 30, 2012. As at June 30, 2013, the Company owned 19.7% of AlphaCat 2013, therefore income from operating affiliates reflects the Company's share of AlphaCat 2013's net income for the three months ended June 30, 2013.

The Company received $219.4 million of third party subscriptions in three of the AlphaCat ILS funds as of December 31, 2012. The AlphaCat ILS funds invest in instruments with returns linked to property catastrophe reinsurance, retrocession and ILS contracts. During the three months ended June 30, 2013, the Company received $13.5 million in additional third party subscriptions. Two of the funds are variable interest entities and are consolidated by the Company as Validus Re is deemed to be the primary beneficiary. The third fund is also a variable interest entity, however, it is not consolidated by the Company as Validus Re is not deemed to be the primary beneficiary. As a result, the investment in this fund is included in "Investments in affiliates" as at June 30, 2013 and income from operating affiliates reflects the Company's share of this fund's net income for the three months ended June 30, 2013.

Net Realized Gains on Investments
 
Net realized gains on investments for the three months ended June 30, 2013 were $3.4 million compared to $6.2 million for the three months ended June 30, 2012, a decrease of $2.7 million or 44.6%.
 
Net Unrealized (Losses) Gains on Investments
 
Net unrealized losses on investments for the three months ended June 30, 2013 were $141.3 million compared to $53.6 million for the three months ended June 30, 2012, an unfavorable movement of $87.8 million, or 163.8%.
Net unrealized losses on fixed maturities and short term investments for the three months ended June 30, 2013 were $71.1 million compared to $4.8 million for the three months ended June 30, 2012, an unfavorable movement of $66.3 million. The net unrealized losses on fixed maturities and short term investments were primarily driven by a combination of a shift in the yield curve and a widening of corporate bond spreads.
Net unrealized losses on other investments for the three months ended June 30, 2013 were $70.3 million compared to $48.7 million for the three months ended June 30, 2012, an unfavorable movement of $21.6 million. The unrealized losses on other investments for the three months ended June 30, 2013 were driven primarily by $70.8 million in unrealized losses relating to PaCRe. The amount of PaCRe's net unrealized losses attributable to noncontrolling interest was $63.7 million for the three months ended June 30, 2013, leaving a net impact to the Company of $6.6 million.
Net unrealized gains (losses) on investments are recorded as a component of net income. The Company has adopted all authoritative guidance on U.S. GAAP fair value measurements in effect as of the balance sheet date. Consistent with these standards, certain market conditions allow for fair value measurements that incorporate unobservable inputs where active market transaction based measurements are unavailable.

Income (Loss) From Investment Affiliate

The income from investment affiliate for the three months ended June 30, 2013 was $1.8 million compared to a loss of ($0.4) million for the three months ended June 30, 2012, an increase of $2.2 million. The income from investment affiliate relates to the income earned from the Company's investment in the Aquiline Financial Services Fund II L.P.

Foreign Exchange Losses
 
Our reporting currency is the U.S. dollar. As a significant portion of our operations are transacted in foreign currencies, fluctuations in foreign exchange rates may affect period-to-period comparisons. To the extent that fluctuations in foreign currency

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Table of Contents

exchange rates affect comparisons, their impact has been quantified, when possible, and discussed in each of the relevant sections.
 
 
 
 
 
U.S. dollar strengthened (weakened) against:
 
Three Months Ended June 30, 2013
 
Three Months Ended June 30, 2012
British Pound sterling
 
(0.2
)%
 
1.9
 %
Euro
 
(1.9
)%
 
5.4
 %
Canadian Dollar
 
3.3
 %
 
1.8
 %
Swiss Franc
 
(0.8
)%
 
5.1
 %
Singapore Dollar
 
2.1
 %
 
0.6
 %
Australian Dollar
 
13.3
 %
 
1.1
 %
New Zealand Dollar
 
7.5
 %
 
2.1
 %
Japanese Yen
 
5.6
 %
 
(3.7
)%
Foreign exchange losses for the three months ended June 30, 2013 were ($8.2) million compared to ($0.7) million for the three months ended June 30, 2012, an unfavorable movement of $7.6 million. For the three months ended June 30, 2013, Validus Re and Talbot recognized foreign exchange losses of ($5.9) million and ($2.2) million, respectively, while AlphaCat recognized a foreign exchange gain of $0.1 million.
 
For the three months ended June 30, 2013, Validus Re segment foreign exchange losses were ($5.9) million compared to foreign exchange gains of $2.7 million for the three months ended June 30, 2012, an unfavorable movement of $8.6 million. The $5.9 million loss was primarily driven by losses on the revaluation of assets which were denominated in New Zealand dollars, Australian dollars and Japanese Yen. The losses were offset by foreign exchange gains on the revaluation of loss reserves which were denominated in the same currencies. During the three months ended June 30, 2013, the U.S. dollar to New Zealand dollar strengthened by 7.5%, the U.S. dollar to Australian dollar strengthened by 13.3% and U.S. dollar to the Japanese Yen strengthened by 5.6% as compared to 1.1%, 2.1% and (3.7%), respectively during the three months ended June 30, 2012.

For the three months ended June 30, 2013, Talbot segment foreign exchange losses were ($2.2) million compared to losses of ($3.4) million for the three months ended June 30, 2012, a favorable movement of $1.2 million or 36.0%. The $2.2 million loss was primarily driven by a loss on the revaluation of the Australian dollar deposit. During the three months ended June 30, 2013, the Australian dollar to British pound sterling strengthened by 5.8% as compared to a strengthening of the Australian dollar to British pound sterling of 3.7% during the three months ended June 30, 2012.

As at June 30, 2013, Talbot's balance sheet included net unearned premiums and deferred acquisition costs denominated in foreign currencies of approximately $125.5 million and $25.2 million, respectively. These balances consisted of British pound sterling and Canadian dollars of $89.9 million and $10.4 million, respectively. Net unearned premiums and deferred acquisition costs are classified as non-monetary items and are translated at historic exchange rates. All of Talbot's other balance sheet items are classified as monetary items and are translated at period end exchange rates. Additional foreign exchange gains (losses) may be incurred on the translation of net unearned premiums and deferred acquisition costs arising from insurance and reinsurance premiums written in future periods.
 
Net Loss Attributable to Noncontrolling Interest

The net loss attributable to noncontrolling interest of $61.9 million for the three months ended June 30, 2013 is 90.0% of the net loss in PaCRe for the quarter.
During the three months ended June 30, 2013, the Company received $13.5 million in additional third party subscriptions. Two of the funds are variable interest entities and are consolidated by the Company as Validus Re is deemed to be the primary beneficiary. The net income attributable to noncontrolling interest was ($0.9) million for the three months ended June 30, 2013.

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Table of Contents

The following table presents results of operations for the three and six months ended June 30, 2013 and 2012:
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(Dollars in thousands)
2013
 
2012 (a)
 
2013
 
2012 (a)
Underwriting income
 
 
 
 
 
 
 
Gross premiums written
$
702,313

 
$
627,089

 
$
1,807,073

 
$
1,464,378

Reinsurance premiums ceded
(121,396
)
 
(119,052
)
 
(308,612
)
 
(226,104
)
Net premiums written
580,917

 
508,037

 
1,498,461

 
1,238,274

Change in unearned premiums
(33,459
)
 
(60,410
)
 
(419,942
)
 
(339,448
)
Net premiums earned
547,458

 
447,627

 
1,078,519

 
898,826

 
 
 
 
 
 
 
 
Underwriting deductions
 
 
 
 
 
 
 
Losses and loss expenses
265,044

 
153,692

 
409,815

 
385,681

Policy acquisition costs
87,152

 
76,129

 
180,763

 
154,261

General and administrative expenses
70,967

 
61,635

 
151,246

 
128,010

Share compensation expenses
6,638

 
6,800

 
8,956

 
12,238

Total underwriting deductions
429,801

 
298,256

 
750,780

 
680,190

 
 
 
 
 
 
 
 
Underwriting income (b)
117,657

 
149,371

 
327,739

 
218,636

 
 
 
 
 
 
 
 
Net investment income
26,210

 
25,885

 
51,859

 
53,645

Other income
4,418

 
5,994

 
7,103

 
14,885

Finance expenses
(37,830
)
 
(13,706
)
 
(62,276
)
 
(29,985
)
Operating income before taxes and income from operating affiliates
110,455

 
167,544

 
324,425

 
257,181

Tax (expense) benefit
(93
)
 
(404
)
 
225

 
(543
)
Income from operating affiliates
3,793

 
3,592

 
7,316

 
6,959

Net operating income (b)
114,155

 
170,732

 
331,966

 
263,597

 
 
 
 
 
 
 
 
Net realized gains on investments
3,409

 
6,154

 
5,130

 
13,686

Net unrealized (losses) on investments
(141,348
)
 
(53,574
)
 
(148,585
)
 
(32,903
)
Income (loss) from investment affiliate
1,753

 
(398
)
 
3,230

 
(398
)
Foreign exchange (losses) gains
(8,223
)
 
(652
)
 
(1,301
)
 
2,514

Net (loss) income
(30,254
)
 
122,262

 
190,440

 
246,496

Net loss attributable to noncontrolling interest
60,976

 
45,360

 
63,525

 
45,360

Net income available to Validus
$
30,722

 
$
167,622

 
$
253,965
 
$
291,856

 
 
 
 
 
 
 
 
Selected ratios:
 

 
 

 
 

 
 
Net premiums written / Gross premiums written
82.7
%
 
81.0
%
 
82.9
%
 
84.6
%
 
 
 
 
 
 
 
 
Losses and loss expenses
48.4
%
 
34.3
%
 
38.0
%
 
42.9
%
 
 
 
 
 
 
 
 
Policy acquisition costs
15.9
%
 
17.0
%
 
16.8
%
 
17.2
%
General and administrative expenses (c)
14.2
%
 
15.3
%
 
14.9
%
 
15.6
%
Expense ratio
30.1
%
 
32.3
%
 
31.7
%
 
32.8
%
Combined ratio
78.5
%
 
66.6
%
 
69.7
%
 
75.7
%

(a) The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

(b) Non-GAAP Financial Measures: In presenting the Company’s results, management has included and discussed underwriting income and net operating income that are not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Non-GAAP measures may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP. A reconciliation of underwriting income to net income, the most comparable U.S. GAAP financial measure, is presented in the section below entitled “Underwriting Income (Loss).”

(c) The general and administrative expense ratio includes share compensation expenses.


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Table of Contents

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2013
 
2012 (a)
 
2013
 
2012 (a)
Validus Re
 

 
 

 
 
 
 
Gross premiums written
$
353,384

 
$
340,850

 
$
1,101,347

 
$
907,716

Reinsurance premiums ceded
(87,558
)
 
(97,077
)
 
(213,286
)
 
(127,078
)
Net premiums written
265,826

 
243,773

 
888,061

 
780,638

Change in unearned premiums
38,925

 
(1,087
)
 
(280,176
)
 
(284,943
)
Net premiums earned
304,751

 
242,686

 
607,885

 
495,695

 
 
 
 
 
 
 
 
Losses and loss expenses
183,646

 
53,190

 
257,048

 
177,396

Policy acquisition costs
42,789

 
37,084

 
94,533

 
75,874

General and administrative expenses
20,423

 
14,142

 
49,864

 
31,394

Share compensation expenses
1,529

 
1,966

 
2,942

 
3,838

Total underwriting deductions
248,387

 
106,382

 
404,387

 
288,502

 
 
 
 
 
 
 
 
Underwriting income (a)
$
56,364

 
$
136,304

 
$
203,498

 
$
207,193

 
 
 
 
 
 
 
 
AlphaCat
 
 
 
 
 
 
 
Gross premiums written
$
46,760

 
$
15,155

 
$
143,276

 
$
18,673

Reinsurance premiums ceded
—

 
—

 
—

 
—

Net premiums written
46,760

 
15,155

 
143,276

 
18,673

Change in unearned premiums
(11,770
)
 
(11,568
)
 
(80,669
)
 
(12,423
)
Net premiums earned
34,990

 
3,587

 
62,607

 
6,250

 
 
 
 
 
 
 
 
Losses and loss expenses
1,313

 
—

 
1,313

 
—

Policy acquisition costs
3,586

 
382

 
6,224

 
638

General and administrative expenses
3,992

 
2,402

 
8,029

 
3,434

Share compensation expenses
85

 
59

 
162

 
111

Total underwriting deductions
8,976

 
2,843

 
15,728

 
4,183

 
 
 
 
 
 
 
 
Underwriting income (a)
$
26,014

 
$
744

 
$
46,879

 
$
2,067

 
 
 
 
 
 
 
 
Talbot
 

 
 

 
 
 
 
Gross premiums written
$
315,518

 
$
283,528

 
$
609,048

 
$
576,781

Reinsurance premiums ceded
(47,187
)
 
(34,419
)
 
(141,924
)
 
(137,818
)
Net premiums written
268,331

 
249,109

 
467,124

 
438,963

Change in unearned premiums
(60,614
)
 
(47,755
)
 
(59,097
)
 
(42,082
)
Net premiums earned
207,717

 
201,354

 
408,027

 
396,881

 
 
 
 
 
 
 
 
Losses and loss expenses
80,085

 
100,502

 
151,454

 
208,285

Policy acquisition costs
41,667

 
41,803

 
82,193

 
80,541

General and administrative expenses
32,192

 
30,957

 
63,104

 
64,305

Share compensation expenses
2,357

 
1,799

 
3,762

 
3,147

Total underwriting deductions
156,301

 
175,061

 
300,513

 
356,278

 
 
 
 
 
 
 
 
Underwriting income (a)
$
51,416

 
$
26,293

 
$
107,514

 
$
40,603

 
 
 
 
 
 
 
 
Corporate & Eliminations
 

 
 

 
 
 
 
Gross premiums written
$
(13,349
)
 
$
(12,444
)
 
$
(46,598
)
 
$
(38,792
)
Reinsurance premiums ceded
13,349

 
12,444

 
46,598

 
38,792

Net premiums written
—

 
—

 
—

 
—

 
 
 
 
 
 
 
 
Policy acquisition costs
(890
)
 
(3,140
)
 
(2,187
)
 
(2,792
)
General and administrative expenses
14,360

 
14,134

 
30,249

 
28,877

Share compensation expenses
2,667

 
2,976

 
2,090

 
5,142

Total underwriting deductions
16,137

 
13,970

 
30,152

 
31,227

 
 
 
 
 
 
 
 
Underwriting (loss) (a)
$
(16,137
)
 
$
(13,970
)
 
$
(30,152
)
 
$
(31,227
)
 
 
 
 
 
 
 
 
Total underwriting income (a)
$
117,657

 
$
149,371

 
$
327,739

 
$
218,636


(a) The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.

(b) Non-GAAP Financial Measures: In presenting the Company’s results, management has included and discussed underwriting income that is not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Non-GAAP measures may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP. A reconciliation of this measure to net income, the most comparable U.S. GAAP financial measure, is presented in the section below entitled “Underwriting Income (Loss).”







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Six Months Ended June 30, 2013 compared to Six Months Ended June 30, 2012
 
 Gross Premiums Written
 
Gross premiums written for the six months ended June 30, 2013 were $1,807.1 million compared to $1,464.4 million for the six months ended June 30, 2012, an increase of $342.7 million or 23.4%. Details of gross premiums written by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
$
934,399

 
51.7
%
 
$
773,599

 
52.8
%
 
20.8
 %
Marine
 
399,757

 
22.1
%
 
434,504

 
29.7
%
 
(8.0
)%
Specialty
 
472,917

 
26.2
%
 
256,275

 
17.5
%
 
84.5
 %
Total
 
$
1,807,073

 
100.0
%
 
$
1,464,378

 
100.0
%
 
23.4
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Validus Re. Validus Re gross premiums written for the six months ended June 30, 2013 were $1,101.3 million compared to $907.7 million for the six months ended June 30, 2012, an increase of $193.6 million or 21.3%. Details of Validus Re gross premiums written by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
$
630,923

 
57.3
%
 
$
610,749

 
67.3
%
 
3.3
 %
Marine
 
172,196

 
15.6
%
 
223,325

 
24.6
%
 
(22.9
)%
Specialty
 
298,228

 
27.1
%
 
73,642

 
8.1
%
 
NM

Total
 
$
1,101,347

 
100.0
%
 
$
907,716

 
100.0
%
 
21.3
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful

The increase in gross premiums written in the property lines of $20.2 million was due primarily to an increase of $54.4 million in catastrophe excess of loss treaties primarily relating to new business written and increased shares on renewals, as well as renewals of business written by Flagstone in 2012. This was offset by decreases in per risk excess of loss treaties of $13.7 million primarily due to non-renewals of business on a number of accounts as well as prior year business being renewed under specialty lines in 2013. There were also decreases in premiums assumed from Talbot of $10.2 million. In addition, there was a decrease of $8.7 million, due to downward premium adjustments. The decrease in gross premiums written of $51.1 million in the marine lines was due primarily to a $31.5 million decrease in proportional treaties due to reductions in share and the non-renewal of business on a number of accounts that no longer met the Company's underwriting threshold. In addition, there was a $17.5 million decrease in reinstatement premiums compared to the prior year, primarily relating to the Costa Concordia event and a $8.6 million decrease due to prior year marine business being renewed under specialty lines in 2013. The increase in gross premiums written in the specialty lines of $224.6 million was due primarily to an increase in proportional crop treaties of $190.2 million related to targeted growth in the agricultural class, as a result of hiring two experienced agricultural underwriters at the beginning of the year, as well as $22.7 million in other new business. In addition, $23.8 million of business historically written in the property and marine lines has been renewed in specialty lines. Offsetting these increases were downward premium adjustments of $5.5 million.
 
