-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Ma6S6QGmp9GU44lN6y5bjVkQPiJkKCZHOUO+Yu0u3sLIz5x8NCHf6YE9/0oXVIyg RioEpORz0BpWNKVMnCyL9A== 0000912057-01-008657.txt : 20010330 0000912057-01-008657.hdr.sgml : 20010330 ACCESSION NUMBER: 0000912057-01-008657 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 20001231 FILED AS OF DATE: 20010329 FILER: COMPANY DATA: COMPANY CONFORMED NAME: XL CAPITAL LTD CENTRAL INDEX KEY: 0000875159 STANDARD INDUSTRIAL CLASSIFICATION: SURETY INSURANCE [6351] IRS NUMBER: 980058718 FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-10804 FILM NUMBER: 1584035 BUSINESS ADDRESS: STREET 1: CUMBERLAND HOUSE STREET 2: 1 VICTORIA ST CITY: HAMILTON HM11 BERMUD STATE: D2 BUSINESS PHONE: 4412928515 MAIL ADDRESS: STREET 1: CAHILL GORDON & REINDEL(IMMANUEL KOHN) STREET 2: 80 PINE STREET CITY: NEW YORKI STATE: NY ZIP: 10005 FORMER COMPANY: FORMER CONFORMED NAME: EXEL LTD DATE OF NAME CHANGE: 19950720 10-K 1 a2040480z10-k.txt FORM 10-K SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000 COMMISSION FILE NUMBER 1-10804 XL CAPITAL LTD (Exact name of registrant as specified in its charter) CAYMAN ISLANDS 98-0191089 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) CUMBERLAND HOUSE, 1 VICTORIA STREET, HM 11 HAMILTON, BERMUDA (Zip Code) (Address of principal executive offices)
(441) 292-8515 (Registrant's telephone number, including area code) SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED Class A Ordinary Shares, Par New York Stock Exchange, Inc. Value $0.01 per Share
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 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 / / Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. / / The aggregate market value of the shares of all classes of voting stock of the registrant held by non-affiliates of the registrant on March 20, 2001 was approximately $9.4 billion computed upon the basis of the closing sales price of the Ordinary Shares on that date. For purposes of this computation, shares held by directors and officers of the registrant have been excluded. Such exclusion is not intended, nor shall it be deemed, to be an admission that such persons are affiliates of the registrant. As of March 20, 2001, there were outstanding 125,337,654 Class A Ordinary Shares, $0.01 par value per share, of the registrant. DOCUMENTS INCORPORATED BY REFERENCE THE REGISTRANT'S DEFINITIVE PROXY STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION PURSUANT TO REGULATION 14A RELATING TO THE ANNUAL MEETING OF SHAREHOLDERS TO BE HELD ON MAY 11, 2001 IS INCORPORATED BY REFERENCE IN PART III OF THIS FORM 10-K. XL CAPITAL LTD TABLE OF CONTENTS
Page PART I Item 1. Business.................................................... 1 Item 2. Properties.................................................. 14 Item 3. Legal Proceedings........................................... 15 Item 4. Submission of Matters to a Vote of Security Holders......... 15 PART II Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters....................................... 17 Item 6. Selected Financial Data..................................... 18 Item 7. Management's Discussion and Analysis of Results of Operations and Financial Condition....................................... 19 Item 7A. Quantitative and Qualitative Discussion of Market Risk...... 30 Item 8. Financial Statements and Supplementary Data................. 32 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...................................... 77 PART III Item 10. Directors and Executive Officers of the Registrant.......... 78 Item 11. Executive Compensation...................................... 78 Item 12. Security Ownership of Certain Beneficial Owners and Management................................................ 78 Item 13. Certain Relationships and Related Transactions.............. 78 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K....................................................... 78
THIS ANNUAL REPORT ON FORM 10-K CONTAINS "FORWARD-LOOKING STATEMENTS" AS DEFINED IN THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. A NON-EXCLUSIVE LIST OF THE IMPORTANT FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE IN SUCH FORWARD-LOOKING STATEMENTS IS SET FORTH HEREIN UNDER THE CAPTION "MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION--CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS." PART I ITEM 1. BUSINESS HISTORY XL Capital (sometimes referred to as the "Company") is a leading provider of insurance and reinsurance coverages and financial products and services to industrial, commercial, and professional service firms, insurance companies and other enterprises on a worldwide basis. The Company was incorporated with limited liability under the Cayman Islands Companies Act on March 16, 1998, as EXEL Merger Company. The Company was formed as a result of the merger of EXEL Limited and Mid Ocean Limited on August 7, 1998, and was renamed EXEL Limited on that date. EXEL and Mid Ocean are companies that were incorporated in the Cayman Islands in 1986 and 1992, respectively. At a special general meeting held on February 1, 1999, the shareholders of the Company approved a resolution changing the name of the Company to XL Capital Ltd. The merger was accounted for as a purchase business combination. On June 18, 1999, XL Capital merged with NAC Re Corp, a Delaware corporation that was organized in 1985, in a stock merger. The NAC merger was accounted for as a pooling of interests under U.S. generally accepted accounting principles ("U.S. GAAP"). Accordingly, all prior period information contained in this document includes the results of NAC as though it had always been a part of the Company. Following the merger, the Company changed its fiscal year end from November 30 to December 31 as a conforming pooling adjustment. In October 2000, the Company realigned management responsibilities within its three main operating segments: insurance, reinsurance and financial products and services. In connection with this realignment, the Company decided to exit from certain unprofitable lines of business, including Illinois-based transportation and marine cargo, onshore energy at Lloyd's, pooled aviation and medical stop loss reinsurance. More than $200.0 million of annual gross premium written is associated with all of the discontinued business and approximately 120 employees will or have been made redundant as a result of these actions. The Company incurred after-tax charges of $124.6 million, or $0.98 per share, in the fourth quarter of 2000 which includes certain reserve adjustments together with employee severance charges and other costs associated with this realignment. At the same time, the Company announced that it has renamed certain of its business units into a common XL brand identity. XL Mid Ocean Re has been renamed "XL Re" and NAC Re will be renamed "XL Reinsurance America". Brockbank has been branded as "XL Brockbank" and Brockbank Insurance Services now operates as "XL Aerospace". In 2000, the Company exchanged its investment in Arch Capital (formerly known as Risk Capital), an affiliate, and $3.6 million in cash for Arch Capital's ownership in Latin American Re and 1.4 million shares and 100,000 warrants of Annuity & Life Re. Annuity & Life Re is a leading provider of annuity and life reinsurance to insurance companies in North America. The Company beneficially owned 11% of Annuity & Life Re at December 31, 2000. The Company acquired the remaining shares of LA Re owned by that company's management in December 2000. In 1999, the Company signed a joint venture agreement with Les Mutuelles du Mans Assurances Group to form a new French reinsurance company, Le Mans Re. The Company owns a 49% shareholding in the new company, which underwrites a worldwide portfolio comprising most classes of property and casualty reinsurance business together with a selective portfolio of life reinsurance business. For further information, see Note 1 to the Consolidated Financial Statements. RECENT DEVELOPMENTS XL Capital announced on February 15, 2001 that it has agreed to purchase Winterthur International from Winterthur Swiss Insurance Company ("Winterthur"), a subsidiary of the Credit Suisse Group ("CSG"). The Company will purchase a combination of insurance companies and selected Winterthur International insurance portfolios. The all-cash transaction is valued at approximately $600.0 million and may be funded by the Company out of a 1 combination of current resources and external financing. Winterthur International is the international, large commercial account property and casualty insurance business of Winterthur. Winterthur International operates in 27 countries, has more than 1,000 employees and in 2000 had gross premiums written and net premiums earned of approximately $1.3 billion and $600.0 million, respectively. In terms of premium volume, Winterthur International's top five markets are the U.K., Switzerland, Germany, the U.S. and France. As at September 30, 2000, Winterthur International (including certain operations to be retained by CSG) had investment assets of approximately $1.0 billion. OPERATIONS The Company is organized into three underwriting segments - insurance, reinsurance, and financial products and services - and a corporate segment, which includes the investment operations of the Company. The following descriptions of policies and coverages are summary in nature. Only the terms and conditions of individual policies or contracts have legal effect, and nothing in this report constitutes an admission of coverage or other liability or interpretation of any particular policy provision. The Company's Lloyd's syndicates are now included in the insurance segment. They are disclosed separately within this report since the nature of the business written and the market in which the syndicates underwrite are significantly different from the Company's other insurance subsidiaries. INSURANCE OPERATIONS - EXCLUDING LLOYD'S SYNDICATES The Company provides third party general liability insurance, environmental liability insurance, directors and officers liability insurance, professional liability insurance, aviation and satellite insurance, employment practices liability insurance and integrated liability insurance, property insurance and other insurance covers including program business and political risk insurance. Liability insurance is generally written on an excess basis and the loss experience is characterized as low frequency and high severity. This may result in volatility in the Company's results of operations and financial condition. General liability coverage is typically provided on an occurrence-reported policy form, with up to a maximum limit of $200 million per occurrence and in the annual aggregate. Policies typically cover occurrences causing unexpected and unintended personal injury, or property damage to third parties arising from events or conditions which commence at or subsequent to an inception date - or retroactive date, if applicable, but not prior to January 1, 1986 - and prior to the expiration of the policy, provided proper notice is given during the term of the policy or the discovery period. Traditional occurrence coverage is also available for restricted classes of risk and is generally written on a follow-form basis, i.e. the policy generally adopts the terms, conditions and exclusions of the underlying policy, currently up to a maximum of $100 million per occurrence in excess of a minimum attachment point of $25 million. Environmental liability is written with limits up to $100 million with a $2 million per occurrence retention, both on single and multi-year contracts. Directors and officers coverage is written on a follow-form claims-made basis providing up to a maximum limit of $100 million on both a primary and excess basis. Professional liability risks are also generally written on a follow-form basis. Coverage is provided for certain categories of risk up to a maximum of $100 million with a minimum attachment of $20 million. Insurance for satellite risks is written on a proportional basis to provide first party physical damage or loss. Coverage includes all phases of operation and can be provided up to a maximum limit of $75 million, although average risks range from $5 million to $35 million depending on the type of satellite insured. Facultative reinsurance is utilized to reduce the Company's net retention. Aviation insurance is underwritten on a proportional basis providing both aviation liability and physical damage. 2 Employment practices liability risks are written on a claims-made and reported policy. The policy covers claims brought by an employee against an insured for certain employment practices, up to a maximum of $100 million annual aggregate limit in excess of a minimum attachment point of $0.5 million. Property insurance risks are written on a follow-form basis, which usually provides coverage for all risks of physical damage and business interruption up to a maximum limit of $150 million per occurrence, with a sub-limit of up to $20 million for coverage in critical earthquake zones. Property insurance is written on both a pro-rata and excess basis. Policies written on a pro-rata basis generally have losses attaching at lower levels, resulting in loss experiences that can be higher frequency and lower severity. Political risk insurance written by the Company generally covers risks arising from expropriation, currency inconvertibility, and war or political violence. Such insurance is typically provided in connection with direct and other types of investments in emerging market countries in Latin America, Asia and Eastern Europe. The Company offers multi-year combined line policies for traditional liability coverages including general, directors and officers liability, professional liability and property coverage, in addition to a blended finite coverage for risks which traditionally have been difficult to place through traditional risk transfer mechanisms. INSURANCE OPERATIONS - LLOYD'S SYNDICATES The Company's Lloyd's operations are conducted by XL Brockbank and Denham. XL Brockbank is a Lloyd's managing agency that manages five syndicates, two of which are dedicated corporate syndicates whose capital is provided solely by the Company. These dedicated corporate syndicates (syndicates 1209 and 2253) write a range of specialty lines, primarily insurance and to a lesser extent reinsurance, in parallel with the other syndicates managed by XL Brockbank (syndicates 588, 861 and 253). Effective January 1, 2000, motor business was no longer written. Denham is also a Lloyd's managing agency that manages one Lloyd's syndicate (syndicate 990), whose capital is substantially provided by the Company and writes casualty and non-marine physical damage insurance. As managing agencies, XL Brockbank and Denham may receive fees and commissions in respect of the underwriting services they provide to syndicates. Syndicate 1209 writes a wide range of classes across the property, casualty and marine, aviation and transport sectors to a globally diverse group of clients. Coverages range from global "all risks" programs for multinationals to tailored facilities for agents with small and medium sized businesses, with particular emphasis on North America and Europe. Marine and energy business written includes involvement with many of the world's largest fleets and for all major types of liability cover available. The syndicate also writes a broad international cargo account and war and political risk cover for ships and aircraft. Aviation business written includes a space account with coverages for every stage of major space launches and associated pre-launch operations. Accident and health business written is worldwide and comprises accident insurance and reinsurance, medical expenses and kidnap and ransom. Professional indemnity written includes professional liability, directors and officers liability and fidelity. Other business written includes property, bloodstock and contingency coverages. Syndicate 990 writes a large range of classes including property, general liability, accident and health and motor to a globally diverse group of clients. Until December 1999, syndicate 2253 wrote an account of direct and broker based motor insurance in the United Kingdom. In December 1999, XL Brockbank sold the motor business but retains the residual liability relating to the runoff. REINSURANCE OPERATIONS The Company provides property, casualty and life reinsurance products on a global basis. Business is written on both a proportional and excess of loss basis. The Company's casualty reinsurance includes general liability, professional liability, automobile and workers' compensation, and commercial and personal property risks and specialty risks, including fidelity and surety and ocean marine. Business is written on an excess of loss basis, under which the Company indemnifies an insurer for a 3 portion of the losses on insurance policies in excess of a specified loss amount, generally $1 million or more, and up to an amount per loss specified in the contract. It is also written on a pro-rata basis under which the Company assumes from the primary insurer a percentage of loss specified in the treaty of each risk in the reinsured class. The Company's property business is primarily short-tail in nature and includes property catastrophe, property excess of loss, property pro-rata, marine and energy, aviation and satellite and various other reinsurance to insurers and reinsurers on a worldwide basis. A significant portion of business underwritten consists of large aggregate exposures to man-made and natural disasters, and generally, loss experience is characterized as low frequency and high severity. This may result in volatility in the Company's results of operations and financial condition. The Company endeavors to manage its exposures to catastrophic events by limiting the amount of its exposure in each geographic zone worldwide, requiring that its property catastrophe contracts provide for aggregate limits and varying attachment points and purchasing reinsurance. The Company's property catastrophe reinsurance account is generally "all risk" in nature. It is therefore exposed to losses from sources as diverse as windstorms, earthquakes, freezes, riots, floods, industrial explosions, fires, and many other potential disasters. In accordance with market practice, the Company's policies generally exclude certain risks such as war, nuclear contamination or radiation. The Company's predominant exposure under such coverage is to property damage. Property catastrophe reinsurance provides coverage on an excess of loss basis when aggregate losses and loss adjustment expenses from a single occurrence of a covered event exceed the attachment point specified in the policy. Some of the Company's property catastrophe contracts limit coverage to one occurrence in any one policy year, but most contracts generally provide for one reinstatement. The Company also writes property risk excess of loss reinsurance. Risk excess of loss reinsurance covers a loss of the reinsured on a single "risk" of the type reinsured rather than to aggregate losses for all covered risks as is the case with catastrophe reinsurance. The Company's property pro-rata account includes proportional reinsurance of direct property insurance. The Company considers this business to be related to its catastrophe and other property exposures. In proportional reinsurance, the Company assumes a specified proportion of the risk on the specified coverage and receives an equal proportion of the premium. The ceding insurer receives a commission, based upon the premiums ceded to the Company, and the ceding insurer may also be entitled to receive a profit commission based upon the ratio of losses, loss adjustment expenses and the Company's expenses to premium ceded. The Company is dependent upon the ceding insurer's underwriting, pricing and claims administration to yield an underwriting profit. In some instances, the Company may be entitled to the benefit of other reinsurance, known as common account reinsurance, purchased by the ceding company on an account reinsured by the Company on a proportional basis. The aviation portfolio is written on both a proportional and excess of loss basis. The exposures are mainly derived through proportional relationships on defined segments of account following market leaders in the field. Due to the highly technical nature of the satellite business, the exposures retained under this portfolio are acquired mostly through proportional reinsurance of specialist underwriters. Other reinsurance written by the Company includes political risk, nuclear accident, professional indemnity and life and annuity. FINANCIAL PRODUCTS AND SERVICES The Company operates in the following financial areas: credit enhancements, insurance and capital market products and asset accumulation business. The Company provides credit enhancement coverages in the form of financial guaranty insurance and reinsurance and credit default swaps on asset-backed, municipal and select called corporate risk obligations. Financial guaranty insurance generally guarantees payments of interest and principal on an issuer's obligations when due. Credit default swaps provide coverage for losses upon the occurrence of specified credit events set forth therein. The Company's underwriting policy is to provide credit to enhance obligations and exposures that would otherwise be lower investment grades, although on an exception basis, the Company will consider underwriting high non-investment grade risks. 4 Asset-backed obligations insured or reinsured by the Company are generally issued in structured transactions backed by pools of assets of specified types, such as residential mortgages, auto loans and other consumer receivables, equipment leases and corporate debt obligations having an ascertainable cash flow or market value. Municipal obligations insured or reinsured consist mainly of general or special obligations of state and local governments, supported by the issuers' ability to charge fees for specified services or projects. Corporate risk-based obligations underwritten by the Company include essential infrastructure projects and obligations backed by receivables from the future sales of commodities and other specified services. Obligations guaranteed or enhanced by the Company range in duration from a few years to 15 or more years, and premiums are received either on an installment basis or up front. The Company has underwriting guidelines for the various products and asset classes comprising the credit enhancement business, which include single and aggregate risk limitations on specified exposures. A credit committee provides final underwriting approval for each transaction. Par insured and notional amounts covered under the Company's guaranties and credit default swaps may be up to $500 million or more for certain risks, and the underlying risks include those of the Organization for Economic Cooperation and Development as well as emerging market issuers. The Company has also assumed loss reserves within its asset accumulation business. The Company's primary exposure is to investment performance return on assets relative to the implicit discount on the related deposit liabilities assumed. These transactions are actuarially expected to be of long duration and consist of life and annuity obligations and property and casualty insurance and reinsurance, including limited risk transactions. In late 2000, the Company established operations to provide insurance form coverages that previously were available primarily in capital markets. No premiums were written relating to this business in 2000. The Company intends to hedge these risks as they are assumed. PREMIUMS See "Management's Discussion and Analysis of Results of Operations and Financial Condition" and Note 3 in the Notes to the Consolidated Financial Statements. REINSURANCE CEDED In certain cases, the risks assumed by the Company are partially reinsured with other reinsurers. The benefits of ceding risks to other reinsurers include reducing exposure on individual risks, protecting against catastrophic risks and maintaining acceptable capital ratios. Reinsurance ceded does not legally discharge the Company from its liabilities in respect of the risk being reinsured. The following is a summary of significant reinsurance ceded by the Company. INSURANCE OPERATIONS - EXCLUDING LLOYD'S SYNDICATES The Company uses reinsurance to support the underwriting and retention guidelines of each entity as well as to control the aggregate exposure of the Company to a particular risk or class of risks. Reinsurance is purchased at several levels ranging from reinsurance of risks assumed on individual contracts to reinsurance covering the aggregate exposure of groups of companies. All reinsurers are required to be rated A or better by A.M. Best or BBB or better by Standard & Poor's ("S&P"). The Company purchases a quota share treaty to protect both the general liability occurrence-notified and traditional occurrence business written. Under the terms of the current quota share treaty, the Company cedes 50% of the first $50 million of each risk, and 80% of the next $50 million of each risk. The aggregate maximum amount recoverable under this treaty is 400% of the total occurrence-notified premium ceded for the first $50 million layer. There is no aggregate maximum recoverable for the traditional occurrence business ceded for this layer. The second layer is subject to an aggregate maximum recoverable amount of $300 million. During 2000, the Company also purchased excess of loss reinsurance and a quota share reinsurance treaty to protect the directors' and officers, professional liability and employment practices liability business written. Under 5 the terms of the excess of loss reinsurance treaty, the Company is reinsured for a total of $40 million excess of $10 million per risk subject to co-insurance retentions. The maximum amount recoverable under this program is $80 million. Excess of loss programs limit the Company's liability exposure for pollution to $2 million per occurrence for each and every occurrence with total limits up to $90 million. There is no aggregate amount recoverable for business ceded to this program. Excess of loss reinsurance programs limit the Company's liability exposure for inland marine and property coverages to $250,000 per occurrence for each and every occurrence with total limits up to $25 million and there is no aggregate maximum recoverable under this program. Excess of loss reinsurance programs limit the Company's exposure to directors' and officers and employment practices liability written in the U.S. to $2.5 million per occurrence for each and every loss with total limits up to $25 million. An annual aggregate limit does apply for this cover. A variety of programs reduce Company's net exposure to aviation and satellite single loss events. In addition, a variable surplus treaty, excess of loss reinsurance and catastrophe reinsurance is used to protect the property business written with various layers and excess of varying attachment points. INSURANCE OPERATIONS - LLOYD'S SYNDICATES The Company's Lloyd's operations purchase reinsurance to protect the syndicates against extraordinary loss or loss involving one or more underwriting classes. The amount purchased is determined with reference to the syndicates' aggregate exposure and potential loss scenarios. Each reinsurer has to be approved by a reinsurance security committee. Several coverages are purchased, the most significant of which is a whole account stop loss policy reinsured with a reinsurer rated AA by S&P, which protects losses above a specified loss ratio. This coverage has been significantly reduced for 2001. A whole account excess of loss treaty provides coverage against single loss events from $1 million to $300 million and is placed with several reinsurers, predominantly rated AA by S&P. In addition, there are various class specific reinsurances and facultative reinsurance covers purchased on specific risks assumed. REINSURANCE OPERATIONS Traditionally, the Company has purchased limited retrocession reinsurance on its property business with covers primarily originating from common account reinsurance on assumed business. A corporate multi-year program is purchased for global property exposures. This protection gives total limits in various layers and excess of varying attachment points according to territorial exposure. The Company has co-reinsurance retentions within this program. The Company's casualty reinsurance program in 2000 covers multiple claims arising from two or more risks from a single occurrence or event. Workers' compensation business is reinsured at $195 million in excess of $5 million retention for any one occurrence. An additional casualty contingency cover is purchased for a total of $29 million excess of an initial retention of $7.5 million, which gradually increases up to an additional $3 million should gross losses exceed $30 million. The 1999 casualty reinsurance program was similar to that of 2000. In addition, the Company had coverage in 2000, 1999 and 1998 in the event that the accident year loss and loss expense ratio exceeded a pre-determined amount, with up to $108 million recoverable on an annual basis. At December 31, 2000, the Company had a reinsurance balance receivable and unpaid loss recoverable of $210.0 million due from Hannover Re (Ireland) Ltd, which is rated A+ by A.M. Best. In July 2000, the Company entered into an eighteen-month agreement to extend or supplement existing aggregate excess of loss protections for certain U.S. subsidiaries. The first layer of this agreement provides $43.3 million of cover for July 1 to December 31, 2000, and $86.5 million for 2001, excess of an accident year loss ratio of 55%. The second layer limit available is $10 million for the first period and $20 million for 2001. 6 The Company had an intercompany stop loss arrangement in place in 2000 and 1999, under which a subsidiary in the reinsurance segment was covered by a subsidiary in the insurance segment for losses up to $100 million. The purpose of this arrangement is to manage statutory surplus levels across the Company. COMPETITION The worldwide property and casualty insurance and reinsurance industry is highly competitive. The markets for the Company's insurance and reinsurance products are characterized by strong and, at times, intense price competition driven largely by the substantial amount of excess capacity currently present in the industry. Although most of the property and casualty markets in which the Company operates have seen some improvements in pricing and policy terms and conditions, the Company believes that competitive forces will continue to be present in the industry. Some of the Company's competitors possess significantly greater financial and other resources than the Company. The Company generally competes on the basis of financial strength, coverage terms, claims paying rating and reputation, price and customer service. See Industry Overview included in the "Management's Discussion and Analysis of Results of Operations and Financial Condition" for further discussion of current market conditions. UNDERWRITING As part of the underwriting process, the Company evaluated potential exposures to claims, losses and defense costs associated with Year 2000-related issues. Such claims, losses and costs, to the extent that they materialize, could have a significant adverse affect on the Company's results of operations and financial condition. No significant Year 2000 related matters had been notified to the Company as of March 23, 2001. For more information concerning the impact of Year 2000 issues on underwriting results, see "Management's Discussion and Analysis of Results of Operations and Financial Condition - Year 2000 Considerations" and "-Cautionary Note regarding Forward-Looking Statements". INSURANCE OPERATIONS - EXCLUDING LLOYD'S SYNDICATES The Company's rating methodology seeks to set premiums individually for each insured in accordance with claims potential as measured by past experience and future expectations, the attachment point and amount of underlying insurance, the nature and scope of insured operations (including the industry group in which the insured operates), exposures to loss, and other specific risk factors relevant in the judgment of the underwriters. Underwriters separately evaluate each industry category and sub-groups within each category. Premiums are then set and adjusted for an insured based, in large part, on the industry group in which the insured is placed and the insured's risk relative to the other risks in that group. Each industry group is reviewed annually to take into account outstanding reported losses and new loss incident reports within each group. Rates may vary significantly according to the industry group of the insured as well as the insured's risk relative to the group. INSURANCE OPERATIONS - LLOYD'S SYNDICATES The Lloyd's syndicates underwrite a broad range of risks, and the factors taken into consideration in the underwriting process vary between class of business. The underwriters may use actuaries to assist in the review and rating of risks. Underwriters operate within agreed guidelines that establish maximum gross exposure by business area and geographic region. The daily acceptance of risk is performed by the active underwriter, the class underwriters and individuals with specific delegated authority. Underwriting authority limits are agreed between the active underwriter, the class underwriter and the managing agency's board of directors. Underwriters may delegate underwriting authority on a contractual basis to individuals who are approved and monitored. Syndicates also participate on market facilities where underwriting authority is delegated to the lead insurer. REINSURANCE OPERATIONS The Company employs an analytical approach to underwriting designed to specify an adequate premium for a given exposure that is intended to be commensurate with the amount of capital it anticipates placing at risk. Underwriting opportunities presented are evaluated based upon a number of factors including: the type and layer of 7 risk to be assumed; actuarial evaluation of premium adequacy; the cedent's underwriting and claims experience; the cedent's financial condition and claims paying rating; exposure; experience with the cedent; and the line of business to be underwritten. In addition, the Company assesses a variety of other factors including: the reputation of the proposed cedent and the likelihood of establishing a long-term relationship with the cedent; the geographic area in which the cedent does business and its market share; a detailed assessment of catastrophe and risk exposures; and historical loss data for the cedent and, where available, for the industry as a whole in the relevant regions, in order to compare the cedent's historical loss experience to industry averages. On-site underwriting reviews are performed where deemed necessary to determine the quality of a current or prospective cedent's underwriting operation. For the property catastrophe reinsurance business, the Company has developed underwriting guidelines under which it generally limits the amount of exposure it will directly underwrite for any one reinsured and the amount of the aggregate exposure to catastrophic losses in any one geographic zone. The Company believes it has defined zones such that a single occurrence, such as an earthquake or hurricane, generally should not affect more than one zone. The definition of the Company's zones is subject to periodic review and change. The Company also generally seeks an attachment point for its property catastrophe reinsurance anticipated to be high enough to produce a low frequency of loss. The Company seeks to limit its aggregate exposure in the retrocessional and pro-rata business because it is sometimes difficult to allocate risks associated with such business to specific geographic areas. FINANCIAL PRODUCTS AND SERVICES For the financial products and services business, the Company has underwriting guidelines for the various products and asset classes comprising the credit enhancement business, which include single and aggregate risk limitations on specified exposures. A credit committee provides final underwriting approval. For the capital markets related businesses, the Company has established trading, credit, exposure and other risk guidelines and practices. MARKETING AND DISTRIBUTION Clients are referred to the Company through a large number of brokers who receive from the insured or ceding company a brokerage commission usually equal to a percentage of gross premiums. In general, the Company is not committed to accept business from any particular broker, and brokers do not have the authority to bind the Company, except in the case where underwriting authority may be delegated to selected administrators. These administrators are subject to a financial and operational review prior to any delegation of authority and ongoing reviews are carried out as deemed necessary. During 2000, 1999 and 1998, approximately 22%, 21% and 34%, respectively, of the Company's consolidated gross written premiums were generated from or placed by Marsh & McLennan Companies. During 2000, 1999 and 1998, approximately 16%, 13% and 19%, respectively, of the Company's consolidated gross written premiums were generated from or placed by AON Corporation and its subsidiaries. No other broker accounted for more than 10% of gross premiums written in each of the three years ended December 31, 2000, 1999 and 1998. Concentration in the insurance and reinsurance brokerage industry could have a material adverse effect on the Company's business and results of operations in the future. See "Management's Discussion and Analysis of Results of Operations and Financial Condition - Cautionary Note Regarding Forward-Looking Statements." UNPAID LOSSES AND LOSS EXPENSES Certain aspects of the Company's business have loss experience characterized as low frequency and high severity. This may result in volatility in both the Company's results of operations and financial condition. Loss reserves are established due to the significant periods of time that may lapse between the occurrence, reporting and payment of a loss. To recognize liabilities for unpaid losses, the Company estimates future amounts needed to pay claims and related expenses with respect to insured events. The Company's reserving practices and the establishment of any particular reserve reflect management's judgment concerning sound financial practice and do not represent any admission of liability with respect to any claim made against the Company. The method of establishing case reserves for reported claims differs between the Company's operations. For the insurance operations excluding Lloyd's syndicates as discussed below, claims personnel determine whether to 8 establish a "case reserve" for the estimated amount of the ultimate settlement, if any. The estimate reflects the judgment of claims personnel based on general corporate reserving practices, and on the experience and knowledge of such personnel regarding the nature and value of the specific type of claim and, where appropriate, advice of counsel. Reserves are also established to provide for the estimated expense of settling claims, including legal and other fees and the general expenses of administering the claims adjustment process. A similar process is followed in the reinsurance and Lloyd's operations when the Company is a lead underwriter. Other reinsurance and Lloyd's business case reserves are established based upon reports received from insureds and reinsureds, supplemented by the Company's own assessment process. Periodically, adjustments to the case reserves may be made as additional information regarding the claims is reported or payments are made. Most of the Company's incurred but not reported ("IBNR") loss reserves are derived from casualty business. Casualty business generally has a longer tail than the Company's other lines of business. IBNR is calculated in using several standard actuarial methodologies including paid and incurred loss development, Bornhuetter-Ferguson and frequency and severity approaches. The Company believes the methods presently adopted provide a reasonably objective result as it is based upon the Company's loss data rather than more theoretical models often used in the low frequency high layer business the Company writes. Even such actuarially sound methods can lead to subsequent adjustments to reserves that are both significant and irregular due to the nature of the risks written. Several aspects of the Company's casualty insurance operations complicate the actuarial reserving techniques for loss reserves as compared to other companies. These complications include policy forms that differ from more traditional forms, the lack of historical loss data for losses of the type intended to be covered by the policies, and the fact that losses in excess of the attachment level of the Company's policies are characterized by low frequency and high severity, limiting the utility of claims experience of other insurers for similar claims. While management believes it has made a reasonable estimate of ultimate losses, the ultimate claims experience may not be as reliably predicted as may be the case with other insurance operations, and there can be no assurance that ultimate losses and loss expenses will not exceed the total reserves. Claims relating to property catastrophe and property risk excess treaties are generally reported within approximately 18 to 24 months from the date of occurrence. Conversely, claims on the casualty business are reported on average 5 to 8 years from the date of occurrence. Claims arising from business written by the Lloyd's syndicates are generally reported within 36 months of the date of the occurrence. Losses and loss expenses are charged to income as incurred. The reserve for unpaid losses and loss expenses represents the accumulation of case reserves, loss expense reserves and IBNR. During the loss settlement period, additional facts regarding individual claims and trends may be reported. As these are reported, it may be necessary to adjust the reserves upward or downward. The final liability may be significantly less or greater than the prior estimates. The table below presents the development of unpaid loss and loss expense reserves for 1990 through 2000. The top line of the table shows the estimated liability, net of reinsurance recoveries as at the balance sheet date for each of the indicated years. This represents the estimated amounts of net losses and loss expenses, including IBNR, arising in all prior years that are unpaid at the balance sheet date. The upper portion shows the re-estimated amount of the previously recorded reserve liability based on experience as of the end of each succeeding year. The estimate changes as more information becomes known about the frequency and severity of claims for individual years. The "Cumulative Redundancy (Deficiency)" line represents the aggregate change to date with respect to that liability. The lower portion of the table reflects the cumulative paid losses relating to these reserves. Conditions and trends that have affected development of liability in the past may not necessarily occur in the future. Accordingly, it may not be appropriate to extrapolate future redundancies or deficiencies based on the tables below. See "Management's Discussion and Analysis of Results of Operations and Financial Condition - Cautionary Note Regarding Forward-Looking Statements." 9 ANALYSIS OF CONSOLIDATED LOSS AND LOSS EXPENSE RESERVE DEVELOPMENT NET OF REINSURANCE RECOVERIES (U.S dollars in millions)
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 ------------------------------------------------------------------------------------------------ ESTIMATED LIABILITY FOR UNPAID LOSSES AND LOSS EXPENSES, NET OF REINSURANCE RECOVERIES.................. $1,268 $1,486 $1,795 $2,057 $2,482 $2,899 $3,166 $3,609 $4,303 $4,537 $4,332 LIABILITY RE-ESTIMATED AS OF: One year later.............. 1,269 1,468 1,800 2,089 2,455 2,885 2,843 3,354 4,016 4,142 Two years later............. 1,128 1,388 1,830 2,089 2,383 2,546 2,704 3,038 3,564 Three years later........... 960 1,299 1,819 2,115 2,190 2,445 2,407 2,737 Four years later............ 910 1,303 1,891 1,972 2,085 2,214 2,227 Five years later............ 858 1,384 1,856 1,950 1,927 2,050 Six years later............. 871 1,384 1,820 1,752 1,819 Seven years later........... 884 1,392 1,644 1,739 Eight years later........... 945 1,245 1,660 Nine years later............ 795 1,294 Ten years later............. 855 CUMULATIVE REDUNDANCY (1)...... 413 192 135 318 663 849 939 872 739 395 CUMULATIVE PAID LOSSES, NET OF REINSURANCE RECOVERIES, AS OF: One year later.............. $ 223 $ 194 $ 267 $ 256 $ 317 $ 445 $ 234 $ 458 $ 812 $1,252 Two years later............. 307 393 468 521 709 667 576 932 1,594 Three years later........... 403 499 689 865 921 934 932 1,404 Four years later............ 456 632 937 1,033 1,110 1,143 1,235 Five years later............ 486 831 1,102 1,198 1,199 1,356 Six years later............. 585 924 1,253 1,273 1,328 Seven years later........... 597 974 1,319 1,360 Eight years later........... 633 1,020 1,391 Nine years later............ 662 1,083 Ten years later............. 678
(1) See "Management's Discussion and Analysis of Results of Operations and Financial Condition" for further discussion. 10 The table below presents the development of the gross liability for unpaid losses and loss expenses for the years 1992 through 2000: ANALYSIS OF CONSOLIDATED LOSS AND LOSS EXPENSE RESERVE DEVELOPMENT GROSS OF REINSURANCE RECOVERABLES (U.S. dollars in millions)
1992 1993 1994 1995 1996 1997 1998 1999 2000 ------------------------------------------------------------------------------ ESTIMATED GROSS LIABILITY FOR UNPAID LOSSES AND LOSS EXPENSES:................................ $1,977 $2,269 $2,760 $3,238 $3,623 $3,972 $4,897 $5,369 $5,672 LIABILITY RE-ESTIMATED AS OF: One year later................................ 1,996 2,309 2,764 3,244 3,221 3,763 4,735 5,266 Two years later............................... 2,037 2,323 2,721 2,872 3,164 3,496 4,352 Three years later............................. 2,043 2,373 2,494 2,793 2,902 3,243 Four years later.............................. 2,134 2,198 2,414 2,572 2,753 Five years later.............................. 2,067 2,208 2,268 2,415 Six years later............................... 2,065 2,022 2,165 Seven years later............................. 1,903 2,010 Eight years later............................. 1,921 CUMULATIVE REDUNDANCY............................ 56 259 595 823 870 729 545 103
The tables above show the cumulative redundancy net of reinsurance recoveries which differs from the cumulative redundancy shown gross of reinsurance recoveries. As different reinsurance programs are applied to their respective underwriting years, net and gross loss experience will not develop proportionately. The following table presents an analysis of paid, unpaid and incurred losses and loss expenses and a reconciliation of beginning and ending unpaid losses and loss expenses for the years indicated: RECONCILIATION OF UNPAID LOSSES AND LOSS EXPENSES (U.S. dollars in thousands)
2000 1999 1998 ------------------------------------ Unpaid losses and loss expenses at beginning of year........ $5,369,402 $4,896,643 $3,972,376 Unpaid losses and loss expenses recoverable................. (831,864) (593,960) (363,716) ------------------------------------ Net unpaid losses and loss expenses at beginning of year.... 4,537,538 4,302,683 3,608,660 Increase (decrease) in net losses and loss expenses incurred in respect of losses occurring in: Current year............................................. 1,827,443 1,591,414 1,097,161 Prior years.............................................. (394,884) (287,110) (255,644) ------------------------------------ Total net incurred losses and loss expenses........... 1,432,559 1,304,304 841,517 Interest incurred on experience reserves and exchange rate effects................................................... (27,064) (5,950) 2,516 Net loss reserves acquired.................................. 52,932 30,003 580,879 Less net losses and loss expenses paid in respect of losses occurring in: Current year............................................. 411,685 281,806 272,456 Prior year............................................... 1,251,985 811,696 458,433 ------------------------------------ Total net paid losses................................. 1,663,670 1,093,502 730,889 Net unpaid losses and loss expenses at end of year.......... 4,332,295 4,537,538 4,302,683 Unpaid losses and loss expenses recoverable................. 1,339,767 831,864 593,960 ------------------------------------ Unpaid losses and loss expenses at end of year.............. $5,672,062 $5,369,402 $4,896,643 ------------------------------------
11 Net losses incurred in 2000 increased over 1999, principally due to current year development. Current year development reflects both the growth in business assumed and an increase in loss ratios applied. The increase in the loss ratio is due to the effect of competition which has depressed premium rates, particularly on certain casualty lines. Current year losses also reflect the early development of certain losses on the Company's large account business within its insurance operations. Historically, the Company does not experience the reporting of such losses at an early stage and the Company's reserving methodology for these lines of business extrapolates these losses into the projections of future development. If future development is eventually determined to be less than the estimated ultimate losses recorded, loss reserves will be reduced at that time. This occurred for the 1993 through 1996 underwriting years, resulting in a reduction in prior year losses. Net losses incurred for 2000 also reflects reserve adjustments to several unprofitable lines of business that the Company has now exited, including trucking, inland energy and certain classes of aviation. A net reserve charge of $114.0 million has been recorded for these lines. There has been a high level of paid losses in 2000 due to the settlement of previously established reserves, particularly catastrophe losses as noted below. The Company's outward reinsurance programs in 2000 have mitigated part of the overall loss development, as shown by the increase in the unpaid losses and loss expenses recoverable, both in the insurance and reinsurance segments. In relation to business lines exited from the Lloyd's operations, additional reinsurance costs of $19.1 million were incurred in respect of expected loss recoveries recorded of $38.0 million. In the reinsurance segment, $80.6 million of additional reinsurance costs were recorded with $151.8 million of expected loss recoveries. The purchase of additional reinsurance in 2000 relates primarily to the casualty lines where the Company has taken advantage of favorable pricing and terms. Partially offsetting this increase in net incurred losses in 2000 compared to 1999 was a reduction in the number and magnitude of catastrophe losses that occurred. Catastrophe losses in 2000, which included an oil refinery loss in Kuwait, several satellite losses, and the Singapore Airlines loss, totaled approximately $95.0 million. By comparison, 1999 generated approximately $185.0 million of catastrophe losses to the Company, including the European storms in December, hailstorms in Sydney, tornadoes in Oklahoma and satellite losses. Net losses incurred in 1999 increased significantly over 1998 for a number of reasons. The Company acquired Mid Ocean and Brockbank in August 1998 and therefore only recognized the effect of their operations for five months in 1998. Incurred losses for these entities were approximately $475.0 million in 1999 compared to $260.0 million in 1998. Partially offsetting this, in 1998, the Company incurred approximately $60.0 million in catastrophe losses relating to Hurricane Georges and the SwissAir loss. These losses were incurred in the reinsurance operations. In 1999, the Lloyd's operations experienced loss deterioration on the U.K. motor business principally from the 1998 and 1999 underwriting years of approximately $20.0 million. The motor business was sold in December 1999 and the Company retains residual liability on this business. 1999 incurred losses also include an increase to reinsurance loss reserves of $95.0 million for NAC Re due to an alignment of reserving methodologies at the time of the merger with the Company in June 1999. The decrease in prior year incurred losses in all three years is driven primarily by the Company's insurance liability excess of loss reserves. The basis for establishing IBNR for these lines is relatively judgmental due to the lack of industry data available. Consequently, the Company estimates loss reserves through actuarial models based upon its own experience. When the Company commenced writing this type of business in 1986, limited data was available and the Company has made its best estimate of loss reserves for each underwriting year since that time. Over time, the amount of data has increased, providing a larger statistical base for estimating reserves. Redundancies in prior year loss reserves have occurred where loss experience has developed more favorably than expected. This trend is not necessarily expected to continue. The increase in paid losses in 1999 reflects the acquisition of Mid Ocean and Brockbank in 1998. 12 The Company's net incurred losses and loss expenses includes a charge of $2.8 million, $10.6 million and $1.2 million in 2000, 1999 and 1998, respectively, for estimates of actual and potential non-recoveries from reinsurers. Such charges for non-recoveries relate mainly to reinsurance ceded for casualty business written prior to 1986. As at December 31, 2000 and 1999, the reserve for potential non-recoveries from reinsurers was $25.6 million and $25.8 million, respectively. Except for certain workers' compensation liabilities, the Company does not discount its unpaid losses and loss expenses. The Company utilizes tabular reserving for workers' compensation unpaid losses that are considered fixed and determinable and discounts such losses using an interest rate of 7%. The tabular reserving methodology results in applying uniform and consistent criteria for establishing expected future indemnity and medical payments (including an explicit factor for inflation) and the use of mortality tables to determine expected payment periods. Tabular unpaid losses and loss expenses, net of reinsurance, at December 31, 2000 and 1999 were $168.8 million and $85.7 million, respectively. The related discounted unpaid losses and loss expenses were $63.4 million and $28.1 million as of December 31, 2000 and 1999, respectively. The nature of the Company's high excess of loss liability and catastrophe business can result in loss payments that are both irregular and significant. Similarly, adjustments to reserves for individual years can be irregular and significant. Such adjustments are part of the normal course of business for the Company. Conditions and trends that have affected development of liability in the past may not necessarily occur in the future. Accordingly, it is inappropriate to extrapolate future redundancies based upon historical experience. See generally "Management's Discussion and Analysis of Results of Operations and Financial Condition - Cautionary Note Regarding Forward-Looking Statements". CLAIMS ADMINISTRATION Claims management for the insurance operations includes the review of initial loss reports, administration of a claims database, generation of appropriate responses to claims reports, identification and handling of coverage issues, determination of whether further investigation is required and, where appropriate, retention of claims counsel, establishment of case reserves, payment of claims, and notification to reinsurers. Claims in respect of business written by the Lloyd's syndicates are primarily notified by various central market bureaus. Where a syndicate is a "leading" syndicate on a Lloyd's policy, its underwriters and claims adjusters will deal with the broker or insured on behalf of itself and the following market for any particular claim. This may involve appointing attorneys or loss adjusters. The claims bureaus and the leading syndicate advise movement in loss reserves to all syndicates participating on the risk. A claims department may adjust the case reserves it records from those advised by the bureaus as deemed necessary. Claims management for the reinsurance operations includes the receipt of loss notifications, the establishment of loss reserves and approval of loss payments. Additionally, claims audits are conducted for specific claims and claims procedures at the offices of selected ceding companies. There have been no claims relating to business written by financial products and services reported to the Company as at December 31, 2000. Where management believes a future loss is probable and determinable, a specific reserve for unpaid losses and loss adjustment expenses is recorded for the estimated value of the loss. INVESTMENTS Management oversees the Company's investment strategy, establishes guidelines for the various external managers and implements investment decisions with the assistance of such managers. The current investment strategy seeks to maximize investment income through a high-quality, diversified portfolio while focusing on preserving principal and maintaining liquidity. In this regard, at December 31, 2000, the Company's fixed income investment portfolio included U.S. and non-U.S. sovereign government obligations, corporate bonds and other securities, 61.1% of which were rated Aa or AA or better by a nationally recognized rating agency. The Company also maintains a portfolio of equity securities. Under current investment guidelines, up to 30% of the Company's investment portfolio may be invested in equity securities. Insurance laws and regulations may impose restrictions on the Company's investments whereby certain types of investments such as unquoted equity securities, investments in 13 affiliates, real estate and collateral loans may not qualify as admitted assets. The Company did not have an aggregate investment in a single entity, other than the U.S. government, in excess of 10% of shareholders' equity at December 31, 2000 and 1999. For additional information concerning the Company's investments, see "Management's Discussion and Analysis of Results of Operations and Financial Condition - Investment Operations". The following table reflects investment results for the Company for each of the five years in the period ended December 31, 2000:
NET PRE-TAX PRE-TAX ANNUALIZED AVERAGE INVESTMENT REALIZED EFFECTIVE YEAR ENDED DECEMBER 31 INVESTMENTS (1) INCOME (2) GAINS YIELD - ---------------------- ------------------------------------------------------ (U.S. DOLLARS IN THOUSANDS) 2000................................................ $9,058,811 $542,500 $ 50,571 5.99% 1999................................................ $8,981,833 $525,318 $ 94,356 5.85% 1998................................................ $7,762,931 $417,290 $211,204 5.38% 1997................................................ $6,274,946 $345,115 $410,658 5.50% 1996................................................ $5,813,455 $304,823 $174,593 5.24%
(1) Average of the beginning and ending amounts of investments and cash and cash equivalents net of pending trades for the period. Investment securities are carried at market value. (2) After applicable investment expenses, excluding realized gains. RATINGS The Company's principal insurance and reinsurance subsidiaries and pools have claims paying ratings of "AA" from S&P and "A+" from A.M. Best Company, Inc. The Company's financial guaranty insurance and reinsurance companies each have "AAA" ratings from S&P. An insurer rated "AA" by S&P has very strong financial security characteristics, differing only slightly from those rated higher, and an insurer rated "AAA" by S&P has extremely strong financial security characteristics. An insurer rated "A+" by A.M. Best has superior financial strength, operating performance and market profile when compared to standards established by A.M. Best, and have a very strong ability to meet their ongoing obligations to policyholders. The Company's Lloyds' syndicates at XL Brockbank have a five bell rating under S&P Lloyds' Syndicates Performance Measure, representing a well above market level performance. TAX MATTERS See Note 17 to the Consolidated Financial Statements. REGULATION See Note 18 to the Consolidated Financial Statements. EMPLOYEES At December 31, 2000, the Company employed approximately 1,300 employees. None of these employees are represented by a labor union. ITEM 2. PROPERTIES The Company rents space for its principal executive offices under leases that expire up to 2013. Total rent expense for the years ended December 31, 2000, 1999 and 1998 was approximately $18.3 million, $13.0 million and $9.0 million, respectively. In 1997, the Company acquired commercial real estate in Bermuda for the purpose of securing long-term office space for its worldwide headquarters. The total cost of this development, including the land, is expected to be approximately $110.0 million, of which $101.0 million had been spent as at December 31, 2000. It is estimated that the development will be completed in April 2001. See Note 11 to the Consolidated Financial Statements for discussion of the Company's lease commitments. 14 ITEM 3. LEGAL PROCEEDINGS The Company, in common with the insurance and reinsurance industry in general, is subject to litigation and arbitration in the normal course of its business. As of December 31, 2000, the Company was not a party to any material litigation or arbitration other than as part of the ordinary course of business in relation to claims activity, none of which is expected by management to have a significant adverse effect on the Company's financial condition. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of stockholders during the fourth quarter of the fiscal year covered by this report. EXECUTIVE OFFICERS OF THE COMPANY The table below sets forth the names, ages and titles of the persons who were the executive officers of the Company for the year ended December 31, 2000.
NAME AGE POSITION - --------------------------------------------------------------------------------------------------------------- Brian M. O'Hara........................ 52 President, Chief Executive Officer and Director of the Company Robert R. Lusardi...................... 44 Executive Vice President and Chief Financial Officer* of the Company and Chief Executive Officer of Financial Products and Services. Nicholas M. Brown, Jr.................. 46 Executive Vice President of the Company and Chief Executive Officer of Insurance Operations K. Bruce Connell....................... 48 Executive Vice President and Group Underwriting Officer. Paul S. Giordano....................... 38 Executive Vice President, General Counsel and Secretary of the Company Christopher V. Greetham................ 56 Executive Vice President and Chief Investment Officer of the Company Henry C. V. Keeling.................... 45 Executive Vice President of the Company and Chief Executive Officer of Reinsurance Operations Fiona Luck............................. 43 Executive Vice President of the Company, Group Operations Clive R. Tobin......................... 48 Executive Vice President of the Company and President and Chief Executive Officer of XL Insurance
Brian M. O'Hara has been President and Chief Executive Officer of the Company since 1994 and a Director of the Company since 1986, having previously served as Vice Chairman of the Company from 1987. He is Chairman of XL Insurance and XL Re and was Chief Executive Officer of XL Insurance until 1998, having previously served as Chairman, President and Chief Executive Officer from 1994, President and Chief Executive Officer from 1992, and as President and Chief Operating Officer from 1986. Robert R. Lusardi has been Executive Vice President and Chief Financial Officer of the Company since February 1998, and Chief Executive Officer of Financial Products and Services since July 2000. Prior to joining the Company, Mr. Lusardi was Managing Director at Lehman Brothers from 1980 to 1998. Nicholas M. Brown, Jr. has been Executive Vice President of the Company since July 1999 and Chief Executive Officer of Insurance operations since July 2000. He was President and Chief Executive Officer of NAC Re Corp from January 1999, having previously served as President and Chief Operating Officer of NAC and President and Chief Executive Officer of NAC Re from 1996. Prior to joining NAC, Mr. Brown served as Executive Vice President and 15 Chief Operating Officer of St. Paul Fire and Marine Insurance Company from 1994 to 1996 and as President of St. Paul Specialty from 1993 to 1994. From 1976 through 1993, he served in various positions at Aetna Life and Casualty Companies. K. Bruce Connell has been Executive Vice President of the Company since March 1998 and Group Underwriting Officer since July 2000. Mr. Connell previously served as President and Chief Operating Officer of XL Global Re from November 1997 to August 1998, President of XL Global Re since December 1995 and Senior Vice President of XL Insurance from 1990 to 1995. Paul S. Giordano has been Executive Vice President and General Counsel of the Company since June 1999. Mr. Giordano served as Senior Vice President since January 1997 and was appointed Secretary of the Company on December 31, 1997. Mr. Giordano was associated with Cleary, Gottlieb, Steen & Hamilton and Clifford Chance in New York and London prior to joining the Company. Christopher V. Greetham has been Executive Vice President of the Company since December 1998 and has served as Chief Investment Officer of the Company since 1996. Prior to joining the Company, Mr. Greetham served as Senior Vice President and Chief Financial Officer of OIL Insurance Ltd from 1982 to 1996 and as Vice President of Bankers Trust Company from 1975 to 1982. Henry C.V. Keeling has been Executive Vice President of the Company and Chief Executive Officer of XL Re since August 1998. He was appointed Chief Executive Officer of Reinsurance operations in July 2000. Mr. Keeling was President and Chief Operating and Underwriting Officer of Mid Ocean Re from 1992 to 1998. He previously served as a director of Taylor Clayton (Underwriting Agencies) Ltd and deputy underwriter for syndicate 51 at Lloyd's from 1984 through 1992. Fiona Luck has been Executive Vice President of Group Operations of the Company since July 1999. Ms. Luck was previously employed at ACE Bermuda as Executive Vice President from 1998, and Senior Vice President from 1997. From 1992 to 1997, Ms. Luck was the Managing Director of the Marsh & McLennan Global Broking office in Bermuda. Clive R. Tobin has been Executive Vice President of the Company and President and Chief Executive Officer of XL Insurance since July 1999, having previously served as Executive Vice President of XL Insurance from 1998, and as a Senior Vice President of XL Capital Products from February 1999. Mr. Tobin previously served as President of Rockefeller Insurance Company and Acadia Risk Management Services, Inc from 1986 to 1995. * Jerry M. de St. Paer was appointed to the position of Executive Vice President and Chief Financial Officer of the Company on February 20, 2001, succeeding Robert R. Lusardi. Mr. de St. Paer was previously Managing Director of Hudson International Advisors in New York. Prior to forming Hudson International in 1998, he served as Managing Director, Insurance at J.P. Morgan & Company, Inc. Mr. de St Paer was previously employed at The Equitable (now AXA Financial Advisors), from 1986 until 1997, serving most recently as Senior Executive Vice President and Chief Financial Officer of The Equitable and as Executive Vice President of Strategic Studies and Development of the AXA Groupe. 16 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS (a) The Company's Class A ordinary shares, $0.01 par value, are listed on the New York Stock Exchange under the symbol XL. The following table sets forth the high and low closing sales prices per share of the Company's Class A ordinary shares per fiscal quarter, as reported on the New York Stock Exchange Composite Tape.
HIGH LOW ----------------- 2000: 1st Quarter............................................... $55.375 $39.563 2nd Quarter............................................... 61.000 45.750 3rd Quarter............................................... 78.188 54.938 4th Quarter............................................... 88.563 69.375 1999: 1st Quarter............................................... $75.188 $56.750 2nd Quarter............................................... 66.500 56.750 3rd Quarter............................................... 57.688 42.188 4th Quarter............................................... 58.063 44.938
Each Class A ordinary share has one vote, except that if, and so long as, the Controlled Shares (defined below) of any person constitute ten percent (10%) or more of the issued Class A ordinary shares, the voting rights with respect to the Controlled Shares owned by such person are limited, in the aggregate, to a voting power of approximately 10%, pursuant to a formula specified in the Articles of Association. "Controlled Shares" includes, among other things, all Class A ordinary shares for which such person is deemed to beneficially own directly, indirectly or constructively (within the meaning of Section 13(d)(3) of the Securities Exchange Act of 1934). (b) The approximate number of record holders of ordinary shares as of December 31, 2000 was 671. (c) In 2000, four regular quarterly dividends were paid at $0.45 per share to all shareholders of record on February 15, May 25, August 15 and November 15. In 1999, four regular quarterly dividends were paid at $0.44 per share to all shareholders of record on February 5, April 23, July 12 and September 24. The declaration and payment of future dividends by the Company will be at the discretion of the Board of Directors and will depend upon many factors, including the Company's earnings, financial condition, business needs, capital and surplus requirements of the Company's operating subsidiaries and regulatory restrictions. As a holding company, the Company's principal source of income is dividends or other statutorily permissible payments from its subsidiaries. The ability to pay such dividends is limited by the applicable laws and regulations of Bermuda, the United States, and the United Kingdom, including the Society of Lloyd's. See Note 18 to the Consolidated Financial Statements for further discussion. (d) Rights to purchase Class A ordinary shares ("the Rights") were distributed as a dividend at the rate of one Right for each Class A ordinary share held of record as of the close of business on October 31, 1998. Each Right entitles holders of Class A ordinary shares to buy one ordinary share at an exercise price of $350. The Rights would be exercisable, and would detach from the Class A ordinary shares, only if a person or group were to acquire 20% or more of XL's outstanding Class A ordinary shares, or were to announce a tender or exchange offer that, if consummated, would result in a person or group beneficially owning 20% or more of Class A ordinary shares. Upon a person or group without prior approval of the Board acquiring 20% or more of Class A ordinary shares, each Right would entitle the holder (other than such an acquiring person or group) to purchase Class A ordinary shares (or, in 17 certain circumstances, Class A ordinary shares of the acquiring person) with a value of twice the Rights exercise price upon payment of the Rights exercise price. The Company will be entitled to redeem the Rights at $0.01 per Right at any time until the close of business on the tenth day after the Rights become exercisable. The Rights will expire at the close of business on September 30, 2008, and do not initially have a fair value. The Company has initially reserved 119,073,878 Class A ordinary shares being authorized and unissued for issue upon exercise of Rights. ITEM 6. SELECTED FINANCIAL DATA The selected consolidated financial data below is based upon the Company's fiscal year end of December 31. The selected consolidated financial data should be read in conjunction with the consolidated financial statements and the notes thereto presented under Item 8.
