TEXT-S&P affirms Validus Re 'A', Validus Holdings 'BBB+' ratings

Thu Aug 30, 2012 2:53pm EDT

Overview
     -- Bermuda-based Validus Reinsurance Ltd. announced that it will acquire 
Flagstone Reinsurance Holdings S.A. 
     -- We expect the company to experience relatively low integration risk 
due to short-tail reserves and limited integration of Flagstone's underwriting 
operations.
     -- We are affirming our 'A' financial strength rating on Validus 
Reinsurance Ltd. and 'BBB+' counterparty credit rating on Validus Holdings 
Ltd. The outlook remains stable.
     -- We believe the acquisition will boost Validus's capital base and 
property catastrophe premium writings, allowing the combined company to offer 
increased capacity.

Rating Action
On Aug. 30, 2012, Standard & Poor's Ratings Services affirmed its 'A' 
financial strength rating on Validus Reinsurance Ltd. (Validus Re) and its 
'BBB+' counterparty credit rating on the holding company, Validus Holdings 
Ltd. (we refer to the two companies together as Validus). The outlook remains 
stable.

Rationale
On Aug. 30, 2012, Validus announced its acquisition of Flagstone Reinsurance 
Holdings S.A. for $2 cash and 0.1935 Validus common shares per Flagstone 
common share. Flagstone shareholders will own 12% of the combined entity. 
Validus has an agreement with Lightyear Capital and Trilantic Partners 
(collectively, 22.5% Flagstone common owners) that they will vote in favor of 
the transaction.

Upon completion of the transaction, Validus expects to strengthen Flagstone's 
reserves by $76 million, take $59 million of other charges, and record a $58 
million bargain purchase gain. It will discontinue Flagstone's noncatastrophe 
portfolio and migrate the property catastrophe book to, and optimized with, 
Validus's Bermuda business. The acquisition will boost Validus's capital base 
by almost $800 million with additional shareholder equity and Flagstones 
junior subordinated debt. Although Validus could potentially have the largest 
property catastrophe book in Bermuda, the overall business mix shift will be 
modest.

We do not expect the acquisition to involve heavy integration of Flagstone's 
underwriting operations. This and Flagstone's short-tail reserves mitigate the 
integration risk of this deal. However, Flagstone's various legal entities in 
Luxembourg and Switzerland raise some concern around the fungibility of 
capital.

Since beginning operations in 2006, Validus has shown strong operating 
performance with less volatility in underwriting performance than many peers. 
The company has also outperformed its peers in 2011, a year with substantial 
catastrophe losses around the globe. As a short-tail insurer and reinsurer 
with almost half of its premium writings in property-exposed business, Validus 
produced a combined ratio of 99.3% and a return on revenue (ROR) of 4.7% in a 
year when many reinsurance companies produced substantial underwriting losses.

Validus has a strong competitive position within the property catastrophe and 
other short-tail lines of business, with $2.1 billion gross premiums written 
(GPW) in 2011. The group is well diversified in terms of reinsurance versus 
primary business, geographic spread, and specialized short-tail lines of 
business. Operating under two segments, Validus Re and Talbot, the company has 
a leading position in various lines of business and a presence in numerous 
global insurance hubs. The international noncatastrophe short-tail insurance 
writings and geographic diversification from Talbot balance Validus Re's more 
U.S.-concentrated property catastrophe writings. Validus Research enables 
Validus to provide scientific research to its cedants, helping solidify its 
competitive position. This service and the ability to offer sizable capacity 
help Validus maintain its position as an approved lead reinsurer for major 
cedants. Validus has also been able to capitalize three sidecars in the past 
couple of years, demonstrating its ability to bring solutions to market and 
further expand into the property catastrophe market without increasing its 
retained risk exposures.

Outlook
The outlook is stable. With Validus's expansion into emerging markets, we 
expect 2012 GPW to grow organically (excluding the effect of the proposed 
Flagstone acquisition), in the mid-single-digit range, mainly in the Talbot 
segment. Geographically, growth will be focused on Latin America and Asia 
through the company's offices in Miami, Singapore, and Santiago, Chile.

As the company expands, we expect Validus's enterprise risk management (ERM) 
function will meet the additional complexity in the business. Over the longer 
term, we expect operating performance to remain strong with an average 
combined ratio of 80% to 85% (with catastrophe and other large losses 
contributing 25 to 35 percentage points) and an average ROR of at least 20%. 
Results will likely be volatile due to the company's severity exposures, 
particularly to U.S. windstorms. We also expect the company to maintain its 
strong capitalization.

Considering the recent upgrade, an additional upgrade is unlikely over the 
next 24 months because of management's evolving corporate strategy and the 
potentially high volatility inherent in the company's risk profile. A negative 
rating action is possible if Validus doesn't meet our stated expectations, if 
its ERM capabilities fail to address the growing complexity, if it completes 
an acquisition that could compromise its risk profile, or if it experiences 
outlier losses in a significant catastrophe event that result in a loss of 
over one year of earnings or a 10% or greater loss of capital.

Related Criteria And Research
     -- Evaluating Insurers' Competitive Positions, April 22, 2009
     -- Analysis Of NonLife Insurance Operating Performance, April 22, 2009

Ratings List
Ratings Affirmed

Validus Holdings Ltd.
 Counterparty Credit Rating             BBB+/Stable/--     

Validus Reinsurance Ltd.
 Financial Strength Rating
  Local Currency                        A/Stable/--        

Validus Holdings Ltd.
 Senior Unsecured                       BBB+               
 Preferred Stock                        BBB-               



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