Gross premiums written under the quota share, surplus treaty and excess of loss contracts with Talbot for the six months ended June 30, 2013 were $28.0 million compared to $38.3 million for the six months ended June 30, 2012, a decrease of $10.3 million on all lines, as compared to the six months ended June 30, 2012. These reinsurance agreements with Talbot are eliminated upon consolidation.


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AlphaCat. AlphaCat gross premiums written for the six months ended June 30, 2013 were $143.3 million compared to $18.7 million for the six months ended June 30, 2012, an increase of $124.6 million. Details of AlphaCat gross premiums written by line of business are provided below.

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
143,276

 
100.0
%
 
18,673

 
100.0
%
 
NM
Total
 
143,276

 
100.0
%
 
18,673

 
100.0
%
 
NM
NM: Not meaningful

The increase in gross premiums written in the property lines of $124.6 million was due primarily to the renewal of business through AlphaCat Re, which is fully consolidated and which writes business on behalf of AlphaCat 2013 and the AlphaCat ILS funds. The comparable business was included within AlphaCat Re 2011 and 2012 which were not consolidated in 2012, and were accounted for as operating affiliates under the equity method of accounting. The comparable renewals were included in managed gross premiums, a comparable measure. In addition, $3.3 million of the increase relates to PaCRe as this company started writing business in June 2012, therefore, current year to date results include two renewal periods as compared to the prior year. A reconciliation of managed gross premiums written to gross premiums written, the most comparable U.S. GAAP financial measure, is presented below in the section entitled "Other Non-GAAP Financial Measures."

Gross premiums written under the property quota share contracts assumed from Validus Re for the six months ended June 30, 2013 were $18.1 million compared to $nil for the six months ended June 30, 2012, an increase of $18.1 million on property lines, as compared to the six months ended June 30, 2012. These reinsurance agreements with Validus Re are eliminated upon consolidation.

Managed gross premiums written, including our non-consolidated affiliates, AlphaCat Re 2011 and AlphaCat Re 2012, for the six months ended June 30, 2013 were $142.3 million compared to $135.9 million for the six months ended June 30, 2012, an increase of $6.4 million or 4.7%. The increase in gross premiums written was due primarily to an increase in business written by PaCRe as well as AlphaCat Re on behalf of AlphaCat 2013 and the AlphaCat ILS funds.

Talbot. Talbot gross premiums written for the six months ended June 30, 2013 were $609.0 million compared to $576.8 million for the six months ended June 30, 2012, an increase of $32.3 million or 5.6%. The $609.0 million of gross premiums written translated at 2012 rates of exchange would have been $612.0 million for the six months ended June 30, 2013, giving an effective increase of $35.3 million or 5.8%. Details of Talbot gross premiums written by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
Gross Premiums Written
 
Gross Premiums Written (%)
 
% Change
Property
 
$
202,174

 
33.2
%
 
$
178,331

 
30.9
%
 
13.4
 %
Marine
 
230,256

 
37.8
%
 
213,820

 
37.1
%
 
7.7
 %
Specialty
 
176,618

 
29.0
%
 
184,630

 
32.0
%
 
(4.3
)%
Total
 
$
609,048

 
100.0
%
 
$
576,781

 
100.0
%
 
5.6
 %
 
The increase in gross premiums written in the property lines of $23.8 million was due primarily to an increase in direct property lines of $15.3 million which was mainly driven by new business as a result of hiring of an additional experienced property underwriter. In addition, there was an increase in the construction lines of $10.6 million, primarily driven by premium adjustments on prior period policies. The increase in gross premiums written in the marine lines of $16.4 million was due primarily to new business written in energy and cargo lines of $9.0 million and $7.1 million, respectively. The decrease in gross premiums written in the specialty lines of $8.0 million was due primarily to a decrease in premiums written in aviation treaty of $7.4 million, including decreases in reinstatement premiums of $2.7 million. In addition, direct aviation lines decreased by $2.6 million and war lines decreased by $7.0 million, partially offset by a $6.7 million increase in new business in political violence lines.





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Table of Contents

Reinsurance Premiums Ceded
 
Reinsurance premiums ceded for the six months ended June 30, 2013 were $308.6 million compared to $226.1 million for the six months ended June 30, 2012, an increase of $82.5 million, or 36.5%. Details of reinsurance premiums ceded by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
% Change
Property
 
$
214,109

 
69.3
%
 
$
162,355

 
71.8
%
 
31.9
 %
Marine
 
23,972

 
7.8
%
 
33,861

 
15.0
%
 
(29.2
)%
Specialty
 
70,531

 
22.9
%
 
29,888

 
13.2
%
 
136.0
 %
Total
 
$
308,612

 
100.0
%
 
$
226,104

 
100.0
%
 
36.5
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.

Validus Re. Validus Re reinsurance premiums ceded for the six months ended June 30, 2013 were $213.3 million compared to $127.1 million for the six months ended June 30, 2012, an increase of $86.2 million, or 67.8%. Details of Validus Re reinsurance premiums ceded by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
% Change
Property
 
$
169,045

 
79.3
%
 
$
113,090

 
89.0
%
 
49.5
 %
Marine
 
5,165

 
2.4
%
 
13,419

 
10.6
%
 
(61.5
)%
Specialty
 
39,076

 
18.3
%
 
569

 
0.4
%
 
NM

Total
 
$
213,286

 
100.0
%
 
$
127,078

 
100.0
%
 
67.8
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful

Reinsurance premiums ceded in the property lines increased by $56.0 million, due to a significant restructuring of retrocessional coverage purchased. New coverage purchased in 2013 included $30.7 million in catastrophe bond coverage assumed through the Flagstone acquisition and $67.9 million for new excess of loss covers. In addition, $18.1 million of proportional quota share coverage was ceded to AlphaCat Re. Industry loss warranties purchased for $57.4 million in 2012 were not renewed in 2013, offsetting the increases in reinsurance premiums ceded from the covers discussed above and below. Reinsurance premiums ceded in the marine lines decreased by $8.3 million due primarily to a $5.3 million decrease in non-proportional retrocessional coverage due to non-renewal of coverage and prior period coverage adjustments of $3.8 million. Reinsurance premiums ceded in the specialty lines increased by $38.5 million due primarily to a $35.0 million increase in other proportional coverage relating to the increase in agriculture business.

Reinsurance premiums ceded under the property quota share contracts with AlphaCat for the six months ended June 30, 2013 were $18.1 million compared to $nil for the six months ended June 30, 2012, an increase of $18.1 million. These reinsurance agreements with AlphaCat are eliminated upon consolidation.
 
AlphaCat. AlphaCat did not cede reinsurance premiums for the six months ended June 30, 2013 and 2012.

 Talbot. Talbot reinsurance premiums ceded for the six months ended June 30, 2013 were $141.9 million compared to $137.8 million for the six months ended June 30, 2012, an increase of $4.1 million or 3.0%. Details of Talbot reinsurance premiums ceded by line of business are provided below.
 

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Table of Contents

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
Reinsurance Premiums Ceded
 
Reinsurance Premiums Ceded (%)
 
% Change
Property
 
$
87,038

 
61.3
%
 
$
83,419

 
60.5
%
 
4.3
 %
Marine
 
21,502

 
15.2
%
 
23,083

 
16.8
%
 
(6.8
)%
Specialty
 
33,384

 
23.5
%
 
31,316

 
22.7
%
 
6.6
 %
Total
 
$
141,924

 
100.0
%
 
$
137,818

 
100.0
%
 
3.0
 %
 
The increase in the property lines of $3.6 million was due primarily to a $1.5 million increase in reinstatement premiums ceded in the onshore energy lines and a $1.3 million increase in construction quota share ceded premium in line with the increase in gross premiums written.
 
Reinsurance premiums ceded under the quota share, surplus treaty and excess of loss contracts with Validus Re and AlphaCat for the six months ended June 30, 2013 were $28.0 million compared to $38.8 million for the six months ended June 30, 2012, a decrease of $10.8 million.

The quota share, surplus treaty and excess of loss contracts with Validus Re and AlphaCat are eliminated upon consolidation.

Net Premiums Written
 
Net premiums written for the six months ended June 30, 2013 were $1,498.5 million compared to $1,238.3 million for the six months ended June 30, 2012, an increase of $260.2 million, or 21.0%. The ratios of net premiums written to gross premiums written for the six months ended June 30, 2013 and 2012 were 82.9% and 84.6%, respectively. Details of net premiums written by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
720,290

 
48.0
%
 
$
611,244

 
49.4
%
 
17.8
 %
Marine
 
375,785

 
25.1
%
 
400,643

 
32.3
%
 
(6.2
)%
Specialty
 
402,386

 
26.9
%
 
226,387

 
18.3
%
 
77.7
 %
Total
 
$
1,498,461

 
100.0
%
 
$
1,238,274

 
100.0
%
 
21.0
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Validus Re. Validus Re net premiums written for the six months ended June 30, 2013 were $888.1 million compared to $780.6 million for the six months ended June 30, 2012, an increase of $107.4 million or 13.8%.  Details of Validus Re net premiums written by line of business are provided below.

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
461,878

 
52.0
%
 
$
497,659

 
63.7
%
 
(7.2
)%
Marine
 
167,031

 
18.8
%
 
209,906

 
26.9
%
 
(20.4
)%
Specialty
 
259,152

 
29.2
%
 
73,073

 
9.4
%
 
254.6
 %
Total
 
$
888,061

 
100.0
%
 
$
780,638

 
100.0
%
 
13.8
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
The increase in Validus Re net premiums written was driven by factors highlighted above in respect of gross premiums written and reinsurance premiums ceded. The ratios of net premiums written to gross premiums written were 80.6% and 86.0% for the

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Table of Contents

six months ended June 30, 2013 and 2012, respectively, reflecting the restructuring of the property retrocessional cover and the new cover purchased for the agricultural business.

 AlphaCat. AlphaCat net premiums written for the six months ended June 30, 2013 were $143.3 million compared to $18.7 million for the six months ended June 30, 2012, an increase of $124.6 million. Details of AlphaCat net premiums written by line of business are provided below.

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
143,276

 
100.0
%
 
$
18,673

 
100.0
%
 
NM
Total
 
$
143,276

 
100.0
%
 
$
18,673

 
100.0
%
 
NM

NM: Not meaningful

The increase in AlphaCat net premiums written was driven by the factors highlighted above in respect of gross premiums written. The ratios of net premiums written to gross premiums written were 100.0% for the six months ended June 30, 2013 and 2012.

Talbot. Talbot net premiums written for the six months ended June 30, 2013 were $467.1 million compared to $439.0 million for the six months ended June 30, 2012, an increase of $28.2 million or 6.4%. Details of Talbot net premiums written by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Written
 
Net Premiums Written (%)
 
Net Premiums Written
 
Net Premiums Written (%)
 
% Change
Property
 
$
115,136

 
24.6
%
 
$
94,912

 
21.6
%
 
21.3
 %
Marine
 
208,754

 
44.7
%
 
190,737

 
43.5
%
 
9.4
 %
Specialty
 
143,234

 
30.7
%
 
153,314

 
34.9
%
 
(6.6
)%
Total
 
$
467,124

 
100.0
%
 
$
438,963

 
100.0
%
 
6.4
 %
 
The increase in Talbot net premiums written was driven by the factors highlighted above in respect of gross premiums written and reinsurance premiums ceded. The ratios of net premiums written to gross premiums written for the six months ended June 30, 2013 and 2012 were 76.7% and 76.1%, respectively.
 
Net Change in Unearned Premiums
 
Net change in unearned premiums for the six months ended June 30, 2013 was ($419.9) million compared to ($339.4) million for the six months ended June 30, 2012, a decrease of ($80.5) million or 23.7%.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Change in Unearned Premiums
 
Net Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
(545,235
)
 
$
(424,454
)
 
(28.5
)%
Change in prepaid reinsurance premiums
 
125,293

 
85,006

 
47.4
 %
Net change in unearned premiums
 
$
(419,942
)
 
$
(339,448
)
 
(23.7
)%

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Validus Re. Validus Re net change in unearned premiums for the six months ended June 30, 2013 was ($280.2) million compared to ($284.9) million for the six months ended June 30, 2012, an increase of $4.8 million, or 1.7%.


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Table of Contents

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Change in Unearned Premiums
 
Net Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
(367,169
)
 
$
(350,258
)
 
(4.8
)%
Change in prepaid reinsurance premiums
 
86,993

 
65,315

 
33.2
 %
Net change in unearned premiums
 
$
(280,176
)
 
$
(284,943
)
 
1.7
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Validus Re net change in unearned premiums has increased for the six months ended June 30, 2013 due to changes in the timing and earnings pattern of gross premiums written and reinsurance premiums ceded during the six months ended June 30, 2013 as compared to the six months ended June 30, 2012.

AlphaCat. AlphaCat net change in unearned premiums for the six months ended June 30, 2013 was ($80.7) million compared to $(12.4) million for the six months ended June 30, 2012, a decrease of ($68.2) million.

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Change in Unearned Premiums
 
Net Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
(80,669
)
 
$
(12,423
)
 
NM
Net change in unearned premiums
 
$
(80,669
)
 
$
(12,423
)
 
NM
NM: Not meaningful

AlphaCat net change in unearned premiums has decreased for the six months ended June 30, 2013 due to the earnings pattern of gross premiums written during the six months ended June 30, 2013 as compared to six months ended June 30, 2012.
 
Talbot. Talbot net change in unearned premiums for the six months ended June 30, 2013 was ($59.1) million compared to ($42.1) million for the six months ended June 30, 2012, a decrease of ($17.0) million or 40.4%.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Change in Unearned Premiums
 
Change in Unearned Premiums
 
% Change
Change in gross unearned premiums
 
$
(97,397
)
 
$
(61,773
)
 
(57.7
)%
Change in prepaid reinsurance premiums
 
38,300

 
19,691

 
94.5
 %
Net change in unearned premiums
 
$
(59,097
)
 
$
(42,082
)
 
(40.4
)%
 
Talbot net change in unearned premiums has decreased for the six months ended June 30, 2013 due to the earnings pattern of gross premiums written and reinsurance premiums ceded during the six months ended June 30, 2013 as compared to the six months ended June 30, 2012.

Net Premiums Earned
 
Net premiums earned for the six months ended June 30, 2013 were $1,078.5 million compared to $898.8 million for the six months ended June 30, 2012, an increase of $179.7 million or 20.0%. Details of net premiums earned by line of business are provided below.
 

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Table of Contents

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
516,734

 
48.0
%
 
$
410,025

 
45.7
%
 
26.0
 %
Marine
 
280,920

 
26.0
%
 
292,423

 
32.5
%
 
(3.9
)%
Specialty
 
280,865

 
26.0
%
 
196,378

 
21.8
%
 
43.0
 %
Total
 
$
1,078,519

 
100.0
%
 
$
898,826

 
100.0
%
 
20.0
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Validus Re. Validus Re net premiums earned for the six months ended June 30, 2013 were $607.9 million compared to $495.7 million for the six months ended June 30, 2012, an increase of $112.2 million or 22.6%. Details of Validus Re net premiums earned by line of business are provided below.

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
361,122

 
59.4
%
 
$
318,408

 
64.3
%
 
13.4
 %
Marine
 
108,979

 
17.9
%
 
133,062

 
26.8
%
 
(18.1
)%
Specialty
 
137,784

 
22.7
%
 
44,225

 
8.9
%
 
211.6
 %
Total
 
$
607,885

 
100.0
%
 
$
495,695

 
100.0
%
 
22.6
 %
a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
The increase in net premiums earned in the property lines of $42.7 million was due primarily to a $67.3 million increase in net premiums earned relating to business assumed through the Flagstone acquisition, partially offset by a decrease in premiums assumed from Talbot of $12.3 million, which are eliminated upon consolidation. This is offset by an increase in ceded earned premium of $12.4 million reflecting the increased reinsurance coverage purchased in 2013. The decrease in premiums earned in the marine lines of $24.1 million was due primarily to a decrease in reinstatement premiums of $16.1 million from the prior year, relating to Costa Concordia. In addition, there was a decrease in assumed earned premium of $14.1 million due to a reduction in business incepting for 2013 compared to 2012, partially offset by business assumed through the Flagstone acquisition. The increase in premiums earned in the specialty lines of $93.6 million was due primarily to an increase in assumed earned premium of $117.7 million, primarily relating to the increase in retained agricultural business written in the first quarter. This was partially offset by an increase in ceded earned premium of $19.0 million due to the increase in agricultural cover together with a $3.3 million decrease related to estimated premium income adjustments.
 
AlphaCat. AlphaCat net premiums earned for the six months ended June 30, 2013 were $62.6 million compared to $6.3 million for the six months ended June 30, 2012, an increase of $56.4 million. Details of AlphaCat net premiums earned by line of business are provided below.
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
62,607

 
100.0
%
 
$
6,250

 
100.0
%
 
NM
Total
 
$
62,607

 
100.0
%
 
$
6,250

 
100.0
%
 
NM
NM: Not meaningful

The increase in net premiums earned is consistent with the relevant pattern of net premiums written, influencing the earned premiums for the six months ended June 30, 2013 compared to the six months ended June 30, 2012.