2000 1999 1998 1997 1996 ---------------------------------------------------------------- (U.S. DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS AND RATIOS) INCOME STATEMENT DATA: Net premiums earned................ $ 2,035,240 $ 1,750,006 $1,324,291 $1,114,758 $1,038,643 Net investment income.............. 542,500 525,318 417,290 345,115 304,823 Net realized gains on investments .................... 50,571 94,356 211,204 410,658 174,593 Equity in net income of affiliates ..................... 74,355 40,907 50,292 64,959 59,084 Fee income and other............... 14,793 100,400 22,325 -- -- Losses and loss expenses........... 1,432,559 1,304,304 841,517 738,849 739,058 Acquisition costs, operating expenses and exchange gains and losses ......................... 743,067 689,005 436,598 318,107 277,801 Interest expense................... 32,147 37,378 33,444 29,622 22,322 Amortization of intangible assets ......................... 58,597 49,141 26,881 7,403 368 Income before minority interest and income tax expense.............. 451,089 431,159 686,962 841,509 537,594 Net income......................... 506,352 470,509 656,330 809,029 516,471 PER SHARE DATA: Net income per share - basic (3) ............................ $ 4.07 $ 3.69 $ 5.86 $ 7.95 $ 4.81 Net income per share - diluted (3) ............................ $ 4.03 $ 3.62 $ 5.68 $ 7.74 $ 4.73 Weighted average shares Outstanding - basic (3)............ 124,503 127,601 112,034 101,708 107,339 Weighted average shares Outstanding - diluted (3).......... 125,697 130,304 116,206 105,005 109,908 Cash dividends per share (4)....... $ 1.80 $ 1.76 $ 1.64 $ 1.36 $ 0.95 BALANCE SHEET DATA: Total investments available for sale............................ $ 9,501,548 $ 9,122,591 $9,057,892 $6,562,609 $5,647,589 Cash and cash equivalents.......... 930,469 557,749 480,874 383,594 321,140 Investments in affiliates.......... 792,723 479,911 154,668 524,866 414,891 Total assets....................... 16,941,952 15,090,912 13,581,140 9,070,031 7,823,375 Unpaid losses and loss expenses ... 5,672,062 5,369,402 4,896,643 3,972,376 3,623,334 Notes payable and debt............. 450,032 410,726 613,873 453,866 323,858 Shareholders' equity............... 5,573,668 5,577,078 5,612,603 3,195,749 2,637,533 Book value per share............... $ 44.58 $ 43.64 $ 43.59 $ 31.55 $ 25.31 Fully diluted book value per share .......................... $ 44.78 $ 43.13 $ 43.20 $ 31.42 $ 25.24 OPERATING RATIOS: Loss and loss expense ratio (2).... 70.4% 74.5% 63.5% 66.3% 71.2% Underwriting expense ratio (5)..... 36.4% 34.3% 30.3% 27.9% 26.2% Combined ratio (6)................. 106.8% 108.8% 93.8% 94.2% 97.4%
18 (1) All prior period information includes the results of NAC as though it had always been a part of the Company. (2) The loss and loss expense ratio is the calculated by dividing the losses and loss expenses incurred by the net premiums earned. (3) Net income per share is based on the weighted average number of ordinary shares and ordinary share equivalents outstanding for each period as required by Statement of Financial Accounting Standard No. 128. (4) Cash dividends per share have not been adjusted for the pooling effect of NAC. (5) The underwriting expense ratio is the sum of acquisition expenses and operating expenses divided by net premiums earned. Operating expenses relating to the corporate segment and foreign exchange gains and losses have not been included for purposes of calculating the underwriting expense ratio. See Note 3 to the consolidated financial statements for further information. (6) The combined ratio is the sum of the loss and loss expense ratio and the underwriting expense ratio. A combined ratio of under 100% represents an underwriting profit and over 100% represents an underwriting loss. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION The following is a discussion of the Company's results of operations and financial condition. Prior period information presented is the combination of the results formerly presented by XL Capital and NAC, as required for a business combination accounted for by the pooling of interests method, which assumes NAC had always been a part of the Company. See Note 6 to the audited Consolidated Financial Statements for further details. This "Management's Discussion and Analysis of Results of Operations and Financial Condition" contains forward-looking statements which involve inherent risks and uncertainties, including, but not limited to, business, financial and integration risks associated with the Winterthur International acquisition and the risk that the acquisition will not be consummated. Statements that are not historical facts, including statements about the Company's beliefs and expectations, are forward-looking statements. These statements are based upon current plans, estimates and expectations. Actual results may differ materially from those projected in such forward-looking statements, and therefore undue reliance should not be placed on them. See "-Cautionary Note Regarding Forward-Looking Statements" for a list of additional factors that could cause actual results to differ materially from those contained in any forward-looking statement. This discussion and analysis should be read in conjunction with the audited Consolidated Financial Statements and notes thereto presented under Item 8. OVERVIEW The insurance and reinsurance industry has remained competitive through 2000. The Company has experienced price increases on some of the short-tail business, such as the property and property catastrophe lines as the retrocession markets have become more capacity constrained. While the long tail business, such as the excess casualty lines, have not experienced the equivalent level of price increases, market pressure for rate reduction is no longer as prevalent as in 1999. During 2000, the Company continued to evaluate its product lines for profitability and exited certain lines where pricing remains at unsatisfactory levels. 19 RESULTS OF OPERATIONS The following table presents an after-tax analysis of the Company's net income for the years ended December 31, 2000, 1999 and 1998 (U.S. dollars in thousands, except per share amounts):
2000 1999 1998 ------------------------------ Net income excluding net realized gains on investments............. $442,932 $370,809 $457,402 Net realized gains on investments......................... 63,420 99,700 198,928 ------------------------------ Net income................................................ $506,352 $470,509 $656,330 ------------------------------ Earnings per share - basic................................ $4.07 $3.69 $5.86 Earnings per share - diluted.............................. $4.03 $3.62 $5.68
Net income increased in 2000 compared to 1999 due to an increase in net investment income, equity in net income of affiliates and exchange gains and losses. This increase was partially offset by an increase in the underwriting loss. In 2000, the Company incurred after-tax charges of $124.6 million, or $0.98 per share, which included certain reserve adjustments together with employee severance charges and other costs associated with the realignment of the Company's operations and the discontinuation of certain business lines. These charges affected the underwriting results across all of the Company's segments, excluding the financial products and services segment. In 1999, the Company incurred losses of $125.0 million after-tax, or $0.97 per share, as a result of two major European windstorms in December 1999. In addition, 1999 includes an increase to reserves of $95.0 million associated with the merger with NAC. These two factors are the primary reason for the decrease in net income excluding realized gains on investments in 1999 as compared to 1998. Basic and diluted earnings per share increased in 2000 as compared to 1999 due to both an increase in net income and a reduction in the weighted average number of shares outstanding. The decrease in the weighted average number of shares outstanding in 2000 is a result of the Company repurchasing 5.1 million shares during the year. The decrease in the basic and diluted earnings per share in 1999 over 1998 is due to a reduction in net income. SEGMENTS The Company is organized into three underwriting segments - insurance, reinsurance, and financial products and services - and a corporate segment, which includes the investment operations of the Company. Lloyd's syndicates are included in the insurance segment but are shown separately as the nature of their operations and the market in which the syndicates underwrite is significantly different to the Company's other insurance subsidiaries. See Item 1 and Item 8, Note 3 to the Consolidated Financial Statements for further details. INSURANCE OPERATIONS - EXCLUDING LLOYD'S SYNDICATES The following table summarizes the underwriting profit for this segment (U.S. dollars in thousands):
% CHANGE % CHANGE 2000 00 VS 99 1999 99 VS 98 1998 ---------------------------------------------------- Net premiums earned............................ $726,506 56.9% $463,069 12.9% $410,030 Fee income and other........................... 7,692 1.4% 7,584 (8.0%) 8,244 Losses and loss expenses....................... 502,898 62.7% 309,079 15.4% 267,823 Acquisition costs.............................. 117,251 79.5% 65,318 37.0% 47,688 Operating expenses............................. 94,129 32.4% 71,094 43.0% 49,702 Exchange gains................................. (2,344) NM (165) NM - ---------------------------------------------------- Underwriting profit............................ $ 22,264 (12.1%) $ 25,327 (52.3%) $ 53,061 ----------------------------------------------------
NM = Not Meaningful 20 Growth in net premiums earned in 2000 over 1999 is mainly due to new business, primarily environmental liability, written by ECS. ECS contributed approximately $260.0 million in gross premiums written and $110.0 million in net premiums earned in 2000. No premiums were written or earned by ECS in 1999 as ECS only commenced writing business on behalf of the Company with effect from January 1, 2000. Prior to this date, ECS had agency agreements in place with other companies. In addition, XL Aerospace wrote aviation and satellite business totaling $160.0 million in gross premiums written and $60.0 million in net premiums earned. In 1999, this agency wrote this business on behalf of the Lloyd's syndicates, of which the Company's share was approximately $20.0 million in gross premium written and $11.5 million in net premium earned. 2000 also includes approximately $60.0 million in gross premiums written and $25.0 million in net premiums earned of new professional liability business written. Generally, in 2000, premium rates have continued to be negatively affected by increased competition. Some price increases were experienced in 2000 in property lines, which have also contributed to the increase in net premiums earned. However, pricing has remained relatively unchanged on the liability lines of business. Contracts were not renewed where premium rates were not deemed by the Company to be sufficient to cover the risks underwritten. The increase in net premiums earned in 1999 over 1998 is primarily the result of an increase in the gross premiums written in the primary property, aviation and satellite, marine and other lines of business. Net premiums earned in 1999 also reflect the purchase of Intercargo in May 1999, for which approximately $33.0 million was earned from the date of purchase. Partially offsetting this increase is a decrease in the general liability lines, where there was a reduction in the amount of gross premiums written due to increased competition that caused premium rates to decline. There was a small increase in the net premiums earned in 1999 over 1998 in the other liability business, which comprises mostly professional lines, despite a decrease in the amount of gross premiums written in 1999 compared to 1998. The increase in net premiums earned is primarily as a result of several tailored programs written in 1998, which are earned over a period greater than one year. Fee income and other relates to fees relating to the provision of risk management and other services. As the managing agencies write more business on behalf of the Company, fee income from agency fees is expected to decline in future years. The increases in net losses and loss expenses, acquisition costs and operating expenses are also primarily attributable to the new business generated by ECS and XL Aerospace. These are included in the discussions below as part of the analysis of the Company's underwriting ratios. The decrease in the underwriting profit in each year in this segment is due to higher loss and loss expense ratios as shown below. The following table presents the ratios for this segment for each of the three years ended December 31:
2000 1999 1998 ---------------------- Loss and loss expense ratio................................. 69.2% 66.7% 65.4% Underwriting expense ratio.................................. 29.1% 29.5% 23.8% ---------------------- Combined ratio.............................................. 98.3% 96.2% 89.2% ----------------------
The loss and loss expense ratio includes the effects of an intercompany stop loss arrangement in place in 2000 and 1999 with a subsidiary in the reinsurance segment. Losses incurred relating to this arrangement were $33.5 million and $100.0 million in 2000 and 1999, respectively. There was no such arrangement in place in 1998. The purpose of this arrangement is to efficiently manage statutory surplus levels across the Company. The higher losses in 1999 were the result of catastrophic losses that occurred in 1999. Had this arrangement not been in place, the loss and loss expense ratio would have been 64.6% and 45.2% in 2000 and 1999, respectively. The increase in the loss ratio in 2000 over 1999 is due to several factors. In 2000, the Company applied higher loss ratios to certain of its casualty lines written in 2000. These loss ratios have been actuarially estimated and reflect the continued negative impact that competitive market conditions have had on rates for these lines of business written in 2000. There was a reduction of loss reserves in 1999 established on the Company's liability lines due to updated actuarially determined 21 reserve estimates that reflect the favorable development of these lines relating to prior years. Loss reserve adjustments were made in 2000 as discussed previously. Partially offsetting the increases in 2000 are additional reductions in loss reserves relating to liability lines written in prior years. Excluding the effects of the stop loss arrangement, the loss ratio decreased in 1999 compared to 1998 due to the reduction of liability loss reserves relating to 1998 and prior years. Due to the lack of industry data available, the Company estimates loss reserves based upon its own experience. When the Company commenced writing this type of business in 1986, limited data was available and the Company has made its best estimates for loss reserves for each underwriting year since that time. Over time, the amount of data has increased, providing a larger statistical base for estimating reserves. Redundancies in prior year reserves have occurred where loss experience has developed more favorably than expected. This trend is not necessarily expected to continue. The net decrease in the underwriting expense ratio in 2000 compared to 1999 is mainly due to the significant increase in net premiums earned year over year and, unlike acquisition costs, operational expenses do not change as a direct cost of net premiums earned. Partially offsetting this decrease is the inclusion of expense charges of $13.9 million relating to employee severance and other costs in 2000 associated with the realignment of operations and the discontinuation of certain business lines. Excluding these costs, the underwriting expense ratio in 2000 would have been 27.2%. The increase in the expense ratio in 1999 over 1998 is due to two factors: changes in the product mix towards U.S. primary business in 1999 which tends to have higher acquisition costs, and the additional operating expenses incurred by the Company in establishing its start up operations in the U.S. and new lines of business. INSURANCE OPERATIONS - LLOYD'S SYNDICATES The following table summarizes the underwriting results for the Lloyd's syndicates (U.S. dollars in thousands):
% CHANGE % CHANGE 2000 00 VS 99 1999 99 VS 98 1998 ---------------------------------------------------- Net premiums earned............................ $357,824 0.6% $355,769 131.2% $153,852 Fee income and other........................... (6,626) NM 65,892 NM 14,081 Losses and loss expenses....................... 260,372 (12.5%) 297,595 152.0% 118,111 Acquisition costs.............................. 119,870 34.4% 89,195 191.4% 30,614 Operating expenses............................. 28,727 (2.0%) 29,305 90.3% 15,399 Exchange gains................................. (5,986) NM (1,180) NM (524) ---------------------------------------------------- Underwriting (loss) profit..................... $(51,785) NM $ 6,746 55.7% $ 4,333 ----------------------------------------------------
The small increase in net premiums earned in 2000 over 1999 reflect the growth in business written by XL Brockbank and Denham due principally to an increase in syndicate capacity provided by the Company from approximately 43% to 50% at XL Brockbank and from approximately 43% to 75% at Denham. The Company has increased capacity at Denham to 100% for 2001. Partially offsetting this increase is the reduction in net premiums earned relating to the motor business that was sold effective December 31, 1999. The Company retains the residual liability on this business. In the years ended December 31, 2000 and 1999, net premiums earned on the motor business were $82.8 million and $135.9 million respectively. Net premiums earned relating to the motor business will decline substantially in subsequent years. In addition, net premiums earned were reduced in 2000 relating to additional reinsurance costs recorded by XL Brockbank relating to an outwards stop loss reinsurance policy. Under this policy, additional premiums become payable as losses develop for certain lines of business. Reinsurance costs of $23.3 million, $13.4 million and $7.6 million were incurred for 2000, 1999 and 1998, respectively. Of the cost incurred for 2000, approximately $19.1 million relates to losses on certain business lines that the Company will be exiting as part of the reorganization. Coverage provided by this stop loss reinsurance policy has been significantly reduced for 2001 and while this may reduce reinsurance costs, it exposes XL Brockbank to potentially higher net losses. 22 The increase in net premiums earned in 1999 compared to 1998 is a result of the acquisition of Brockbank in August 1998. In addition, results for Denham were not significant in 1998. In 1999, fee income and other primarily relates to the sale by XL Brockbank of its two motor insurance businesses, Admiral and Zenith, resulting in a gain of $40.2 million. In addition, 1999 also included $42.1 million of fees generated from the motor business prior to the sale. No such income was earned in 2000. XL Brockbank's managing agencies may also earn profit commissions and fees from syndicates they manage in order to offset their operating expenses. 1999 included $2.9 million in profit commissions. Due to the loss deterioration in the Lloyd's market, no commissions were earned in 2000, resulting in expenses in excess of fee income in 2000. Exchange gains in 2000 and 1999 arise from the translation of foreign currency assets and liabilities, primarily from exchange rate movements between U.K sterling and the U.S. dollar in the year. The following table presents the underwriting ratios:
2000 1999 1998 ------------------------ Loss and loss expense ratio................................. 72.8% 83.6% 76.8% Underwriting expense ratio.................................. 41.5% 33.3% 29.9% ------------------------ Combined ratio.............................................. 114.3% 116.9% 106.7% ------------------------
The decrease in the loss ratio and increase in the expense ratio in 2000 over 1999 primarily reflects the effect of the sale of the motor business. In 1999, the motor business had a loss ratio of approximately 101.1% and an expense ratio of approximately 21.8%. Other business written by XL Brockbank and Denham typically has lower loss ratios and higher commissions than the motor business. The increase in the expense ratio in 2000 was also due to two other factors (i) the reduction in net premiums earned due to the additional reinsurance costs for the stop loss policy. Excluding the effects of this reinsurance cost, the expense ratio would have been 39.0%, 32.1% and 28.5% for 2000, 1999 and 1998, respectively, and (ii) 2000 includes a charge of $7.5 million for employee severance and other costs associated with the realignment of the Company's operations. The increase in the loss ratio in 1999 over 1998 is due to reserve increases related to adverse development on the U.K. motor business prior to the sale for which the Company still retains residual liabilities. REINSURANCE OPERATIONS The following table summarizes the underwriting results for this segment (U.S. dollars in thousands):
% CHANGE % CHANGE 2000 00 VS 99 1999 99 VS 98 1998 ----------------------------------------------------- Net premiums earned............................ $927,195 1.9% $ 909,915 19.7% $760,409 Fee income and other........................... (2,197) NM - - Losses and loss expenses....................... 663,173 (4.2%) 692,269 52.0% 455,583 Acquisition costs.............................. 247,352 10.2% 224,359 31.2% 171,039 Operating expenses............................. 102,132 0.1% 101,978 17.7% 86,670 Exchange (gains) losses........................ 3,868 NM 1,286 NM (1,129) ----------------------------------------------------- Underwriting (loss) profit..................... $(91,527) 16.8% $(109,977) NM $ 48,246 -----------------------------------------------------
The increase in net premiums earned is mainly a result of an increase in net premiums written across most lines of business. The Company has experienced some premium rate increases in the other property, marine, aviation and satellite lines of business in 2000 over 1999. However, pricing also remained generally unchanged in the international property (excluding property catastrophe) and liability lines of business written by the Company. Partially offsetting this increase in net premiums earned is an increase in reinsurance costs incurred in 2000 over 1999, primarily relating to stop loss reinsurance policies. Under these policies, additional premiums become due once losses exceed certain levels. Additional reinsurance costs of $80.6 million, $20.5 million and $5.5 million were 23 incurred in 2000, 1999 and 1998, respectively, relating to these policies, where reinsurance recoveries have been recorded of $151.8 million, $65.0 million and $25.0 million, respectively, for each of the years. The increase in net premiums earned in 1999 over 1998 is due to two factors: (i) the acquisition of Mid Ocean in August 1998 which results in only five months of net premiums earned included in 1998 compared to twelve months in 1999, and (ii) increases in gross premiums written and earned in the casualty reinsurance business in 1999 resulting from new business opportunities. Fee income and other in 2000 relates primarily to non-underwriting costs relating to an outward reinsurance contract that did not exist in 1999 or prior. Operating expenses increased in 1999 over 1998 due to the acquisition of Mid Ocean. The following table presents the underwriting ratios for this segment:
2000 1999 1998 ------------------------ Loss and loss expense ratio................................. 71.5% 76.1% 60.0% Underwriting expense ratio.................................. 37.7% 35.9% 33.9% ------------------------ Combined ratio.............................................. 109.2% 112.0% 93.9% ------------------------
Net losses and loss expenses incurred in the segment reflect a recovery of $33.5 million and $100.0 million respectively, under an intercompany stop loss arrangement. The loss and loss expense ratio in 2000 and 1999 would have been 75.1% and 87.1% respectively, had this arrangement not been in place. Included in net losses incurred in 2000 are loss reserve adjustments as discussed previously. Excluding the effects of the intercompany stop loss agreement, the loss ratio was higher in 1999 compared to both 2000 and 1998 primarily due to a higher amount of catastrophe losses and a reserve adjustment of $95.0 million relating to the merger with NAC. Loss events in 2000, which included an oil refinery loss in Kuwait, several satellite losses and the Singapore Airlines loss, totaled approximately $95.0 million. Catastrophe losses in 1999 included European windstorms, hailstorms in Sydney, tornadoes in Oklahoma and satellite losses totaling approximately $185.0 million. In addition, there was an increase in the loss ratio in 2000 and 1999 in the casualty reinsurance business in accordance with actuarial estimates, caused to a large extent by the deterioration in premium rates. Actuarial assumptions are used to establish initial expected loss ratios employed in the actuarial methodologies from which the reserve for losses and loss expenses is derived. Such loss ratios are periodically adjusted to reflect comparisons with actual claims development, inflation and other considerations. Property catastrophe business has loss experience that is generally categorized as low frequency but high severity in nature. This may result in volatility in the Company's financial results for any fiscal year or quarter. Property catastrophe losses generally are notified and paid within a short period of time from the covered event. The increase in the underwriting expense ratio in 2000 compared to 1999 is primarily due to lower net earned premiums in 2000 relating to the additional stop loss reinsurance costs incurred. Excluding the effect of these costs, the underwriting expense ratio would have been 34.7%, 35.1% and 33.6% for 2000, 1999 and 1998, respectively. Underwriting expenses increased in 1999 over 1998 primarily due to an increase in profit commissions payable to cedents of proportional business written by XL Re. Profitability on some contracts written in earlier underwriting years has increased relative to original estimates, with the resulting increases in profit commissions payable. The Company's casualty business includes a minimal element of asbestos and environmental claims on business written prior to 1986. The Company's reserving process includes a supplemental evaluation of claims liabilities from exposure to asbestos and environmental claims, including related loss adjustment expenses. However, the Company's loss and loss expense reserves for such exposures, net of reinsurance, as of December 31, 2000, 1999, and 1998 is less than 1% of its total reserves. A reconciliation of the Company's gross and net liabilities for such exposures for the three years ending December 31, 2000 is set forth in Note 7 of the Notes to Consolidated Financial Statements. 24 FINANCIAL PRODUCTS AND SERVICES The following table summarizes the underwriting profit for this segment (U.S. dollars in thousands):
% CHANGE 2000 00 VS 99 1999 ----------------------------- Net premiums earned....................................... $ 23,715 11.6% $ 21,253 Fee income and other...................................... 15,924 (40.9%) 26,924 Losses and loss expenses.................................. 6,116 14.1% 5,361 Acquisition costs......................................... 1,323 (37.2%) 2,108 Operating expenses........................................ 29,969 79.8% 16,670 Exchange (gains) losses................................... - - - ----------------------------- Underwriting profit....................................... $ 2,231 (90.7%) $ 24,038 -----------------------------
Financial guaranty premiums are earned over the life of the exposure, which is generally longer than that in the Company's other operating segments. Certain premiums, such as those received on an installment basis are not earned until the premium is reported. The increase in net premiums earned mainly reflects new business written in 2000. The Company may provide financial guaranties in credit default swap form rather than in insurance form. Premiums received in respect of credit default swaps, net of estimated losses, are included as fee income and earned over the life of the policies. Fee income in 2000 relates primarily to credit default swaps. From time to time, the Company will assist in structuring other financial transactions that may result in fee income. These transactions tend to be irregular in nature. In late 2000, the Company established operations to provide insurance form coverages that previously were available primarily in capital markets. No premiums were written relating to this business in 2000. The Company intends to hedge these risks as they are assumed. The following table presents the underwriting ratios for the financial products and services segment:
2000 1999 --------------- Loss and loss expense ratio................................. 25.8% 25.2% Underwriting expense ratio.................................. 131.9% 88.4% --------------- Combined ratio.............................................. 157.7% 113.6% ---------------
The financial guaranty operations write business with an expected loss ratio of approximately 25%. Operating expenses for this segment include expenses associated with the Company's activities in writing financial solutions and in generating deposit liabilities. Revenues associated with these transactions are reflected in investment income, net realized gains on investments and equity earnings in affiliates. Thus, the expense ratio and combined ratio tend to be higher than traditional insurance results. Not all premiums written have related acquisition costs. The calculation of the expense ratio excludes fee income derived from credit default swap transactions. If this income were included, the expense ratio and the combined ratio would have been 81.8% and 107.6% respectively in 2000 and 70.4% and 95.6% respectively in 1999. The high expense ratio continues to reflect the start up nature of this segment. 25 INVESTMENT ACTIVITIES The following table illustrates the change in net investment income and net realized gains and losses for each of the three years ended December 31, 2000 (U.S dollars in thousands):
% CHANGE % CHANGE 2000 00 VS 99 1999 99 VS 98 1998 ---------------------------------------------------- Net investment income.......................... $542,500 3.3% $525,318 25.9% $417,290 Net realized investment gains.................. $ 50,571 NM $ 94,356 NM $211,204 Annualized effective yield..................... 5.99% - 5.85% - 5.38%
External investment professionals manage the Company's portfolio under the direction of the Company's management. As at December 31, 2000 and 1999, total investments and cash, net of the payable for investments purchased, were $9.1 billion, respectively. While there was no significant change between the years, 2000 included the reinvestment of investment income and realized gains, and the receipt of assets relating to the loss portfolio transfers discussed further in "-Financial Condition and Liquidity". These receipts were offset by the transfer of assets to limited partnerships and affiliate investments, claim payments and the repurchase of the Company's shares. As the Company's long-tail casualty business matures over the next three to five years, it is possible that claims payments may increase due to the additional exposure to events that occurred in prior years but have not yet been paid. Funds available for investment may therefore be reduced as compared to prior years due to such increased claims payments. The Company's fixed income investments (including short-term investments and cash equivalents) at December 31, 2000 represented approximately 86.4% of investments available for sale and were managed by several independent investment managers with different strategies. Of the fixed income securities, approximately 88.9% were investment grade, with 61.1% rated Aa or AA or better by a nationally recognized rating agency. The net payable for investments purchased relates to timing differences as investments are accounted for on a trade date basis. This increased to $1.4 billion at December 31, 2000 from $0.6 billion at December 31, 1999, primarily due to higher investment in certain mortgage-backed securities where the settlement period is generally longer than most fixed income investments. The increase in investment income in the years presented is primarily due to an increase in the annualized effective yield on the portfolio as the proportion of fixed maturities held increased compared to the prior year. The Company's investment base includes assets relating to deposit liabilities assumed in 2000 and late 1999. Investment income earned on these assets is reduced by the investment expense created by the accretion of these deposit liabilities. Excluding the assets relating to deposit liabilities, the investment base has declined in 2000 compared to 1999 due to claims payments, repurchase of shares and reallocation of assets to other strategic investmnets. However, investment yields have been higher in 2000 compared to 1999, which together with additional income derived from the asset accumulation business, has resulted in higher net investment income. Net realized gains in 2000 include a $54.1 million gain on the sale of the Company's investment in FSA Holdings, Inc. However, offsetting this gain, the Company incurred realized capital losses of approximately $66.2 million in certain other investments where the Company determined there to be an other than temporary decline in value of such investments. Net realized investment gains in 1999 and 1998 reflect the strong performance of the equity market. In 1998, equity gains of $150.0 million were realized as some of the Company's equity managers realized gains where they believed that valuations had reached their targets. However, 1999 equity gains were offset by declining fixed income markets that had been strong throughout most of 1998. Due to declining interest rates combined with widening spreads in the corporate and mortgage markets, the fixed income sector allowed the Company opportunities to increase the yield on its investment in 1999. 26 OTHER REVENUES AND EXPENSES The following table sets forth other revenues and expenses of the Company for each of the three years ended December 31, 2000 (U.S. dollars in thousands):
% CHANGE % CHANGE 2000 00 VS 99 1999 99 VS 98 1998 --------------------------------------------------- Equity in net income of affiliates................ $ 74,355 81.8% $ 40,907 (18.7)% $50,292 Foreign exchange gains............................ 55,159 NM - - - Amortization of intangible assets................. 58,597 19.2% 49,141 82.8% 26,881 Corporate operating expenses...................... 61,935 (30.4)% 89,037 NM 37,139 Interest expense.................................. 32,147 (14.0)% 37,378 11.8% 33,444 Minority interest................................. 1,093 NM 220 NM 749 Income tax........................................ (56,356) 42.4% (39,570) NM 29,883
The increase in equity earnings of affiliates in 2000 compared to 1999 is primarily attributable to increased returns on the Company's holdings in investment management companies and the funds managed by those companies, in addition to new affiliate investments made in 2000. 1999 included a loss of $3.6 million relating to Arch Capital (formerly Risk Capital), which was sold in 2000. This loss, together with the inclusion of only seven months of equity earnings from the Company's equity position in Mid Ocean in 1998, contributed to the decrease in equity in net income of affiliates in 1999 compared to 1998. Foreign exchange gains in 2000 related to the revaluation of a deposit liability denominated in U.K. Sterling. The exchange rate movement on the assets matching this deposit liability is included in accumulated other comprehensive income as those assets are designated as available for sale, and in net realized gains on sale of investments. Effective January 1, 2001, the Company has reorganized its corporate and operational structure for U.K. Sterling asset accumulation business such that future exchange translation adjustments of this nature will be matched against corresponding investment portfolio movements with minimal effect on earnings. The increase in the amortization of intangible assets in 2000 compared to 1999 primarily related to a full year's charge for ECS and XL Specialty, acquired in the second quarter of 1999. The increase in 1999 over 1998 related to the acquisition of Mid Ocean in 1998, where a full year's goodwill charge was included in 1999. Corporate operating expenses in 2000 included $5.7 million relating to charges for employee severance and other costs relating to the realignment of Company's operations. 1999 included $45.3 million of charges related to the merger with NAC and 1998 included $17.5 million of charges associated with the merger with Mid Ocean were included in corporate operating expenses. Excluding these charges, the net increase in corporate operating expenses in each of the years presented is due to the increase in the corporate infrastructure necessary to support the growing worldwide operations of the Company. Decreases in interest expense in 2000 compared to 1999 reflect a reduction in debt carried by the Company through 2000 compared to 1999. The Company extinguished convertible debt assumed in connection with the NAC merger in 1999. In addition, the Company pooled capital with its existing operations as a result of acquisitions in the U.S. in 1999, which facilitated repayment of debt in the third quarter of 1999. This decrease was partially offset by interest expense related to interim borrowings used to finance the repurchase of shares in the year ended December 31, 2000. Increases in interest expense in 1999 compared to 1998 is due to the increase in the average long-term debt outstanding in 1999, which was mainly used to finance the acquisitions of ECS and Intercargo, and the repurchase of shares in both 1999 and 1998. The change in the income taxes of the Company principally reflects the decline in the profitability of the U.S. operations for each year. Deterioration of the casualty book in 2000 and 1999 resulted in pre-tax net losses for U.S. operations, generating an income tax benefit for both years. See Note 17 to the Consolidated Financial Statements. 27 FINANCIAL CONDITION AND LIQUIDITY As a holding company, the Company's assets consist primarily of its investments in subsidiaries and the Company's future cash flows depend on the availability of dividends or other statutorily permissible payments from its subsidiaries. The ability to pay such dividends is limited by the applicable laws and regulations of Bermuda, the United States, Ireland and the United Kingdom, including the Society of Lloyd's that are described more fully in Note 18 to Consolidated Financial Statements. No assurance can be given that the Company or its subsidiaries will be permitted to pay dividends in the future. The Company's shareholders' equity at December 31, 2000 was $5.6 billion, of which $3.2 billion was retained earnings. Certain business written by the Company has loss experience characterized as low frequency and high severity exposures. This may result in volatility in both the Company's results and operational cash flows. However, the Company continues to generate positive cash flow from operating activities. In 2000, 1999 and 1998, the total amount of net losses paid by the Company was $1.7 billion, $1.1 billion, $0.7 billion, respectively. The increase in 2000 compared to 1999 is due to an increase in the amount of net premiums written by the Company, together with losses paid for the settlement of previously established reserves, particularly catastrophe losses. Paid losses in 2000 also include $74.0 million relating to a commutation payment. The increase in paid losses in 1999 over 1998 is primarily due to the acquisition of Mid Ocean in August 1998. The higher amount of paid claims in 2000 compared to 1999 has contributed to the lower operational cash flow in 2000 as compared to 1999. The Company establishes reserves to provide for estimated claims, the general expenses of administering the claims adjustment process and for losses incurred but not reported. These reserves are calculated by using actuarial and other reserving techniques to project the estimated ultimate net liability for losses and loss expenses. The Company's reserving practices and the establishment of any particular reserve reflect management's judgment concerning sound financial practice and does not represent any admission of liability with respect to any claims made against the Company's subsidiaries. No assurance can be given that actual claims made and payments related thereto will not be in excess of the amounts reserved. Inflation can have an effect on the Company in that inflationary factors can increase damage awards and potentially result in larger claims. The Company's underwriting philosophy is to adjust premiums in response to inflation, although this may not always be possible due to competitive pressure. Inflationary factors are considered in determining the premium level on any multi-year policies at the time contracts are written. In 2000, the Company made the following investments: (1) The Company exchanged its investment in Arch Capital (formerly known as Risk Capital Holdings), an affiliate, and $3.6 million in cash for Arch Capital's ownership in Latin American Re and 1.4 million shares and 100,000 warrants of Annuity & Life Re. The Company also acquired the remaining shares of Latin American Re owned by that company's management in December 2000. (2) The Company acquired ECS Re, a subsidiary of ECS Inc, for $21.0 million in cash. (3) The Company invested a further $177.2 million in affiliates, the majority of which related to investment fund affiliates, and a further $55.9 million in limited partnerships and other investments. The Company assumed loss portfolio transfers during 2000 and 1999 that are accounted for on a deposit basis. These reserves are included in deposit liabilities and policy benefit reserves with the corresponding assets held in investments available for sale. In 1999, the Company completed the purchase of Intercargo and ECS for a total of $222.8 million in cash. Both of these transactions are accounted for under the purchase method of accounting, and resulted in goodwill of $159.6 million. These transactions were financed in part through bank borrowings and internal funds. 28 During 1999, the Company redistributed assets from investments available for sale and cash for the following investments: (1) The Company made minority investments in Highfields Capital Management LP and MKP Capital Management LP and into the funds they manage totaling $281.2 million. (2) The Company invested $97.0 million in a joint venture with Les Mutuelles du Mans Assurances Group to form a new French reinsurance company, Le Mans Re. (3) The Company invested a further $91.0 million in limited partnerships and other investments. The Company has had several stock repurchase programs as part of its capital management strategy. In June 1999, the Board of Directors rescinded the Company's share repurchase program in place at that time. On January 9, 2000, the Board of Directors authorized a new program for the repurchase of up to $500.0 million. The new share repurchase program was announced in conjunction with a dividend increase of $0.04 per share per annum. Under the current program, in 2000, the Company purchased 5.1 million shares at a cost of $247.7 million or an average of $48.82 per share. As at December 31, 2000, the Company had bank, letter of credit and loan facilities available from a variety of sources, including commercial banks, totaling $2.6 billion comprising a 364-day facility, 5-year facilities, notes payable and letter of credit facilities. Debt and notes outstanding at December 31, 2000 were $450.0 million and letters of credit outstanding were $1.1 billion. Letters of credit issued and outstanding, 14% of which were collateralized by the Company's investment portfolio, primarily support U.S. non-admitted business and the Company's Lloyd's capital requirements. Approximately 40% of the letters of credit outstanding were issued in connection with intercompany reinsurance agreements. During 2000 and 1999, borrowings under these facilities were $250.3 million and $328.7 million, respectively, and repayments under the facilities were $211.0 million and $339.7 million, respectively. The borrowings in 2000 were used as interim funding of share buybacks and were repaid using funds from the equity portfolio. The borrowings in 1999 facilitated the repurchase of shares and the purchase of Intercargo and ECS. In June 1999, the Company converted $100 million 5.25% Convertible Subordinate Debentures due 2002 through the issue of 1.8 million shares out of treasury. The total pre-tax interest expense on notes and debt outstanding during the year ended December 31, 2000 and 1999 was $32.1 million and $37.4 million, respectively. Associated with the Company's bank and loan commitments are various loan covenants with which the Company was in compliance throughout the period. See Note 10 to the Consolidated Financial Statements for further details. RECENT ACCOUNTING PRONOUNCEMENTS See Note 2 to the Consolidated Financial Statements for a discussion on recent accounting pronouncements. YEAR 2000 ISSUES There was no significant impact of Year 2000 issues on the Company's technology systems. The Company did not experience any significant disruption due to the impact of Year 2000 issues on its service providers. The Company continues to be subject to risks associated with Year 2000 issues based upon the underwriting exposures that it assumed. All insurance and reinsurance subsidiaries of the Company examined the potential exposure to Year 2000-related risks associated with the coverages that they provided. In some instances, Year 2000-related risks were expressly excluded from or included in certain coverages, and in other instances, coverage in respect of such risks is neither expressly excluded nor included. To the extent that Year 2000-related risks materialize, participants in the property and casualty insurance and reinsurance industry, including the Company, could pay or incur significant claims, losses or defense costs which could have a material adverse effect on the Company's results of operations and financial condition. In view of the apparent lack of significant Year 2000-related losses, the Company does not expect to have substantial exposure to Year 2000-related coverage claims. See generally "-Cautionary Note Regarding Forward-Looking Statements". 29 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISK The Company is exposed to potential loss from various market risks, including changes in interest rates and foreign currency exchange rates. The Company manages its market risks based on guidelines established by management. The Company enters into derivatives and other financial instruments for trading purposes, primarily for risk management purposes. This risk management discussion and the estimated amounts generated from the sensitivity analyses are forward-looking statements of market risk assuming certain adverse market conditions occur. Actual results in the future may differ significantly from these anticipated results due to actual developments in the global financial markets. The results of analysis used by the Company to assess and mitigate risk should not be considered projections of future events of losses. See generally "--Cautionary Note Regarding Forward-Looking Statements". The Company's investment portfolio consists of fixed income and equity securities, denominated in both U.S. and foreign currencies. Accordingly, earnings will be affected by changes in interest rates, equity prices and foreign currency exchange rates. An immediate 100 basis point adverse shift in the treasury yield curve would result in a decrease in total return of 6.1% or $480.0 million on the Company's fixed income portfolio as of December 31, 2000. In evaluating the impact of price changes of the equity portfolio, a 10% change in equity prices would affect total return by approximately $55.7 million at December 31, 2000. The Company has short-term debt and long-term debt outstanding. Interest rates on short-term debt are LIBOR based. Accordingly, any changes in interest rates will affect interest expense. FOREIGN CURRENCY RISK MANAGEMENT The Company uses foreign exchange contracts to manage its exposure to the effects of fluctuating foreign currencies on the value of its foreign currency fixed maturities and equity investments. These contracts are not designated as specific hedges for financial reporting purposes and therefore, realized and unrealized gains and losses on them are recorded in income in the period in which they occur. These contracts generally have maturities of three months or less. In addition, where the Company's investment managers believe potential gains exist in a particular currency, a forward contract may not be entered into. At December 31, 2000, forward foreign exchange contracts with notional principal amounts totaling $111.9 million were outstanding. The fair value of these contracts as at December 31, 2000 was $109.6 million with unrealized losses of $2.3 million. Gains of $28.1 million were realized during the year. Based on this value, a 10% appreciation or depreciation of the U.S. dollar as compared to the level of other currencies under contract at December 31, 2000 would have resulted in approximately $0.4 million and $7.4 million in unrealized losses, respectively. In addition, the Company also enters into foreign exchange contracts to buy and sell foreign currencies in the course of trading its foreign currency investments. These contracts are not designated as specific hedges, and generally have maturities of two weeks or less. As such, any realized or unrealized gains or losses are recorded in income in the period in which they occur. At December 31, 2000, the Company had $54.9 million of such contracts outstanding, and had recognized $1.5 million in realized and unrealized losses for the year. Based on this value, a 10% appreciation or depreciation of the U.S. dollar as compared to the level of other currencies under contract at December 31, 2000 would have resulted in approximately $6.1 million in unrealized gains and $5.1 million in unrealized losses, respectively. The Company attempts to hedge directly the foreign currency exposure of a portion of its foreign currency fixed maturity investments using forward foreign exchange contracts that generally have maturities of three months or less, and which are rolled over to provide continuing coverage for as long as the investments are held. Where an investment is sold, the related foreign exchange sale contract is effectively closed by entering into an offsetting purchase contract. At December 31, 2000, the Company had, as hedges, foreign exchange contracts for the sale of $121.0 million and the purchase of $25.7 million of foreign currencies at fixed rates, primarily Euros. The notional 30 value of fixed maturities denominated in foreign currencies that were hedged and held by the Company as at December 31, 2000 was $100.6 million. Based on this value, a 10% appreciation or depreciation of the U.S. dollar as compared to the level of other currencies under contract at December 31, 2000 would have resulted in approximately $12.1 million and $1.1 million in unrealized losses, respectively. In connection with these foreign exchange contracts directly hedging foreign currency fixed maturity investments, unrealized foreign exchange gains or losses are deferred and included in accumulated other comprehensive income. As at December 31, 2000, unrealized losses amounted to $10.2 million. Realized gains of $14.6 million were recognized in earnings during 2000. During the year ended December 31, 2000, the Company used foreign exchange contracts to manage its exposure to the effects of fluctuating foreign currencies on the amount of its known claims payable in foreign currencies. These contracts were not designated as specific hedges for financial reporting purposes and therefore, realized and unrealized gains and losses on these contracts were recorded in income in the period in which they occurred. As at December 31, 2000, no contracts were outstanding. A loss of $6.8 million was realized in the year in connection with these contracts. In 2000, the Company used foreign exchange forward contracts to reduce its exposure to premiums receivable denominated in foreign currencies. The forward contract is closely matched with the receivable maturity date. Both the foreign currency receivable and the offsetting forward contract are marked to market on each balance sheet date, with any gains and losses recognized in the income statement. As at December 31, 2000, the Company had forward contracts outstanding for the sale of $10.0 million of foreign currencies at fixed rates, primarily U.K. Sterling. Losses of $0.1 million were realized during 2000. The Company attempts to manage the exchange volatility arising on certain administration costs denominated in foreign currencies. Throughout the year, forward contracts are entered into to acquire the foreign currency at an agreed rate in the future. Any gains or losses on the forward contracts are deferred and included as a component of shareholders' equity. As the administration expenses are incurred, the gains and losses are recognized in the income statement. At December 31, 2000, the Company had forward contracts outstanding for the purchase of $12.8 million of Euros and U.K. Sterling at fixed rates. Gains deferred in accumulated other comprehensive income as at December 31, 2000 were insignificant. No gains or losses were realized during the year. FINANCIAL MARKET EXPOSURE The Company invests in a synthetic equity portfolio of S&P Index futures with an exposure approximately equal in amount to the market value of underlying assets held in this fund. As at December 31, 2000, the portfolio held $43.7 million in exposure to S&P 500 Index futures and underlying assets of $43.2 million. Based on this value, a 10% increase or decrease in the price of these futures would have resulted in exposure of $48.1 million and $39.3 million, respectively. The value of the futures is updated daily with the change recorded in income as a realized gain or loss. For the year ended December 31, 2000, net realized losses from index futures totaled $0.2 million as a result of the 10.1% decrease in the S&P Index during the twelve-month period. Derivative investments are also utilized to add value to the portfolio where market inefficiencies are believed to exist and also to adjust the duration of a portfolio of fixed income securities to match the duration of related deposit liabilities. At December 31, 2000, bond and stock index futures outstanding were $40.1 million with underlying investments having a market value of $2.5 billion. A 10% appreciation or depreciation of these derivative instruments at this time would have resulted in unrealized gains and losses of $4.0 million, respectively. CURRENT OUTLOOK Most of the property and casualty markets in which the Company operates have seen some improvements in pricing and policy terms and conditions for renewals of contracts the Company has underwritten thus far for 2001. However, the Company believes there will need to be a continuation of these improvements for some time in order 31 for the industry to fully recover from the prolonged competitive downturn that has negatively impacted most companies' results over the past several years. CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS The Private Securities Litigation Reform Act of 1995 ("PSLRA") provides a "safe harbor" for forward-looking statements. This Form 10-K, the Company's Annual Report to Stockholders, any proxy statement, any 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 which 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 and the insurance and reinsurance sectors in general (both as to underwriting and investment matters). Statements which include the words "expect", "intend", "plan", "believe", "project", "anticipate", "will", 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. The Company believes that these factors include, but are not limited to, the following: (i) ineffectiveness or obsolescence of the Company's business strategy due to changes in current or future market conditions; (ii) increased competition on the basis of pricing, capacity, coverage terms or other factors; (iii) greater frequency or severity of claims and loss activity, including as a result of natural or man-made catastrophic events, than the Company's underwriting, reserving or investment practices anticipate based on historical experience or industry data; (iv) developments in the world's financial and capital markets which adversely affect the performance of the Company's investments; (v) changes in regulation or tax laws applicable to the Company, its subsidiaries, brokers or customers; (vi) acceptance of the Company's products and services, including new products and services; (vii) changes in the availability, cost or quality of reinsurance; (viii) changes in the distribution or placement of risks due to increased consolidation of insurance and reinsurance brokers; (ix) the impact of the Year 2000-related issues on the Company's underwriting exposures; (x) loss of key personnel; (xi) the effects of mergers, acquisitions and divestitures, including, without limitation, the Winterthur International acquisition; (xii) changes in rating agency policies or practices; (xiii) changes in accounting policies or practices; and (xiv) changes in general economic conditions, including inflation, foreign currency exchange rates and other factors. 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. The Company undertakes no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future developments or otherwise. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND RELATED NOTES PAGE - ------------------------------------------------------------ -------- Consolidated Balance Sheets as at December 31, 2000 and 1999...................................................... 33 Consolidated Statements of Income and Comprehensive income for the years ended December 31, 2000, 1999 and 1998...... 34 Consolidated Statements of Shareholders' Equity for the years ended December 31, 2000, 1999 and 1998.............. 35 Consolidated Statements of Cash Flows for the years ended December 31, 2000, 1999 and 1998.......................... 36 Notes to Consolidated Financial Statements for the years ended December 31, 2000, 1999 and 1998.................... 37
32 XL CAPITAL LTD CONSOLIDATED BALANCE SHEETS AS AT DECEMBER 31, 2000 AND 1999 (U.S. dollars in thousands, except share amounts)
2000 1999 ------------------------- A S S E T S Investments: Fixed maturities at fair value (amortized cost: 2000, $8,714,196; 1999, $7,835,919)...................................... $ 8,605,081 $ 7,581,151 Equity securities, at fair value (cost: 2000, $515,440; 1999, $863,020)........................................ 557,460 1,136,180 Short-term investments, at fair value (amortized cost: 2000, $347,147; 1999, $405,375)........................................ 339,007 405,260 ------------------------- Total investments available for sale................ 9,501,548 9,122,591 Cash and cash equivalents................................... 930,469 557,749 Investments in affiliates................................... 792,723 479,911 Other investments........................................... 177,651 165,613 Accrued investment income................................... 143,235 111,590 Deferred acquisition costs.................................. 309,268 275,716 Prepaid reinsurance premiums................................ 391,789 217,314 Premiums receivable......................................... 1,119,723 1,126,397 Reinsurance balances receivable............................. 196,002 149,880 Unpaid losses and loss expenses recoverable................. 1,339,767 831,864 Intangible assets (accumulated amortization: 2000, $177,260; 1999, $118,663)........................................... 1,591,108 1,626,946 Deferred tax asset, net..................................... 152,168 97,928 Other assets................................................ 296,501 327,413 ------------------------- Total assets........................................ $16,941,952 $15,090,912 ------------------------- L I A B I L I T I E S A N D S H A R E H O L D E R S' E Q U I T Y Liabilities: Unpaid losses and loss expenses............................. $ 5,672,062 $ 5,369,402 Deposit liabilities and policy benefit reserves............. 1,209,926 837,893 Unearned premiums........................................... 1,741,393 1,497,376 Notes payable and debt...................................... 450,032 410,726 Reinsurance balances payable................................ 441,900 387,916 Net payable for investments purchased....................... 1,372,476 622,260 Other liabilities........................................... 439,433 345,738 Minority interest........................................... 41,062 42,523 ------------------------- Total liabilities................................... $11,368,284 $ 9,513,834 ------------------------- Commitments and Contingencies Shareholders' Equity: Authorized, 999,990,000 ordinary shares, par value $0.01 Issued and outstanding: Class A ordinary shares (2000, 125,020,676; 1999, 124,691,541)........................................... $ 1,250 $ 1,247 Class B ordinary shares (2000, Nil; 1999, 3,115,873)...... - 31 Contributed surplus......................................... 2,497,416 2,520,136 Accumulated other comprehensive (loss) income............... (104,712) 19,311 Deferred compensation....................................... (17,727) (28,797) Retained earnings........................................... 3,197,441 3,065,150 ------------------------- Total shareholders' equity.......................... $ 5,573,668 $ 5,577,078 ------------------------- Total liabilities and shareholders' equity.......... $16,941,952 $15,090,912 -------------------------
See accompanying notes to Consolidated Financial Statements 33 XL CAPITAL LTD CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S. dollars in thousands, except per share amounts)
2000 1999 1998 ------------------------------------ Revenues: Net premiums earned....................................... $2,035,240 $1,750,006 $1,324,291 Net investment income..................................... 542,500 525,318 417,290 Net realized gains on sales of investments................ 50,571 94,356 211,204 Equity in net income of affiliates........................ 74,355 40,907 50,292 Fee income and other...................................... 14,793 100,400 22,325 ------------------------------------ Total revenues...................................... 2,717,459 2,510,987 2,025,402 ------------------------------------ Expenses: Losses and loss expenses.................................. 1,432,559 1,304,304 841,517 Acquisition costs......................................... 485,796 380,980 249,341 Operating expenses........................................ 316,892 308,083 188,910 Exchange gains............................................ (59,621) (58) (1,653) Interest expense.......................................... 32,147 37,378 33,444 Amortization of intangible assets......................... 58,597 49,141 26,881 ------------------------------------ Total expenses...................................... 2,266,370 2,079,828 1,338,440 ------------------------------------ Income before minority interest and income tax expense...... 451,089 431,159 686,962 Minority interest in net income of subsidiary............. 1,093 220 749 Income tax (benefit) expense.............................. (56,356) (39,570) 29,883 ------------------------------------ Net income.................................................. $ 506,352 $ 470,509 $ 656,330 ------------------------------------ Change in net unrealized appreciation of investments........ (118,321) (211,842) (15,414) Foreign currency translation adjustments.................... (5,702) (4,032) (872) ------------------------------------ Comprehensive Income........................................ $ 382,329 $ 254,635 $ 640,044 ------------------------------------ Weighted average ordinary shares and ordinary share equivalents outstanding - basic........................... 124,503 127,601 112,034 ------------------------------------ Weighted average ordinary shares and ordinary share equivalents outstanding - diluted......................... 125,697 130,304 116,206 ------------------------------------ Earnings per ordinary share and ordinary share equivalent - basic..................................................... $ 4.07 $ 3.69 $ 5.86 ------------------------------------ Earnings per ordinary share and ordinary share equivalent - diluted................................................... $ 4.03 $ 3.62 $ 5.68 ------------------------------------
See accompanying notes to Consolidated Financial Statements 34 XL CAPITAL LTD CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S. dollars in thousands)
2000 1999 1998 ------------------------------------ Ordinary Shares: Balance - beginning of year............................... $ 1,278 $ 1,287 $ 1,013 Issue of shares........................................... - 1 15 Issue of shares - Mid Ocean acquisition................... - - 291 Exercise of stock options................................. 23 5 3 Repurchase of treasury shares............................. (51) (15) (35) ------------------------------------ Balance - end of year............................... 1,250 1,278 1,287 ------------------------------------ Contributed Surplus: Balance - beginning of year............................... 2,520,136 2,508,062 506,452 Issue of shares........................................... 2,652 15,951 101,502 Issue of shares Mid Ocean acquisition..................... - - 2,093,426 Exercise of stock options................................. 74,538 11,711 9,147 Repurchase of treasury shares............................. (99,910) (15,588) (202,465) ------------------------------------ Balance - end of year............................... 2,497,416 2,520,136 2,508,062 ------------------------------------ Accumulated other comprehensive (loss) income: Balance - beginning of year............................... 19,311 235,185 251,471 Net change in unrealized gains on investment portfolio, net of tax............................................. (112,031) (213,482) (10,352) Net change in unrealized gains on investment portfolio of affiliate........................................... (6,290) 1,640 (5,062) Currency translation adjustments.......................... (5,702) (4,032) (872) ------------------------------------ Balance - end of year............................... (104,712) 19,311 235,185 ------------------------------------ Deferred Compensation: Balance - beginning of year............................... (28,797) (22,954) (18,263) Forfeit (issue) of restricted shares...................... 1,555 (13,603) (10,506) Amortization.............................................. 9,515 7,760 5,815 ------------------------------------ Balance - end of year............................... (17,727) (28,797) (22,954) ------------------------------------ Retained Earnings: Balance - beginning of year............................... 3,065,150 2,891,023 2,455,076 Net income................................................ 506,352 470,509 656,330 Cash dividends paid....................................... (225,572) (212,659) (156,482) Repurchase of treasury shares............................. (148,489) (83,723) (63,901) ------------------------------------ Balance - end of year............................... 3,197,441 3,065,150 2,891,023 ------------------------------------ Total shareholders' equity.................................. $5,573,668 $5,577,078 $5,612,603 ------------------------------------
See accompanying notes to Consolidated Financial Statements 35 XL CAPITAL LTD CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S. dollars in thousands)
