10-QPeriod: Q1 FY2008

ARCH CAPITAL GROUP LTD. Quarterly Report for Q1 Ended Mar 31, 2008

Filed May 8, 2008For Securities:ACGLACGLNACGLO

Summary

Arch Capital Group Ltd. (ACGL) reported a slight decrease in net income available to common shareholders for the first quarter of 2008, falling to $189.4 million from $198.6 million in the prior year period. This translated to diluted earnings per share of $2.78, an increase from $2.59 in Q1 2007, primarily due to a reduction in weighted average shares outstanding from share repurchases. The company's insurance segment experienced a significant decline in underwriting income, with its combined ratio deteriorating to 98.4% from 90.4% year-over-year, driven by higher losses and increased operating expenses. Conversely, the reinsurance segment showed improvement, with underwriting income rising to $91.2 million and its combined ratio improving to 68.5% from 74.8% in the prior year. Total investable assets grew to $10.24 billion, supported by operational cash flows. However, the company faces market headwinds, including increased delinquencies in residential mortgage loans and a general softening market for insurance and reinsurance pricing. ACGL's proactive share repurchase program continues to reduce share count and has positively impacted diluted EPS. The company also announced a joint venture in Dubai to establish a new reinsurer, signaling strategic expansion into new markets.

Key Highlights

  • 1Net income available to common shareholders decreased slightly to $189.4 million in Q1 2008 from $198.6 million in Q1 2007, but diluted EPS increased to $2.78 from $2.59 due to share repurchases.
  • 2The insurance segment's underwriting income dropped significantly to $7.2 million from $40.4 million, with its combined ratio worsening to 98.4% from 90.4%.
  • 3The reinsurance segment's underwriting income improved to $91.2 million from $84.2 million, and its combined ratio strengthened to 68.5% from 74.8%.
  • 4Total investable assets increased to $10.24 billion at March 31, 2008, up from $10.12 billion at December 31, 2007.
  • 5The company continued its share repurchase program, buying back approximately 2.7 million shares in Q1 2008 for $189.8 million.
  • 6ACGL announced a joint venture with Gulf Investment Corporation GSC to form a new reinsurer based in the Dubai International Financial Centre, targeting the Gulf Cooperation Council states.
  • 7Investable assets remain significant at over $10 billion, providing a strong capital base despite challenging market conditions and a competitive pricing environment.

Frequently Asked Questions

The increase in diluted earnings per share (EPS) from $2.59 in Q1 2007 to $2.78 in Q1 2008 was primarily driven by a reduction in the number of diluted weighted average common shares outstanding. This reduction was a direct result of the company's active share repurchase program, which reduced the share count by approximately 9.4 million shares in the first quarter of 2008.

The two segments showed contrasting performance. The insurance segment's underwriting income significantly declined to $7.2 million from $40.4 million in the prior year, with its combined ratio worsening to 98.4% due to higher losses and increased operating expenses. In contrast, the reinsurance segment's underwriting income improved to $91.2 million from $84.2 million, and its combined ratio strengthened to 68.5% from 74.8%.

Management highlighted several risks including increased competition leading to price erosion in many lines of business, potential volatility in results due to the increased focus on property and marine lines, and the impact of a softening market. Additionally, the company noted potential adverse effects from increases in delinquencies and losses related to residential mortgage loans, as well as general economic conditions and the frequency/severity of catastrophic events.

The quota-share reinsurance treaty with Flatiron Re Ltd. expired on December 31, 2007. This treaty had allowed ACGL to increase its participation in property and marine lines without significantly increasing its probable maximum loss. Its expiration means ACGL's reinsurance operations will have an increased risk retention, potentially leading to higher volatility in future results. While the recoverable from Flatiron Re Ltd. was fully collateralized, the absence of this reinsurance capacity is a notable change.