Talbot. Talbot net premiums earned for the six months ended June 30, 2013 were $408.0 million compared to $396.9 million for the six months ended June 30, 2012, an increase of $11.1 million or 2.8%. Details of Talbot net premiums earned by line of business are provided below.

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Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
Net Premiums Earned
 
Net Premiums Earned (%)
 
% Change
Property
 
$
93,005

 
22.8
%
 
$
85,367

 
21.5
%
 
8.9
 %
Marine
 
171,941

 
42.1
%
 
159,361

 
40.2
%
 
7.9
 %
Specialty
 
143,081

 
35.1
%
 
152,153

 
38.3
%
 
(6.0
)%
Total
 
$
408,027

 
100.0
%
 
$
396,881

 
100.0
%
 
2.8
 %
 
The increase in net premiums earned is consistent with the relevant pattern of net premiums written, influencing the earned premiums for the six months ended June 30, 2013, as compared to the six months ended June 30, 2012. Increases in net premiums written in property and marine lines in recent quarters have been offset by a decrease in net premiums written in specialty lines.

Losses and Loss Expenses
 
Losses and loss expenses for the six months ended June 30, 2013 were $409.8 million compared to $385.7 million for the six months ended June 30, 2012, an increase of $24.1 million or 6.3%. The loss ratios, defined as losses and loss expenses divided by net premiums earned, for the six months ended June 30, 2013 and 2012 were 38.0% and 42.9%, respectively. Details of loss ratios by line of business are provided below.
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
Percentage Point Change
Property
19.2
%
 
32.2
%
 
(13.0
)%
Marine
52.6
%
 
59.7
%
 
(7.1
)%
Specialty
58.0
%
 
40.2
%
 
17.8
 %
All lines
38.0
%
 
42.9
%
 
(4.9
)%
a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.

 
Details of loss ratios by line of business and period of occurrence are provided below.
 
Six Months Ended June 30,
 
2013
 
2012 (a)
 
Percentage Point Change
Property - current period - excluding items below
26.8
 %
 
27.0
 %
 
(0.2
)
Property - current period - notable losses
14.6
 %
 
6.9
 %
 
7.7

Property - change in prior accident years
(22.2
)%
 
(1.7
)%
 
(20.5
)
Property - loss ratio
19.2
 %
 
32.2
 %
 
(13.0
)
 
 
 
 
 
 
Marine - current period - excluding notable losses
42.7
 %
 
48.6
 %
 
(5.9
)
Marine - current period - notable losses
0.7
 %
 
24.8
 %
 
(24.1
)
Marine - change in prior accident years
9.2
 %
 
(13.7
)%
 
22.9

Marine - loss ratio
52.6
 %
 
59.7
 %
 
(7.1
)
 
 
 
 
 
 
Specialty - current period - excluding notable losses
64.4
 %
 
50.9
 %
 
13.5

Specialty - current period - notable losses
0.0
 %
 
0.0
 %
 
—

Specialty - change in prior accident years
(6.4
)%
 
(10.7
)%
 
4.3

Specialty — loss ratio
58.0
 %
 
40.2
 %
 
17.8

 
 
 
 
 
 
All lines - current period - excluding notable losses
40.7
 %
 
39.3
 %
 
1.4

All lines - current period - notable losses
7.2
 %
 
11.2
 %
 
(4.0
)
All lines - change in prior accident years
(9.9
)%
 
(7.6
)%
 
(2.3
)
All lines - loss ratio
38.0
 %
 
42.9
 %
 
(4.9
)

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.

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Validus Re. Validus Re losses and loss expenses for the six months ended June 30, 2013 were $257.0 million compared to $177.4 million for the six months ended June 30, 2012, an increase of $79.7 million or 44.9%. The loss ratio, was 42.3% and 35.8% for the six months ended June 30, 2013 and 2012, respectively. For the six months ended June 30, 2013, Validus Re incurred losses of $288.8 million related to current year losses and $31.8 million of favorable loss reserve development relating to prior accident years. For the six months ended June 30, 2013, favorable loss reserve development on prior accident years benefited the Validus Re loss ratio by 5.2 percentage points. For the six months ended June 30, 2012, Validus Re incurred losses of $206.4 million related to current year losses and $29.0 million of favorable loss reserve development relating to prior accident years. For the six months ended June 30, 2012, favorable loss reserve development on prior years benefited the Validus Re loss ratio by 5.9 percentage points.
 
For the six months ended June 30, 2013, Validus Re incurred $69.9 million of losses from a notable loss event, which represented 11.5 percentage points of the loss ratio. Net of reinstatement premiums of $6.8 million, the effect of this event on Validus Re segment net income was a decrease of $63.0 million. For the six months ended June 30, 2012, Validus Re incurred $84.7 million of losses from notable loss events, which represented 17.1 percentage points of the loss ratio, excluding the reserve for potential development on notable loss events. Net of reinstatement premiums of $22.8 million, the effect of these events on Validus Re segment net income was a decrease of $61.9 million. Validus Re segment loss ratios excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development for the six months ended June 30, 2013 and 2012 were 36.0% and 24.6%, respectively. Details of Validus Re loss ratios by line of business and period of occurrence are provided below.

 
Six Months Ended June 30,
 
2013
 
2012 (a)
 
Percentage Point Change
Property - current period excluding notable losses
23.2
 %
 
18.2
 %
 
5.0

Property - current period - notable losses
19.4
 %
 
8.7
 %
 
10.7

Property - change in prior accident years
(22.6
)%
 
(0.5
)%
 
(22.1
)
Property - loss ratio
20.0
 %
 
26.4
 %
 
(6.4
)
 
 
 
 
 
 
Marine - current period excluding notable losses
36.8
 %
 
38.8
 %
 
(2.0
)
Marine - current period - notable losses
0.0
 %
 
42.9
 %
 
(42.9
)
Marine - change in prior accident years
43.8
 %
 
(15.8
)%
 
59.6

Marine - loss ratio
80.6
 %
 
65.9
 %
 
14.7

 
 
 
 
 
 
Specialty - current period excluding notable losses
69.0
 %
 
26.6
 %
 
42.4

Specialty - current period - notable losses
0.0
 %
 
0.0
 %
 
0.0
 %
Specialty - change in prior accident years
1.5
 %
 
(14.0
)%
 
15.5

Specialty — loss ratio
70.5
 %
 
12.6
 %
 
57.9

 
 
 
 
 
 
All lines - current period excluding notable losses
36.0
 %
 
24.6
 %
 
11.4

All lines - current period - notable losses
11.5
 %
 
17.1
 %
 
(5.6
)
All lines - change in prior accident years
(5.2
)%
 
(5.9
)%
 
0.7

All lines - loss ratio
42.3
 %
 
35.8
 %
 
6.5


a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
For the six months ended June 30, 2013, Validus Re property lines losses and loss expenses included $153.7 million related to current year losses and $81.6 million of favorable loss reserve development relating to prior accident years. The favorable loss reserve development included favorable development on the Chilean earthquake, Hurricane Isaac and Cat 67 of $10.7 million, $9.2 million and $6.8 million, respectively as well as lower than expected claims development on attritional losses. For the six months ended June 30, 2012, Validus Re property lines losses and loss expenses included $85.8 million related to current year losses and $1.7 million of favorable loss reserve development relating to prior accident years. The favorable loss reserve development was due primarily to a reduction in loss estimates on attritional losses.

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For the six months ended June 30, 2013, Validus Re property lines incurred $69.9 million of losses from a notable loss event, which represented 19.4 percentage points of the property lines loss ratio. For the six months ended June 30, 2012, Validus Re property lines incurred $27.7 million of losses from notable loss events, which represented 8.7 percentage points of the property lines loss ratio, excluding reserve for potential development on notable loss events. Validus Re property lines loss ratios, excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development, for the six months ended June 30, 2013 and 2012 were 23.2% and 18.2%, respectively.
 
For the six months ended June 30, 2013, Validus Re marine lines losses and loss expenses included $40.0 million related to current year losses and $47.8 million of adverse loss reserve development relating to prior accident years. The adverse loss reserve development is due primarily to an increase in the ultimate loss estimate on Costa Concordia of $32.6 million and adverse movement on the Deepwater Horizon loss of $10.3 million as well as lower than expected claims emergence on attritional losses. For the six months ended June 30, 2012, Validus Re marine lines losses and loss expenses included $108.8 million related to current year losses and $21.1 million of favorable loss reserve development relating to prior accident years. The favorable loss reserve development is due primarily to a reduction in loss estimates on attritional losses.
 
For the six months ended June 30, 2013, Validus Re marine lines did not incur any notable losses. For the six months ended June 30, 2012, Validus Re marine lines incurred $57.1 million of losses from notable loss events, which represented 42.9 percentage points of the marine lines loss ratio, excluding reserve for potential development on notable loss events. Validus Re marine lines loss ratios, excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development, for the six months ended June 30, 2013 and 2012 were 36.8% and 38.8%, respectively.
 
For the six months ended June 30, 2013, Validus Re specialty lines losses and loss expenses included $95.1 million related to current year losses and $2.0 million of adverse loss reserve development relating to prior accident years. The adverse loss reserve development was due to higher than expected claims emergence on attritional losses. For the six months ended June 30, 2012, Validus Re specialty lines losses and loss expenses included $11.8 million related to current year losses and $6.2 million of favorable loss reserve development relating to prior accident years.
 
For the six months ended June 30, 2013 and 2012 Validus Re specialty lines did not incur any notable losses. Validus Re specialty lines loss ratios, excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development, for the six months ended June 30, 2013 and 2012 were 69.0% and 26.6%, respectively. The increase in the specialty lines loss ratio was due primarily to the impact of the increase in agricultural premiums which typically has a higher attritional loss ratio than other specialty classes.
 
AlphaCat. AlphaCat losses and loss expenses for the six months ended June 30, 2013 were $1.3 million compared to $0.0 million for the six months ended June 30, 2012, an increase of $1.3 million. The loss ratio, was 2.1% and 0.0% for the six months ended June 30, 2013 and 2012. For the six months ended June 30, 2013, AlphaCat incurred losses of $1.3 million related to current year losses. For the six months ended June 30, 2012, AlphaCat did not incur any losses and loss expenses. The Company's share of any losses incurred by our non-consolidated affiliates, AlphaCat Re 2011 and AlphaCat Re 2012, are included in "Income from operating affiliates."

For the six months ended June 30, 2013, AlphaCat incurred losses of $1.0 million from a notable loss event, which represented 1.6 percentage points of the loss ratio. Validus' portion of the loss was $0.1 million. For the six months ended June 30, 2012, AlphaCat did not incur losses from notable loss events. AlphaCat loss ratios, excluding notable loss events and prior year loss reserve development, for the six months ended June 30, 2013 and 2012 were 0.5% and 0.0%, respectively.

     Talbot. Talbot losses and loss expenses for the six months ended June 30, 2013 were $151.5 million compared to $208.3 million for the six months ended June 30, 2012, a decrease of $56.8 million or 27.3%. The loss ratio was 37.1% and 52.5% for the six months ended June 30, 2013 and 2012, respectively.  For the six months ended June 30, 2013, Talbot incurred losses of $226.4 million related to current year losses and $75.0 million of favorable loss reserve development relating to prior accident years. For the six months ended June 30, 2013, favorable loss reserve development on prior accident years benefited the Talbot loss ratio by 18.4 percentage points. For the six months ended June 30, 2012, Talbot incurred losses of $247.3 million related to current year losses and $39.0 million in favorable loss reserve development relating to prior accident years. For the six months ended June 30, 2012, favorable loss reserve development on prior accident years benefited the Talbot loss ratio by 9.8 percentage points.
 
For the six months ended June 30, 2013, Talbot incurred $6.7 million of losses from a notable loss event, which represented 1.6 percentage points of the loss ratio. Including the impact of reinstatement premiums of $0.3 million, the effect of this event on

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Talbot segment income was a decrease of $6.4 million. For the six months ended June 30, 2012, Talbot incurred $16.0 million of losses from notable loss events, which represented 4.0 percentage points of the Talbot loss ratio. Talbot loss ratios, excluding notable loss events and prior year loss reserve development, for the six months ended June 30, 2013 and 2012 were 53.9% and 58.3%, respectively. Details of Talbot loss ratios by line of business and period of occurrence are provided below. 
 
Six Months Ended June 30,
 
2013
 
2012
 
Percentage Point Change
Property - current period excluding items below
58.0
 %
 
62.0
 %
 
(4.0
)
Property - current period - notable losses
5.1
 %
 
0.6
 %
 
4.5

Property - change in prior accident years
(35.6
)%
 
(6.2
)%
 
(29.4
)
Property - loss ratio
27.5
 %
 
56.4
 %
 
(28.9
)
 
 
 
 
 
 
Marine - current period excluding items below
46.4
 %
 
56.7
 %
 
(10.3
)
Marine - current period - notable losses
1.2
 %
 
9.7
 %
 
(8.5
)
Marine - change in prior accident years
(12.7
)%
 
(11.9
)%
 
(0.8
)
Marine - loss ratio
34.9
 %
 
54.5
 %
 
(19.6
)
 
 
 
 
 
 
Specialty - current period excluding items below
60.0
 %
 
57.9
 %
 
2.1

Specialty - current period - notable losses
0.0
 %
 
0.0
 %
 
—

Specialty - change in prior accident years
(14.0
)%
 
(9.7
)%
 
(4.3
)
Specialty — loss ratio
46.0
 %
 
48.2
 %
 
(2.2
)
 
 
 
 
 
 
All lines - current period excluding items below
53.9
 %
 
58.3
 %
 
(4.4
)
All lines - current period - notable losses
1.6
 %
 
4.0
 %
 
(2.4
)
All lines - change in prior accident years
(18.4
)%
 
(9.8
)%
 
(8.6
)
All lines - loss ratio
37.1
 %
 
52.5
 %
 
(15.4
)
 
For the six months ended June 30, 2013, Talbot property lines losses and loss expenses include $58.7 million related to current year losses and $33.1 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due primarily to $19.8 million favorable development on prior known large losses. For the six months ended June 30, 2012, Talbot property lines losses and loss expenses included $53.4 million related to current year losses and $5.3 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due to favorable experience on attritional losses offset in part by adverse experience on large losses.
 
For the six months ended June 30, 2013, Talbot property lines incurred $4.7 million of losses from a notable loss event, which represented 5.1 percentage points of the property lines loss ratio. For the six months ended June 30, 2012, Talbot's property lines incurred $0.5 million of losses from notable loss events, which represented 0.6 percentage points of the property lines loss ratio. Talbot property lines loss ratio, excluding notable loss events and prior year loss reserve development for the six months ended June 30, 2013 and 2012 were 58.0% and 62.0%, respectively.
 
For the six months ended June 30, 2013, Talbot marine lines losses and loss expenses included $81.9 million related to current year losses and $21.8 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due primarily to $17.0 million lower than expected development on attritional claims during the period. For the six months ended June 30, 2012, Talbot marine lines losses and loss expenses included $105.7 million related to current year losses and $19.0 million of favorable loss reserve development relating to prior accident years. The prior year favorable loss reserve development was due primarily to favorable development on attritional losses.
 
For the six months ended June 30, 2013, Talbot marine lines incurred $2.0 million of losses from a notable loss event, which represented 1.2 percentage points of the marine lines loss ratio. For the six months ended June 30, 2012, Talbot's marine lines incurred $15.5 million of losses from notable loss events, which represented 9.7 percentage points of the marine lines loss ratio. Talbot marine lines loss ratios, excluding notable loss events and prior year loss reserve development, for the six months ended June 30, 2013 and 2012 were 46.4% and 56.7%, respectively, due to a lower level of claims activity than normal in 2013.
 

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For the six months ended June 30, 2013, Talbot specialty lines losses and loss expenses included $85.9 million relating to current year losses and $20.1 million of favorable loss reserve development relating to prior accident years. The prior year favorable reserve development was due primarily to $8.2 million lower than expected development on attritional claims during the period and $12.6 million favorable emergence of large losses. For the six months ended June 30, 2012, Talbot specialty lines losses and loss expenses included $88.1 million relating to current year losses and $14.7 million of favorable loss reserve development relating to prior accident years. The prior year favorable reserve development was primarily due to favorable development on attritional losses.
 
For the six months ended June 30, 2013 and 2012 Talbot specialty lines did not incur any notable losses. Talbot specialty lines loss ratios, excluding notable loss events and prior year loss reserve development for the six months ended June 30, 2013 and 2012 were 60.0% and 57.9%, respectively.
 
Reserves for Losses and Loss expenses

At June 30, 2013, gross and net reserves for losses and loss expenses were estimated using the methodology as outlined in the critical accounting policies and estimates as discussed in Item 7, Management's Discussion and Analysis of Results of Operations and Financial Condition in the Company's Annual Report on Form 10-K/A for the year ended December 31, 2012. The Company did not make any significant changes in the assumptions or methodology used in its reserving process for the six months ended June 30, 2013.

 
 
As at June 30, 2013
(Dollars in thousands)
 
Gross Case Reserves
 
Gross IBNR
 
Total Gross Reserve for Losses and Loss Expenses
Property
 
$
849,263

 
$
719,469

 
$
1,568,732

Marine
 
495,962

 
512,589

 
1,008,551

Specialty
 
258,753

 
447,414

 
706,167

Total
 
$
1,603,978

 
$
1,679,472

 
$
3,283,450

 
 
 
As at June 30, 2013
(Dollars in thousands)
 
Net Case Reserves
 
Net IBNR
 
Total Net Reserve for Losses and Loss Expenses
Property
 
$
719,837

 
$
624,998

 
$
1,344,835

Marine
 
445,383

 
459,949

 
905,332

Specialty
 
226,811

 
387,779

 
614,590

Total
 
$
1,392,031

 
$
1,472,726

 
$
2,864,757

 
The following table sets forth a reconciliation of gross and net reserves for losses and loss expenses by segment for the six months ended June 30, 2013.
 

