10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

þ Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
for the Quarter Ended March 31, 2005.

o Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
from _______ to __________

Commission file number 001-13790

HCC Insurance Holdings, Inc.
(Exact name of registrant as specified in its charter)
Delaware	76-0336636
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)
13403 Northwest Freeway, Houston, Texas	77040-6094
(Address of principal executive offices)	(Zip Code)
(713) 690-7300
(Registrant’s telephone number, including area code)

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 for 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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).

Yes   x            No

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.

On April 29, 2005, there were approximately 69.8 million shares of common stock, $1.00 par value issued and outstanding.

1

HCC INSURANCE HOLDINGS, INC.
INDEX

			Page No.
Part I.	FINANCIAL INFORMATION
	Item 1.	Financial Statements
		Condensed Consolidated Balance Sheets March 31, 2005 and December 31, 2004		4
		Condensed Consolidated Statements of Earnings For the three months ended March 31, 2005 and 2004		5
		Condensed Consolidated Statement of Changes in Shareholders’ Equity For the three months ended March 31, 2005		6
		Condensed Consolidated Statements of Cash Flows For the three months ended March 31, 2005 and 2004		7
		Notes to Condensed Consolidated Financial Statements		8
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		19
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk		28
	Item 4.	Controls and Procedures		29
Part II.	OTHER INFORMATION
	Item 1.	Legal Proceedings		30
	Item 6.	Exhibits		31
Signatures				31
Employment Agreement - Craig J. Kelbel
Certification of CEO
Certification of CFO
Certification with respect to quarterly report

This report on Form 10-Q contains certain “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, which are intended to be covered by the safe harbors created by those laws. We have based these forward-looking statements on our current expectations and projections about future events. These forward-looking statements include information about possible or assumed future results of our operations. All statements, other than statements of historical facts, included or incorporated by reference in this report that address activities, events or developments that we expect or anticipate may occur in the future, including such things as future capital expenditures, business strategy, competitive strengths, goals, growth of our business and operations, plans and references to future successes may be considered forward-looking statements. Also, when we use words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “plan,” “probably” or similar expressions, we are making forward-looking statements.

Many risks and uncertainties may impact the matters addressed in these forward-looking statements, which could affect our future financial results and performance, including, among other things:

•   the occurrence of additional terrorist activities;

•   changing legal and social trends and inherent uncertainties (including but not limited to those uncertainties associated with our reserves) in the loss estimation process can adversely impact the adequacy of loss reserves and the allowance for reinsurance recoverables;

2

•   industry and economic conditions can affect the ability and/or willingness of reinsurers to pay balances due and our ability to obtain adequate reinsurance;

•   catastrophic losses, including hurricanes, windstorms, earthquakes, hailstorms, explosions, severe winter weather, fires and man-made events;

•   state, federal and foreign regulations can impede our ability to charge adequate rates and efficiently allocate capital;

•   economic conditions, interest rates, and foreign exchange rate volatility can have a significant impact on the market value of fixed maturity investments as well as the carrying value of other assets and liabilities;

•   assessments by states for high risk or otherwise uninsured individuals;

•   changes in our assigned financial strength ratings;

•   our ability to receive dividends from our insurance company subsidiaries to meet our cash flow, debt, dividend and other corporate expense obligations;

•   our ability to effectively integrate acquired operations and to continue to expand our business through the acquisition of insurance industry related companies;

•   our ability to maintain adequate internal controls and procedures; and

•   the effects of state and other regulatory investigations into the practices and procedures of the insurance industry.

These events or factors could cause our results or performance to differ materially from those we express in our forward-looking statements. Although we believe that the assumptions underlying our forward-looking statements are reasonable, any of these assumptions, and therefore also the forward-looking statements based on these assumptions, could themselves prove to be inaccurate. In light of the significant uncertainties inherent in the forward-looking statements which are included in this report, our inclusion of this information is not a representation by us or any other person that our objectives and plans will be achieved.

Our forward-looking statements speak only at the date made and we will not update these forward-looking statements unless the securities laws require us to do so. In light of these risks, uncertainties and assumptions, any forward-looking events discussed in this report may not occur.

3

HCC Insurance Holdings, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(unaudited, in thousands, except per share data)

	March 31, 2005		December 31, 2004
ASSETS
Investments:
Fixed income securities, at market (cost: 2005 - $1,904,630; 2004 - $1,682,421)	$	1,905,297	$	1,703,171
Short-term investments, at cost, which approximates market		587,151		729,985
Other investments, at market (cost: 2005 - $58,646; 2004 - $34,137)		61,795		35,335
Total investments		2,554,243		2,468,491
Cash		70,077		69,933
Restricted cash and cash investments		192,083		188,510
Premium, claims and other receivables		1,028,903		923,638
Reinsurance recoverables		1,099,439		1,098,999
Ceded unearned premium		264,755		317,055
Ceded life and annuity benefits		75,136		74,627
Deferred policy acquisition costs		135,514		139,199
Goodwill		455,999		444,031
Other assets		222,987		208,954
Total assets	$	6,099,136	$	5,933,437
LIABILITIES
Loss and loss adjustment expense payable	$	2,142,284	$	2,089,199
Life and annuity policy benefits		75,136		74,627
Reinsurance balances payable		199,933		228,998
Unearned premium		727,866		741,706
Deferred ceding commissions		81,323		94,896
Premium and claims payable		888,074		795,576
Notes payable		311,142		311,277
Accounts payable and accrued liabilities		270,495		273,493
Total liabilities		4,696,253		4,609,772
SHAREHOLDERS’ EQUITY
Common stock, $1.00 par value; 250.0 million shares authorized (shares issued and outstanding: 2005 – 69,797; 2004 – 68,038)		69,797		68,038
Additional paid-in capital		610,463		566,776
Retained earnings		702,601		651,216
Accumulated other comprehensive income		20,022		37,635
Total shareholders’ equity		1,402,883		1,323,665
Total liabilities and shareholders’ equity	$	6,099,136	$	5,933,437

See Notes to Condensed Consolidated Financial Statements.

4

HCC Insurance Holdings, Inc. and Subsidiaries

Condensed Consolidated Statements of Earnings

(unaudited, in thousands, except per share data)

	Three months ended March 31,
	2005			2004
REVENUE
Net earned premium	$	320,117		$	217,063
Fee and commission income		33,076			43,843
Net investment income		22,341			14,435
Net realized investment gain (loss)		(3	)		518
Other operating income		4,147			2,159
Total revenue		379,678			278,018
EXPENSE
Loss and loss adjustment expense, net		186,063			125,864
Operating expense:
Policy acquisition costs, net		59,357			44,764
Compensation expense		27,006			21,561
Other operating expense		18,943			15,086
Total operating expense		105,306			81,411
Interest expense		1,808			2,212
Total expense		293,177			209,487
Earnings from continuing operations before income tax expense		86,501			68,531
Income tax expense from continuing operations		29,183			23,729
Earnings from continuing operations		57,318			44,802
Loss from discontinued operations, net of income tax benefit of $146		—			(234	)
Net earnings	$	57,318		$	44,568
Basic earnings per share data:
Earnings from continuing operations	$	0.83		$	0.70
Loss from discontinued operations		—			(0.01	)
Net earnings	$	0.83		$	0.69
Weighted average shares outstanding		68,827			64,249
Diluted earnings per share data:
Earnings from continuing operations	$	0.81		$	0.68
Earnings from discontinued operations		—			—
Net earnings	$	0.81		$	0.68
Weighted average shares outstanding		70,489			65,417
Cash dividends declared, per share	$	0.085		$	0.075

See Notes to Condensed Consolidated Financial Statements.

5

HCC Insurance Holdings, Inc. and Subsidiaries

Condensed Consolidated Statement of Changes in Shareholders’ Equity

Three months ended March 31, 2005

(unaudited, in thousands, except per share data)

								Accumulated
			Additional					other			Total
	Common		paid-in		Retained			comprehensive			shareholders’
	stock		capital		earnings			income			equity
Balance at December 31, 2004	$	68,038	$	566,776	$	651,216		$	37,635		$	1,323,665
Net earnings		—		—		57,318			—			57,318
Other comprehensive income (loss)		—		—		—			(17,613	)		(17,613	)
Comprehensive income												39,705
Issuance of 965 shares for exercise of options, including tax benefit of $4,908		965		25,030		—			—			25,995
Issuance of 794 shares for purchased company		794		18,657		—			—			19,451
Cash dividends declared, $0.085 per share		—		—		(5,933	)		—			(5,933	)
Balance at March 31, 2005	$	69,797	$	610,463	$	702,601		$	20,022		$	1,402,883

See Notes to Condensed Consolidated Financial Statements.

6

HCC Insurance Holdings, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(unaudited, in thousands, except per share data)

	Three months ended March 31,
	2005			2004
Cash flows from operating activities:
Net earnings	$	57,318		$	44,568
Adjustments to reconcile net earnings to net cash provided by operating activities:
Change in premium, claims and other receivables		(123,893	)		(108,556	)
Change in reinsurance recoverables		251			(43,618	)
Change in ceded unearned premium		52,300			(8,366	)
Change in loss and loss adjustment expense payable		49,939			93,623
Change in reinsurance balances payable		(29,842	)		37
Change in unearned premium		(16,842	)		27,632
Change in premium and claims payable, net of restricted cash		88,925			103,013
Change in trading portfolio		(41,328	)		(7,762	)
Depreciation and amortization expense		3,710			3,390
Other, net		(6,629	)		(3,096	)
Cash provided by operating activities		33,909			100,865
Cash flows from investing activities:
Sales of fixed income securities		55,681			103,092
Maturity or call of fixed income securities		32,250			33,116
Cost of securities acquired		(277,000	)		(213,354	)
Change in short-term investments		145,025			(59,045	)
Payment for purchase of subsidiary, net of cash received		—			(43,307	)
Other, net		(1,118	)		2,566
Cash used by investing activities		(45,162	)		(176,932	)
Cash flows from financing activities:
Sale of common stock		21,087			9,924
Payments on notes payable		(93	)		(91	)
Dividends paid		(5,783	)		(4,800	)
Other		(3,814	)		—
Cash provided by financing activities		11,397			5,033
Net increase (decrease) in cash		144			(71,034	)
Cash at beginning of period		69,933			96,416
Cash at end of period	$	70,077		$	25,382

See Notes to Condensed Consolidated Financial Statements.