2000 1999 1998 ------------------------------------------ Cash flows provided by operating activities: Net income................................................ $ 506,352 $ 470,509 $ 656,330 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Net realized gains on sales of investments................ (50,571) (94,356) (211,204) Amortization of discounts on fixed maturities............. (47,099) (14,429) (14,718) Equity in net income of affiliates........................ (74,355) (40,907) (50,292) Amortization of deferred compensation..................... 8,861 7,657 5,815 Amortization of intangible assets......................... 58,597 49,141 26,881 Unpaid losses and loss expenses........................... 259,728 411,396 323,857 Unearned premiums......................................... 244,017 131,767 52,161 Premiums receivable....................................... 6,674 (166,027) 4,245 Unpaid losses and loss expenses recoverable............... (506,242) (212,928) (221,177) Prepaid reinsurance premiums.............................. (174,475) (1,848) (45,961) Reinsurance balances receivable........................... (46,122) (25,109) (31,103) Other..................................................... 77,086 (25,632) 39,783 ------------------------------------------ Total adjustments................................... (243,901) 18,725 (121,713) ------------------------------------------ Net cash provided by operating activities................. 262,451 489,234 534,617 Cash flows provided by (used in) investing activities: Proceeds from sale of fixed maturities and short-term investments............................................ 22,287,287 15,664,591 15,765,103 Proceeds from redemption of fixed maturities and short-term investments................................. 460,733 134,565 516,418 Proceeds from sale of equity securities................... 1,480,853 1,017,177 918,501 Purchases of fixed maturities and short-term investments............................................ (22,798,463) (16,075,719) (16,460,877) Purchases of equity securities............................ (1,071,351) (803,728) (1,020,032) Deferred (gains) losses on forward contracts.............. 9,388 (509) (12,163) Investments in affiliates, net of dividends received...... (180,818) (342,142) 24,193 Acquisition of subsidiaries, net of cash acquired......... (3,094) (173,206) 41,483 Other investments......................................... (55,917) (120,717) 4,411 Deposit liabilities and policy benefit reserves........... 372,033 837,893 - Other assets.............................................. (40,564) (35,133) 13,430 ------------------------------------------ Net cash provided by (used in) investing activities......... 460,087 103,072 (209,533) Cash flows provided by (used in) financing activities: Issue of shares........................................... - 69 514 Proceeds from exercise of stock options................... 74,561 14,014 15,092 Repurchase of treasury shares............................. (248,450) (99,344) (266,401) Dividends paid............................................ (225,572) (212,659) (156,481) Proceeds from loans....................................... 250,300 328,700 655,000 Repayment of notes........................................ - (100,000) - Repayment of loans........................................ (211,000) (339,735) (495,000) Repayment of debentures................................... - (101,737) - Minority interest......................................... 10,892 (4,900) 19,988 ------------------------------------------ Net cash used in financing activities....................... (349,269) (515,592) (227,288) Effects of exchange rate changes on foreign currency cash... (549) 161 (516) Increase in cash and cash equivalents....................... 372,720 76,875 97,280 Cash and cash equivalents - beginning of year............... $ 557,749 $ 480,874 $ 383,594 ------------------------------------------ Cash and cash equivalents - end of year..................... $ 930,469 $ 557,749 $ 480,874 ------------------------------------------ Net taxes received (paid)................................... $ 13,347 $ (30,246) $ (31,200) ------------------------------------------ Interest paid............................................... $ (30,505) $ (28,268) $ (32,800) ------------------------------------------
See accompanying notes to Consolidated Financial Statements 36 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31 2000, 1999 AND 1998 (U.S. dollars in thousands, except per share amounts) 1. HISTORY XL Capital Ltd (sometimes referred to as the "Company") is a holding company organized under the laws of the Cayman Islands. XL was incorporated on March 16, 1998, as the successor to EXEL Limited, a Cayman Islands corporation organized in 1986, in connection with EXEL's merger with Mid Ocean Limited, a Cayman Islands corporation. The merger was accounted for as a purchase under U.S. generally accepted accounting principles ("GAAP") and as such, results of operations of Mid Ocean are included from August 1, 1998, the effective date of the merger. In the merger, all of the shares of EXEL and Mid Ocean were exchanged for shares in the Company according to two schemes of arrangement under Cayman Islands law. The Company operated under the name "EXEL Limited" from completion of the merger until February 1, 1999 when its current name was approved by the requisite vote of the Company's shareholders. References herein to XL Capital or the Company also shall include EXEL unless the context otherwise requires. The Company is a leading provider of insurance and reinsurance, including coverages relating to certain financial risks, to industrial, commercial and professional service firms, insurance companies and other enterprises on a worldwide basis. In 1999, XL Capital merged with NAC Re Corp, a Delaware corporation. The merger has been accounted for as a "pooling of interests" under U.S. GAAP. Under pooling of interests accounting, it is assumed that XL Capital and NAC have been merged from the date of incorporation of the Company, and accordingly, all prior period information contained in these financial statements includes the results of NAC. NAC was organized in 1985 and, through its subsidiaries, writes property and casualty insurance and reinsurance in the U.S., Canada and Europe. Subsequent to the merger agreement, XL Capital amended its financial year from November 30 to December 31 as a conforming pooling adjustment and to facilitate year end reporting for its subsidiaries. XL Insurance, a company organized under the laws of Bermuda, was formed in 1986 in response to a shortage of high excess liability coverage for Fortune 500 companies in the U.S. In 1990, XL Insurance formed XL Europe, an insurance company organized under the laws of Ireland to serve European clients and, in 1998, formed two companies now known as XL Insurance Company of New York and XL Capital Assurance. XL Re, formerly XL Mid Ocean Re, is organized under the laws of Bermuda. On August 7, 1998, XL Mid Ocean Re was formed through the merger of XL Global Reinsurance and Mid Ocean Re. Mid Ocean Re and Global Capital Re were organized in 1992 and 1993, respectively, initially to write property catastrophe reinsurance following a reduction in market capacity due to the effects of severe hurricanes that struck the southeastern United States in the late 1980's and early 1990's. The Company further expanded into the U.S. in 1999 by completing the acquisition of both Intercargo Corporation and ECS, Inc. Intercargo, renamed XL Specialty, underwrites specialty insurance products for companies engaged in international trade, including U.S. Customs bonds and marine cargo insurance. ECS is an underwriting manager, which specializes in environmental insurance coverages and risk management services. XL Brockbank, formerly Brockbank, was acquired through the merger with Mid Ocean. XL Brockbank is organized under the laws of the United Kingdom and is a leading Lloyd's managing agency that provides underwriting and similar services to five Lloyd's syndicates. Two of these syndicates are dedicated corporate syndicates whose capital is provided solely by the Company. The two corporate syndicates, which commenced operations on January 1, 1996, underwrite property, marine and energy, aviation, satellite, professional indemnity and other specialty lines of insurance and reinsurance to a global client base. As a managing agency, XL Brockbank may receive fees and commissions in respect of underwriting services it provides to the non-related syndicates. In the fourth quarter of 1999, XL Brockbank sold its two motor insurance businesses, Admiral and Zenith. 37 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31 2000, 1999 AND 1998 (CONTINUED) (U.S. dollars in thousands, except per share amounts) 1. HISTORY (CONTINUED) Denham Syndicate Management Limited was acquired in 1998 and it also provides underwriting and similar services to one corporate syndicate, whose capital is partially provided by the Company. This syndicate writes a specialized book of international business, concentrating on long-tail casualty and non-marine physical damage. The Company has pursued a strategy of entering into ventures with other organizations that possess expertise in lines of business that the Company wishes to write. These ventures are considered to be of strategic importance. The Company's principal ventures are in the areas of financial guaranty insurance, life insurance for high net worth individuals, political risk insurance and currency and related risk management. In July 1999, the Company entered into a venture with Les Mutuelles du Mans Assurances Group to form a new French reinsurance company, Le Mans Re. The Company owns a 49% shareholding in the new company, which underwrites a worldwide portfolio comprising most classes of property and casualty reinsurance business together with a selective portfolio of life reinsurance business. In 1999, the Company made strategic minority investments in two investment management firms. The Company acquired minority investments in Highfields Capital Management L.P., a global equity investment firm, and MKP Capital Management, a New York-based fixed income investment manager specializing in mortgage-backed securities. In 1998, the Company entered into a venture with FSA Holdings Ltd to write financial guaranty insurance and reinsurance. Under the terms of the venture, each of the Company and FSA formed a Bermuda insurance company in which it is the majority shareholder and made a minority investment in the company formed by its co-venturer. The Company formed Reeve Court Insurance, a Bermuda company organized as a venture with such company's management for the purpose of providing life insurance to high net worth individuals in 1998. In 1997, the Company acquired a 75% holding in Latin American Re, a Bermuda reinsurance company. The remaining minority interest was purchased in 2000. The Company formed Sovereign Risk Insurance as a joint venture in 1997. Sovereign is a Bermuda-based managing general agency that writes political risk insurance on a subscription basis on behalf of its shareholders. In 1996, the Company acquired approximately 30% of Pareto Partners, a firm that specializes in foreign currency management and related services. 2. SIGNIFICANT ACCOUNTING POLICIES (A) BASIS OF PREPARATION These consolidated financial statements include the accounts of the Company and all of its subsidiaries and have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). They include the merger with NAC, which occurred in June 1999, and which has been accounted for as a "pooling of interests" under U.S. GAAP. They are based upon the Company's fiscal year end of December 31. Results of operations, statements of position and cash flows include NAC as though it had always been a part of the Company. All significant intercompany accounts and transactions have been eliminated. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amount 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. Actual results could differ from those estimates. 38 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31 2000, 1999 AND 1998 (CONTINUED) (U.S. dollars in thousands, except per share amounts) 2. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) (B) PREMIUMS AND ACQUISITION COSTS Premiums written are recorded in accordance with the terms of the underlying policies. Reinsurance premiums assumed are estimated based upon information received from ceding companies and any subsequent differences arising on such estimates are recorded in the period they are determined. Financial guaranty installment premiums are recorded as premiums written when reported. Premiums are earned on a monthly pro-rata basis over the period the coverage is provided. Financial guaranty insurance premiums are earned over the life of the exposure. Unearned premiums represent the portion of premiums written which is applicable to the unexpired terms of policies in force. Premiums written and unearned premiums are presented after deductions for reinsurance ceded to other insurance companies. Acquisition costs, which vary with and are related to the acquisition of policies, primarily commissions paid to brokers, are deferred and amortized over the period the premiums are earned. Future earned premiums, the anticipated losses and other costs, together with investment income related to those premiums are also considered in determining the level of acquisition costs to be deferred. (C) REINSURANCE In the normal course of business, the Company seeks to reduce the loss that may arise from events that could cause unfavorable underwriting results by reinsuring certain levels of risk in various areas of exposure with other insurance enterprises or reinsurers. Reinsurance premiums ceded are expensed and the commissions recorded thereon are earned on a monthly pro-rata basis over the period the reinsurance coverage is provided. Prepaid reinsurance premiums represent the portion of premiums ceded that is applicable to the unexpired term of policies in force. Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability associated with the reinsured policy. Provision is made for estimated unrecoverable reinsurance. (D) FEE INCOME AND OTHER Fee income and other includes fees earned for services, together with premiums, net of loss reserve estimates, on credit default swaps. The Company recognizes fee income over the estimated performance or risk period of the related services provided. Any adjustments to those estimated periods any cumulative adjustments resulting therefrom are reflected in income in the year in which the adjustment is made. (E) INVESTMENTS Investments are considered available for sale and are carried at fair value. The fair value of investments is based upon quoted market values where available or by reference to broker or underwriter bid indications. The net unrealized appreciation or depreciation on investments, net of tax, is included in accumulated other comprehensive income. Any unrealized depreciation in value considered by management to be other than temporary is charged to income in the period that it is determined. Short-term investments comprise investments with a maturity equal to or greater than 90 days but less than one year. Equity securities include investments in open end mutual funds. All investment transactions are recorded on a trade date basis. Realized gains and losses on sales of equities and fixed income investments are determined on the basis of average cost and amortized cost, respectively. Investment income is recognized when earned and includes 39 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31 2000, 1999 AND 1998 (CONTINUED) (U.S. dollars in thousands, except per share amounts) 2. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) interest and dividend income together with the amortization of premium and discount on fixed maturities and short-term investments. Financial futures and forward currency contracts are carried at fair value, with the corresponding realized or unrealized gain or loss included in income, except in the instance of forward foreign currency contracts that are used to hedge currency risks on specific investments. Gains and losses from these contracts are deferred and included in accumulated other comprehensive income until the corresponding investment asset is sold. (F) CASH EQUIVALENTS Cash equivalents include fixed interest deposits placed with a maturity of under 90 days when purchased. (G) FOREIGN CURRENCY TRANSLATION Assets and liabilities of foreign operations whose functional currency is other than the U.S. dollar are translated at year end exchange rates. Revenue and expenses of such foreign operations are translated at average exchange rates during the year. The effect of the translation adjustments for foreign operations, net of applicable deferred income taxes, is included in accumulated other comprehensive income. Other monetary assets and liabilities denominated in foreign currencies are translated at the exchange rate in effect at the balance sheet date with the resulting foreign exchange gains and losses recognized in income, unless the foreign currency exposure is directly hedged as discussed above. Revenue and expense transactions are translated at the average exchange rates prevailing during the year. (H) INVESTMENTS IN AFFILIATES Investments in which the Company has significant influence over the operations are classified as affiliates and are carried under the equity method of accounting. Under this method, the Company records its proportionate share of income or loss from such investments in its results of operations. (I) OTHER INVESTMENTS The Company accounts for its other investments, including investments in limited partnerships, on a cost basis as it has no significant influence over these entities. Investments are written down to their realizable value where management considers there is an other than temporary decline in value. Income is recorded when received. (J) AMORTIZATION OF INTANGIBLE ASSETS Intangible assets represent goodwill recorded in connection with the Company's business combinations and are amortized on a straight-line basis over the expected life of the related operations acquired, not exceeding 40 years. The Company evaluates the recoverability of its intangible assets whenever changes in circumstances warrant. If it is determined that an impairment exists, the excess of the unamortized balance over the fair value of the intangible asset will be charged to earnings at that time. 40 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31 2000, 1999 AND 1998 (CONTINUED) (U.S. dollars in thousands, except per share amounts) 2. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) (K) LOSSES AND LOSS EXPENSES Unpaid losses and loss expenses includes reserves for unpaid reported losses and loss expenses and for losses incurred but not reported. The reserve for unpaid reported losses and loss expenses is established by management based on amounts reported from insureds or ceding companies and consultation with independent legal counsel, and represents the estimated ultimate cost of events or conditions that have been reported to or specifically identified by the Company. The Company recognizes as a component of loss reserves, the loss experience accounts of policyholders for policies written on a multi-year basis where experience accounts are a percentage of premiums net of related losses paid. Interest expense on the experience accounts is charged to investment income. In the event the insured cancels the policy, the return of the experience account is treated as a return premium if there has been no loss notification. The reserve for losses incurred but not reported has been estimated by management in consultation with independent actuaries and is based on loss development patterns determined by reference to the Company's underwriting practices, the policy form and the experience of the relevant industries. Certain workers' compensation reserves are considered fixed and determinable and are subject to tabular reserving. Such tabular reserves are discounted using an interest rate of 7%. Management believes that the reserves for unpaid losses and loss expenses are sufficient to pay losses that fall within coverages assumed by the Company. However, there can be no assurance that losses will not exceed the Company's total reserves. The methodology of estimating loss reserves is periodically reviewed to ensure that the assumptions made continue to be appropriate and any adjustments resulting therefrom are reflected in income of the year in which the adjustments are made. (L) DEPOSIT LIABILITIES AND POLICY BENEFIT RESERVES Short duration contracts entered into by the Company which are not deemed to transfer significant underwriting and/or timing risk are accounted for as deposits, whereby liabilities are initially recorded at the same amount as assets received. An initial accretion rate is established based on actuarial estimates whereby the deposit liability is increased to the estimated amount payable over the term of the contract. This accretion charge is presented in the period as either interest income where the contract does not transfer underwriting risk, or net losses and loss expenses incurred where the contract does not transfer significant timing risk. Policy benefit reserves relate to long duration contracts written by the Company which do not transfer significant mortality or morbidity risks, and are also accounted for as deposits. The Company will periodically re-assess the amount of deposit liabilities and policy benefit reserves. Any changes to the estimated ultimate liability will be reflected as an adjustment to earnings to reflect the cumulative effect to date of the period the contract has been in force and by an adjustment to the future accretion rate of the liability over the remaining estimated contract term. (M) INCOME TAXES The Company utilizes the asset and liability method of accounting for income taxes. Under this method, deferred income taxes reflect the net tax effect of temporary differences between the carrying amounts of assets and 41 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31 2000, 1999 AND 1998 (CONTINUED) (U.S. dollars in thousands, except per share amounts) 2. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) liabilities for financial reporting purposes and the amounts used for income tax purposes. A valuation allowance is established for any portion of a deferred tax asset that management believes will not be realized. (N) STOCK PLANS The Company accounts for stock compensation plans in accordance with Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees". Accordingly, compensation expense for stock option grants and stock appreciation rights is recognized to the extent that the fair value of the stock exceeds the exercise price of the option at the measurement date. (O) PER SHARE DATA Basic earnings per share is based on weighted average common shares outstanding and excludes any dilutive effects of options and convertible securities. Diluted earnings per share assumes the conversion of dilutive convertible securities and the exercise of all dilutive stock options. (P) FAIR VALUE OF FINANCIAL INSTRUMENTS Fair value of certain assets and liabilities are based on published market values, if available, or estimates of fair value of similar issues. Fair values are reported in Notes 4 and 10. (Q) RECENT ACCOUNTING PRONOUNCEMENTS The Financial Accounting Standards Board issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities," (FAS 133) in June 1998. FAS 133 establishes accounting and reporting standards for derivative instruments embedded in other contracts (collectively referred to as derivatives), and for hedging activity. It requires an entity to recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. The Company will adopt FAS 133, as amended, as of January 1, 2001. Credit default swaps issued by the Company meet the definition of a derivative under FAS 133. From January 1, 2001 the Company will record these products at fair value, with the fair value adjustment being recorded in earnings in each period. The level of such adjustments will be dependent upon a number of factors including changes in interest rates, credit spreads and other market factors. The Company has established a committee and completed an implementation plan to identify all derivatives, evaluate risk management hedging strategies and determine appropriate valuation methodologies in order to assess the impact that adoption of this statement will have on its financial position and results of operation. Based on the Company's current accounting treatment for derivatives and as a result of its review, the Company has estimated that FAS 133, as amended, will not have a significant impact on the results of operations, financial condition or liquidity in future periods. 3. SEGMENT INFORMATION The Company is organized into three underwriting segments - insurance, reinsurance, and financial products and services - in addition to a corporate segment that includes the investment operations of the Company. Lloyd's syndicates are part of the insurance segment but are described separately as the nature of the business written and the market in which the Lloyd's syndicates underwrite are significantly different to the Company's other insurance 42 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31 2000, 1999 AND 1998 (CONTINUED) (U.S. dollars in thousands, except per share amounts) 3. SEGMENT INFORMATION (CONTINUED) subsidiaries. Certain business written by the Company has loss experience characterized as low frequency and high severity. This may result in volatility in both the Company's results and operational cash flows. INSURANCE OPERATIONS - EXCLUDING LLOYD'S SYNDICATES Insurance business written includes general liability, other liability including directors and officers, professional and employment practices liability, environmental liability, property, program business, marine, aviation, satellite and other product lines including U.S. Customs bonds, surety, political risk and specialty lines. INSURANCE OPERATIONS - LLOYD'S SYNDICATES The Lloyd's syndicates write property, marine and energy, aviation and satellite, professional indemnity, liability coverage and other specialty lines, primarily of insurance but also reinsurance. REINSURANCE OPERATIONS Reinsurance business written includes treaty and facultative reinsurance to primary insurers of casualty risks, principally: general liability; professional liability; automobile and workers' compensation; commercial and personal property risks; specialty risks including fidelity and surety and ocean marine; property catastrophe; property excess of loss; property pro-rata; marine and energy; aviation and satellite; and various other reinsurance to insurers on a worldwide basis. The Company endeavors to manage its exposures to catastrophic events by limiting the amount of its exposure in each geographic zone worldwide and requires that its property catastrophe contracts provide for aggregate limits and varying attachment points. FINANCIAL PRODUCTS AND SERVICES Financial products and services business written includes insurance and reinsurance solutions for complex financial risks. These include financial guaranty insurance and reinsurance, credit enhancement swaps and other collateralized transactions. While each of these is unique and is tailored for the specific needs of the insured, they are typically multi-year policies. Due to the nature of these types of policies, premium volume as well as profit margin can vary significantly from period to period. The Company has approached this market on a "net-line" basis, but may cede a portion of some risks to third parties from time to time. In 1999, the Company began assuming large loss portfolios as part of its new asset accumulation strategy. 43 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 3. SEGMENT INFORMATION (CONTINUED) The Company evaluates performance of each segment based on underwriting profit or loss. Other items of revenue and expenditure of the Company are not evaluated at the segment level. In addition, management does not allocate assets by segment. The following is an analysis of the underwriting profit or loss by segment together with a reconciliation of underwriting profit or loss to net income:
LLOYD'S FINANCIAL YEAR ENDED DECEMBER 31, 2000 INSURANCE SYNDICATES REINSURANCE SERVICES TOTAL - ---------------------------- ------------------------------------------------------------- Net premiums earned......................... $726,506 $357,824 $927,195 $ 23,715 $2,035,240 Fee income and other........................ 7,692 (6,626) (2,197) 15,924 14,793 Net losses and loss expenses (2)............ 502,898 260,372 663,173 6,116 1,432,559 Acquisition costs........................... 117,251 119,870 247,352 1,323 485,796 Operating expenses (3)...................... 94,129 28,727 102,132 29,969 254,957 Exchange (gains) and losses................. (2,344) (5,986) 3,868 - (4,462) ------------------------------------------------------------- Underwriting profit (loss).................. $ 22,264 $(51,785) $(91,527) $ 2,231 $ (118,817) Net investment income....................... 542,500 Net realized gains on investments........... 50,571 Equity in net earnings of affiliates........ 74,355 Interest expense............................ 32,147 Amortization of intangible assets........... 58,597 Corporate operating expenses (3)............ 61,935 Other exchange gain......................... 55,159 Minority interest........................... 1,093 Income tax benefit.......................... 56,356 ---------- Net income.................................. $ 506,352 ---------- Loss and loss expense ratio................. 69.2% 72.8% 71.5% 25.8% 70.4% Underwriting expense ratio.................. 29.1% 41.5% 37.7% 131.9% 36.4% ------------------------------------------------------------- Combined ratio.............................. 98.3% 114.3% 109.2% 157.7% 106.8% -------------------------------------------------------------
(1) Ratios are based on net premiums earned, excluding fee income and other. The underwriting expense ratio excludes exchange gains and losses. (2) Net losses and loss expenses for the insurance segment include, and the reinsurance segment exclude, $33.5 million relating to an intercompany stop loss arrangement. Total results are not affected. The loss and loss expense ratio would have been 64.6% and 75.1% and the underwriting results would have been a profit of $55.8 million and a loss of $125.0 million in the insurance and reinsurance segments, respectively, had this stop loss arrangement not been in place. (3) Operating expenses exclude corporate operating expenses, shown separately. 44 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 3. SEGMENT INFORMATION (CONTINUED)
LLOYD'S FINANCIAL YEAR ENDED DECEMBER 31, 1999 INSURANCE SYNDICATES REINSURANCE SERVICES TOTAL - ---------------------------- -------------------------------------------------------------- Net premiums earned........................ $463,069 $355,769 $ 909,915 $ 21,253 $1,750,006 Fee income and other....................... 7,584 65,892 - 26,924 100,400 Net losses and loss expenses (2)........... 309,079 297,595 692,269 5,361 1,304,304 Acquisition costs.......................... 65,318 89,195 224,359 2,108 380,980 Operating expenses (3)..................... 71,094 29,305 101,978 16,670 219,047 Exchange (gains) and losses................ (165) (1,180) 1,286 - (59) -------------------------------------------------------------- Underwriting profit (loss)................. $ 25,327 $ 6,746 $(109,977) $ 24,038 $ (53,866) Net investment income...................... 525,318 Net realized gains on investments.......... 94,356 Equity in net earnings of affiliates....... 40,907 Interest expense........................... 37,378 Amortization of intangible assets.......... 49,141 Corporate operating expenses (4)........... 89,037 Minority interest.......................... 220 Income tax benefit......................... (39,570) ---------- Net income................................. $ 470,509 ---------- Loss and loss expense ratio................ 66.7% 83.6% 76.1% 25.2% 74.5% Underwriting expense ratio................. 29.5% 33.3% 35.9% 88.4% 34.3% -------------------------------------------------------------- Combined ratio............................. 96.2% 116.9% 112.0% 113.6% 108.8% --------------------------------------------------------------
(1) Ratios are based on net premiums earned, excluding fee income and other. The underwriting expense ratio excludes exchange gains and losses. (2) Net losses and loss expenses for the insurance segment include, and the reinsurance segment exclude, $100.0 million relating to an intercompany stop loss arrangement. Total results are not affected. The loss and loss expense ratio would have been 45.2% and 87.1% and the underwriting results would have been a profit of $125.3 million and a loss of $210.0 million in the insurance and reinsurance segments, respectively, had this stop loss arrangement not been in place. (3) Operating expenses exclude corporate operating expenses, shown separately. (4) Corporate operating expenses include one-time charges of $45.3 million related to the merger with NAC. 45 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 3. SEGMENT INFORMATION (CONTINUED)
LLOYD'S FINANCIAL YEAR ENDED DECEMBER 31, 1998 INSURANCE SYNDICATES REINSURANCE SERVICES TOTAL - ---------------------------- ------------------------------------------------------------- Net premiums earned........................... $410,030 $153,852 $760,409 $ - $1,324,291 Fee income and other.......................... 8,244 14,081 - - 22,325 Net losses and loss expenses.................. 267,823 118,111 455,583 - 841,517 Acquisition costs............................. 47,688 30,614 171,039 - 249,341 Operating expenses (2)........................ 49,702 15,399 86,670 - 151,771 Exchange gains................................ - (524) (1,129) - (1,653) ------------------------------------------------------------- Underwriting profit (loss).................... $ 53,061 $ 4,333 $ 48,246 $ - $ 105,640 Net investment income......................... 417,290 Net realized gains on investments............. 211,204 Equity in net earnings of affiliates.......... 50,292 Interest expense.............................. 33,444 Amortization of intangible assets............. 26,881 Corporate operating expenses (3).............. 37,139 Minority interest............................. 749 Income tax expense............................ 29,883 ---------- Net income.................................... $ 656,330 ---------- Loss and loss expense ratio................... 65.4% 76.8% 60.0% N/A 63.5% Underwriting expense ratio.................... 23.8% 29.9% 33.9% N/A 30.3% ------------------------------------------------------------- Combined ratio................................ 89.2% 106.7% 93.9% N/A 93.8% -------------------------------------------------------------
(1) Ratios are based on net premiums earned, excluding fee income and other. The underwriting expense ratio excludes exchange gains and losses (2) Operating expenses exclude corporate operating expenses, shown separately. (3) Corporate operating expenses include one-time charges of $17.5 million related to the merger with Mid Ocean. 46 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 3. SEGMENT INFORMATION (CONTINUED) SUPPLEMENTAL SEGMENT AND GEOGRAPHIC INFORMATION The following table is an analysis of the Company's gross premiums written, net premiums written and net premiums earned by line of business:
YEAR ENDED DECEMBER 31 ------------------------------------ GROSS PREMIUM WRITTEN: 2000 1999 1998 ------------------------------------ Casualty insurance.......................................... $ 634,189 $ 297,899 $ 411,405 Casualty reinsurance........................................ 493,362 481,392 311,057 Property catastrophe........................................ 159,771 147,372 80,420 Other property.............................................. 568,441 424,666 315,013 Marine, energy, aviation and satellite...................... 365,850 212,452 108,701 Lloyd's syndicates (1)...................................... 486,640 591,520 162,773 Other (2)................................................... 420,778 287,619 254,170 ------------------------------------ Total....................................................... $3,129,031 $2,442,920 $1,643,539 ------------------------------------ NET PREMIUM WRITTEN: 1999 1998 ------------------------------------ Casualty insurance.......................................... $ 396,935 $ 232,614 $ 301,362 Casualty reinsurance........................................ 326,127 419,000 268,460 Property catastrophe........................................ 132,288 128,863 71,380 Other property.............................................. 404,749 311,312 231,690 Marine, energy, aviation and satellite...................... 230,356 152,783 82,484 Lloyd's syndicates (1)...................................... 311,814 423,880 145,691 Other (2)................................................... 313,971 233,431 223,197 ------------------------------------ Total....................................................... $2,116,240 $1,901,883 $1,324,264 ------------------------------------ NET PREMIUM EARNED: 1999 1998 ------------------------------------ Casualty insurance.......................................... $ 358,653 $ 272,677 $ 287,438 Casualty reinsurance........................................ 390,452 331,778 282,245 Property catastrophe........................................ 132,818 133,420 122,583 Other property.............................................. 334,347 324,571 233,405 Marine, energy, aviation and satellite...................... 212,273 163,112 92,147 Lloyd's syndicates (1)...................................... 357,824 355,769 153,852 Other (2)................................................... 248,873 168,679 152,621 ------------------------------------ Total....................................................... $2,035,240 $1,750,006 $1,324,291 ------------------------------------
(1) Lloyd's syndicates write a variety of coverages encompassing most of the above lines of business. (2) Other premiums written and earned include political risk, surety, bonding and warranty. 47 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 3. SEGMENT INFORMATION (CONTINUED) The following table shows an analysis of the Company's net premiums written by geographical location of subsidiary:
NET PREMIUMS WRITTEN: 2000 1999 1998 ------------------------------------ Bermuda..................................................... $ 609,609 $ 561,750 $ 534,092 United States............................................... 934,110 684,468 497,364 Europe and other............................................ 572,521 655,665 292,808 ------------------------------------ Total....................................................... $2,116,240 $1,901,883 $1,324,264 ------------------------------------
MAJOR CUSTOMERS During 2000, 1999 and 1998, approximately 22%, 21% and 34%, respectively, of the Company's consolidated gross written premiums were generated from or placed by Marsh & McLennan Companies. During 2000, 1999 and 1998, approximately 16%, 13% and 19%, respectively, of the Company's consolidated gross written premiums were generated from or placed by AON Corporation and its subsidiaries. No other broker accounted for more than 10% of gross premiums written in each of the three years ended December 31, 2000. 4. INVESTMENTS Net investment income is derived from the following sources:
YEAR ENDED DECEMBER 31 ------------------------------ 2000 1999 1998 ------------------------------ Fixed maturities, short-term investments and cash equivalents............................................ $551,317 $538,169 $423,612 Equity securities........................................... 10,661 11,835 19,596 ------------------------------ Total investment income............................. 561,978 550,004 443,208 Investment expenses......................................... 19,478 24,686 25,918 ------------------------------ Net investment income....................................... $542,500 $525,318 $417,290 ------------------------------
48 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 4. INVESTMENTS (CONTINUED) The following represents an analysis of realized gains (losses) and the change in unrealized appreciation on investments:
YEAR ENDED DECEMBER 31 --------------------------------- 2000 1999 1998 --------------------------------- Net realized gains (losses): Fixed maturities and short-term investments: Gross realized gains...................................... $780,430 $ 116,226 $445,086 Gross realized losses..................................... (815,419) (214,196) (398,046) --------------------------------- Net realized gains (losses)......................... (34,989) (97,970) 47,040 Equity securities: Gross realized gains...................................... 303,503 254,779 613,186 Gross realized losses..................................... (149,842) (62,453) (463,159) --------------------------------- Net realized gains.................................. 153,661 192,326 150,027 Write down of other investments............................. (66,200) - - Net realized (loss)gain on sale of investment in affiliate................................................. (1,901) - 14,137 --------------------------------- Net realized gains on investments................... 50,571 94,356 211,204 --------------------------------- Change in unrealized appreciation: Fixed maturities and short-term investments............... 137,628 (333,868) (37,741) Equity securities......................................... (231,140) 101,652 41,819 Deferred (losses) gains on forward contracts.............. (9,388) 762 (13,708) Investment portfolio of affiliates........................ (6,290) (11,438) (5,062) Change in deferred income tax liability................... (9,131) 31,050 (722) --------------------------------- Net change in unrealized appreciation on investments............................................ (118,321) (211,842) (15,414) --------------------------------- Total net realized gains (losses) and change in unrealized appreciation on investments............ $(67,750) $(117,486) $195,790 ---------------------------------
There were no significant non-income producing investments as at December 31, 2000, 1999 and 1998. 49 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 4. INVESTMENTS (CONTINUED) The cost (amortized cost for fixed maturities and short-term investments), market value and related unrealized gains (losses) of investments are as follows:
COST OR GROSS GROSS AMORTIZED UNREALIZED UNREALIZED MARKET DECEMBER 31, 2000 COST GAINS LOSSES VALUE - ----------------- ------------------------------------------------- Fixed maturities: U.S. Government and Government agency.............. $1,361,972 $ 51,524 $ (1,373) $1,412,123 Corporate.......................................... 4,419,283 65,962 (255,122) 4,230,123 Mortgage-backed securities......................... 1,818,697 18,649 (6,951) 1,830,395 U.S. States and political subdivisions of the States.......................................... 516,949 18,936 (2,100) 533,785 Non-U.S. Sovereign Government...................... 597,295 16,318 (14,958) 598,655 ------------------------------------------------- Total fixed maturities....................... $8,714,196 $171,389 $ (280,504) $8,605,081 ------------------------------------------------- Short-term investments: U.S. Government and Government agency.............. $ 162,641 202 $ (27) $ 162,816 Corporate.......................................... 179,709 1,451 (9,539) 171,621 Non-U.S. Sovereign Government...................... 4,797 52 (279) 4,570 ------------------------------------------------- Total short-term investments................. $ 347,147 $ 1,705 $ (9,845) $ 339,007 ------------------------------------------------- Total equity securities.............................. $ 515,440 $ 84,650 $ (42,630) $ 557,460 ------------------------------------------------- GROSS COST ORGROSS UNREALIZEDRTIUNREALIZED MARKET DECEMBER 31, 1999 GAINS COST LOSSES VALUE ------------------------------------------------- - ----------------- Fixed maturities: U.S. Government and Government agency.............. $ 560,628 $ 1,011 $ (12,532) $ 549,107 Corporate.......................................... 4,610,613 31,407 (234,730) 4,407,290 Mortgage-backed securities......................... 1,118,104 682 (23,602) 1,095,184 U.S. States and political subdivisions of the States.......................................... 779,328 7,850 (17,402) 769,776 Non-U.S. Sovereign Government...................... 767,246 10,809 (18,261) 759,794 ------------------------------------------------- Total fixed maturities....................... $7,835,919 $ 51,759 $ (306,527) $7,581,151 ------------------------------------------------- Short-term investments: U.S. Government and Government agency.............. $ 82,475 $ - $ (63) $ 82,412 Corporate.......................................... 315,834 229 (270) 315,793 Non-U.S. Sovereign Government...................... 7,066 - (11) 7,055 ------------------------------------------------- Total short-term investments................. $ 405,375 $ 229 $ (344) $ 405,260 ------------------------------------------------- Total equity securities.............................. $ 863,020 $377,302 $ (104,142) $1,136,180 -------------------------------------------------
50 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 4. INVESTMENTS (CONTINUED) The contractual maturities of fixed maturity securities are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
DECEMBER 31, 2000 DECEMBER 31, 1999 ----------------------- ----------------------- AMORTIZED MARKET AMORTIZED MARKET COST VALUE COST VALUE ------------------------------------------------- Due after 1 through 5 years......................... $1,829,636 $1,791,752 $2,091,280 $2,025,736 Due after 5 through 10 years........................ 1.906,291 1,873,982 1,816,040 1,773,639 Due after 10 years.................................. 3,159,572 3,105,941 2,810,495 2,686,592 Mortgage-backed securities.......................... 1,818,697 1,833,406 1,118,104 1,095,184 ------------------------------------------------- $8,714,196 $8,605,081 $7,835,919 $7,581,151 -------------------------------------------------
At December 31, 2000 and 1999, approximately $113.1 million and $89.4 million, respectively, of securities were on deposit with various U.S. state or government insurance departments in order to comply with relevant insurance regulations. The Company has two facilities available for the issue of letters of credit collateralized against the Company's investment portfolio with a value of $483.0 million at December 31, 2000 and $791.4 million at December 31, 1999. At December 31, 2000 and 1999, approximately $160.0 million and $591.0 million, respectively, of letters of credit were issued and outstanding under these facilities. Included in cash and invested assets at December 31, 2000 and 1999 are approximately $18.0 million and $16.6 million, respectively, of assets held in an escrow account in accordance with U.S. insurance regulations. 5. INVESTMENTS IN AFFILIATES The Company's investment in affiliates and equity in net income from such affiliates are summarized below:
DECEMBER 31, 2000 DECEMBER 31, 1999 DECEMBER 31, 1998 ---------------------- ---------------------- ---------------------- EQUITY IN EQUITY IN EQUITY IN NET INCOME NET INCOME NET INCOME CARRYING FOR THE CARRYING FOR THE CARRYING FOR THE VALUE YEAR VALUE YEAR VALUE YEAR --------- ---------- --------- ---------- --------- ---------- Investment management companies and related investment funds.... $571,022 $70,032 $291,723 $43,865 $ 10,609 $(1,400) Insurance affiliates............. 221,700 4,323 188,188 2,958 144,059 51,692 -------- ------- -------- ------- -------- ------- $792,722 $74,355 $479,911 $40,907 $154,668 $50,292
The Company has minority investments ranging from 20% to 30% in several investment fund managers. The significant investments include Highfields Capital Management LP, a global equity investment firm, and MKP Capital Management, a fixed income investment manager specializing in mortgage-backed securities. The Company has invested in certain closed end funds, including funds managed by these investment fund managers, all of which are included in investment management companies and related investment funds, above. 51 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 5. INVESTMENTS IN AFFILIATES (CONTINUED) The Company's significant insurance affiliate investments at December 31, 2000 include Le Mans Re, Annuity & Life Re ("ALRe") and FSA International, with ownership in those entities at 49%, 11% and 20%, respectively. Insurance affiliates included Risk Capital Holdings at December 31, 1999 and 1998, and Mid Ocean at December 31, 1998. The Company owned approximately 28% of the issued shares of Arch Capital (formerly Risk Capital Holdings) at December 31, 1999. In 2000, the Company exchanged its shares in Arch Capital and $3.6 million in cash for Arch Capital's ownership in Latin American Re and 1.4 million shares and 100,000 warrants in ALRe, in which the Company had an existing investment. ALRe is a Bermuda-based company and is a leading provider of annuity and life reinsurance to insurance companies in North America. Although the Company has beneficial ownership of only 11% of ALRe's outstanding common shares, XL is deemed to have significant influence as the Company has representatives on ALRe's board of directors. Based upon the quoted market value of ALRe's common shares, the total market value of the Company's investment was $91.1 million compared to a carrying value of $60.8 million at December 31, 2000. In 1999, the Company signed a joint venture agreement with Les Mutuelles du Mans Assurances Group to form a new French reinsurance company, Le Mans Re. The Company owns a 49% shareholding in the new company, which underwrites a worldwide portfolio comprising most classes of property and casualty reinsurance business together with a selective portfolio of life reinsurance business. The Company contributed $31.2 million in additional capital during 2000. The Company owned approximately 25% of Mid Ocean until July 31, 1998. Subsequent to this date, Mid Ocean was acquired by the Company and has been consolidated. In certain investments, the carrying value is different from the underlying share of the investee's net assets. The difference represents goodwill on acquisition that is being amortized. 6. BUSINESS COMBINATIONS AND CHANGE IN FISCAL YEAR END (A) NAC RE CORP On June 18, 1999, the Company merged with NAC in an all-stock transaction. Shareholders of NAC received 0.915 Company shares for each NAC share in a tax-free exchange. Approximately 16.9 million of the Company's ordinary shares were issued in this transaction. The merger transaction has been accounted for as a pooling of interests under U.S. GAAP. Following the merger, the Company changed its fiscal year end from November 30 to December 31 as a conforming pooling adjustment. No adjustments were necessary to conform NAC's accounting policies, although certain reclassifications were made to the NAC financial statements to conform to the Company's presentation. 52 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 6. BUSINESS COMBINATIONS AND CHANGE IN FISCAL YEAR END (CONTINUED) The following table presents a reconciliation of the total revenues, net income, and earnings per share of the Company as previously reported as adjusted for the change in fiscal year end, combined with the results of NAC:
CONSOLIDATED CONSOLIDATED DECEMBER 1998 TOTAL REVENUES NET INCOME - -------------- ----------------------------- XL Capital - year end November 30, 1998 as previously reported.................................................. $1,217,648 $587,663 Less one month December 31, 1997............................ 93,835 57,168 Add one month December 31, 1998............................. 202,210 29,785 ----------------------------- XL Capital - year end December 31, 1998 as adjusted before combination with NAC...................................... 1,326,023 560,280 NAC - year end December 31, 1998............................ 699,379 96,050 ----------------------------- Combined results - year end December 31, 1998............... $2,025,402 $656,330 -----------------------------
BASIC EARNINGS DILUTED EARNINGS PER SHARE PER SHARE --------------------------------- XL Capital - year end November 30, 1998 as previously reported.................................................. $6.32 $6.20 --------------------------------- XL Capital - year end December 31, 1998 as adjusted before combination with NAC...................................... $5.88 $5.77 NAC - year end December 31, 1998 (1)........................ $5.74 $5.22 Weighted average combined earnings per share as adjusted.... $5.86 $5.68 ---------------------------------
(1) After giving effect to the exchange of 0.915 Company shares for each NAC Share. (B) ECS, INC AND INTERCARGO CORPORATION In 1999, the Company acquired ECS, an underwriting manager which specializes in environmental insurance coverages and risk management services. ECS commenced underwriting policies on behalf of the Company's insurance and reinsurance subsidiaries effective January 1, 2000. In 1999, the Company acquired Intercargo, which underwrites specialty insurance products for companies engaged in international trade, including U.S. Customs bonds and marine cargo insurance. The Intercargo and ECS acquisitions have been accounted for under the purchase method of accounting. The combined purchase price was $222.8 million and the resulting goodwill of $159.6 million is being amortized over 20 years. Net cash acquired as a result of the acquisition was $49.6 million. (C) MID OCEAN LIMITED In August 1998, the Company merged with Mid Ocean. Shareholders of Mid Ocean received 1.0215 Ordinary Shares for each Mid Ocean share subject to a cash election option which was taken up of $96 million. The merger with Mid Ocean was accounted for as a purchase under U.S. GAAP and results of operations of Mid Ocean are included from August 1, 1998. The total purchase price was $2.2 billion; the fair value of Mid Ocean's net assets not already owned by the Company was $0.9 billion with the balance of $1.3 billion representing goodwill which is 53 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 6. BUSINESS COMBINATIONS AND CHANGE IN FISCAL YEAR END (CONTINUED) being amortized over 40 years. On August 1, 1998, the consolidated balance sheet of Mid Ocean included the following items at fair value: Investments available for sale.............................. $1,668,224 Premiums receivable......................................... 445,540 Other assets................................................ 442,831 Total assets................................................ 2,556,595 Unpaid loss and loss expense reserves....................... 595,261 Unearned premium............................................ 458,994 Total liabilities........................................... 1,195,835 Shareholders' equity........................................ 1,360,760
Cash and cash equivalents totaling $137 million is included in other assets. Net cash acquired as a result of this merger was $41 million. See Note 22 for further details. 7. LOSSES AND LOSS EXPENSES Unpaid losses and loss expenses are comprised of:
YEAR ENDED DECEMBER 31 ------------------------------------ 2000 1999 1998 ------------------------------------ Reserve for reported losses and loss expenses.......... $2,788,378 $2,175,688 $2,062,046 Reserve for losses incurred but not reported........... 2,883,684 3,193,714 2,834,597 ------------------------------------ Unpaid losses and loss expenses........................ $5,672,062 $5,369,402 $4,896,643 ------------------------------------ Net losses and loss expenses incurred comprise: Loss and loss expense payments......................... $1,910,624 $1,392,024 $ 849,777 Change in unpaid losses and loss expenses.............. 625,043 303,140 285,775 Reinsurance recoveries................................. (1,103,108) (390,860) (294,035) ------------------------------------ Net losses and loss expenses incurred.................. $1,432,559 $1,304,304 $ 841,517 ------------------------------------
54 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 7. LOSSES AND LOSS EXPENSES (CONTINUED) The following table represents an analysis of paid and unpaid losses and loss expenses and a reconciliation of the beginning and ending unpaid losses and loss expenses for the years indicated:
2000 1999 1998 ------------------------------------ Unpaid losses and loss expenses at beginning of year........ $5,369,402 $4,896,643 $3,972,376 Unpaid losses and loss expenses recoverable................. (831,864) (593,960) (363,716) ------------------------------------ Net unpaid losses and loss expenses at beginning of year.... 4,537,538 4,302,683 3,608,660 Increase (decrease) in net losses and loss expenses incurred in respect of losses occurring in: Current year........................................ 1,827,443 1,591,414 1,097,161 Prior years......................................... (394,884) (287,110) (255,644) ------------------------------------ Total net incurred losses and loss expenses.... 1,432,559 1,304,304 841,517 Interest incurred on experience reserves and exchange rate effects................................................... (27,064) (5,950) 2,516 Net loss reserves acquired.................................. 52,932 30,003 580,879 Less net losses and loss expenses paid in respect of losses occurring in: Current year........................................ 411,685 281,806 272,456 Prior years......................................... 1,251,985 811,696 458,433 ------------------------------------ Total net paid losses.......................... 1,663,670 1,093,502 730,889 Net unpaid losses and loss expenses at end of year.......... 4,332,295 4,537,538 4,302,683 Unpaid losses and loss expenses recoverable................. 1,339,767 831,864 593,960 ------------------------------------ Unpaid losses and loss expenses at end of year.............. $5,672,062 $5,369,402 $4,896,643 ------------------------------------
Business written by the Company has loss experience characterized as low frequency but high severity in nature. This may result in volatility in the Company's financial results. Actuarial assumptions used to establish the liability for losses and loss expenses are periodically adjusted to reflect comparisons to actual loss and loss expense development, inflation and other considerations. Several aspects of the Company's casualty insurance operations complicate the actuarial reserving techniques for loss reserves as compared to other insurance operations. Among these aspects are the differences in the policy forms from more traditional forms, the lack of complete historical loss data for losses of the same type intended to be covered by the policies and the expectation that losses in excess of the attachment level of the Company's policies generally will be characterized by low frequency and high severity, limiting the utility of claims experience of other insureds for similar claims. While management believes it has made a reasonable estimate of ultimate losses, the ultimate claims experience may not be as reliably predicted as may be the case with other insurance operations, and there can be no assurance that losses and loss expenses will not exceed the total reserves. Net losses incurred in 2000 increased over 1999, principally due to current year development. Current year development reflects both the growth in business assumed and an increase in loss ratios applied. The increase in the loss ratio is due to the effect of competition which has depressed premium rates, particularly on certain casualty lines. Current year losses also reflect the early development of certain losses on the Company's large account business within its insurance operations. Historically, the Company does not experience the reporting of such losses at an early stage and the Company's reserving methodology for these lines of business extrapolates these losses into the projections of future development. If future development is eventually determined to be less than the estimated 55 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 7. LOSSES AND LOSS EXPENSES (CONTINUED) ultimate losses recorded, loss reserves will be reduced at that time. This occurred for the 1993 through 1996 underwriting years, resulting in a reduction in prior year losses. Net losses incurred for 2000 also reflects reserve adjustments to several unprofitable lines of business that the Company has now exited, including trucking, inland energy and certain classes of aviation. A net reserve charge of $114.0 million has been recorded for these lines. There has been a high level of paid losses in 2000 due to the settlement of previously established reserves, particularly catastrophe losses as noted below. The Company's outward reinsurance programs in 2000 have mitigated part of the overall loss development, as shown by the increase in the unpaid losses and loss expenses recoverable, both in the insurance and reinsurance segments. In relation to business lines exited from the Lloyd's operations, additional reinsurance costs of $19.1 million were incurred in respect of expected loss recoveries recorded of $38.0 million. In the reinsurance segment, $80.6 million of additional reinsurance costs were recorded with $151.8 million of expected loss recoveries. The purchase of additional reinsurance in 2000 relates primarily to the casualty lines where the Company has taken advantage of favorable pricing and terms. Partially offsetting this increase in net incurred losses in 2000 compared to 1999 was a reduction in the number and magnitude of catastrophe losses that occurred. Catastrophe losses in 2000, which included an oil refinery loss in Kuwait, several satellite losses, and the Singapore Airlines loss, totaled approximately $95.0 million. By comparison, 1999 generated approximately $185.0 million of catastrophe losses to the Company, including the European storms in December, hailstorms in Sydney, tornadoes in Oklahoma and satellite losses. Net losses incurred in 1999 increased significantly over 1998 for a number of reasons. The Company acquired Mid Ocean and Brockbank in August 1998 and therefore only recognized the effect of their operations for five months in 1998. Incurred losses for these entities were approximately $475.0 million in 1999 compared to $260.0 million in 1998. Partially offsetting this, in 1998, the Company incurred approximately $60.0 million in catastrophe losses relating to Hurricane Georges and the SwissAir loss. These losses were incurred in the reinsurance operations. In 1999, the Lloyd's operations experienced loss deterioration on the U.K. motor business principally from the 1998 and 1999 underwriting years of approximately $20.0 million. The motor business was sold in December 1999 and the Company retains residual liability on this business. 1999 incurred losses also include an increase to reinsurance loss reserves of $95.0 million for NAC Re due to an alignment of reserving methodologies at the time of the merger with the Company in June 1999. The decrease in prior year incurred losses in all three years is driven primarily by the Company's insurance liability excess of loss reserves. The basis for establishing IBNR for these lines is relatively judgmental due to the lack of industry data available. Consequently, the Company estimates loss reserves through actuarial models based upon its own experience. When the Company commenced writing this type of business in 1986, limited data was available and the Company has made its best estimate of loss reserves for each underwriting year since that time. Over time, the amount of data has increased, providing a larger statistical base for estimating reserves. Redundancies in prior year loss reserves have occurred where loss experience has developed more favorably than expected. This trend is not necessarily expected to continue. The increase in paid losses in 1999 reflects the acquisition of Mid Ocean and Brockbank in 1998. The Company's net incurred losses and loss expenses includes a charge of $2.8 million, $10.6 million and $1.2 million in 2000, 1999 and 1998, respectively, for estimates of actual and potential non-recoveries from reinsurers. Such charges for non-recoveries relate mainly to reinsurance ceded for casualty business written prior to 56 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 7. LOSSES AND LOSS EXPENSES (CONTINUED) 1986. As at December 31, 2000 and 1999, the reserve for potential non-recoveries from reinsurers was $25.6 million and $25.8 million, respectively. Except for certain workers' compensation liabilities, the Company does not discount its unpaid losses and loss expenses. The Company utilizes tabular reserving for workers' compensation unpaid losses that are considered fixed and determinable and discounts such losses using an interest rate of 7%. The tabular reserving methodology results in applying uniform and consistent criteria for establishing expected future indemnity and medical payments (including an explicit factor for inflation) and the use of mortality tables to determine expected payment periods. Tabular unpaid losses and loss expenses, net of reinsurance, at December 31, 2000 and 1999 were $168.8 million and $85.7 million, respectively. The related discounted unpaid losses and loss expenses were $63.4 million and $28.1 million as of December 31, 2000 and 1999. The nature of the Company's high excess of loss liability and catastrophe business can result in loss payments that are both irregular and significant. Similarly, adjustments to reserves for individual years can be irregular and significant. Such adjustments are part of the normal course of business for the Company. Conditions and trends that have affected development of liability in the past may not necessarily occur in the future. Accordingly, it is inappropriate to extrapolate future redundancies based upon historical experience. ASBESTOS AND ENVIRONMENTAL RELATED CLAIMS The Company's reserving process includes a continuing evaluation of the potential impact on unpaid liabilities from exposure to asbestos and environmental claims, including related loss adjustment expenses. Liabilities are established to cover both known and incurred but not reported claims. A reconciliation of the opening and closing unpaid losses and loss expenses related to asbestos and environmental exposure claims related to business written prior to 1986 for the years indicated is as follows:
YEAR ENDED DECEMBER 31 ------------------------------ 2000 1999 1998 ------------------------------ Net unpaid losses and loss expenses at beginning of year.... $36,206 $34,850 $32,767 Net incurred losses and loss expenses....................... 1,053 4,416 5,541 Less net paid losses and loss expenses...................... 2,512 3,060 3,458 ------------------------------ Net (decrease) increase in unpaid losses and loss expenses.................................................. (1,459) 1,356 2,083 Net unpaid losses and loss expenses at end of year.......... 34,747 36,206 34,850 Unpaid losses and loss expenses recoverable at end of year...................................................... 48,133 49,022 43,211 ------------------------------ Gross unpaid losses and loss expenses at end of year........ $82,880 $85,228 $78,061 ------------------------------
Incurred but not reported ("IBNR") losses, net of reinsurance, included in the above table was $14.0 million in 2000, $16.1 million in 1999 and $17.0 million in 1998. Unpaid losses recoverable are net of potential uncollectable amounts. As of December 31, 2000 and 1999, the Company had approximately 374 and 370 open claim files, respectively, for potential asbestos exposures and 613 and 689 open claim files, respectively, for potential environmental exposures on business written prior to 1986. Approximately 45% and 46% of the open claim files for 2000 and 1999, respectively, are due to precautionary claim notices. Precautionary claim notices are submitted by the ceding companies in order to preserve their right to receive coverage under the reinsurance contract. Such notices do not contain an incurred loss amount to the Company. 57 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 7. LOSSES AND LOSS EXPENSES (CONTINUED) The Company believes it has made reasonable provision for its asbestos and environmental exposures and is unaware of any specific issues that would significantly affect its estimate for losses and loss expenses. The estimation of loss and loss expense liabilities for asbestos and environmental exposures is subject to much greater uncertainty than is normally associated with the establishment of liabilities for certain other exposures due to several factors, including: i) uncertain legal interpretation and application of insurance and reinsurance coverage and liability; ii) the lack of reliability of available historical claims data as an indicator of future claims development; iii) an uncertain political climate which may impact, among other areas, the nature and amount of costs for remediating waste sites; and iv) the potential of insurers and reinsurers to reach agreements in order to avoid further significant legal costs. Due to the potential significance of these uncertainties, the Company believes that no meaningful range of loss and loss expense liabilities beyond recorded reserves can be established. As these uncertainties are resolved, additional reserve provisions, which could be material in amount, may be necessary. 8. REINSURANCE The Company utilizes reinsurance and retrocession agreements principally to increase aggregate capacity and to reduce the risk of loss on business assumed. The Company's reinsurance and retrocession agreements provide for recovery of a portion of losses and loss expenses from reinsurers and reinsurance recoverables are recorded as assets. The Company is liable if the reinsurers are unable to satisfy their obligations under the agreements. The effect of reinsurance and retrocessional activity on premiums written and earned is shown below:
PREMIUMS WRITTEN PREMIUMS EARNED YEAR ENDED DECEMBER 31 YEAR ENDED DECEMBER 31 ------------------------------------- ------------------------------------ 2000 1999 1998 2000 1999 1998 ---------------------------------------------------------------------------- Direct.................... $ 1,688,923 $1,088,028 $ 779,551 $1,456,064 $ 994,339 $ 672,871 Assumed................... 1,440,108 1,354,892 863,988 1,455,694 1,259,632 926,730 Ceded..................... (1,012,791) (541,037) (319,275) (876,518) (503,965) (275,310) ---------------------------------------------------------------------------- Net....................... $ 2,116,240 $1,901,883 $1,324,264 $2,035,240 $1,750,006 $1,324,291 ----------------------------------------------------------------------------
The Company recorded reinsurance recoveries on losses and loss expenses incurred of $1.1 billion, $390.9 million and $294.0 million for the years ended December 31, 2000, 1999 and 1998, respectively. The Company is the beneficiary of letters of credit, trust accounts and funds withheld in the aggregate amount of $371.0 million at December 31, 2000, collateralizing reinsurance recoverables with respect to certain retrocessionnaires. 9. DEPOSIT LIABILITIES AND POLICY BENEFIT RESERVES The Company has entered into certain contracts that transfer insufficient risk to be accounted for as reinsurance under SFAS No. 113. These contracts have been recorded as deposit liabilities and are matched by an equivalent amount of investments. At December 31, 2000 and 1999, total deposit liabilities were $628.4 million and $310.4 million, respectively. In December 1999, the Company entered into a contract reinsuring a portfolio of life and annuity business that has been accounted for as an investment contract under SFAS No. 97, with a corresponding liability for estimated future policy benefits in the amount of $635.6 million. The Company transferred liabilities of $108.1 million in 2000 to a third party for an equivalent consideration. 58 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 10. NOTES PAYABLE AND DEBT AND FINANCING ARRANGEMENTS As at December 31, 2000, the Company had bank, letter of credit and loan facilities available from a variety of sources, including commercial banks, totaling $2.6 billion (1999: $2.16 billion) of which $450.0 million (1999: $410.7 million) was outstanding. In addition, $1.1 billion (1999: $891.6 million) of letters of credit were outstanding, 14% of which were collateralized by the Company's investment portfolio, supporting U.S. non-admitted business and the Company's Lloyd's capital requirements. Approximately 40% of the non-collateralized letters of credit were issued in connection with intercompany quota share agreements between subsidiaries. The financing structure at December 31, 2000 was as follows:
FACILITY - -------- COMMITMENT IN USE/OUTSTANDING -------------------------------- DEBT: 364 day Revolver.......................................... $ 500,000 $ - 2 facilities of 5 year Revolvers - total.................. 350,000 350,000 7.15% Senior Notes due 2005............................... 100,000 100,000 -------------------------------- $ 950,000 $ 450,000 -------------------------------- LETTERS OF CREDIT: 5 facilities - total...................................... $1,679,000 $1,109,000 -------------------------------- The financing structure at December 31, 1999 was as follows: FACILITY - -------- COMINTUSE/OUTSTANDING -------------------------------- DEBT: Company term note......................................... $ 11,000 $ 11,000 2 facilities of 364 day Revolvers - total................. 650,000 - 2 facilities of 5 year Revolvers - total.................. 350,000 299,700 7.15% Senior Notes due 2005............................... 100,000 100,000 -------------------------------- $1,111,000 $ 410,700 -------------------------------- LETTERS OF CREDIT: 7 facilities - total...................................... $1,246,500 $ 891,600 --------------------------------
The Company entered a $500.0 million 364-day revolving credit facility effective June 5, 2000 to replace previous facilities of $650.0 million that expired during the year. A syndicate of banks provides this facility and borrowings are unsecured. The Company borrowed and repaid $200.0 million under the expired facility during the first quarter of 2000. There were no borrowings under the facilities during the remainder of the year ended December 31, 2000. The weighted average interest rate on the funds borrowed was approximately 6.3% during 2000 and approximately 5.41% during 1999. Two syndicates of banks provide the two five-year facilities and borrowings are unsecured. The amounts of $350.0 million and $299.7 million outstanding at December 31, 2000 and 1999, respectively, relate primarily to the remaining outstanding balance from the $300.0 million borrowed to finance the cash option election available to shareholders in connection with the Mid Ocean acquisition in August 1998, and the $109.7 million borrowed to finance the acquisition of ECS and Intercargo during 1999. The weighted average interest rate on funds borrowed during 2000 was approximately 6.6% and 5.43% during 1999. 59 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 10. NOTES PAYABLE AND DEBT AND FINANCING ARRANGEMENTS (CONTINUED) In 1995, the Company issued $100.0 million of 7.15% Senior Notes due November 15, 2005 through a public offering at a price of $99.9 million. The Company repaid an $11.0 million term note on September 29, 2000. The Company has five letter of credit facilities available at December 31, 2000, two from two syndicates of banks, one from a U.K. bank and two from U.S. banks. These facilities include a new $1.0 billion unsecured syndicated letter of credit facility that replaced several syndicated and bilateral facilities provided by U.K. banks, in addition to a new $304.0 million unsecured syndicated facility that replaced several existing facilities supporting the Company's Lloyd's capital requirements. The letter of credit facilities are used to collateralize certain reinsureds' premium and unpaid loss reserves with the Company and to support Lloyd's capital requirements of the Company's corporate syndicates. Of the letters of credit outstanding at December 31, 2000, $160.0 million (1999: $591.0 million) were collateralized against the Company's investment portfolio and $949.0 million (1999: $300.6 million) were unsecured. The Company plans to continue the process of transferring letters of credit into one of the new syndicated facilities. $100.0 million of 5.25% Convertible Subordinated Debentures due December 15, 2002 were issued in December 1992 through a private offering. The Debentures were called in June 1999 and converted to approximately 1.8 million of the Company's shares. $100.0 million of 8% Senior Notes due June 15, 1999 were issued in June 1992 through a public offering. These Notes were repaid in June 1999 through additional borrowings and internal funds. Total pre-tax interest expense on the borrowings described above was $32.1 million, $37.4 million and $33.4 million for the years ended December 31, 2000, 1999 and 1998, respectively. Associated with the Company's bank and loan commitments are various loan covenants with which the Company was in compliance throughout the three-year period. 11. COMMITMENTS AND CONTINGENCIES (A) FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK The Company invests in derivative instruments, such as foreign currency forward contracts and futures for purposes other than trading. These derivative instruments are used for foreign currency exposure management and to obtain exposure to specific financial markets. (I) FOREIGN CURRENCY EXPOSURE MANAGEMENT The Company uses foreign exchange contracts to manage its exposure to the effects of fluctuating foreign currencies on the value of its foreign currency fixed maturities and equity investments. These contracts are not designated as specific hedges for financial reporting purposes and therefore, realized and unrealized gains and losses recognized on them are recorded in income in the period in which they occur. These contracts generally have maturities of three months or less. In addition, where the Company's investment managers are of the opinion that potential gains exist in a particular currency, then a forward contract will not be entered into. At December 31, 2000 and 1999, forward foreign exchange contracts with notional principal amounts totaling $111.9 million and $339.3 million, respectively, were outstanding. The fair value of these contracts as at December 31, 2000 was $109.6 million (1999: $341.1 million) with unrealized losses of $2.3 million (1999: $1.8 million). Gains of $28.1 million and losses of $2.7 million were realized during 2000 and 1999, respectively. 60 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 11. COMMITMENTS AND CONTINGENCIES (CONTINUED) In addition, the Company also enters into foreign exchange contracts to buy and sell foreign currencies in the course of trading its foreign currency investments. These contracts are not designated as specific hedges for financial reporting purposes, and generally have maturities of two weeks or less. As such, any realized or unrealized gains or losses are recorded in income in the period in which they occur. At December 31, 2000, the Company had $54.9 million of such contracts outstanding, and had recognized $1.5 million in realized and unrealized losses for the year. At December 31, 1999, the value of such contracts outstanding was not significant. The Company attempts to hedge directly the foreign currency exposure of a portion of its foreign currency fixed maturity investments using forward foreign exchange contracts that generally have maturities of three months or less, and which are rolled over to provide continuing coverage for as long as the investments are held. Where an investment is sold, the related foreign exchange sale contract is closed by entering into an offsetting purchase contract. At December 31, 2000, the Company had, as hedges, foreign exchange contracts for the sale of $121.0 million (1999: $94.0 million) and the purchase of $25.7 million (1999: $7.4 million) of foreign currencies at fixed rates, primarily Euros. The notional value of fixed maturities denominated in foreign currencies that were hedged and held by the Company as at December 31, 2000 and 1999 was $100.6 million and $85.2 million, respectively. In connection with these foreign exchange contracts directly hedging foreign currency fixed maturity investments, unrealized foreign exchange gains or losses are deferred and included in accumulated other comprehensive (loss) income. As at December 31, 2000, unrealized losses amounted to $10.2 million. As at December 31, 1999, unrealized losses amounted to $2.0 million and were offset by corresponding increases in the U.S. dollar value of the investments. As at December 31, 2000, realized gains of $14.6 million were recognized in the income statement. As at December 31, 1999, realized losses amounted to $0.7 million. During the year ended December 31, 2000, the Company used foreign exchange contracts to manage its exposure to the effects of fluctuating foreign currencies on the amount of its known claims payable in foreign currencies. These contracts were not designated as specific hedges for financial reporting purposes and therefore, realized and unrealized gains and losses on these contracts were recorded in income in the period in which they occurred. As at December 31, 2000 no contracts were outstanding. A loss of $6.8 million was realized in the year in connection with these contracts. In 2000, the Company used foreign exchange forward contracts to reduce its exposure to premiums receivable denominated in foreign currencies. The forward contract is closely matched with the receivable maturity date. Both the foreign currency receivable and the offsetting forward contract are marked to market on each balance sheet date, with any gains and losses recognized in earnings. At December 31, 2000, the Company had forward contracts outstanding for the sale of $10.0 million of foreign currencies at fixed rates, primarily U.K. Sterling. Losses of $0.2 million were realized during 2000. The Company attempts to manage the exchange volatility arising from certain administration costs denominated in foreign currencies. Throughout the year, forward contracts are entered into to acquire the foreign currency at an agreed rate in the future. Any gains or losses on the forward contracts are deferred and included as a component of shareholders' equity. As the administration expenses are incurred, the gains and losses are recognized in the income statement. At December 31, 2000, the Company had forward contracts outstanding for the purchase of $12.8 million of Euros and U.K. Sterling at fixed rates. Gains and losses deferred in accumulated other comprehensive income and realized throughout the year were insignificant. 61 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 11. COMMITMENTS AND CONTINGENCIES (CONTINUED) The Company is exposed to credit risk in the event of non-performance by the other parties to the forward contracts, however the Company does not anticipate non-performance. The difference between the notional principal amounts and the associated market value is the Company's maximum credit exposure. (II) FINANCIAL MARKET EXPOSURE The Company also invests in a synthetic equity portfolio of S&P Index futures with an exposure approximately equal in amount to the market value of underlying assets held in this fund. As at December 31, 2000, the portfolio held $43.7 million (1999: $121.9 million) in exposure to S&P 500 Index futures and underlying assets of $43.2 million (1999: $122.0 million). The value of the futures is updated daily with the change recorded in income as a realized gain or loss. For the years ended December 31, 2000 and 1999, results from index futures totaled net realized losses of $0.2 million and net realized gains of $11.3 million, respectively. Derivative investments are also utilized to add value to the portfolio where market inefficiencies are believed to exist and also to adjust the duration of a portfolio of fixed income securities to match related deposit liabilities. At December 31, 2000, bond and stock index futures outstanding were $40.1 million (1999: $241.1 million), with underlying investments having a market value of $2.5 billion (1999: $2.5 billion). (B) CONCENTRATIONS OF CREDIT RISK The Company's investment portfolio is managed by external managers in accordance with guidelines that have been tailored to meet specific investment strategies, including standards of diversification which limit the allowable holdings of any single issue. The Company did not have an aggregate investment in a single entity, other than the U.S. government, in excess of 10% of shareholders' equity at December 31, 2000 and 1999. (C) OTHER INVESTMENTS The Company has committed to invest in several limited partnerships as part of its overall corporate strategy. The primary purpose of these partnerships is to invest capital provided by the partners in various insurance and reinsurance ventures. The Company had invested $103.0 and $65.4 million as at December 31, 2000 and 1999, respectively, with commitments to invest a further $149.7 million over the next ten years. The Company received income from its investments of $4.0 million and $9.4 million and for the years ended December 31 2000 and 1999, respectively. The Company continually reviews the performance of the partnerships to ensure there is no other than temporary decline in the values of its investments. The Company is a limited partner and, as such, does not actively participate in the management of the partnerships. (D) PROPERTIES The Company rents space for its principal executive offices under leases that expire up to 2013. Total rent expense for the years ended December 31, 2000, 1999, and 1998 was approximately $18.3 million, $13 million, 62 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 11. COMMITMENTS AND CONTINGENCIES (CONTINUED) and $9 million, respectively. Future minimum rental commitments under existing leases are expected to be as follows: Year ending December 31: 2001 $ 16,204 2002 15,611 2003 14,196 2004 11,505 2005 9,938 Later years 54,855 -------- Total minimum future rentals $122,309 --------
In 1997, the Company acquired commercial real estate in Bermuda for the purpose of securing long-term office space for its worldwide headquarters. The total cost of this development, including the land, is expected to be approximately $110.0, of which $101.0 million had been spent as at December 31, 2000. It is estimated that the development will be completed in April 2001. (E) TAX MATTERS The Company is a Cayman Islands corporation and, except as described below, neither it nor its non-U.S. subsidiaries have paid United States corporate income taxes (other than withholding taxes on dividend income) on the basis that they are not engaged in a trade or business or otherwise subject to taxation in the United States; however, because definitive identification of activities which constitute being engaged in trade or business in the United States is not provided by the Internal Revenue Code of 1986, regulations or court decisions, there can be no assurance that the Internal Revenue Service will not contend that the Company or its non-U.S. subsidiaries are engaged in trade or business or otherwise subject to taxation in the United States. If the Company or its non-U.S. subsidiaries were considered to be engaged in trade or business in the United States (and, if the Company or such subsidiaries were to qualify for the benefits under the income tax treaty between the United States and Bermuda or Ireland, such businesses were attributable to a "permanent establishment" in the United States), the Company or such subsidiaries could be subject to U.S. tax at regular tax rates on its taxable income that is effectively connected with its U.S. trade or business plus an additional 30% "branch profits" tax on such income remaining after the regular tax, in which case there could be a significant adverse effect on the Company's results of operations and financial condition. (F) FINANCIAL GUARANTIES The Company insures and reinsures financial guaranties issued to support public and private borrowing arrangements. Financial guaranties are conditional commitments that guaranty the performance of a customer to a third party. The Company's potential liability in the event of non-performance by the issuer of the insured obligation is represented by its proportionate share of the aggregate outstanding principal and interest payable ("insurance in force") on such insured obligation. At December 31, 2000, the Company's aggregate insurance in force was $16.6 billion. The Company manages its exposure to credit risk through a structured underwriting process which includes detailed credit analysis, review of and adherence to underwriting guidelines, surveillance policies and procedures and the use of reinsurance. 63 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 12. SHARE CAPITAL (A) AUTHORIZED AND ISSUED The authorized share capital is 999,990,000 ordinary shares of a par value of $0.01 each. Holders of Class A shares are entitled to one vote for each share. In June 2000, the Company's Class B ordinary shares were converted into Class A ordinary shares on a one-for-one basis. The following table is a summary of shares issued and outstanding (in thousands):
YEAR ENDED DECEMBER 31 ------------------------------ 2000 1999 1998 ------------------------------ Balance - beginning of year................................. 127,807 128,745 101,282 Exercise of options......................................... 2,247 443 425 Issue of restricted shares.................................. 21 107 289 Repurchase of shares........................................ (5,074) (1,488) (3,443) Issue of Class A shares..................................... 19 - 27,076 Issue of Class B shares..................................... - - 3,116 ------------------------------ Balance - end of year....................................... 125,020 127,807 128,745 ------------------------------
The issue of shares in 1998 was in exchange for Mid Ocean shares and FSA shares. (B) SHARE REPURCHASES The Company has had several stock repurchase plans in the past as part of its capital management program. In June 1999, the Board of Directors rescinded the Company's share repurchase plans. On January 9, 2000, the Board of Directors authorized the repurchase of shares up to $500 million. During 2000, the Company repurchased 5.1 million shares at a total cost of $247.7 million, or an average cost of $48.82 per share. (C) STOCK PLANS The Company's executive stock plan, the "1991 Performance Incentive Program", provides for grants of non- qualified or incentive stock options, restricted stock awards and stock appreciation rights ("SARs"). The plan is administered by the Company and the Compensation Committee of the Board of Directors. Stock options may be granted with or without SARs. Grant prices are established at the fair market value of the Company's common stock at the date of grant. Options and SARs have a life of 10 years and vest annually over three years from date of grant. Restricted stock awards issued under the 1991 Performance Incentive Program plan vest over a five year period from the date of grant. These shares contained certain restrictions, for said period, relating to, among other things, forfeiture in the event of termination of employment and transferability. As the shares are issued, deferred compensation equivalent to the difference between the issue price and the estimated fair market value on the date of the grant is charged to shareholders' equity and subsequently amortized over the five-year restriction period. Restricted stock issued under the plan totaled 77,472 shares, 113,100 shares and 147,836 shares in 2000, 1999 and 1998, respectively. Restricted stock awards granted by NAC prior to the merger amounted to 3,627 shares and 23,700 shares in 1999 and 1998. Vesting for such shares generally occurs over a six year period. The Company also has stock plans in place for its non-employee directors. The "Stock and Option Plan" issues non-qualified options to the directors-4,000 shares at the commencement of their directorship and 5,000 shares 64 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 12. SHARE CAPITAL (CONTINUED) each year thereafter. All options vest immediately on the grant date. Effective April 11, 1997, all options granted to non-employee directors are granted under the 1991 Performance Incentive Program. Directors may also may make an irrevocable election preceding the beginning of each fiscal year to defer cash compensation that would otherwise be payable as his or her annual retainer in increments of $5,000. The deferred payments are credited in the form of shares calculated by dividing 110% of the deferred payment by the market value of the Company's stock at the beginning of the fiscal year. Each anniversary thereafter, 20% of these shares are distributed. Shares issued under the plan totaled 7,846, nil and 2,737 in 2000, 1999 and 1998, respectively. A second stock plan, intended to replace the directors' "Retirement Plan for Non-Employee Directors," provides for the issue of share units equal to the amount that would have been credited to the Retirement Plan, divided by the market price of the Company's stock on January 1 of each year. These units receive dividends in the form of additional units equal to the cash value divided by the market price on the payment date. Stock units totaling 13,237, 1,217 and 5,531 were issued for in 2000, 1999 and 1998, respectively. As a result of the merger with Mid Ocean during August 1998, 791,573 Mid Ocean options were converted to options of XL Capital. Following the merger with NAC, new option plans were created in the Company to adopt the NAC plans. Options generally have a five or six year vesting schedule, with the majority expiring 10 years from the date of grant; the remainder having no expiration. A stock plan is also maintained for non-employee directors. Options expire 10 years from the date of grant and are fully exercisable six months after their grant date. In 1999, the Company adopted the 1999 Performance Incentive Plan under which 1,250,000 options were available and issued to employees who were not directors or executive officers of the Company. (D) FAS 123 PRO FORMA DISCLOSURE The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation." Had the Company adopted the accounting provisions of SFAS No. 123, compensation costs would have been determined based on the fair value of the stock option awards granted in 2000, 1999 and 1998, and net income and earnings per share would have been reduced to the pro-forma amounts indicated below:
YEAR ENDED DECEMBER 31, ------------------------------ 2000 1999 1998 ------------------------------ Net income - as reported.................................... $506,352 $470,509 $656,330 Net income - pro-forma...................................... $481,560 $437,592 $635,239 Basic earnings per share - as reported...................... $ 4.07 $ 3.69 $ 5.86 Basic earnings per share - pro-forma........................ $ 3.87 $ 3.43 $ 5.67 Diluted earnings per share - as reported.................... $ 4.03 $ 3.62 $ 5.68 Diluted earnings per share - pro-forma...................... $ 3.83 $ 3.36 $ 5.47
65 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 12. SHARE CAPITAL (CONTINUED) The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions:
2000 1999 1998 --------------------------------- Dividend yield.............................................. 3.58% 3.43% 1.81% Risk free interest rate..................................... 5.04% 5.90% 4.76% Expected volatility......................................... 25.77% 24.66% 24.72% Expected lives.............................................. 7.5 years 7.5 years 9.2 years
Total stock based compensation expensed was $9.5 million, $7.7 million and $5.8 million, in 2000, 1999 and 1998, respectively. (E) OPTIONS Following is a summary of stock options and related activity:
2000 1999 1998 --------------------- --------------------- -------------------- AVERAGE AVERAGE AVERAGE NUMBER OF EXERCISE NUMBER OF EXERCISE NUMBER OF EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE -------------------------------------------------------------------- Outstanding - beginning of year............. 10,282,723 $46.50 7,685,414 $50.61 5,744,063 $35.28 Granted..................................... 579,852 $49.95 3,207,492 $57.06 1,749,885 $68.27 Granted - Mid Ocean conversion.............. - - - - 791,573 $72.44 Exercised................................... (2,515,774) $31.48 (421,163) $27.57 (425,251) $30.06 Cancelled................................... (183,784) $61.80 (189,020) $55.25 (174,856) $40.12 -------------------------------------------------------------------- Outstanding - end of year................... 8,163,017 $51.09 10,282,723 $46.50 7,685,414 $46.79 -------------------------------------------------------------------- Options exercisable......................... 5,034,693 5,287,657 4,288,434 -------------------------------------------------------------------- Options available for grant................. 9,904,918 * 1,028,853 * 2,455,190 * --------------------------------------------------------------------
* Available for grant includes shares that may be granted as either stock options or restricted stock. 66 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 12. SHARE CAPITAL (CONTINUED) The following table summarizes information about the Company's stock options (including stock appreciation rights) for options outstanding as of December 31, 2000:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ----------------------------------------------------- ------------------------------------ AVERAGE AVERAGE REMAINING AVERAGE RANGE OF NUMBER OF EXERCISE CONTRACTUAL NUMBER OF EXERCISE EXERCISE PRICES OPTIONS (000S) PRICE LIFE (YEARS) OPTIONS (000S) PRICE - ----------------------- -------------------------------------------------------------------------------------------- $10.44 - $32.93........ 600 $25.42 4.1 600 $25.42 $33.88 - $50.00........ 4,671 $46.03 7.2 2,615 $43.62 $50.31 - $64.69........ 1,753 $58.08 7.6 1,070 $59.39 $66.50 - $87.38........ 1,139 $74.58 7.8 750 $74.71 -------------------------------------------------------------------------------------------- $10.44 - $87.38........ 8,163 $51.09 7.1 5,035 $49.43 --------------------------------------------------------------------------------------------
(F) VOTING The Company's Articles of Association restrict the voting power of any person to less than approximately 10% of total voting power. (G) SHARE RIGHTS PLAN Rights to purchase Class A ordinary shares ("the Rights") were distributed as a dividend at the rate of one Right for each Class A ordinary share held of record as of the close of business on October 31, 1998. Each Right entitles holders of Class A ordinary shares to buy one ordinary share at an exercise price of $350. The Rights would be exercisable, and would detach from the Class A ordinary shares, only if a person or group were to acquire 20% or more of XL's outstanding Class A ordinary shares, or were to announce a tender or exchange offer that, if consummated, would result in a person or group beneficially owning 20% or more of Class A ordinary shares. Upon a person or group without prior approval of the Board acquiring 20% or more of Class A ordinary shares, each Right would entitle the holder (other than such an acquiring person or group) to purchase Class A ordinary shares (or, in certain circumstances, Class A ordinary shares of the acquiring person) with a value of twice the Rights exercise price upon payment of the Rights exercise price. The Company will be entitled to redeem the Rights at $0.01 per Right at any time until the close of business on the tenth day after the Rights become exercisable. The Rights will expire at the close of business on September 30, 2008, and do not initially have a fair value. The Company has initially reserved 119,073,878 Class A ordinary shares being authorized and unissued for issue upon exercise of Rights. 13. RETIREMENT PLANS The Company maintains both defined contribution and defined benefit retirement plans, which vary for each subsidiary. Plan assets are invested principally in equity securities and fixed maturities. The Company has a qualified defined contribution plan which is managed externally and whereby employees and the Company contribute a certain percentage of the employee's gross salary into the plan each month. The Company's contribution generally vests over 5 years. 67 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 13. RETIREMENT PLANS (CONTINUED) At NAC, a qualified non-contributory defined benefit pension plan exists to cover substantially all its U.S. employees. This plan also includes a non-qualified supplemental defined benefit plan designed to compensate individuals to the extent their benefits under the Company's qualified plan are curtailed due to Internal Revenue Code limitations. Benefits are based on years of service and compensation, as defined in the plan, during the highest consecutive three years of the employee's last ten years of employment. Under these plans, the Company's policy is to make annual contributions to the plan that are deductible for federal income tax purposes and that meet the minimum funding standards required by law. The contribution level is determined by utilizing the entry age cost method and different actuarial assumptions than those used for pension expense purposes. The projected benefit obligation, accumulated benefit obligation and fair value of the assets for this plan with accumulated benefit obligations in excess of the plan assets were $21.3 million, $12.6 million and $12.3 million, respectively, as of December 31, 2000 and $16.6 million, $10.0 million and $11.0 million, respectively as of December 31, 1999. The discount rates used in determining the actuarial present value of benefit obligations were 7.25% and 7.75% for 2000 and 1999, respectively. The rate of increase for future compensation levels was 6.0% for 2000 and 6.5% for 1999. The assumed rate of return on plan assets was 9.0% for both 2000 and 1999. NAC also maintains a qualified contributory defined contribution plan for substantially all its U.S. employees. The Company's expenses for its retirement plans are not considered to be significant. 14. ACCUMULATED OTHER COMPREHENSIVE INCOME The related tax effects allocated to each component of the change in accumulated other comprehensive income were as follows:
BEFORE TAX TAX EXPENSE NET OF TAX AMOUNT (BENEFIT) AMOUNT ------------------------------------- YEAR ENDED DECEMBER 31, 2000 Unrealized gains (losses) on investments: Unrealized losses arising during year....................... $ (76,881) $(21,980) $ (54,901) Less reclassification for gains (losses) realized in income.................................................... 50,571 (12,849) 63,420 ------------------------------------- Net unrealized losses....................................... (127,452) (9,131) (118,321) Foreign currency translation adjustments.................... (5,600) 102 (5,702) ------------------------------------- Change in accumulated other comprehensive income............ $(133,052) $ (9,029) $(124,023) ------------------------------------- YEAR ENDED DECEMBER 31, 1999 Unrealized gains (losses) on investments: Unrealized losses arising during year....................... $(148,536) $(36,394) $(112,142) Less reclassification for gains (losses) realized in income.................................................... 94,356 (5,344) 99,700 ------------------------------------- Net unrealized losses....................................... (242,892) (31,050) (211,842) Foreign currency translation adjustments.................... (6,308) (2,276) (4,032) ------------------------------------- Change in accumulated other comprehensive income............ $(249,200) $(33,326) $(215,874) -------------------------------------
68 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 14. ACCUMULATED OTHER COMPREHENSIVE INCOME (CONTINUED)
BEFORE TAX TAX EXPENSE NET OF TAX AMOUNT (BENEFIT) AMOUNT ------------------------------------- YEAR ENDED DECEMBER 31, 1998 Unrealized gains (losses) on investments: Unrealized gains arising during year........................ $ 196,512 $ 12,998 $ 183,514 Less reclassification for gains realized in income.......... 211,204 12,276 198,928 ------------------------------------- Net unrealized gains (losses)............................... (14,692) 722 (15,414) Foreign currency translation adjustments.................... (1,342) (470) (872) ------------------------------------- Change in accumulated other comprehensive income............ $ (16,034) $ 252 $ (16,286) -------------------------------------
15. CONTRIBUTED SURPLUS Under the laws of the Cayman Islands, the use of the Company's contributed surplus is restricted to the issue of fully paid shares (i.e. stock dividend or stock split) and the payment of any premium on the redemption of ordinary shares. 16. DIVIDENDS The following dividend information relates to the Company without inclusion of the pooling effect with NAC: In 2000, four regular quarterly dividends were paid at $0.45 per share to shareholders of record of February 15, May 25, August 15 and November 15. In 1999, four regular quarterly dividends were paid at $0.44 per share to shareholders of record at February 5, April 23, July 12 and September 24. In 1998, four regular quarterly dividends were paid, three of $0.40 per share to shareholders of record at February 6, April 16 and July 15, and one of $0.44 per share to shareholders of record at September 28. 69 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 17. TAXATION Under current Cayman Islands law, the Company is not subject to any taxes in the Cayman Islands on either income or capital gains. The Company has received an undertaking that, in the event of any such taxes being imposed, the Company will be exempted from Cayman Islands income or capital gains taxes until June 2018. The Company's U.S. subsidiaries are subject to federal, state and local corporate income taxes and other taxes applicable to U.S. corporations. The provision for federal income taxes has been determined on the basis of the income of each of the Company's U.S. subsidiaries as if a tax return has been prepared on an individual company basis. Should the U.S. subsidiaries pay a dividend to the Company, withholding taxes will apply. Bermuda presently imposes no income, withholding or capital gains taxes and the Bermuda subsidiaries are exempted until March 2016 from any such future taxes pursuant to the Bermuda Exempted Undertakings Tax Protection Act 1966, and Amended Act 1987. XL Europe has been approved to carry on business in the International Services Centre in Dublin. Under Section 39 of the Finance Act 1990, XL Europe is entitled to benefit from a 10% tax rate on profits (including investment income) until 2005. XL Brockbank, NAC Re International and XL Re's London branch office are subject to United Kingdom corporation taxes. Other branches of the Company are subject to relevant local taxes. The income tax provision in the consolidated statement of income gives effect to the permanent differences between financial and taxable income as applied for each relevant subsidiary. Due to the fact that the Company and certain subsidiaries are not subject to direct U.S. income taxes and that certain U.S. subsidiaries have tax-exempt income, the Company's effective income tax rate for its U.S. operation is less than the statutory U.S. Federal tax rate. The tax charge (benefit) in each of the three years ended December 31, 2000 is comprised of amounts from the various taxable jurisdictions in which the Company operates. For all countries other than the U.S., there generally is no significant difference between the effective tax rate and the statutory rate in that jurisdiction. For U.S. operating income (loss), the effective rate differs from the statutory rate of 35% primarily due to tax-exempt investment income in all years, merger related costs in 1999 and a change in management's valuation allowance. Significant components of the provision for income taxes attributable to operations were as follows:
YEAR ENDED DECEMBER 31 ------------------------------ 2000 1999 1998 ------------------------------ CURRENT (BENEFIT) EXPENSE: U.S....................................................... $ (3,175) $(27,098) $10,490 Non U.S................................................... 8,612 9,664 14,680 ------------------------------ Total current (benefit) expense........................ 5,437 (17,434) 25,170 ------------------------------ DEFERRED (BENEFIT) EXPENSE: U.S....................................................... (53,338) (17,534) 4,729 Non U.S................................................... (8,455) (4,602) (16) ------------------------------ Total deferred (benefit) expense....................... (61,793) (22,136) 4,713 ------------------------------ TOTAL TAX (BENEFIT) EXPENSE................................. $(56,356) $(39,570) $29,883 ------------------------------
70 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 17. TAXATION (CONTINUED) The U.S. subsidiaries current U.S. taxable income for the years ended December 31, 2000 and 1999 is based on regular taxable income. The current U.S. tax expense for the year ended December 31, 1998 is based on alternative minimum taxable income. Net taxes received in the year ended December 31, 2000 were approximately $13.3 million. In the years ended December 31, 1999 and 1998, net taxes paid were approximately $30.2 million and $31.2 million, respectively. The Company's net current tax asset included in "other assets" in the accompanying financial statements was $14.3 million at December 31, 2000. Significant components of the Company's deferred tax assets and liabilities, which principally relate to U.S. subsidiaries as of December 31, 2000 and 1999 were as follows:
YEAR ENDED DECEMBER 31 -------------------- 2000 1999 -------------------- DEFERRED TAX ASSET: Net unpaid loss reserve discount.......................... $ 83,230 $81,672 Net unearned premiums..................................... 13,929 10,264 Unrealized depreciation on investments.................... - 11,995 Compensation liabilities.................................. 9,271 8,960 Other..................................................... 55,429 12,516 -------------------- Deferred tax asset, gross of valuation allowance.......... 161,859 125,407 Valuation allowance....................................... - (11,995) -------------------- Deferred tax asset, net of valuation allowance............ 161,859 113,412 DEFERRED TAX LIABILITY: Deferred policy acquisition costs......................... $ - $ 6,850 Unrealized appreciation on investments.................... 7,553 - Currency translation adjustments.......................... 566 566 Other..................................................... 1,572 8,068 -------------------- Deferred tax liability...................................... 9,691 15,484 -------------------- NET DEFERRED TAX ASSET...................................... $152,168 $97,928 --------------------
At December 31, 2000, the Company's management concluded that all deferred tax assets are more likely than not to be realized and consequently, no valuation allowance has been provided. At December 31, 1999, the Company's management established a valuation allowance for certain deferred tax assets. Shareholders' equity at December 31, 2000 and 1999 reflects tax benefits of $3.3 million and $1.5 million, respectively, related to compensation expense deductions for stock options exercised for one of the Company's U.S. subsidiaries. 71 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 18. STATUTORY FINANCIAL DATA The Company's ability to pay dividends is subject to certain regulatory restrictions on the payment of dividends by its subsidiaries. The payment of such dividends is restricted by applicable laws of Bermuda, Ireland, the U.S. and U.K., including Lloyd's. The Company relies primarily on cash dividends from XL Insurance and XL Re. BERMUDA Under The Insurance Act, 1978, (as amended by the Insurance Act Amendment 1995) amendments thereto and related regulations of Bermuda, the Company's Bermuda subsidiaries, the most significant of which are XL Insurance and XL Re, are required to prepare statutory financial statements and to file in Bermuda a statutory financial return. The Act also requires these companies to maintain certain measures of solvency and liquidity during the year. XL Insurance's and XL Re's statutory capital and surplus, statutory net income and the minimum statutory capital and surplus required by the Act were as follows:
YEAR ENDED DECEMBER 31 --------------------------------------------------------------------------- XL INSURANCE XL RE ------------------------------------ ------------------------------------ 2000 1999 1998 2000 1999 1998 --------------------------------------------------------------------------- Statutory net income............... $ 744,139 $ 16,715 $ 361,663 $ 3,611 $ 155,534 $ 108,290 --------------------------------------------------------------------------- Statutory capital and surplus...... $2,061,422 $1,314,995 $1,297,461 $2,149,806 $2,062,421 $1,966,200 --------------------------------------------------------------------------- Minimum statutory capital and surplus required by the Act...... $ 295,879 $ 427,939 $ 300,755 $ 370,317 $ 196,254 $ 100,000 ---------------------------------------------------------------------------
The primary difference between statutory net income and statutory capital and surplus for the Company's subsidiaries, as shown above, and net income and shareholders' equity presented in accordance with GAAP are deferred acquisition costs. Under the Act, XL Insurance and XL Re are classified as a Class 4 insurer and reinsurer, respectively. Therefore, they are restricted to the payment of dividends in any one financial year of 25% of the prior year's statutory capital and surplus, unless their directors attest that such dividends will not cause the company to fail to meet its relevant statutory requirements. XL Insurance and XL Re have not been prevented from paying dividends by this restriction. UNITED STATES The Company's U.S. insurance and reinsurance subsidiaries, the most significant of which is NAC Re, are subject to regulatory oversight under the insurance statutes and regulations of the jurisdictions in which they conduct business. Consolidated statutory net income and surplus of NAC Re, as reported to the insurance regulatory authorities, differs in certain respects from the amounts as prepared in accordance with GAAP. The main differences between statutory net income and GAAP income relate to deferred acquisition costs, deferred income taxes and amortization of intangible assets. The main differences between statutory surplus and shareholders' equity, in addition to deferred acquisition costs and deferred income tax net assets, are intangible assets, unrealized appreciation on investments, and any unauthorized/authorized reinsurance charges. 72 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 18. STATUTORY FINANCIAL DATA (CONTINUED) The following table shows statutory net income and GAAP net income (loss) and consolidated statutory surplus and consolidated shareholders' equity of NAC Re.
YEAR ENDED DECEMBER 31 --------------------------------- 2000 1999 1998 --------------------------------- NET INCOME: Statutory net income........................................ $(110,574) $ 8,948 $101,862 --------------------------------- GAAP net income (loss)...................................... $ (56,686) $ (1,060) $ 98,586 --------------------------------- SHAREHOLDERS' EQUITY: Consolidated statutory surplus.............................. $ 575,575 $440,102 $737,114 --------------------------------- GAAP consolidated shareholder's equity...................... $ 823,099 $700,725 $750,725 ---------------------------------
NAC Re is subject to the New York insurance law, which imposes certain restrictions on the payment of cash dividends and tax reimbursements. Generally, NAC Re may pay cash dividends only out of statutory earned surplus. However, the maximum amount of dividends that may be paid in any twelve month period without the prior approval of the New York Insurance Department is the lesser of net investment income or 10% of statutory surplus as such terms are defined in the New York insurance law. Statutory earned deficit at December 31, 2000 and 1999 was $12.2 million and $27.7 million, respectively. Consequently, NAC Re cannot make a dividend distribution at this time. XL Brockbank, via Lloyd's, is a licensed insurer in the states of Illinois and Kentucky and in the U.S. Virgin Islands ("USVI"). It is also an eligible surplus lines writer in all states other than Kentucky and in the USVI, and an accredited reinsurer in every state other than Michigan, Kansas and Arizona. XL Aerospace is licensed in California as a fire and casualty broker, surplus lines broker and special lines surplus lines broker. The insurance laws of each state of the U.S. and of many foreign countries regulate the sale of insurance within their jurisdiction by alien insurers, such as XL Insurance and XL Re. The Company believes it is not in violation of the insurance laws of any state in the U.S. or any foreign country. From time to time, various proposals for federal legislation within the United States have been circulated which could require the Company to, among other things, register as a surplus lines insurer. The Company believes that generally it could meet and comply with the requirements to be registered as a surplus lines insurer and such compliance would not have a significant impact on the ability of the Company to conduct its business. There can be no assurances, however, that the activities of the Company will not be challenged in the future or that the Company will be able to successfully defend against such challenges or that legislation will not be enacted that will affect the Company's ability to conduct its business. IRELAND XL Europe is permitted to underwrite risks throughout the European Community (subject to certain restrictions) pursuant to the "Third Directive" relating to non-life insurance. XL Europe's head office is in Ireland and it is subject to regulation under Irish regulatory authority. The principal legislation and regulations governing the insurance activities of Irish insurance companies are the Insurance Acts 1909 to 1990 (the "Irish Acts") and a comprehensive network of regulations and statutory provisions empowering the making of regulations of which the most relevant are the European Communities (Non-Life Insurance) Regulations, 1976, the European Communities (Non-Life Insurance 73 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 18. STATUTORY FINANCIAL DATA (CONTINUED) Accounts) Regulations, 1995, the European Communities (Non-Life Insurance) Framework Regulations, 1994 and related administrative rules (the "Irish Regulations"). In addition, XL Europe's insurance activities are subject to minimum solvency and reserve standards and auditing and reporting requirements. The Minister for Enterprise, Trade and Employment has wide powers to supervise, investigate and intervene in the affairs of such insurers. UNITED KINGDOM The United Kingdom Financial Services Authority ("U.K. FSA") regulates reinsurance entities that are "effecting and carrying on" insurance business in the United Kingdom. Through its branches and subsidiaries in London, the Company is deemed to "effect and carry on" business in the United Kingdom and certain of its subsidiaries are therefore regulated by the U.K. FSA. LLOYD'S The Company, XL Brockbank and Denham are subject to the regulatory jurisdiction of the Council of Lloyd's (the "Council"). Unlike other financial markets in the U.K., Lloyd's is not subject to direct U.K. government regulation through The Financial Services Act of 1986 but, instead, is self regulating by virtue of the Lloyd's Act of 1982 through the bye-laws, regulations and codes of conduct written by the Council, which governs the market. It is expected that the U.K. FSA will become ultimately responsible for Lloyds regulation in 2001. Under the Council, there are two boards, the Market Board and the Regulatory Board. The former is led by a number of the working members of the Council and is responsible for the development and growth of Lloyd's worldwide business. The Regulatory Board is responsible for developing and monitoring regulatory practice and procedures. Under the regulations, the approval of the Council has to be obtained before any person can be a "major shareholder" or "controller" of a corporate Name or managing agency. The Company has been approved as both a "major shareholder" and a "controller" of its corporate Names (the "CCVs") and managing agencies. As a "controller", the Company is required to give certain undertakings, directed principally towards ensuring that there is no direct interference in the conduct of the business of the relevant managing agency, but there are no provisions in the Lloyd's Act of 1982, the bye-laws or the regulations which provide for any liabilities of the CCVs or the XL Brockbank group as a whole to be met by the Company. In addition, a managing agency is required to comply with various capital and solvency requirements and to submit to regular monitoring and compliance procedures. The CCVs, as corporate members of Lloyd's are each required to commit a specified amount approximately equal to 50% of their underwriting capacity on the syndicates to support its underwriting on those syndicates. The Lloyd's Act of 1982 generally restricts certain direct or indirect equity cross-ownership between a Lloyd's broker and a Lloyd's managing agent. OTHER REGULATION The Company is subject to regulation in Australia, Singapore, Spain, Latin America and Germany as a result of its representative offices and branches in such jurisdictions. 74 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 19. EARNINGS PER SHARE The following table sets forth the computation of the basic and diluted earnings per share:
YEAR ENDED DECEMBER 31 --------------------------------- 2000 1999 1998 --------------------------------- BASIC EARNINGS PER SHARE: Net income.................................................. $506,352 $470,509 $656,330 Weighted average ordinary shares outstanding................ 124,503 127,601 112,034 Basic earnings per share.................................... $ 4.07 $ 3.69 $ 5.86 --------------------------------- Diluted earnings per share: Net income.................................................. $506,352 $470,509 $656,330 Add back after-tax interest on convertible debentures....... -- 1,752 3,504 --------------------------------- Adjusted net income......................................... $506,352 $472,261 $659,834 --------------------------------- Weighted average ordinary shares outstanding -- basic....... 124,503 127,601 112,034 Average stock options outstanding (1)....................... 1,194 1,872 2,152 Conversion of convertible debentures (2).................... -- 831 2,020 --------------------------------- Weighted average ordinary shares outstanding -- diluted..... 125,697 130,304 116,206 --------------------------------- Diluted earnings per share.................................. $ 4.03 $ 3.62 $ 5.68 ---------------------------------
(1) Net of shares repurchased under the treasury stock method. (2) 1998 reflects the assumed conversion of the 5.25% Convertible Subordinated Debentures due 2000. The Debentures were called in June 1999 and the actual conversion is reflected in 1999. 20. SUBSEQUENT EVENTS XL Capital announced on February 15, 2001 that it has agreed to purchase Winterthur International from Winterthur Swiss Insurance Company ("Winterthur"), a subsidiary of the Credit Suisse Group ("CSG"). The Company will be purchasing a combination of insurance companies and selected Winterthur International insurance portfolios. The all-cash transaction is valued at approximately $600.0 million and may be funded by the Company with a combination of current resources and external financing. Winterthur International is the international, large commercial account property and casualty insurance business of Winterthur. Winterthur International operates in 27 countries, has more than 1,000 employees and in 2000 had gross premiums written and net premiums earned of approximately $1.3 billion and $600.0 million, respectively. In terms of premium volume, Winterthur International's top five markets are the U.K., Switzerland, Germany, the U.S. and France. As at September 30, 2000, Winterthur International (including certain operations to be retained by CSG) had investment assets of approximately $1.0 billion. 75 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 21. UNAUDITED QUARTERLY FINANCIAL DATA The following is a summary of the unaudited quarterly financial data for 2000 and 1999:
FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER ----------------------------------------- 2000 Net premiums earned..................................... $494,499 $503,375 $539,945 $497,421 Net investment income................................... 128,527 136,440 134,624 142,909 Net realized gains (losses) on investments.............. 68,707 5,075 1,026 (24,237) Equity in net income of affiliates...................... 17,479 25,756 18,447 12,673 Fee income and other.................................... 4,956 3,340 539 5,958 ----------------------------------------- Total revenues.......................................... $714,168 $673,986 $694,581 $634,724 ----------------------------------------- Income before income tax expense and minority interest.. $215,817 $140,832 $138,317 $(43,877) ----------------------------------------- Net income.............................................. $223,759 $142,484 $139,461 $ 648 ----------------------------------------- Net income per share and share equivalent - basic....... $ 1.78 $ 1.15 $ 1.13 $ 0.01 ----------------------------------------- Net income per share and share equivalent - diluted..... $ 1.77 $ 1.13 $ 1.10 $ 0.01 ----------------------------------------- 1999 Net premiums earned..................................... $386,753 $414,386 $488,729 $460,138 Net investment income................................... 135,680 132,593 126,560 130,485 Realized gains on investments........................... 67,476 17,584 (12,671) 21,967 Equity in net income (loss) of affiliates............... (7,307) 16,642 15,372 16,200 Fee income and other.................................... 10,551 3,870 28,800 57,179 ----------------------------------------- Total revenues.......................................... $593,153 $585,075 $646,790 $685,969 ----------------------------------------- Income before income tax expense and minority interest.. $214,114 $ 28,886 $139,427 $ 48,732 ----------------------------------------- Net income.............................................. $209,811 $ 62,708 $137,402 $ 60,588 ----------------------------------------- Net income per share and share equivalent - basic....... $ 1.63 $ 0.49 $ 1.08 $ 0.48 ----------------------------------------- Net income per share and share equivalent - diluted..... $ 1.58 $ 0.48 $ 1.07 $ 0.47 -----------------------------------------
In the fourth quarter of 2000, the Company incurred after-tax charges of $124.6 million, or $0.98 per share, which included certain reserve adjustments together with employee severance charges and other costs associated with the realignment of the Company's operations and the discontinuation of certain business lines. In the fourth quarter of 1999, the Company incurred after-tax losses of $125.0 million, or $0.97 per share, as a result of two major European windstorms in December 1999. The second quarter of 1999 included charges relating to merger with NAC. 76 XL CAPITAL LTD NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (U.S. dollars in thousands, except per share amounts) 22. UNAUDITED CONDENSED PRO FORMA FINANCIAL INFORMATION Unaudited condensed pro forma financial information shown below relates to the Company's acquisition of Mid Ocean in August 1998 and is based upon the assumption that Mid Ocean had been a part of the Company's operations since January 1, 1998.
PRO FORMA 1998 ---------- Net premiums earned......................................... $1,588,791 Net investment income....................................... 494,389 Net realized gains on sale of investments................... 260,598 Equity in loss of affiliates................................ (1,897) Fee income and other........................................ 28,006 ---------- Total revenues............................................ 2,369,887 ---------- Losses and loss expenses.................................... 921,018 Acquisition costs and operating expenses.................... 514,877 Interest expense............................................ 44,839 Amortization of intangible assets........................... 45,464 ---------- Total expenses............................................ 1,526,198 ---------- Income before minority interest and income tax expense...... 843,689 Minority interest and income tax............................ 34,535 ---------- Net income................................................ $ 809,154 ---------- Net income per share Basic..................................................... $ 6.33 Diluted................................................... $ 6.13 Weighted average shares outstanding (000's) Basic..................................................... 127,883 Diluted................................................... 132,036
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE There have been no changes in or any disagreements with accountants regarding accounting and financial disclosure within the twenty-four months ending December 31, 2000. 77 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT This item is omitted because a definitive proxy statement that involves the election of directors will be filed with the Securities and Exchange Commission not later than 120 days after the close of the fiscal year pursuant to Regulation 14A, which proxy statement is incorporated by reference. ITEM 11. EXECUTIVE COMPENSATION This item is omitted because a definitive proxy statement that involves the election of directors will be filed with the Securities and Exchange Commission not later than 120 days after the close of the fiscal year pursuant to Regulation 14A, which proxy statement is incorporated by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT This item is omitted because a definitive proxy statement that involves the election of directors will be filed with the Securities and Exchange Commission not later than 120 days after the close of the fiscal year pursuant to Regulation 14A, which proxy statement is incorporated by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS This item is omitted because a definitive proxy statement that involves the election of directors will be filed with the Securities and Exchange Commission not later than 120 days after the close of the fiscal year pursuant to Regulation 14A, which proxy statement is incorporated by reference. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
PAGE -------- (a) Financial Statements, Financial Statement Schedules and Exhibits. - Report of PricewaterhouseCoopers LLP on Financial Statements and Financial Statement Schedules............................. 83 - Report of Ernst and Young LLP on Financial Statements and Financial Statement Schedules............................. 84
1. FINANCIAL STATEMENTS Included in Part II--See Item 8 of this report. 2. FINANCIAL STATEMENT SCHEDULES Included in Part IV of this report:
SCHEDULE NUMBER PAGE ------------------- - Consolidated Summary of Investments -- Other than Investments in Related Parties, as of December 31, 2000.................................................... I 85 - Condensed Financial Information of Registrant, as of December 31, 2000 and 1999 and for the years ended December 31, 2000, 1999, and 1998....................... II 86 - Reinsurance, for the years ended December 31, 2000, 1999 and 1998................................................ IV 89 - Supplementary Information Concerning Property/Casualty Insurance Operations for the years ended December 31, 2000, 1999 and 1998..................................... VI 90
78 Other Schedules have been omitted as they are not applicable to the Company. 3. EXHIBITS 3.1 Memorandum of Association, incorporated by reference to Annex G to the Joint Proxy Statement of EXEL Limited and Mid Ocean limited dated July 2, 1998. 3.2 Articles of Association, incorporated by reference to Annex G to the Joint Proxy Statement of EXEL Limited and Mid Ocean Limited dated July 2, 1998. 3.1 Rights Agreement, dated as of September 11, 1998 between the Company and ChaseMellon Shareholder Services, L.L.C., as Rights Agent, incorporated by reference to the Company's Current Report on Form 8-K dated October 21, 1998. 10.1 Money Accumulation Savings Program, incorporated by reference to Exhibit 10.15 to the Company's Registration Statement on Form S-1 (No. 33-40533). 10.2 (Intentionally omitted) 10.3 1991 Management's incentive Plan, incorporated by reference to Exhibit 10.17 to the Company's Registration Statement on Form S-1 (No. 33-40533). 10.4 First Amendment to the 1991 Performance Incentive Program, incorporated by reference to Exhibit 10.4 to the Company's Annual Report on Form 10-K for the year ended November 30, 1996. 10.5 Retirement Plan for Non-employee Directors of XL Capital Ltd, as amended, incorporated by reference Exhibit 10.5 to the Company's Annual Report on Form 10-K for the year ended November 30, 1996. 10.6.1 XL Capital Ltd Directors Stock and Option Plan, as amended, incorporated by reference to Exhibit 10.6 to the Company's Annual Report on Form 10-K for the year ended November 30, 1996. 10.6.2 Fourth Amendment to EXEL Limited Directors Stock and Option Plan, incorporated by reference to Exhibit 10.6.2 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.7 XL Capital Ltd Stock Plan for Non-employee Directors, incorporated by reference to Exhibit 10.6 to the Company's Annual report on Form 10-K for the year ended November 30, 1996. 10.8 (Intentionally omitted) 10.9.1 Mid Ocean Limited 1993 Long Term Incentive and Share Award Plan, incorporated by reference to Exhibit 10.9.1 to the Company's Annual report on form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.9.2 Amendment to Mid Ocean Limited 1993 Long Term Incentive and Share Award Plan, incorporated by reference to Exhibit 10.9.2 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.10.1 Mid Ocean Ltd. Stock & Deferred Compensation Plan for Non-employee Directors, incorporated by reference to Exhibit 10.10.1 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.10.2 Form of Severance Contract between NAC Re Corp. and the executive officers of NAC Re incorporated herein by reference to the Company's Annual Report on Form 10-K of NAC Re for the year ended December 30, 1988. 10.10.3 1997 incentive and capital accumulation plan incorporated by reference to Exhibit A to the NAC Re definitive Proxy Statement filed with the Securities and Exchange Commission.
79 10.11.1 Mark E. Brockbank Employment Agreement, incorporated by reference to Exhibit 10.11.1 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.11.2 Henry C.V. Keeling Employment Agreement, incorporated by reference to Exhibit 10.11.2 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.11.4 (Intentionally omitted) 10.11.5 Michael A. Butt Employment Agreement, incorporated by reference to Exhibit 10.11.5 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.12.1 Amendment to Brockbank Service Agreement, incorporated by reference to Exhibit 10.12.1 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.12.2 Amendment to Keeling Service Agreement, incorporated by reference to Exhibit 10.12.2 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.12.3 (Intentionally omitted) 10.12.4 Amendment to Butt Service Agreement, incorporated by reference to Exhibit 10.12.4 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.12.5 (Intentionally omitted) 10.13.1 (Intentionally omitted) 10.13.2 Ronald L. Bornheutter Consulting Agreement dated as of July 1, 1999, incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on form 10-K for the year ended December 31, 1999. 10.13.3 Ronald L. Bornheutter Settlement Agreement dates as of June 30, 1999, incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.13.4 Employment Contract with Nicholas M. Brown, Jr. dated as of June 30, 1998, incorporated herein by reference to NAC Re's quarterly report on Form 10Q for June 30, 1998. 10.13.5 Amended and Restated Employment Agreement with Nicholas M. Brown, Jr., dated as of June 18, 1999, incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.1 Credit Agreement (5-Year) between Mid Ocean Limited and The Chase Manhattan Bank, incorporated by reference to Exhibit 10.14.1 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.14.2 Amendment to No. 1 to Credit Agreement (5-Year) between Mid Ocean Limited and The Chase Manhattan Bank, incorporated by reference to Exhibit 10.14.2 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.14.3 Amendment No.2 to Credit Agreement (5-year) between Mid Ocean Limited and The Chase Manhattan Bank, incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.4 Amendment No.3 to Credit Agreement (5-year) between Mid Ocean Limited and The Chase Manhattan Bank, incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.5 (Intentionally omitted) 10.14.6 (Intentionally omitted) 10.14.7 (Intentionally omitted)
80 10.14.8 (Intentionally omitted) 10.14.9 (Intentionally omitted) 10.14.10 (Intentionally omitted) 10.14.11 (Intentionally omitted) 10.14.12 (Intentionally omitted) 10.14.13 (Intentionally omitted) 10.14.14 (Intentionally omitted) 10.14.15 (Intentionally omitted) 10.14.16 Revolving Credit Agreement Between XL Insurance Company, Ltd. and Mellon Bank N.A., incorporated by reference to Exhibit (b)(2) of the GCR Schedule 14D-1, incorporated by reference to Exhibit 10.14.14 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 10.14.17 First Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd. and Mellon Bank N.A., incorporated by reference to Exhibit 10.14.15 to the Company's Annual Report on Form 10-K for the year ended November 30,1998. 10.14.18 Second Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd. and Mellon Bank N.A., incorporated by reference to Exhibit 10.14.16 to the Company's Annual Report on Form 10-K for the year ended November 30,1998. 10.14.19 Third Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd. and Mellon Bank, N.A., incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.20 Fourth Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd. and Mellon Bank, N.A., incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.21 Fifth Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd. and Mellon Bank, N.A., incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.22 (Intentionally omitted) 10.14.23 (Intentionally omitted) 10.14.24 Letter of Credit Facility and Reimbursement Agreement dated as of June 30, 1999 by and among XL Insurance Ltd. et al. and Mellon Bank, N.A., incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.25 First Amendment to Letter of Credit Facility and Reimbursement Agreement dated as of June 30, 1999 by and among XL Insurance Ltd. et al. and Mellon Bank, N.A., incorporated by reference to Exhibit 10.14.19 to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.14.26 (Intentionally omitted) 10.14.27 (Intentionally omitted) 10.14.28 (Intentionally omitted) 10.14.29 (Intentionally omitted) 10.14.30 (Intentionally omitted)
81 10.14.31 364-day Credit Agreement, dated as of July 5, 2000, between XL Capital Ltd, X.L. America, Inc., XL Insurance Ltd, XL Europe Ltd and XL Mid Ocean Reinsurance Ltd, as borrowers and guarantors, the lenders named therein. The Chase Manhattan Bank, as administrative agent, Chase Securities Inc., as advisor, lead arranger and book manager, Deutsche Bank AG, as syndication agent, and Mellon Bank, N.A. and Citibank, N.A., as co-documentation agent, incorporated by reference to the Company's quarterly report on Form 10-Q for June 2000. 10.14.32 Letter of Credit and Reimbursement Agreement, dated as of July 5, 2000, between XL Capital Ltd, X.L. America, Inc., XL Insurance Ltd, XL Europe Ltd and XL Mid Ocean Reinsurance Ltd, as account parties and guarantors, the lenders party thereto, The Chase Manhattan Bank, as administrative agent, Chase Securities Inc., as advisor, lead arranger and book manager, Deutsche Bank AG, as syndication agent, and Mellon Bank, N.A. and Citibank, N.A., as co-documentation agents, incorporated by reference to the Company's quarterly report on Form 10-Q for June 2000. 10.14.33 Letter of Credit and Reimbursement Agreement, dated November 3, 2000, between the Company, the guarantors named therein, the lenders named therein, Citibank International plc, as agent and trustee for the lenders, and Solomon Brothers International Limited, as arranger. 10.14.34 Second Amendment to Letter of Credit Facility and Reimbursement Agreement, dated as of November 28, 2000, by and among XL Insurance Ltd, XL Europe Ltd, XL Mid Ocean Reinsurance Ltd, XL Brockbank Group plc, and XL Investments Ltd and Mellon Bank. 10.14.35 1991 Performance Incentive Program as amended and restated effective March 17, 2000, incorporated by reference to the Company's proxy statement dated April 7, 2000. 10.14.36 Letter of Credit Agreement (Secured) between XL Mid Ocean Reinsurance Ltd and Citibank International plc dated May 19, 1993 (as amended) incorporated by reference to the Company's Prospectus Supplement dated November 3, 1998. 11.1 Statement regarding computation of per share earnings. 21.1 List of subsidiaries of the Registrant. 23.1 Consent of PricewaterhouseCoopers LLP. 23.2 Consent of Ernst & Young LLP. 27.1 Financial Data Schedule.