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Six Months Ended June 30, 2013
(Dollars in thousands)
 
Validus Re Segment
 
AlphaCat Segment
 
Talbot Segment
 
Eliminations
 
Total
Gross reserves at period beginning
 
$
2,122,895

 
$
5,000

 
$
1,480,307

 
$
(90,629
)
 
$
3,517,573

Losses recoverable
 
(148,646
)
 
—

 
(381,950
)
 
90,629

 
(439,967
)
Net reserves at period beginning
 
1,974,249

 
5,000

 
1,098,357

 
—

 
3,077,606

 
 
 
 
 
 
 
 
 
 
 
Net reserves acquired
 
948

 
—

 
—

 
—

 
948

Incurred losses- current year
 
288,845

 
1,313

 
226,444

 
—

 
516,602

Change in prior accident years
 
(31,797
)
 
—

 
(74,990
)
 
—

 
(106,787
)
Incurred losses
 
257,048

 
1,313

 
151,454

 
—

 
409,815

 
 
 
 
 
 
 
 
 
 
 
Foreign exchange
 
(34,069
)
 
—

 
(17,219
)
 
—

 
(51,288
)
Paid losses
 
(357,270
)
 
—

 
(215,054
)
 
—

 
(572,324
)
Net reserves at period end
 
1,840,906

 
6,313

 
1,017,538

 
—

 
2,864,757

Losses recoverable
 
138,976

 
—

 
350,075

 
(70,358
)
 
418,693

Gross reserves at period end
 
$
1,979,882

 
$
6,313

 
$
1,367,613

 
$
(70,358
)
 
$
3,283,450

 
The amount of recorded reserves represents management's best estimate of expected losses and loss expenses on premiums earned. For the six months ended June 30, 2013, favorable loss reserve development on prior accident years was $106.8 million of which $31.8 million related to the Validus Re segment and $75.0 million related to the Talbot segment. Favorable loss reserve development benefited the Company's loss ratio by 9.9 percentage points for the six months ended June 30, 2013. For the six months ended June 30, 2012, favorable loss reserve development on prior accident years was $68.0 million, of which, $29.0 million related to the Validus Re segment and $39.0 million related to the Talbot segment. Favorable loss reserve development benefited the Company's loss ratio by 7.6 percentage points for the six months ended June 30, 2012.

For the six months ended June 30, 2013, the Company incurred $77.6 million of losses from a notable loss event, which represented 7.2 percentage points of the loss ratio. Net of $7.1 million of reinstatement premiums and $0.8 million in notable losses attributable to noncontrolling interest, the effect of this event on net income was a decrease of $69.6 million. For the six months ended June 30, 2012, the Company incurred $100.7 million of losses from notable loss events, which represented 11.2 percentage points of the loss ratio, excluding the reserve for potential development on notable loss events. Net of $18.4 million of reinstatement premiums, the effect of these events on net income was a decrease of $82.3 million. The Company's loss ratio, excluding notable loss events, reserve for potential development on notable loss events and prior year loss reserve development for the six months ended June 30, 2013 and 2012 was 40.7% and 39.3%, respectively.

Management of insurance and reinsurance companies use significant judgment in the estimation of reserves for losses and loss expenses. Given the magnitude of recent loss events and other uncertainties inherent in loss estimation, meaningful uncertainty remains regarding the estimation for recent notable loss events. The Company's actual ultimate net loss may vary materially from these estimates. Ultimate losses for notable loss events are estimated through detailed review of contracts which are identified by the Company as potentially exposed to the specific notable loss event. However, there can be no assurance that the ultimate loss amount estimated for a specific contract will be accurate, or that all contracts with exposure to a specific notable loss event will be identified in a timely manner. Potential losses in excess of the estimated ultimate loss assigned to a contract on the basis of a specific review, or loss amounts from contracts not specifically included in the detailed review are reserved for in the reserve for potential development on notable loss events. The reserve for potential development on notable loss events (or “RDE”) is included as part of the Company's overall reserve requirement as defined and disclosed in the Critical Accounting Policies and Estimates section of the Company's Annual Report on Form 10-K/A.
 
As of December 31, 2012 the RDE on 2011 notable loss events was $42.2 million. During the six months ended June 30, 2013, the Company allocated a combined $8.0 million of the 2011 reserve to the Christchurch earthquake and Gryphon Alpha mooring failure. Contract complexity, the nature and number of perils arising from these events, limits and sub limits exposed, the quality, flow and timing of information received by the Company, information regarding retrocessional covers, assumptions, both explicit and implicit, regarding future paid and reported loss development patterns, frequency and severity trends, claims settlement practices and potential changes in the legal environment continue to lead to complexity and volatility in the ultimate loss estimates for these events. As at June 30, 2013, the RDE on 2011 notable loss events was $34.2 million. No RDE was established for 2012 and 2013 notable losses.

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Table of Contents


For disclosure purposes, only those notable loss events which had an initial ultimate loss estimate above $30.0 million are
disclosed separately and included in the reserves for notable loss roll forward table. To the extent that there are continued complexity and volatility factors relating to notable loss events in the aggregate, additions to the RDE may be established for a specific accident year, as illustrated in the RDE roll forward table. The Company increased the threshold for disclosure for notable losses effective January 1, 2011, from $5.0 million to $15.0 million. The Company increased the threshold for disclosure for notable losses effective January 1, 2013 from $15.0 million to $30.0 million.
RESERVES FOR NOTABLE LOSS EVENTS - USD (000's)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2011 NOTABLE LOSS EVENTS
 
 
 
Year Ended December 31, 2011
 
Year Ended December 31, 2012
 
Six Months Ended June 30, 2013
 
 
 
 
 
 
 
 
 
 
Development
 
 
 
Closing
 
Development
 
 
 
Closing
 
Development
 
 
 
Closing
 
 
Initial
 
 
 
 
 
 
 
(Favorable) /
 
Allocations
 
Estimate (c)
 
(Favorable) /
 
Allocations
 
Estimate (c)
 
(Favorable) /
 
Allocations
 
Estimate (c)
Notable Loss
 
Estimate (a)
 
 
 
 
 
 
 
Unfavorable (b)
 
of RDE
 
31-Dec-11
 
Unfavorable (b)
 
of RDE
 
31-Dec-12
 
Unfavorable (b)
 
of RDE
 
30-Jun-13
Tohoku earthquake
 
$
148,926

 
 
 
 
 
 
 
$
37,963

 
$
29,788

 
$
216,677

 
$
(6,652
)
 
$
16,342

 
$
226,367

 
$
(7,703
)
 
$
—

 
$
218,664

Thailand floods
 
54,148

 
 
 
 
 
 
 
—

 
—

 
54,148

 
10,704

 
14,262

 
79,114

 
(4,374
)
 
—

 
74,740

Gryphon Alpha (f)
 
52,434

 
 
 
 
 
 
 
9,151

 
—

 
61,585

 
874

 
5,356

 
67,815

 
(240
)
 
1,970

 
69,545

Cat 46 (f)
 
43,806

 
 
 
 
 
 
 
18,553

 
—

 
62,359

 
118

 
—

 
62,477

 
(2,994
)
 
—

 
59,483

Christchurch earthquake
 
41,881

 
 
 
 
 
 
 
16,854

 
20,212

 
78,947

 
(495
)
 
20,121

 
98,573

 
40

 
6,031

 
104,644

Hurricane Irene (e)
 
32,451

 
 
 
 
 
 
 
3

 
—

 
32,454

 
(10,788
)
 
—

 
21,666

 
(2,419
)
 
—

 
19,247

Cat 48 (f)
 
31,481

 
 
 
 
 
 
 
9,190

 
—

 
40,671

 
5,612

 
—

 
46,283

 
(4,562
)
 
—

 
41,721

Brisbane floods
 
31,023

 
 
 
 
 
 
 
4,848

 
—

 
35,871

 
(1,394
)
 
—

 
34,477

 
(1,757
)
 
—

 
32,720

CNRL Horizon
 
19,500

 
 
 
 
 
 
 
(8,706
)
 
—

 
10,794

 
558

 
—

 
11,352

 
2

 
—

 
11,354

Danish flood
 
19,429

 
 
 
 
 
 
 
5,987

 
—

 
25,416

 
2,566

 
7,665

 
35,647

 
—

 
—

 
35,647

Jupiter 1
 
15,008

 
 
 
 
 
 
 
(73
)
 
—

 
14,935

 
(166
)
 
—

 
14,769

 
6

 
—

 
14,775

Total 2011 Notable Loss Events
 
$
490,087

 
 
 
 
 
 
 
$
93,770

 
$
50,000

 
$
633,857

 
$
937

 
$
63,746

 
$
698,540

 
$
(24,001
)
 
$
8,001

 
$
682,540

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Closing
 
 
 
 
 
Closing
 
 
 
 
 
Closing
 
 
 
 
 
 
 
 
 
 
 
 
Paid Loss (Recovery)
 
Reserve (d)
 
 
 
Paid Loss (Recovery)
 
Reserve (d)
 
 
 
Paid Loss (Recovery)
 
Reserve (d)
Notable Loss
 
 
 
 
 
 
 
 
 
 
 
 
31-Dec-11
 
 
 
 
31-Dec-12
 
 
 
 
30-Jun-13
Tohoku earthquake
 
 
 
 
 
 
 
 
 
 
 
$
59,100

 
$
157,577

 
 
 
$
94,011

 
$
73,256

 
 
 
$
11,538

 
$
54,015

Thailand floods
 
 
 
 
 
 
 
 
 
 
 
1,748

 
52,400

 
 
 
13,017

 
64,349

 
 
 
17,348

 
42,627

Gryphon Alpha (f)
 
 
 
 
 
 
 
 
 
 
 
8,686

 
52,899

 
 
 
19,487

 
39,641

 
 
 
18,523

 
22,849

Cat 46 (f)
 
 
 
 
 
 
 
 
 
 
 
51,429

 
10,930

 
 
 
1,700

 
9,348

 
 
 
2,658

 
3,696

Christchurch earthquake
 
 
 
 
 
 
 
 
 
 
 
(42
)
 
78,989

 
 
 
5,708

 
92,907

 
 
 
30,384

 
68,594

Hurricane Irene (e)
 
 
 
 
 
 
 
 
 
 
 
8,669

 
23,785

 
 
 
3,743

 
9,254

 
 
 
481

 
6,354

Cat 48 (f)
 
 
 
 
 
 
 
 
 
 
 
19,934

 
20,737

 
 
 
14,032

 
12,317

 
 
 
1,063

 
6,692

Brisbane floods
 
 
 
 
 
 
 
 
 
 
 
16,151

 
19,720

 
 
 
10,998

 
7,328

 
 
 
1,382

 
4,189

CNRL Horizon
 
 
 
 
 
 
 
 
 
 
 
5,600

 
5,194

 
 
 
5,746

 
6

 
 
 
5

 
3

Danish flood
 
 
 
 
 
 
 
 
 
 
 
7,872

 
17,544

 
 
 
15,099

 
12,676

 
 
 
2,100

 
10,576

Jupiter 1
 
 
 
 
 
 
 
 
 
 
 
14,342

 
593

 
 
 
245

 
182

 
 
 
1

 
187

Total 2011 Notable Loss Events
 
 
 
 
 
 
 
 
 
 
 
$
193,489

 
$
440,368

 
 
 
$
183,786

 
$
321,264

 
 
 
$
85,483

 
$
219,782

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 




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Table of Contents

RESERVES FOR NOTABLE LOSS EVENTS - USD (000's) CONTINUED
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2012 NOTABLE LOSS EVENTS
 
 
 
Year Ended December 31, 2012
 
Six Months Ended June 30, 2013
 
 
 
 
 
 
 
 
 
 
Development
 
 
 
Closing
 
Development
 
 
 
Closing
 
 
Initial
 
 
 
 
 
 
 
(Favorable) /
 
Allocations
 
Estimate (c)
 
(Favorable) /
 
Allocations
 
Estimate (c)
Notable Loss
 
Estimate (a)
 
 
 
 
 
 
 
Unfavorable (b)
 
of RDE
 
31-Dec-12
 
Unfavorable (b)
 
of RDE
 
30-Jun-13
Hurricane Sandy
 
$
361,036

 
 
 
 
 
 
 
—

 
—

 
$
361,036

 
$
(961
)
 
—

 
$
360,075

Costa Concordia
 
76,197

 
 
 
 
 
 
 
(2,061
)
 
—

 
74,136

 
40,906

 
—

 
115,042

Cat 67
 
22,713

 
 
 
 
 
 
 
5,377

 
—

 
28,090

 
(6,807
)
 
—

 
21,283

U.S. Drought
 
22,021

 
 
 
 
 
 
 
—

 
—

 
22,021

 
5,707

 
—

 
27,728

Hurricane Isaac
 
15,209

 
 
 
 
 
 
 
67

 
—

 
15,276

 
(9,579
)
 
—

 
5,697

Total 2012 Notable Loss Events
 
$
497,176

 
 
 
 
 
 
 
$
3,383

 
$
—

 
$
500,559

 
$
29,266

 
$
—

 
$
529,825

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Closing
 
 
 
 
 
Closing
 
 
 
 
 
 
 
 
 
 
 
 
Paid Loss (Recovery)
 
Reserve (d)
 
 
 
Paid Loss (Recovery)
 
Reserve (d)
Notable Loss
 
 
 
 
 
 
 
 
 
 
 
 
31-Dec-12
 
 
 
 
30-Jun-13
Hurricane Sandy
 
 
 
 
 
 
 
 
 
 
 
$
38,515

 
$
322,521

 
 
 
$
85,524

 
$
236,036

Costa Concordia
 
 
 
 
 
 
 
 
 
 
 
13,040

 
61,096

 
 
 
9,431

 
92,571

Cat 67
 
 
 
 
 
 
 
 
 
 
 
13,432

 
14,658

 
 
 
1,784

 
6,067

U.S. Drought
 
 
 
 
 
 
 
 
 
 
 
12,346

 
9,675

 
 
 
14,112

 
1,270

Hurricane Isaac
 
 
 
 
 
 
 
 
 
 
 
313

 
14,963

 
 
 
1,691

 
3,693

Total 2012 Notable Loss Events
 
 
 
 
 
 
 
 
 
 
 
$
77,646

 
$
422,913

 
 
 
$
112,542

 
$
339,637

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2013 NOTABLE LOSS EVENTS
 
 
 
 
 
Six Months Ended June 30, 2013
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Development
 
 
 
Closing
 
 
Initial
 
 
 
 
 
 
 
 
 
 
 
 
 
(Favorable) /
 
Allocations
 
Estimate (c)
Notable Loss
 
Estimate (a)
 
 
 
 
 
 
 
 
 
 
 
 
 
Unfavorable (b)
 
of RDE
 
30-Jun-13
European Floods
 
$
77,587

 
 
 
 
 
 
 
 
 
 
 


 
$
—

 
—

 
$
77,587

Total 2013 Notable Loss Events
 
$
77,587

 
 
 
 
 
 
 


 


 


 
$
—

 
$
—

 
$
77,587

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Closing
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Paid Loss (Recovery)
 
Reserve (d)
Notable Loss
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
30-Jun-13
European Floods
 
 
 
 
 
 
 
 
 
 
 
 
 


 
 
 
$
—

 
$
77,587

Total 2013 Notable Loss Events
 
 
 
 
 
 
 
 
 
 
 


 


 
 
 
$
—

 
$
77,587


(a)    Includes paid losses, case reserves and IBNR reserves.
(b)    Development other than allocation of RDE.
(c)     Excludes impact of movements in foreign exchange rates.
(d)     Closing Reserve for the period equals Closing Estimate for the period less cumulative Paid Losses.
(e)     During Q1 2013, the Company concluded that Hurricane Irene no longer remains eligible for potential allocations from the 2011 RDE.
(f)
During Q2 2013, the Company concluded that Cat 46, Cat 48 and Gryphon Alpha no longer remain eligible for potential allocations from the 2011 RDE.




95

Table of Contents

 
Reserve for Potential Development on Notable Loss Events
 
2010
 
2011
 
2012
 
2013
 
Total
 
($ in 000's)
 
($ in 000's)
 
($ in 000's)
 
($ in 000's)
 
($ in 000's)
As at December 31, 2009
$
—

 
 
 
 
 
 
 
$
—

Reserve for potential development additions
69,242

 
—

 
—

 
—

 
69,242

Reserve for potential development allocations (a)
(35,856
)
 
—

 
—

 
—

 
(35,856
)
Reserve for potential development releases
—

 
—

 
—

 
—

 
—

As at December 31, 2010 (b)
$
33,386

 
$
—

 
$
—

 
$
—

 
$
33,386

 
 
 
 
 
 
 
 
 
 
Reserve for potential development additions
—

 
128,000

 
—

 
—

 
128,000

Reserve for potential development allocations (a)
(14,769
)
 
(50,000
)
 
—

 
—

 
(64,769
)
Reserve for potential development releases
—

 
—

 
—

 
—

 
—

As at December 31, 2011 (b)
$
18,617

 
$
78,000

 
$
—

 
$
—

 
$
96,617

 
 
 
 
 
 
 
 
 
 
Reserve for potential development additions (c)
—

 
27,926

 
—

 
—

 
27,926

Reserve for potential development allocations (a)
(18,617
)
 
(63,746
)
 
—

 
—

 
(82,363
)
Reserve for potential development releases
—

 
—

 
—

 
—

 
—

As at December 31, 2012 (b)
$
—

 
$
42,180

 
$
—

 
$
—

 
$
42,180

 
 
 
 
 
 
 
 
 
 
Reserve for potential development additions
—

 
—

 
—

 
—

 
—

Reserve for potential development allocations (a)
—

 
(8,001
)
 
—

 
—

 
(8,001
)
Reserve for potential development releases
—

 
—

 
—

 
—

 
—

As at June 30, 2013 (b)
$
—

 
$
34,179

 
$
—

 
$
—

 
$
34,179

 
 
 
 
 
 
 
 
 
 

(a)
During the year ended December 31, 2010, $19,242 was allocated to the Chilean earthquake and $16,614 was allocated to the New Zealand earthquake from the 2010 reserve for potential development on notable loss events.