7

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data)

(1)	GENERAL INFORMATION
	HCC Insurance Holdings, Inc. and its subsidiaries (“we,” “us” and “our”) include domestic and foreign property and casualty and life insurance companies, underwriting agencies and reinsurance brokers. We provide specialized property and casualty, surety, and group life, accident and health insurance coverages and related agency and reinsurance brokerage services to commercial customers and individuals. We market our products both directly to customers and through a network of independent and affiliated agents and brokers. Our lines of business include diversified financial products (which includes directors’ and officers’ liability, errors and omissions, employment practices liability and surety); group life, accident and health; aviation; our London market account (which includes energy, marine, property, and accident and health); and other specialty lines of insurance. We operate primarily in the United States, the United Kingdom, Spain and Bermuda, although some of our operations have a broader international scope.
	Basis of Presentation
	Our unaudited condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America and include the accounts of HCC Insurance Holdings, Inc. and its subsidiaries. We have made all adjustments which, in our opinion, are necessary for a fair presentation of the results of the interim periods. All adjustments made to the interim periods are of a normal recurring nature. All significant intercompany balances and transactions have been eliminated in consolidation. The condensed consolidated financial statements for periods reported herein should be read in conjunction with the annual audited consolidated financial statements and related notes. The condensed consolidated balance sheet as of December 31, 2004 was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America.
	Management must make estimates and assumptions that affect amounts reported in our financial statements and in disclosures of contingent assets and liabilities. Ultimate results could differ from those estimates. Certain amounts in our 2004 condensed consolidated financial statements have been reclassified to conform to the 2005 presentation. Such reclassifications had no effect on our consolidated net earnings, shareholders’ equity or cash flows.
	See Note (2) for discussion of our 2005 acquisition. During 2004, we completed several acquisitions. The results of operations of these entities are included in our condensed consolidated financial statements beginning on the effective date of each acquisition. Thus, our condensed consolidated statements of earnings and cash flows for the three months ended March 31, 2004 do not contain any operations of the entity acquired in 2005 or of the entities acquired in 2004 prior to their acquisition dates.
	Income Tax
	For the three months ended March 31, 2005 and 2004, the income tax provision was calculated based on an estimated effective tax rate for each of the fiscal years. The difference between our effective tax rate and the United States federal statutory rate is primarily the result of tax exempt municipal bond interest and state income taxes.

8

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

Stock Options

We account for stock options granted to employees using the intrinsic value method, in accordance with Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. All options have been granted at fixed exercise prices at the market price of our common stock on the grant date. Thus, no stock-based employee compensation expense is reflected in our reported net earnings. Options vest over a period of up to seven years and expire four to ten years after grant date. The following table illustrates the effects on net earnings and earnings per share if we had used the fair value method of Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation.

	Three months ended March 31,
	2005			2004
Reported net earnings	$	57,318		$	44,568
Stock-based compensation using the fair value method, net of income taxes		(1,277	)		(1,220	)
Pro forma net earnings	$	56,041		$	43,348
Reported basic earnings per share	$	0.83		$	0.69
Fair value stock-based compensation		(0.02	)		(0.02	)
Pro forma basic earnings per share	$	0.81		$	0.67
Reported diluted earnings per share	$	0.81		$	0.68
Fair value stock-based compensation		(0.02	)		(0.02	)
Pro forma diluted earnings per share	$	0.79		$	0.66

The Financial Accounting Standards Board (FASB) has issued SFAS No. 123(R), Share-Based Payment, which requires stock-based employee compensation to be deducted from net income beginning January 1, 2006. We are currently reviewing the requirements of SFAS No. 123(R), including the valuation methods permitted. Using the Black-Scholes single option pricing model that we utilized for the SFAS No. 123 calculations above, compensation costs related to nonvested awards approximated $18.5 million at March 31, 2005. If we ultimately utilize the Black-Scholes model for purposes of SFAS No. 123(R), this cost will be recognized through the last vesting period in 2010, although approximately 78% will be recognized through 2007.

9

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

	Recent Accounting Pronouncements
	In March 2004, the Emerging Issues Task Force (EITF) reached a consensus on Issue 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. EITF 03-1 provides guidance with respect to the meaning of other-than-temporary impairment and its application to investments classified as either available for sale or held to maturity under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities, and investments accounted for under the cost method or the equity method. In September 2004, the FASB issued a Staff Position, FSP EITF Issue 03-1-1, delaying the effective date for the measurement and recognition guidance included in EITF 03-1, and also issued an exposure draft, FSP EITF Issue 03-1a, which proposes guidance relating to debt securities that are impaired because of interest rate and/or sector spread increases. The delay in the effective date for the measurement and recognition guidance of EITF 03-1 did not suspend existing requirements for assessing whether investment impairments are other-than-temporary. It is expected that the proposed guidance under FSP EITF Issue 03-1a will be finalized in 2005. We are monitoring the outcome of the EITF’s consideration of these issues.
(2)	ACQUISITION
	On February 25, 2005, we issued 0.8 million shares of our common stock to acquire all of the shares of USSC Holdings, Inc., the parent company of United States Surety Company, a Maryland-domiciled company specializing in contract bonding for small and medium sized contractors. United States Surety Company’s results are reported in our insurance company segment. This business combination was recorded using the purchase method of accounting. The results of operations of United States Surety Company were included in our condensed consolidated financial statements beginning on the effective date of the transaction. The consideration paid and the inclusion of United States Surety Company’s financial information in our condensed consolidated financial statements are not material to our consolidated financial position, results of operations or cash flows. The approximate fair values of assets acquired and liabilities assumed were $29.8 million and $10.3 million, respectively. Goodwill resulting from this acquisition approximated $12.8 million at March 31, 2005 and will not be deductible for United States federal income tax purposes. We are still in the process of valuing certain agreements to complete the purchase price allocation.

10

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

(3)

REINSURANCE

In the normal course of business, our insurance companies cede a portion of their premium to domestic and foreign reinsurers through treaty and facultative reinsurance agreements. Although ceding for reinsurance purposes does not discharge the primary insurer from liability to its policyholder, our insurance companies participate in such agreements in order to limit their loss exposure, protect them against catastrophic loss and diversify their business. The following table presents the effect of such reinsurance transactions on our premium and loss and loss adjustment expense.

							Loss and loss
	Written			Earned			adjustment
	premium			premium			expense
Three months ended March 31, 2005
Direct business	$	398,281		$	412,095		$	221,534
Reinsurance assumed		76,838			72,580			48,506
Reinsurance ceded		(117,767	)		(164,558	)		(83,977	)
Net amounts	$	357,352		$	320,117		$	186,063
Three months ended March 31, 2004
Direct business	$	371,961		$	358,079		$	211,108
Reinsurance assumed		87,620			74,226			57,989
Reinsurance ceded		(223,626	)		(215,242	)		(143,233	)
Net amounts	$	235,955		$	217,063		$	125,864

The table below shows the components of reinsurance recoverables in our condensed consolidated balance sheets.

	March 31, 2005			December 31, 2004
Reinsurance recoverable on paid losses	$	104,424		$	89,508
Reinsurance recoverable on outstanding losses		486,094			509,512
Reinsurance recoverable on incurred but not reported losses		529,606			520,404
Reserve for uncollectible reinsurance		(20,685	)		(20,425	)
Total reinsurance recoverables	$	1,099,439		$	1,098,999

11

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

Our U.S. domiciled insurance companies require their reinsurers not authorized by the respective states of domicile of our insurance companies to collateralize their reinsurance obligations due to us. The table below shows amounts of letters of credit and cash deposits held by us as collateral, plus other credits available for potential offset.

	March 31, 2005		December 31, 2004
Payables to reinsurers	$	352,098	$	350,514
Letters of credit		223,244		265,152
Cash deposits		69,277		68,307
Total credits	$	644,619	$	683,973

The tables below present the calculation of net reserves, net unearned premium and net deferred policy acquisition costs.

	March 31, 2005			December 31, 2004
Loss and loss adjustment expense payable	$	2,142,284		$	2,089,199
Reinsurance recoverable on outstanding losses		(486,094	)		(509,512	)
Reinsurance recoverable on incurred but not reported losses		(529,606	)		(520,404	)
Net reserves	$	1,126,584		$	1,059,283
Unearned premium	$	727,866		$	741,706
Ceded unearned premium		(264,755	)		(317,055	)
Net unearned premium	$	463,111		$	424,651
Deferred policy acquisition costs	$	135,514		$	139,199
Deferred ceding commissions		(81,323	)		(94,896	)
Net deferred policy acquisition costs	$	54,191		$	44,303

Certain reinsurers have delayed or suspended payment of amounts recoverable under reinsurance contracts to which we are a party. We limit our liquidity exposure by holding funds, letters of credit or other security, such that net balances due are significantly less than the gross balances shown in our condensed consolidated balance sheets. We are currently in negotiations with most of these parties but, if such negotiations do not result in a satisfactory resolution of the matters in question, we may seek or be involved in litigation or arbitration. In some cases, the final resolution of such disputes through arbitration or litigation may extend over several years. At March 31, 2005, our insurance companies had $10.2 million, mostly in excess of one year old, that has not been paid to us under contracts subject to arbitration proceedings which we initiated. We estimate that there could be up to an additional $22.0 million of incurred losses and loss expenses and other balances due under the subject contracts.

12

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

	We have a reserve of $20.7 million at March 31, 2005 for potential collectibility issues related to reinsurance recoverables, including disputed amounts and associated expenses. While we believe the reserve is adequate based on information currently available, conditions may change or additional information might be obtained which may require us to change the reserve in the future. We periodically review our financial exposure to the reinsurance market and the level of our reserve and continue to take actions in an attempt to mitigate our exposure to possible loss.
(4)	EARNINGS PER SHARE
	The following table details the numerator and denominator used in the earnings per share calculations.

	Three months ended March 31,
	2005		2004
Net earnings	$	57,318	$	44,568
Weighted average common shares outstanding		68,827		64,249
Dilutive effect of outstanding options (determined using the treasury stock method)		1,059		1,167
Dilutive effect of convertible debt (determined using the treasury stock method)		603		1
Weighted average common shares and potential common shares outstanding		70,489		65,417
Anti-dilutive stock options not included in treasury stock method computation		17		—

(5)

SEGMENT AND GEOGRAPHIC INFORMATION

The performance of each segment is evaluated by our management based on net earnings. Net earnings is calculated after tax and after all corporate expense allocations, including interest expense on debt incurred for the purchase of subsidiaries. The following tables show information by business segment and geographic location. Geographic location is determined by physical location of our offices and does not represent the location of insureds or reinsureds from whom the business was generated. Effective January 1, 2005, we consolidated our largest underwriting agency (agency segment) into our life insurance company (insurance company segment).