(b) Reports on Form 8-K No reports on Form 8-K were filed during the last quarter of 2000. 82 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Shareholders of XL Capital Ltd: In our opinion, based upon our audits and the report of other auditors, the accompanying consolidated balance sheets, the related consolidated statements of income and comprehensive income, of shareholders' equity and of cash flows present fairly, in all material respects, the financial position of XL Capital Ltd and its subsidiaries at December 31, 2000 and 1999, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2000, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedules listed in Item 14(a) of this Form 10-K, when considered in relation to the basic financial statements taken as a whole, present fairly, in all material respects, the information required to be included therein. These financial statements and financial statement schedules are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits. We did not audit the financial statements or financial statement schedules of NAC Re Corp. as at December 31, 1998, which statements reflect total revenues of $699.4 million for the year ended December 31, 1998. Those statements were audited by other auditors whose report thereon has been furnished to us, and our opinion expressed herein, insofar as it relates to the amounts included for NAC Re Corp. for that date, is based solely on the report of the other auditors. The consolidated financial statements give retroactive effect to the merger with NAC Re Corp. on July 15, 1999 in a transaction accounted for as a pooling of interests, as described in Note 6 to the consolidated financial statements. We conducted our audits of these statements and schedules in accordance with generally accepted auditing standards in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits and the report of other auditors provide a reasonable basis for our opinion. We previously audited and reported on the consolidated balance sheets, the related consolidated statements of income and comprehensive income, of shareholders' equity and of cash flows and the supplemental schedules of XL Capital Ltd and its subsidiaries as at and for the year ended November 30, 1998 prior to their restatement for the 1999 pooling of interests and change in fiscal year. PRICEWATERHOUSECOOPERS LLP New York, New York February 15, 2001 83 REPORT OF INDEPENDENT AUDITORS To the Board of Directors and Shareholders of NAC Re Corporation: We have audited the consolidated statements of income, stockholders' equity and cash flows of NAC Re Corporation and subsidiaries for the year ended December 31, 1998 (not presented separately herein). Our audit also included the financial statements schedules listed in the Index at Item 14 of the 1998 NAC Re Corporation annual report on Form 10-K (not presented separately herein). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated results of NAC Re Corporation and subsidiaries' operations and cash flows for the year ended December 31, 1998, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all respects, the information set forth therein. Ernst & Young LLP New York, New York February 3, 1999 Except for Note 15, as to which the date is February 15, 1999 84 XL CAPITAL LTD SUPPLEMENTAL SCHEDULE I CONSOLIDATED SUMMARY OF INVESTMENTS--OTHER THAN INVESTMENTS IN RELATED PARTIES AS AT DECEMBER 31, 2000 (U.S dollars in thousands)
AMOUNT SHOWN COST OR IN THE AMORTIZED MARKET BALANCE TYPE OF INVESTMENT COST (1) VALUE SHEET - ----------------- ------------------------------------- Fixed Maturities: Bonds and notes: U.S. government and government agencies and authorities......................................... $1,361,972 $1,412,123 $1,412,123 U.S states and political subdivisions of the States.... 516,949 533,785 533,785 Non-U.S. sovereign governments......................... 597,295 598,655 598,655 Mortgage-backed securities............................. 1,818,697 1,830,395 1,830,395 All other corporate.................................... 4,419,283 4,230,123 4,230,123 ------------------------------------- Total fixed maturities.............................. $8,714,196 $8,605,081 $8,605,081 ------------------------------------- Equity Securities:.......................................... $ 515,440 $ 557,460 $ 557,460 ------------------------------------- Short-term investments...................................... $ 347,147 $ 339,007 $ 339,007 ------------------------------------- Total investments........................................... $9,576,783 $9,501,548 $9,501,548 -------------------------------------
(1) Investments in fixed maturities and short-term investments are shown at amortized cost. 85 XL CAPITAL LTD SCHEDULE II CONDENSED FINANCIAL INFORMATION OF REGISTRANT CONDENSED BALANCE SHEETS--PARENT COMPANY ONLY AS AT DECEMBER 31, 2000 AND 1999 (U.S. dollars in thousands)
2000 1999 ----------------------- A S S E T S Portfolio Investments: Fixed maturities at fair value (amortized cost: 2000, $292,759; 1999, $101,233).............................. $ 295,770 $ 99,816 Short-term investments at fair value (amortized cost: 2000, $11,032; 1999, $43,563).......................... 10,997 43,499 ----------------------- Total portfolio investments............................ 306,767 143,315 Cash and cash equivalents................................... 40,391 125,619 Investments in subsidiaries on an equity basis.............. 6,748,846 6,296,880 Investment in affiliates.................................... 162 74 Investments in limited partnerships......................... 35,712 39,352 Accrued investment income................................... 2,629 539 Other assets................................................ 22,049 8,952 ----------------------- Total assets........................................... $7,156,556 $6,614,731 ----------------------- L I A B I L I T I E S Amount due to subsidiaries.................................. $1,515,071 $ 909,610 Accounts payable and accrued liabilities.................... 67,817 128,043 ----------------------- Total liabilities...................................... $1,582,888 $1,037,653 ----------------------- S H A R E H O L D E R S' E Q U I T Y Ordinary shares............................................. $ 1,250 $ 1,278 Contributed surplus......................................... 2,497,416 2,520,136 Accumulated other comprehensive income...................... (104,712) 19,311 Deferred compensation....................................... (17,727) (28,797) Retained earnings........................................... 3,197,441 3,065,150 ----------------------- Total shareholders' equity............................. $5,573,668 $5,577,078 ----------------------- Total liabilities and shareholders' equity............. $7,156,556 $6,614,731 -----------------------
86 XL CAPITAL LTD SCHEDULE II CONDENSED FINANCIAL INFORMATION OF REGISTRANT (CONTINUED) STATEMENT OF INCOME AND COMPREHENSIVE INCOME--PARENT COMPANY ONLY FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S. dollars in thousands)
2000 1999 1998 ------------------------------ Net investment income....................................... $ 4,466 $ 1,890 $ 2,738 Net realized gains (losses)................................. 643 (278) 458 Equity in net earnings of subsidiaries (Dividends were Nil, Nil and $117,900 in 2000, 1999 and 1998, respectively).... 576,502 560,166 632,521 Equity in net income of affiliates.......................... 88 - 49,878 Income from limited partnerships............................ 2,594 4,947 3,599 ------------------------------ Total revenues.............................................. 584,293 566,725 689,194 Operating expenses.......................................... 77,941 96,216 32,864 ------------------------------ Net income.................................................. 506,352 470,509 $656,330 Change in net unrealized appreciation on investments........ 4,458 (3,084) 1,603 ------------------------------ Comprehensive income........................................ $510,810 $467,425 $657,933 ------------------------------
87 XL CAPITAL LTD SCHEDULE II CONDENSED FINANCIAL INFORMATION OF REGISTRANT (CONTINUED) STATEMENT OF CASH FLOWS--PARENT COMPANY ONLY FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S dollars in thousands)
2000 1999 1998 --------------------------------- Cash flows provided by operating activities: Net income................................................ $ 506,352 $ 470,509 $ 656,330 Adjustments to reconcile net income to net cash provided by operating activities:............................... Net realized gains from sale of shares in affiliate.... - - (458) Equity in net earnings of subsidiaries, net of dividends........................................... (586,663) (557,317) (503,838) Equity in net income of affiliates, net of dividends... (88) - (31,410) Accrued investment income.............................. (2,090) 1,428 (1,967) Amount due to subsidiaries............................. 605,461 229,811 651,753 Accounts payable and accrued liabilities............... (60,226) 10,522 116,402 Amortization of intangible assets...................... 31,348 31,348 10,494 Amortization of deferred compensation.................. 8,861 7,657 5,815 Amortization of discounts on fixed maturities.......... 637 366 335 Other.................................................. (8,890) (5,069) (117) --------------------------------- Total adjustments................................... (11,650) (281,254) 247,009 --------------------------------- Net cash provided by operating activities........... 494,702 189,255 903,339 --------------------------------- Cash flows provided by (used in) investing activities: Proceeds from sale of fixed maturities and short-term investments............................................ 230,110 118,756 198,893 Proceeds from redemption of fixed maturities and short-term investments................................. 43,500 107,885 53,325 Purchases of fixed maturities and short term investments............................................ (432,722) (121,995) (501,957) Investment in subsidiaries................................ (25,000) - - Investment in limited partnerships........................ 3,640 (18,974) (1,129) --------------------------------- Net cash provided (used in) by investing activities.... (180,472) 85,672 (250,868) --------------------------------- Cash flows used in financing activities: Proceeds from exercise of options......................... 74,564 14,014 15,092 Dividends paid............................................ (225,572) (212,659) (156,481) Repurchase of treasury shares............................. (248,450) (99,344) (362,401) --------------------------------- Net cash used in financing activities............... (399,458) (297,989) (503,790) --------------------------------- Net change in cash and cash equivalents............. (85,228) (23,062) $ 148,681 Cash and cash equivalents - beginning of year............... 125,619 148,681 - --------------------------------- Cash and cash equivalents - end of year..................... $ 40,391 $ 125,619 $ 148,681 ---------------------------------
88 XL CAPITAL LTD SCHEDULE IV--REINSURANCE FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S. dollars in thousands)
CEDED ASSUMED GROSS TO OTHER FROM OTHER NET AMOUNT COMPANIES COMPANIES AMOUNT ------------------------------------------------- 2000............................... $1,688,923 $1,012,791 $1,440,108 $2,116,240 ------------------------------------------------- 1999............................... $1,088,028 $ 541,037 $1,354,892 $1,901,883 ------------------------------------------------- 1998............................... $ 779,551 $ 319,275 $ 863,988 $1,324,264 -------------------------------------------------
89 XL CAPITAL LTD SCHEDULE VI SUPPLEMENTARY INFORMATION CONCERNING PROPERTY/CASUALTY INSURANCE OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S dollars in thousands)
LOSSES AND LOSS EXPENSES INCURRED RELATED TO NET RESERVES ------------------------ PAID DEFERRED FOR LOSSES RESERVES FOR NET LOSSES ACQUISITION AND LOSS UNEARNED NET EARNED INVESTMENT CURRENT PRIOR AND LOSS COSTS EXPENSES PREMIUMS PREMIUMS INCOME YEAR (1) YEAR (2) EXPENSES --------------------------------------------------------------------------------------------------------- 2000.............. $309,268 $5,672,062 $1,741,393 $2,035,240 $542,500 $1,827,443 $(394,884) $1,663,670 --------------------------------------------------------------------------------------------------------- 1999.............. $275,716 $5,369,402 $1,497,376 $1,750,006 $525,318 $1,591,414 $(287,110) $1,093,502 --------------------------------------------------------------------------------------------------------- 1998.............. $204,271 $4,896,643 $1,337,277 $1,324,291 $417,290 $1,097,161 $(255,644) $ 730,889 --------------------------------------------------------------------------------------------------------- AMORTIZATION OF DEFERRED NET ACQUISITION PREMIUMS COSTS WRITTEN ------------------------- 2000.............. $485,796 $2,116,240 ------------------------- 1999.............. $380,980 $1,901,883 ------------------------- 1998.............. $249,341 $1,324,264 -------------------------
90 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. XL CAPITAL LTD By: /s/ BRIAN M. O'HARA --------------------------------------------- Brian M. O'Hara PRESIDENT AND CHIEF EXECUTIVE OFFICER
March 23, 2001 POWER OF ATTORNEY We, the undersigned directors and executive officers of XL Capital Ltd, hereby severally constitute Michael P. Esposito, Jr., Brian M. O'Hara and Paul S. Giordano, and each of them singly, our true and lawful attorneys with full power to them and each of them to sign for us, and in our names in the capacities indicated below, any and all amendments to the Annual Report on Form 10-K filed with the Securities and Exchange Commission, hereby ratifying and confirming our signatures as they may be signed by our said attorneys to any and all amendments to said Annual Report on Form 10-K. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
SIGNATURES TITLE DATE ---------- ----- ---- /s/ BRIAN M. O'HARA President, Chief Executive ------------------------------------------------ Officer and Director March 23, 2001 Brian M. O'Hara (Principal Executive Officer) /s/ ROBERT R. LUSARDI Executive Vice President and ------------------------------------------------ Chief Financial Officer February 19, Robert R. Lusardi (Principal Financial Officer) 2001 /s/ MICHAEL A. SIESE Senior Vice President and ------------------------------------------------ Controller (Principal March 23, 2001 Michael A. Siese Accounting Officer) /s/ MICHAEL P. ESPOSITO, JR. ------------------------------------------------ Director and Chairman of the March 23, 2001 Michael P. Esposito, Jr. Board of Directors /s/ RONALD L. BORNHUETTER ------------------------------------------------ Director March 23, 2001 Ronald L. Bornhuetter /s/ MICHAEL A. BUTT ------------------------------------------------ Director March 23, 2001 Michael A. Butt /s/ ROBERT CLEMENTS ------------------------------------------------ Director March 23, 2001 Robert Clements
91
SIGNATURES TITLE DATE ---------- ----- ---- /s/ SIR BRIAN CORBY ------------------------------------------------ Director March 23, 2001 Sir Brian Corby /s/ ROBERT R. GLAUBER ------------------------------------------------ Director March 23, 2001 Robert R. Glauber /s/ IAN R. HEAP ------------------------------------------------ Director March 23, 2001 Ian R. Heap /s/ PAUL JEANBART ------------------------------------------------ Director March 23, 2001 Paul Jeanbart /s/ JOHN LOUDON ------------------------------------------------ Director March 23, 2001 John Loudon /s/ DANIEL MCNAMARA ------------------------------------------------ Director March 23, 2001 Daniel McNamara /s/ ROBERT S. PARKER ------------------------------------------------ Director March 23, 2001 Robert S. Parker /s/ CYRIL RANCE ------------------------------------------------ Director March 23, 2001 Cyril Rance /s/ ALAN Z. SENTER ------------------------------------------------ Director March 23, 2001 Alan Z. Senter /s/ JOHN T. THORNTON ------------------------------------------------ Director March 23, 2001 John T. Thornton /s/ ELLEN E. THROWER ------------------------------------------------ Director March 23, 2001 Ellen E. Thrower /s/ JOHN WEISER ------------------------------------------------ Director March 23, 2001 John Weiser
92 EX-10.14(33) 2 a2040480zex-10_1433.txt EXHIBIT 10.14.33 EXHIBIT 10.14.33 CONFORMED COPY 3 NOVEMBER 2000 XL CAPITAL LTD AS ACCOUNT PARTY THE GUARANTORS (AS DEFINED HEREIN) THE LENDERS PARTY HERETO (AS DEFINED HEREIN) CITIBANK INTERNATIONAL PLC AS AGENT AND SECURITY TRUSTEE SALOMON BROTHERS INTERNATIONAL LIMITED AS ARRANGER ================================================================== LETTER OF CREDIT AND REIMBURSEMENT AGREEMENT ================================================================== [GRAPHIC OMITTED] CONTENTS CLAUSE PAGE 1. DEFINITIONS....................................................1 2. THE FACILITY..................................................13 3. UTILISATION OF THE FACILITY...................................14 4. EXTENSION OF LETTERS OF CREDIT................................16 5. PAYMENT OF DEMANDS............................................19 6. THE ACCOUNT PARTY'S LIABILITIES IN RELATION TO LETTERS OF CREDIT........................................................20 7. DEFAULT INTEREST..............................................21 8. TERMINATION AND REDUCTION OF THE COMMITMENTS..................21 9. FEES..........................................................22 10. TAXES.........................................................23 11. TAX RECEIPTS..................................................24 12. INCREASED COSTS...............................................25 13. ILLEGALITY....................................................26 14. MITIGATION OBLIGATIONS; REPLACEMENT OF LENDERS................27 15. PAYMENTS GENERALLY; PRO RATA TREATMENT; SHARING OF SET-OFFS...28 16. GUARANTEE AND INDEMNITY.......................................30 17. REPRESENTATIONS AND WARRANTIES................................33 18. AFFIRMATIVE COVENANTS.........................................37 19. NEGATIVE COVENANTS............................................41 20. EVENTS OF DEFAULT.............................................45 21. THE AGENT, THE ARRANGER AND THE LENDERS.......................47 22. NOTICES.......................................................54 23. WAIVERS AND AMENDMENTS........................................55 24. COSTS AND EXPENSES............................................56 25. INDEMNITIES...................................................56 26. ALTERATION TO THE PARTIES.....................................58 27. SET OFF.......................................................63 28. MISCELLANEOUS PROVISIONS......................................63 29. GOVERNING LAW AND JURISDICTION................................64 30. TREATMENT OF CERTAIN INFORMATION; CONFIDENTIALITY.............65 31. THIRD PARTY RIGHTS............................................66 SCHEDULE 1..........................................................67 Commitments.....................................................67 SCHEDULE 2..........................................................68 Indebtedness and Liens..........................................68 SCHEDULE 3..........................................................70 Subsidiaries....................................................70 schedule 4..........................................................73 Mandatory Costs Rate............................................73 Schedule 5..........................................................75 Conditions Precedent............................................75 Schedule 6..........................................................76 Utilisation Request.............................................76 SCHEDULE 7..........................................................77 Form of Letter of Credit........................................77 APPENDIX 1......................................................79 APPENDIX 2......................................................80 APPENDIX 3......................................................82 SCHEDULE 8..........................................................83 Form of Transfer Certificate....................................83 SCHEDULE 9..........................................................85 Form of Charge Agreement........................................85 APPENDIX 1......................................................92 Page II LETTER OF CREDIT AND REIMBURSEMENT AGREEMENT dated 3 November 2000 BETWEEN: XL CAPITAL LTD, a company incorporated under the laws of the Cayman Islands (the ACCOUNT PARTY); The GUARANTORS as defined below; The LENDERS as defined below; CITIBANK INTERNATIONAL PLC, as agent and trustee for the Lenders (and when acting in such capacities the AGENT and SECURITY TRUSTEE respectively); and SALOMON BROTHERS INTERNATIONAL LIMITED (the ARRANGER). DEFINITIONS DEFINED TERMS 1.1 As used in this Agreement, the following terms have the meanings specified below: AFFILIATE means, with respect to a specified Person, another Person that directly, or indirectly, Controls or is Controlled by or is under common Control with the Person specified; APPLICABLE PERCENTAGE means, with respect to any Lender, the percentage of the Total Commitments represented by such Lender's Commitment. If the Total Commitments or Commitment of a Lender have terminated or expired, the Applicable Percentage shall be determined based upon the Total Commitments or Commitment of such Lender (as the case may be) most recently in effect, giving effect to any permitted assignments or transfers; APPLICANT means each of XL Europe, Mid Ocean, Global Capital, Stonebridge Underwriting, NAC Reinsurance, Dornoch, County Down, Brockbank and XL Mid Ocean and any other Affiliate of the Account Party as may be agreed by the Agent and the Account Party from time to time; APPROVED CREDIT INSTITUTION means a credit institution within the meaning of the First Council Directive on the co-ordination of laws, regulations and administrative provisions relating to the taking up and pursuit of the business of credit institutions (No 77/780/EEC) which has been approved by Lloyd's for the purpose of providing guarantees and issuing or confirming letters of credit comprising a member's Funds at Lloyd's; AUTHORISED SIGNATORY means, in relation to an Obligor, any person who is duly authorised (in such manner as may be reasonably acceptable to the Agent) and in respect of whom the Agent has received a certificate signed by a director or another Authorised Signatory of such Obligor setting out the name and signature of such person and confirming such person's authority to act; AVAILABLE COMMITMENT means in relation to a Lender at any time and save as otherwise provided herein its Commitment less the amount of its participation in the LC Exposures at such time PROVIDED THAT such amount shall not be less than zero; AVAILABLE FACILITY means, at any time, the aggregate of the Available Commitments adjusted, in the case of a proposed utilisation pursuant to a Utilisation Request, so as to take into account: (a) any reduction in the Commitment of a Lender pursuant to the terms hereof; and (b) any Letter of Credit which pursuant to any other Utilisation Request is to be issued; on or before the proposed Utilisation Date relating to such utilisation; AVAILABILITY PERIOD means the period from (and including) the Closing Date to (and including) the Commitment Termination Date; BILATERAL LETTER OF CREDIT has the meaning given to it in Clause 4.5(b); BIS QUALIFYING ASSETS means fixed income securities issued or guaranteed by US Government Agencies or by the Central Governments of any OECD country which has not defaulted or re-scheduled its debt obligations in the preceding five years; BOARD means the Board of Governors of the Federal Reserve System of the United States of America; BROCKBANK means XL Brockbank Ltd, a company incorporated under the laws of England and Wales; BUSINESS DAY means any day that is not a Saturday, Sunday or other day on which commercial banks in New York City, London or Bermuda are authorised or required by law to remain closed; CAPITAL LEASE OBLIGATIONS of any Person means the obligations of such Person to pay rent or other amounts under any lease of (or other arrangement conveying the right to use) real or personal property, or a combination thereof, which obligations are required to be classified and accounted for as capital leases on a balance sheet of such Person under GAAP, and the amount of such obligations shall be the capitalised amount thereof determined in accordance with GAAP; CENTRAL GOVERNMENT means, without limitation, government departments, ministries and central banks; CHANGE IN CONTROL means the occurrence of any of the following events or conditions: (a) any Person or group of Persons (as used in Sections 13 and 14 of the Securities Exchange Act of 1934 of the United States of America, and the rules and regulations thereunder) shall have become the beneficial owner (as defined in the rules promulgated by the SEC) of more than 40% of the voting securities of the Account Party; (b) the sale, lease, exchange or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of the Account Party; or (c) a majority of the members of the Account Party's board of directors are persons who are then serving on the board of directors without having been elected by the board of directors or having been nominated for election by its shareholders; Page 2 CHANGE IN LAW means (a) the adoption of any law, rule or regulation after the date of this Agreement, (b) any change in any law, rule or regulation or in the interpretation or application thereof by any Governmental Authority after the date of this Agreement or (c) compliance by any Lender (or, for purposes of Clause 12.1 and 13, by any lending office of such Lender or by such Lender's holding company, if any) with any request, guideline or directive (whether or not having the force of law) of any Governmental Authority made or issued after the date of this Agreement; CHARGE AGREEMENT means the charge agreement, in substantially the form set out in Schedule 9 that may be required to be entered into by the Account Party as chargor pursuant to the terms hereof and pursuant to which the Account Party will grant cash cover in favour of the Security Trustee; CLOSING DATE means the date upon which the conditions set out in Schedule 5 (CONDITIONS PRECEDENT) have, in the reasonable opinion of the Agent, been satisfied; CODE means the Internal Revenue Code of 1986 of the United States of America, as amended from time to time; COMMITMENT means, with respect to each Lender, the commitment of such Lender to participate in the issue of Letters of Credit hereunder. The initial amount of each Lender's Commitment is set forth on Schedule 1, or in the Transfer Certificate pursuant to which such Lender shall have assumed its Commitment, as applicable, but in each case as such Commitment may be: (a) reduced from time to time pursuant to Clause 8 (TERMINATION AND REDUCTION OF THE COMMITMENTS) or Clause 4.5 (b) (REPLACEMENT LETTERS OF CREDIT); and (b) reduced or increased from time to time pursuant to assignments by or to such Lender pursuant to Clause 26.3 (TRANSFERS BY LENDERS); COMMITMENT LETTER means the letter so titled from the Arranger to the Account Party dated 28 September 2000; COMMITMENT TERMINATION DATE means the LATER of the date which Lloyds may specify as the Funds Date for 2000 and 1 January 2001; CONSOLIDATED NET WORTH means, at any time, the consolidated shareholders' equity of the Account Party and its Subsidiaries; CONTROL means the possession, directly or indirectly, of the power to direct or cause the direction of the management or policies of a Person, whether through the ability to exercise voting power, by contract or otherwise. CONTROLLING and CONTROLLED have meanings correlative thereto; COUNTY DOWN means County Down Limited, a company incorporated under the laws of England and Wales; DEFAULT means any event or condition which constitutes an Event of Default or a Potential Event of Default; DEFAULT PERIOD means the period from and including the date on which the Agent makes payment of a Demand Amount to but excluding the date on which the Account Party makes a Page 3 corresponding reimbursement under Clause 6.1(a) and (b) (THE ACCOUNT PARTY'S INDEMNITY TO LENDERS); DEMAND AMOUNT means a principal amount to be paid by the Account Party pursuant to Clause 6.1(a) and (b) (THE ACCOUNT PARTY'S INDEMNITY TO LENDERS); DOLLARS or $ refers to the lawful money of the United States of America from time to time; DORNOCH means Dornoch Limited, a company incorporated under the laws of England and Wales; EFFECTIVE DATE means, in respect of a Letter of Credit, the date upon which a Letter of Credit shall become valid and enforceable, being any date from (and including) the Closing Date to (but excluding) 1 January 2001; ENVIRONMENTAL LAWS means any Law, whether now existing or subsequently enacted or amended, relating to (a) pollution or protection of the environment, including natural resources, (b) exposure of Persons, including but not limited to employees, to Hazardous Materials, (c) protection of the public health or welfare from the effects of products, by-products, wastes, emissions, discharges or releases of Hazardous Materials or (d) regulation of the manufacture, use or introduction into commerce of Hazardous Materials, including their manufacture, formulation, packaging, labelling, distribution, transportation, handling, storage or disposal; ENVIRONMENTAL LIABILITY means any liability, contingent or otherwise (including any liability for damages, costs of environmental remediation, fines, penalties or indemnities), of an Obligor or any Subsidiary resulting from or based upon (a) violation of any Environmental Law, (b) the generation, use, handling, transportation, storage, treatment or disposal of any Hazardous Materials, (c) exposure to any Hazardous Materials, (d) the release or threatened release of any Hazardous Materials into the environment or (e) any contract or agreement pursuant to which liability is assumed or imposed with respect to any of the foregoing; EQUITY RIGHTS means, with respect to any Person, any subscriptions, options, warrants, commitments, pre-emptive rights or agreements of any kind (including any shareholders' or voting trust agreements) for the issuance, sale, registration or voting of, or securities convertible into, any additional shares of capital stock of any class, or partnership or other ownership interests of any type in, such Person; ERISA means the Employee Retirement Income Security Act of 1974 of the United States of America, as amended from time to time; ERISA AFFILIATE means any trade or business (whether or not incorporated) that, together with the Account Party, is treated as a single employer under Clause 414(b) or (c) of the Code, or, solely for purposes of Clause 302 of ERISA and Clause 412 of the Code, is treated as a single employer under Clause 414 of the Code; ERISA EVENT means (a) any REPORTABLE EVENT, as defined in Clause 4043 of ERISA or the regulations issued thereunder with respect to a Plan (other than an event for which the 30-day notice period is waived); (b) the existence with respect to any Plan of an ACCUMULATED FUNDING DEFICIENCY (as defined in Clause 412 of the Code or Clause 302 of ERISA), whether or not waived; (c) the filing pursuant to Clause 412(d) of the Code or Clause 303(d) of ERISA of an application for a waiver of the minimum funding standard with respect to any Plan; (d) the incurrence by any Obligor or any of such Obligor's ERISA Affiliates of any liability under Title IV of ERISA with respect to the termination of any Plan; (e) the receipt Page 4 by an Obligor or any ERISA Affiliate from the PBGC or a plan administrator of any notice relating to an intention to terminate any Plan or Plans or to appoint a trustee to administer any Plan; (f) the incurrence by any Obligor or any of its ERISA Affiliates of any liability with respect to the withdrawal or partial withdrawal from any Plan or Multiemployer Plan; or (g) the receipt by any Obligor or any ERISA Affiliate of any notice, or the receipt by any Multiemployer Plan from any Obligor or any ERISA Affiliate of any notice, concerning the imposition of Withdrawal Liability or a determination that a Multiemployer Plan is, or is expected to be, insolvent or in reorganisation, within the meaning of Title IV of ERISA; EVENT OF DEFAULT has the meaning assigned to such term in Clause 20; EXPIRY DATE means, in relation to any Letter of Credit, the date on which the maximum aggregate liability thereunder is to be reduced to zero pursuant to this Agreement; FACILITY means the letter of credit facility granted to the Account Party pursuant to this Agreement; FEE LETTER means the letter from the Arranger to the Account Party dated 28 September 2000 relating to the payment of certain fees; FINANCE DOCUMENTS means this Agreement, the Charge Agreement, the Commitment Letter, the Fee Letter, any Letter of Credit and any other document or documents as may be agreed by the Agent and the Account Party; FINAL MATURITY DATE means 31 December 2005, as extended pursuant to Clause 4 (EXTENSION OF LETTERS OF CREDIT); FINANCE PARTIES means the Lenders, the Agent, the Arranger and the Security Trustee; FINANCIAL OFFICER means, with respect to any Obligor, a principal financial officer of such Obligor; FUNDS AT LLOYD'S has the meaning given to it in paragraph 4 of the Membership Bylaw (No. 17 of 1993); FUNDS AT LLOYD'S REQUIREMENTS means, in respect of any member, the amount required to be maintained by that member as Funds at Lloyd's; FUNDS DATE means the date notified by Lloyd's each year as being the latest date in that year by which Funds at Lloyd's can be placed with Lloyd's in order to satisfy Funds at Lloyd's Requirements in respect of the immediately succeeding calendar year being, in respect of the 2000 calendar year, 24 November 2000 or such other date as may be advised by Lloyd's; GAAP means generally accepted accounting principles in the United States of America; GLOBAL CAPITAL means Global Capital Underwriters Limited, a company incorporated under the laws of England and Wales; GOVERNMENTAL AUTHORITY means the government of the United Kingdom, or of any other nation, or any political subdivision thereof, whether state or local, and any agency, authority, instrumentality, regulatory body, court, central bank or other entity exercising executive, legislative, judicial, taxing, regulatory or administrative powers or functions of or pertaining to government; Page 5 GUARANTEE means, with respect to any Person, without duplication, any obligations of such Person (other than endorsements in the ordinary course of business of negotiable instruments for deposit or collection) guaranteeing or intended to guarantee any Indebtedness of any other Person in any manner, whether direct or indirect, and including without limitation any obligation, whether or not contingent, (i) to purchase any such Indebtedness or any property constituting security therefor for the purpose of assuring the holder of such Indebtedness, (ii) to advance or provide funds or other support for the payment or purchase of any such Indebtedness or to maintain working capital, solvency or other balance sheet condition of such other Person (including without limitation keepwell agreements, maintenance agreements, comfort letters or similar agreements or arrangements) for the benefit of any holder of Indebtedness of such other Person, (iii) to lease or purchase property, securities or services primarily for the purpose of assuring the holder of such Indebtedness, or (iv) to otherwise assure or hold harmless the holder of such Indebtedness against loss in respect thereof. The amount of any Guarantee hereunder shall (subject to any limitations set forth therein) be deemed to be an amount equal to the outstanding principal amount of the Indebtedness in respect of which such Guarantee is made. The terms GUARANTEE and GUARANTEED used as a verb shall have a correlative meaning; GUARANTORS means each of the Account Party, XL America, XL Insurance, XL Europe and XL Mid Ocean; HAZARDOUS MATERIALS means all explosive or radioactive substances or wastes and all hazardous or toxic substances, wastes or other pollutants, including petroleum or petroleum distillates, asbestos or asbestos containing materials, polychlorinated biphenyls, radon gas, infectious or medical wastes and all other substances or wastes of any nature regulated pursuant to any Environmental Law; HEDGING AGREEMENT means any interest rate protection agreement, foreign currency exchange agreement, commodity price protection agreement or other interest or currency exchange rate or commodity price hedging arrangement; INDEBTEDNESS means, for any Person, without duplication (it being understood, for the avoidance of doubt, that insurance payment liabilities, as such, and liabilities arising in the ordinary course of such Person's business as an insurance or reinsurance company (including guaranteed investment contracts) or corporate member of Lloyd's or as a provider of financial or investment services or contracts (in each case other than in connection with the provision of financing to such Person or any of such Person's Affiliates) shall not be deemed to constitute Indebtedness): (i) all indebtedness or liability for or on account of money borrowed by, or for or on account of deposits with or advances to (but not including accrued pension costs, deferred income taxes or accounts payable of) such Person; (ii) all obligations (including contingent liabilities) of such Person evidenced by bonds, debentures, notes, banker's acceptances or similar instruments; (iii) all indebtedness or liability for or on account of property or services purchased or acquired by such Person; (iv) any amount secured by a Lien on property owned by such Person (whether or not assumed) and Capital Lease Obligations of such Person (without regard to any limitation of the rights and remedies of the holder of such Lien or the lessor under such capital lease to repossession or sale of such property); (v) the maximum available amount of all standby letters of credit issued for the account of such Person and, without duplication, all drafts drawn thereunder (to the extent unreimbursed); and (vi) all Guarantees of such Person; ISSUING LENDER means any Lender in its capacity as an issuer of one or more Letters of Credit hereunder; Page 6 LAW means any law (including common law), constitution, statute, treaty, regulation, rule, ordinance, order, injunction, writ, decree or award of any Governmental Authority; LC DISBURSEMENT means a payment made by a Lender pursuant to a Letter of Credit; LC EXPOSURE means the sum of (a) the aggregate undrawn amount of all outstanding Letters of Credit at such time plus (b) the aggregate amount of all Demand Amounts. The LC Exposure of any Lender at any time shall be the sum of its participation in the outstanding Letters of Credit at such time and the Demand Amounts owed to it at such time; LC PROPORTION means, in relation to the Lender in respect of any Letter of Credit and save as otherwise provided herein, the proportion (expressed as a percentage) of such Lender's Available Commitment to the Available Facility immediately prior to the issue of such Letter of Credit; LENDER AFFILIATE means with respect to any Lender, (a) an Affiliate of such Lender or (b) any entity (whether a corporation, partnership, trust or otherwise) that is engaged in making, purchasing, holding or otherwise investing in bank loans and similar extensions of credit in the ordinary course of its business and is administered or managed by a Lender or an Affiliate of such Lender; LENDERS means the Persons listed on Schedule 1 (COMMITMENTS) or any other Person that shall have become a party hereto pursuant to Clause 26.3 (TRANSFERS BY LENDERS), and which has not ceased to be a party hereto in accordance with the terms hereof; LETTERS OF CREDIT means Letters of Credit issued pursuant to the terms of this Agreement; LETTER OF CREDIT FEES means the fees payable by the Account Party pursuant to Clause 9.2 (LETTER OF CREDIT FEES); LIEN means, with respect to any asset, any mortgage, deed of trust, pledge, lien, security interest, charge or other encumbrance or security arrangement of any nature whatsoever, including but not limited to any conditional sale or title retention arrangement, and any assignment, deposit arrangement or lease intended as, or having the effect of, security; LIBOR means, in relation to any unpaid sum: (a) the display rate per annum of the offered quotation for overnight deposits in the currency of the relevant unpaid sum which appears on Telerate Page 3750 or Telerate Page 3740 (as appropriate) at or about 11.00 a.m. on any relevant day; or (b) if the display rate cannot be determined under paragraph (a) above, the rate determined by the Agent to be the arithmetic mean (rounded, if necessary, to the nearest five decimal places with the midpoint rounded upwards) of the rates notified to the Agent by each of the Reference Banks quoting (provided that at least two Reference Banks are quoting) as the rate at which such Reference Bank is offering overnight deposits in the required currency in an amount comparable to that amount to prime banks in the London Interbank Market at or about 11.00 a.m. on any relevant day; and for the purposes of this definition: TELERATE PAGE 3750 means the display designated as Page 3750, and TELERATE PAGE 3740 means the display designated as Page 3740, in each case on the Telerate Service Page 7 (or such other pages as may replace Page 3750 or Page 3740 on that service or such other service as may be nominated by the British Bankers' Association (including the Reuters Screen) as the information vendor for the purposes of displaying British Bankers' Association Interest Settlement Rates for deposits in the currency concerned); LLOYD'S means the society incorporated by Lloyd's Act 1871 by the name of Lloyd's; MAJORITY LENDERS means, at any time, Lenders having Commitments representing more than 50% of the sum of the total Commitments at such time; PROVIDED THAT, if the Commitments have expired or been terminated, MAJORITY LENDERS means Lenders having more than 50% of the aggregate LC Exposure of the Lenders; MANDATORY COSTS means, in relation to any unpaid sum for any period, a rate per annum calculated in accordance with Schedule 4; MARGIN STOCK means MARGIN STOCK within the meaning of Regulations T, U and X of the Board; MATERIAL ADVERSE EFFECT means a material adverse effect on: (a) the assets, business, financial condition or operations of an Obligor and its Subsidiaries taken as a whole; or (b) the ability of an Obligor to perform any of its payment or other material obligations under this Agreement; MID OCEAN means Mid Ocean Limited, a company incorporated under the laws of the Cayman Islands; MULTIEMPLOYER PLAN means a multiemployer plan as defined in Clause 4001(a)(3) of ERISA; NAC REINSURANCE means NAC Reinsurance International Ltd, a company incorporated under the laws of England and Wales; NON-U.S. BENEFIT PLAN means any plan, fund (including any superannuation fund) or other similar program established or maintained outside the United States by any Obligor or any of its Subsidiaries, with respect to which such Obligor or the Subsidiary has an obligation to contribute, for the benefit of employees of such Obligor or such Subsidiary, which plan, fund or other similar program provides, or results in, the type of benefits described in Clause 3(1) or 3(2) of ERISA, and which plan is not subject to ERISA or the Code; OBLIGOR JURISDICTION means (a) Bermuda, (b) the Cayman Islands, (c) the Republic of Ireland, and (d) any other country (i) where any Obligor is licensed or qualified to do business or (ii) from or through which payments hereunder are made by any Obligor; OBLIGORS means each of the Account Party and the Guarantors; OECD COUNTRY means any member of the Organisation for Economic Co-operation and Development; OTHER TAXES means any and all present or future stamp or documentary taxes or any other excise or property taxes, charges or similar levies arising from any payment made hereunder or from the execution, delivery or enforcement of, or otherwise with respect to, this Agreement; Page 8 PBGC means the Pension Benefit Guaranty Corporation referred to and defined in ERISA and any successor entity performing similar functions; PERSON means any natural person, corporation, limited liability company, trust, joint venture, association, company, partnership, Governmental Authority or other entity; PLAN means any employee pension benefit plan (other than a Multiemployer Plan) subject to the provisions of Title IV of ERISA or Clause 412 of the Code or Clause 302 of ERISA, and in respect of which any Obligor or any ERISA Affiliate is (or, if such plan were terminated, would under Clause 4069 of ERISA be deemed to be) an EMPLOYER as defined in Clause 3(5) of ERISA; POTENTIAL EVENT OF DEFAULT means an event or condition which upon notice, lapse of time or both would, unless cured or waived, become an Event of Default; PRIVATE ACT means separate legislation enacted in Bermuda with the intention that such legislation apply specifically to an Obligor, in whole or in part; QUALIFYING LENDER means an institution which is a bank as defined for the purposes of Section 349 of the Income and Corporation of Taxes Act 1988 and such bank is within the charge to United Kingdom corporation tax as respects to interest which is (or which, if it were a Lender would be) payable to it hereunder; QUARTERLY DATES means the last Business Day of March, June, September and December in each year, the first of which shall be the first such day after the date hereof; REFERENCE BANKS means, subject to Clause 26.6 (REFERENCE BANKS), the principal London offices of Citibank, N.A., ING Bank N.V., London Branch and Barclays Bank PLC; REGISTER has the meaning given to it in Clause 26.11 (MAINTENANCE OF REGISTER BY AGENT); RELATED PARTIES means, with respect to any specified Person, such Person's Affiliates and the respective directors, officers, employees, agents and advisors of such Person and such Person's Affiliates; REPRESENTATIONS means each of the representations and warranties set out in Clause 17 (REPRESENTATIONS AND WARRANTIES); SAP means, as to each Obligor and each Subsidiary that offers insurance products, the statutory accounting practices prescribed or permitted by the relevant Governmental Authority for such Obligor's or such Subsidiary's domicile for the preparation of its financial statements and other reports by insurance corporations of the same type as such Obligor or such Subsidiary in effect on the date such statements or reports are to be prepared, except if otherwise notified by the Account Party as provided in Clause 1.3; SEC means the Securities and Exchange Commission of the United States of America or any successor entity; STERLING or(POUND)refers to the lawful currency of the United Kingdom from time to time; STONEBRIDGE UNDERWRITING means Stonebridge Underwriting Limited, a company incorporated under the laws of England and Wales; Page 9 SUBSIDIARY means, with respect to any Person (the PARENT), at any date, any corporation (or similar entity) of which a majority of the shares of outstanding capital stock normally entitled to vote for the election of directors (regardless of any contingency which does or may suspend or dilute the voting rights of such capital stock) is at such time owned directly or indirectly by the parent or one or more subsidiaries of the parent. Unless otherwise specified, SUBSIDIARY means a Subsidiary of an Obligor; SUBSTITUTE LENDER has the meaning give to it in Clause 4.4(a); TAXES means any and all present or future taxes, levies, imposts, duties, deductions, charges or withholdings imposed by any Governmental Authority. TAXATION and TAX shall be construed accordingly; TERM means, save as otherwise provided herein, in relation to any Letter of Credit, the period from its Effective Date until its Expiry Date; TOTAL COMMITMENTS means, at any time, the aggregate of the Lenders' Commitments (being on the date hereof(pound)225,000,000); TOTAL FUNDED DEBT means, at any time, all Indebtedness of the Account Party and its Subsidiaries which would at such time be classified in whole or in part as a liability on the consolidated balance sheet of the Account Party in accordance with GAAP; TOTAL LC EXPOSURES means, at any time, the aggregate of the Lenders' LC Exposures; TRANSACTIONS means the execution, delivery and performance by the Obligors of this Agreement and the other Finance Documents to which any Obligor is intended to be a party and the issuance of Letters of Credit hereunder; TRANSFER CERTIFICATE means a certificate in the form of Schedule 8 (FORM OF TRANSFER CERTIFICATE) delivered pursuant to Clause 26.4 (TRANSFER PROCEDURE); TRANSFEREE means a Person to which a Lender seeks to transfer by novation all or part of such Lender's rights, benefits and obligations under the Finance Documents; US GOVERNMENT AGENCIES means US government agencies whose debt obligations are fully and explicitly guaranteed as to the timely repayment of principal and interest by the full faith and credit of the US federal government; UTILISATION DATE means the date on which a Letter of Credit is to be issued; UTILISATION REQUEST means a notice substantially in the form set out in Schedule 6 (FORM OF UTILISATION REQUEST); WITHDRAWAL LIABILITY means liability to a Multiemployer Plan as a result of a complete or partial withdrawal from such Multiemployer Plan, as such terms are defined in Part I of Subtitle E of Title IV of ERISA; XL AMERICA means X.L. America, Inc., a company incorporated under the laws of Delaware, USA; XL EUROPE means XL Europe Ltd, a company incorporated under the laws of Ireland; XL INSURANCE means XL Insurance Ltd, a company organised under the laws of Bermuda; Page 10 XL MID OCEAN means XL Mid Ocean Reinsurance Ltd, a company organised under the laws of Bermuda. INTERPRETATION 1.2 Any reference in this Agreement to: (a) the AGENT, SECURITY TRUSTEE, ARRANGER, LENDER or any other Person shall be construed so as to include its and any subsequent successors and permitted transferees in accordance with their respective interests; (b) CONTINUING, in the context of an Event of Default shall be construed as a reference to an Event of Default which has not been remedied or waived in accordance with the terms hereof and in relation to a POTENTIAL EVENT OF DEFAULT, one which has not been remedied within the relevant grace period or waived in accordance with the terms hereof; (c) a HOLDING COMPANY of a company or corporation shall be construed as a reference to any company or corporation of which the first-mentioned company or corporation is a subsidiary; (d) the EQUIVALENT on any date in one currency (the FIRST CURRENCY) of an amount denominated in another currency (the SECOND CURRENCY) is a reference to the amount of the first currency which could be purchased with the amount of the second currency at the spot rate quoted by the Agent at or about 11.00 a.m. on such date for the purchase of the first currency with the second currency; (e) a MEMBER shall be construed (as the context may require) as a reference to an underwriting member of Lloyd's; (f) a MONTH is a reference to a period starting on one day in a calendar month and ending on the numerically corresponding day in the next succeeding calendar month save that, where any such period would otherwise end on a day which is not a Business Day, it shall end on the next succeeding Business Day, unless that day falls in the calendar month succeeding that in which it would otherwise have ended, in which case it shall end on the immediately preceding Business Day, PROVIDED THAT, if a period starts on the last Business Day in a calendar month or if there is no numerically corresponding day in the month in which that period ends, that period shall end on the last Business Day in that later month (and references to MONTHS shall be construed accordingly); (g) a Lender's PARTICIPATION, in relation to a Letter of Credit, shall be construed as a reference to the rights and obligations of such Lender in relation to such Letter of Credit as are expressly set out in this Agreement; (h) a SUCCESSOR shall be construed so as to include an assignee or successor in title of such party and any person who under the laws of its jurisdiction of incorporation or domicile has assumed the rights and obligations of such party under this Agreement or to which, under such laws, such rights and obligations have been transferred; (i) an ASSET or PROPERTY shall be construed to have the same meaning and effect and to refer to any and all tangible and intangible assets and properties, including cash, securities, accounts and contract rights; Page 11 (j) VAT shall be construed as a reference to value added tax including any similar tax which may be imposed in place thereof from time to time; and (k) the WINDING-UP, DISSOLUTION or ADMINISTRATION of a company or corporation shall be construed so as to include any equivalent or analogous proceedings under the law of the jurisdiction in which such company or corporation is incorporated or any jurisdiction in which such company or corporation carries on business including the seeking of liquidation, winding-up, reorganisation, dissolution, administration, arrangement, adjustment, protection or relief of debtors. (l) unless the contrary intention appears: (i) a Letter of Credit is CANCELLED, REPAID or PREPAID by: (A) providing the Issuing Lender(s) with cash cover (as defined below); or (B) reducing (in accordance with the terms of this Agreement and the Letter of Credit) the amount that may be demanded under the Letter of Credit (or by that amount automatically reducing in accordance with the terms of the Letter of Credit); or (C) cancelling the Letter of Credit by (x) providing written confirmation (in form and substance satisfactory to the Agent or the Issuing Lender) from Lloyd's that the Issuing Lender(s) has no further liability under the Letter of Credit (including by way of a notice specifying that Lloyd's does not accept or unconditionally rejects a Letter of Credit (unless the Agent or the Issuing Lender as the case may be, acting reasonably, considers that Lloyd's remains entitled to make a claim under such Letter of Credit)), and (y) if Lloyd's agrees, by procuring the return of the original to the Agent; (ii) CASH COVER is provided, pursuant to the terms of the Charge Agreement, in respect of a Lender's participation in a Letter of Credit at any time by paying an amount in Sterling equal to the outstanding amount of that participation at that time to such account or accounts as the Agent may specify and creating effective security over such amount in favour of the Security Trustee on behalf of the Finance Parties in form and substance satisfactory to the Security Trustee (together with legal opinions, evidence of corporate authorisation, and similar documentation reasonably required by the Security Trustee), in the name of the Account Party from which the only withdrawals which may be made are withdrawals made with the prior written consent of the Security Trustee in accordance with the terms of the Charge Agreement; (iii) a reference to PRINCIPAL AMOUNT in respect of a Letter of Credit means the maximum amount which is expressed to be capable of being demanded under a Letter of Credit ignoring the aggregate amount of any cash cover held in relation to that Letter of Credit. ACCOUNTING TERMS; GAAP AND SAP 1.3 Except as otherwise expressly provided herein, all terms of an accounting or financial nature shall be construed in accordance with GAAP or SAP, as the context requires, each as in effect from time to time; provided that, if the Account Party notifies the Agent that the Obligors request an amendment to any provision hereof to eliminate the effect of any change Page 12 occurring after the date hereof in GAAP or SAP, as the case may be, or in the application thereof on the operation of such provision (or if the Agent notifies the Obligors that the Majority Lenders request an amendment to any provision hereof for such purpose), regardless of whether any such notice is given before or after such change in GAAP or SAP, as the case may be, or in the application thereof, then such provision shall be interpreted on the basis of GAAP or SAP, as the case may be, as in effect and applied immediately before such change shall have become effective until such notice shall have been withdrawn or such provision amended in accordance herewith. AGREEMENTS AND STATUTES 1.4 Any reference in this Agreement to: (a) this Agreement or any other agreement or document shall be construed as a reference to this Agreement or, as the case may be, such other agreement or document as the same may have been, or may from time to time be, amended, varied, novated or supplemented; (b) a statute or treaty shall be construed as a reference to such statute or treaty as the same may have been, or may from time to time be, amended or, in the case of a statute, re-enacted; and (c) a bylaw shall be construed as a reference to a bylaw made under Lloyd's Acts 1871 to 1982 as the same may have been, or may from time to time be, amended or replaced. HEADINGS 1.5 Clause and Schedule headings are for ease of reference only. TIME 1.6 Any reference in this Agreement to a time of day shall, unless a contrary indication appears, be a reference to London time. THE FACILITY GRANT OF THE FACILITY 2.1 The Lenders, upon the terms and subject to other conditions hereof, grant to the Account Party a letter of credit facility in an aggregate amount of (pound)225,000,000. PURPOSE AND APPLICATION 2.2(a)The Facility is intended to support Funds at Lloyd's for the underwriting business of the Applicants, and, accordingly, the Account Party shall apply all Letters of Credit issued hereunder in or towards satisfaction of such purpose. (b) Without prejudice to the Account Party's obligations under Clause 2.2(a) and the remaining provisions of this Agreement, none of the Finance Parties shall be bound to enquire as to, nor shall any of them be responsible for, the purpose of, or application of the proceeds of any Letter of Credit issued hereunder. Page 13 CONDITIONS PRECEDENT 2.3 Save as the Lenders may otherwise agree, the Account Party may not deliver any Utilisation Request unless the Agent has confirmed to the Account Party and the Lenders that it has waived and/or received all of the documents and other evidence listed in Schedule 5 (CONDITIONS PRECEDENT) and that each is, in form and substance, reasonably satisfactory to the Agent. SEVERAL OBLIGATIONS 2.4 The obligations of each Lender are several and the failure by a Lender to perform its obligations hereunder and/or under any Letter of Credit issued hereunder shall not affect the obligations of either Obligor towards any other party hereto nor shall any other party be liable for the failure by such Lender to perform its obligations hereunder and/or under such Letter of Credit. SEVERAL RIGHTS 2.5 The rights of each Finance Party are several and any debt arising hereunder at any time from an Obligor to any Finance Party shall be a separate and independent debt. Each such party shall be entitled to protect and enforce its individual rights arising out of this Agreement independently of any other party (so that it shall not be necessary for any party hereto to be joined as an additional party in any proceedings for this purpose). CHANGE OF CURRENCY 2.6(a)If, after the date of this Agreement, more than one currency or currency unit denomination are at the same time recognised by the central bank of any country as the lawful currency of that country, then: (i) any reference in the Finance Documents to, and any obligations arising under the Finance Documents in, the currency of that country shall be translated into, or paid in, the currency or currency unit of that country designated by the Agent; and (ii) any translation from one currency or currency unit to another shall be at the official rate of exchange or conversion rate recognised by the central bank for the conversion of that currency or currency unit into the other, rounded up or down by the Agent acting reasonably. (b) If a change in any currency of a country occurs, this Agreement will be amended in the manner determined by the Agent (acting reasonably) so as to reflect the change in currency and to place the parties in the same position, so far as possible, that they would have been in if no change in currency had occurred. UTILISATION OF THE FACILITY UTILISATION CONDITIONS FOR THE FACILITY 3.1 Save as otherwise provided herein, a Letter of Credit will be issued at the request of the Account Party on behalf of an Applicant if: (a) no later than 10.00 a.m. two Business Days before the proposed Utilisation Date, the Agent has received a duly completed Utilisation Request from the Account Party; Page 14 (b) the proposed Utilisation Date is a Business Day falling within the Availability Period; (c) the proposed amount of such Letter of Credit is less than or equal to the Available Facility; (d) the proposed Term of the Letter of Credit is a period ending on or before the Final Maturity Date; (e) the Letter of Credit is substantially in the form set out in Schedule 7 (FORM OF LETTER OF CREDIT) or in such other form requested by the Account Party which is approved by Lloyd's and the Lenders (such approval by the Lenders not to be unreasonably withheld or delayed and shall not be required unless the other form requested differs materially from the form set out in Schedule 7); (f) the beneficiary of such Letter of Credit is Lloyd's; and (g) on and as of the proposed Utilisation Date (a) no Default has occurred and is continuing and (b) the Representations are true in all material respects. REQUEST FOR LETTERS OF CREDIT 3.2 The Account Party may request the issue by the Lenders hereunder of a total of up to six Letters of Credit in respect of the Applicants. A single Utilisation Request may be issued in respect of more than one Letter of Credit. COMPLETION OF LETTERS OF CREDIT 3.3 The Agent is authorised to arrange for the issue of any Letter of Credit pursuant to Clause 3.1 (UTILISATION CONDITIONS FOR THE FACILITY) by: (a) completing the Effective Date and the proposed Expiry Date of such Letter of Credit; (b) completing the schedule to such Letter of Credit with the percentage participation of each Lender as allocated pursuant to the terms hereof; (c) executing such Letter of Credit on behalf of each Lender and following such execution delivering such Letter of Credit to Lloyd's on the Utilisation Date; and (d) executing and delivering a "principal private residence letter" in respect of each such Letter of Credit substantially in the form set out in Appendix 3 to Schedule 7 (FORM OF LETTER AS TO PRINCIPAL PRIVATE RESIDENCES OF THE APPLICANTS). EXPIRY DATE 3.4 Each Letter of Credit shall expire at or prior to the close of business on 31 December 2004 (prior to giving effect to the automatic extension pursuant to Clause 4.1) (or, in the case of any renewal or extension thereof (or subsequent renewals or extensions) in accordance with Clause 4 (EXTENSION OF LETTER OF CREDIT), one year after such renewal or extension (or subsequent renewal or extension)). EACH LENDER'S PARTICIPATION IN LETTERS OF CREDIT 3.5(a)Save as otherwise provided herein, each Lender will participate in each Letter of Credit issued pursuant to this Clause 3 in the proportion borne by its Available Page 15 Commitment to the Available Facility immediately prior to the issue of such Letter of Credit. (b) No Lender shall participate in or issue any Letter of Credit to the extent that its LC Exposure would exceed its Commitment following the issue of that Letter of Credit. NOTIFICATION TO LENDERS 3.6 On or before each Utilisation Date the Agent shall notify each Lender of the Letter of Credit that is to be issued by the Agent on behalf of the Lenders, the name of the Applicant in respect of whom the Letter of Credit is being issued, the proposed length of the relevant Term and the aggregate principal amount of the relevant Letter of Credit allocated to such Lender pursuant to this Agreement. CANCELLATION OF AVAILABLE COMMITMENTS 3.7 On the expiry of the Availability Period, the Available Facility and each Lender's Available Commitment shall be reduced to zero and accordingly the remaining Commitments of each Lender shall be equal to their respective LC Exposure under any issued Letters of Credit. EXTENSION OF LETTERS OF CREDIT AUTOMATIC EXTENSION 4.1(a)Each Lender acknowledges that, subject to the terms of this Agreement, on 31 December of each year, each issued Letter of Credit shall be extended automatically to 31 December of the year immediately succeeding the year in which its then current Expiry Date falls, unless Lloyd's receives notice to the contrary, so that each Letter of Credit shall on any date be valid for a minimum of four years from such date. No Finance Party is entitled to give notice of non-renewal to Lloyd's pursuant to Clause 3 of Schedule 7 except as permitted by this Clause 4. (b) In any year, the Account Party may, by notice to the Agent given no later than 1 October of that year cancel the automatic extension of one or more Letters of Credit, in which case the Agent shall promptly give notice to the Lenders and to Lloyd's of that cancellation. Following the giving of such notice by the Account Party, that Letter of Credit will expire on its then current Expiry Date. LENDERS' RIGHTS TO DECLINE EXTENSIONS OF A LETTER OF CREDIT 4.2 In any year (other than the year 2000), each Lender may in its absolute discretion elect not to participate in the automatic extension of a Letter of Credit which (pursuant to Clause 4.1) is expressed to take place on 31 December of that year. Each Lender undertakes to notify the Agent in writing as soon as reasonably practicable after it has determined that it will not participate in the extension, and in any event by no later than close of business on 1 September of that year. The Agent shall give notice thereof to the Account Party within two Business Days of notification from such Lender. Unless notice is given to the Agent as aforesaid each Lender will be deemed automatically to have agreed to the extension taking place on 31 December of such year. Page 16 EXTENSION OF A LETTER OF CREDIT 4.3(a)If none of the Lenders have given notice pursuant to Clause 4.2 (LENDER'S RIGHTS) by 1 September of any year the Agent shall promptly notify the Account Party and the Lenders thereof and subject to the provisions of Clause 4.6 (EXTENSION CONDITIONS PRECEDENT), the Letter of Credit shall be automatically extended on 31 December of that year in accordance with the terms thereof. (b) If in any year a Lender gives notice in accordance with the provisions of Clause 4.2 (LENDER'S RIGHTS) that it does not agree to a requested extension of any Letter of Credit the Agent shall notify the Account Party accordingly within two Business Days thereafter, (and shall notify Lloyd's no earlier than 3 Business Days before 1 December and no later than 1 December of that year) and the succeeding provisions of this Clause 4 shall apply. SUBSTITUTE LENDER 4.4(a)If in any year any Lender (a DECLINING LENDER) gives notice in accordance with the provisions of Clause 4.2 (LENDERS' RIGHTS) that it does not agree to the extension scheduled to occur on 31 December of that year, then the Account Party may designate by the date which falls no later than the close of business on the earlier of the date which falls four weeks prior to the Funds Date of that year and the date which falls four weeks prior to 1 December of that year an Approved Credit Institution (which may be an existing Lender or Lenders) (the SUBSTITUTE LENDER) which is willing to assume all of the rights and obligations of the Declining Lender in respect of its participation in the relevant Letter of Credit (the OLD LETTER OF CREDIT). (b) If the Account Party has found a Substitute Lender it shall promptly notify the Agent and the Declining Lender thereof and shall use its best efforts to procure the release by Lloyd's of the Old Letter of Credit from the Funds at Lloyd's of the relevant Applicant. (c) The Declining Lender shall as soon as reasonably practicable and in any event no later than the earlier of two weeks prior to the Funds Date of such year and two weeks prior to 1 December of such year transfer its rights and obligations hereunder to the Substitute Lender in accordance with the provisions of Clause 26.3 (TRANSFERS BY LENDERS) provided that such transfer shall not be effective until the Funds Date of such year. (d) The Substitute Lender shall pay to the Declining Lender all amounts then due and owing (and all fees accrued to but excluding the date of such transfer) to the Declining Lender in respect of its participation in the Old Letter of Credit. REPLACEMENT LETTERS OF CREDIT (FOLLOWING EXTENSION) 4.5(a)If a Substitute Lender has become party hereto pursuant to Clause 4.4 (SUBSTITUTE LENDER), then subject to the provisions of Clause 4.6 (EXTENSION CONDITIONS PRECEDENT) the Lenders who are deemed to have agreed to the extension of the Old Letter of Credit (the EXTENDING LENDERS) shall, together with the Substitute Lender, participate in, and issue by the Funds Date of such year, a new Letter of Credit (the NEW LETTER OF CREDIT) which