During the year ended December 31, 2011, $14,769 was allocated to Deepwater Horizon from the 2010 reserve for potential development on notable loss events. During the same period, $29,788 was allocated to the Tohoku earthquake and $20,212 was allocated to the Christchurch earthquake from the 2011 reserve for potential development on notable loss events.
    
During the year ended December 31, 2012, $18,617 was allocated to Deepwater Horizon from the 2010 reserve for potential development on notable loss events. During the same period, $16,342 was allocated to the Tohoku earthquake, $20,121 was allocated to the Christchurch earthquake, $7,665 was allocated to the Danish flood, $14,262 was allocated to the Thailand floods and $5,356 was allocated to the Gryphon Alpha mooring failure from the 2011 reserve for potential development on notable loss events.

During the six months ended June 30, 2013, $6,031 was allocated to the Christchurch earthquake and $1,970 to the Gryphon Alpha mooring failure from the 2011 reserve for potential development on notable loss events.

(b)
Notable losses for the year ended December 31, 2010 included Chilean earthquake, Melbourne hailstorm, Windstorm Xynthia, Deepwater Horizon, Aban Pearl, Bangkok riots, Perth hailstorm, New Zealand earthquake, Oklahoma windstorm, Political risk loss, Hurricane Karl, Queensland floods, Political violence loss, Satellite failure and Financial institution loss.

Notable losses for the year ended December 31, 2011 included Tohoku earthquake, Gryphon Alpha, Christchurch earthquake, Brisbane floods, CNRL Horizon, Cat 46, Cat 48, Jupiter 1, Danish flood, Hurricane Irene and Thailand floods. As at September 30, 2012, the Company concluded that CNRL Horizon and Jupiter 1 no longer remain eligible for potential allocations from the 2011 RDE. As at March 31, 2013, the Company concluded that Hurricane Irene no longer remains eligible for potential allocations from the 2011 RDE.

Notable losses for the year ended December 31, 2012 included Costa Concordia, Cat 67, U.S. Drought, Hurricane Isaac and Hurricane Sandy.

Notable losses for the six months ended June 30, 2013 included the European floods.


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Table of Contents

(c)
Contract complexity, the nature and number of perils arising from these events, limits and sub limits exposed, the quality, flow and timing of information received by the Company, information regarding retrocessional covers, assumptions, both explicit and implicit, regarding future paid and reported loss development patterns, frequency and severity trends, claims settlement practices and potential changes in the legal environment continue to lead to complexity and volatility in the ultimate loss estimates for these events. Given the potential that one or some of the 2011 notable loss events eligible for potential allocation from the 2011 RDE may experience adverse development, rather than all deteriorating proportionately, an addition to the 2011 RDE of $27,926 was made during the year ended December 31, 2012.

(d)
The reserve for potential development on notable loss events (or “RDE”) is included as part of the Company's overall reserve requirement as defined and disclosed in the Critical Accounting Policies and Estimates section of the Company's Annual Report on Form 10-K/A.


Policy Acquisition Costs
 
Policy acquisition costs for the six months ended June 30, 2013 were $180.8 million compared to $154.3 million for the six months ended June 30, 2012, an increase of $26.5 million or 17.2%. Policy acquisition costs as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 16.8% and 17.2%, respectively. The changes in policy acquisition costs are due to the factors provided below.

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
68,476

 
37.9
%
 
13.3
%
 
$
50,252

 
32.6
%
 
12.3
%
 
36.3
 %
Marine
 
58,598

 
32.4
%
 
20.9
%
 
61,271

 
39.7
%
 
21.0
%
 
(4.4
)%
Specialty
 
53,689

 
29.7
%
 
19.1
%
 
42,738

 
27.7
%
 
21.8
%
 
25.6
 %
Total
 
$
180,763

 
100.0
%
 
16.8
%
 
$
154,261

 
100.0
%
 
17.2
%
 
17.2
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Validus Re. Validus Re policy acquisition costs for the six months ended June 30, 2013 were $94.5 million compared to $75.9 million for the six months ended June 30, 2012, an increase of $18.7 million or 24.6%. Details of Validus Re policy acquisition costs by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
54,407

 
57.5
%
 
15.1
%
 
$
45,303

 
59.7
%
 
14.2
%
 
20.1
 %
Marine
 
20,754

 
22.0
%
 
19.0
%
 
23,304

 
30.7
%
 
17.5
%
 
(10.9
)%
Specialty
 
19,372

 
20.5
%
 
14.1
%
 
7,267

 
9.6
%
 
16.4
%
 
166.6
 %
Total
 
$
94,533

 
100.0
%
 
15.6
%
 
$
75,874

 
100.0
%
 
15.3
%
 
24.6
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Policy acquisition costs include brokerage, commission and excise tax, are generally driven by contract terms and are normally a set percentage of premiums and are also net of ceding commission income on retrocessions. Items such as ceded premium, earned premium adjustments and reinstatement premiums that are recognized in the period have an effect on the policy acquisition ratio. Validus Re policy acquisition costs as a percent of net premiums earned (the acquisition cost ratio) for the six months ended June 30, 2013 and 2012 were 15.6% and 15.3%, respectively. The acquisition cost ratio on the marine lines has increased by 1.5 percentage points due to the effect of reinstatement premiums in the six months ended June 30, 2012. The acquisition cost ratio on the specialty lines has decreased by 2.3 percentage points due to the effect of the agricultural business, which traditionally has a lower acquisition cost ratio than most other specialty lines.
 
AlphaCat. AlphaCat policy acquisition costs for the six months ended June 30, 2013 were $6.2 million compared to $0.6 million for the six months ended June 30, 2012, an increase of $5.6 million.


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Table of Contents

 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
6,224

 
100.0
%
 
9.9
%
 
$
638

 
100.0
%
 
10.2
%
 
NM
Total
 
$
6,224

 
100.0
%
 
9.9
%
 
$
638

 
100.0
%
 
10.2
%
 
NM
NM: Not meaningful

 Policy acquisition costs as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 9.9% and 10.2%, respectively.

Talbot. Talbot policy acquisition costs for the six months ended June 30, 2013 were $82.2 million compared to $80.5 million for the six months ended June 30, 2012, an increase of $1.7 million or 2.1%. Details of Talbot policy acquisition costs by line of business are provided below.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
 
(Dollars in thousands)
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
Policy Acquisition Costs
 
Policy Acquisition Costs (%)
 
Acquisition Cost Ratio
 
% Change
Property
 
$
9,927

 
12.1
%
 
10.7
%
 
$
7,090

 
8.8
%
 
8.3
%
 
40.0
 %
Marine
 
37,903

 
46.1
%
 
22.0
%
 
37,931

 
47.1
%
 
23.8
%
 
(0.1
)%
Specialty
 
34,363

 
41.8
%
 
24.0
%
 
35,520

 
44.1
%
 
23.3
%
 
(3.3
)%
Total
 
$
82,193

 
100.0
%
 
20.1
%
 
$
80,541

 
100.0
%
 
20.3
%
 
2.1
 %
 
Policy acquisition costs as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 20.1% and 20.3%, respectively.

 General and Administrative Expenses
 
General and administrative expenses for the six months ended June 30, 2013 were $151.2 million compared to $128.0 million for the six months ended June 30, 2012, an increase of $23.2 million or 18.2%.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
General and Administrative Expenses
 
General and Administrative Expenses (%)
 
General and Administrative Expenses
 
General and Administrative Expenses (%)
 
% Change
Validus Re
 
$
49,864

 
33.0
%
 
$
31,394

 
24.5
%
 
58.8
 %
AlphaCat
 
8,029

 
5.3
%
 
3,434

 
2.7
%
 
133.8
 %
Talbot
 
63,104

 
41.7
%
 
64,305

 
50.2
%
 
(1.9
)%
Corporate & Eliminations
 
30,249

 
20.0
%
 
28,877

 
22.6
%
 
4.8
 %
Total
 
$
151,246

 
100.0
%
 
$
128,010

 
100.0
%
 
18.2
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition. 

General and administrative expenses of $151.2 million in the six months ended June 30, 2013 represents 14.1 percentage points of the expense ratio. Share compensation expenses are discussed in the following section.
 
Validus Re. Validus Re general and administrative expenses for the six months ended June 30, 2013 were $49.9 million compared to $31.4 million for the six months ended June 30, 2012, an increase of $18.5 million or 58.8%. General and administrative expenses have increased primarily due to the acquisition of Flagstone, which accounted for $19.4 million of additional general and administrative expenses for the six months ended June 30, 2013. General and administrative expenses include salaries and benefits, professional fees, rent and office expenses. Validus Re general and administrative expenses as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 8.2% and 6.3%, respectively.
 

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Table of Contents

AlphaCat. AlphaCat general and administrative expenses for the six months ended June 30, 2013 were $8.0 million compared to $3.4 million for the six months ended June 30, 2012, an increase of $4.6 million or 133.8%. General and administrative expenses have increased primarily due to an increase in management and performance fee for the six months ended June 30, 2013 as compared to the six months ended June 30, 2012. AlphaCat's general and administrative expenses as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 12.8% and 54.9%, respectively. The AlphaCat segment general and administrative ratio has been impacted by an increase in net premiums earned as the comparatives have a greater proportion of revenues generated in equity earnings from operating affiliates which is not included in the ratio calculation.

Talbot. Talbot general and administrative expenses for the six months ended June 30, 2013 were $63.1 million compared to $64.3 million for the six months ended June 30, 2012, a decrease of $1.2 million or 1.9%. General and administrative expenses have decreased primarily due to a decrease in the performance bonus expense. Talbot's general and administrative expenses as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 15.5% and 16.2%, respectively.
 
Corporate & Eliminations. Corporate general and administrative expenses for the six months ended June 30, 2013 were $30.2 million compared to $28.9 million for the six months ended June 30, 2012, an increase of $1.4 million or 4.8%. General and administrative expenses have increased primarily due to an increase in salaries and benefits due to an increase in headcount. Corporate general and administrative expenses are comprised of executive and board expenses, internal and external audit expenses and other costs relating to the Company as a whole.
 
Share Compensation Expenses
 
Share compensation expenses for the six months ended June 30, 2013 were $9.0 million compared to $12.2 million for the six months ended June 30, 2012, a decrease of $3.3 million or 26.8%. This expense is non-cash and has no net effect on total shareholders’ equity, as it is balanced by an increase in additional paid-in capital.
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
 
(Dollars in thousands)
 
Share Compensation Expenses
 
Share Compensation Expenses (%)
 
Share Compensation Expenses
 
Share Compensation Expenses (%)
 
% Change
Validus Re
 
$
2,942

 
32.8
%
 
$
3,838

 
31.4
%
 
(23.3
)%
AlphaCat
 
162

 
1.8
%
 
111

 
0.9
%
 
45.9
 %
Talbot
 
3,762

 
42.0
%
 
3,147

 
25.7
%
 
19.5
 %
Corporate & Eliminations
 
2,090

 
23.4
%
 
5,142

 
42.0
%
 
(59.4
)%
Total
 
$
8,956

 
100.0
%
 
$
12,238

 
100.0
%
 
(26.8
)%

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.

The decrease in share compensation of $3.3 million is due to a reversal of $1.7 million of expenses related to performance shares based on a review of current and projected performance criteria. Also contributing to the decrease was the reversal of $1.8 million of expenses relating to the cancellation of unvested awards as a result of the resignation of the Company's former President and Chief Financial Officer on February 15, 2013.

Validus Re. Validus Re share compensation expenses for the six months ended June 30, 2013 were $2.9 million compared to $3.8 million for the six months ended June 30, 2012, a decrease of $0.9 million or 23.3%. Share compensation expenses as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 0.5% and 0.8%, respectively.
 
AlphaCat. AlphaCat share compensation expenses for the six months ended June 30, 2013 were $0.2 million compared to $0.1 million for the six months ended June 30, 2012. Share compensation expenses as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 0.3% and 1.8%, respectively.
 
Talbot. Talbot share compensation expenses for the six months ended June 30, 2013 were $3.8 million compared to $3.1 million for the six months ended June 30, 2012, an increase of $0.6 million or 19.5%. Share compensation expenses as a percent of net premiums earned for the six months ended June 30, 2013 and 2012 were 0.9% and 0.8%, respectively.
 
Corporate & Eliminations. Corporate share compensation expenses for the six months ended June 30, 2013 were $2.1 million compared to $5.1 million for the six months ended June 30, 2012, a decrease of $3.1 million or 59.4%.


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 Selected Ratios
 
The following table presents the losses and loss expenses ratio, policy acquisition cost ratio, general and administrative expense ratio, expense ratio and combined ratio for the six months ended June 30, 2013 and 2012.

Consolidated
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
Percentage point change
Losses and loss expenses ratio
 
38.0
%
 
42.9
%
 
(4.9
)
Policy acquisition costs ratio
 
16.8
%
 
17.2
%
 
(0.4
)
General and administrative expenses ratio (b)
 
14.9
%
 
15.6
%
 
(0.7
)
Expense ratio
 
31.7
%
 
32.8
%
 
(1.1
)
Combined ratio
 
69.7
%
 
75.7
%
 
(6.0
)
Validus Re
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
Percentage point change
Losses and loss expenses ratio
 
42.3
%
 
35.8
%
 
6.5
Policy acquisition costs ratio
 
15.6
%
 
15.3
%
 
0.3
General and administrative expenses ratio (b)
 
8.7
%
 
7.1
%
 
1.6
Expense ratio
 
24.3
%
 
22.4
%
 
1.9
Combined ratio
 
66.6
%
 
58.2
%
 
8.4
AlphaCat
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
Percentage point change
Losses and loss expenses ratio
 
2.1
%
 
0.0
%
 
2.1

Policy acquisition costs ratio
 
9.9
%
 
10.2
%
 
(0.3
)
General and administrative expenses ratio (b)
 
13.1
%
 
56.7
%
 
(43.6
)
Expense ratio
 
23.0
%
 
66.9
%
 
(43.9
)
Combined ratio
 
25.1
%
 
66.9
%
 
(41.8
)
Talbot
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
 
Percentage point change
Losses and loss expenses ratio
 
37.1
%
 
52.5
%
 
(15.4
)
Policy acquisition costs ratio
 
20.1
%
 
20.3
%
 
(0.2
)
General and administrative expenses ratio (b)
 
16.4
%
 
17.0
%
 
(0.6
)
Expense ratio
 
36.5
%
 
37.3
%
 
(0.8
)
Combined ratio
 
73.6
%
 
89.8
%
 
(16.2
)

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.

b) Includes general and administrative expenses and share compensation expenses.
 
General and administrative expense ratios for the six months ended June 30, 2013 and 2012 were 14.9% and 15.6%, respectively. General and administrative expense ratio is the sum of general and administrative expenses and share compensation expense divided by net premiums earned.
 
 
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
(Dollars in thousands)
 
Expenses
 
Expenses as % of Net Earned Premiums
 
Expenses
 
Expenses as % of Net Earned Premiums
General and administrative expenses
 
$
151,246

 
14.1
%
 
$
128,010

 
14.2
%
Share compensation expenses
 
8,956

 
0.8
%
 
12,238

 
1.4
%
Total
 
$
160,202

 
14.9
%
 
$
140,248

 
15.6
%
 

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Underwriting Income
 
Underwriting income for the six months ended June 30, 2013 was $327.7 million compared to $218.6 million for the six months ended June 30, 2012, an increase of $109.1 million or 49.9%.
(Dollars in thousands)
 
Six Months Ended June 30, 2013
 
% of Sub-total
 
Six Months Ended June 30, 2012 (a)
 
% of Sub-total
 
% Change
Validus Re
 
$
203,498

 
56.9
%
 
$
207,193

 
82.9
%
 
(1.8
)%
AlphaCat
 
46,879

 
13.1
%
 
2,067

 
0.8
%
 
NM

Talbot
 
107,514

 
30.0
%
 
40,603

 
16.3
%
 
164.8
 %
Sub total
 
357,891

 
100.0
%
 
249,863

 
100.0
%
 
43.2
 %
Corporate & Eliminations
 
(30,152
)
 
 

 
(31,227
)
 
 

 
3.4
 %
Total
 
$
327,739

 
 

 
$
218,636

 
 

 
49.9
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful
 
The underwriting results of an insurance or reinsurance company are also often measured by reference to its underwriting income, which is a non-GAAP financial measure. Underwriting income, as set out in the table below, is reconciled to net income (the most directly comparable GAAP financial measure) by the addition or subtraction of certain Consolidated Statement of Comprehensive Income (Loss) line items, as illustrated below.
 