13

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

	Insurance				Other
	Company		Agency		Operations		Corporate			Total
Three months ended March 31, 2005
Revenue:
Domestic	$	284,643	$	12,762	$	1,906	$	579		$	299,890
Foreign		68,837		10,951		—		—			79,788
Inter-segment		96		21,529		—		—			21,625
Total segment revenue	$	353,576	$	45,242	$	1,906	$	579			401,303
Inter-segment eliminations											(21,625	)
Consolidated total revenue										$	379,678
Net earnings (loss):
Domestic	$	36,817	$	7,044	$	1,091	$	(3,391	)	$	41,561
Foreign		11,647		1,973		—		—			13,620
Total segment net earnings (loss)	$	48,464	$	9,017	$	1,091	$	(3,391	)		55,181
Inter-segment eliminations											2,137
Consolidated net earnings										$	57,318
Other items:
Net investment income	$	20,076	$	1,356	$	539	$	370		$	22,341
Depreciation and amortization		1,207		1,925		126		452			3,710
Interest expense (benefit)		61		2,030		189		(472	)		1,808
Capital expenditures		598		590		—		402			1,590
Income tax expense		21,161		6,010		224		477			27,872
Inter-segment eliminations											1,311
Consolidated income tax expense from continuing operations										$	29,183

14

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

	Insurance				Other
	Company		Agency		Operations		Corporate			Total
Three months ended March 31, 2004
Revenue:
Domestic	$	189,901	$	18,987	$	2,154	$	398		$	211,440
Foreign		53,796		12,782		—		—			66,578
Inter-segment		—		21,696		—		—			21,696
Total segment revenue	$	243,697	$	53,465	$	2,154	$	398			299,714
Inter-segment eliminations											(21,696	)
Consolidated total revenue										$	278,018
Net earnings (loss):
Domestic	$	24,630	$	6,896	$	1,193	$	(731	)	$	31,988
Foreign		8,890		5,191		—		—			14,081
Total segment net earnings (loss)	$	33,520	$	12,087	$	1,193	$	(731	)		46,069
Inter-segment eliminations											(1,267	)
Loss from discontinued operations, net of taxes											(234	)
Consolidated net earnings										$	44,568
Other items:
Net investment income	$	13,353	$	840	$	89	$	153		$	14,435
Depreciation and amortization		811		2,435		126		18			3,390
Interest expense (benefit)		348		2,040		190		(366	)		2,212
Capital expenditures		853		131		4		641			1,629
Income tax expense		15,722		8,200		418		617			24,957
Inter-segment eliminations											(1,228	)
Consolidated income tax expense from continuing operations										$	23,729

15

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

The following tables present selected revenue items by line of business.

	Three months ended March 31,
	2005		2004
Diversified financial products	$	106,851	$	56,399
Group life, accident and health		128,945		79,389
Aviation		33,817		24,269
London market account		26,711		26,114
Other specialty lines		20,976		12,571
		317,300		198,742
Discontinued lines		2,817		18,321
Net earned premium	$	320,117	$	217,063
Property and casualty	$	27,519	$	30,851
Accident and health		5,557		12,992
Fee and commission income	$	33,076	$	43,843

(6)	SUPPLEMENTAL INFORMATION
	Supplemental cash flow information was as follows.

	Three months ended March 31,
	2005		2004
Interest paid	$	2,106	$	3,270
Income taxes paid		13,886		31,558
Comprehensive income		39,705		49,581
Ceding commissions netted with policy acquisition costs		30,700		29,892

16

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

(7)	COMMITMENTS AND CONTINGENCIES
	Litigation
	We are party to lawsuits, arbitrations and other proceedings that arise in the normal course of our business. Many of such lawsuits, arbitrations and other proceedings involve claims under policies that we underwrite as an insurer or reinsurer, the liabilities for which, we believe, have been adequately included in our loss reserves. Also, from time to time, we are a party to lawsuits, arbitrations and other proceedings that relate to disputes over contractual relationships with third parties, or that involve alleged errors and omissions on the part of our subsidiaries. We have provided accruals for these items to the extent we deem the losses probable and reasonably estimable.
	A reinsurance broker subsidiary has been named along with several other defendants in legal proceedings by certain insurance company members of a discontinued workers’ compensation reinsurance facility commonly known as the Unicover Pool. The claims in the proceedings are for unspecified damages, which are not presently quantifiable. Some of the other defendants in the various proceedings have settled the claims made by the plaintiffs for undisclosed sums. Although we believe we have meritorious defenses to the allegations, in January 2005, we entered into a settlement agreement with two of the insurance company plaintiffs and with a third insurance company that had threatened to institute legal proceedings against our subsidiary. The settlement agreements contained a release of all claims for an amount that had no impact on our consolidated results of operations or cash flows as the claims were covered by insurance. For the remaining proceedings, we believe that we have meritorious defenses to the allegations and intend to vigorously defend against the claims made in the proceedings.
	We are presently engaged in litigation initiated by the appointed liquidator of a former reinsurer concerning payments made to us prior to the date of the appointment of the liquidator. The disputed payments, totaling $10.3 million, were made by the now insolvent reinsurer in connection with a commutation agreement. Our understanding is that such litigation is one of a number of similar actions brought by the liquidator. We intend to vigorously contest the action.
	Although the ultimate outcome of these matters cannot be determined at this time, based on present information, the availability of insurance coverage and advice received from our outside legal counsel, we believe the resolution of these matters will not have a material adverse effect on our consolidated financial position, results of operations or cash flows.
	We have received subpoenas and other inquiries from various state officials and regulatory bodies concerning on-going investigations of insurance marketing and sales practices. Published press reports indicate that numerous inquiries of this nature have been sent to insurance companies as part of industry-wide investigations. We intend to cooperate fully with such investigations and, based on presently available information, do not expect any adverse results from such investigations.

17

HCC Insurance Holdings, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited, tables in thousands, except per share data, continued)

Indemnification

In conjunction with the sales of business assets and subsidiaries, we have provided indemnifications to the buyers. Certain indemnifications cover typical representations and warranties related to our responsibilities to perform under the sales contract. Other indemnifications agree to reimburse the purchasers for taxes or ERISA-related amounts, if any, assessed after the sale date but related to pre-sale activities. Certain of these indemnifications have no time limit. For those with a time limit, the longest such indemnification expires on December 31, 2009.

If a claim has not been made, we have not recorded a liability related to these indemnifications since, at this time, we do not know of any circumstances that would create a claim. We cannot estimate the maximum potential amount covered by these indemnifications as the indemnifications cover many matters, operations and possibilities, the total exposure to which is not presently quantifiable.

One indemnification was given by a company we acquired, prior to our ownership, in connection with the sale of a subsidiary. This indemnification, which has no time limit or cap, covers certain net losses incurred on insurance contracts entered into before the sale date. The indemnification requires that we reimburse the purchaser after it pays covered claims to policyholders. We have a liability of $3.2 million recorded at March 31, 2005 to cover our anticipated payments under this indemnification.

18

Item 2.      Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

We primarily receive our revenue from earned premium derived from our insurance company operations, fee and commission income generated by our agency operations, ceding commissions in excess of policy acquisition costs earned by our insurance company operations, and investment income earned by all of our operations. Our core underwriting activities involve providing insurance products in the diversified financial products, group life, accident and health, aviation, London market account and other specialty lines of business, each of which is marketed by our insurance companies and agencies either through a network of independent agents and brokers or directly to customers.

During the past several years, we have substantially increased our shareholders’ equity through retaining our earnings, other than dividends to shareholders, and through the issuance of our common stock, thereby enabling us to increase the underwriting capacity of our insurance companies and make acquisitions. With this additional equity, we increased underwriting activity across many of our businesses, adding new lines of business and emphasizing lines of business and individual opportunities with the most favorable underwriting characteristics at a particular point in the insurance cycle. As an insurer, we also purchase reinsurance for many of our lines of business. We purchase different types of reinsurance in amounts we consider appropriate for our individual lines of business based on market conditions and the level of risk we wish to retain.

After a three year period when premium rates rose substantially, particularly in our diversified financial product line of business, premium rates in several of our lines of business have softened in 2004 and 2005, although the rate decreases have been more gradual than the prior increases so that our underwriting activities remain very profitable. During the past several years, we have expanded our underwriting activities and increased our retentions in response to these market conditions. During 2005, we have again increased our retentions on most of our lines of business. We expect these increased retentions to increase our net written and earned premiums and to contribute additional underwriting profits to our net earnings.

We acquired USSC Holdings, Inc. and its subsidiary, United States Surety Company, in 2005 and several other entities in 2004. The results of operations of these companies are included in our condensed consolidated financial statements beginning on the effective date of each acquisition.

The following section discusses our key operating results. Amounts in the following tables are in thousands, except for earnings per share, percentages, and ratios.

19

Results of Operations

Net earnings increased 29% to $57.3 million, and net earnings per diluted share increased 19% to $0.81 in 2005 from $44.6 million, and $0.68 per diluted share, in 2004. Improved underwriting profits and growth in net investment income contributed to the increase in 2005 net earnings.

The following table sets forth the relationships of certain income statement items as a percent of total revenue.

	Three months ended March 31,
	2005			2004
Net earned premium		84.3	%		78.1	%
Fee and commission income		8.7			15.7
Net investment income		5.9			5.2
Net realized investment gain (loss)		—			0.2
Other operating income		1.1			0.8
Total revenue		100.0			100.0
Loss and loss adjustment expense, net		49.0			45.3
Total operating expense		27.7			29.3
Interest expense		0.5			0.8
Earnings from continuing operations before income tax expense		22.8			24.6
Income tax expense		7.7			8.5
Earnings from continuing operations		15.1	%		16.1	%

Total revenue increased 37% to $379.7 million in 2005, driven by significant growth in net earned premium in our two largest lines, diversified financial products and group life, accident and health. Approximately 11% of the increase in 2005 revenue was due to the acquisition of subsidiaries and startup of new operations. We expect total revenue to continue to grow throughout 2005.

Gross written premium, net written premium and net earned premium are detailed below. We have experienced increases in premium due to increased retentions, organic growth of our diversified financial products line of business, and acquisitions. See the Insurance Company Segment section below for further discussion of the relationship and changes in premium revenue.

	Three months ended March 31,
	2005		2004
Gross written premium	$	475,119	$	459,581
Net written premium		357,352		235,955
Net earned premium		320,117		217,063

The table below shows the source of our fee and commission income.