shall (i) replace the Old Letter of Credit, (ii) be in an amount equal to the Old Letter of Credit and (iii) have an Expiry Date calculated pursuant to Clause 4.1. Page 17 (b) If a Substitute Lender has not been found by the time specified in Clause 4.4(a) then: (i) the Account Party shall use its best efforts to procure the release by Lloyd's of the Old Letter of Credit from the Funds at Lloyd's of the relevant Applicant, (ii) subject to the provisions of Clause 4.6 (EXTENSION CONDITIONS PRECEDENT), the Extending Lenders shall participate in, and issue by the Funds Date of such year, a new Letter of Credit (the REDUCED LETTER OF CREDIT) which shall (x) replace their participation in the Old Letter of Credit, (y) be in an amount equal to the Old Letter of Credit LESS the amount of the Declining Lender's participation and (z) have an Expiry Date calculated pursuant to Clause 4.1; and (iii) the Declining Lender shall participate in a separate Letter of Credit (a BILATERAL LETTER OF Credit) which shall (x) replace its participation in the Old Letter of Credit, (y) be in an amount equal to the Declining Lender's participation in the Old Letter of Credit and (z) have an Expiry Date which is the same as the Expiry Date specified in the Old Letter of Credit (as the same may have been previously extended from time to time with the consent of the Declining Lender). EXTENSION CONDITIONS PRECEDENT 4.6(a)On or prior to close of business on 1 December of any year, the Account Party shall promptly notify the Agent if (as of 1 December of that year): (i) an Event of Default or Potential Event of Default occurs which is continuing; (ii) any of the Representations cease to be correct in all material respects, or become misleading in any material respect; or (iii) the Letter of Credit which is to be automatically extended pursuant to Clause 4.1 ceases solely to be used to support the relevant Applicant's underwriting business at Lloyd's which has been provided in accordance with the requirements of Lloyd's applicable to it. (b) Subject to due notification to Lloyd's in accordance with the provisions of the relevant Letter of Credit, the Lenders shall not be obliged to participate in the automatic extension of a Letter of Credit to occur on 31 December of any year if any of the events specified in Clause 4.6(a) above occurs and is continuing as at 1 December of that year, and any Finance Party shall be entitled to give notice to Lloyd's on 1 December of that year to that effect. CANCELLATION OF BILATERAL LETTERS OF CREDIT 4.7 At any time after the issue of a Bilateral Letter of Credit by a Declining Lender the Account Party may give the Agent and the Declining Lender not less than fourteen days' prior written notice of its intention to procure that the liability of the Declining Lender under such Letter of Credit is reduced to zero (whereupon it shall do so). REVISED LETTERS OF CREDIT 4.8 In the event that the Funds at Lloyd's Requirements of an Applicant changes at or around the time of any given Funds Date in terms of amount and/or the identity of the Applicant, subject to the approval of Lloyd's and subject to each Lender's LC Exposures under the Letters of Credit issued hereunder not being increased, the Lenders shall co-operate with the Account Party to ensure to the extent reasonably possible that the Letters of Credit provide for the revised Funds at Lloyd's Requirements of the Applicants. Page 18 INCREASE TO FACILITY 4.9 If at any time a Bilateral Letter of Credit is outstanding, the Account Party shall have the right to increase the size of the Facility by up to the principal amount of the Bilateral Letter of Credit(s) outstanding by introducing a new lender (which may be an existing Lender) and on terms that one or more outstanding Bilateral Letters of Credit having an aggregate principal amount at least equal to the increase are cancelled at the time the increase takes effect. Each Lender agrees to execute any documentation giving effect to this increase and new lender provided that no such documentation may increase the Commitment of any Lender without the express consent of that Lender at the time such documentation is executed. PAYMENT OF DEMANDS DISBURSEMENT PROCEDURES 5.1(a)The Agent shall, within a reasonable time following its receipt thereof, examine all documents purporting to represent a demand for payment under any Letter of Credit. The Agent shall promptly after such examination (and in any event by 12 noon on the Business Day immediately following receipt of such demand) (i) notify each of the Lenders and the Account Party by facsimile of such demand for payment and (ii) deliver to each Lender and the Account Party a copy of each document purporting to represent a demand for payment under such Letter of Credit. (b) With respect to any drawing properly made under a Letter of Credit, each Lender will make an LC Disbursement in respect of such Letter of Credit in accordance with its liability under such Letter of Credit and this Agreement, such LC Disbursement to be made to the account of the Agent most recently designated by it for such purpose by notice to the Lenders within two Business Days of receipt of a demand for payment under such Letter of Credit by the Agent; (c) The Agent will and undertakes to each Lender that it will: (i) make any such LC Disbursement available to Lloyd's as the beneficiary of such Letter of Credit by promptly crediting the amounts so received from the Lenders, in like funds, to the account identified by Lloyd's in connection with such demand for payment on the date following two Business Days after the receipt by the Agent of such demand; and (ii) notify each Lender on the third Business Day after the receipt by the Agent of such demand for payment that it has credited such amounts to the account identified by Lloyd's. (d) Promptly following any LC Disbursement by any Lender in respect of any Letter of Credit, the Agent will notify the Account Party of such LC Disbursement provided that any failure to give or delay in giving such notice shall not relieve the Account Party of their obligation to reimburse the Lenders with respect to any such LC Disbursement. RIGHT TO MAKE PAYMENTS UNDER LETTERS OF CREDIT 5.2 Each Lender shall be entitled to make any payment in accordance with the terms of the relevant Letter of Credit without any reference to or further authority from the Account Party or any other investigation or enquiry. Page 19 LIABILITY OF LENDERS 5.3 Neither the Agent, nor any Lender nor any of their Related Parties shall have any liability or responsibility by reason of or in connection with the issuance or transfer of any Letter of Credit or any payment or failure to make any payment thereunder (irrespective of any of the circumstances referred to in the preceding sentence), or any error, omission, interruption, loss or delay in transmission or delivery of any draft, notice or other communication under or relating to any Letter of Credit (including any document required to make a drawing thereunder), any error in interpretation of technical terms or any consequence arising from causes beyond their control; provided that the foregoing shall not be construed to excuse the Agent or a Lender from liability to any Obligor to the extent of any direct damages (as opposed to consequential damages, claims in respect of which are hereby waived by the Obligors to the extent permitted by applicable law) suffered by any Obligor that are caused by the gross negligence or wilful misconduct of the Agent or a Lender. The parties hereto expressly agree that: (a) the Agent may accept documents that appear on their face to be in substantial compliance with the terms of a Letter of Credit without responsibility for further investigation, regardless of any notice or information to the contrary, and may make payment upon presentation of documents that appear on their face to be in substantial compliance with the terms of such Letter of Credit; (b) the Agent shall have the right, in its sole discretion, to decline to accept such documents and to make such payment if such documents are not in strict compliance with the terms of such Letter of Credit; and (c) this Clause shall establish the standard of care to be exercised by the Agent when determining whether drafts and other documents presented under a Letter of Credit comply with the terms thereof (and the parties hereto hereby waive, to the extent permitted by applicable law, any standard of care inconsistent with the foregoing). THE ACCOUNT PARTY'S LIABILITIES IN RELATION TO LETTERS OF CREDIT THE ACCOUNT PARTY'S INDEMNITY TO LENDERS 6.1 The Account Party shall irrevocably and unconditionally as a primary obligation indemnify (on demand by the Agent (and any Lender may require the Agent to make such demand)) each Lender against: (a) any LC Disbursement paid or payable by such Lender in accordance with the terms of any Letter of Credit requested by the Account Party; and (b) all liabilities, reasonable costs (including, without limitation, any costs incurred in funding any amount which falls due from such Lender in connection with such Letter of Credit), claims, losses and reasonable expenses which such Lender may at any time properly incur or sustain in connection with any Letter of Credit. PRESERVATION OF RIGHTS 6.2 Neither the obligations of the Account Party set out in this Clause 6 nor the rights, powers and remedies conferred on any Lender by this Agreement or by law shall be discharged, impaired or otherwise affected by: Page 20 (a) the winding-up, dissolution, administration or re-organisation of any Lender or any other person or any change in its status, function, control or ownership; (b) any of the obligations of any Lender or any other person hereunder or under any Letter of Credit or under any other security taken in respect of the Account Party's obligations hereunder or otherwise in connection with any Letter of Credit being or becoming illegal, invalid, unenforceable or ineffective in any respect; (c) time or other indulgence being granted or agreed to be granted to any Lender or any other person in respect of its obligations hereunder or under or in connection with any Letter of Credit or under any such other security; (d) any amendment to, or any variation, waiver or release of, any obligation of any Lender or any other person under any Letter of Credit or this Agreement; (e) any other act, event or omission which, but for this Clause 6 might operate to discharge, impair or otherwise affect any of the obligations of the Account Party set out in this Clause 6 or any of the rights, powers or remedies conferred upon any Lender by this Agreement or by law. The obligations of the Account Party set out in this Clause 6 shall be in addition to and independent of every other security which any Lender may at any time hold in respect of the Account Party's obligations hereunder. SETTLEMENT CONDITIONAL 6.3 Any settlement or discharge between the Account Party and a Lender shall be conditional upon no security or payment to such Lender by the Account Party or any other person on behalf of the Account Party, being avoided or reduced by virtue of any laws relating to Bankruptcy, insolvency, liquidation or similar laws of general application and, if any such security or payment is so avoided or reduced, such Lender shall be entitled to recover the value or amount of such security or payment from the Account Party subsequently as if such settlement or discharge had not occurred. DEFAULT INTEREST 7. A Demand Amount shall bear interest during each Default Period in respect thereof, and any other amount unpaid hereunder shall bear interest for so long as it remains outstanding at rate of the sum of (i) two per cent. per annum (ii) the Mandatory Costs in respect thereof at such time, and (iii) LIBOR on each day whilst such amount remains outstanding. Such interest shall be payable by the Account Party on the date on which it reimburses the Lenders under clause 6.1(a) and (b) (THE ACCOUNT PARTY'S INDEMNITY TO LENDERS). TERMINATION AND REDUCTION OF THE COMMITMENTS SCHEDULED TERMINATION 8.1 Unless previously terminated, the unutilised Commitments shall terminate at the close of business on the Commitment Termination Date. Page 21 VOLUNTARY CANCELLATION OR REDUCTION 8.2 The Account Party may at any time cancel, or from time to time reduce, the Total Commitments; provided that (a) each reduction of the Total Commitments shall be in an amount of (pound)15,000,000 or a larger multiple of (pound)5,000,000 and (b) the Account Party shall not cancel or reduce the Commitments if the Total LC Exposures would exceed the Total Commitments. NOTICE OF VOLUNTARY CANCELLATION OR REDUCTION 8.3 The Account Party shall notify the Agent of any election to cancel or reduce the Total Commitments under Clause 8.2 at least three Business Days prior to the effective date of such cancellation or reduction, specifying such election and the effective date thereof. Promptly following receipt of any notice, the Agent shall advise the Lenders of the contents thereof. Each notice delivered by the Account Party pursuant to this Clause shall be irrevocable; provided that a notice of cancellation of the Commitments delivered by the Account Party may state that such notice is conditioned upon the effectiveness of other credit facilities, in which case such notice may be revoked by the Account Party (by notice to the Agent on or prior to the specified effective date) if such condition is not satisfied. NO OTHER REPAYMENTS OR CANCELLATION 8.4 The Account Party shall not repay or cancel all or any part of the LC Exposures except at the times and in the manner expressly provided for in this Agreement. EFFECT OF CANCELLATION OR REDUCTION 8.5 Any cancellation or reduction of the Commitments shall be permanent. Each reduction of the Commitments shall be made rateably among the Lenders in accordance with their respective Commitments. FEES PARTICIPATION FEE 9.1 The Account Party shall pay to the Agent for the account of the Lenders the participation fees specified in the Fee Letter. LETTER OF CREDIT FEE 9.2(a)The Account Party shall pay to the Agent for account of each Lender pro rata according to their respective LC Exposures hereunder a letter of credit fee computed at the rate of 0.40 per cent. per annum on the principal amount of each issued Letter of Credit payable from the Utilisation Date until the Expiry Date (as extended) of that Letter of Credit or any earlier cancellation, repayment or prepayment of the Letter of Credit in accordance with Clause 8 (TERMINATION AND REDUCTION OF THE COMMITMENTS) of this Agreement; (b) The letter of credit fees shall be payable quarterly in arrears on each Quarterly Date and on the date on which the Lenders cease to have any LC Exposure. Letter of credit fees accrued through and including each Quarterly Date shall be payable on the fifth Business Day following such Quarterly Date, commencing on the first such date to occur after the Effective Date; and Page 22 (c) The Agent shall notify the Account Party in writing at least ten Business Days prior to each Quarterly Date of (i) the letter of credit fee payable in respect of each Letter of Credit issued and (ii) the aggregate letter of credit fee payable in respect of all Letters of Credit issued. COMMITMENT FEE 9.3 The Account Party shall pay to the Agent for the account of each Lender a commitment fee at the rate of 0.10 per cent. per annum on its Available Commitment (as determined on a daily basis) for the period from the date hereof to 1 January 2001 (inclusive). The commitment fee shall be payable by the Account Party on the first Business Day following 1 January 2001. AGENT FEES 9.4 The Account Party agrees to pay to the Agent, for its own account, the agency fees payable in the amounts and at the times specified in the letter dated 28 September 2000 from the Arranger to the Account Party. PAYMENT OF FEES 9.5 All fees payable hereunder shall be paid on the dates due, in immediately available funds, to the Agent for distribution, in the case of the letter of credit fees and the commitment fees referred to in Clause 9.1 and 9.2, to the Lenders entitled thereto. Fees paid shall not be refundable under any circumstances absent manifest error in the calculation or payment of fees due and payable. BASIS OF CALCULATION 9.6 The fees payable pursuant to Clauses 9.1, 9.2 and 9.3 shall be calculated on the basis of actual days elapsed and in the case of Clauses 9.1 and 9.2, a 365 day year and in the case of Clause 9.3, a 360 day year. TAXES TAX GROSS-UP 10.1 All payments to be made by an Obligor to any Finance Party hereunder, whether in respect of principal, interest, fees or any other item, shall be made free and clear of and without deduction for or on account of tax unless such Obligor is required to make such a payment subject to the deduction or withholding of tax, in which case the sum payable by such Obligor (in respect of which such deduction or withholding is required to be made) shall be increased to the extent necessary to ensure that such Finance Party receives a sum net of any deduction or withholding equal to the sum which it would have received had no such deduction or withholding been made or required to be made. TAX INDEMNITY 10.2 Without prejudice to Clause 10.1 (TAX GROSS-UP), if any Finance Party is required to make any payment of or on account of tax on or in relation to any sum received or receivable hereunder (including any sum deemed for purposes of tax to be received or receivable by such Finance Party whether or not actually received or receivable) or if any liability in respect of any such payment is asserted, imposed, levied or assessed against any Finance Party, the Account Party shall, upon demand of the Agent, promptly indemnify the Finance Party which Page 23 suffers a loss or liability as a result against such payment or liability, together with any interest, penalties, costs and expenses payable or incurred in connection therewith, PROVIDED THAT this Clause 10.2 shall not apply to: (a) any tax imposed on and calculated by reference to the net income actually received or receivable by such Finance Party by the jurisdiction in which such Finance Party is incorporated; or (b) any tax imposed on and calculated by reference to the net income of the Facility Office of such Finance Party actually received or receivable by such Finance Party by the jurisdiction in which its Facility Office is located. LENDERS' TAX STATUS CONFIRMATION 10.3 Each Lender confirms in favour of the Agent (on the date hereof or, in the case of a Lender which becomes a party hereto pursuant to a transfer or assignment, on the date on which the relevant transfer or assignment becomes effective) that either: (a) it is a Qualifying Lender; or (b) it is not resident for tax purposes in the United Kingdom and is beneficially entitled to its share of the LC Exposures and any interest thereon. CLAIMS BY LENDERS 10.4 A Lender intending to make a claim pursuant to Clause 10.2 (TAX INDEMNITY) shall promptly notify the Agent of the event giving rise to the claim, whereupon the Agent shall promptly notify the Account Party thereof. TAX RECEIPTS NOTIFICATION OF REQUIREMENT TO DEDUCT TAX 11.1 If, at any time, an Obligor is required by law to make any deduction or withholding from any sum payable by it hereunder (or if thereafter there is any change in the rates at which or the manner in which such deductions or withholdings are calculated), such Obligor shall promptly, upon becoming aware of the same, notify the Agent. EVIDENCE OF PAYMENT OF TAX 11.2 If an Obligor makes any payment hereunder in respect of which it is required to make any deduction or withholding, it shall pay the full amount required to be deducted or withheld to the relevant taxation or other authority within the time allowed for such payment under applicable law and shall deliver to the Agent for each Lender, within thirty days after it has made such payment to the applicable authority, an original receipt (or a certified copy thereof) issued by such authority evidencing the payment to such authority of all amounts so required to be deducted or withheld in respect of that Lender's share of such payment. TAX CREDIT PAYMENT 11.3 If an additional payment is made under Clause 10 (TAXES) by an Obligor for the benefit of any Finance Party and such Finance Party, in its sole discretion, determines that it has obtained (and has derived full use and benefit from) a credit against, a relief or remission Page 24 for, or repayment of, any tax, then, if and to the extent that such Finance Party, in its sole opinion, determines that: (a) such credit, relief, remission or repayment is in respect of or calculated with reference to the additional payment made pursuant to Clause 10 (TAXES); and (b) its tax affairs for its tax year in respect of which such credit, relief, remission or repayment was obtained have been finally settled, such Finance Party shall, to the extent that it can do so without prejudice to the retention of the amount of such credit, relief, remission or repayment, pay to such Obligor such amount as such Finance Party shall, in its sole opinion, determine to be the amount which will leave such Finance Party (after such payment) in no worse after-tax position than it would have been in had the additional payment in question not been required to be made by such Obligor. TAX CREDIT CLAWBACK 11.4 If any Finance Party makes any payment to an Obligor pursuant to Clause 11.3 (TAX CREDIT PAYMENT) and such Finance Party subsequently determines, in its sole opinion, that the credit, relief, remission or repayment in respect of which such payment was made was not available or has been withdrawn or that it was unable to use such credit, relief, remission or repayment in full, the Obligor shall reimburse such Finance Party such amount as such Finance Party determines, in its sole opinion, is necessary to place it in the same after-tax position as it would have been in if such credit, relief, remission or repayment had been obtained and fully used and retained by such Finance Party. TAX AND OTHER AFFAIRS 11.5 No provision of this Agreement shall interfere with the right of any Finance Party to arrange its tax or any other affairs in whatever manner it thinks fit, oblige any Finance Party to claim any credit, relief, remission or repayment in respect of any payment under Clause 10.1 (TAX GROSS-UP) in priority to any other credit, relief, remission or repayment available to it nor oblige any Finance Party to disclose any information relating to its tax or other affairs or any computations in respect thereof. INCREASED COSTS INCREASED COSTS 12.1 Subject to Clause 12.2 (EXCEPTIONS), if after the date of this Agreement, the result of: (a) the introduction of or any change in the official or judicial interpretation or application of any Law (having the force of law or if not having the force of law, generally complied with by a Lender in relation to any relevant jurisdiction); and/or (b) compliance (without adopting materially less prudent policies or standards than those previously adopted by it) by any Lender or by the holding company of any Lender with any of the matters mentioned in paragraph (a) above, including in each case, without limitation, those laws relating to Taxation, any change in currency, any reserve, special deposit, cash ratio, liquidity or capital adequacy requirement or any other form of banking or monetary controls, is that: Page 25 (i) a Lender or its holding company incurs an additional cost as a result of that Finance Party having entered into, or performing, maintaining or funding its obligations under this Agreement; or (ii) a Lender or its holding company incurs an additional cost in making, funding or maintaining any Letters of Credit made or to be made by it under this Agreement; or (iii) any amount payable to a Lender or the effective return to a Lender under this Agreement or the effective return to a Lender or its holding company on its capital is reduced as a result of any change in the amount or nature of the capital resources required to be allocated in respect of a Lender's participation under this Agreement; or (iv) a Lender makes any payment or foregoes any interest or other return on or calculated by reference to any amount received or receivable by it from the Account Party or the Agent under this Agreement; then and in each such case: (A) the Lender shall notify the Account Party through the Agent of the relevant event promptly upon becoming aware of the event giving details of any costs or amount likely to be demanded under paragraph (B); (B) promptly following any demand from time to time by that Lender through the Agent, the Account Party shall pay to the Agent for the account of that Finance Party (or, as the case may be, its holding company) such amount as shall compensate such Finance Party or its holding company for the additional cost, reduction, payment or foregone interest or other return. EXCEPTIONS 12.2 Clause 12.1 shall not apply to or in respect of: (a) any circumstances referred to in Clause 10.2 (TAX INDEMNITY); (b) any circumstances for which a relevant Lender has been compensated for under Clause 12.3. ILLEGALITY 13. If, after the date of this Agreement, any Change in Law or in the official or judicial interpretation or application thereof shall make it unlawful or contrary to an official directive in any jurisdiction for any Lender to make available or fund or maintain or to give effect to its obligations as contemplated by this Agreement or the Letters of Credit (or, by reason only of a Change of Law, the Lender ceases to be an Approved Credit Institution), the Lender shall promptly on becoming aware of the same give notice thereof to the Account Party through the Agent, whereupon: (a) where such change makes it unlawful or contrary to an official directive to maintain or give effect to its obligations under this Agreement, if the Agent on behalf of such Lender so requires, the Account Party shall by no later than the last day of any Page 26 applicable grace period specified by the applicable Law ensure that the liabilities of such Lender under or in respect of each Letter of Credit are cancelled within the meaning of Clause 1.2(l)(i)(A) (or use its best efforts to ensure that such liabilities are cancelled within the meaning of Clause 1.2(l)(i)(C)), the Commitment of that Lender shall forthwith be cancelled and the Account Party shall prepay forthwith fees, costs and expenses due to that Lender hereunder; (b) where such change only makes it unlawful or contrary to an official directive to participate in further Letters of Credit under this Agreement, then upon receipt by the Agent of that notice, the Available Commitment of that Lender shall be reduced to zero, and upon the expiry of each Letter of Credit in which it is participating at such time, its resulting Available Commitment shall also be cancelled, provided that if the Lender subsequently transfers or assigns its rights and obligations under this Agreement to a new lender pursuant to Clause 26.5 (RIGHTS TO SUBSTITUTE A SINGLE BANK), the Account Party may by notice to the Agent increase the Commitment of such new lender by the amount of the Available Commitment that was previously cancelled. MITIGATION OBLIGATIONS; REPLACEMENT OF LENDERS. DESIGNATION OF A DIFFERENT LENDING OFFICE 14.1 If any Lender requests compensation under Clause 12 (INCREASED COSTS), or if the Account Party is required to pay any additional amount to any Lender or any Governmental Authority for account of any Lender pursuant to Clause 10 (TAXES), then such Lender shall use reasonable efforts to designate a different lending office for funding or booking its Letters of Credit hereunder or to transfer its rights and obligations hereunder to another of its offices, branches or Affiliates, if, in the reasonable judgment of such Lender, such designation or assignment (a) would eliminate or reduce amounts payable pursuant to Clause 12 (INCREASED COSTS) or 10 (TAXES), as the case may be, in the future and (b) would not subject such Lender to any unreimbursed cost or expense and would not otherwise be disadvantageous to such Lender. The Account Party hereby agrees to pay all reasonable costs and expenses incurred by any Lender in connection with any such designation or assignment. REPLACEMENT OF LENDERS 14.2 If any Lender requests compensation under Clause 12 (INCREASED COSTS), or if any Account Party is required to pay any additional amount to any Lender or any Governmental Authority for account of any Lender pursuant to Clause 10 (TAXES), or if any Lender defaults in its obligation to make LC Disbursements hereunder, or if any Lender ceases to be an Approved Credit Institution, then the Account Party may, at its sole expense and effort, upon notice to such Lender and the Agent, require such Lender to assign and delegate, without recourse (in accordance with and subject to the restrictions contained in Clause 26.5 (RIGHT TO SUBSTITUTE SINGLE LENDER)), all its interests, rights and obligations under this Agreement to an Approved Credit Institution that shall assume such obligations (which assignee may be another Lender, if a Lender accepts such assignment); provided that: (a) the Account Party shall have received the prior written consent of the Agent, which consent shall not unreasonably be withheld; (b) such Lender shall have received payment of an amount equal to the outstanding amount of its LC Disbursements, accrued interest thereon, accrued fees and all other amounts payable to it hereunder, from the assignee (to the extent of such outstanding Page 27 principal and accrued interest and fees) or the relevant Account Party (in the case of all other amounts); and (c) in the case of any such assignment resulting from a claim for compensation under Clause 12 (INCREASED COSTS) or payments required to be made pursuant to Clause 10 (TAXES), such assignment will result in a reduction in such compensation or payments. A Lender shall not be required to make any such assignment and delegation if, prior thereto, as a result of a waiver by such Lender or otherwise, the circumstances entitling the relevant Account Party to require such assignment and delegation cease to apply. PAYMENTS GENERALLY; PRO RATA TREATMENT; SHARING OF SET-OFFS. PAYMENTS BY THE ACCOUNT PARTY 15.1(a) The Account Party shall make each payment required to be made by them hereunder or under any other Finance Document (except to the extent otherwise provided therein) in Sterling on the date when due, in immediately available cleared funds, without set-off or counterclaim (and in the case of payments required pursuant to Clause 6, by 11.00 a.m. on the due date). Any amounts received after such time on any date may, in the discretion of the Agent, be deemed to have been received on the next succeeding Business Day for the purposes of calculating interest thereon. All such payments shall be made to the Agent at the account most recently notified by it, except payments pursuant to Clauses 12 (INCREASED Costs), 10 (TAXES), 24 (COSTS AND EXPENSES) and 25 (INDEMNITIES), which shall be made directly to the Persons entitled thereto. The Agent shall distribute any such payments received by it for account of any other Person to the appropriate recipient promptly following receipt thereof. (b) If any payment hereunder shall be due on a day that is not a Business Day, the date for payment shall be extended to the next succeeding Business Day and, in the case of any payment accruing interest, interest thereon shall be payable for the period of such extension. CURRENCY 15.2 All amounts payable under this Agreement in respect of any Letter of Credit shall be payable in Sterling. APPLICATION OF INSUFFICIENT PAYMENTS 15.3 If at any time insufficient funds are received by and available to the Agent to pay fully all Demand Amounts, interest, fees and expenses then due hereunder, such funds shall be applied: (a) FIRST, in or towards payment pro rata of any unpaid fees, costs, expenses, indemnity payments and other amounts due to the Agent and the Security Trustee under the Finance Documents; (b) SECONDLY, in or towards payment pro rata of any unpaid costs and expenses of the Lenders under the Finance Documents; (c) THIRDLY, in or towards payment pro rata of any outstanding fees (other than Letter of Credit Fees) payable to the Lenders under the Finance Documents; Page 28 (d) FOURTHLY, in or towards payment pro rata of all accrued Letter of Credit Fees due to Issuing Lenders but unsatisfied under this Agreement; (e) FIFTHLY, in or towards payment pro rata of any interest on Demand Amounts; (f) SIXTHLY, in or towards payment pro rata of Demand Amounts; (g) SEVENTHLY, in or towards payment pro rata of any principal (other than a Demand Amount) due but unsatisfied under this Agreement (including, for the avoidance of doubt, any cash cover to be provided under a Letter of Credit); and (h) EIGHTHLY, in or towards payment pro rata of any other sum due but unsatisfied under this Agreement. PRO RATA TREATMENT 15.4 Except to the extent otherwise provided herein: (a) each reimbursement of LC Disbursements shall be made to the Lenders, each payment of fees under Clause 9 (FEES) shall be made for account of the Lenders, and each termination or reduction of the Commitments under Clause 8 (TERMINATION AND REDUCTION OF THE COMMITMENTS) shall be applied to the respective Commitments of the Lenders, pro rata according to their respective Commitments; and (b) each payment of interest shall be made for account of the Lenders pro rata in accordance with the amounts of interest then due and payable to the respective Lenders. SHARING OF PAYMENTS BY LENDERS 15.5 If any Lender shall, by exercising any right of set-off or counterclaim or otherwise, obtain payment in respect of any LC Exposures resulting in such Lender receiving payment of a greater proportion of the aggregate amount of its LC Exposures and accrued interest thereon then due than the proportion received by any other Lender, then the Lender receiving such greater proportion shall purchase (for cash at face value) participations in the LC Exposures of other Lenders to the extent necessary so that the benefit of all such payments shall be shared by the Lenders rateably in accordance with the aggregate amount of LC Exposures; provided that: (a) if any such participations are purchased and all or any portion of the payment giving rise thereto is recovered, such participations shall be rescinded and the purchase price restored to the extent of such recovery, without interest; and (b) the provisions of this Clause shall not be construed to apply to any payment made by any Obligor pursuant to and in accordance with the express terms of this Agreement or any payment obtained by a Lender as consideration for the assignment of or sale of a participation in LC Disbursements to any assignee or participant, other than to the Account Party or any Subsidiary or Affiliate thereof (as to which the provisions of this paragraph shall apply). Each Obligor consents to the foregoing and agrees, to the extent it may effectively do so under applicable law, that any Lender acquiring a participation pursuant to the foregoing arrangements may exercise against the Account Party rights of set-off and counterclaim with respect to such participation as fully as if such Lender were a direct creditor of the Account Page 29 Party in the amount of such participation and the Obligors authorise the Lenders to exchange Transfer Certificates and any other documentation to give effect to those purchases of participations. PRESUMPTIONS OF PAYMENT 15.6 Unless the Agent shall have received notice from any party prior to the date on which any payment is due to the Agent hereunder that the payor will not make such payment, the Agent may assume that the payor has made such payment on such date in accordance herewith and may, in reliance upon such assumption, distribute to the relevant payee the amount due. In such event, if the payor has not in fact made such payment, then each of the payees severally agrees to repay to the Agent forthwith on demand the amount so distributed to that payee with interest thereon, for each day from and including the date such amount is distributed to it to but excluding the date of payment to the Agent, at the Agent's cost of funds from such sources as the Agent may reasonably select. CERTAIN DEDUCTIONS BY THE AGENT 15.7 If any Lender shall fail to make any payment required to be made by it pursuant to Clause 15.5 (SHARING OF PAYMENTS BY LENDERS), then the Agent may, in its discretion (notwithstanding any contrary provision hereof), apply any amounts thereafter received by the Agent for account of such Lender to satisfy such Lender's obligations under such Clauses until all such unsatisfied obligations are fully paid. GUARANTEE AND INDEMNITY GUARANTEE AND INDEMNITY 16.1 The Guarantors, jointly and severally, irrevocably and unconditionally: (a) guarantee to each Finance Party the due and punctual payment from time to time on demand any and every sum or sums of money which the Account Party is at any time liable to pay to any Finance Party under or pursuant to the Finance Documents and which has become due and payable but has not been paid at the time such demand is made (the GUARANTEED OBLIGATIONS); and (b) agree as a primary obligation to indemnify each Finance Party from time to time on demand from and against any loss incurred by any Finance Party as a result of any of the obligations of the Account Party under or pursuant to the Finance Documents being or becoming void, voidable, unenforceable or ineffective as against the Account Party for any reason whatsoever, whether or not known to any Finance Party or any other person, the amount of such loss being the amount which the person or persons suffering it would otherwise have been entitled to recover from the Account Party. ADDITIONAL SECURITY 16.2 The obligations of each Guarantor herein contained shall be in addition to and independent of every other security which any Finance Party may at any time hold in respect of any of the Account Party's obligations under the Finance Documents. Page 30 CONTINUING OBLIGATIONS 16.3 The obligations of each Guarantor herein contained shall constitute and be continuing obligations notwithstanding any settlement of account or other matter or thing whatsoever and shall not be considered satisfied by any intermediate payment or satisfaction of all or any of the obligations of the Account Party under the Finance Documents and shall continue in full force and effect until final payment in full of all amounts owing by the Account Party under this Agreement and total satisfaction of all the Account Party's actual and contingent obligations under the Finance Documents. OBLIGATIONS NOT DISCHARGED 16.4 Neither the obligations of the Guarantors herein contained nor the rights, powers and remedies conferred in respect of the Guarantors upon any Finance Party by the Finance Documents or by law shall be discharged, impaired or otherwise affected by: (a) the winding-up, dissolution, administration or re-organisation of the Account Party or any other person or any change in its status, function, control or ownership; (b) any of the obligations of the Account Party or any other person under the Finance Documents or under any other security taken in respect of any of its obligations under the Finance Documents being or becoming illegal, invalid, unenforceable or ineffective in any respect; (c) time or other indulgence being granted or agreed to be granted to any Obligor in respect of its obligations under the Finance Documents or under any such other security; (d) any amendment to, or any variation, waiver or release of, any obligation of any Obligor under the Finance Documents or under any such other security; (e) any failure to take, or fully to take, any security contemplated hereby or otherwise agreed to be taken in respect of the Obligors' obligations under the Finance Documents; (f) any failure to realise or fully to realise the value of, or any release, discharge, exchange or substitution of, any security taken in respect of the Obligors' obligations under the Finance Documents; or (g) any other act, event or omission which, but for this Clause 16.4, might operate to discharge, impair or otherwise affect any of the obligations of any Guarantor herein contained or any of the rights, powers or remedies conferred upon any of the Finance Parties by the Finance Documents or by law. SETTLEMENT CONDITIONAL 16.5 Any settlement or discharge between any Obligor and any of the Finance Parties shall be conditional upon no security or payment to any Finance Party by the Account Party or any other person on behalf of the Account Party being avoided or reduced by virtue of any laws relating to bankruptcy, insolvency, liquidation or similar laws of general application and, if any such security or payment is so avoided or reduced, each Finance Party shall be entitled to recover the value or amount of such security or payment from the Account Party subsequently as if such settlement or discharge had not occurred. Page 31 EXERCISE OF RIGHTS 16.6 No Finance Party shall be obliged before exercising any of the rights, powers or remedies conferred upon them in respect of any Guarantor by the Finance Documents or by law to: (a) make any demand of the Account Party or any other Obligor; (b) take any action or obtain judgment in any court against the Account Party or any other Obligor; (c) make or file any claim or proof in a winding-up or dissolution of the Account Party or any other Obligor; or (d) enforce or seek to enforce any other security taken in respect of any of the obligations of the Account Party or any other Obligor under the Finance Documents. DEFERRAL OF GUARANTOR'S RIGHTS 16.7 Each Guarantor agrees that, so long as any amounts are or may be owed by the Account Party under the Finance Documents or the Account Party is under any actual or contingent obligations under the Finance Documents, it shall not exercise any rights which it may at any time have by reason of performance by it of its obligations under the Finance Documents: (a) to be indemnified by the Account Party; and/or (b) to claim any contribution from any other Guarantor of the Account Party's obligations under the Finance Documents; and/or (c) to take the benefit (in whole or in part and whether by way of subrogation or otherwise) of any rights of the Finance Parties under the Finance Documents or of any other security taken pursuant to, or in connection with, this Agreement by all or any of the Finance Documents. RIGHTS OF CONTRIBUTION 16.8 The Guarantors (other than the Account Party) hereby agree, as between themselves, that if any such Guarantor shall become an Excess Funding Guarantor (as defined below) by reason of the payment by such Guarantor of any Guaranteed Obligations, each other Guarantor (other than the Account Party) shall, on demand of such Excess Funding Guarantor (but subject to the next sentence), pay to such Excess Funding Guarantor an amount equal to such Guarantor's Pro Rata Share (as defined below and determined, for this purpose, without reference to the properties, debts and liabilities of such Excess Funding Guarantor) of the Excess Payment (as defined below) in respect of such Guaranteed Obligations. The payment obligation of a Guarantor to any Excess Funding Guarantor under this Clause shall be subordinate and subject in right of payment to the prior payment in full of the obligations of such Guarantor under the other provisions of this Clause 16 and such Excess Funding Guarantor shall not exercise any right or remedy with respect to such excess until payment and satisfaction in full of all of such obligations. For purposes of this Clause, (i) EXCESS FUNDING GUARANTOR means, in respect of any Guaranteed Obligations, a Guarantor that has paid an amount in excess of its Pro Rata Share of such Guaranteed Obligations, (ii) EXCESS PAYMENT means, in respect of any Guaranteed Page 32 Obligations, the amount paid by an Excess Funding Guarantor in excess of its Pro Rata Share of such Guaranteed Obligations and (iii) PRO RATA SHARE means, for any Guarantor, the ratio (expressed as a percentage) of (x) the amount by which the aggregate present fair saleable value of all properties of such Guarantor (excluding any shares of stock of any other Guarantor) exceeds the amount of all the debts and liabilities of such Guarantor (including contingent, subordinated, unmatured and unliquidated liabilities, but excluding the obligations of such Guarantor hereunder and any obligations of any other Guarantor that have been Guaranteed by such Guarantor) to (y) the amount by which the aggregate fair saleable value of all properties of all of the Guarantors (other than the Account Party) exceeds the amount of all the debts and liabilities (including contingent, subordinated, unmatured and unliquidated liabilities, but excluding the obligations of the Guarantors under this Clause 16) of all of the Guarantors (other than the Account Party), determined (A) with respect to any Guarantor that is a party hereto on the date hereof, as of the date hereof, and (B) with respect to any other Guarantor, as of the date such Guarantor becomes a Guarantor hereunder. GENERAL LIMITATION ON GUARANTEE OBLIGATIONS 16.9 In any action or proceeding involving any state corporate law, or any state or Federal bankruptcy, insolvency, reorganisation or other law in any other jurisdiction affecting the rights of creditors generally, if the obligations of any Guarantor under Clause 16.1 (GUARANTEE AND INDEMNITY) would otherwise, taking into account the provisions of Clause 16.8, be held or determined to be void, invalid or unenforceable, or subordinated to the claims of any other creditors, on account of the amount of its liability under Clause 16.1 (GUARANTEE AND INDEMNITY), then, notwithstanding any other provision hereof to the contrary, the amount of such liability shall, without any further action by such Guarantor, any Lender, the Agent or any other Person, be automatically limited and reduced to the highest amount that is valid and enforceable and not subordinated to the claims of other creditors as determined in such action or proceeding. REPRESENTATIONS AND WARRANTIES 17.1 Each Obligor represents and warrants to the Lenders on the date of this Agreement, the Closing Date and 1 December of each year unless no extension is to occur on December 31 of such year (with reference to the facts and circumstances subsisting on each such date) as follows. ORGANISATION; POWERS 17.2 It and each of its Subsidiaries is duly organised, validly existing and in good standing under the laws of the jurisdiction of its organisation, has all requisite power and authority to carry on its business as now conducted and, except where the failure to do so, individually or in the aggregate, could not reasonably be expected to result in a Material Adverse Effect, is qualified to do business in, and is in good standing in, every jurisdiction where such qualification is required. AUTHORISATION: ENFORCEABILITY 17.3 The Transactions are within such Obligor's corporate powers and have been duly authorised by all necessary corporate and, if required, by all necessary shareholder action. Each Finance Document to which such Obligor is party has been duly executed and delivered by such Obligor and constitutes a legal, valid and binding obligation of such Obligor, enforceable against such Obligor in accordance with its terms, except as such enforceability may be limited by (a) bankruptcy, insolvency, reorganisation, moratorium or similar laws of general applicability affecting the enforcement of creditors' rights and (b) the application of Page 33 general principles of equity (regardless of whether such enforceability is considered in a proceeding in equity or at law). GOVERNMENTAL APPROVALS; NO CONFLICTS 17.4 The Transactions (a) do not require any consent or approval of (including any exchange control approval), registration or filing with, or any other action by, any Governmental Authority, except such as have been obtained or made and are in full force and effect, (b) will not violate any applicable law or regulation or the charter, by-laws or other organisational documents of such Obligor or any of its Subsidiaries or any order of any Governmental Authority, (c) will not violate or result in a default under any material indenture, agreement or other instrument binding upon such Obligor or any of its Subsidiaries or assets, or give rise to a right thereunder to require any payment to be made by any such Person, and (d) will not result in the creation or imposition of any Lien on any asset of such Obligor or any of its Subsidiaries. FINANCIAL CONDITION; NO MATERIAL ADVERSE CHANGE 17.5(a) FINANCIAL CONDITION. Such Obligor has heretofore furnished to the Lenders the consolidated balance sheet and statements of income, shareholders' equity and cash flows of such Obligor and its consolidated Subsidiaries (i) as of and for the fiscal years ended December 31, 1998 and December 31, 1999, reported on by PricewaterhouseCoopers LLP, independent public accountants (as provided in the Account Party's Report on Form 10-K filed with the SEC for the fiscal year ended December 31, 1999), and (ii) as of and for the fiscal quarter ended June 30, 2000, as provided in the Account Party's Report on Form 10-Q filed with the SEC for the fiscal quarter ended June 30, 2000. Such financial statements (and any further such statements delivered pursuant to Clause 18.1(a) and (b)) present fairly, in all material respects, the financial position and results of operations and cash flows of such Obligor and its respective consolidated Subsidiaries as of such dates and for such periods (or the dates or periods to which any such further statements relate) in accordance with GAAP or (in the case of XL Europe, XL Insurance or XL Mid Ocean) SAP, subject to year-end audit adjustments and the absence of footnotes in the case of the statements referred to in (ii) of the first sentence of this paragraph. (b) NO MATERIAL ADVERSE CHANGE. Since December 31, 1999, there has been no material adverse change in the assets, business, financial condition or operations of such Obligor and its Subsidiaries, taken as a whole. PROPERTIES 17.6(a) PROPERTY GENERALLY. Such Obligor and each of its Subsidiaries has good title to, or valid leasehold interests in, all its real and personal property material to its business, subject only to Liens permitted by Clause 19.3 (LIENS) and except for minor defects in title that do not interfere with its ability to conduct its business as currently conducted or to utilise such properties for their intended purposes. (b) INTELLECTUAL PROPERTY. Such Obligor and each of its Subsidiaries owns, or is licensed to use, all trademarks, tradenames, copyrights, patents and other intellectual property material to its business, and the use thereof by such Obligor and its Subsidiaries does not infringe upon the rights of any other Person, except for any such infringements that, individually or in the aggregate, could not reasonably be expected to result in a Material Adverse Effect. Page 34 LITIGATION AND ENVIRONMENTAL MATTERS 17.7(a) ACTIONS, SUITS AND PROCEEDINGS. Except as disclosed in Schedule 2 Part C or as routinely encountered in claims activity, there are no actions, suits or proceedings by or before any arbitrator or Governmental Authority now pending against or, to the knowledge of such Obligor, threatened against or affecting such Obligor or any of its Subsidiaries (i) as to which there is a reasonable possibility of an adverse determination and that could reasonably be expected, individually or in the aggregate, to result in a Material Adverse Effect or (ii) that involve the Finance Documents or the Transactions. (b) ENVIRONMENTAL MATTERS. Except as disclosed in Schedule 2 Part D and except with respect to any other matters that, individually or in the aggregate, could not reasonably be expected to result in a Material Adverse Effect, neither such Obligor nor any of its Subsidiaries (i) has failed to comply with any Environmental Law or to obtain, maintain or comply with any permit, license or other approval required for its business under any Environmental Law, (ii) has incurred any Environmental Liability, (iii) has received notice of any claim with respect to any Environmental Liability or (iv) knows of any basis for any Environmental Liability. COMPLIANCE WITH LAWS AND AGREEMENTS 17.8 Such Obligor and each of its Subsidiaries is in compliance with all laws, regulations and orders of any Governmental Authority applicable to it or its property and all indentures, agreements and other instruments binding upon it or its property, except where the failure to do so, individually or in the aggregate, could not reasonably be expected to result in a Material Adverse Effect. No Default has occurred and is continuing. INVESTMENT AND HOLDING COMPANY STATUS 17.9 Such Obligor is not (a) an INVESTMENT COMPANY as defined in, or subject to regulation under, the Investment Company Act of 1940 or (b) a HOLDING COMPANY as defined in, or subject to regulation under, the Public Utility Holding Company Act of 1935. TAXES 17.10 Such Obligor and each of its Subsidiaries has timely filed or caused to be filed all Tax returns and reports required to have been filed and has paid or caused to be paid all Taxes required to have been paid by it, except (a) Taxes that are being contested in good faith by appropriate proceedings and for which such Person has set aside on its books adequate reserves or (b) to the extent that the failure to do so could not reasonably be expected to result in a Material Adverse Effect. ERISA 17.11 No ERISA Event has occurred or is reasonably expected to occur that, when taken together with all other such ERISA Events for which liability is reasonably expected to occur, could reasonably be expected to result in a Material Adverse Effect. The present value of all accumulated benefit obligations under each Plan (based on the assumptions used for purposes of Statement of Financial Accounting Standards No. 87) did not, as of the date of the most recent financial statements reflecting such amounts, exceed the fair market value of the assets of such Plan by an amount that could reasonably be expected to result in a Material Adverse Effect. Page 35 Except as could not reasonably be expected to result in a Material Adverse Effect, (i) all contributions required to be made by any Obligor or any of their Subsidiaries with respect to a Non-U.S. Benefit Plan have been timely made, (ii) each Non-U.S. Benefit Plan has been maintained in compliance with its terms and with the requirements of any and all applicable laws and has been maintained, where required, in good standing with the applicable Governmental Authority and (iii) neither any Obligor nor any of their Subsidiaries has incurred any obligation in connection with the termination or withdrawal from any Non-U.S. Benefit Plan. DISCLOSURE 17.12 The reports, financial statements, certificates or other information furnished by such Obligor to the Lenders in connection with the negotiation of this Agreement or any other Finance Document or delivered hereunder (taken as a whole) do not contain any material misstatement of fact or omit to state any material fact necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading; provided that, with respect to projected financial information, such Obligor represents only that such information was prepared in good faith based upon assumptions believed to be reasonable at the time. USE OF CREDIT 17.13 Neither such Obligor nor any of its Subsidiaries is engaged principally, or as one of its important activities, in the business of extending credit for the purpose, whether immediate, incidental or ultimate, of buying or carrying Margin Stock, and no Letter of Credit will be used in connection with buying or carrying any Margin Stock. SUBSIDIARIES 17.14 Set forth in Schedule 3 is a complete and correct list of all of the Subsidiaries of the Account Party as of the date hereof, together with, for each such Subsidiary, (i) the jurisdiction of organisation of such Subsidiary, (ii) each Person holding ownership interests in such Subsidiary and (iii) the percentage of ownership of such Subsidiary represented by such ownership interests. Except as disclosed in Schedule 3, (x) each of the Account Party and its Subsidiaries owns, free and clear of Liens, and has the unencumbered right to vote, all outstanding ownership interests in each Person shown to be held by it in Schedule 5, (y) all of the issued and outstanding capital stock of each such Person organised as a corporation is validly issued, fully paid and nonassessable and (z) except as disclosed in filings of the Account Party with the SEC prior to the date hereof, there are no outstanding Equity Rights with respect to any Obligor. WITHHOLDING TAXES 17.15 Based upon information with respect to each Lender provided by each Lender to the Agent, as of the date hereof, the payment of the LC Disbursements and interest thereon, the fees under Clause 9 (FEES) and all other amounts payable hereunder will not be subject, by withholding or deduction, to any Taxes imposed by any Obligor Jurisdiction. STAMP TAXES 17.16 To ensure the legality, validity, enforceability or admissibility in evidence of the Finance Documents, it is not necessary that the Finance Documents or any other document be filed or recorded with any Governmental Authority or that any stamp or similar tax be paid on or in respect of any of the Finance Documents, or any other document other than such filings Page 36 and recordations that have already been made and such stamp or similar taxes that have already been paid. LEGAL FORM 17.17 The Finance Documents are in proper legal form under the laws of any Obligor Jurisdiction for the admissibility thereof in the courts of such Obligor Jurisdiction. CLAIMS PARI PASSU 17.18 Under the laws of its jurisdiction of incorporation in force at the date hereof, the claims of the Finance Parties against it under this Agreement or any other Finance Document will rank at least PARI PASSU with the claims of all its other unsecured and unsubordinated creditors save those whose claims are preferred solely by any bankruptcy, insolvency, liquidation or other similar laws of general application. AFFIRMATIVE COVENANTS 18. Until the Commitments have expired or been terminated and all fees payable hereunder shall have been paid in full and all Letters of Credit shall have expired or terminated and all LC Disbursements shall have been reimbursed, the Obligors covenant and agree with the Lenders that: FINANCIAL STATEMENTS AND OTHER INFORMATION 18.1 Each Obligor will furnish to the Agent and each Lender: (a) within 135 days after the end of each fiscal year of such Obligor (but in the case of the Account Party, within 100 days after the end of each fiscal year of the Account Party), the audited consolidated balance sheet and related statements of operations, shareholders' equity and cash flows of such Obligor and its consolidated Subsidiaries as of the end of and for such year, setting forth in each case in comparative form the figures for the previous fiscal year (if such figures were already produced for such corresponding period or periods) (it being understood that delivery to the Lenders of the Account Party's Report on Form 10-K filed with the SEC shall satisfy the financial statement delivery requirements of this paragraph (a) to deliver the annual financial statements of the Account Party so long as the financial information required to be contained in such Report is substantially the same as the financial information required under this paragraph (a)), all reported on by PricewaterhouseCoopers LLP or other independent public accountants of recognised national standing (without a GOING CONCERN or like qualification or exception and without any qualification or exception as to the scope of such audit) to the effect that such consolidated financial statements present fairly in all material respects the financial condition and results of operations of such Obligor and its consolidated Subsidiaries on a consolidated basis in accordance with GAAP or (in the case of XL Europe, XL Insurance and XL Mid Ocean) SAP, as the case may be, consistently applied; (b) within 60 days after the end of each of the first three fiscal quarters of each fiscal year of such Obligor, the consolidated balance sheet and related statements of operations, shareholders' equity and cash flows of such Obligor and its consolidated Subsidiaries as of the end of and for such fiscal quarter and the then elapsed portion of the fiscal year, setting forth in each case in comparative form the figures for (or, in the case of the balance sheet, as of the end of) the corresponding period or periods of the Page 37 previous fiscal year (if such figures were already produced for such corresponding period or periods), all certified by a Financial Officer of such Obligor as presenting fairly in all material respects the financial condition and results of operations of such Obligor and its consolidated Subsidiaries on a consolidated basis in accordance with GAAP or (in the case of XL Europe, XL Insurance and XL Mid Ocean) SAP, as the case may be, consistently applied, subject to normal year-end audit adjustments and the absence of footnotes (it being understood that delivery to the Lenders of the Account Party's Report on Form 10-Q filed with the SEC shall satisfy the financial statement delivery requirements of this paragraph (b) to deliver the quarterly financial statements of the Account Party so long as the financial information required to be contained in such Report is substantially the same as the financial information required under this paragraph (b)); (c) concurrently with any delivery of financial statements under Clause 18.1(a) and (b), a certificate signed on behalf of each Obligor by a Financial Officer (i) certifying as to whether a Default has occurred and, if a Default has occurred, specifying the details thereof and any action taken or proposed to be taken with respect thereto, (ii) setting forth reasonably detailed calculations demonstrating compliance with Clauses 19.3 (LIENS), 19.5 (RATIO OF TOTAL FUNDED DEBT TO TOTAL CAPITALISATION), 19.6 (CONSOLIDATED NET WORTH) and 19.7 (INDEBTEDNESS) and (iii) stating whether any change in GAAP or (in the case of XL Europe, XL Insurance and XL Mid Ocean) SAP or in the application thereof has occurred since the date of the audited financial statements referred to in Clause 17.5(a) and, if any such change has occurred, specifying the effect of such change on the financial statements accompanying such certificate; (d) concurrently with any delivery of financial statements under Clause 18.1(a), a certificate of the accounting firm that reported on such financial statements stating whether they obtained knowledge during the course of their examination of such financial statements of any Default (which certificate may be limited to the extent required by accounting rules or guidelines); (e) promptly after the same become publicly available, copies of all periodic and other reports, proxy statements and other materials filed by such Obligor or any of its respective Subsidiaries with the SEC, or any Governmental Authority succeeding to any or all of the functions of said Commission, or with any U.S. or other securities exchange, or distributed by such Obligor to its shareholders generally, as the case may be; (f) concurrently with any delivery of financial statements under Clause 18.1(a) and (b), a certificate of a Financial Officer of the Account Party, setting forth on a consolidated basis for the Account Party and its consolidated Subsidiaries as of the end of the fiscal year or quarter to which such certificate relates (i) the aggregate book value of assets which are subject to Liens permitted under Clause 19.3(g) (LIENS) and the aggregate book value of liabilities which are subject to Liens permitted under Clause 19.3(g) (it being understood that the reports required by paragraphs (a) and (b) of this Clause shall satisfy the requirement (i) of this Clause 18.1(f) if such reports set forth separately, in accordance with GAAP, line items corresponding to such aggregate book values) and (ii) a calculation showing the portion of each of such aggregate amounts which portion is attributable to transactions among wholly-owned Subsidiaries of the Account Party; and (g) promptly following any request therefor, such other information regarding the operations, business affairs and financial condition of the Account Party or any of its Page 38 Subsidiaries, or compliance with the terms of this Agreement, as the Agent or any Lender may reasonably request. NOTICES OF MATERIAL EVENTS 18.2 Each Obligor will furnish to the Agent and each Lender prompt written notice of the following: (a) the occurrence of any Default; and (b) any event or condition constituting, or which could reasonably be expected to have a Material Adverse Effect. Each notice delivered under this Clause shall be accompanied by a statement of a Financial Officer or other executive officer of the relevant Obligor setting forth the details of the event or development requiring such notice and any action taken or proposed to be taken by such Obligor with respect thereto. PRESERVATION OF EXISTENCE AND FRANCHISES 18.3 Each Obligor will, and will cause each of its Subsidiaries to, maintain its corporate existence and its material rights and franchises in full force and effect in its jurisdiction of incorporation except where the failure to maintain such corporate existence and material rights and franchises would not reasonably be expected to have, either individually or in the aggregate, a Material Adverse Effect; provided that the foregoing shall not prohibit any merger or consolidation permitted under Clause 19.1 (MERGERS) or 19.2 (DISPOSITIONS). Each Obligor will, and will cause each of its Subsidiaries to, qualify and remain qualified as a foreign corporation in each jurisdiction in which failure to receive or retain such qualification would have a Material Adverse Effect. INSURANCE 18.4 Each Obligor will, and will cause each of its Subsidiaries to, maintain with financially sound and reputable insurers, insurance with respect to its properties in such amounts as is customary in the case of corporations engaged in the same or similar businesses having similar properties similarly situated. MAINTENANCE OF PROPERTIES 18.5 Each Obligor will, and will cause each of its Subsidiaries to, maintain or cause to be maintained in good repair, working order and condition the properties now or hereafter owned, leased or otherwise possessed by and used or useful in its business and will make or cause to be made all needful and proper repairs, renewals, replacements and improvements thereto so that the business carried on in connection therewith may be properly conducted at all times except if the failure to do so would not have a Material Adverse Effect, provided, however, that the foregoing shall not impose on such Obligor or any Subsidiary of such Obligor any obligation in respect of any property leased by such Obligor or such Subsidiary in addition to such Obligor's obligations under the applicable document creating such Obligor's or such Subsidiary's lease or tenancy. PAYMENT OF TAXES AND OTHER POTENTIAL CHARGES AND PRIORITY CLAIMS PAYMENT OF OTHER CURRENT LIABILITIES 18.6 Each Obligor will, and will cause each of its Subsidiaries to, pay or discharge: Page 39 (a) on or prior to the date on which penalties attach thereto, all taxes, assessments and other governmental charges or levies imposed upon it or any of its properties or income; (b) on or prior to the date when due, all lawful claims of materialmen, mechanics, carriers, warehousemen, landlords and other like Persons which, if unpaid, might result in the creation of a Lien upon any such property; and (c) on or prior to the date when due, all other lawful claims which, if unpaid, might result in the creation of a Lien upon any such property (other than Liens not forbidden by Clause 19.3 (LIENS)) or which, if unpaid, might give rise to a claim entitled to priority over general creditors of such Obligor in any proceeding under the Bermuda Companies Law or Bermuda Insurance Law, or any insolvency proceeding, liquidation, receivership, rehabilitation, dissolution or winding-up involving such Obligor or such Subsidiary; provided that, unless and until foreclosure, distraint, levy, sale or similar proceedings shall have been commenced, such Obligor need not pay or discharge any such tax, assessment, charge, levy or claim so long as the validity thereof is contested in good faith and by appropriate proceedings diligently conducted and so long as such reserves or other appropriate provisions as may be required by GAAP or SAP, as the case may be, shall have been made therefor and so long as such failure to pay or discharge does not have a Material Adverse Effect. FINANCIAL ACCOUNTING PRACTICES 18.7 Such Obligor will, and will cause each of its consolidated Subsidiaries to, make and keep books, records and accounts which, in reasonable detail, accurately and fairly reflect its transactions and dispositions of its assets and maintain a system of internal accounting controls sufficient to provide reasonable assurances that transactions are recorded as necessary to permit preparation of financial statements required under Clause 18.1 (FINANCIAL STATEMENTS AND OTHER INFORMATION) in conformity with GAAP and SAP, as applicable, and to maintain accountability for assets. COMPLIANCE WITH APPLICABLE LAWS 18.8 Each Obligor will, and will cause each of its Subsidiaries to, comply with all applicable Laws (including but not limited to the Bermuda Companies Law