Jan 25 - Fitch Ratings has affirmed the 'BBB' Issuer Default Rating (IDR) of
Tower Group, Inc. (Tower) and the 'A' Insurer Financial Strength (IFS)
ratings Tower's operating subsidiaries. A full list of ratings follows at the
end of this release. The Rating Outlook is Stable.
The rating rationale considers Tower's historical profitability and expectations
of a reversion towards previous profit levels in the near future; the company's
multi-tiered approach to underwriting; history of modest reserve development;
and a well-diversified investment portfolio that has an average credit rating of
Also factored in to Fitch's rating rationale is the company's appetite for
growth, complex organizational structure, and an elevated catastrophe profile
given the company's concentration in New York, New Jersey, and Massachusetts
markets where approximately 70% of total direct written premiums are derived.
Fitch recognizes that historical catastrophe losses have been modest at Tower,
but Hurricane Sandy and Hurricane Irene produced significant pretax net
catastrophe related losses of approximately $110 million and $52 million
respectively. Tower's geographical concentration of Northeast property related
premiums leaves the company more susceptible to tail event risk than most peers.
In particular, in a large catastrophe event Tower is heavily dependent on
reinsurers in its catastrophe program providing timely payments.
Adverse reserve development has historically been modestly favorable at Tower.
However, Tower took $70.9 million in pretax reserve strengthening for first nine
months of 2012. The majority of the reserve development comes from commercial
insurance in accident years 2009 - 2011 and pertain to various programs, most of
which have been terminated.
Fitch notes that the reserve development is outside of ratings expectations and
coupled with Hurricane Sandy losses is of sufficient magnitude to cause
financial leverage and interest coverage downgrade triggers to be met. Fitch
anticipates that Tower will reverse this trend over the next 12 - 18 months
through profitable operations and possibly from capital raise related to merger
in Canopious Holdings Bermuda Limited.
Tower, including the reciprocal exchanges it manages, reported a GAAP calendar
year combined ratio of 102.2% and an accident year combined ratio of 96.8% for
the nine months ended Sept. 30, 2012.
Despite completing nine acquisitions over the last nine years, Fitch notes that
half of Tower's transactions generated no or negative goodwill. Tower's debt to
capital and debt to tangible capital ratio was 31% and 41% respectively at Sept.
30, 2012. Fitch notes that with the change in the agency's rating criteria,
Tower's hybrid debt securities no longer receive any equity credit. Earnings
based interest coverage was 2.5x at Sept. 30, 2012, compared with 3.6x for full
Fitch will carefully monitor Tower's progress to see if historical trends of
profitability and leverage will be maintained. To the extent that each year has
significant one-off items, Fitch would have concerns that this is a long term
performance issue rather than temporary blips and ratings would likely be
downgraded at least one notch.
In late April 2012, Tower invested approximately $75 million to acquire a 10.7%
stake in Canopius Group, Ltd (Canopius) the ultimate parent of Canopius Holdings
Bermuda, Ltd (Canopius Bermuda), subject to an acquisition of Omega Insurance
Holdings Limited (Omega) by Canopius which closed on Aug. 20, 2012. In late
August Tower filed an S-4 with the SEC regarding Tower's merger with Canopious
Holdings Bermuda Limited (CHBL).
Fitch views this transaction as potentially favorable if executed properly as it
creates a larger, more geographically diverse business platform with access to
three major insurance markets: U.S., Bermuda, and the Lloyds markets, in
addition to an international holding company. This broader diversification is
expected to enhance profitability and provide a sufficient source of capital to
support Tower's US growth.
This structure will allow Tower to take advantage of the lower tax rate afforded
by the holding company's Bermuda domicile. Similar to many Bermuda (re)insurers,
this approach exposes Tower to any changes in U.S. tax laws that would reduce or
eliminate tax advantages on business generated in the U.S. but reinsured to
affiliated offshore companies.
Fitch recognizes that this transaction is subject to several approval stages and
can still be terminated by Tower at will. However, Fitch anticipates that this
transaction will likely close in the next few months. Fitch will review all
current ratings if any transaction is announced.
The following is a list of key rating triggers that could lead to a downgrade:
--Sustained financial leverage above 30% or a sustained decline in operating
earnings-based coverage below 6 - 7x range;
--Adverse reserve development in excess of 5% of prior year surplus;
--Material deterioration in capital adequacy levels as measured by traditional
operating leverage ratios, risk-based capital, and Fitch's Prism capital model;
--Any large acquisition, defined as approximately 25% - 30% of Tower's net
written premium, in the near term or an acquisition that does not complement
Tower's current underwriting platform.
The following is a list of key rating triggers that could lead to an upgrade:
--Material improvement in the company's catastrophe profile;
--Sustained strong profitability and internal capital formation, especially
relative to peers at the current rating level and the industry aggregate, over
the business cycle.
Fitch has affirmed the following ratings with a Stable Outlook:
Tower Group, Inc.
--Issuer Default Rating (IDR) at 'BBB';
--5% senior convertible debt rating at 'BBB-'.
Tower Insurance Company of New York
Tower National Insurance Company
Preserver Insurance Company
CastlePoint National Insurance Company
York Insurance Company of Maine
Hermitage Insurance Company
CastlePoint Florida Insurance Company
North East Insurance Company
Massachusetts Homeland Insurance Company
CastlePoint Insurance Company
Kodiak Insurance Company
--Insurer Financial Strength (IFS) ratings at 'A-'.
Additional information is available at 'www.fitchratings.com'. The ratings above
were solicited by, or on behalf of, the issuer, and therefore, Fitch has been
compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'Insurance Rating Methodology' (Jan. 11, 2013).
Applicable Criteria and Related Research:
Insurance Rating Methodology - Amended