	Three months ended March 31,
	2005		2004
Agencies	$	22,469	$	31,094
Insurance companies		10,607		12,749
Fee and commission income	$	33,076	$	43,843

20

Fee and commission income decreased to $33.1 million in 2005, as expected, as we have decreased the level of ceded insurance by our insurance company subsidiaries in certain lines of business. These reductions reduced the revenue from our reinsurance brokers and the ceding commissions earned by our insurance companies and underwriting agencies. Also, effective January 1, 2005, we consolidated the operations of our largest underwriting agency into our life insurance company. The higher levels of retentions resulted in increased underwriting revenue in our insurance company subsidiaries.

The sources of net investment income are detailed below.

	Three months ended March 31,
	2005			2004
Fixed income securities	$	17,506		$	12,795
Short-term investments		4,193			1,980
Other investments		1,767			129
Total investment income		23,466			14,904
Investment expense		(1,125	)		(469	)
Net investment income	$	22,341		$	14,435

Net investment income increased 55% to $22.3 million in 2005. This increase was due to higher investment assets, which increased to $2.6 billion at March 31, 2005 compared to $1.9 billion at March 31, 2004, and an increase in yield. The growth in investment assets resulted from significant cash flow from operations, our public offering of stock in the fourth quarter of 2004, commutations of reinsurance recoverables and the expansion of our diversified financial products line of business, which has a longer time period between reporting and payment of claims. During the past year, we shifted some funds from short-term investments to higher yielding fixed income securities and increased the mix of tax exempt municipal bonds in our portfolio. We expect investment assets to continue to increase during 2005, consistent with the expected growth in revenue. If market interest rates continue to rise, investment income will accelerate since short-term investments and current maturities from our long-term portfolio, as well as operating cash flow and investment income, could be invested at higher rates.

During the first quarter of 2005, our unrealized gain on fixed income securities was reduced to $0.7 million from $20.7 million at the end of 2004, due to rising market interest rates. During April 2005, we recovered $7.7 million of the unrealized gains. The amounts, less the related income tax effects, are recorded in other comprehensive income.

Information about our portfolio of fixed income securities was as follows:

	Three months ended March 31,
	2005			2004
Average yield		3.92	%		4.08	%
Average tax equivalent yield		4.82	%		4.76	%
Weighted average maturity	7.4 years			4.8 years
Weighted average duration	4.8 years			4.0 years

21

Other operating income increased in 2005 compared to the prior year, primarily from income related to two mortgage impairment insurance policies, which are written as insurance polices but treated for accounting purposes as derivative financial instruments. Period to period comparisons in this category may vary substantially depending on other operating investments or dispositions of such investments.

Compensation expense increased 25% in 2005, primarily due to increased incentive compensation related to increased profitability and to subsidiaries acquired or formed in 2004 and 2005. Our number of employees declined slightly from March 31, 2004.

Other operating expense increased $3.9 million in 2005. The increase was principally due to the operations of subsidiaries acquired or formed in 2004 and 2005, as well as higher accounting fees and litigation expense.

Our effective income tax rate on earnings from continuing operations was 33.7% for 2005, compared to 34.6% for 2004. The effective tax rate decreased primarily because our tax exempt interest income increased as a percentage of our pre-tax income.

At March 31, 2005, book value per share was $20.10, up from $19.45 at December 31, 2004. Total assets were $6.1 billion and shareholders’ equity was $1.4 billion, up from $5.9 billion and $1.3 billion, respectively, at December 31, 2004.

Segments

Insurance Company Segment

Net earnings of our insurance company segment increased 45% to $48.5 million in 2005 compared to $33.5 million in 2004. Increased retentions, which resulted in higher earned premium, and increased investment income contributed to the growth in segment net earnings. Effective January 1, 2005, we consolidated the operations of our largest underwriting agency into our life insurance company, which will reduce fee and commission income of our agency segment but increase the underwriting profitability of our insurance company segment. We expect net earnings from our insurance companies to continue to grow during 2005.

The following table details premium amounts and their percentages of gross written premium.

	Three months ended March 31,
	2005						2004
	Amount			%			Amount			%
Direct	$	398,281			84	%	$	371,961			81	%
Reinsurance assumed		76,838			16			87,620			19
Gross written premium		475,119			100			459,581			100
Reinsurance ceded		(117,767	)		(25	)		(223,626	)		(49	)
Net written premium		357,352			75			235,955			51
Change in unearned premium		(37,235	)		(8	)		(18,892	)		(4	)
Net earned premium	$	320,117			67	%	$	217,063			47	%

22

The following tables provide premium information by line of business.

	Gross			Net		NWP as			Net
	written			written		% of			earned
	premium			premium		GWP			premium
Three months ended March 31, 2005
Diversified financial products	$	199,072		$	145,997		73	%	$	106,851
Group life, accident and health		150,082			129,449		86			128,945
Aviation		49,102			32,126		65			33,817
London market account		43,196			28,912		67			26,711
Other specialty lines		35,072			20,627		59			20,976
		476,524			357,111		75			317,300
Discontinued lines		(1,405	)		241	nm				2,817
Totals	$	475,119		$	357,352		75	%	$	320,117
Three months ended March 31, 2004
Diversified financial products	$	170,866		$	71,508		42	%	$	56,399
Group life, accident and health		146,654			77,967		53			79,389
Aviation		43,133			20,950		49			24,269
London market account		56,700			32,717		58			26,114
Other specialty lines		31,020			18,905		61			12,571
		448,373			222,047		50			198,742
Discontinued lines		11,208			13,908	nm				18,321
Totals	$	459,581		$	235,955		51	%	$	217,063

     nm — Not meaningful comparison

23

Gross written premium increased 3% to $475.1 million in 2005. We expect reduced or no gross premium growth for the remainder of 2005 while we maintain our underwriting discipline if rates continue to soften and if competition increases. Net written premium increased 51% to $357.4 million and net earned premium increased 47% to $320.1 million. These increases were due to higher retention levels on most non-catastrophe business as underwriting profitability remained consistent. Net written premium is expected to continue to increase for the remainder of 2005, for the same reason. The overall percentage of retained risk increased to 75% in 2005 from 51% in 2004. We consider our overall market to be relatively stable and, as long as our margins remain above an acceptable level, we will continue to retain more of the risk. We are very disciplined underwriters and will not hesitate to reduce our net writings if market conditions deteriorate below our projected profitability targets.

The changes in premium volume and retention levels between years resulted principally from the following factors:

•   The largest gross and net premium growth was in our diversified financial products line of business. We experienced growth in our professional indemnity and surety business due to organic growth and acquisitions. Our directors’ and officers’ liability premium declined in 2005 due to our underwriting discipline following increased competition and premium rate reductions. Our growth in net written premium was due to increased retentions resulting from a reduction of proportional reinsurance, some of which has been replaced by excess of loss reinsurance.

•   While competition continues to result in some premium rate reductions in our group life, accident and health and aviation lines of business, profit margins remain at acceptable levels and, therefore, we increased our retentions in 2005.

•   We reduced our London market account premium writings due to more selective underwriting in response to reduced premium rates from increased competition. Risk retention in this line of business usually is lower than most of our other active lines of business, due to the high level of catastrophe exposure. Retained premium is higher because protection is predominantly purchased on an excess of loss basis and not using proportional reinsurance.

•   Written premium in our other specialty lines of business increased incrementally between periods.

24

The table below shows the composition of net incurred loss and loss adjustment expense.

	Three months ended March 31,
	2005					2004
			Loss					Loss
	Amount		ratio			Amount		ratio
Deficiency / (redundancy)	$	1,591		0.5	%	$	2,153		1.0	%
All other net incurred loss and loss adjustment expense		184,472		57.6			123,711		57.0
Net incurred loss and loss and loss adjustment expense	$	186,063		58.1	%	$	125,864		58.0	%

Our net loss and loss adjustment deficiency was $1.6 million in 2005 compared to $2.2 million in 2004. Deficiencies and redundancies in the reserves occur as we continually review our loss reserves with our actuaries, increasing or reducing loss reserves as a result of such reviews and as losses are finally settled and claims exposures are reduced. We have no material exposure to environmental or asbestos losses and believe we have provided for all material net incurred losses.

Our gross loss ratio was 55.7% in 2005 and 62.2% in 2004. The following table provides comparative net loss ratios by line of business.

	Three months ended March 31,
	2005					2004
	Net		Net			Net		Net
	earned		loss			earned		loss
	premium		ratio			premium		ratio
Diversified financial products	$	106,851		49.1	%	$	56,399		46.3	%
Group life, accident and health		128,945		69.0			79,389		62.9
Aviation		33,817		51.6			24,269		62.5
London market account		26,711		44.6			26,114		29.6
Other specialty lines		20,976		59.5			12,571		61.2
		317,300		57.8			198,742		53.6
Discontinued lines		2,817		100.0			18,321		105.2
Totals	$	320,117		58.1	%	$	217,063		58.0	%
Expense ratio				26.4					25.3
Combined ratio				84.5	%				83.3	%

25

Comments on significant changes in net loss ratios by line of business follow:

•   Group life, accident and health — The 2005 net loss ratio was higher than 2004 as a result of increased pricing competition, which has kept the increase in premium rates lower than the trend in medical costs. However, underwriting margins in this line of business remain very acceptable.

•   Aviation — Underwriting results were better than expected in 2005 as projected losses did not materialize.

•   London market account — The loss ratio in 2004 was unusually low due to reserve redundancies.

Policy acquisition costs, which are net of the related portion of commissions on reinsurance ceded, increased to $59.4 million during 2005 from $44.8 million in 2004 due to the increase in net earned premium. Policy acquisition costs as a percentage of net earned premium declined to 18.5% in 2005 from 20.6% in 2004 due to a change in the mix of business. The expense ratio increased slightly in 2005 compared to 2004 due to the reduction of ceding commissions in excess of policy acquisition costs, as we reinsured less of the business.

Agency Segment

Revenue from our agency segment decreased to $45.2 million in 2005 from $53.5 million in 2004, primarily due to the consolidation of our largest underwriting agency into our life insurance company effective January 1, 2005 and the overall effect of ceding less reinsurance. As a result, segment net earnings also decreased in 2005 to $9.0 million from $12.1 million in 2004. We expect the revenue and net earnings of this segment to continue to decrease in 2005. However, while these actions will result in less fee and commission income to our agency segment, they will result in increased insurance company revenue and net earnings.