and Bermuda Insurance Laws) in all respects; provided that such Obligor or any Subsidiary of such Obligor will not be deemed to be in violation of this Clause as a result of any failure to comply with any such Law which would not (i) result in fines, penalties, injunctive relief or other civil or criminal liabilities which, in the aggregate, would have a Material Adverse Effect or (ii) otherwise impair the ability of such Obligor to perform its obligations under this Agreement. USE OF LETTERS OF CREDIT 18.9 No Letter of Credit will be used, whether directly or indirectly, for any purpose that entails a violation of any of the Regulations of the Board, including Regulations U and X. CONTINUATION OF AND CHANGE IN BUSINESSES 18.10 Each Obligor and its Subsidiaries will continue to engage in substantially the same business or businesses it engaged in (or proposes to engage in) on the date of this Agreement and businesses related or incidental thereto. Page 40 VISITATION 18.11 Each Obligor will permit such Persons as any Lender may reasonably designate to visit and inspect any of the properties of such Obligor, to discuss its affairs with its financial management, and provide such other information relating to the business and financial condition of such Obligor at such times as such Lender may reasonably request. Each Obligor hereby authorises its financial management to discuss with any Lender the affairs of such Obligor. NEGATIVE COVENANTS 19. Until the Total Commitments have expired or terminated and all fees payable hereunder have been paid in full and all Letters of Credit have expired or terminated and all LC Disbursements have been reimbursed, each of the Obligors covenants and agrees with the Lenders that: MERGERS 19.1 No Obligor will merge with or into or consolidate with any other Person, except that if no Default shall occur and be continuing or shall exist at the time of such merger or consolidation or immediately thereafter and after giving effect thereto any Obligor may merge or consolidate with any other corporation, including a Subsidiary, if such Obligor shall be the surviving corporation. DISPOSITIONS 19.2 No Obligor will, nor will it permit any of its Subsidiaries to, sell, convey, assign, lease, abandon or otherwise transfer or dispose of, voluntarily or involuntarily (any of the foregoing being referred to in this Clause as a DISPOSITION and any series of related Dispositions constituting but a single Disposition), any of its properties or assets, tangible or intangible (including but not limited to sale, assignment, discount or other disposition of accounts, contract rights, chattel paper or general intangibles with or without recourse), except: (a) Dispositions in the ordinary course of business involving current assets or other assets classified on such Obligor's balance sheet as available for sale; (b) sales, conveyances, assignments or other transfers or dispositions in immediate exchange for cash or tangible assets, provided that any such sales, conveyances or transfers shall not individually, or in the aggregate for the Obligor and their respective Subsidiaries, exceed $500,000,000 in any calendar year; (c) Dispositions of equipment or other property which is obsolete or no longer used or useful in the conduct of the business of such Obligor or its Subsidiaries; (d) Dispositions between or among the Obligors and their wholly owned Subsidiaries; or (e) Dispositions with Affiliates in accordance with Clause 19.4(c) (TRANSACTIONS WITH AFFILIATES). Page 41 LIENS 19.3 No Obligor will, nor will it permit any of its Subsidiaries to, create, incur, assume or permit to exist any Lien on any property or assets, tangible or intangible, now owned or hereafter acquired by it, except: (a) Liens existing on the date hereof (and extension, renewal and replacement Liens upon the same property, provided that the amount secured by each Lien constituting such an extension, renewal or replacement Lien shall not exceed the amount secured by the Lien theretofore existing) and listed on Part B of Schedule 2; (b) Liens arising from taxes, assessments, charges, levies or claims described in Clause 18.6 (PAYMENT OF TAXES AND OTHER POTENTIAL CHARGES AND PRIORITY CLAIMS, PAYMENTS OF OTHER CURRENT LIABILITIES) that are not yet due or that remain payable without penalty or to the extent permitted to remain unpaid under the provision of Clause 18.6; (c) Liens on property securing all or part of the purchase price thereof to such Obligor and Liens (whether or not assumed) existing on property at the time of purchase thereof by such Obligor (and extension, renewal and replacement Liens upon the same property); provided (i) each such Lien is confined solely to the property so purchased, improvements thereto and proceeds thereof, and (ii) the aggregate amount of the obligations secured by all such Liens on any particular property at any time purchased by such Obligor, as applicable, shall not exceed 100% of the lesser of the fair market value of such property at such time or the actual purchase price of such property; (d) zoning restrictions, easements, minor restrictions on the use of real property, minor irregularities in title thereto and other minor Liens that do not in the aggregate materially detract from the value of a property or asset to, or materially impair its use in the business of, such Obligor or any such Subsidiary; (e) Liens securing Indebtedness permitted by Clause 19.7(b) (INDEBTEDNESS) covering assets whose market value is not materially greater than the amount of the Indebtedness secured thereby plus a commercially reasonable margin; (f) Liens on cash and securities of an Obligor or its Subsidiaries incurred as part of the management of its investment portfolio in accordance with the Account Party's Statement of Investment Policy Objectives and Guidelines as in effect on the date hereof or as it may be changed from time to time by a resolution duly adopted by the board of directors of the Account Party (or any committee thereof); (g) Liens on (i) assets received, and on actual or imputed investment income on such assets received, relating and identified to specific insurance payment liabilities or to liabilities arising in the ordinary course of any Obligor's or any of their Subsidiary's business as an insurance or reinsurance company (including guaranteed investment contracts) or corporate member of Lloyd's or as a provider of financial or investment services or contracts, or the proceeds thereof, in each case held in a segregated trust or other account and securing such liabilities or (ii) any other assets subject to any trust or other account arising out of or as a result of contractual, regulatory or any other requirements; provided that in no case shall any such Lien secure Indebtedness and any Lien which secures Indebtedness shall not be permitted under this Clause 19.3(g); Page 42 (h) statutory and common law Liens of materialmen, mechanics, carriers, warehousemen and landlords and other similar Liens arising in the ordinary course of business; and (i) Liens existing on property of a Person immediately prior to its being consolidated with or merged into any Obligor or any of their Subsidiaries or its becoming a Subsidiary, and Liens existing on any property acquired by any Obligor or any of their Subsidiaries at the time such property is so acquired (whether or not the Indebtedness secured thereby shall have been assumed) (and extension, renewal and replacement Liens upon the same property, provided that the amount secured by each Lien constituting such an extension, renewal or replacement Lien shall not exceed the amount secured by the Lien theretofore existing), provided that (i) no such Lien shall have been created or assumed in contemplation of such consolidation or merger or such Person's becoming a Subsidiary or such acquisition of property and (ii) each such Lien shall extend solely to the item or items of property so acquired and, if required by terms of the instrument originally creating such Lien, other property which is an improvement to or is acquired for specific use in connection with such acquired property. TRANSACTIONS WITH AFFILIATES 19.4 No Obligor will, nor will it permit any of its Subsidiaries to, enter into or carry out any transaction with (including, without limitation, purchase or lease property or services to, loan or advance to or enter into, suffer to remain in existence or amend any contract, agreement or arrangement with) any Affiliate of such Obligor, or directly or indirectly agree to do any of the foregoing, except: (a) transactions involving guarantees or co-obligors with respect to any Indebtedness described in Part A of Schedule 2; (b) transactions between any Obligor and its wholly-owned Subsidiaries; and (c) transactions with Affiliates in good faith in the ordinary course of such Obligor's business consistent with past practice and on terms no less favorable to such Obligor or any Subsidiary than those that could have been obtained in a comparable transaction on an arm's length basis from an unrelated Person except if any such transaction would not have a Material Adverse Effect. RATIO OF TOTAL FUNDED DEBT TO TOTAL CAPITALISATION 19.5 The Account Party will not permit its ratio of (a) Total Funded Debt to (b) the sum of Total Funded Debt plus Consolidated Net Worth to be greater than 0.35:1.00 at any time. CONSOLIDATED NET WORTH 19.6 The Account Party will not permit its Consolidated Net Worth to be less than the sum of (a) $4,535,621,000 plus (b) 25% of net income (if positive) for each fiscal quarter of the Account Party commencing with the fiscal quarter ending September 30, 2000. INDEBTEDNESS 19.7 No Obligor will, nor will it permit any of its Subsidiaries to, at any time create, incur, assume or permit to exist any Indebtedness, or agree, become or remain liable (contingent or otherwise) to do any of the foregoing, except: Page 43 (a) Indebtedness created hereunder and under any other Finance Document; (b) secured Indebtedness (including secured reimbursement obligations with respect to letters of credit) of any Obligor or any Subsidiary in an aggregate principal amount (for all Obligors and their respective Subsidiaries) not exceeding $300,000,000 at any time outstanding; (c) other unsecured Indebtedness, so long as upon the incurrence thereof no Default would occur or exist; (d) Indebtedness consisting of accounts or claims payable and accrued and deferred compensation (including options) incurred in the ordinary course of business by any Obligor or any Subsidiary; (e) Indebtedness incurred in transactions described in Clause 19.3(f); and (f) Indebtedness existing on the date hereof and described in Part A of Schedule 2 and extensions, renewals and replacements of any such Indebtedness that do not increase the outstanding principal amount thereof. RATINGS DOWNGRADE 19.8 If at any time one of the following conditions is not satisfied: (i) the Account Party has a claims-paying rating of at least "A" from A.M. Best & Co. (or its successor); and (ii) XL Insurance has a rating of at least "A" from Standard & Poor's Rating Services (or its successor); then the Agent may (and if so instructed by the Majority Lenders shall) require the Account Party within 5 Business Days of the failure to satisfy either condition, either: (a) to provide cash cover in an amount equal to the aggregate LC Exposures for the time being; or (b) to deposit BIS Qualifying Assets with a custodian acceptable to the Agent, and enter into custodian and other relevant documentation, together with documentation required by the Security Trustee to give the Security Trustee (for the benefit of itself and the other Finance Parties) an effective and perfected security interest in respect of those BIS Qualifying Assets, in an aggregate amount equal to 105% of the aggregate LC Exposures for the time being. Notwithstanding any of the foregoing provisions of this Clause 19.8, if at any time subsequent to compliance by the Account Party with (a) or (b) above, both of the conditions in (i) and (ii) above are satisfied, the Security Trustee will instruct a bank holding any cash cover or otherwise take all necessary actions to release and return any cash cover or BIS Qualifying Assets to the Account Party. PRIVATE ACT 19.9 No Account Party will become subject to a Private Act other than the X.L. Insurance Company, Ltd. Act, 1989. Page 44 EVENTS OF DEFAULT 20.1 If any of the following events (EVENTS OF DEFAULT) shall occur: (a) FAILURE TO PAY: (i) any Obligor shall fail to pay any Demand Amount when and as the same shall become due and payable; or (ii) any Obligor shall fail to pay any interest or any fee payable under this Agreement or any other Finance Document or any other amount (other than an amount referred to in Clause 20.1(a)(i)) payable under this Agreement or any other Finance Document, when and as the same shall become due and payable, and such failure shall continue unremedied for a period of 3 or more days; (b) MISREPRESENTATION: any representation or warranty made or deemed made by any Obligor in or in connection with this Agreement or any other Finance Document or any amendment or modification hereof, or in any certificate or financial statement furnished pursuant to the provisions hereof, shall prove to have been false or misleading in any material respect as of the time made (or deemed made) or furnished; (c) BREACH OF OBLIGATIONS: (i) any Obligor shall fail to observe or perform any covenant, condition or agreement contained in Clause 19 (NEGATIVE Covenants); and (ii) any Obligor shall fail to observe or perform any covenant, condition or agreement contained in this Agreement or any other Finance Document (other than those specified in Clause 20.1(a) or (c)(i)) and such failure shall continue unremedied for a period of 20 or more days after notice thereof from the Agent (given at the request of any Lender) to such Obligor; (d) CROSS DEFAULT: any Obligor or any of its Subsidiaries shall default (i) in any payment of principal of or interest on any other obligation for borrowed money in principal amount of $50,000,000 or more, or any payment of any principal amount of $50,000,000 or more under Hedging Agreements, in each case beyond any period of grace provided with respect thereto, or (ii) in the performance of any other agreement, term or condition contained in any such agreement (other than Hedging Agreements) under which any such obligation in principal amount of $50,000,000 or more is created, if the effect of such default is to cause or permit the holder or holders of such obligation (or trustee on behalf of such holder or holders) to cause such obligation to become due prior to its stated maturity or to terminate its commitment under such agreement, provided that this Clause 20.1(d) shall not apply to secured Indebtedness that becomes due as a result of the voluntary sale or transfer of the property or assets securing such Indebtedness; (e) WINDING-UP: a decree or order by a court having jurisdiction in the premises shall have been entered adjudging any Obligor a bankrupt or insolvent, or approving as properly filed a petition seeking reorganisation of such Obligor under the Bermuda Companies Law or the Cayman Islands Companies Law (2000 Revision) or any other similar applicable Law, and such decree or order shall have continued undischarged or unstayed for a period of 60 days; or a decree or order of a court having jurisdiction Page 45 in the premises for the appointment of a receiver or liquidator or trustee or assignee in bankruptcy or insolvency of such Obligor or a substantial part of its property, or for the winding up or liquidation of its affairs, shall have been entered, and such decree or order shall have continued undischarged and unstayed for a period of 60 days; (f) INSOLVENCY AND RESCHEDULING: any Obligor shall institute proceedings to be adjudicated a voluntary bankrupt, or shall consent to the filing of a bankruptcy proceeding against it, or shall file a petition or answer or consent seeking reorganisation under the Bermuda Companies Law or the Cayman Islands Companies Law (2000 Revision) or any other similar applicable Law, or shall consent to the filing of any such petition, or shall consent to the appointment of a receiver or liquidator or trustee or assignee in bankruptcy or insolvency of it or a substantial part of its property, or shall make an assignment for the benefit of creditors, or shall admit in writing its inability to pay its debts generally as they become due, or corporate or other action shall be taken by such Obligor in furtherance of any of the aforesaid purposes; (g) MATERIAL UNSATISFIED JUDGMENT OR ORDER: one or more judgments for the payment of money in an aggregate amount in excess of $100,000,000 shall be rendered against any Obligor or any of its Subsidiaries or any combination thereof and the same shall not have been vacated, discharged, stayed (whether by appeal or otherwise) or bonded pending appeal within 45 days from the entry thereof; (h) ERISA EVENT: an ERISA Event (or similar event with respect to any Non-U.S. Benefit Plan) shall have occurred that, in the opinion of the Majority Lenders, when taken together with all other ERISA Events and such similar events that have occurred, could reasonably be expected to result in liability of the Obligors and their Subsidiaries in an aggregate amount exceeding $100,000,000; (i) CHANGE OF CONTROL: a Change in Control shall occur; (j) CHANGE IN OWNERSHIP: the Account Party shall cease to own, beneficially and of record, directly or indirectly all of the outstanding voting shares of capital stock of XL Insurance, XL Mid Ocean, XL America or XL Europe (except, in the case of any company organised under the laws of Bermuda, for a nominal number of shares owned by nominee shareholders required by the Bermuda Companies Law); or (k) ILLEGALITY: at any time it is or becomes unlawful for any Obligor to perform or comply with any or all of its obligations hereunder or any court or arbitrator or any governmental body, agency or official which has jurisdiction in the matter shall decide, rule or order that any provision of the Finance Documents is invalid or unenforceable in any material respect, or any Obligor shall so assert in writing; (l) DEFAULT UNDER GUARANTEE: the guarantee contained in Clause 16 (GUARANTEE AND INDEMNITY) shall terminate or cease, in whole or material part, to be a legally valid and binding obligation of each Guarantor or any Guarantor or any Person acting for or on behalf of any of such parties shall contest such validity or binding nature of such guarantee itself or the Transactions, or any other Person shall assert any of the foregoing; then, and in every such event (other than an event with respect to any Obligor described in Clause 20.1.(e) or 20.1(f)), and at any time thereafter during the continuance of such event, the Agent may, and at the request of the Majority Lenders shall, by notice to the Account Party, take any of the following actions, at the same or different times: Page 46 (i) terminate the Total Commitments, and thereupon the Total Commitments shall terminate immediately; (ii) require the Account Party forthwith to provide cash cover in respect of any LC Exposure pursuant to a Letter of Credit; and (iii) declare all fees and other obligations of the Account Party accrued hereunder to be due and payable in whole (or in part, in which case any fees and other obligations not so declared to be due and payable may thereafter be declared to be due and payable) and thereupon such fees and other obligations, shall become due and payable immediately, without presentment, demand, protest or other notice of any kind, all of which are hereby waived by the Account Party; and in case of any event with respect to any Obligor described in Clause 20.1(e) or 20.1(f): (x) the Commitments shall automatically terminate; and (y) the Account Party shall automatically be required to provide cash cover in respect of any LC Exposure pursuant to a Letter of Credit; and (z) all fees and other obligations of the Account Party accrued hereunder, shall automatically become due and payable, without presentment, demand, protest or other notice of any kind, all of which are hereby waived by the Account Party. THE AGENT, THE ARRANGER AND THE LENDERS APPOINTMENT OF THE AGENT 21.1 The Arranger and each of the Lenders hereby appoints the Agent to act as its agent in connection herewith and authorises the Agent to exercise such rights, powers, authorities and discretions as are specifically delegated to the Agent by the terms hereof together with all such rights, powers, authorities and discretions as are reasonably incidental thereto. AGENT'S DISCRETIONS 21.2 The Agent may: (a) assume, unless it has, in its capacity as agent for the Lenders, received notice to the contrary from any other party hereto, that (a) any representation made or deemed to be made by an Obligor in connection with the Finance Documents is true, (b) no Event of Default or Potential Event of Default has occurred, (c) no Obligor is in breach of or default under its obligations under the Finance Documents and (d) any right, power, authority or discretion vested therein upon the Majority Lenders, the Lenders or any other person or group of persons has not been exercised; (b) assume that the Facility Office of each Lender is that notified to it by such Lender in writing prior to the date hereof (or, in the case of a Transferee, at the end of the Transfer Certificate to which it is a party as Transferee) until it has received from such Lender a notice designating some other office of such Lender to replace its Facility Office and act upon any such notice until the same is superseded by a further such notice; Page 47 (c) engage and pay for the advice or services of any lawyers, accountants, surveyors or other experts whose advice or services may to it seem necessary, expedient or desirable and rely upon any advice so obtained; (d) rely as to any matters of fact which might reasonably be expected to be within the knowledge of an Obligor upon a certificate signed by or on behalf of such Obligor; (e) rely upon any communication or document believed by it to be genuine; (f) refrain from exercising any right, power or discretion vested in it as agent hereunder unless and until instructed by the Majority Lenders as to whether or not such right, power or discretion is to be exercised and, if it is to be exercised, as to the manner in which it should be exercised; (g) refrain from acting in accordance with any instructions of the Majority Lenders to begin any legal action or proceeding arising out of or in connection with the Finance Documents until it shall have received such security as it may require (whether by way of payment in advance or otherwise) for all costs, claims, losses, expenses (including legal fees) and liabilities together with any VAT thereon which it will or may expend or incur in complying with such instructions; and (h) assume (unless it has specific notice to the contrary) that any notice or request made by the Account Party is made on behalf of the Obligors. AGENT'S OBLIGATIONS 21.3 The Agent shall: (a) promptly inform each Lender of the contents of any notice or document received by it in its capacity as Agent from an Obligor under the Finance Documents and shall promptly deliver to each Lender a copy of each Letter of Credit delivered to Lloyd's pursuant to Clause 3.3 (COMPLETION OF LETTERS OF CREDIT); (b) promptly notify each Lender of the occurrence of any Event of Default or any default by an Obligor in the due performance of or compliance with its obligations under the Finance Documents of which the Agent has notice from any other party hereto; (c) save as otherwise provided herein, act as agent under the Finance Documents in accordance with any instructions given to it by an Majority Lenders, which instructions shall be binding on the Arranger and the Lenders; and (d) if so instructed by the Majority Lenders, refrain from exercising any right, power or discretion vested in it as agent under the Finance Documents. The Agent's duties under the Finance Documents are solely mechanical and administrative in nature. EXCLUDED OBLIGATIONS 21.4 Notwithstanding anything to the contrary expressed or implied herein, neither the Agent nor the Arranger shall: (a) be bound to enquire as to (i) whether or not any representation made or deemed to be made by an Obligor in connection with the Finance Documents is true, (ii) the Page 48 occurrence of any Default, (iii) the performance by an Obligor of its obligations under the Finance Documents or (iv) any breach of or default by an Obligor of or under its obligations under the Finance Documents; (b) be bound to account to any Lender for any sum or the profit element of any sum received by it for its own account; (c) be bound to disclose to any other person any information relating to any Obligor or any Related Party if (i) such person, on providing such information, expressly stated to the Agent or, as the case may be, the Arranger, that such information was confidential or (ii) such disclosure would or might in its opinion constitute a breach of any law or be otherwise actionable at the suit of any person; (d) be under any obligations other than those for which express provision is made herein; or (e) be or be deemed to be a fiduciary for any other party hereto. INDEMNIFICATION 21.5 Each Lender shall, pro rata according to its respective Commitment, from time to time on demand by the Agent, indemnify the Agent against any and all costs, claims, losses, expenses (including legal fees) and liabilities together with any value added tax thereon (or equivalent) which the Agent may incur, otherwise than by reason of its own gross negligence or wilful misconduct, in acting in its capacity as agent hereunder. EXCLUSION OF LIABILITIES 21.6 Except in the case of gross negligence or wilful default, neither the Agent nor the Arranger accepts any responsibility: (a) for the adequacy, accuracy and/or completeness of any information supplied by the Agent or the Arranger, by an Obligor or by any other person in connection with the Finance Documents or any other agreement, arrangement or document entered into, made or executed in anticipation of, pursuant to or in connection with the Finance Documents; (b) for the legality, validity, effectiveness, adequacy or enforceability of the Finance Documents or any other agreement, arrangement or document entered into, made or executed in anticipation of, pursuant to or in connection with the Finance Documents; or (c) for the exercise of, or the failure to exercise, any judgement, discretion or power given to any of them by or in connection with the Finance Documents or any other agreement, arrangement or document entered into, made or executed in anticipation of, pursuant to or in connection with the Finance Documents. Accordingly, neither the Agent nor the Arranger shall be under any liability (whether in negligence or otherwise) in respect of such matters, save in the case of gross negligence or wilful misconduct. Page 49 NO ACTIONS 21.7 Each of the Lenders agree that it will not assert or seek to assert against any director, officer or employee of the Agent or the Arranger any claim it might have against any of them in respect of the matters referred to in Clause 21.6 (EXCLUSION OF LIABILITIES). BUSINESS WITH THE GROUP 21.8 The Agent and the Arranger may accept deposits from, lend money to and generally engage in any kind of banking or other business with any of the Obligors or their Subsidiaries. RESIGNATION 21.9 The Agent may resign its appointment hereunder at any time without assigning any reason therefor by giving not less than thirty days' prior notice to that effect to each of the other parties hereto, PROVIDED THAT no such resignation shall be effective until a successor for the Agent is appointed in accordance with the succeeding provisions of this Clause 21. SUCCESSOR AGENT 21.10 If the Agent gives notice of its resignation pursuant to Clause 21.9 (RESIGNATION) then any reputable and experienced Lender or other financial institution may be appointed as a successor to the Agent by the Majority Lenders (with the approval of the Account Party, not to be unreasonably withheld or delayed,) during the period of such notice (with the co-operation of the Agent) but, if no such successor is so appointed, the Agent may appoint such a successor itself. RIGHTS AND OBLIGATIONS 21.11 If a successor to the Agent is appointed under the provisions of Clause 21.10 (SUCCESSOR AGENT), then (a) the retiring Agent shall be discharged from any further obligation hereunder but shall remain entitled to the benefit of the provisions of this Clause 21 and (b) its successor and each of the other parties hereto shall have the same rights and obligations amongst themselves as they would have had if such successor had been a party hereto. OWN RESPONSIBILITY 21.12 It is understood and agreed by each Lender that at all times it has itself been, and will continue to be, solely responsible for making its own independent appraisal of and investigation into all risks arising under or in connection with this Agreement including, but not limited to: (a) the financial condition, creditworthiness, condition, affairs, status and nature of each member of the Group; (b) the legality, validity, effectiveness, adequacy and enforceability of the Finance Documents and any other agreement, arrangement or document entered into, made or executed in anticipation of, pursuant to or in connection with the Finance Documents; (c) whether such Lender has recourse, and the nature and extent of that recourse, against an Obligor or any other person or any of its assets under or in connection with the Finance Documents, the Transactions or any other agreement, arrangement or Page 50 document entered into, made or executed in anticipation of, pursuant to or in connection with the Finance Documents; and (d) the adequacy, accuracy and/or completeness of any information provided by the Agent or the Arranger, an Obligor or by any other person in connection with the Finance Documents, the Transactions or any other agreement, arrangement or document entered into, made or executed in anticipation of, pursuant to or in connection with the Finance Documents. Accordingly, each Lender acknowledges to the Agent and the Arranger that it has not relied on and will not hereafter rely on the Agent and the Arranger or either of them in respect of any of these matters. AGENCY DIVISION SEPARATE 21.13 In acting as agent hereunder for the Lenders, the Agent shall be regarded as acting through its agency division which shall be treated as a separate entity from any other of its divisions or departments and, notwithstanding the foregoing provisions of this Clause 21, any information received by some other division or department of the Agent may be treated as confidential and shall not be regarded as having been given to the Agent's agency division. DECLARATION OF AGENT AS SECURITY TRUSTEE 21.14 The Agent hereby declares that it shall hold: (a) all rights, titles and interests that may hereafter be mortgaged, charged, assigned or otherwise secured in favour of the Agent by or pursuant to the Finance Documents; (b) the benefit of all representations, covenants, guarantees, indemnities and other contractual provisions given in favour of the Agent (other than any such benefits given to the Agent solely for its own benefit) by or pursuant to the Finance Documents (other than this Agreement); and (c) all proceeds of the security referred to in paragraph (a) above and of the enforcement of the benefits referred to in paragraph (b) above, on trust for itself and the other Finance Parties from time to time. Such declaration shall remain valid notwithstanding that the Agent may on the date hereof or at any other time be the sole Finance Party; for the avoidance of doubt, however, such declaration shall, in such case, be deemed repeated on each date on which the Agent ceases to be the sole Finance Party. Each of the parties hereto agrees that the obligations, rights and benefits vested or to be vested in the Agent as trustee as aforesaid by the Finance Documents or any document entered into pursuant thereto shall (as well before as after enforcement) be performed and (as the case may be) exercised by the Agent in accordance with the provisions of this Clause 21. POWERS AND DISCRETIONS 21.15 The Agent shall have all the powers and discretions conferred upon trustees by the Trustee Act 1925 (to the extent not inconsistent herewith) and by way of supplement it is expressly declared as follows: Page 51 (a) the Agent shall be at liberty to place any of the Finance Documents and any other instruments, documents or deeds delivered to it pursuant thereto or in connection therewith for the time being in its possession in any safe deposit, safe or receptacle selected by the Agent or with any Lender, any company whose business includes undertaking the safe custody of documents or any firm of lawyers of good repute; (b) the Agent may, whenever it thinks fit, delegate by power of attorney or otherwise to any person or persons or fluctuating body of persons all or any of the rights, trusts, powers, authorities and discretions vested in it by any of the Finance Documents and such delegation may be made upon such terms and subject to such conditions (including the power to sub-delegate) and subject to such regulations as the Agent may think fit and the Agent shall not be bound to supervise, or be in any way responsible for any loss incurred by reason of any misconduct or default on the part of, any such delegate (or sub-delegate); (c) notwithstanding anything else herein contained, the Agent may refrain from doing anything which would or might in its opinion be contrary to any law of any jurisdiction or any directive or regulation of any agency of any state or which would or might otherwise render it liable to any person and may do anything which is, in its opinion, necessary to comply with any such law, directive or regulation; (d) save in the case of gross negligence or wilful misconduct, the Agent and every attorney, agent, delegate, sub-delegate and any other person appointed by any of them under any of the Finance Documents may indemnify itself or himself out of the security held by the Agent against all liabilities, costs, fees, charges, losses and expenses incurred by any of them in relation to or arising out of the taking or holding of any of the security constituted by, or any of the benefits provided by, any of the Finance Documents, in the exercise or purported exercise of the rights, trusts, powers and discretions vested in any of them or in respect of any other matter or thing done or omitted to be done in any way relating to any of the Finance Documents or pursuant to any law or regulation; and (e) without prejudice to the provisions of any of the Finance Documents, the Agent shall not be under any obligation to insure any property or to require any other person to maintain any such insurance and shall not be responsible for any loss which may be suffered by any person as a result of the lack of or inadequacy or insufficiency of any such insurance. LIABILITY 21.16 The Agent shall not be liable for any failure: (a) to require the deposit with it of any deed or document certifying, representing or constituting the title of the Account Party to any of the property mortgaged, charged, assigned or otherwise encumbered by or pursuant to any of the Finance Documents; (b) to obtain any licence, consent or other authority for the execution, delivery, validity, legality, adequacy, performance, enforceability or admissibility in evidence of any of the Finance Documents; (c) to register or notify any deed or document mentioned at paragraph (a) above in accordance with the provisions of any of the documents of title of the Account Party; Page 52 (d) to effect or procure registration of or otherwise protect any of the security created by any of the Finance Documents by registering the same under any applicable registration laws in any territory or otherwise by registering any notice, caution or other entry prescribed by or pursuant to the provisions of relevant laws; (e) to take or to require the Account Party to take any steps to render the security created or purported to be created by or pursuant to any of the Finance Documents effective or to secure the creation of any ancillary charge under the laws of any jurisdiction; or (f) to require any further assurances in relation to any of the Finance Documents. TITLE TO SECURITY ETC. 21.17 The Agent may accept without enquiry, requisition or objection such right and title as the Account Party may have to the property belonging (or purportedly belonging) to it (or any part thereof) which is the subject matter of any of the Finance Documents and shall not be bound or concerned to investigate or make any enquiry into the right or title of the Account Party to such property (or any part thereof) or, without prejudice to the foregoing, to require the Account Party to remedy any defect in the Account Party's right or title as aforesaid. NEW SECURITY TRUSTEE 21.18 The Agent may at any time appoint any person (whether or not a trust corporation) to act either as a separate trustee or as a co-trustee jointly with the Agent: (a) if the Agent considers such appointment to be in the interests of the Lenders; or (b) for the purposes of conforming to any legal requirements, restrictions or conditions which the Agent deems relevant for the purposes of the Finance Documents and the Agent shall give prior notice to the Account Party and the Lenders of any such appointment. Any person so appointed shall (subject to the provisions of the Finance Documents) have such powers, authorities and discretions and such duties and obligations as shall be conferred or imposed or such person by the instrument of appointment and shall have the same benefits under this Clause 21 as the Agent. The Agent shall have power in like manner to remove any person so appointed. Such reasonable remuneration as the Agent may pay to any person so appointed, and any costs, charges and expenses incurred by such person in performing its functions pursuant to such appointment, shall for the purposes hereof be treated as costs, charges and expenses incurred by the Agent under the Finance Documents. PERPETUITY PERIOD 21.19 The perpetuity period under the rule against perpetuities if applicable to the trusts constituted in this Clause 21 and the other Finance Documents shall be the period of eighty years from the date of this Agreement and, subject thereto, if the Agent determines that all of the obligations of the Account Party under any of the Finance Documents have been fully and unconditionally discharged, such trusts shall be wound up. Page 53 LENDER REPRESENTATIONS 21.20 Each Lender represents to the Agent on the date of issue of each Letter of Credit that: (a) the execution and delivery of each Letter of Credit by the Agent on the Lender's behalf has been duly authorised by all necessary action on the part of the Lender; (b) the obligations of the Lender under each Letter of Credit constitute its legal, valid and binding obligations; and (c) it has not participated in such Letter of Credit on the basis that the collateral securing the repayment of any amounts payable by it under the Letter of Credit comprises directly or indirectly a security interest over a Principal Private Residence. LETTERS OF CREDIT 21.21 Each Lender shall, (a) pro rata according to its respective Commitment, indemnify the Agent against any and all liabilities, costs and expenses which the Agent may incur (in its capacity as Agent) as a result of the execution and delivery of any Letter of Credit and any documents executed and delivered by the Agent in connection therewith; and (b) inform the Agent promptly if at any time the collateral securing the repayment of any amounts payable under any Letter of Credit comprises directly or indirectly a security interest over a Principal Private Residence. NOTICES 22. Except in the case of notices and other communications expressly permitted to be given by telephone, all notices and other communications provided for herein shall be in writing and shall be delivered by hand or overnight courier service, mailed by certified or registered mail or sent by telecopy, as follows: (a) if to any Obligor, to: XL Capital Ltd; Cumberland House, One Victoria Street, Hamilton HM 11 Bermuda, Attention: William Robbie (Telecopy No. (441) 2966399); with a copy to Paul S. Giordano Esq., General Counsel, at the same address and telecopy number; (b) if to the Agent: P O Box 242 336 The Strand London WC2R 1HB Tel: 44 207 500 4194 Fax: 44 207 500 4482/4484 Attention: Loans Agency Page 54 (c) if to a Lender, to it at its address (or telecopy number) on the signature pages of this Agreement, or such other address as it shall notify to the Agents and the Account Party. Any party hereto may change its address or telecopy number for notices and other communications hereunder by notice to the other parties hereto (or, in the case of any such change by a Lender, by notice to the Account Party and the Agent). All notices and other communications given to any party hereto in accordance with the provisions of this Agreement shall be deemed to have been given on the date of receipt. WAIVERS AND AMENDMENTS NO DEEMED WAIVERS 23.1 No failure or delay by any Finance Party in exercising any right or power hereunder shall operate as a waiver thereof, nor shall any single or partial exercise of any such right or power, or any abandonment or discontinuance of steps to enforce such a right or power, preclude any other or further exercise thereof or the exercise of any other right or power. No waiver of any provision of this Agreement or consent to any departure by an Obligor therefrom shall in any event be effective unless the same shall be permitted by Clause 23.3 (AMENDMENTS), and then such waiver or consent shall be effective only in the specific instance and for the purpose for which given. Without limiting the generality of the foregoing, the issuance of a Letter of Credit shall not be construed as a waiver of any Default, regardless of whether the Agent or any Lender may have had notice or knowledge of such Default at the time. REMEDIES CUMULATIVE 23.2 The rights and remedies of the Finance Parties hereunder are cumulative and are not exclusive of any rights or remedies that they would otherwise have. AMENDMENTS 23.3 Neither this Agreement nor any provision hereof may be waived, amended or modified except pursuant to an agreement or agreements in writing entered into by the Obligors and the Majority Lenders or by the Obligors and the Agent with the consent of the Majority Lenders; PROVIDED that no such agreement shall: (i) increase the Commitment of any Lender without the written consent of such Lender, (ii) reduce the amount of any reimbursement obligation of the Account Party in respect of any LC Disbursement or reduce the rate of interest thereon, or reduce any fees payable hereunder, without the written consent of each Lender affected thereby, (iii) postpone the scheduled date for reimbursement of any LC Disbursement, or any interest thereon, or any fees payable hereunder, or reduce the amount of, waive or excuse any such payment, or postpone the scheduled date of expiration of any Commitment or any Letter of Credit (other than an extension thereof pursuant to Clause 4), without the written consent of each Lender affected thereby, Page 55 (iv) change Clause 15.4 (PRO RATA TREATMENT) or 15.5 (SHARING OF PAYMENTS BY LENDERS) without the consent of each Lender affected thereby, (v) release any of the Guarantors from any of their guarantee obligations under Clause 16 (GUARANTEE AND INDEMNITY) without the written consent of each Lender, (vi) release any security granted by the Account Party pursuant to Clause 19.8 (RATINGS DOWNGRADE) or 20.1 (EVENTS OF DEFAULT) without the written consent of each Lender, and (vii) change any of the provisions of this Clause or the percentage in the definition of the term MAJORITY LENDERS or any other provision hereof specifying the number or percentage of Lenders required to waive, amend or modify any rights hereunder or make any determination or grant any consent hereunder, without the written consent of each Lender; and PROVIDED FURTHER that no such agreement shall amend, modify or otherwise affect the rights or duties of the Agent hereunder without the prior written consent of the Agent. COSTS AND EXPENSES 24.1 The Account Party shall pay: (a) all reasonable out-of-pocket expenses and charges incurred by the Agent and/or the Arranger (together with VAT or any similar tax thereon and including the reasonable fees, charges and disbursements of counsel for the Agent) in connection with the syndication of the credit facilities provided for herein, the negotiation, preparation, execution and administration of the Finance Documents (subject to the terms of the Commitment Letter) or any amendments, modifications or waivers of the provisions hereof (whether or not the transactions contemplated hereby or thereby shall be consummated); (b) all reasonable out-of-pocket expenses incurred by the Agent, the Security Trustee or any Lender, (together with VAT or any similar tax thereon and including the reasonable fees, charges and disbursements of one legal counsel for the Agent and one legal counsel for the Lenders), in connection with the preservation and/or enforcement or protection of its rights in connection with the Finance Documents, including its rights under this Clause, or in connection with Letters of Credit issued hereunder, including in connection with any workout, restructuring or negotiations in respect thereof. STAMP DUTY 24.2 The Account Party shall pay all transfer, stamp, documentary or other similar taxes, assessments or charges levied by any governmental or revenue authority in respect of this Agreement or any other document referred to herein. INDEMNITIES CURRENCY INDEMNITY 25.1(a) If: Page 56 (i) any amount payable by the Account Party under or in connection with this Agreement is received by any Finance Party in a currency (the PAYMENT CURRENCY) other than that agreed in this Agreement (the AGREED CURRENCY) whether as a result of any judgement or order or the enforcement thereof, the liquidation of the payer or otherwise; and (ii) the amount produced by converting the Payment Currency so received into the Agreed Currency is less than the relevant amount of the Agreed Currency. then the Account Party shall, as an independent obligation, indemnify such Finance Party for the deficiency and any loss sustained as a result. Such conversion shall be made at such prevailing rate of exchange, on such date and in such market as is determined by such Finance Party (acting reasonably) as being most appropriate for the conversion. The Account Party shall in addition pay the costs of the conversion. (b) The Account Party waives any right it may have in any jurisdiction to pay any amount under this Agreement in a currency other than that in which it is expressed to be payable in this Agreement. OTHER INDEMNITIES 25.2 The Obligors shall indemnify the Agent and each Lender, and each Related Party of any of the foregoing Persons (each such Person being called an INDEMNITEE) against, and to hold each Indemnitee harmless from, any and all losses, claims, damages, liabilities and related expenses, including the fees, charges and disbursements of any counsel for any Indemnitee, incurred by or asserted against any Indemnitee arising out of, in connection with, or as a result of: (a) the execution or delivery of this Agreement or any agreement or instrument contemplated hereby, the performance by the parties hereto of their respective obligations hereunder or the consummation of the Transactions or any other transactions contemplated hereby; (b) any Letter of Credit or the use of any thereof (including any refusal by any Lender to honour a demand for payment under a Letter of Credit if the documents presented in connection with such demand do not strictly comply with the terms of such Letter of Credit); (c) any actual or prospective claim, litigation, investigation or proceeding relating to any of the foregoing, whether based on contract, tort or any other theory and regardless of whether any Indemnitee is a party thereto; provided that such indemnity shall not, as to any Indemnitee, be available to the extent that such losses, claims, damages, liabilities or related expenses result from or arise out of the gross negligence or wilful misconduct of such Indemnitee. REIMBURSEMENT BY LENDERS 25.3 To the extent that the Obligors fail to pay any amount required to be paid by them to the Agent under Clauses 25 (COSTS AND EXPENSES) or 25.1 (CURRENCY INDEMNITY) and 25.2 (OTHER INDEMNITIES), each Lender severally agrees to pay to the Agent such Lender's Applicable Percentage (determined as of the time that the applicable unreimbursed expense or indemnity payment is sought) of such unpaid amount; PROVIDED that the unreimbursed Page 57 expense or indemnified loss, claim, damage, liability or related expense, as the case may be, was incurred by or asserted against the Agent in its capacity as such. ALTERATION TO THE PARTIES SUCCESSORS 26.1 The provisions of this Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns permitted hereby. ASSIGNMENTS AND TRANSFERS BY THE ACCOUNT PARTY 26.2 The Account Party shall not assign or otherwise transfer any of its rights or obligations hereunder without the prior written consent of each Lender (and any attempted assignment or transfer by the Account Party without such consent shall be null and void). TRANSFERS BY LENDERS. 26.3(a) Any Lender (the TRANSFEROR) may at any time transfer to another Approved Credit Institution (the TRANSFEREE) all or a portion of its rights and obligations under this Agreement (including all or a portion of its Commitment) and under any Letter of Credit to which it is a party; PROVIDED THAT: (i) except in the case of an transfer to a Lender or a Lender Affiliate, each of the Account Party and the Agent must give their prior written consent to such assignment (which consent shall not be unreasonably withheld or delayed); (ii) except in the case of an transfer to a Lender or a Lender Affiliate or a transfer of the entire remaining amount of the Transferor's Commitment, the amount of the Commitment of the Transferor subject to each such transfer (determined as of the date of the Transfer Certificate) shall not be less than (pound)3,000,000 unless each of the Account Party and the Agent otherwise consent; (iii) a transfer of obligations shall only be effective if the Transferee has confirmed to the Agent and the Account Party prior to the transfer taking effect that it undertakes to be bound by the terms of this Agreement as Lender in form and substance reasonably satisfactory to the Agent and the Account Party; and on any such transfer being made the Transferor shall be relieved of its obligations to the extent they are transferred to the Transferee; (iv) the Transferee, if it shall not be a Lender, shall deliver relevant contact, notice and account details to the Agent (with a copy to the Account Party); PROVIDED FURTHER that any consent of the Account Party otherwise required under this paragraph shall not be required if an Event of Default under Clause 20.1(a), (e) or (f) has occurred and is continuing. Upon transfer pursuant to Clause 26.4, from and after the last to occur of (i) the effective date specified in each Transfer Certificate; and (ii) the cancellation of a Letter of Credit and the issue of a new Letter of Credit with the Transferee identified as an Issuing Lender, the Transferee thereunder shall be a party hereto and, to the extent of the lesser of the interest assigned by such Transfer Certificate and the Transferee's participation as an Issuing lender of a re-issued Letter of Credit (the TRANSFERRED INTEREST), have the rights and obligations of a Lender under this Agreement, and the Transferor Page 58 thereunder shall, to the extent of the Transferred Interest, be released from its obligations under this Agreement (and, in the case of Transfer Certificate covering all of the Transferor's rights and obligations under this Agreement, such Lender shall cease to be a party hereto but shall continue to be entitled to the benefits of Clauses 12 (INCREASED COSTS), 10 (TAXES) 24 (COSTS AND EXPENSES) and 25 (INDEMNITIES)). Any assignment or transfer by a Lender of rights or obligations under this Agreement that does not comply with this paragraph shall be treated for purposes of this Agreement as a sale by such Lender of a participation in such rights and obligations in accordance with Clause 26.7 (PARTICIPATIONS). Notwithstanding anything to the contrary contained herein, any Lender (a GRANTING LENDER) may grant to a special purpose vehicle (an SPV) of such Granting Lender, identified as such in writing from time to time by the Granting Lender to the Agent and the Account Party, the option to provide to the Account Party all or any part of any LC Disbursement that such Granting Lender would otherwise be obligated to make to the Account Party pursuant to Clause 2.1, PROVIDED that (i) nothing herein shall constitute a commitment by any SPV to make any LC Disbursement, (ii) if an SPV elects not to exercise such option or otherwise fails to provide all or any part of such LC Disbursement, the Granting Lender shall be obligated to make such LC Disbursement pursuant to the terms hereof and (iii) the Account Party may bring any proceeding against either or both the Granting Lender or the SPV in order to enforce any rights of the Account Party hereunder; and (iv) the SPV shall agree to the terms of Clause 30.2 (CONFIDENTIALITY). The making of an LC Disbursement by an SPV hereunder shall utilise the Commitment of the Granting Lender to the same extent, and as if, such LC Disbursement were made by the Granting Lender. Each party hereto hereby agrees that no SPV shall be liable for any payment under this Agreement for which a Lender would otherwise be liable, for so long as, and to the extent, the related Granting Lender makes such payment. In furtherance of the foregoing, each party hereto hereby agrees (which agreement shall survive the termination of this Agreement) that, prior to the date that is one year and one day after the payment in full of all outstanding commercial paper or other senior indebtedness of any SPV, it will not institute against, or join any other person in instituting against, such SPV any bankruptcy, reorganisation, arrangement, insolvency or liquidation proceedings or similar proceedings under the laws of the United States or any State thereof arising out of any claim against such SPV under this Agreement. In addition, notwithstanding anything to the contrary contained in this Clause, any SPV may with notice to, but without the prior written consent of, the Account Party or the Agent and without paying any processing fee therefor, assign all or a portion of its interests in any Letter of Credit to its Granting Lender or to any financial institutions (consented to by the Account Party and the Agent) providing liquidity and/or credit support (if any) with respect to commercial paper issued by such SPV to issue such Letters of Credit and such SPV may disclose, on a confidential basis, confidential information with respect to any Account Party and its Subsidiaries to any rating agency, commercial paper dealer or provider of a surety, guarantee or credit liquidity enhancement to such SPV. This paragraph may not be amended without the consent of any SPV at the time holding LC Disbursements under this Agreement. (b) On each occasion a Transferor assigns, transfers or novates any of its rights and/or obligations under this Agreement, the Transferee (unless it is already a Lender or a Lender Affiliate immediately prior to the transfer) shall ensure that the Agent has notice of the same and shall, on the date the assignment, transfer and/or novation takes effect, pay to the Agent for its own account a fee of (pound)1,000. Page 59 (c) Neither a Transferor nor any other Finance Party is responsible to a Transferee for: (i) the execution, genuineness, validity, enforceability or sufficiency of any Finance Documents or any other document; (ii) the collectability of amounts payable under any Finance Documents or the financial condition of or the performance of its obligations under the Finance Documents by any Obligor; or (iii) the accuracy of any statements or information (whether written or oral) made in or in connection with or supplied in connection with any Finance Documents. (d) Each Transferee confirms to the Transferor and the other Finance Parties that it: (i) has made its own independent investigation and assessment of the financial condition and affairs of each Obligor and its related entities in connection with its participation in this Agreement and has not relied exclusively on any information provided to it by the Transferor or any other Finance Party in connection with any Finance Documents; and (ii) will continue to make its own independent appraisal of the creditworthiness of each Obligor and its related entities for so long as there are any Commitments or LC Exposures under this Agreement. (e) Nothing in any Finance Document obliges a Transferor to: (i) accept a re-transfer from an Transferee of any of the rights and/or obligations assigned, transferred or novated under this clause; or (ii) support any losses incurred by the Transferee by reason of the non-performance by any Obligor of its obligations under any Finance Document or otherwise. 26.4 TRANSFER PROCEDURE: (a) A novation is effected if: (i) the Transferor and the Transferee deliver to the Agent a duly completed Transfer Certificate executed by the Transferor and the Transferee,; and (ii) the Agent executes it. (b) Each Party (other than the Transferor and the Transferee) irrevocably authorises the Agent to execute any duly completed Transfer Certificate on its behalf. (c) To the extent that they are expressed to be the subject of the novation in the Transfer Certificate: (i) the Transferor and the other Parties (the EXISTING PARTIES) will be released from their obligations to each other under the Finance Documents (the DISCHARGED OBLIGATIONS); Page 60 (ii) the Transferee and the existing Parties will assume obligations towards each other under the Finance Documents which differ from the discharged obligations only insofar as they are owed to or assumed by the Transferee instead of the Transferor; (iii) the rights of the Transferor against the existing Parties under the Finance Documents and vice versa (the DISCHARGED RIGHTS) will be cancelled; and (iv) the Transferee and the existing Parties will acquire rights against each other under the Finance Documents which differ from the discharged rights only insofar as they are exercisable by or against the Transferee instead of the Transferor, all on the date specified in the proviso to Clause 26.3(a). RIGHT TO SUBSTITUTE SINGLE LENDER 26.5 If: (a) any sum payable to any Finance Party by the Account Party is required to be increased under Clause 10 (TAXES); or (b) any Lender claims indemnification from the Account Party under Clause 12.1 (INCREASED COSTS); or (c) a Lender's Available Commitment has been reduced to zero pursuant to Clause 13(b) (ILLEGALITY), the Account Party may give the Agent notice of its intention to arrange the substitution of that Lender with a new bank or financial institution. On receipt of a notice from the Account Party referred to above, the Lender shall use its best endeavours to promptly assign or transfer all of its rights and obligations under this Agreement to an Approved Credit Institution nominated by the Account Party. Such transfer will be effected in accordance with Clause 26.4 (TRANSFER PROCEDURE) and the consideration for such transfer shall be an amount equal to the sum of all amounts accrued and owing by the Account Party to the transferring Lender as calculated on the date of transfer. REFERENCE BANKS 26.6 If a Reference Bank ceases to be one of the Lenders, the Agent shall (in consultation with the Account Party) appoint another Lender or an affiliate of a Lender to replace that Reference Bank. PARTICIPATIONS 26.7 Any Lender may sell participations to one or more Lenders or other entities (a PARTICIPANT) in all or a portion of such Lender's rights and obligations under this Agreement and the other Credit Documents (including all or a portion of its Commitment); PROVIDED that: (i) any such participation sold to a Participant which is not a Lender or a Lender Affiliate shall be made only with the consent (which in each case shall not be unreasonably withheld) of the Account Party and the Agent, unless an Event Page 61 of Default under Clause 20.1(a), (e) or (f) has occurred and is continuing, in which case the consent of the Account Party shall not be required; (ii) such Lender's obligations under this Agreement and the other Finance Documents shall remain unchanged; (iii) such Lender shall remain solely responsible to the other parties hereto for the performance of such obligations; (iv) the Account Party, the Agent, the Security Trustee and the other Lenders shall continue to deal solely and directly with such Lender in connection with such Lender's rights and obligations under this Agreement and the other Finance Documents; and (v) the Participant shall agree to the terms of Clause 30.2 (CONFIDENTIALITY). Any agreement or instrument pursuant to which a Lender sells such a participation shall provide that such Lender shall retain the sole right to enforce this Agreement and the other Finance Documents and to approve any amendment, modification or waiver of any provision of this Agreement or the other Finance Documents; PROVIDED that such agreement or instrument may provide that such Lender will not, without the consent of the Participant, agree to any amendment, modification or waiver described in the first proviso to Clause 23.3 (AMENDMENTS) that affects such Participant. Subject to Clause 26.8 (NO INCREASED COSTS), the Obligors agree that each Participant shall be entitled to the benefits of Clauses 12 (INCREASED COSTS) and 10 (TAXES) to the same extent as if it were a Lender and had acquired its interest by assignment pursuant to Clause 26.3 (TRANSFERS BY LENDERS). NO INCREASED COSTS 26.8 No Participant or Transferee shall be entitled to receive any greater payment under Clause 12 (INCREASED COSTS) and 10 (TAXES) than the applicable Lender would have been entitled to receive with respect to the participation sold to such Participant or the Lender interest transferred. CERTAIN PLEDGES 26.9 Any Lender may at any time pledge or assign a security interest in all or any portion of its rights under this Agreement to secure obligations of such Lender, and this Clause shall not apply to any such pledge or assignment of a security interest; PROVIDED that no such pledge or assignment of a security interest shall release a Lender from any of its obligations hereunder or substitute any such assignee for such Lender as a party hereto. NO TRANSFERS TO ANY ACCOUNT PARTY OR AFFILIATES 26.10 Anything in this Clause to the contrary notwithstanding, no Lender may assign or participate any interest in any LC Exposure held by it hereunder to any Obligor or any of its Affiliates or Subsidiaries without the prior consent of each Lender. MAINTENANCE OF REGISTER BY THE AGENT 26.11 The Agent, acting for this purpose as an agent of the Account Party, shall maintain at one of its offices in London a copy of each Transfer Certificate delivered to it and a register of the names and addresses of the Lenders, and the Commitment of, and principal amount of the LC Disbursements owing to, each Lender pursuant to the terms hereof from time to time Page 62 (the REGISTER). The entries in the Register shall be conclusive, and the Account Party, the Agent, the Security Trustee and the Lenders may treat each Person whose name is recorded in the Register pursuant to the terms hereof as a Lender hereunder for all purposes of this Agreement, notwithstanding notice to the contrary. The Register shall be available for inspection by any Account Party and any Lender, at any reasonable time and from time to time upon reasonable prior notice. SET OFF RIGHT OF SET-OFF 27. If an Event of Default shall have occurred and be continuing, each Finance Party is hereby authorised at any time and from time to time, to the fullest extent permitted by law, to set off and apply any and all deposits in any currency (general or special, time or demand, provisional or final) at any time held and other indebtedness in any currency at any time owing by such Finance Party to or for the credit or the account of any Obligor against any of and all the obligations of such Obligor now or hereafter existing under this Agreement held by such Finance Party, irrespective of whether or not such Finance Party shall have made any demand under this Agreement and although such obligations may be unmatured. The rights of each Finance Party under this Clause are in addition to other rights and remedies (including other rights of set-off) which such Finance Party may have. The relevant Finance Party may effect any appropriate currency exchanges to implement such set-off. MISCELLANEOUS PROVISIONS CERTIFICATES 28.1 Any determination or notification by the Agent or any other Finance Party concerning any rate or amount under the Finance Documents shall, in the absence of manifest error, be conclusive evidence as to that matter. SURVIVAL 28.2 All covenants, agreements, representations and warranties made by the Account Party herein and in the certificates or other instruments delivered in connection with or pursuant to this Agreement shall be considered to have been relied upon by the other parties hereto and shall survive the execution and delivery of this Agreement and the issuance of any Letters of Credit, regardless of any investigation made by any such other party or on its behalf and notwithstanding that the Agent or any Lender may have had notice or knowledge of any Default or incorrect representation or warranty at the time any credit is extended hereunder, and shall continue in full force and effect as long as any fee or any other amount payable under this Agreement is outstanding and unpaid or any Letter of Credit is outstanding and so long as the Commitments have not expired or terminated. The provisions of Clauses 12 (INCREASED COSTS), 10 (TAXES), 24 (COSTS AND EXPENSES), 25 (INDEMNITIES) and 21 (AGENT) shall survive and remain in full force and effect regardless of the consummation of the transactions contemplated hereby, the expiration or termination of the Letters of Credit and the Commitments or the termination of this Agreement or any provision hereof. COUNTERPARTS 28.3 This Agreement may be executed in counterparts (and by different parties hereto on separate counterparts), each of which shall constitute an original, but all of which when taken together shall constitute one and the same instrument. Page 63 ENTIRE AGREEMENT 28.4 This Agreement and the other Finance Documents constitute the entire contract between the parties relating to the subject matter hereof and supersede any and all previous agreements and understandings, oral or written, relating to the subject matter hereof. SEVERABILITY 28.5 Any provision of this Agreement or any other Finance Document held to be invalid, illegal or unenforceable in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such invalidity, illegality or unenforceability without affecting the validity, legality and enforceability of the remaining provisions hereof. The invalidity of a particular provision in a particular jurisdiction shall not invalidate such provision in any other jurisdiction. To the extent permitted by applicable Law, each Obligor hereby waives any provision of Law which renders any provision of the Finance Documents prohibited or unenforceable in any respect. GOVERNING LAW AND JURISDICTION GOVERNING LAW 29.1 This Agreement shall be construed in accordance with and governed by English law. JURISDICTION 29.2(a) All the parties agree that the courts of England are, subject to Clause 29.2(b) and (c) below, to have jurisdiction to settle any disputes which may arise in connection with the creation, validity, effect, interpretation or performance of, or the legal relationships established by, this Agreement (including, without limitation, claims for set-off or counterclaim) or otherwise arising in connection with this Agreement and for such purposes irrevocably submit to the jurisdiction of the English courts; (b) notwithstanding the agreement in (a) above, each of the Finance Parties shall retain the right to bring proceedings in any other court which has jurisdiction whether by virtue of the Convention on Jurisdiction and the Enforcement of Judgments signed on 27 September 1968 (as from time to time amended and extended) or by virtue of the Convention on Jurisdiction and the Enforcement of Judgments signed on 16 September 1988 (from time to time amended and extended) or otherwise; (c) with respect to the courts agreed in paragraphs (a) and (b) above, each of the Parties irrevocably waives any objections on the ground of venue or forum non conveniens or any similar ground; (d) each of the Parties irrevocably agrees that a judgment or order of any court referred to in this clause in connection with this Agreement is conclusive and binding on it and may be enforced against it in the courts of any other jurisdiction; and (e) each of the Parties irrevocably consents to service of process by mail or in any other manner permitted by the relevant Law. AGENT FOR SERVICE OF PROCESS 29.3 Each Obligor shall at all times maintain an agent for service of process and any other documents in proceedings in England or any other proceedings in connection with this Agreement. Such agent shall be XL Brockbank Limited of Fitzwilliam House, 10 St. Mary Page 64 Axe, London EC3A 8NL and any writ, judgment or other notice of legal process shall be sufficiently served on the relevant Obligor if delivered to such agent marked for the attention of the Finance Director at its address for the time being. Each Obligor undertakes not to revoke the authority of the above agent without promptly appointing a successor and notifying the Agent thereof. WAIVER OF IMMUNITIES 29.4 To the extent that any Obligor has or hereafter may acquire any immunity from jurisdiction of any court or from any legal process (whether through service of notice, attachment prior to judgment, attachment in aid of execution or execution, on the ground of sovereignty or otherwise) with respect to itself or its property, it hereby irrevocably waives, to the fullest extent permitted by applicable law, such immunity in respect of its obligations under the Finance Documents. TREATMENT OF CERTAIN INFORMATION; CONFIDENTIALITY TREATMENT OF CERTAIN INFORMATION 30.1 Each of the Obligors acknowledges that from time to time financial advisory, investment banking and other services may be offered or provided to any Obligor or one or more of their Subsidiaries (in connection with this Agreement or otherwise) by any Lender or by one or more subsidiaries or affiliates of such Lender and each of the Obligors hereby authorises each Lender to share any information delivered to such Lender by such Obligor and its Subsidiaries pursuant to this Agreement, or in connection with the decision of such Lender to enter into this Agreement, to any such subsidiary or affiliate, it being understood that (a) any such information shall be used only for the purpose of advising the Obligor or preparing presentation materials for the benefit of the Obligor and (b) any such subsidiary or affiliate receiving such information shall be bound by Clause 30.2 (CONFIDENTIALITY) as if it were a Lender hereunder. Such authorisation shall survive the expiration or termination of the Letters of Credit and the Commitments or the termination of this Agreement or any provision hereof. CONFIDENTIALITY 30.2 Each of the Finance Parties agrees to maintain the confidentiality of the Information (as defined below), except that Information may be disclosed: (a) to its and its Affiliates' directors, officers, employees and agents, including accountants, legal counsel and other advisors (it being understood that the Persons to whom such disclosure is made will be informed of the confidential nature of such Information and instructed to keep such Information confidential); (b) to the extent requested by any regulatory authority having jurisdiction over the Agent or any Lender; (c) to the extent required by applicable laws or regulations or by any subpoena or similar legal process; (d) to any other party to this Agreement; (e) in connection with the exercise of any remedies hereunder or any suit, action or proceeding relating to this Agreement or the enforcement of rights hereunder; Page 65 (f) subject to an agreement in writing containing provisions substantially the same as those of this paragraph and for the benefit of the Obligor, to (i) any assignee of or Participant in, or any prospective assignee of or Participant in, any of its rights or obligations under this Agreement or (ii) any actual or prospective counterparty (or its advisors) to any swap or derivative transaction relating to any Obligor and its obligations; (g) with the consent of the Obligor; or (h) to the extent such Information (i) becomes publicly available other than as a result of a breach of this Clause 30.2 or (ii) becomes available to the Agent or any Lender on a non-confidential basis from a source other than an Obligor. For the purposes of this Clause, INFORMATION means all information received from an Obligor relating to an Obligor or its business, other than any such information that is available to the Finance Parties on a non-confidential basis prior to disclosure by such Obligor; PROVIDED that, in the case of information received from an Obligor after the date hereof, such information is clearly identified at the time of delivery as confidential. Any Person required to maintain the confidentiality of Information as provided in this Clause shall be considered to have complied with its obligation to do so if such Person has exercised the same degree of care to maintain the confidentiality of such Information as such Person would accord to its own confidential information. Notwithstanding the foregoing, each of the Finance Parties agree that they will not trade the securities of any of the Obligors based upon non-public Information that is received by them. THIRD PARTY RIGHTS 31. A person who is not a party to this Agreement shall have no rights under the Contracts (Rights of Third Parties) Act 1999 to enforce any of its terms. IN WITNESS whereof the parties hereto have caused this Agreement to be duly executed on the date first written above. Page 66 SCHEDULE 1 COMMITMENTS
