July 14, 2017 / 8:25 PM / a month ago

Fitch Affirms Enstar's Ratings; Outlook Stable

(The following statement was released by the rating agency) CHICAGO, July 14 (Fitch) Fitch Ratings has affirmed Enstar Group Limited's (Enstar) Long-Term Issuer Default Rating (IDR) at 'BBB', senior unsecured notes at 'BBB-' and senior shelf registration at 'BBB-'. The Rating Outlook is Stable. KEY RATING DRIVERS The rating affirmation reflects Enstar's solid business franchise acquiring and managing non-life runoff companies, consistently strong profitability driven by favorable reserve development, reasonable financial leverage, and very strong earnings coverage. Offsets to these positives include the company's risk profile that is potentially subject to change based on future acquisitions and capital needs, reserves that are long-tailed and thus highly volatile, sizable reinsurance recoverable balance from runoff business and expansion into active non-life business that adds risk outside of the company's core non-life runoff business. Enstar has a leading position in the specialized niche market for non-life runoff (re)insurance business, with an experienced, disciplined and highly knowledgeable team. Enstar has been successful with its runoff acquisition and risk management strategy, generating favorable returns and significant growth in book value per share. Fitch views Enstar's profitability as strong, characterized by high returns on equity (ROEs), with the most recent five-year average (2012-2016) at 10.7%. Enstar posted positive net earnings in every year of its operating history dating back to 2002. The lower 7.7% ROE posted through the first three months of 2017 reflects the seasonality of runoff, with the majority of reserve development and commutations occurring during the second half of the year, as this coincides with reserve reviews and efforts by companies to finalize deals prior to year-end. The key source of Enstar's positive operating performance is its ability to ultimately settle reserves below acquired fair value through both effective claims management and commutations. Over the most recent five-year period (2012-2016), Enstar reduced its estimates of net ultimate prior-period losses in its non-life runoff business by $1.4 billion. This includes $292 million in 2016, representing 12% and 9% of beginning of year shareholders' equity and net non-life runoff loss/LAE reserves, respectively. Enstar's reserve mix changes as the company acquires runoff books and develops its active underwriting business while paying down existing reserves. As of year-end 2016, the largest exposure is to runoff workers' compensation reserves at 30% of total net non-life loss/LAE reserves, with active operations representing 20% of the total. Non-life runoff net reserves grew 35% in first quarter 2017 to $4.9 billion as Enstar assumed $1.6 billion of net insurance reserves ($2.3 billion gross) from two reinsurance deals with RSA Insurance Group and QBE Insurance Group. Enstar maintains a reasonable financial leverage ratio of 20.3% at March 31, 2017, up from 19.3% at Dec. 31, 2016. Debt includes $350 million of 4.5% senior notes due 2022 issued in March 2017. This issuance represented Enstar's initial public debt offering. The net proceeds were used to repay a portion of the company's revolving credit facility that was primarily utilized to partially fund the company's acquisitions. Fitch expects financial leverage to remain below 25%. Enstar's operating earnings-based interest coverage has been exceptionally strong, averaging a favorable 15.8x from 2012 to 2016, with 13.1x in 2016. GAAP earnings coverage dropped to 2.5x through the first three months of 2017, reflecting the seasonality of earnings that are more weighted to the fourth quarter. Fitch expects annual fixed-charge coverage to be maintained near 10x, which is viewed as very strong. Enstar's consolidated GAAP reinsurance balances recoverables on unpaid losses and loss expenses that totaled $2 billion at March 31, 2017, with 79% derived from the non-life runoff business. This level represents a sizable 70% of shareholders' equity (46% net of collateral), and creates a risk exposure to reinsurers as well as increased potential for reinsurer disputes. The company's active operations posted underwriting profitability in 2016 with combined ratios of 98.6% in StarStone Insurance Bermuda Limited and 94% in Atrium Underwriting Group Limited (Atrium). Active non-life operations generated $788 million of net premiums written in 2016. RATING SENSITIVITIES Key rating sensitivities that could lead to an upgrade include continued business profile enhancement such that individual acquisitions and new business transactions have a more muted impact on the overall financial profile; further improvements in the financial strength and credit quality of the active underwriting businesses; and sustained risk-adjusted capital growth commensurate with business and reserve/exposure growth. Any potential future upgrade would likely be limited to one notch due to the nature of the company's business model in acquiring large blocks of runoff business, which can materially alter the company's balance sheet within a short-time horizon and thus places some constraints on the rating. While this risk has been managed well to date, it adds potential near-term capital, earnings and business/exposure mix variability at levels greater than experienced by most insurance companies operating under more traditional business models. Key rating sensitivities that could result in a rating downgrade include failure to generate continued material levels of favorable non-life runoff reserve development; additional capital needs to support the current run-off business; one or more significant new transactions that Fitch views as materially increasing the overall risk profile; net leverage ratio above 3.5x; declines in the financial strength of the active business due to sizeable underwriting losses or other factors; financial leverage ratio approaching 30%; and operating earnings-based interest coverage below 5x. VARIATIONS FROM CRITERIA Fitch's global master criteria report Insurance Rating Methodology references the Insurer Financial Strength (IFS) as the typical initial anchor rating when assigning ratings to an insurance holding company. Enstar's anchor rating is the unsecured senior debt rating because the company's core business of non-life runoff does not lend itself to establishing a consolidated IFS rating for notching purposes. All of the Key Credit Factors defined in Fitch's master criteria report have been applied to Enstar to develop its unsecured senior debt rating. However, the median sector credit factor ratio guidelines included in the criteria for IFS ratings are assessed at one full rating category lower to reflect holding company level risk. This criteria variation is based on the fact that in the case of ring-fenced regulatory environments, holding company unsecured senior debt ratings are typically rated three notches (i.e. one full category) below the IFS rating. The holding company IDR is a standard one notch above the unsecured senior debt rating. The variation has not resulted in any change to the rating. FULL LIST OF RATING ACTIONS Fitch affirms the following ratings with a Stable Outlook: Enstar Group Limited --IDR at 'BBB'; --$350 million 4.5% senior unsecured notes due 2022 at 'BBB-'; --Senior shelf registration at 'BBB-'. Contact: Primary Analyst Brian C. Schneider, CPA, CPCU, ARe Senior Director +1-312-606-2321 Fitch Ratings, Inc. 70 W. Madison Street Chicago, IL 60602 Secondary Analyst James B. Auden, CFA Managing Director +1-312-368-3146 Committee Chairperson Keith M. Buckley, CFA Managing Director +1-312-368-3211 Media Relations: Elizabeth Fogerty, New York, Tel: +1 (212) 908 0526, Email: elizabeth.fogerty@fitchratings.com. Additional information is available on www.fitchratings.com Applicable Criteria Insurance Rating Methodology (pub. 26 Apr 2017) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here#solicitation Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. 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