Liquidity and Capital Resources

We receive substantial cash from premiums, reinsurance recoverables, fee and commission income and, to a lesser extent, investment income and proceeds from sales and redemptions of investments. Our principal cash outflows are for the payment of claims and loss adjustment expenses, premium payments to reinsurers, purchases of investments, debt service, policy acquisition costs, operating expenses, taxes and dividends.

Our cash provided by operating activities has been strong in recent years, principally due to our increasing net earnings, growth in net written premium and net loss reserves due to organic growth and increased retentions, commutations of selected reinsurance agreements, and expansion of our diversified financial products line of business.

Cash provided by operating activities decreased in 2005 compared to 2004 due to timing differences in the payment of claims and the collection of related reinsurance recoverables and the collection of receivables and the payment of related liabilities. We expect these timing differences to reverse during the remainder of the year. In addition, the timing of transactions in our trading portfolio had a negative effect on cash provided by operating activities. Comparisons of the cash flow from trading securities may vary substantially depending on acquisitions or dispositions in any given period.

26

The components of our net operating cash flows are detailed in the following table.

	Three months ended March 31,
	2005			2004
Net earnings	$	57,318		$	44,568
Change in premium, claims and other receivables, net of reinsurance, other payables and restricted cash		(64,810	)		(5,506	)
Change in unearned premium, net		35,458			19,266
Change in loss and loss adjustment expense payable, net of reinsurance recoverables		50,190			50,005
Change in trading portfolio		(41,328	)		(7,762	)
Other, net		(2,919	)		294
Cash provided by operating activities	$	33,909		$	100,865

We maintain a substantial level of cash and liquid short-term investments to meet anticipated payment obligations. Our combined cash and investment portfolio increased $85.9 million during 2005 and totaled $2.6 billion at March 31, 2005. Included in short-term investments at March 31, 2005 is $191.1 million of funds held by underwriting agencies or reinsurance brokers for the benefit of insurance or reinsurance clients. We earn the interest income on these funds.

Our $200.0 million Revolving Loan Facility allows us to borrow up to the maximum allowed by the facility on a revolving basis until the facility expires on November 30, 2009. We had no borrowings as of March 31, 2005. We have filed registration statements with the United States Securities and Exchange Commission that provide a shelf registration for an aggregate of $750.0 million of our securities, of which we have $525.0 million available to be issued. These securities may be debt securities, equity securities or a combination thereof.

Our debt to total capital ratio was 18.2% at March 31, 2005 and 19.0% at December 31, 2004.

We believe that our operating cash flows, investments, bank facility and shelf registration will provide sufficient sources of liquidity to meet our current operating needs.

27

Critical Accounting Policies

We have made no changes in our methods of application of our critical accounting policies from the information provided in our Annual Report on Form 10-K for the year ended December 31, 2004.

Recent Accounting Pronouncements

The FASB has issued SFAS No. 123(R), Share-Based Payment, which requires stock-based employee compensation to be deducted from net income beginning January 1, 2006. We are currently reviewing the requirements of SFAS No. 123(R), including the valuation methods permitted. Using the Black-Scholes single option pricing model that we utilized for the SFAS No. 123 calculations included in Note 1 in the Notes to Condensed Consolidated Financial Statements, compensation costs related to nonvested awards approximated $18.5 million at March 31, 2005. If we ultimately utilize the Black-Scholes model for purposes of SFAS No. 123(R), this cost will be recognized through the last vesting period in 2010, although approximately 78% will be recognized through 2007.

In March 2004, the EITF reached a consensus on Issue 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. EITF 03-1 provides guidance with respect to the meaning of other-than-temporary impairment and its application to investments classified as either available for sale or held to maturity under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities, and investments accounted for under the cost method or the equity method. In September 2004, the FASB issued a Staff Position, FSP EITF Issue 03-1-1, delaying the effective date for the measurement and recognition guidance included in EITF 03-1, and also issued an exposure draft, FSP EITF Issue 03-1a, which proposes guidance relating to debt securities that are impaired because of interest rate and/or sector spread increases. The delay in the effective date for the measurement and recognition guidance of EITF 03-1 did not suspend existing requirements for assessing whether investment impairments are other-than-temporary. It is expected that the proposed guidance under FSP EITF Issue 03-1a will be finalized in 2005. We are monitoring the outcome of the EITF’s consideration of these issues.

Item 3.      Quantitative and Qualitative Disclosures About Market Risk

There have been no material changes in market risk from the information provided in Item 7A. , “Quantitative and Qualitative Disclosures About Market Risk” in our Annual Report on Form 10-K for the year ended December 31, 2004.

28

Item 4.      Controls and Procedures

a.   Disclosure Controls and Procedures

As of March 31, 2005, an evaluation was carried out under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (“the Act”). Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us to comply with our disclosure obligations under the Act is recorded, processed, summarized and reported by us within the timeframes specified by the Securities and Exchange Commission.

b.   Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting during the first quarter of 2005 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

29

Part II – Other Information

Item 1.	Legal Proceedings
	We are party to lawsuits, arbitrations and other proceedings that arise in the normal course of our business. Many of such lawsuits, arbitrations and other proceedings involve claims under policies that we underwrite as an insurer or reinsurer, the liabilities for which, we believe, have been adequately included in our loss reserves. Also, from time to time, we are a party to lawsuits, arbitrations and other proceedings that relate to disputes over contractual relationships with third parties, or that involve alleged errors and omissions on the part of our subsidiaries. We have provided accruals for these items to the extent we deem the losses probable and reasonably estimable.
	A reinsurance broker subsidiary has been named along with several other defendants in legal proceedings by certain insurance company members of a discontinued workers’ compensation reinsurance facility commonly known as the Unicover Pool. The claims in the proceedings are for unspecified damages, which are not presently quantifiable. Some of the other defendants in the various proceedings have settled the claims made by the plaintiffs for undisclosed sums. Although we believe we have meritorious defenses to the allegations, in January 2005, we entered into a settlement agreement with two of the insurance company plaintiffs and with a third insurance company that had threatened to institute legal proceedings against our subsidiary. The settlement agreements contained a release of all claims for an amount that had no impact on our consolidated results of operations or cash flows as the claims were covered by insurance. For the remaining proceedings, we believe that we have meritorious defenses to the allegations and intend to vigorously defend against the claims made in the proceedings.
	We are presently engaged in litigation initiated by the appointed liquidator of a former reinsurer concerning payments made to us prior to the date of the appointment of the liquidator. The disputed payments, totaling $10.3 million, were made by the now insolvent reinsurer in connection with a commutation agreement. Our understanding is that such litigation is one of a number of similar actions brought by the liquidator. We intend to vigorously contest the action.
	Although the ultimate outcome of these matters cannot be determined at this time, based on present information, the availability of insurance coverage and advice received from our outside legal counsel, we believe the resolution of these matters will not have a material adverse effect on our consolidated financial position, results of operations or cash flows.
	We have received subpoenas and other inquiries from various state officials and regulatory bodies concerning on-going investigations of insurance marketing and sales practices. Published press reports indicate that numerous inquiries of this nature have been sent to insurance companies as part of industry-wide investigations. We intend to cooperate fully with such investigations and, based on presently available information, do not expect any adverse results from such investigations.

30

Item 6.       Exhibits

     (a)       Exhibits

10.1	Employment Agreement effective March 1, 2005 between HCC Insurance Holdings, Inc. and Craig J. Kelbel.
31.1	Certification by Chief Executive Officer.
31.2	Certification by Chief Financial Officer.
32.1	Certification with respect to quarterly report.

SIGNATURES

Pursuant to the requirements 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.

	HCC Insurance Holdings, Inc.
	(Registrant)
May 9, 2005	/s/ Stephen L. Way
(Date)	Stephen L. Way, Chairman of the Board, Chief Executive Officer and President
May 9, 2005	/s/ Edward H. Ellis, Jr.
(Date)	Edward H. Ellis, Jr., Executive Vice President and Chief Financial Officer

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Index to Exhibits

10.1	Employment Agreement effective March 1, 2005 between HCC Insurance Holdings, Inc. and Craig J. Kelbel.
31.1	Certification by Chief Executive Officer.
31.2	Certification by Chief Financial Officer.
32.1	Certification with respect to quarterly report.

EX-10

TABLE OF CONTENTS

EXHIBIT 10.1

EMPLOYMENT AGREEMENT

     This EMPLOYMENT AGREEMENT (“Agreement”) is entered into effective as of the 1^st day of March, 2005 (the “Effective Date”), among HCC Insurance Holdings, Inc. (the “Company” or “HCC”) and CRAIG J. KELBEL (“Executive”). Executive and the Company are sometimes collectively referred to herein as the “Parties” and individually as a “Party.”

RECITALS:

     WHEREAS, Executive is to be employed as an officer or key employee of the Company;

     WHEREAS, it is the desire of the Company to engage Executive as an officer or key employee of the Company; and

     WHEREAS, Executive is desirous of being employed by the Company on the terms herein provided; and

     WHEREAS, Executive and the Company have previously entered into that certain employment agreement effective as of January 10, 2002 (the “2002 Agreement”), which 2002 Agreement is to be terminated and replaced herewith.

     NOW, THEREFORE, in consideration of the foregoing and of the respective covenants and agreements set forth below, the Parties agree as follows:

AGREEMENT

     1. Term. Effective as of the Effective Date, the Company hereby employs Executive, and Executive hereby accepts such employment, on the terms and conditions set forth herein, for the period (the “Basic Term”) commencing on the Effective Date and expiring at 11:59 p.m. on December 31, 2008 (unless sooner terminated as hereinafter set forth). At the end of the Basic Term, this Agreement may be renewed for an additional period to be specified by the Company (the “Renewal Term”) if the Company offers Executive at least the same compensation and terms as in this Agreement for the Basic Term. In the event of such a renewal, unless specified otherwise, the rights and obligations of the Company and Executive hereunder shall apply during the Renewal Term.

     2. Duties.

          (a) Duties as Executive of the Company. Executive shall, subject to the supervision of the Chief Executive Officer of the Company (the “HCC CEO”), act as an Executive Vice President of the Company and the President and Chief Executive Officer of HCC Life Insurance Company (“HCC Life”) in the ordinary course of its business with all such powers with respect to such management and control as may be reasonably incident to such responsibilities. Executive shall exercise oversight responsibilities for all life, accident, health and other specialty divisions (as designated by the HCC CEO) of the Company including HCC Life and ASU International. Additionally, if required, Executive shall participate in such other special corporate projects as shall be designated by the HCC CEO including mergers and acquisitions activities and

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oversight of newly acquired subsidiaries. During normal business hours, Executive shall devote his full time and attention to diligently attending to the business of the Company. During the Basic Term and the Renewal Term, Executive shall not directly or indirectly render any services of a business, commercial, or professional nature to any other person, firm, corporation, or organization, whether for compensation or otherwise, without the prior written consent of the HCC CEO. However, Executive shall have the right to engage in such activities as may be appropriate in order to manage his personal investments so long as such activities do not materially interfere or conflict with the performance of his duties to the Company hereunder. The conduct of such activity shall not be deemed to materially interfere or conflict with Executive’s performance of his duties until Executive has been notified in writing thereof and given a reasonable period in which to cure the same.