(Dollars in thousands)
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
Underwriting income
 
$
327,739

 
$
218,636

Net investment income
 
51,859

 
53,645

Other income
 
7,103

 
14,885

Finance expenses
 
(62,276
)
 
(29,985
)
Net realized gains on investments
 
5,130

 
13,686

Net unrealized (losses) on investments
 
(148,585
)
 
(32,903
)
Income (loss) from investment affiliate
 
3,230

 
(398
)
Foreign exchange (losses) gains
 
(1,301
)
 
2,514

Tax benefit (expense)
 
225

 
(543
)
Income from operating affiliates
 
7,316

 
6,959

Net income
 
$
190,440

 
$
246,496


a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.

 Net Investment Income
 
Net investment income for the six months ended June 30, 2013 was $51.9 million compared to $53.6 million for the six months ended June 30, 2012, a decrease of $1.8 million or 3.3%. Net investment income decreased due to falling yields on fixed maturity investments. Net investment income is comprised of accretion of premium or discount on fixed maturities, interest on coupon-paying bonds, short-term investments and cash and cash equivalents, partially offset by investment management fees. The components of net investment income for the six months ended June 30, 2013 and 2012 are as provided below.

 

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(Dollars in thousands)
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012 (a)
 
% Change
Fixed maturities and short-term investments
 
$
53,682

 
$
53,747

 
(0.1
)%
Cash and cash equivalents
 
2,162

 
3,766

 
(42.6
)%
Securities lending income
 
—

 
6

 
(100.0
)%
Total gross investment income
 
55,844

 
57,519

 
(2.9
)%
Investment expenses
 
(3,985
)
 
(3,874
)
 
(2.9
)%
Net investment income
 
$
51,859

 
$
53,645

 
(3.3
)%

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.
 
Annualized effective investment yield is calculated by dividing net investment income by the average balance of the assets managed by our portfolio managers (excluding other investments). Average assets is the average of the beginning, ending and intervening quarter end asset balances. The Company's annualized effective investment yield was 1.41% and 1.77% for the six months ended June 30, 2013 and 2012, respectively, and the average duration of the portfolio at June 30, 2013 was 1.69 years (December 31, 2012 - 1.34 years).
 
Other Income
 
Other income for the six months ended June 30, 2013 was $7.1 million compared to $14.9 million for the six months ended June 30, 2012, a decrease of $7.8 million or 52.3%. The decrease in other income is primarily due to the reduction in underwriting and performance fees the AlphaCat segment earned from business written by AlphaCat Re 2011 and AlphaCat Re 2012, as these entities are now considered off risk.

Finance Expenses
 
Finance expenses for the six months ended June 30, 2013 were $62.3 million compared to $30.0 million for the six months ended June 30, 2012, an increase of $32.3 million or 107.7%. Finance expenses consist of interest on our junior subordinated deferrable debentures, junior subordinated deferrable interest notes, senior notes, variable funding notes, the amortization of debt offering costs, fees relating to our credit facilities, bank charges and the costs of the Talbot FAL facility.

 
 
Six Months Ended June 30,
(Dollars in thousands)
 
2013
 
2012 (a)
 
% Change
2006 Junior Subordinated Deferrable Debentures
 
$
4,398

 
$
3,101

 
41.8
 %
2007 Junior Subordinated Deferrable Debentures
 
3,644

 
5,861

 
(37.8
)%
2010 Senior Notes due 2040
 
11,195

 
11,195

 
0.0
 %
Flagstone 2006 Junior Subordinated Deferrable Interest Notes
 
3,703

 
—

 
NM

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
 
2,619

 
—

 
NM

Credit facilities
 
3,753

 
9,582

 
(60.8
)%
Bank charges
 
232

 
183

 
NM

Variable Funding Notes (b)
 
32,669

 
—

 
NM

Talbot FAL Facility
 
63

 
63

 
0.0
 %
Finance expenses
 
$
62,276

 
$
29,985

 
107.7
 %

a) The results of operations from Flagstone are consolidated only from the November 30, 2012 date of acquisition.

b) Includes Variable funding note expense and other AlphaCat related fees. Please refer to Note 13 "Variable funding notes" in the unaudited Consolidated Financial Statements contained herein for further details.

NM: Not Meaningful
 
The increase in finance expenses of $32.3 million for the six months ended June 30, 2013 is due primarily to the interest expense related to the variable funding notes issued in 2013 and other AlphaCat related fees of $32.7 million.

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Tax Benefit (Expense)
 
Tax benefit for the six months ended June 30, 2013 was $0.2 million compared to tax expenses of ($0.5) million for the six months ended June 30, 2012, an increase of $0.8 million or 141.4%.

Income From Operating Affiliates
 
Income from operating affiliates for the six months ended June 30, 2013 was $7.3 million compared to $7.0 million for the six months ended June 30, 2012, an increase of $0.4 million or 5.1%. For the six months ended June 30, 2013, income from operating affiliates included $0.4 million in equity earnings relating to AlphaCat Re 2011 ($6.2 million - June 30, 2012), $3.1 million in equity earnings relating to AlphaCat Re 2012 ($0.8 million - June 30, 2012), $3.5 million in equity earnings relating to AlphaCat 2013 ($nil - June 30, 2012) and $0.3 million relating to an AlphaCat ILS fund ($0.0 million - June 30, 2012).

AlphaCat Re 2011 was formed on May 25, 2011. As at June 30, 2013, the Company owned 22.3% of AlphaCat Re 2011, therefore income from operating affiliates reflects the Company's share of AlphaCat Re 2011's net income for the six months ended June 30, 2013.

AlphaCat Re 2012 was formed on May 29, 2012. As at June 30, 2013, the Company owned 37.9% of AlphaCat Re 2012, therefore income from operating affiliates reflects the Company's share of AlphaCat Re 2012's net income for the six months ended June 30, 2013.
AlphaCat 2013 was formed on December 17, 2012, therefore there was no comparative information for the six months ended June 30, 2012. As at June 30, 2013, the Company owned 19.7% of AlphaCat 2013, therefore income from operating affiliates reflects the Company's share of AlphaCat 2013's net income for the six months ended June 30, 2013.

The Company received $219.4 million of third party subscriptions in three of the AlphaCat ILS funds as of December 31, 2012. The AlphaCat ILS funds invest in instruments with returns linked to property catastrophe reinsurance, retrocession and ILS contracts. During the six months ended June 30, 2013, the Company received $69.2 million in additional third party subscriptions. Two of the funds are variable interest entities and are consolidated by the Company as Validus Re is deemed to be the primary beneficiary. The third fund is also a variable interest entity, however, it is not consolidated by the Company as Validus Re is not deemed to be the primary beneficiary. As a result, the investment in this fund is included in "Investments in affiliates" as at June 30, 2013 and income from operating affiliates reflects the Company's share of this fund's net income for the six months ended June 30, 2013.

Net Realized Gains on Investments

Net realized gains on investments for the six months ended June 30, 2013 were $5.1 million compared to $13.7 million for the six months ended June 30, 2012, a decrease of $8.6 million or 62.5%.
 
Net Unrealized (Losses) Gains on Investments
 
Net unrealized losses on investments for the six months ended June 30, 2013 were $148.6 million compared to $32.9 million for the six months ended June 30, 2012, an unfavorable movement of $115.7 million.
Net unrealized losses on fixed maturities and short term investments for the six months ended June 30, 2013 were $77.5 million compared to gains of $16.8 million for the six months ended June 30, 2012, an unfavorable movement of $94.3 million. The net unrealized losses on fixed maturities and short term investments were primarily driven by a combination of a shift in the yield curve and a widening of corporate bond spreads.
Net unrealized losses on other investments for the six months ended June 30, 2013 were $71.1 million compared to $49.7 million for the six months ended June 30, 2012 an unfavorable movement of $21.4 million. The unrealized losses on other investments for the six months ended June 30, 2013 was driven primarily by $75.9 million in unrealized losses relating to PaCRe. The amount of PaCRe's net unrealized losses attributable to noncontrolling interest was $68.3 million for the six months ended June 30, 2013, leaving a net impact to the Company of $2.8 million.
Net unrealized gains (losses) on investments are recorded as a component of net income. The Company has adopted all authoritative guidance on U.S. GAAP fair value measurements in effect as of the balance sheet date. Consistent with these standards,

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certain market conditions allow for fair value measurements that incorporate unobservable inputs where active market transaction based measurements are unavailable.

Income (Loss) From Investment Affiliate

The income from investment affiliate for the six months ended June 30, 2013 was $3.2 million as compared to a loss of ($0.4) million for the six months ended June 30, 2012, an increase of $3.6 million. The income from investment affiliate relates to the income earned from the Company's investment in the Aquiline Financial Services Fund II L.P.
 
Foreign Exchange Gains (Losses)
Our reporting currency is the U.S. dollar. As a significant portion of our operations are transacted in foreign currencies, fluctuations in foreign exchange rates may affect period-to-period comparisons. To the extent that fluctuations in foreign currency exchange rates affect comparisons, their impact has been quantified, when possible, and discussed in each of the relevant section.
Foreign exchange losses for the six months ended June 30, 2013 were ($1.3) million compared to foreign exchange gains of $2.5 million for the six months ended June 30, 2012, an unfavorable movement of ($3.8) million or 151.8%. For the six months ended June 30, 2013, Validus Re recognized a foreign exchange gain of $5.3 million and AlphaCat and Talbot recognized foreign exchange losses of ($1.1) million and ($6.1) million, respectively.
 
 
 
 
 
U.S. dollar strengthened (weakened) against:
 
Six Months Ended June 30, 2013
 
Six Months Ended June 30, 2012
British Pound sterling
 
6.7
%
 
(1.2
)%
Euro
 
1.3
%
 
2.3
 %
Canadian Dollar
 
5.7
%
 
(0.5
)%
Swiss Franc
 
3.2
%
 
1.0
 %
Singapore Dollar
 
3.8
%
 
(2.4
)%
Australian Dollar
 
13.3
%
 
(0.3
)%
New Zealand Dollar
 
6.4
%
 
(3.0
)%
Japanese Yen
 
14.5
%
 
3.5
 %

For the six months ended June 30, 2013, Validus Re segment foreign exchange gains were $5.3 million compared to gains of $2.5 million for the six months ended June 30, 2012, a favorable movement of $2.8 million or 115.2%. The favorable movement was due primarily to gains on outstanding claims and investments acquired from Flagstone, partially offset by a $7.2 million loss due to the U.S dollar strengthening against the Australian dollar, Japanese Yen, New Zealand dollar, British pound sterling and the Euro.

For the six months ended June 30, 2013, Talbot segment foreign exchange losses were ($6.1) million compared to gains of $0.2 million for the six months ended June 30, 2012, an unfavorable movement of ($6.3) million. The unfavorable movement in Talbot foreign exchange for the six months ended June 30, 2013 was primarily driven by translation adjustments of $5.7 million and $2.1 million of translation losses, due to the weakening of the British pound sterling and Canadian dollars against the U.S. dollar, partially offset by net gains of syndicate deposits of $1.9 million due to the weakening of the British pound sterling relative to the Euro and Swiss Franc, partially offset by strengthening against the Australian dollar.

As at June 30, 2013, Talbot's balance sheet included net unearned premiums and deferred acquisition costs denominated in foreign currencies of approximately $125.5 million and $25.2 million, respectively. These balances consisted of British pound sterling and Canadian dollars of $89.9 million and $10.4 million, respectively. Net unearned premiums and deferred acquisition costs are classified as non-monetary items and are translated at historic exchange rates. All of Talbot's other balance sheet items are classified as monetary items and are translated at period end exchange rates. Additional foreign exchange gains (losses) may be incurred on the translation of net unearned premiums and deferred acquisition costs arising from insurance and reinsurance premiums written in future periods.
 
Net Loss Attributable to Noncontrolling Interest

On May 1, 2013, PaCRe received an additional $58.5 million in contributed capital from a third party investor and $6.5 million from Validus Re. The additional capital received had no impact on the Company's ownership percentage of PaCRe. The net loss

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attributable to noncontrolling interest of $65.0 million for the six months ended June 30, 2013 is 90.0% of the net loss in PaCRe for the period.
During the six months ended June 30, 2013, the Company received $69.2 million in additional third party subscriptions. Two of the funds are variable interest entities and are consolidated by the Company as Validus Re is deemed to be the primary beneficiary. The net income attributable to noncontrolling interest was ($1.5) million for the six months ended June 30, 2013.

Other Non-GAAP Financial Measures
 
In presenting the Company's results, management has included and discussed certain schedules containing net operating income, underwriting income (loss), managed gross premiums written, annualized return on average equity and diluted book value per common share that are not calculated under standards or rules that comprise U.S. GAAP. Such measures are referred to as non-GAAP. Non-GAAP measures may be defined or calculated differently by other companies. These measures should not be viewed as a substitute for those determined in accordance with U.S. GAAP. The calculation of annualized return on average equity is discussed in the section above entitled "Financial Measures." A reconciliation of underwriting income to net income, the most comparable U.S. GAAP financial measure, is presented above in the section entitled "Underwriting Income (Loss)." A reconciliation of diluted book value per share to book value per share, the most comparable U.S. GAAP financial measure, is presented below. Operating income is calculated based on net income (loss) excluding net realized gains (losses), net unrealized gains (losses) on investments, income (loss) from investment affiliates, gains (losses) arising from translation of non-US$ denominated balances and non-recurring items. A reconciliation of operating income to net income, the most comparable U.S. GAAP financial measure, is embedded in the table presenting results of operations for the six months ended June 30, 2013 and 2012 in the section above entitled "Results of Operations." Realized gains (losses) from the sale of investments are driven by the timing of the disposition of investments, not by our operating performance. Gains (losses) arising from translation of non-U.S. dollar denominated balances are unrelated to our underlying business.
Managed gross premiums written represents gross premiums written by the Company and its operating affiliates.  Managed gross premiums written differs from total gross premiums written, which the Company believes is the most directly comparable GAAP measure, due to the inclusion of premiums written on behalf of the Company's operating affiliates, AlphaCat Re 2011 and AlphaCat Re 2012, which are accounted for under the equity method of accounting. A reconciliation of managed gross premiums written to gross premiums written, the most comparable U.S. GAAP financial measure, is presented in the section below.
The following tables present reconciliations of diluted book value per share to book value per share, the most comparable U.S. GAAP financial measure, at June 30, 2013 and December 31, 2012.
 
 
As at June 30, 2013
 
Equity Amount
 
Shares
 
Exercise Price
 
Book Value Per
Share
Book value per common share
 
 
 

 
 
 
 
Total shareholders' equity available to Validus
$
3,617,856

 
99,737,461

 
 
 
$
36.27

 
 
 
 

 
 
 
 
Diluted book value per common share
 
 
 

 
 
 
 
Total shareholders' equity available to Validus
3,617,856

 
99,737,461

 
 
 
 
Assumed exercise of outstanding warrants
101,379

 
5,459,829

 
$
18.57

 
 
Assumed exercise of outstanding stock options
31,914

 
1,689,131

 
$
18.89

 
 
Unvested restricted shares
—

 
2,831,952

 
 
 
 
Diluted book value per common share
$
3,751,149

 
109,718,373

 
 
 
$
34.19

 

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As at December 31, 2012
 
Equity Amount
 
Shares
 
Exercise Price
 
Book Value Per
Share
Book value per common share
 
 
 

 
 
 
 
Total shareholders' equity available to Validus
$
4,020,827

 
107,921,259

 
 
 
$
37.26

 
 
 
 

 
 
 
 
Diluted book value per common share
 
 
 

 
 
 
 
Total shareholders' equity available to Validus
4,020,827

 
107,921,259

 
 
 
 
Assumed exercise of outstanding warrants
118,015

 
6,410,472

 
$
18.41

 
 
Assumed exercise of outstanding stock options
37,745

 
1,823,947

 
$
20.69

 
 
Unvested restricted shares
—

 
2,443,631

 
 
 
 
Diluted book value per common share
$
4,176,587

 
118,599,309

 
 
 
$
35.22


The following tables present reconciliations of total gross premiums written to total managed gross premiums written, the most comparable U.S. GAAP financial measure, for the three and six months ended June 30, 2013 and June 30, 2012.

 
Three Months Ended
 
Six Months Ended
 
June 30,
 
June 30,
 
June 30,
 
June 30,
 
2013
 
2012 (a)
 
2013
 
2012(a)
Total gross premiums written
$
702,313

 
$
627,089

 
$
1,807,073

 
$
1,464,378

Adjustments for:
 
 
 
 
 
 
 
Gross premiums written on behalf of AlphaCat Re 2011
(403
)
 
12,830

 
(513
)
 
86,705

Gross premiums written on behalf of AlphaCat Re 2012
(67
)
 
30,558

 
(465
)
 
30,558

Total managed gross premiums written
$
701,843

 
$
670,477

 
$
1,806,095

 
$
1,581,641


(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.


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Financial Condition and Liquidity
 
Validus Holdings, Ltd. is a holding company and conducts no operations of its own. The Company relies primarily on cash
dividends and other permitted payments from Validus Re and Talbot to pay finance expenses and other holding company expenses. There are restrictions on the payment of dividends from Validus Re and Talbot to the Company. Please refer to Part II, Item 5, "Market for Registrants, Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities" in the Company's Annual Report on Form 10-K/A for the year ended December 31, 2012 for further discussion of the Company's dividend policy.
Sources and Uses of Cash

Three main sources provide cash flows for the Company: operating activities, investing activities and financing activities. The movement in net cash provided by operating activities, net cash provided by (used in) investing activities, net cash (used in) provided by financing activities and the effect of foreign currency rate changes on cash and cash equivalents for the six months ended June 30, 2013 and 2012 is provided in the following table.