NAME OF LENDER COMMITMENT ((POUND)) Citibank, N.A. 68,250,000 ING Bank N.V., London Branch 68,250,000 Barclays Bank PLC 58,500,000 National Westminster Bank plc 20,000,000 Credit Lyonnais New York Branch 10,000,000 ------------ TOTAL: (POUND)225,000,000
Page 67 SCHEDULE 2 INDEBTEDNESS AND LIENS PART A - INDEBTEDNESS 1. Credit Agreement (5-Year) between Mid Ocean Limited and The Chase Manhattan Bank, incorporated by reference to Exhibit 10.14.1 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 2. Amendment No. 1 to Credit Agreement (5-Year) between Mid Ocean Limited and The Chase Manhattan Bank, incorporated by reference to Exhibit 10.14.2 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 3. Amendment No. 2 to Credit Agreement (5-Year) between Mid Ocean Limited and The Chase Manhattan Bank. 4. Amendment No. 3 to Credit Agreement (5-Year) between Mid Ocean Limited and The Chase Manhattan Bank. 5. Revolving Credit Agreement Between XL Insurance Company, Ltd and Mellon Bank, N.A., incorporated by reference to Exhibit (b)(2) of the GCR Schedule 14D-1, incorporated by reference to Exhibit 10.14.14 to the Company's Annual Report on Form 10-K (No. 1-10804) for the year ended November 30, 1998. 6. First Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd and Mellon Bank, N.A., incorporated by reference to Exhibit 10.14.15 to the Company's Annual Report on Form 10-K for the year ended November 30, 1998. 7. Second Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd and Mellon Bank, N.A., incorporated by reference to Exhibit 10.14.16 to the Company's Annual Report on Form 10-K for the year ended November 30, 1998. 8. Third Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd and Mellon Bank, N.A. 9. Fourth Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd and Mellon Bank, N.A. 10. Fifth Amendment to Revolving Credit Agreement between XL Insurance Company, Ltd and Mellon Bank, N.A. 11. Letter of Credit Facility and Reimbursement Agreement dated as of December 30, 1999 by and among XL Insurance Ltd et al. and Mellon Bank, N.A. 12. First Amendment to Letter of Credit Facility and Reimbursement Agreement dated as of December 30, 1999 by and among XL Insurance Ltd et al. and Mellon Bank, N.A. 13. Letter of Credit Agreement dated as of December 17, 1999 by and among XL Insurance Ltd, XL Mid Ocean Reinsurance Ltd and The Chase Manhattan Bank. 14. First Amendment to Letter of Credit Agreement dated as of December 17, 1999 by and among XL Insurance Ltd, XL Mid Ocean Reinsurance Ltd and The Chase Manhattan Bank. Page 68 15. Letter of Credit Facility Agreement dated as of December 17, 1999 by and among XL Capital Ltd et al. and ING Bank, N.V. (London Branch). 16. Amendment No. 1 to Letter of Credit Facility Agreement dated as of December 17, 1999 by and among XL Capital Ltd et al. and ING Bank, N.V. (London Branch). 17. Letter of Credit Agreement (Secured) between Citibank and XL Mid Ocean Reinsurance Ltd, dated as of 19th May, 1993 (as amended). 18. Semi-secured Letter of Credit Facility between Barclays Bank plc and NAC Reinsurance International Limited, dated November 16, 1999. 19. 7.15% Senior Notes due 2005 issued by NAC Reinsurance. 20. Arrangements for Letters of Credit issued for NAC Reinsurance Corp. for U.S. facility by Fleet Boston 21. Arrangements for Letters of Credit issued for Latin America Reinsurance by Fleet Boston. 22. Letter of Credit and Reimbursement Agreement dated as of July 5, 2000 between XL Capital Ltd, The Chase Manhattan Bank and others in the amount of $1,000,000,000. 23. 364-day $500,000,000 Credit Agreement dated as of July 5, 2000 between XL Capital Ltd et al. and The Chase Manhattan Bank. 24. Letter of Credit Facility and Reimbursement Agreement dated as of June 30 1999 by and among XL Capital Ltd et al. and Mellon Bank, N.A. 25. First Amendment to the Letter of Credit Facility and Reimbursement Agreement dated as of June 20 2000 by and among XL Capital Ltd et al. and Mellon Bank N.A.. PART B - LIENS 1. Liens existing pursuant to the agreements referred to in paragraphs 24 and 25 of Schedule 2. 2. Liens existing pursuant to the agreement referred to in paragraph 21 of Schedule 2. 3. Collateral held as blocked deposits at Barclays for Letters of Credit between Lloyd (Denham) and NAC Reinsurance International Ltd. PART C - LITIGATION None PART D - ENVIRONMENTAL MATTERS None Page 69 SCHEDULE 3 SUBSIDIARIES XL CAPITAL LTD - CAYMAN EXEL HOLDINGS LIMITED - CAYMAN(1) XL INSURANCE LTD - BERMUDA XL FINANCIAL ASSURANCE LTD. (85%) - BERMUDA XL CAPITAL PRODUCTS LTD - BERMUDA XL INVESTMENTS LTD - BERMUDA X.L. Investment Private Trustee Ltd. - BERMUDA XL Investments (Barbados) Inc. - BARBADOS First Cumberland Bank, Inc. - BARBADOS Garrison Investments Inc. - BARBADOS Kensington Investments Inc. - BARBADOS XLB Partners Inc. - BARBADOS IBC Cumberland Holdings, Inc. - DE Cumberland California, Inc. - DE Cumberland New York, Inc. - DE InQuisLogic Ltd. - BARBADOS InQuisLogic Inc. - DE RiskConnect Ltd. - BARBADOS RiskConnect Inc. - DE FINANCIAL SECURITY ASSURANCE INTERNATIONAL LTD. (80%) - BERMUDA XL GLOBAL SERVICES (BERMUDA) LTD - BERMUDA XL HOLDINGS BARBADOS LTD - BARBADOS X.L. America Inc. - DE Brockbank Insurance Services Inc. - CA Global Credit Analytics, Inc. - DE XL Global Services, Inc. - DE NAC RE CORPORATION - DE NAC Re International Holdings Ltd - UK NAC Reinsurance International Limited - UK Denham Syndicate Management Ltd - UK Stonebridge Underwriting Ltd - UK NAC Re International Services Co., Ltd - UK NAC REINSURANCE CORPORATION (A - 76%) - NY NAC Re Investment Holdings, Inc. - DE Page 70 XL Capital Assurance, Inc. - NY Intercargo Corporation - DE Intercargo International Limited - BVI ECS INC. - PA (70%) ECS ALTERNATIVE MARKET SERVICES, INC. - PA ECS HOLDINGS, INC. - DE ECS International, Inc. - DE ECS Asesores en Seguros Medioambientales, S.A.R.L. - SPAIN The ECS Group, Ltd - UK ECS Underwriting Ltd - UK Environmental Compliance Svcs Ltd - UK Consulting Services International Ltd - UK ECS Asesores en Aseguramiento de Riesgos Ambientales S.A. de C.V. - MEXICO Risk & Insurance Services, Inc. - BARBADOS ECS UNDERWRITING, INC. - PA ECS CLAIMS ADMINISTRATORS, INC. - PA ECS RISK CONTROL, INC. - PA ECS CHILD CARE CENTER, INC. - PA X.L. ONE LTD - BERMUDA XL Europe (50%) - REPUBLIC OF IRELAND X.L. TWO LTD - BERMUDA XL Europe (50%) - REPUBLIC OF IRELAND XL Australia Pty Ltd - AUSTRALIA XL Prevent Ltd - UK IPT COMPLIANCE LIMITED - UK EXEL CUMBERLAND LIMITED - UK INQUISCAPITAL HOLDINGS (BERMUDA) LIMITED - BERMUDA InQuisLogic (Bermuda) Limited - BERMUDA RiskConnect Limited - BERMUDA EXEL ACQUISITION LTD - CAYMAN GCR HOLDINGS LIMITED - CAYMAN (IN LIQUIDATION) X.L. PROPERTY HOLDINGS LTD - BERMUDA Page 71 MID OCEAN LIMITED - CAYMAN MID OCEAN HOLDINGS LIMITED - BERMUDA XL Mid Ocean Reinsurance Ltd - BERMUDA ECS Reinsurance Ltd - BERMUDA Global Capital Underwriting Ltd - UK LARC Holdings Ltd. - BERMUDA Latin America Reinsurance Company Ltd - BERMUDA Ridgewood Holdings Company - BERMUDA The Brockbank Group Plc - UK XL Brockbank Ltd - UK XL Brockbank Ltd Baltusrol Holdings Ltd - BERMUDA County Down Limited - CORPORATE MEMBER SYNDICATE 2253 Dornoch Limited - CORPORATE MEMBER SYNDICATE 1209 Brockbank Underwriting Limited - UK Brockbank Personal Lines Limited - SYNDICATES 253/2253 Cassidy Brockbank Limited (DORMANT) Brockbank Syndicate Management Limited - SYNDICATES 588/861/1209 Brockbank Syndicate Services Limited (1) 100% ownership unless otherwise indicated Page 72 SCHEDULE 4 MANDATORY COSTS RATE The mandatory costs rate is an addition to the interest rate on an Demand Amount to compensate the Lenders for the cost attributable to an Demand Amount resulting from the imposition from time to time under or pursuant to the Bank of England Act 1998 (the ACT) and/or by the Bank of England and/or the Financial Services Authority (the FSA) (or other United Kingdom governmental authorities or agencies) of a requirement to place non-interest-bearing deposits or Special Deposits (whether interest-bearing or not) with the Bank of England and/or pay fees to the FSA calculated by reference to liabilities used to fund the Demand Amount. The mandatory costs rate will be the rate determined by the Agent (rounded upward, if necessary, to four decimal places) as the rate resulting from the application (as appropriate) of the following formula: XL+S(L-D)+Fx 0.01 ----------------- 100-(X+S) where, in each case, on the day of application of a formula: X is the percentage of Eligible Liabilities (in excess of any stated minimum) by reference to which the Agent is required under or pursuant to the Act to maintain cash ratio deposits with the Bank of England; L is the percentage rate per annum at which sterling deposits for the relevant period are offered by the Agent to leading banks in the London Interbank Market at or about 11.00 a.m. on that day; F is the rate of charge payable by the Agent to the FSA pursuant to paragraph 2.02 of the Fees Regulations (but for this purpose the figure at paragraph 2.02b shall be deemed to be zero) and expressed in pounds per (pound)1 million of the Fee Base of the Agent; S is the level of interest-bearing Special Deposits, expressed as a percentage of Eligible Liabilities, which the Agent is required to maintain by the Bank of England (or other United Kingdom governmental authorities or agencies); and D is the percentage rate per annum payable by the Bank of England to the Agent on Special Deposits. (X, L, S and D are to be expressed in the formula as numbers and not as percentages. A negative result obtained from subtracting D from L shall be counted as zero.) The mandatory costs rate attributable to a Demand Amount or other sum for any period shall be calculated at or about 11.00 a.m. (London time) on the first day of such period for the duration of such period. The determination of the mandatory costs rate in relation to any period shall, in the absence of manifest error, be conclusive and binding on all parties hereto. Page 73 If there is any change in circumstance (including the imposition of alternative or additional requirements) which in the reasonable opinion of the Agent renders or will render either of the above formulae (or any element thereof, or any defined term used therein) inappropriate or inapplicable, the Agent (following consultation with the Account Party and the Majority Banks) shall be entitled to vary the same. Any such variation shall, in the absence of manifest error, be conclusive and binding on all parties and shall apply from the date specified in such notice. For the purposes of this Schedule: The terms ELIGIBLE LIABILITIES and SPECIAL DEPOSITS shall bear the meanings ascribed to them under or pursuant to the Act or by the Bank of England (as may be appropriate), on the day of the application of the formula. FEE BASE has the meaning ascribed to it for the purposes of, and shall be calculated in accordance with, the Fees Regulations. FEES REGULATIONS means, as appropriate, either: (a) the Banking Supervision (Fees) Regulations 1998; or (b) such regulations as from time to time may be in force, relating to the payment of fees for banking supervision in respect of periods subsequent to 31 March 1999. Page 74 SCHEDULE 5 CONDITIONS PRECEDENT 1. In relation to each Obligor: (a) a copy, certified as at the date of this Agreement a true and up-to-date copy by an Authorised Signatory of such Obligor, of the constitutional documents of such Obligor; (b) a copy, certified as at the date of this Agreement a true and up-to-date copy by an Authorised Signatory of such Obligor, of a board resolution of such Obligor approving the execution, delivery and performance of this Agreement and the Finance Documents and the terms and conditions hereof and thereof and authorising a named person or persons to sign this Agreement and any documents to be delivered by such Obligor pursuant hereto or thereto; (c) a certificate of an Authorised Signatory of such Obligor setting out the names and signatures of the persons authorised to sign, on behalf of such Obligor, this Agreement and the Finance Documents and any documents to be delivered by such Obligor pursuant hereto or thereto. 2. The following opinions, each in form satisfactory to the Agent: (a) Opinion of Freshfields Bruckhaus Deringer, solicitors to the Agent; (b) An opinion of Martha G. Bannerman, Esq., General Counsel to XL America; (c) An opinion of Conyers, Dill & Pearman, special Bermuda counsel to XL Insurance and XL Mid Ocean; (d) An opinion of Hunter & Hunter, special Cayman Islands counsel to XL Capital; and (e) An opinion of A&L Goodbody, special Irish counsel to XL Europe. 3. Evidence satisfactory to the Agent that XL Brockbank Limited has agreed to act as the agent of each Obligor for the service of process in England. 4. The Agent being satisfied that all fees payable pursuant to the Fee Letters have been paid. Page 75 SCHEDULE 6 UTILISATION REQUEST From: XL Capital Ltd. To: Citibank International plc Dated: Dear Sirs, We refer to the (pound)225,000,000 letter of credit agreement (the CREDIT Agreement) dated 3 November 2000 and made between inter alia, XL Capital Ltd as account party, Citibank International plc as agent and the financial institutions named therein as Lenders. Terms defined in the Credit Agreement shall have the same meaning in this notice. This notice is irrevocable. We hereby give you notice that, pursuant to the Credit Agreement we wish the Lenders to issue the following Letters of Credit:
======================================================================= Amount Effective Date Expiry Date Beneficiary Applicant - ----------------------------------------------------------------------- (pound) Society of Lloyd's - ----------------------------------------------------------------------- (pound) Society of Lloyd's - ----------------------------------------------------------------------- (pound) Society of Lloyd's - ----------------------------------------------------------------------- (pound) Society of Lloyd's - ----------------------------------------------------------------------- (pound) Society of Lloyd's - ----------------------------------------------------------------------- (pound) Society of Lloyd's =======================================================================
3. Utilisation Date: [ ]. 4. We confirm that, at the date hereof, the Representations are true in all material respects and no Default is continuing. The Letters of Credit should be issued in the form attached and delivered to the recipient at [ADDRESS OF RECIPIENT]. The purpose of their issue is to support Funds at Lloyd's in respect of the Applicants. Yours faithfully ............................. Authorised Signatory for and on behalf of XL CAPITAL LTD Page 76 SCHEDULE 7 FORM OF LETTER OF CREDIT LETTER OF CREDIT TO BE ISSUED BY THE AGENT ON BEHALF OF THE BANKS To: The Society and Council of Lloyd's Gun Wharf Dock Road Chatham Kent ME4 4TU Dear Sirs IRREVOCABLE STANDBY LETTER OF CREDIT NO. [ ] RE: [NAME OF CORPORATE MEMBER OF LLOYD'S] (THE APPLICANT) This Clean Irrevocable Standby Letter of Credit (the CREDIT) is issued by the banks whose names are set out in Appendix 1 hereto (the ISSUING BANKS, and each an ISSUING BANK) in favour of the Society of Lloyd's (LLOYD'S) on the following terms: 1. Subject to the terms hereof, the Issuing Banks shall make payments within two business days of demand on Citibank International plc (the AGENT) in accordance with paragraph 4 below. 2. Upon a demand being made by Lloyd's pursuant to paragraph 4 below each Issuing Bank shall pay that proportion of the amount demanded which is equal to the proportion which its Commitment set out in Appendix 1 hereto bears to the aggregate Commitments of all the Issuing Banks set out in Appendix 1 hereto, PROVIDED THAT the obligations of the Issuing Banks under this Credit shall be several and no Issuing Bank shall be required to pay an amount exceeding its Commitment set out in Appendix 1 hereto and the Issuing Banks shall not be obliged to make payments hereunder in aggregate exceeding a maximum amount of [AMOUNT IN APPROVED CURRENCY]. Any payment by an Issuing Bank hereunder shall be made in [APPROVED CURRENCY] to Lloyd's account specified in the demand made by Lloyd's pursuant to paragraph 4 below. 3. The initial expiry date of this Credit shall be 31 December 2004. This Credit will be extended automatically for a further year, without written amendment, on the first day of January of every future year after 1 January 2001, so that it is always valid for a minimum period of four years unless at least THIRTY days prior to 31 December of the first year of the then current validity period, notice is given in writing, sent by registered mail for the attention of the Manager, Members' Funds Department, at the above address, that this Credit will not be extended beyond the then current expiry date. 4. Subject to paragraph 3 above, the Issuing Banks shall pay to Lloyd's under this Credit upon presentation of a demand by Lloyd's on Citibank International plc at Riversdale House, 68 Molesworth Street, London SE13 7EU marked for the attention of Cliff Posner, Loans Agency in the form set out in Appendix 2 hereto the amount specified therein (which amount shall not, when aggregated with all other amounts paid by the Issuing Banks to Lloyd's under this Credit, exceed the maximum amount referred to in paragraph 2 above). Page 77 5. The Agent has signed this Credit as agent for disclosed principals and accordingly shall be under no obligation to Lloyd's hereunder other than in its capacity as an Issuing Bank. 6. All charges are for the Applicant's account. 7. Subject to any contrary indication herein, this Credit is subject to the Uniform Customs and Practice for Documentary Credits (1993 Revision) International Chamber of Commerce Publication No. 500. 8. This Credit shall be governed by and interpreted in accordance with English law and the Issuing Banks hereby irrevocably submit to the jurisdiction of the High Court of Justice in England. 9. Each of the Issuing Banks engages with Lloyd's that demands made under and in compliance with the terms and conditions of this Credit shall be duly honoured on presentation. Yours faithfully CITIBANK INTERNATIONAL PLC for and on behalf of [NAMES OF ALL ISSUING BANKS] Page 78 APPENDIX 1 ISSUING BANKS' COMMITMENTS Name and Address of Issuing Bank Commitment Page 79 APPENDIX 2 FORM OF DEMAND (STERLING) [on Lloyd's letterhead] Dear Sir/Madam THE SOCIETY OF LLOYD'S TRUSTEE OF LETTER OF CREDIT NO. With reference to the above, we enclose for your attention a Bill of Exchange, together with the respective Credit. Payment should be made by way of CHAPS. The account details are as follows: [_____ _____] [_____ _____] Please quote Member Code: Yours faithfully for Manager Members' Funds Department Members' Services Unit Page 80 Your ref: Our ref: MEM/ / / /C911f Extn: BILL OF EXCHANGE THE SOCIETY OF LLOYD'S Trustee of Letter of Credit No. Please pay in accordance with the terms of the Credit to our order the amount of (pound)_____ _____ . For and on behalf of Authorised Signatory Membership Department TO: CITIBANK INTERNATIONAL PLC as Agent Page 81 APPENDIX 3 FORM OF LETTER AS TO PRINCIPAL PRIVATE RESIDENCES OF THE APPLICANTS [LETTERHEAD OF AGENT] To: The Society and Council of Lloyd's Gun Wharf Dock Road Chatham Kent ME4 4TU We, Citibank International plc (the AGENT) acting as agent on behalf of each of [_____ _____] (the LENDERS), hereby confirm the following: 1. We have provided a multi bank letter of credit as agent on behalf of the Lenders which will be included in the [Lloyd's deposit/Lloyd's life deposit](4) of [_____ _____](5) the CORPORATE MEMBER). 2. The execution and delivery by the Agent of the letter of credit has been duly authorised by all necessary action on the part of the Lenders and the letter of credit has been duly executed and delivered by the Agent on behalf of the Lenders. 3. The obligations of the Lenders under the letter of credit constitute legal, valid and binding obligations. Signature of [_____ _____] [Authorised signatory]6 for and on behalf of CITIBANK INTERNATIONAL PLC AS AGENT Date:_____ _____ - ---------- (4) Delete as appropriate. (5) Insert the name of the corporate member in respect of whose Lloyd's deposit of Lloyd's list deposit the letter of credit has been issued. (6) Specify as appropriate - this letter should not be signed by any person who signed the letter of credit to which this letter relates. Page 82 SCHEDULE 8 FORM OF TRANSFER CERTIFICATE To: Citibank International plc as agent for and on behalf of itself and the other Finance Parties (as defined in the Facility Agreement referred to below) TRANSFER CERTIFICATE relating to a facility agreement (the FACILITY AGREEMENT) dated 3 November 2000 and made between, inter alia, XL Capital Ltd and the Guarantors and the Lenders named therein. Terms defined in the Facility Agreement have the same meanings herein. 1. [Transferor Bank] (the TRANSFEROR): (a) confirms that to the extent that details appear in the Schedule hereto against, as the case may be, the heading TRANSFEROR'S COMMITMENT and/or TRANSFEROR'S L/C PARTICIPATION, such details accurately summarise, as the case may be, its participation in the FACILITY (as defined in the Facility Agreement); and (b) requests [Transferee Bank] (the TRANSFEREE) to accept and procure the transfer to the Transferee of the portion specified in the Schedule of, as the case may be, its participation in the Facility by counter-signing and delivering this Transfer Certificate to the Agent at its address for the service of notices specified in the Facility Agreement. 2. The Transferee hereby requests the Agent to accept this Transfer Certificate as being delivered to the Agent pursuant to and for the purposes of clause 26.4 of the Facility Agreement so as to take effect in accordance with the terms thereof. 3. The Facility Office and address for notices of the Transferee for the purposes of the Finance Documents are set out in the Schedule. 4. The Transferor and the Transferee acknowledge and agree that clauses 26.3(c) to 26.3(e) apply to this Transfer Certificate as if set out in full herein, mutatis mutandis. 5. The Transferee hereby undertakes with the Transferor and each of the other parties to the Facility Agreement that it will perform in accordance with their terms all those obligations which by the terms of the Facility Agreement will be assumed by it after delivery of this Transfer Certificate to the Agent and satisfaction of the conditions (if any) subject to which this Transfer Certificate is expressed to take effect. 6. This Transfer Certificate and the rights and obligations of the parties hereunder shall be governed by and construed in accordance with English law. Page 83 THE SCHEDULE TRANSFER DATE: TRANSFEROR'S COMMITMENT Portion transferred LETTERS OF CREDIT Letters of Credit under which Lender is Issuing Lender UTILISATION DATE, LC EXPOSURE AND Portion transferred EXPIRY DATE UNDER EACH LETTER OF CREDIT [TRANSFEROR] [Transferee] By: By: Date: Date: [TRANSFEREE] FACILITY OFFICE ADDRESS(ES) FOR NOTICES [ [ ] ] Telex no: [----- -----] Contact for credit and documentation: Contact for administration: Citibank International plc as agent for and on behalf of itself and the other Finance Parties By: Date: Page 84 SCHEDULE 9 FORM OF CHARGE AGREEMENT A DEED OF CHARGE made on [_____ _____] XL CAPITAL LTD, a limited liability company incorporated under the laws of the Cayman Islands with its registered office at [ ] (the CHARGOR); and CITIBANK INTERNATIONAL PLC, of PO Box 242, 336 The Strand, London WC2R 1HB as assignee and security trustee for the Secured Parties (the SECURITY TRUSTEE). IT IS AGREED as follows: INTERPRETATION DEFINITIONS 1.1 In this Deed: (a) words and expressions defined in the Facility Agreement shall bear the same respective meanings; and (b) the following words and expressions have the meanings respectively shown opposite below, in each case unless the context otherwise requires: BANK means [_____ _____ _____], being a bank in London at which the Deposit is held; CHARGED ACCOUNT means a separate Sterling account in the name of the Chargor with the Bank, entitled [" "] (account number [_____]) payments to which may be made by making the following payment instructions: [_____ _____ _____] and into which the Deposit is credited, or such other account as the Security Trustee may from time to time notify in writing to the Chargor; DEPOSIT means all sums from time to time standing to the credit of the Charged Account in any currency together with all interest credited thereto; FACILITY AGREEMENT means the letter of credit and reimbursement agreement dated on or about 3 November 2000 between, inter alios, the Lenders, the Security Trustee and the Chargor; SECURED OBLIGATIONS means all moneys, liabilities and obligations which are now or at any time hereafter may be due, owing or payable by the Chargor to the Secured Parties in any currency, actually or contingently, solely or jointly and/or severally with another or others, as principal or surety, on any account whatsoever pursuant to the Facility Agreement, this Deed or any other Finance Document, or as a consequence of any Event of Default or repudiation by the Chargor (or by any liquidator, receiver, administrative receiver, administrator or any similar officer of the Chargor) of any of its obligations under the Facility Agreement, this Deed or any other Finance Document; SECURED PARTIES means all and each of the Security Trustee, the Facility Agent, the Lenders and each of their respective successors and permitted transferees and assignees and SECURED PARTY means any of them; Page 85 CONSTRUCTION 1.2 In this Deed, except where the context otherwise requires: (a) references to the Security Trustee and to the Chargor include reference to the persons deriving title under or through them respectively and to their respective successors in title and assigns; (b) references to any deed, instrument, account (including the Charged Account), certificate, agreement or contract (including this Deed) or a provision thereof shall be construed as a reference to that deed, instrument, account, certificate, agreement or contract or a provision as from time to time varied, novated, amended, supplemented or replaced; and (c) references to any statute or other legislative provision shall include any statutory or legislative modification or re-enactment thereof, or any substitution therefor. HEADINGS 1.3 The headings in this Deed are inserted for convenience only and shall not affect its interpretation. DEED 1.4 It is intended that this Deed take effect as a deed notwithstanding the Security Trustee may have executed it under hand only. OPERATION OF CHARGED ACCOUNT 2.1 The Chargor shall give notice to the Bank in the form of Appendix 1 upon the date of execution of this Deed. 2.2 The Chargor shall not request any repayment of the Deposit without the consent of the Security Trustee. 2.3 The Security Trustee may at any time instruct the Bank to pay all or part of the Deposit to the Agent on account of amounts then due and payable (whether by way of acceleration, demand or otherwise) under the Facility Agreement. 2.4 Unless an Event of Default is continuing, at the request of the Chargor the Security Trustee will instruct the Bank to pay to the Chargor any amount standing to the credit of the Account which exceeds the amount required to be so credited under the Facility Agreement at that time. CHARGE 3.1 The Chargor with full title guarantee hereby charges by way of first fixed charge in favour of the Secured Parties all its right, title and interest in and to the Deposit (and all and any rights and benefits accruing to or arising in connection therewith) as a continuing security for the payment and discharge of the Secured Obligations. 3.2 If at any time the Secured Obligations shall have been paid and discharged in full and the Chargor shall be under no commitment, obligation or liability of any kind (present or Page 86 future, actual or contingent) in relation to the Finance Documents, the Security Trustee will at the request and cost of the Chargor discharge the security hereby created. ENFORCEMENT 4. The security created under clause 3 shall become enforceable immediately following an Event of Default in relation to all and any part of the Secured Obligations and, at any time thereafter, the Security Trustee may call for payment to it of the Deposit and thereafter apply all and any part of the Deposit together with any interest thereon in respect of any period after the security has become enforceable towards the discharge of the Secured Obligations in such manner as it deems fit. PRIMARY SECURITY 5. The Deposit shall be deemed to constitute primary and not collateral security and the security shall not be discharged or impaired by: (a) the dealing with, existence or validity of any other security taken by the Security Trustee in relation to the Finance Documents or the Secured Obligations or any enforcement of or failure to take, perfect or enforce any such security; (b) any amendment to or variation of the Finance Documents or any security relating to the Finance Documents or the Secured Obligations; (c) any release of, or granting of time or any other indulgence to the Chargor or any third party; or (d) any other act, event or omission which would or might but for this clause operate to impair or discharge the security constituted by, or the Chargor's liability under, this Deed including any act, omission or thing which would or might afford an equitable defence to a security. OTHER SECURITY 6. The security hereby created is a continuing security notwithstanding any intermediate payment or settlement of account for the payment and discharge of the Secured Obligations and is in addition to and shall neither be merged in, nor in any way exclude or prejudice any other Security Interest, right of recourse, set off, combination or other right or interest whatsoever which the Secured Parties may now have or at any time hereafter hold or have (or would apart from this Deed hold or have) as regards the Chargor or any other person in respect of the Secured Obligations and the Secured Parties may at any time take, give up, deal with, vary, exchange, or abstain from perfecting or enforcing any other Security Interest without affecting or prejudicing the security hereby created. WARRANTY AND COVENANT ENTITLEMENT 7.1 From the date of this Deed and until the Secured Obligations have been satisfied and discharged in full, and the Chargor shall have no further actual or contingent liability to the Secured Parties under the Finance Documents, the Chargor warrants that: Page 87 (a) it is the sole absolute legal and beneficial owner of the amounts from time to time credited to the Charged Account free from all Security Interests, trusts, assignments and claims; and (b) it is the sole absolute legal and beneficial owner of the right to repayment of moneys credited to the Charged Account. NEGATIVE PLEDGE 7.2(a) The Chargor undertakes that it shall not (without the Security Trustee's prior written consent) create, agree to create or permit to subsist any Security Interest (however ranking in point of priority) of any nature whatsoever (including such as arises by operation of law or any enactment) in, over or affecting the Deposit or over its right to call for a discharge of the security hereby constituted nor deal with such right in any manner. NON-DISPOSAL (b) The Chargor undertakes that it shall not (without the Security Trustee's prior written consent) transfer, assign, convey, declare a trust over or otherwise dispose of the Deposit or any part thereof or its right to repayment of the Deposit or any part thereof or its right to call for a discharge of the security hereby constituted nor deal with such right in any manner. WAIVER AND APPROPRIATION 8.1 The Security Trustee may at any time after the security created hereunder has become enforceable without further notice and without any right of redemption appropriate the Deposit or any part thereof in such manner as the Security Trustee may in its absolute discretion think fit in or towards the reduction of the Secured Obligations. 8.2 If any appropriation of the Deposit (or any part thereof) takes place hereunder the Chargor hereby expressly waives all or any formalities prescribed by law in relation to any such appropriation. INTEREST 9. Interest on the Deposit shall accrue at such rates as may be agreed from time to time between the Bank and the Chargor. Interest which has accrued on the Deposit shall be credited to the Charged Account at such times as shall be agreed by the parties. FURTHER PROVISIONS EXPENSES AND INDEMNITY: 10.1(a) The Chargor shall on demand pay to or reimburse the Security Trustee (on the basis of a full indemnity on an after tax basis) the amount of all commissions, reasonable costs (including legal costs), charges and expenses incurred by the Security Trustee in connection with the preservation, enforcement or the attempted preservation or enforcement of any of the Secured Parties' rights under this Deed whether incurred as a result of any act or omission by, or proceedings involving, the Chargor. (b) The Chargor shall on demand fully indemnify the Security Trustee (on an after-tax basis) against all losses, actions, claims, reasonable costs (including legal costs), Page 88 expenses, proceedings, liabilities and expenditure which the Security Trustee may suffer, pay or incur in connection with any payment or discharge in respect of the Secured Obligations (and which are made by the Chargor) being impeached or declared void for any reason whatsoever. (c) Where, pursuant to clauses 10.1(a) or (b) above, a sum is paid to the Security Trustee the Chargor shall, in addition, pay to the Security Trustee in respect of value added tax: (i) (except where the payment falls within (ii) below), such amount as equals any valued added tax charged to the Security Trustee in respect of the matter which gives rise to the payment and which the Security Trustee certifies is not recoverable by it by repayment or credit (such certificate to be conclusive in the absence of manifest error); and (ii) on any reimbursement of or indemnification for any commissions, costs, charges, expenses or other items incurred by the Security Trustee as agent for the Chargor, such amount as equals the amount included in the commissions, costs, charges, expenses or other items in respect of value added tax (and in such a case the Security Trustee shall provide the Chargor with an appropriate tax invoice in respect of such item, naming the Chargor as recipient of the relevant supply). FURTHER ASSURANCES 10.2 The Chargor shall on demand execute any document and do any other act or thing (in either case at the expense of the Chargor) which the Security Trustee may reasonably specify for protecting, preserving or perfecting any security created or intended to be created by this Deed or for facilitating the realisation thereof or otherwise enforcing the same or exercising any of the powers, rights and discretions of the Security Trustee under this Deed, including the execution of all releases, transfers, assignments and other documents and the giving of all notices, orders, instructions and directions which the Security Trustee may request. RIGHTS CUMULATIVE 10.3 The rights and powers which this Deed confers on the Secured Parties are cumulative, may be exercised as often as it considers appropriate and are in addition to its rights and powers under the general law, and the rights of the Secured Parties (whether arising under this Deed or under the general law) shall not be capable of being waived or varied otherwise than by express waiver or variation in writing; and, in particular, any failure to exercise or any delay in exercising any such rights shall not operate as a variation or waiver of that or any other such right; any defective or partial exercise of such right shall not preclude any other or further exercise of that or any other such right; and no act or course of conduct or negotiation on their part or on their behalf shall in any way preclude them from exercising any such right or constitute a suspension or variation of any such right. ILLEGALITY, ETC 10.4 If any one of the provisions of this Deed is or becomes invalid, illegal or unenforceable in any respect, the validity, legality or enforceability of the remaining provisions of this Deed shall not in any way be affected or impaired thereby. Page 89 DUTY TO ACCOUNT 10.5 Save as may otherwise be agreed in writing between the Security Trustee and the Chargor, the Security Trustee shall not, prior to discharging the security hereby constituted, have any duty to account to the Chargor in respect of the Deposit or any part thereof. EVIDENCE OF INDEBTEDNESS 10.6 In any proceedings relating to this Deed, any determination or notification by the Security Trustee or any other Finance Party as to any amount of the Secured Obligations or as to any amount due to the Secured Parties under this Deed shall, in the absence of manifest error, be conclusive evidence as to that matter. ENTIRE AGREEMENT 10.7 This Deed constitutes the entire agreement between the parties hereto in relation to the Deposit and supersedes all previous proposals, arrangements, agreements and other written and oral communications in relation thereto. EXCLUSION OF RESTRICTIONS 10.8 Sections 93 and 103 of the Law of Property Act 1925 shall not apply to this Deed. RULING OFF 10.9 If the Security Trustee receives notice of any subsequent Security Interest affecting the Deposit: (a) the Security Trustee may open a new account or accounts with the Chargor and if the Security Trustee does not open a new account, it shall nevertheless be treated as if it had done so at the time when it received notice; and (b) all payments made by the Chargor to the Security Trustee after the Security Trustee receives such notice shall be credited or be treated as having been credited to the new account and in no circumstances whatsoever shall operate to reduce the amount due from the Chargor to the Secured Parties at the time when it received the notice. SUCCESSORS IN TITLE 10.10(a) This Deed shall be binding upon and inure to the benefit of each of the parties hereto and their successors and assigns. (b) The Chargor shall not be entitled to assign or transfer any of its rights, benefits or obligations hereunder without the prior written consent of the Security Trustee. (c) The Security Trustee may assign or transfer all or any part of its rights, benefits or obligations under this Deed to any person to whom it assigns and/or transfers its rights, benefits or obligations in accordance with the provisions of the Facility Agreement. Where the Security Trustee assigns or transfers its obligations or any part thereof, the Chargor shall execute such documents as the Security Trustee may specify to release the Security Trustee to the extent of the transfer or with a view to perfecting such document or transfer, or where necessary, shall execute further security documentation in favour of the assignee or transferee in like form to this Deed. Page 90 NOTICES AND COMMUNICATIONS 11. The provisions relating to notices are set forth in Clause 22 of the Facility Agreement. GOVERNING LAW AND JURISDICTION 12.1 This Deed shall be governed by, and interpreted and construed in accordance with, the laws of England. JURISDICTION 12.2(a) All the parties agree that the courts of England are, subject to Clause 12.2(b) and (c) below, to have jurisdiction to settle any disputes which may arise in connection with the creation, validity, effect, interpretation or performance of, or the legal relationships established by, this Deed (including, without limitation, claims for set-off or counterclaim) or otherwise arising in connection with this Deed and for such purposes irrevocably submit to the jurisdiction of the English courts; (b) notwithstanding the agreement in (a) above, each of the parties shall retain the right to bring proceedings in any other court which has jurisdiction whether by virtue of the Convention on Jurisdiction and the Enforcement of Judgments signed on 27 September 1968 (as from time to time amended and extended) or by virtue of the Convention on Jurisdiction and the Enforcement of Judgments signed on 16 September 1988 (from time to time amended and extended) or otherwise; (c) with respect to the courts agreed in paragraphs (a) and (b) above, each of the parties hereto irrevocably waives any objections on the ground of venue or forum non conveniens or any similar ground; (d) each of the parties hereto irrevocably agrees that a judgment or order of any court referred to in this clause in connection with this Deed is conclusive and binding on it and may be enforced against it in the courts of any other jurisdiction; and (e) each of the parties hereto irrevocably consents to service of process by mail or in any other manner permitted by the relevant law. AGENT FOR SERVICE OF PROCESS 12.3 The Chargor shall at all times maintain an agent for service of process and any other documents in proceedings in England or any other proceedings in connection with this Deed. Such agent shall be XL Brockbank Limited of Fitzwilliam House, 10 St. Mary Axe, London EC3A 8NL and any writ, judgment or other notice of legal process shall be sufficiently served on the Chargor if delivered to such agent marked for the attention of the Finance Director at its address for the time being. The Chargor undertakes not to revoke the authority of the above agent without promptly appointing a successor and notifying the Security Trustee thereof. CONTRACTS (RIGHTS OF THIRD PARTIES) ACT 1999 13. A person who is not a party to this Deed shall have no right under the Contracts (Rights of Third Parties) Act 1999 to enforce any of its terms. Page 91 APPENDIX 1 FORM OF NOTICE TO BANK To: [Bank] And to: Citibank International plc (the SECURITY TRUSTEE) Dear Sirs RE: ACCOUNT [_____ _____] (THE ACCOUNT) We hereby give you notice that pursuant to a Deed of Charge dated [_____ _____], a copy of which is attached, we have charged all of our right, title and interest in and to the Account to the Security Trustee. Please execute and return to the Security Trustee the attached acknowledgement attached as Schedule A to this notice. This notice shall be governed by English law. Yours truly, XL Capital Ltd Page 92 SCHEDULE A FORM OF ACKNOWLEDGMENT FROM BANK To: XL Capital Ltd P O Box 1350 GT The Huntlaw Building Fort Street Grand Cayman Cayman Islands And to: Citibank International plc (the SECURITY TRUSTEE) Dear Sirs RE: ACCOUNT [_____ _____] (THE ACCOUNT) We acknowledge receipt of your notice dated [_____ _____] and the deed of charge to which it refers (the DEED OF CHARGE). We hereby confirm that: (a) we have received no notice of any other charge, mortgage, pledge, lien, assignment or security interest in respect of the Account, other than the security interest described in the Deed of Charge; (b) we hereby waive any rights of set off or combination of accounts we may now or at any time in the future have in respect of the Account; (c) we undertake not to repay to the Chargor any amount standing to the credit of the Account except on the instructions of the Security Trustee; (d) we shall deliver to the Security Trustee and the Chargor, on written request, an up-to-date statement of the amount standing to the credit of the Account; and (e) unless the Security Trustee otherwise directs, we shall comply with the instructions of the Security Trustee with respect to the Account, and payments to and from the Account and shall not make any payments from the Account without the consent of the Security Trustee. This acknowledgment shall be governed by English law. Yours truly, [Bank] Page 93 DULY DELIVERED AS A DEED by the Chargor on the date inserted above. EXECUTED as a DEED ) for and on behalf of ) XL CAPITAL LTD ) SIGNED ) for and on behalf of ) CITIBANK INTERNATIONAL PLC ) Page 94 IN WITNESS WHEREOF, XL CAPITAL LTD has caused this Agreement to be duly executed as a Deed by an authorised officer on the day and year first above written. ACCOUNT PARTY EXECUTED as a DEED by XL CAPITAL LTD By: WILLIAM ROBBIE Title: SENIOR VICE PRESIDENT, TREASURER Witness Name: FIONA LUCK Occupation: EXECUTIVE VICE PRESIDENT Signature: FIONA LUCK GUARANTORS EXECUTED as a DEED by XL CAPITAL LTD By: WILLIAM ROBBIE Title: SENIOR VICE PRESIDENT, CONTROLLER Witness Name: FIONA LUCK Occupation: EXECUTIVE VICE PRESIDENT Signature: FIONA LUCK X.L. AMERICA, INC. By: RICHARD MILLER Title: EXECUTIVE VICE PRESIDENT AND CHIEF FINANCIAL OFFICER XL INSURANCE LTD By: CHRISTOPHER COELHO Title: SENIOR VICE PRESIDENT AND CHIEF FINANCIAL OFFICER Page 95 XL EUROPE LTD By: DERMOT J. O'DONOHOE Title: PRESIDENT AND CHIEF UNDERWRITING OFFICER XL MID OCEAN REINSURANCE LTD By: HENRY KEELING Title: PRESIDENT AND CHIEF EXECUTIVE OFFICER AGENT CITIBANK INTERNATIONAL PLC By: MICHAEL TAYLOR Title: VICE PRESIDENT ARRANGER SALOMON BROTHERS INTERNATIONAL LIMITED By: RORY HUSSEY Title: VICE PRESIDENT SECURITY TRUSTEE CITIBANK INTERNATIONAL PLC By: MICHAEL TAYLOR Title: VICE PRESIDENT LENDERS CITIBANK, N.A. By: MICHAEL TAYLOR Title: VICE PRESIDENT Page 96 BARCLAYS BANK PLC By: J.V. FRENCH Title: RELATIONSHIP DIRECTOR ING BANK, N.V, LONDON BRANCH By: MIKE SHARMAN T. BATES Title: DIRECTOR DIRECTOR CREDIT LYONNAIS NEW YORK BRANCH By: SEBASTIAN ROCCO Title: SENIOR VICE PRESIDENT NATIONAL WESTMINSTER BANK PLC By: JOHN MALLETT Title: SENIOR MANAGER - INSURANCE CITY MARKETS GROUP Page 97 EX-10.14(34) 3 a2040480zex-10_1434.txt EXHIBIT 10.14.34 Exhibit 10.14.34 SECOND AMENDMENT TO LETTER OF CREDIT FACILITY AND REIMBURSEMENT AGREEMENT THIS SECOND AMENDMENT TO LETTER OF CREDIT FACILITY AND REIMBURSEMENT AGREEMENT, dated as of November 28 , 2000 (this "Amendment"), by and among XL Insurance Ltd, XL Capital Ltd, XL Europe Ltd, XL Mid Ocean Reinsurance Ltd, XL Brockbank Group plc and XL Investments Ltd (collectively, the "XL Parties") and Mellon Bank, N.A., as Issuing Bank (in such capacity, the "Issuing Bank") and as Agent ( in such capacity, the "Agent") and as a Bank (in such capacity, the "Bank"). W I T N E S S E T H: - - - - - - - - - - WHEREAS, the XL Parties, the Bank, the Issuing Bank and the Agent are parties to a Letter of Credit Facility and Reimbursement Agreement, dated as of June 30, 1999, as amended by the First Amendment to Letter of Credit Facility and Reimbursement Agreement, dated February 25, 2000 (the "Reimbursement Agreement"), pursuant to which the Bank has agreed, on the terms and subject to the conditions described therein, to extend credit to certain of the XL Parties by participating in letters of credit issued for the account of such XL Parties by the Issuing Bank; WHEREAS, pursuant to a Transfer Supplement dated as of the date hereof, each of the original Bank parties to the Reimbursement Agreement (other than the Bank) has assigned all of its rights and obligations under the Reimbursement Agreement and the other Transaction Documents (including, without limitation, all of its Letter of Credit Participating Interest Commitments and Letter of Credit Participating Interests) to the Bank in accordance with Section 9.13(c) of the Reimbursement Agreement; WHEREAS, the XL Parties have requested the Bank to make certain additional changes to the Reimbursement Agreement; WHEREAS, the Bank is willing to amend the Reimbursement Agreement as set forth below; and WHEREAS, capitalized terms used herein and not otherwise defined shall have the meanings assigned to them in the Reimbursement Agreement; NOW THEREFORE, in consideration of the premises and of the mutual covenants herein contained, and intending to be legally bound hereby, the parties hereto agree as follows: SECTION 1. AMENDMENTS TO REIMBURSEMENT AGREEMENT. (a) The definition of the term "Qualifying Pledged Securities" appearing in Section 1.01 of the Reimbursement Agreement is hereby amended by deleting the words "a twenty percent or lower risk capital weighting" appearing therein and by inserting in lieu thereof the words "a zero percent risk capital weighting". (b) Sections 5.01 through 5.10 of the Reimbursement Agreement are hereby deleted in their entirety and the following new Section 5.01 is inserted in lieu thereof: 5.01 INCORPORATION OF AFFIRMATIVE COVENANTS BY REFERENCE. Each XL Party shall observe, perform and fulfill, for the benefit of the Issuing Bank and the Banks, each of the covenants, agreements and obligations contained in Article VI of the July 2000 Letter of Credit Agreement (as defined below). For purposes of this Section 5.01, the aforesaid Article VI of the July 2000 Letter of Credit Agreement, together with the other sections of the July 2000 Letter of Credit Agreement to which reference is made therein, and related definitions, schedules and ancillary provisions, are hereby incorporated herein by reference, MUTATIS MUTANDIS, and will be deemed to continue in effect for the benefit of the Issuing Bank and the Banks, as if each Bank were a "Lender" under the July 2000 Letter of Credit Agreement, whether or not the July 2000 Letter of Credit Agreement remains in effect among the parties thereto. As used in this Agreement, the term "July 2000 Letter of Credit Agreement" means the Letter of Credit and Reimbursement Agreement, dated as of July 5, 2000, between XL Capital, X.L. America, Inc., XL Insurance, XL Europe and XL Mid Ocean, the Lender party thereto and The Chase Manhattan Bank as Administrative Agent, as in effect on November 27, 2000, without regard to any amendment thereto after such date other than any such amendment to which the Agent shall have consented in writing with reference to this Agreement. (c) Sections 6.01 through 6.10 of the Reimbursement Agreement are hereby deleted in their entirety and the following new Section 6.01 is inserted in lieu thereof: 6.01 INCORPORATION OF NEGATIVE COVENANTS BY REFERENCE. Each XL Party shall observe, perform and fulfill, for the benefit of the Issuing Bank and the Banks, each of the covenants, agreements and obligations contained in Article VII of the July 2000 Letter of Credit Agreement. For purposes of this Section 6.01, the aforesaid Article VII of the July 2000 Letter of Credit Agreement, together with the other sections of the July 2000 Letter of Credit Agreement to which reference is made therein, and related definitions, schedules and ancillary provisions, are hereby incorporated herein by reference, MUTATIS MUTANDIS, and will be deemed to continue in effect for the benefit of the Issuing Bank and the Banks, as if each Bank were a "Lender" under the July 2000 Letter of Credit Agreement, whether or not the July 2000 Letter of Credit Agreement remains in effect among the parties thereto. (d) Section 7.01(e) of the Reimbursement Agreement is hereby amended to read in its entirety as follows: (e) any Credit Party or any Subsidiary of any Credit Party shall default (i) in any payment of principal of or interest on any other obligation for borrowed money in principal amount of $50,000,000 or more, or any payment of any principal amount of $50,000,000 or more under Hedging Agreements (as defined in the July 2000 Letter of Credit Agreement), in each case beyond any period of grace provided with respect thereto, or (ii) in the performance of any other agreement, term or condition contained in any such agreement (other than Hedging Agreements) under which any such obligation in principal amount of $50,000,000 or more is created, if the effect of such default is to cause or permit the holder or holders of such obligation (or trustee on behalf of such holder or holders) to cause such obligation to become due prior to its stated maturity or to terminate its commitment under such agreement, PROVIDED that this clause (e) shall not apply to secured Indebtedness that becomes due as a result of the voluntary sale or transfer of the property or assets securing such Indebtedness; (e) Section 7.01(f) of the Reimbursement Agreement is hereby amended to read in its entirety as follows: (f) one or more judgments for the payment of money in an aggregate amount in excess of $100,000,000 shall be rendered against any Credit Party or any of its Subsidiaries or any combination thereof and the same shall not have been vacated, discharged, stayed (whether by appeal or otherwise) or bonded pending appeal within 45 days from the entry thereof; SECTION 2. REDUCTION OF LETTER OF CREDIT PARTICIPATING INTEREST COMMITTED AMOUNT. The Letter of Credit Participating Interest Committed Amount of the Bank is hereby reduced to $138,607,449.20. The XL Parties hereby irrevocably agree and direct that the Letter of Credit Participating Interest Committed Amount of the Bank shall be further reduced from time to time, concurrently with the cancellation of or drawing under any Letter of Credit, to the Aggregate Letter of Credit Undrawn Availability at such time. The effect and intention of the foregoing is that, from and after the date of this Amendment, the Issuing Bank shall have no further obligation to issue any Letter of Credit under the Reimbursement Agreement. In addition, the XL Parties agree that, from and after the date of this Amendment, the Issuing Bank shall have no obligation to extend the expiration date of any Letter of Credit, permit the extension of the expiration date of any Letter of Credit, increase the stated amount of any Letter of Credit or issue any other amendment to any Letter of Credit. SECTION 3. CONDITIONS TO EFFECTIVENESS. This Second Amendment shall become effective upon (i) the execution and delivery hereof by the XL Parties, the Bank, the Issuing Bank and the Agent, (ii) the execution and delivery by the parties thereof of the Second Amendment to the Pledge Agreement dated as of the date hereof and (iii) payment to the Bank in immediately available funds, concurrently with delivery by the XL Parties of this Amendment, of an amendment fee in the amount of $25,000. It is understood that the Bank does not intend to execute or deliver this Amendment unless the Letters of Credit listed on Exhibit A hereto are the only Letters of Credit outstanding under the Reimbursement Agreement. SECTION 4. EFFECT OF AMENDMENT. The Reimbursement Agreement, as amended by this Amendment, is in all respects ratified, approved and confirmed and shall, as so amended, remain in full force and effect. SECTION 5. GOVERNING LAW. This Amendment shall be deemed to be a contract under the laws of the Commonwealth of Pennsylvania and for all purposes shall be governed by and construed and enforced in accordance with the laws of said Commonwealth. SECTION 6. COUNTERPARTS. This Amendment may be executed in any number of counterparts and by the different parties hereto on separate counterparts, each of which, when so executed, shall be deemed an original, but all such counterparts shall constitute but one and the same instrument. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. XL INSURANCE LTD, AS AN ACCOUNT PARTY AND A GUARANTOR By: /s/ CHRISTOPHER COELHO ----------------------------------------------------------- (Signature) Name: CHRISTOPHER COELHO --------------------------------------------------------- Title: CHIEF FINANCIAL OFFICER -------------------------------------------------------- XL MID OCEAN REINSURANCE LTD, AS AN ACCOUNT PARTY AND A GUARANTOR By: /s/ JOHN H. HUME ----------------------------------------------------------- (Signature) Name: JOHN H. HUME --------------------------------------------------------- Title: SENIOR VICE PRESIDENT AND CHIEF FINANCIAL OFFICER XL EUROPE LTD, AS AN ACCOUNT PARTY By: /s/ J. WALKER RAINEY ---------------------------------------------------------- (Signature) Name: J. WALKER RAINEY --------------------------------------------------------- Title: CHIEF FINANCIAL OFFICER -------------------------------------------------------- XL BROCKBANK GROUP PLC, AS AN ACCOUNT PARTY By: /s/ N. J. METCALF ---------------------------------------------------------- (Signature) Name: N. J. METCALF --------------------------------------------------------- Title: CHIEF EXECUTIVE -------------------------------------------------------- XL INVESTMENTS LTD, AS A GUARANTOR By: /s/ PAUL S. GIORDANO ----------------------------------------------------------- (Signature) Name: /s/ PAUL S. GIORDANO --------------------------------------------------------- Title: SECRETARY -------------------------------------------------------- XL CAPITAL LTD, AS AN ACCOUNT PARTY AND A GUARANTOR By: /s/ PAUL S. GIORDANO ----------------------------------------------------------- (Signature) Name: /s/ PAUL S. GIORDANO --------------------------------------------------------- Title: SECRETARY -------------------------------------------------------- MELLON BANK, N.A., AS A BANK, AS ISSUING BANK AND AS AGENT By: /s/ KARLA K. MALOOF ----------------------------------------------------------- (Signature) Name: KARLA K. MALOOF --------------------------------------------------------- Title: VICE PRESIDENT -------------------------------------------------------- EX-11.1 4 a2040480zex-11_1.txt EXHIBIT 11.1 EXHIBIT 11.1 XL CAPITAL LTD COMPUTATION OF EARNINGS PER ORDINARY SHARE AND ORDINARY SHARE EQUIVALENT FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 (U.S. dollars in thousands, except share and per share amounts)
2000 1999 1998 ------------------------------ BASIC EARNINGS PER SHARE: Net income.................................................. $506,352 $470,509 $656,330 Weighted average ordinary shares outstanding................ 124,503 127,601 112,034 Basic earnings per share.................................... $ 4.07 $ 3.69 $ 5.86 ------------------------------ DILUTED EARNINGS PER SHARE: Net income.................................................. $506,352 $470,509 $656,333 Add back after-tax interest on convertible debentures....... - 1,752 3,504 ------------------------------ Adjusted net income......................................... $506,352 $472,261 $659,834 ------------------------------ Weighted average ordinary shares outstanding................ 124,503 127,601 112,034 Average stock options outstanding (1)....................... 1,194 1,872 2,152 Assumed conversion of convertible debentures (2)............ - 831 2,020 ------------------------------ Weighted average ordinary shares outstanding................ 125,697 130,304 116,206 ------------------------------ Diluted earnings per share.................................. $ 4.03 $ 3.62 $ 5.68 ------------------------------
(1) Net of shares repurchased under the treasury stock method. (2) 1998 and 1997 reflect the assumed conversion of the 5.25% Convertible Subordinated Debentures due 2000. The Debentures were called in June 1999 and the actual conversion is reflected in 1999. EX-21.1 5 a2040480zex-21_1.txt EXHIBIT 21.1 Exhibit 21.1
NAIC # FEIN # XL CAPITAL LTD - CAYMAN 98-0191089 XL CAPITAL INVESTMENT MANAGEMENT LTD - BERMUDA EXEL HOLDINGS LIMITED - CAYMAN XL INSURANCE LTD - BERMUDA XL FINANCIAL ASSURANCE LTD. (85%) - BERMUDA XL CAPITAL PRODUCTS LTD - BERMUDA XL INVESTMENTS LTD - BERMUDA X.L. Investment Private Trustee Ltd. - BERMUDA X.L. Investments (Barbados) Inc. - BARBADOS Annuity & Life Re (Holdings) Ltd (5.6%) - BERMUDA First Cumberland Bank, Inc. - BARBADOS Garrison Investments Inc. - BARBADOS Kensington Investments Inc. - BARBADOS XLB Partners Inc. - BARBADOS IBC Cumberland Holdings, Inc. - DE 98-0174616 Cumberland California, Inc. - DE 98-0174621 Pareto Hughes Research (30%) - DE 95-4590570 Pareto Partners (30%) - CA 13-3609837 Cumberland New York, Inc. - DE 98-0174619 Pareto (30%) - NY 95-4627346 InQuisLogic Ltd. - BARBADOS InQuisLogic Inc. - DE 06-1542517 RiskConnect Ltd. - BARBADOS RiskConnect Inc. - DE FINANCIAL SECURITY ASSURANCE INTERNATIONAL LTD. (20%) - BERMUDA XL GLOBAL SERVICES (BERMUDA) LTD. - BERMUDA X.L. HOLDINGS BARBADOS LTD. - BARBADOS X.L. America, Inc. - DE 06-1516268 ECS INC. - PA 23-2152934 ECS Alternative Market Services, Inc. - PA 23-2741979 ECS Holdings, Inc. - DE 23-2683777 ECS International, Inc. - DE 23-2683775 ECS Asesores en Seguros Medioambientales, S.A.R.L. - SPAIN The ECS Group, Ltd - UK 2711579 ECS Underwriting Ltd. - UK 2549841 ECS Asesores en Aseguramiento de Riesgos Ambientales S.A. de C.V. - MEXICO Risk & Insurance Services, Inc. - BARBADOS ECS Underwriting, Inc. - PA 23-2901851 ECS Claims Administrators, Inc. - PA 23-2614107 ECS Risk Control, Inc. - PA 23-2321718 ECS Child Care Center, Inc. - PA 23-2866192 Brockbank Insurance Services, Inc. - CA Global Credit Analytics, Inc. - DE 13-4048460 XL Global Services, Inc. - DE 06-1527321 NAC RE CORPORATION - DE 20583 13-3297840 NAC Reinsurance Corporation (A - 76%) - NY NAC Re Investment Holdings, Inc. - DE 06-1529606 Greenwich Insurance Company (A - 5%) - CA 22322 95-1479095 Warranty Support Services, Inc. - NY Indian Harbor Insurance Company (A - 5%) - ND 36940 06-1346380 XL Insurance Company of New York, Inc. (A - 7%) - NY 40193 13-3787296 XL Capital Assurance Inc. - NY 11007 13-4079733 Intercargo Corporation - DE 36-3414667 International Advisory Services Inc. - IL 36-3081634 XL Specialty Insurance Company (A - 7%) - IL 37885 85-0277191 Intercargo Insurance Company H.K. Ltd. - HK Intercargo International Limited - BVI AA-004102 Element Re Capital Products Inc. - DE Element Re Advisors Inc. - DE XL Global Insurance, Inc. - DE XL Global, Inc. - DE Element Reinsurance Ltd XL Financial Solutions Ltd - BERMUDA XL Trading Partners Ltd - BERMUDA SOVEREIGN RISK INSURANCE LTD. (50%) - BERMUDA X.L. ONE LTD. - BERMUDA XL Europe Ltd (50%) - REPUBLIC OF IRELAND X.L. TWO LTD. - BERMUDA XL Europe Ltd (50%) - REPUBLIC OF IRELAND XL Australia Pty Ltd - AUSTRALIA XL Prevent Ltd - UK Le Mans Re (A - 49%) - FRANCE IPT COMPLIANCE LIMITED - UK EXEL CUMBERLAND LIMITED - UK Pareto Partners (30%) - UK Pareto Australia - AUSTRALIA Vision Loyal Ltd. (30%) - UK INQUISCAPITAL HOLDINGS (BERMUDA) LIMITED - BERMUDA InQuisLogic (Bermuda) Limited - BERMUDA RiskConnect Limited - BERMUDA ANNUITY & LIFE RE (HOLDINGS) LTD (6%) - BERMUDA EXEL ACQUISITION LTD. - CAYMAN GCR HOLDINGS LIMITED - CAYMAN (IN LIQUIDATION) REEVE COURT INSURANCE COMPANY (50%) - BERMUDA REEVE COURT GENERAL PARTNER LIMITED Reeve Court 6 Limited Partnership - BERMUDA Reeve Court 4 Limited Partnership - BERMUDA REEVE COURT HOLDINGS LTD. (50%) - BERMUDA X.L. PROPERTY HOLDINGS LTD. - BERMUDA MID OCEAN LIMITED (100%)- CAYMAN MID OCEAN HOLDINGS LIMITED - BERMUDA XL Re Ltd - BERMUDA NAC Re International Holdings - UK NAC Reinsurance International Limited - UK XL Services UK Limited - UK ECS Reinsurance Company Inc. - BARBADOS 98-0086637 Sunshine State Holdings Corporation (24%) - FL The Shipowners Insurance and Guaranty Company Ltd. (4.6%) - BERMUDA Global Capital Underwriting Ltd. - UK LARC Holdings, Ltd. - BERMUDA Latin American Reinsurance Company, Ltd. - BERMUDA Ridgewood Holdings Limited - BERMUDA XL Capital International Limited - UK XL Financial Products Ltd - UK Admiral Group Limited (10%) XL Brockbank Group Plc - UK Brockbank Holdings Limited - UK Baltusrol Holdings Ltd - BERMUDA County Down Limited - CORPORATE MEMBER SYNDICATE 2253 Dornoch Limited - CORPORATE MEMBER SYNDICATE 1209 Stonebridge Underwriting Limited XL Brockbank Underwriting Ltd - UK Brockbank Personal Lines Limited - SYNDICATES 253/2253 Cassidy Brockbank Limited (DORMANT) XL Brockbank Ltd - SYNDICATES 588/861/1209 Denham Syndictae Management Limited Brockbank Syndicate Services Limited Sextant International Limited (25%) A. Company is a member on NAC Reinsurance, Intercargo Pooling Agreement with individual company pooling %'s noted.
EX-23.1 6 a2040480zex-23_1.txt EXHIBIT 23.1 EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the incorporation by reference in the registration statements of XL Capital Ltd on Form S-3 (File No. 333-62257), Form S-8 and S-3 (File No. 333-62137), Form S-8 (File No. 333-81451) and Form S-8 (File No. 333-46250) of our report dated February 15, 2001 on our audits of the financial statements and financial statement schedules of XL Capital Ltd as at December 31, 2000. PRICEWATERHOUSECOOPERS LLP New York, New York March 23, 2001 EX-23.2 7 a2040480zex-23_2.txt EXHIBIT 23.2 EXHIBIT 23.2 CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the incorporation by reference in the registration statements of XL Capital Ltd on Form S-3 (File No. 333-62257), Form S-8 and S-3 (File No. 333-62137), Form S-8 (File No. 333-81451) and Form S-8 (File No. 333-46250) of our report on the consolidated statements of income, stockholders' equity and cash flows of NAC Re Corporation for the year ended December 31, 1998, dated February 3, 1999 except for Note 15, as to which the date is February 15, 1999. ERNST & YOUNG LLP New York, New York March 23, 2001 -----END PRIVACY-ENHANCED MESSAGE-----