          (b) Other Duties. If elected, Executive agrees to serve as a member of such managerial committees of the Company and of any of its direct or indirect parents or subsidiaries (collectively, “Affiliates”) and in one or more executive offices of any of the Company’s Affiliates, provided Executive is indemnified for serving in any and all such capacities in a manner acceptable to the Company and Executive. If elected, Executive agrees that he shall not be entitled to receive any compensation for serving as a director of HCC Life, or in any capacities for the Company or the Company’s Affiliates other than the compensation to be paid to Executive by the Company pursuant to this Agreement.

     3. Compensation and Related Matters.

          (a) Base Salary. Executive shall receive an initial base salary paid by the Company of $450,000 per year from the Effective Date throughout the Basic Term. At the sole discretion of the Company, during the Renewal Term, the base salary may be increased. For purposes of this Agreement, “Base Salary” shall mean Executive’s initial base salary or, if increased, then the increased base salary. The Base Salary shall be paid in substantially equal monthly installments.

          (b) Bonus Plan.

          (1) Incentive Bonus. In addition to the Base Salary, Executive shall be eligible to receive an annual cash bonus (the “Incentive Bonus”) in an amount to be determined based upon the performance of HCC Life through Executive’s participation in the annual HCC Life bonus pool. Executive shall be entitled to receive a maximum of 12.5% of the overall HCC Life bonus pool and the amount of such participation shall be subject to the specific approval of the HCC CEO, but shall not exceed $250,000 per year. Additionally, in the event that ASU or any other subsidiaries or divisions designated for Executive’s supervision by the HCC CEO achieve their respective HCC-approved GAAP operating budget, before any reforecasts (the “Operating Budget”) for the subject calendar year, then Executive shall received an additional Incentive Bonus in an amount equal to $50,000 for ASU and $25,000 for each such other subsidiary or division which achieves its Operating Budget. The aggregate Incentive Bonus shall be paid to Executive not later than May 1 of the calendar year following the subject calendar year.

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          (2) Performance Bonus. Executive shall be eligible to receive an additional discretionary cash bonus (the “Performance Bonus”) in an amount, which may be zero, to be determined in the sole discretion of the HCC CEO. The HCC CEO shall consider the personal performance of the Executive, the results of the HCC Life and the other subsidiaries and divisions supervised by Executive, acquisitions and the overall results of HCC as well as other considerations in determining the amount of the Performance Bonus, if any.

          (3) No Minimum Bonus. There shall be no minimum bonus payable to Executive as an Incentive Bonus or Performance Bonus under this Section 3(b).

          (c) Expenses. During the Basic Term, Executive shall be entitled to receive prompt reimbursement for all reasonable expenses incurred by him (in accordance with the policies and procedures established by the Company) in performing services hereunder, provided that Executive properly accounts therefor in accordance with Company policy.

          (d) Other Benefits. Executive shall be entitled to participate in or receive benefits (“Other Benefits”) under any compensation, employee benefit plan, or other arrangement made generally available by the Company, subject to and on a basis consistent with the terms, conditions, and overall administration of such plan or arrangement. Nothing paid to Executive under any plan or arrangement presently in effect or made available in the future shall be deemed to be in lieu of the Base Salary payable to Executive pursuant to paragraph (a) of this Section 3.

          (e) Vacations. Executive shall be entitled to 20 days paid vacation per year during the Basic Term. There shall be no carryover of unused vacation from year to year. For purposes of this Section, weekends shall not count as vacation days, and Executive shall also be entitled to all paid holidays and personal days given by the Company to its senior executive officers.

          (f) Proration. Any payments or benefits payable to Executive hereunder in respect of any calendar year during which Executive is employed by the Company for less than the entire year, unless otherwise provided in the applicable plan or arrangement, shall be prorated in accordance with the number of days in such calendar year during which he is so employed. Notwithstanding the foregoing, any payments pursuant to Sections 4(c) or 4(d) this Agreement shall not be subject to proration.

          (g) Perquisites. Executive shall be entitled to receive the perquisites and fringe benefits provided for on Appendix 1 hereof.

          (h) Consulting Period. Effective January 1, 2009, unless this Agreement has been renewed, Executive shall become a consultant to the Company for the period (the “Consulting Period”) beginning on such date and ending on December 31 of such year equal to the number of full years Executive has served as a full-time employee of the Company after January 1, 2002. Executive shall receive an annual consulting fee of $50,000 and be required to perform 250 hours of consulting services (the “Consulting Services”) per year. The Consulting Services to be provided shall be commensurate with Executive’s training, background, experience and prior duties with the Company. Executive agrees to make himself reasonably available to provide such Consulting

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Services during the Consulting Period; provided, however, the Company agrees that it shall provide reasonable advance notice to Executive of its expected consulting needs and any request for Consulting Services hereunder shall not unreasonably interfere with Executive’s other business activities and personal affairs, as determined in good faith by Executive. In addition, Executive shall not be required to perform any requested Consulting Services which, in Executive’s good faith opinion, would cause Executive to breach any fiduciary duty or contractual obligation Executive may have to another employer. Executive’s travel time shall constitute hours of Consulting Services for purposes of this Paragraph. The Parties contemplate that, when appropriate, the Consulting Services shall be performed at Executive’s office, residence or at the Company’s executive offices in Houston, Texas and may be performed at such other locations only as they may mutually agree upon. Executive shall be promptly reimbursed for all travel and other expenses reasonably incurred by Executive in rendering the Consulting Services. Other than the consulting fee, Executive shall be entitled to no further benefits from the Company. Executive shall not be entitled to engagement hereunder as a consultant if he is no longer employed by the Company at the time the Consulting Period is to begin, unless Executive has been terminated without Cause. In the event Executive dies or becomes disabled during the Consulting Period, Executive or his legal representative shall continue to receive the annual consulting fee for the remainder of the Consulting Period. The Company’s obligation to retain Executive as a Consultant and to pay the consulting fee hereunder shall immediately terminate if Executive violates the non-competition, non-solicitation or confidentiality provisions of this Agreement, or if after such non-competition period, Executive competes during the Consulting Period.

          (i) Relocation. Upon request to the HCC CEO, Executive shall be permitted to relocate to California at any time after July 1, 2005, subject to compliance with the terms of this Section 3(i) and the terms of the HCC Relocation Policy as it may be modified by this Agreement. In this regard, the Parties agree that following such relocation:

     (1) Executive to spend approximately 40% of his working time in the Company’s home office in Atlanta, 25% in the Company’s Costa Mesa office and 20% visiting the regional offices other than Costa Mesa.

     (2) Company executives or other subsidiary executives shall not visit Costa Mesa office outside of the normal scope of business.

     (3) Executive shall provide clear and frequent communications to the HCC CEO on all material operational matters and for prior approval where appropriate.

     (4) Executive to attend all quarterly reviews at the Company, ASU and PIA as required.

     (5) Executive will be available to attend corporate meetings in Houston upon reasonable notice, as required by the HCC CEO.

     (6) Executive shall be permitted up to $25,000 to cover any moving expenses to California or Atlanta.

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     4. Termination.

          (a) Definitions.

               (1) “Cause” shall mean:

                    (i) Material dishonesty which is not the result of an inadvertent or innocent mistake of Executive with respect to the Company or any of its Affiliates;

                    (ii) Willful misfeasance or nonfeasance of duty by Executive;

                    (iii) Violation by Executive of any material term of this Agreement; or

                    (iv) Conviction of Executive of any crime other than a vehicular offense that could reflect in some fashion unfavorably upon the Company or its Affiliates.

Executive may not be terminated for Cause unless and until there has been delivered to Executive written notice from the HCC CEO supplying the particulars of his acts or omissions that the HCC Board of Directors believes constitute Cause, a reasonable period of time (not less than 30 days) has been given to Executive after such notice to either cure the same or to meet with the HCC CEO with his attorney if so desired by Executive, and following which the HCC CEO reaffirms the previous decision of the HCC Board of Directors.

               (2) A “Disability” shall mean the absence of Executive from Executive’s duties with the Company on a full-time basis for 180 consecutive days, or 180 days in a 365-day period, as a result of incapacity due to mental or physical illness which results in Executive being unable to perform the essential functions of his position, with or without reasonable accommodation.

               (3) A “Good Reason” shall mean any of the following (without Executive’s express written consent):

                    (i) The taking of any action by the Company that would adversely affect Executive’s participation in, or materially reduce Executive’s benefits under, any employee benefit plan, unless such failure or such taking of any action adversely affects persons similarly situated in the Company generally;

                    (ii) Executive’s involuntary relocation to any place, other than the executive offices as a result of the Company relocating its executive offices, exceeding a distance of 50 miles from the place of Executive’s normal place of employment on the Effective Date, except for reasonably required travel by Executive on the Company’s business;

                    (iii) Any material breach by the Company of any material provision of this Agreement; or

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               (iv) Any failure by the Company to obtain the assumption and performance of this Agreement by any successor (by merger, consolidation, or otherwise) or assign of the Company.

However, Good Reason shall exist with respect to an above specified matter only if such matter is not corrected, or begun to be corrected, by the Company within 30 days after the Company’s receipt of written notice of such matter from Executive. In no event shall a termination by Executive occurring more than 90 days following the date of the event described be a termination for Good Reason due to such event, whether that event is corrected or not.

               (4) “Termination Date” shall mean the date Executive terminates or is terminated for any reason pursuant to this Agreement.