 
 
Six Months Ended June 30,
(Dollars in thousands)
 
2013
 
2012 (a)
 
% Change
Net cash provided by operating activities
 
$
173,705

 
$
305,164

 
(43.1
)%
Net cash provided by (used in) investing activities
 
231,752

 
(408,551
)
 
156.7
 %
Net cash (used in) provided by financing activities
 
(263,542
)
 
167,117

 
(257.7
)%
Effect of foreign currency rate changes on cash and cash equivalents
 
(44,233
)
 
6,736

 
NM

Net increase in cash
 
$
97,682

 
$
70,466

 
38.6
 %
 
(a)
The results of operations for Flagstone are consolidated only from the November 30, 2012 date of acquisition.
NM: Not meaningful

Operating Activities
Cash flow from operating activities is derived primarily from the net receipt of premiums less claims and expenses related to underwriting activities.
During the six months ended June 30, 2013, net cash provided by operating activities of $173.7 million was driven primarily by net income of $190.4 million, a $545.2 million increase in unearned premiums and a $186.9 million increase in reinsurance balances payable, partially offset by a $558.1 million increase in premiums receivable and a $216.5 million decrease in reserve for losses and loss expenses primarily due to payment of claims on 2011 and 2012 notable loss events.

During the six months ended June 30, 2012, net cash provided by operating activities of $305.2 million was driven primarily by net income of $246.5 million, a $424.5 million increase in unearned premiums, partially offset by a $330.2 million increase in premiums receivable.
We anticipate that cash flows from operations will continue to be sufficient to cover cash outflows under our contractual commitments as well as most loss scenarios through the foreseeable future. Refer to the “Capital Resources” section below for further information on our anticipated obligations.
Investing Activities
Cash flow from investing activities is derived primarily from the receipt of net proceeds on the Company’s investment portfolio. As at June 30, 2013, the Company's portfolio was composed of fixed income investments including short-term investments, agency securities and sovereign securities amounting to $6,443.2 million or 83.0% of total cash and investments.
During the six months ended June 30, 2013, net cash provided by investing activities of $231.8 million was driven primarily by proceeds on sales of investments of $3,186.5 million, proceeds on maturities of investments of $316.9 million and $79.3 million of redemptions from investment in operating affiliates, offset by purchases of fixed maturities of $3,318.6 million.
During the six months ended June 30, 2012, net cash used in investing activities of $408.6 million was driven primarily by a net purchase of investments of $383.0 million.

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Investments in Affiliates
 
 
Six Months Ended June 30,
Net cash provided by (used in):
 
2013
 
2012
Investments in operating affiliates, net
 
$
79,307

 
$
(26,500
)
Investments in investment affiliates, net
 
(6,904
)
 
(3,368
)
On January 4, 2013, January 23, 2013, May 1, 2013 and May 28, 2013 partial returns of investment were made to the investors of AlphaCat Re 2011. Validus Re's corresponding portion of the returns of investments were $52.1 million. On February 22, 2013 and June 20, 2013 a partial return of investment was made to the investors of AlphaCat Re 2012. Validus Re's corresponding portion of the return of investment was $27.2 million.
Financing Activities
Cash flow from financing activities is derived primarily from the repurchase of common shares and the issuance of variable funding notes to AlphaCat non-consolidated entities.
During the six months ended June 30, 2013, net cash used in financing activities of $263.5 million was driven primarily by the purchase of common shares under the share repurchase program of $357.2 million and a payment of $297.5 million in a special dividend and quarterly dividends, partially offset by net proceeds on the issuance of variable funding notes to AlphaCat non-consolidated entities of $262.0 million and the third party investment in noncontrolling interest of $127.7 million. The third party investment in noncontrolling interest related to $69.2 million in additional third party subscriptions in the AlphaCat ILS funds and a $58.5 million third party capital contribution to PaCRe, respectively.

During the six months ended June 30, 2012, net cash provided by financing activities of $167.1 million was driven primarily by the third party investment in noncontrolling interest of $450.1 million, partially offset by the share repurchase of $221.3 million and a payment of $56.3 million in quarterly dividends.

Details of the Company's debt and financing arrangements at June 30, 2013 are provided below.
(Dollars in thousands)
 
Maturity Date / Term
 
In Use/Outstanding
2006 Junior Subordinated Deferrable Debentures
 
June 15, 2036
 
$
150,000

2007 Junior Subordinated Deferrable Debentures
 
June 15, 2037
 
139,800

2010 Senior Notes due 2040
 
January 26, 2040
 
250,000

$400,000 syndicated unsecured letter of credit facility
 
March 9, 2016
 
—

$525,000 syndicated secured letter of credit facility
 
March 9, 2016
 
373,318

$200,000 bi-lateral secured letter of credit facility
 
Evergreen
 
73,532

Talbot FAL Facility
 
December 31, 2015
 
25,000

PaCRe senior secured letter of credit facility
 
May 9, 2014

 
258

IPC bi-lateral facility
 
Evergreen
 
24,788

$375,000 Flagstone bi-lateral facility
 
Evergreen
 
313,398

Flagstone 2006 Junior Subordinated Deferrable Interest Notes
 
September 15, 2037
 
136,926

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
 
September 15, 2036
 
113,750

Total
 
 
 
$
1,600,770

 

Equity Transactions
 
 
Six Months Ended June 30,
Net cash used in:
 
2013
 
2012
Share repurchases
 
$
(357,184
)
 
$
(221,252
)
Dividends paid to shareholders
 
(297,539
)
 
(56,260
)

Under share repurchase programs authorized by our Board of Directors, we purchased 9.7 million and 6.9 million shares on the open market during the six months ended June 30, 2013 and 2012, respectively, for $357.2 million and $221.3 million, respectively. At June 30, 2013, the Company had $142.8 million remaining for stock repurchases under the existing Board authorization.


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During the six months ended June 30, 2013 and 2012, we paid cash dividends to shareholders of $297.5 million and $56.3 million, respectively, which included the $2.00 special dividend per share in 2013 and a quarterly dividend of $0.30 for 2013 in comparison to $0.25 per share for 2012.


Capital Resources
 
Shareholders' equity available to Validus at June 30, 2013 was $4,116.3 million.
 
On July 30, 2013, the Company announced a quarterly cash dividend of $0.30 per common share and $0.30 per common share equivalent for which each outstanding warrant is exercisable, payable on September 30, 2013 to holders of record on September 13, 2013.

The timing and amount of any future cash dividends, however, will be at the discretion of the Board and will depend upon our results of operations and cash flows, our financial position and capital requirements, general business conditions, legal, tax, regulatory, rating agency and contractual constraints or restrictions and any other factors that the Board deems relevant.

On May 1, 2013, PaCRe received an additional $58.5 million in contributed capital from a third party investor and $6.5 million from Validus Re. The Company will underwrite business for PaCRe, for which it is paid a profit commission based on the company's underwriting results.

On February 6, 2013, the Company announced an increase in its common share repurchase authorization to $500.0 million.

The Company may from time to time repurchase its securities, including common shares, Junior Subordinated Deferrable Debentures and Senior Notes. The Company repurchased 52.8 million shares at a cost of $1,564.0 million under the share repurchase programs for the period November 4, 2009 through August 6, 2013. The Company had $142.8 million remaining under its authorized share repurchase program at August 6, 2013.
 
The Company expects the purchases under its share repurchase program to be made from time to time in the open market or in privately negotiated transactions. The timing, form and amount of the share repurchases under the program will depend on a variety of factors, including market conditions, the Company's capital position relative to internal and rating agency targets, legal requirements and other factors. The repurchase program may be modified, extended or terminated by the Board of Directors at any time.

On February 6, 2013, the Company announced a special dividend in the amount of $2.00 per common share and common share equivalent. The dividend was payable in cash on February 26, 2013 to shareholders and warrant holders of record of February 19, 2013.

On February 6, 2013, the Company announced an increase in its regular quarterly dividend to $0.30 from $0.25 per common share and common share equivalent for which each outstanding warrant is exercisable. The Board also approved the payment of a regular quarterly dividend which was payable on March 29, 2013 to shareholders and warrant holders of record as of March 15, 2013.

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The following table details the capital resources of the Company's more significant subsidiaries on an unconsolidated basis.
 
 
 
Capital at
(Dollars in thousands)
 
June 30, 2013
Validus Reinsurance, Ltd. (consolidated), excluding IPCRe Limited and Validus UPS, Ltd.
 
$
2,484,644

IPCRe Limited (formerly Validus Re Americas, Ltd.)
 
126,386

Validus UPS, Ltd. (formerly Flagstone)
 
1,018,185

Total Validus Reinsurance, Ltd. (consolidated)
 
3,629,215

Noncontrolling interest in PacRe, Ltd.
 
427,755

Noncontrolling interest in AlphaCat ILS Funds
 
70,690

Talbot Holdings, Ltd. (consolidated)
 
680,814

Other subsidiaries, net
 
53,386

Other, net
 
42,061

Total consolidated capitalization
 
4,903,921

Senior notes payable
 
(247,144
)
Debentures payable
 
(540,476
)
Total shareholders' equity
 
$
4,116,301

 
Ratings
 
The following table summarizes the financial strength ratings of the Company and its principal reinsurance and insurance subsidiaries from internationally recognized rating agencies as of August 8, 2013:
 
 
A.M. Best (a)
 
S&P (b)
 
Moody’s (c)
 
Fitch (d)
Validus Holdings, Ltd.
 
 
 
 
 
 
 
Issuer credit rating
bbb
 
BBB+
 
Baa2
 
A-
Senior debt
bbb
 
BBB+
 
Baa2
 
BBB+
Subordinated debt
bbb-
 
BBB-
 
Baa3
 
BBB-
Preferred stock
bb+
 
BBB-
 
Ba1
 
—
Outlook on ratings
Stable
 
Stable
 
Stable
 
Stable
 
 
 
 
 
 
 
 
Validus Reinsurance, Ltd.
 
 
 
 
 
 
 
Financial strength rating
A
 
A
 
A3
 
A
Issuer credit rating
a
 
—
 
—
 
—
Outlook on ratings
Stable
 
Stable
 
Stable
 
Stable
 
 
 
 
 
 
 
 
Talbot
 
 
 
 
 
 
 
Financial strength rating applicable to all Lloyds syndicates
A
 
A+
 
—
 
A+
Flagstone Reassurance Suisse, SA
 
 
 
 
 
 
 
Financial strength rating
A-
 
 
 
 
 
 
Issuer credit rating
a-
 
 
 
 
 
 
Outlook on ratings
Stable
 
 
 
 
 
 

(a)
The A.M. Best ratings were most recently affirmed on February 7, 2013
(b)
The S&P ratings were most recently affirmed on August 30, 2012
(c)
All Moody’s ratings were most recently affirmed on August 31, 2012
(d)
All Fitch ratings were most recently affirmed on February 21, 2013

Recent accounting pronouncements
 
Please refer to Note 2 to the Consolidated Financial Statements (Part I, Item I) for further discussion of relevant recent accounting pronouncements.

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Debt and Financing Arrangements
 
The following table details the Company's borrowings and credit facilities as at June 30, 2013.
 
(Dollars in thousands)
 
Commitments (a)
 
In Use/Outstanding
2006 Junior Subordinated Deferrable Debentures
 
$
150,000

 
$
150,000

2007 Junior Subordinated Deferrable Debentures
 
200,000

 
139,800

2010 Senior Notes due 2040
 
250,000

 
250,000

$400,000 syndicated unsecured letter of credit facility
 
400,000

 
—

$525,000 syndicated secured letter of credit facility
 
525,000

 
373,318

$200,000 bi-lateral secured letter of credit facility
 
200,000

 
73,532

Talbot FAL Facility (b)
 
25,000

 
25,000

PaCRe senior secured letter of credit facility
 
10,000

 
258

IPC bi-lateral facility
 
40,000

 
24,788

$375,000 Flagstone bi-lateral facility
 
375,000

 
313,398

Flagstone 2006 Junior Subordinated Deferrable Interest Notes
 
136,926

 
136,926

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
 
113,750

 
113,750

Total
 
$
2,425,676

 
$
1,600,770


(a)
Indicates utilization of commitment amount, not drawn borrowings.

(b)
Talbot operates in Lloyd’s through a corporate member, Talbot 2002 Underwriting Capital Ltd (“T02”), which is the sole participant in Syndicate 1183. Lloyd’s sets T02’s required capital annually based on Syndicate 1183’s business plan, rating environment, reserving environment together with input arising from Lloyd’s discussions with, inter alia, regulatory and rating agencies. Such capital, called Funds at Lloyd’s (“FAL”), comprises: cash, investments and undrawn letters of credit provided by various banks.
 
Please refer to Note 12 to the Consolidated Financial Statements (Part I, Item I) for further discussion of the Company’s debt and financing arrangements.
 
Investments
 
A significant portion of contracts written provide short-tail reinsurance coverage for losses resulting mainly from natural and man-made catastrophes, which could result in a significant amount of losses on short notice. Accordingly, the Company's investment portfolio is structured to provide significant liquidity and preserve capital, which means the investment portfolio contains a significant amount of relatively short-term fixed maturity investments, such as U.S. government securities, U.S. government-sponsored enterprises securities, corporate debt securities and asset-backed securities.
 
Substantially all of the fixed maturity investments held at June 30, 2013 were publicly traded. At June 30, 2013 the average duration of the Company's fixed maturity portfolio was 1.69 years (December 31, 2012: 1.34 years) and the average rating of the portfolio was A+ (December 31, 2012: AA-). At June 30, 2013, the total fixed maturity portfolio was $5,319.0 million (December 31, 2012: $5,085.3 million), of which $768.9 million (December 31, 2012: $1,062.8 million) was rated AAA.
 
On November 30, 2012, as part of the acquisition of Flagstone, the Company assumed Flagstone's investment portfolio containing $910.3 million of cash and short term investments, $231.4 million of asset-backed securities, $90.0 million of non-agency residential mortgage-backed securities, $19.0 million of catastrophe bonds, $59.3 million fund of hedge funds and $13.0 million of private equity funds.
 
With the exception of the bank loan portfolio, the Company's investment guidelines require that investments be rated BBB- or higher at the time of purchase. The Company reports the ratings of its investment portfolio securities at the lower of Moody's or Standard & Poor's rating for each investment security. The Company's investment portfolio as at June 30, 2013, has $17.4 million of non-agency mortgage backed securities rated less than investment grade.
 
The other components of less than investment grade securities held by the Company at June 30, 2013 were $54.8 million of catastrophe bonds and $722.6 million of bank loans and $3.0 million of corporate bonds.
 
Cash and cash equivalents and investments in Talbot of $1,714.4 million at June 30, 2013 were held in trust for the benefit of cedants and policyholders and to facilitate the accreditation as an alien insurer/reinsurer by certain regulators (December 31, 2012:

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$1,901.5 million). Total cash and cash equivalents and investments in Talbot were $1,797.0 million at June 30, 2013 (December 31, 2012: $1,942.6 million).

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Cash Flows
 
During the six months ended June 30, 2013 and 2012, the Company generated net cash from operating activities of $173.7 million and $305.2 million, respectively. Cash flows from operations generally represent premiums collected, less losses and loss expenses paid and underwriting and other expenses paid. Cash flows from operations may differ substantially from net income.
 
As of June 30, 2013 and December 31, 2012, the Company had cash and cash equivalents of $1,317.1 million and $1,219.4 million, respectively.
 
The Company has written certain business that has loss experience generally characterized as having low frequency and high severity. This results in volatility in both results and operational cash flows. The potential for large claims or a series of claims under one or more reinsurance contracts means that substantial and unpredictable payments may be required within relatively short periods of time. As a result, cash flows from operating activities may fluctuate, perhaps significantly, between individual quarters and years. Management believes the Company's unused credit facility amounts and highly liquid investment portfolio are sufficient to support any potential operating cash flow deficiencies. Please refer to the table detailing the Company's borrowings and credit facilities as at June 30, 2013, presented above.
 
In addition to relying on premiums received and investment income from the investment portfolio, the Company intends to meet these cash flow demands by carrying a substantial amount of short and medium term investments that would mature, or possibly be sold, prior to the settlement of expected liabilities. The Company cannot provide assurance, however, that it will successfully match the structure of its investments with its liabilities due to uncertainty related to the timing and severity of loss events.

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
 
The Private Securities Litigation Reform Act of 1995 (“PSLRA”) provides a “safe harbor” for forward-looking statements. Any prospectus, prospectus supplement, the Company’s Annual Report to shareholders, any proxy statement, any other Form 10-K, Form 10-Q or Form 8-K of the Company or any other written or oral statements made by or on behalf of the Company may include forward-looking statements that reflect the Company’s current views with respect to future events and financial performance. Such statements include forward-looking statements both with respect to the Company in general, and to the insurance and reinsurance sectors in particular. Statements that include the words “expect”, “intend”, “plan”, “believe”, “project”, “anticipate”, “will”, “may”, and similar statements of a future or forward-looking nature identify forward-looking statements for purposes of the PSLRA or otherwise. All forward-looking statements address matters that involve risks and uncertainties. Accordingly, there are or will be important factors that could cause actual results to differ materially from those indicated in such statements and, therefore, you should not place undue reliance on any such statement.
 