          (b) Termination Without Cause or for Good Reason: Benefits. In the event there is a termination by the Company without Cause or if Executive Terminates for Good Reason (a “Termination Event”), this Agreement shall terminate and Executive shall be entitled to the following severance benefits:

               (1) For the remainder of the Basic Term or the Renewal Term, as the case may be, after the Termination Date, Base Salary (as defined in Section 3(a)), at the rate in effect immediately prior to the Termination Event, payable at the Company’s sole election, either (i) at the same intervals as Executive was previously being compensated, until the end of the Basic or Renewal Term, or (ii) within 30 days after the Termination Date in a lump sum, appropriately discounted to take into consideration the lump sum early payment;

               (2) All accrued Incentive Bonus compensation, unreimbursed expenses and Other Benefits through the Termination Date. Such amounts shall be paid to Executive in a lump sum in cash within 30 days after the Termination Date; and

               (3) Executive shall be free to accept other employment during such period, and other than as set forth herein, there shall be no offset of any employment compensation earned by Executive in such other employment during such period against payments due Executive under this Section 4, and there shall be no offset in any compensation received from such other employment against the Base Salary set forth above, unless the Executive is employed in a position of competing with the Company as described in Section 5 below.

          (c) Termination In Event of Death: Benefits. If Executive’s employment is terminated by reason of Executive’s death during the Basic Term or the Renewal Term, as the case may be, this Agreement shall terminate without further obligation to Executive’s legal representatives under this Agreement, other than for payment of all accrued Base Salary, unreimbursed expenses, and the timely payment or provision of Other Benefits through the date of death and the amount of any Incentive Bonus relating to a prior year unpaid as of the date of death. Such amounts shall be paid to Executive’s estate or beneficiary, as applicable, in a lump sum in cash within 90 days after the date of death. In addition, Executive’s legal representatives shall receive, at the same time as if Executive were still an employee, Executive’s Base Salary for the lesser of one

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year or the date this Agreement would otherwise have terminated. With respect to the provision of Other Benefits, the term Other Benefits as used in this Section 4(c) shall include, without limitation, and Executive’s estate and/or beneficiaries shall be entitled to receive, benefits at least equal to the most favorable benefits provided by the Company to the estates and beneficiaries of other executive level employees of the Company under such plans, programs, practices, and policies relating to death benefits, if any, as in effect with respect to other executives and their beneficiaries at any time during the 120-day period immediately preceding the date of death.

          (d) Termination In Event of Disability: Benefits. If Executive’s employment is terminated by reason of Executive’s Disability during the Basic Term or the Renewal Term, as the case may be, this Agreement shall terminate but the Company shall pay the Executive the amount of any Incentive Bonus relating to a prior year unpaid as of the date of disability and continue to pay the Base Salary for a period of 90 days and thereafter shall make such additional payment for the Basic Term or the Renewal Term, as the case may be, so that the after-tax effect of Executive’s compensation is the same as before the Disability with such additional payment, reduced by any long-term disability insurance proceeds received by Executive from policies obtained or paid for by the Company. Executive’s Other Benefits shall continue to the end of the Basic Term. Executive shall not be entitled to any subsequent bonuses.

          (e) Voluntary Termination by Executive and Termination for Cause: Benefits. Executive may terminate his employment with the Company by giving written notice of his intent and stating an effective Termination Date at least 90 days after the date of such notice; provided, however, that the Company may accelerate such effective date by paying Executive through the proposed Termination Date (but not to exceed 90 days). Upon such a termination by Executive or upon termination for Cause by the Company, this Agreement shall terminate and the Company shall pay to Executive all accrued Base Salary, unreimbursed expenses and Other Benefits through the Termination Date. Such amounts shall be paid to Executive in a lump sum in cash within 30 days after the Termination Date.

          (f) Director Positions. Executive agrees that upon termination of employment, for any reason, at the request of the Chairman of the Board, Executive will immediately tender his resignation from any and all Board positions held with the Company and/or any of its Affiliates.

     5. Non-Competition, Non-Solicitation and Confidentiality. At the inception of this employment relationship, and continuing on an ongoing basis, the Company and HCC Life agree to give Executive access to Confidential Information (including, without limitation, Confidential Information, as defined below, of the Company’s Affiliates) that Executive has not had access to or knowledge of before the execution of this Agreement. At the time this Agreement is made, the Company and HCC Life agree to provide Executive with initial and ongoing Specialized Training, which Executive has not had access to or knowledge of before the execution of this Agreement. “Specialized Training” includes the training the Company provides to its employees that is unique to its business and enhances Executive’s ability to perform Executive’s job duties effectively. Specialized Training includes, without limitation, orientation training; sales methods/techniques training; operation methods training; and computer and systems training.

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          (a) Non-Competition During Employment. Executive agrees that, in consideration for the Company’s and HCC Life’s promise to provide Executive with Confidential Information and Specialized Training, during the Basic Term and any Renewal Term, he will not compete with the Company by engaging in the conception, design, development, production, marketing, or servicing of any product or service that is substantially similar to the products or services which the Company provides, and that he will not work for, in any capacity, assist, or become affiliated with as an owner, partner, etc., either directly or indirectly, any individual or business which offers or performs services, or offers or provides products substantially similar to the services and products provided by Company or HCC Life; provided, however, Executive shall not be prevented from owning no more than 2% of any company whose stock is publicly traded.

          (b) Conflicts of Interest. Executive agrees that during the Basic Term and any Renewal Term, he will not engage, either directly or indirectly, in any activity (a “Conflict of Interest”) that might adversely affect the Company or its Affiliates, including ownership of a material interest in any supplier, contractor, distributor, subcontractor, customer or other entity with which the Company does business or accepting any material payment, service, loan, gift, trip, entertainment, or other favor from a supplier, contractor, distributor, subcontractor, customer or other entity with which the Company does business, and that Executive will promptly inform the HCC CEO as to each offer received by Executive to engage in any such activity. Executive further agrees to disclose to the Company any other facts of which Executive becomes aware which in Executive’s good faith judgment could reasonably be expected to involve or give rise to a Conflict of Interest or potential Conflict of Interest.

          (c) Non-Competition After Termination. Executive agrees that in order to protect the Company’s and HCC Life’s Confidential Information, it is necessary to enter into the following restrictive covenant, which is ancillary to the enforceable promises between the Company and Executive otherwise contained in this Agreement. Executive agrees that Executive shall not, at any time during the Restricted Period (as hereinafter defined), within any of the markets in which the Company has sold products or services or formulated a plan to sell products or services into a market during the last 12 months of Executive’s employ or which the Company enters into within three months thereafter, engage in or contribute Executive’s knowledge to any work which is competitive with or similar to a product, process, apparatus, service, or development on which Executive worked or with respect to which Executive had access to Confidential Information or Specialized Training while employed by the Company. It is understood that the geographical area set forth in this covenant is divisible so that if this clause is invalid or unenforceable in an included geographic area, that area is severable and the clause remains in effect for the remaining included geographic areas in which the clause is valid.

          (d) Non-Solicitation. To protect the Company’s and HCC Life’s Confidential Information, and in the event of Executive’s termination of employment for any reason whatsoever, whether by Executive or the Company, it is necessary to enter into the following restrictive covenant, which is ancillary to the enforceable promises between the Company and Executive otherwise contained in this Agreement. Executive covenants and agrees that during Executive’s employment and for the Restricted Period following termination of Executive’s employment, Executive will not, directly or indirectly, either individually or as a principal, partner, agent, consultant, contractor,

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employee or as a director or officer of any corporation or association, or in any other manner or capacity whatsoever, except on behalf of the Company, solicit business, or attempt to solicit business, and products or services competitive with products or services sold by the Company, from the Company’s clients or customers, or those individuals or entities with whom the Company did business during Executive’s employment, including, without limitation, the Company’s prospective or potential customers or clients. Executive further agrees that during Executive’s employment and for the Restricted Period, Executive will not, either directly or indirectly, or by acting in concert with others, solicit or influence any Company employee to leave the Company’s employment.

          (e) Restricted Period. For the purpose of this Agreement, “Restricted Period” means a period of: (1) 12 months for Executive’s non-competition obligations pursuant to Section 5(c) and 24 months for Executive’s non-solicitation obligations pursuant to Section 5(d) after (i) termination of Executive’s employment during the Basic Term for any reason or (ii) termination of Executive’s employment at the end of the Basic Term if the Company offers to renew this Agreement for the Renewal Term with at least the same compensation and terms as the Basic Term and Executive rejects the renewal; or (2) a period as determined by the Company in accordance with this Section 5(e) of up to 12 months for each of Executive’s non-competition obligations pursuant to Section 5(c) and for Executive’s non-solicitation obligations pursuant to Section 5(d) after termination of Executive’s employment at the end of the Basic Term if the Company fails to offer to renew this Agreement for the Renewal Term with at least the same compensation and terms as the Basic Term. In the event of such a termination of Executive’s employment pursuant to Section 5(e)(2), the Company shall give notice to Executive of the duration of the Restricted Period for each of Executive’s non-competition obligations pursuant to Section 5(c) and for Executive’s non-solicitation obligations pursuant to Section 5(d), as calculated in months and not to exceed 12 months for each and shall pay to Executive an amount equal to current monthly Base Salary divided by two and multiplied by the aggregate number of months designated by the Company as the Restricted Period hereunder. The Restricted Period for the non-competition and the non-solicitation obligations may be different and any payment by the Company will be allocated 50% to the non-competition obligations and 50% to the non-solicitation obligations. The Restricted Period shall commence at the time Executive ceases to be a full-time employee of the Company. There shall be no payment required in connection with the Restricted Period in the event of a termination of employment pursuant to Section 5(e)(1). The Company may determine that there will be no Restricted Period under Section 5(e)(2) and in such event, no amount will be payable to Executive under this Section 5(e).

          (f) Confidential Information. Executive agrees that he will not, except as the Company or HCC Life may otherwise consent or direct in writing, reveal or disclose, sell, use, lecture upon, publish or otherwise disclose to any third party any Confidential Information or proprietary information of the Company or HCC Life, or authorize anyone else to do these things at any time either during or subsequent to his employment with the Company. This Paragraph shall continue in full force and effect after termination of Executive’s employment and after the termination of this Agreement. Executive’s obligations under this Paragraph with respect to any specific Confidential Information and proprietary information shall cease when that specific portion of the Confidential Information and proprietary information becomes publicly known, in its entirety

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and without combining portions of such information obtained separately. It is understood that such Confidential Information and proprietary information of the Company and HCC Life include matters that Executive conceives or develops, as well as matters Executive learns from other employees of the Company or HCC Life. “Confidential Information” is defined to include information: (1) disclosed to or known by Executive as a consequence of or through his employment with the Company; (2) not generally known outside the Company or HCC Life; and (3) that relates to any aspect of the Company, HCC Life or their business, finances, operation plans, budgets, research, or strategic development. “Confidential Information” includes, but is not limited to, the Company’s and HCC Life’s trade secrets, proprietary information, financial documents, long range plans, customer lists, employer compensation, marketing strategy, data bases, costing data, computer software developed by the Company or HCC Life, investments made by the Company or HCC Life, and any information provided to the Company or HCC Life by a third party under restrictions against disclosure or use by the Company, HCC Life or others.