We believe that these factors include, but are not limited to, the following:
 
•
unpredictability and severity of catastrophic events;

•
our ability to obtain and maintain ratings, which may affect our ability to raise additional equity or debt financings;

•
adequacy of the Company’s risk management and loss limitation methods;

•
cyclicality of demand and pricing in the insurance and reinsurance markets;

•
the Company’s ability to implement its business strategy during “soft” as well as “hard” markets;

•
adequacy of the Company’s loss reserves;

•
continued availability of capital and financing;

•
the Company’s ability to identify, hire and retain, on a timely and unimpeded basis and on anticipated economic and other terms, experienced and capable senior management, as well as underwriters, claims professionals and support staff;

•
acceptance of our business strategy, security and financial condition by rating agencies and regulators, as well as by brokers and (re)insureds;


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•
competition, including increased competition, on the basis of pricing, capacity, coverage terms or other factors;

•
potential loss of business from one or more major insurance or reinsurance brokers;

•
the Company’s ability to implement, successfully and on a timely basis, complex infrastructure, distribution capabilities, systems, procedures and internal controls, and to develop accurate actuarial data to support the business and regulatory and reporting requirements;

•
general economic and market conditions (including inflation, volatility in the credit and capital markets, interest rates and foreign currency exchange rates) and conditions specific to the insurance and reinsurance markets in which we operate;

•
the integration of businesses we may acquire or new business ventures, including overseas offices, we may start;

•
accuracy of estimates and judgments used in the preparation of the Company's financial statements, including those related to revenue recognition, insurance and other reserves, reinsurance recoverables, investment valuations, intangible assets, bad debts, taxes, contingencies, litigation and any determination to use the deposit method of accounting, which, for a relatively new insurance and reinsurance company like the Company, are even more difficult to make than those made in a mature company because of limited historical information;

•
the effect on the Company’s investment portfolio of changing financial market conditions including inflation, interest rates, liquidity and the possible downgrade of U.S. securities by credit rating agencies and the resulting effect on the value of securities in the Company’s investment portfolio, as well as other factors;

•
acts of terrorism, political unrest, outbreak of war and other hostilities or other non-forecasted and unpredictable events;

•
availability and cost of reinsurance and retrocession coverage;

•
the failure of reinsurers, retrocessionaires, producers or others to meet their obligations to us;

•
the timing of loss payments being faster or the receipt of reinsurance recoverables being slower than anticipated by us;

•
changes in domestic or foreign laws or regulations, or their interpretations;

•
changes in accounting principles or the application of such principles by regulators;

•
statutory or regulatory or rating agency developments, including as to tax policy and reinsurance and other regulatory matters such as the adoption of proposed legislation that would affect Bermuda-headquartered companies and/or Bermuda-based insurers or reinsurers; and

•
the other factors set forth under Part I Item 1A "Risk Factors" and under Part II Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the other sections of the Company's Annual Report on Form 10-K/A for the year ended December 31, 2012, as well as the risk and other factors set forth in the Company's other filings with the SEC, as well as management's response to any of the aforementioned factors.

In addition, other general factors could affect our results, including: (a) developments in the world’s financial and capital markets and our access to such markets; (b) changes in regulations or tax laws applicable to us, including, without limitation, any such changes resulting from the recent investigations relating to the insurance industry and any attendant litigation; and (c) the effects of business disruption or economic contraction due to terrorism or other hostilities.
 
The foregoing review of important factors should not be construed as exhaustive and should be read in conjunction with the other cautionary statements that are included herein or elsewhere. Any forward-looking statements made in this report are qualified by these cautionary statements, and there can be no assurance that the actual results or developments anticipated by us will be realized or, even if substantially realized, that they will have the expected consequences to, or effects on, us or our business or operations. We undertake no obligation to update publicly or revise any forward-looking statement, whether as a result of new information, future developments or otherwise.
 

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
We believe we are principally exposed to five types of market risk:
 
•
interest rate risk;

•
foreign currency risk;

•
credit risk;

•
liquidity risk; and

•
effects of inflation.

Interest Rate Risk: The Company's primary market risk exposure is to changes in interest rates. The Company's fixed maturity portfolio is exposed to interest rate risk. Fluctuations in interest rates have a direct impact on the market valuation of these investments. As interest rates rise, the market value of the Company's fixed maturity portfolio falls and the Company has the risk that cash outflows will have to be funded by selling assets, which will be trading at depreciated values. As interest rates decline, the market value of the Company's fixed income portfolio increases and the Company has reinvestment risk, as funds reinvested will earn less than is necessary to match anticipated liabilities. We manage interest rate risk by selecting investments with characteristics such as duration, yield, currency and liquidity tailored to the anticipated cash outflow characteristics of the insurance and reinsurance liabilities the Company assumes.
 
As at June 30, 2013, the impact on the Company's fixed maturity and short-term investments from an immediate 100 basis point increase in market interest rates (based on U.S. treasury yield) would have resulted in an estimated decrease in market value of 1.8%, or approximately $111.5 million. As at June 30, 2013, the impact on the Company's fixed maturity portfolio from an immediate 100 basis point decrease in market interest rates would have resulted in an estimated increase in market value of 1.4% or approximately $86.0 million.
 
As at June 30, 2012, the impact on the Company's fixed maturity and short-term investments from an immediate 100 basis point increase in market interest rates (based on U.S. treasury yield) would have resulted in an estimated decrease in market value of 1.6%, or approximately $84.9 million. As at June 30, 2012, the impact on the Company's fixed maturity portfolio from an immediate 100 basis point decrease in market interest rates would have resulted in an estimated increase in market value of 1.3% or approximately $69.3 million.
 
As at June 30, 2013, the Company held $838.4 million (December 31, 2012: $1,108.0 million), or 15.8% (December 31, 2012: 21.8%), of the Company's fixed maturity portfolio in asset-backed and mortgage-backed securities. These assets are exposed to prepayment risk, which occurs when holders of underlying loans increase the frequency with which they prepay the outstanding principal before the maturity date and refinance at a lower interest rate cost. The adverse impact of prepayment is more evident in a declining interest rate environment. As a result, the Company will be exposed to reinvestment risk, as cash flows received by the Company will be accelerated and will be reinvested at the prevailing interest rates.
 
Foreign Currency Risk: Certain of the Company's reinsurance contracts provide that ultimate losses may be payable in foreign currencies depending on the country of original loss. Foreign currency exchange rate risk exists to the extent that there is an increase in the exchange rate of the foreign currency in which losses are ultimately owed. Therefore, we attempt to manage our foreign currency risk by seeking to match our liabilities under insurance and reinsurance policies that are payable in foreign currencies with cash and investments that are denominated in such currencies. As of June 30, 2013, $875.6 million, or 8.3% of our total assets and $944.7 million, or 14.6% of our total liabilities were held in foreign currencies. As of June 30, 2013, approximately $125.5 million, or 1.9% of our total liabilities held in foreign currencies were non-monetary items which do not require revaluation at each reporting date. As of June 30, 2012, $816.2 million, or 9.6% of our total assets and $832.3 million, or 18.0% of our total liabilities were held in foreign currencies. As of June 30, 2012, approximately $107.2 million, or 2.3% of our total liabilities held in foreign currencies were non-monetary items which do not require revaluation at each reporting date.
 
Credit Risk: We are exposed to credit risk primarily from the possibility that counterparties may default on their obligations to us. We attempt to limit our credit exposure by purchasing high quality fixed income investments to maintain an average portfolio, excluding bank loans, credit quality of AA- or higher with mortgage and commercial mortgage-backed issues having an aggregate weighted average credit quality of AAA. In addition, we have limited our exposure to any single issuer to 3.0% or less of total investments, excluding treasury and agency securities. With the exception of the bank loan portfolio, the minimum credit rating

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of any security purchased is BBB-/Baa3 and where investments are downgraded below BBB-/Baa3, we permit our investment managers to hold up to 2.0% in aggregate market value, or up to 10.0% with written authorization of the Company. At June 30, 2013, 1.3% of the portfolio, excluding bank loans was below BBB-/Baa3 and we did not have an aggregate exposure to any single issuer of more than 1.1% of total investments, other than with respect to government and agency securities.
 
The amount of the maximum exposure to credit risk is indicated by the carrying value of the Company's financial assets. The Company's primary credit risks reside in investment in U.S. corporate bonds and recoverables from reinsurers. The Company evaluates the financial condition of its reinsurers and monitors concentration of credit risk arising from its exposure to individual reinsurers. The reinsurance program is generally placed with reinsurers whose rating, at the time of placement, was A- or better rated by S & P or the equivalent with other rating agencies. Exposure to a single reinsurer is also controlled with restrictions dependent on rating. At June 30, 2013, 96.9% of reinsurance recoverables (which includes loss reserves recoverable and recoverables on paid losses) were from reinsurers rated A- or above, or from reinsurers posting full collateral (December 31, 2012: 97.9%, rated A-).
 
Liquidity risk: Certain of the Company's investments may become illiquid. Disruptions in the credit markets may materially affect the liquidity of the Company's investments, including non-agency residential mortgage-backed securities and bank loans which represent 10.0% (December 31, 2012: 9.8%) of total cash and investments at June 30, 2013. If the Company requires significant amounts of cash on short notice in excess of normal cash requirements (which could include claims on a major catastrophic event) in a period of market illiquidity, the investments may be difficult to sell in a timely manner and may have to be disposed of for less than what may otherwise have been possible under other conditions. At June 30, 2013, the Company had $1,473.5 million of unrestricted, liquid assets, defined as unpledged cash and cash equivalents, short term investments, government and government agency securities. Details of the Company's debt and financing arrangements at June 30, 2013 are provided below.
 
(Dollars in thousands)
Maturity Date / Term
 
In Use / Outstanding
2006 Junior Subordinated Deferrable Debentures
June 15, 2036
 
$
150,000

2007 Junior Subordinated Deferrable Debentures
June 15, 2037
 
139,800

2010 Senior Notes due 2040
January 26, 2040
 
250,000

$400,000 syndicated unsecured letter of credit facility
March 9, 2016
 
—

$525,000 syndicated secured letter of credit facility
March 9, 2016
 
373,318

$200,000 bi-lateral secured letter of credit facility
Evergreen
 
73,532

Talbot FAL Facility
December 31, 2015
 
25,000

PaCRe senior secured letter of credit facility
May 9, 2014
 
258

IPC bi-lateral facility
Evergreen
 
24,788

$375,000 Flagstone bi-lateral facility
Evergreen
 
313,398

Flagstone 2006 Junior Subordinated Deferrable Interest Notes
September 15, 2037
 
136,926

Flagstone 2007 Junior Subordinated Deferrable Interest Notes
September 15, 2036
 
113,750

Total
 
 
$
1,600,770

 
Effects of Inflation: We do not believe that inflation has had or will have a material effect on our combined results of operations, except insofar as (a) inflation may affect interest rates, and (b) losses and loss expenses may be affected by inflation.
 
ITEM 4. CONTROLS AND PROCEDURES
 
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
 
The Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of disclosure controls and procedures pursuant to Rules 13a-15 and 15d-15 promulgated under the Securities Exchange Act of 1934, as amended, as of the end of the period covered by this report.
 
Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures are effective to provide reasonable assurance that all material information relating to the Company required to be filed in this report has been recorded, processed, summarized and reported when required and the information is accumulated and communicated, as appropriate, to allow timely decisions regarding required disclosures.
 

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Changes in Internal Control Over Financial Reporting
 
There have been no changes in internal control over financial reporting identified in connection with the Company’s evaluation required pursuant to Rules 13a-15 and 15d-15 promulgated under the Securities Exchange Act of 1934, as amended, that occurred during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
PART II — OTHER INFORMATION
 
ITEM 1. LEGAL PROCEEDINGS
 
The Company anticipates that, similar to the rest of the insurance and reinsurance industry, it will be subject to litigation and arbitration in the ordinary course of business.

ITEM 1A.               RISK FACTORS
 
Please refer to the discussion of Risk factors in Item 1A of the Company's Annual Report on Form 10-K/A for the year ended December 31, 2012.

ITEM 2.                        UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
On June 5, 2012, the Company announced the final results of its “modified Dutch auction” tender offer. Pursuant to this tender offer, the Company purchased 6,383,884 of its common shares at a price of $32.00 per common share for a total cost of $204.3 million, excluding fees and expenses relating to the tender offer. The Company funded the purchase of the shares in the tender offer using cash on hand.

The Company expects the purchases under its share repurchase program to be made from time to time in the open market or in privately negotiated transactions. The timing, form and amount of the share repurchases under the program will depend on a variety of factors, including market conditions, the Company's capital position relative to internal and rating agency targets, legal requirements and other factors. The repurchase program may be modified, extended or terminated by the Board of Directors at any time.

On February 6, 2013, the Company announced an increase in its common share repurchase authorization to $500.0 million.
 
The Company has repurchased approximately 52.8 million common shares for an aggregate purchase price of $1,564.0 million from the inception of the share repurchase program to August 6, 2013. The Company has $142.8 million remaining under its authorized share repurchase program as of August 6, 2013.

Share repurchases include repurchases by the Company of shares, from time to time, from employees in order to facilitate the payment of withholding taxes on restricted shares granted. We purchased these shares at their fair market value, as determined by reference to the closing price of our common shares on the day the restricted shares vested or the stock appreciation rights were exercised.
 

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Share Repurchase Activity
(Expressed in thousands of U.S. dollars except for share and per share information)
 
 
As at March 31, 2013
 
 
 
 
 
 
 
Quarter ended
Effect of share repurchases:
 
(cumulative)
 
April
 
May
 
June
 
June 30, 2013
Aggregate purchase price (a)
 
$
1,276,536

 
$
71,058

 
$
112,291

 
$
104,144

 
$
287,493

Shares repurchased
 
45,042,446

 
$
1,883,310

 
$
3,048,599

 
$
2,875,090

 
$
7,806,999

Average price (a)
 
$
28.34

 
$
37.73

 
$
36.83

 
$
36.22

 
$
36.83

 
 
 
 
 
 
 
 
 
 
 
Estimated cumulative net accretive (dilutive) impact on:
 
 

 
 

 
 

 
 

 
 

Diluted BV per common share (b)
 
 

 
 

 
 

 
 

 
$
1.49

Diluted EPS - Quarter (c)
 
 

 
 

 
 

 
 

 
$
0.08

 
 
 
Share Repurchase Activity
(Expressed in thousands of U.S. dollars except for share and per share information)
Effect of share repurchases:
 
As at June 30, 2013 (cumulative)
 
July
 
As at August 6, 2013
 
Cumulative to Date Effect
Aggregate purchase price (a)
 
$
1,564,029

 
$
—

 
$
—

 
$
1,564,029

Shares repurchased
 
52,849,445

 
—

 
—

 
52,849,445

Average price (a)
 
$
29.59

 
$
—

 
$
—

 
$
29.59


(a) Share transactions are on a trade date basis through August 6, 2013 and are inclusive of commissions.  Average share price is rounded to two decimal places.
 
(b) As the average price per share repurchased during certain periods between 2009 and 2013 was lower than the book value per common share, the repurchase of shares increased the Company's period ending book value per share.
 
(c) The estimated impact on diluted earnings per share was calculated by comparing reported results versus i) net income per share plus an estimate of lost net investment income on the cumulative share repurchases divided by ii) weighted average diluted shares outstanding excluding the weighted average impact of cumulative share repurchases. The impact of cumulative share repurchases was accretive to diluted earnings per share.
 
ITEM 3.                        DEFAULTS UPON SENIOR SECURITIES
 
None.
 
ITEM 4.                        MINE SAFETY DISCLOSURE

Not applicable.
  
ITEM 5.                        OTHER INFORMATION
 
None.



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ITEM 6.  EXHIBITS
Exhibit
Description
Exhibit 10.1
Separation Agreement, dated as of May 31, 2013, between Validus Holdings, Ltd. and Stuart W. Mercer. (Incorporated by reference from the Company's Current Report on Form 8-K filed with the SEC on June 4, 2013)
 
 
Exhibit 10.2
Employment Agreement dated as of June 19, 2013, between Validus Holdings, Ltd. and Michael Moore. (Incorporated by reference from the Company's Current Report on Form 8-K filed with the SEC on June 24, 2013)
 
 
Exhibit 31.1*
Certification of Chief Executive Officer pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.
 
 
Exhibit 31.2*
Certification of Chief Financial Officer pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.
 
 
Exhibit 32*
Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of The Sarbanes-Oxley Act of 2002.
 
 
Exhibit 101.1 INS*
XBRL Instance Document
 
 
Exhibit 101.SCH*
XBRL Taxonomy Extension Schema Document
 
 
Exhibit 101.CAL*
XBRL Taxonomy Extension Calculation Linkbase Document
 
 
Exhibit 101.LAB*
XBRL Taxonomy Extension Label Linkbase Document
 
 
Exhibit 101.PRE*
XBRL Taxonomy Extension Presentation Linkbase Document
 
 
Exhibit 101.DEF*
XBRL Taxonomy Extension Definition Linkbase Document
 
 
*Filed herewith

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SIGNATURES
 
Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
 
VALIDUS HOLDINGS, LTD.
 
 
(Registrant)
 
 
 
Date:
August 8, 2013
/s/ Edward J. Noonan
 
 
Edward J. Noonan
 
 
Chief Executive Officer
 
 
 
Date:
August 8, 2013
/s/ Jeffrey D. Sangster
 
 
Jeffrey D. Sangster
 
 
Executive Vice President and Chief Financial Officer

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