          (g) Return of Documents, Equipment, Etc. All writings, records, and other documents and things comprising, containing, describing, discussing, explaining, or evidencing any Confidential Information, and all equipment, components, parts, tools, and the like in Executive’s custody or possession that have been obtained or prepared in the course of Executive’s employment with the Company shall be the exclusive property of the Company or HCC Life, shall not be copied and/or removed from the premises of the Company, except in pursuit of the business of the Company, and shall be delivered to the Company or HCC Life, without Executive retaining any copies, upon notification of the termination of Executive’s employment or at any other time requested by the Company or HCC Life. The Company and HCC Life shall have the right to retain, access, and inspect all property of Executive of any kind in the office, work area, and on the premises of the Company upon termination of Executive’s employment and at any time during employment by the Company to ensure compliance with the terms of this Agreement.

          (h) Reaffirm Obligations. Upon termination of Executive’s employment with the Company, Executive, if requested by Company or HCC Life, shall reaffirm in writing Executive’s recognition of the importance of maintaining the confidentiality of the Company’s and HCC Life’s Confidential Information and proprietary information, and reaffirm any other obligations set forth in this Agreement.

          (i) Prior Disclosure. Executive represents and warrants that Executive has not used or disclosed any Confidential Information he may have obtained from the Company or HCC Life prior to signing this Agreement, in any way inconsistent with the provisions of this Agreement.

          (j) No Previous Restrictive Agreements. Executive represents that, except as disclosed in writing to the Company, Executive is not bound by the terms of any agreement with any previous employer or other party to refrain from using or disclosing any trade secret or confidential or proprietary information in the course of Executive’s employment by the Company or to refrain from competing, directly or indirectly, with the business of such previous employer or any other party. Executive further represents that Executive’s performance of all the terms of this Agreement and Executive’s work duties for the Company does not and will not breach any agreement to keep in confidence proprietary information, knowledge or data acquired by Executive in confidence or in trust prior to Executive’s employment with the Company, and Executive will not disclose to the

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Company or induce the Company to use any confidential or proprietary information or material belonging to any previous employer or other party.

          (k) Breach. Executive agrees that any breach of Sections 5(a) through (g) above cannot be remedied solely by money damages, and that in addition to any other remedies Company or HCC Life may have, Company and HCC Life are entitled to obtain injunctive relief against Executive. Nothing herein, however, shall be construed as limiting the Company’s or HCC Life’s right to pursue any other available remedy at law or in equity, including recovery of damages and termination of this Agreement and/or any termination or offset against any payments that may be due pursuant to this Agreement.

          (l) Right to Enter Agreement; Payment of Loans. Executive represents and covenants to the Company that he has full power and authority to enter into this Agreement and that the execution of this Agreement will not breach or constitute a default of any other agreement or contract to which he is a party or by which he is bound. Executive further acknowledges that he has repaid all outstanding loans from the Company prior to entering into this Agreement.

          (m) Enforceability. The agreements contained in this Section 5 are independent of the other agreements contained herein. Accordingly, failure of the Company or HCC Life to comply with any of its obligations outside of this Section do not excuse Executive from complying with the agreements contained herein.

          (n) Survivability. The agreements contained in this Section 5 shall survive the termination of this Agreement for any reason.

          (o) Reformation. If a court concludes that any time period or the geographic area specified in Sections 5(c), (d) or (e) of this Agreement are unenforceable, then the time period will be reduced by the number of months, or the geographic area will be reduced by the elimination of the overbroad portion, or both, so that the restrictions may be enforced in the geographic area and for the time to the fullest extent permitted by law.

     6. Assignment. This Agreement cannot be assigned by Executive. The Company may assign this Agreement only to a successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and assets of the Company provided such successor expressly agrees in writing reasonably satisfactory to Executive to assume and perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession and assignment had taken place. Failure of the Company to obtain such written agreement prior to the effectiveness of any such succession shall be a material breach of this Agreement.

     7. Binding Agreement. Executive understands that his obligations under this Agreement are binding upon Executive’s heirs, successors, personal representatives, and legal representatives.

     8. Notices. All notices pursuant to this Agreement shall be in writing and sent certified mail, return receipt requested, addressed as set forth below, or by delivering the same in person to

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such party, or by transmission by facsimile to the number set forth below (which shall not constitute notice). Notice deposited in the United States Mail, mailed in the manner described hereinabove, shall be effective upon deposit. Notice given in any other manner shall be effective only if and when received:

If to Executive:	Craig J. Kelbel
	12202 Preece Court
	Cypress, Texas 77429
	Fax: (281) 340-8470
If to Company:	HCC Insurance Holdings, Inc.
	13403 Northwest Freeway
	Houston, Texas 77040
	Attn: General Counsel
	Fax: (713) 744-9648
with a copy (which shall not
constitute notice) to:	Arthur S. Berner, Esq.
	Haynes and Boone, L.L.P.
	1 Houston Center
	1221 McKinney, Suite 2100
	Houston, Texas 77010
	Fax: (713) 236-5417

     9. Waiver. No waiver by either party to this Agreement of any right to enforce any term or condition of this Agreement, or of any breach hereof, shall be deemed a waiver of such right in the future or of any other right or remedy available under this Agreement.

     10. Severability. If any provision of this Agreement is determined to be void, invalid, unenforceable, or against public policy, such provisions shall be deemed severable from the Agreement, and the remaining provisions of the Agreement will remain unaffected and in full force and effect.

     11. Entire Agreement. The terms and provisions contained herein shall constitute the entire agreement between the parties with respect to Executive’s employment with Company during the time period covered by this Agreement. This Agreement replaces and supersedes any and all existing Agreements entered into between Executive and the Company relating generally to the same subject matter, if any, and shall be binding upon Executive’s heirs, executors, administrators, or other legal representatives or assigns.

     12. Modification of Agreement. This Agreement may not be changed or modified or released or discharged or abandoned or otherwise terminated, in whole or in part, except by an instrument in writing signed by Executive and an officer or other authorized executive of Company.

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     13. Understand Agreement. Executive represents and warrants that he has read and understood each and every provision of this Agreement, and Executive understands that he has the right to obtain advice from legal counsel of his choice, if necessary and desired, in order to interpret any and all provisions of this Agreement, and that Executive has freely and voluntarily entered into this Agreement.

     14. GOVERNING LAW. THIS AGREEMENT SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF TEXAS, WITHOUT REGARD TO ITS CONFLICTS OF LAWS PRINCIPLES.

     15. Jurisdiction and Venue. With respect to any litigation regarding this Agreement, Executive agrees to venue in the state or federal courts in Harris County, Texas, and agrees to waive and does hereby waive any defenses and/or arguments based upon improper venue and/or lack of personal jurisdiction. By entering into this Agreement, Executive agrees to personal jurisdiction in the state and federal courts in Harris County, Texas.

     16. Tolling. If Executive violates any of the restrictions contained in Sections (c) or (d), the Restricted Period, respectively, will be suspended and will not run in favor of Executive from the time of the commencement of any violation until the time when Executive cures the violation to the Company’s satisfaction.

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     IN WITNESS WHEREOF, the Parties have executed this Agreement in multiple copies, effective as of the date first written above.

EXECUTIVE:		COMPANY:
		HCC Insurance Holdings, Inc.
By:	/s/ CRAIG J. KELBEL	By:	/s/ STEPHEN L. WAY
	CRAIG J. KELBEL		STEPHEN L. WAY
			President & Chief Executive Officer

Signature Page
Employment Agreement - Kelbel

APPENDIX 1

1.	Executive shall be entitled to the use of a corporate membership (to be owned by the Company) at one country club to be agreed by the HCC CEO. Monthly dues for such membership shall be paid by the Company and the initial membership costs associated with such membership shall not exceed $100,000.
2.	Car allowance of $1,000 per month.
3.	First class domestic business travel and club class international business travel using upgrades through Company Travel Department.
4.	Up to $2,500 monthly expense for furnished corporate apartment in Atlanta, Georgia.

EX-31.1

Exhibit 31.1

CERTIFICATION BY CHIEF EXECUTIVE OFFICER

I, Stephen L. Way, certify that:

1.	I have reviewed this quarterly report on Form 10-Q of HCC Insurance Holdings, Inc.;
2.	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.	Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4.	The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have:

a.	Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b.	Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
c.	Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d.	Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.   The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors:

a.	All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b.	Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

May 9, 2005	/s/ Stephen L. Way
(Date)	Stephen L. Way, Chairman of the Board, Chief Executive Officer and President

EX-31.2

Exhibit 31.2

CERTIFICATION BY CHIEF FINANCIAL OFFICER

I, Edward H. Ellis, Jr., certify that:

1.	I have reviewed this quarterly report on Form 10-Q of HCC Insurance Holdings, Inc.;
2.	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.	Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4.	The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have:

a.	Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b.	Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
c.	Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d.	Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.   The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors:

a.	All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b.	Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

May 9, 2005	/s/ Edward H. Ellis, Jr.
(Date)	Edward H. Ellis, Jr., Executive Vice President and Chief Financial Officer

EX-32.1

Exhibit 32.1

CERTIFICATION WITH RESPECT TO
QUARTERLY REPORT OF
HCC INSURANCE HOLDINGS, INC.

The undersigned, being the Chief Executive Officer and Chief Financial Officer of HCC Insurance Holdings, Inc. (the “Company”), pursuant to 18 U.S.C. § 1350 as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002, do hereby certify to the best of their knowledge with respect to the Quarterly Report of the Company on Form 10-Q, as filed with the Securities and Exchange Commission for the quarter ended March 31, 2005 (the “Report”):

1.	that the Report fully complies with all requirements of Section 13(a) and 15(d) of the Securities Exchange Act of 1934, as amended; and
2.	that the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company as of and for the periods presented in the Report.

May 9, 2005	/s/ Stephen L. Way
(Date)	Stephen L. Way, Chairman of the Board, Chief Executive Officer and President
May 9, 2005	/s/ Edward H. Ellis, Jr.
(Date)	Edward H. Ellis, Jr., Executive Vice President and Chief Financial Officer

A signed original of this written statement required by §906 has been provided to HCC Insurance Holdings, Inc. and will be retained by HCC Insurance Holdings, Inc. and furnished to the Securities and Exchange Commission or its staff upon request.