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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
 
FORM 10-Q
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the quarterly period ended September 30, 2017
 
Or
 
 
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number:  001-16209

 archnewlogo11a20.jpg
ARCH CAPITAL GROUP LTD.
(Exact name of registrant as specified in its charter)

Bermuda
Not applicable
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
 
 
Waterloo House, Ground Floor
 
100 Pitts Bay Road, Pembroke HM 08, Bermuda
(441) 278-9250
(Address of principal executive offices)
(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 þ     No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ     No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated Filer þ Accelerated Filer o Non-accelerated Filer o Smaller reporting
company o Emerging growth company o
If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o  
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o   No þ
As of October 31, 2017, there were 130,874,024 common shares, $0.0033 par value per share, of the registrant outstanding.



Table of Contents

ARCH CAPITAL GROUP LTD.
 
INDEX TO FORM 10-Q
 
 
 
 
Page No.
 
PART I
 
 
 
 
 2
Item 1.
 
 4
Item 2.
 
Item 3.
 
Item 4.
 
 
 
 
 
 
PART II
 
 
 
 
76 
Item 1.
 
Item 1A.
 
76 
Item 2.
 
Item 5.
 
Item 6.
 
 
 

 
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PART I.  FINANCIAL INFORMATION
Cautionary Note Regarding Forward-Looking Statements 
The Private Securities Litigation Reform Act of 1995 (“PSLRA”) provides a “safe harbor” for forward-looking statements. This release or any other written or oral statements made by or on behalf of us may include forward-looking statements, which reflect our current views with respect to future events and financial performance. All statements other than statements of historical fact included in or incorporated by reference in this release are forward-looking statements. Forward-looking statements, for purposes of the PSLRA or otherwise, can generally be identified by the use of forward-looking terminology such as “may,” “will,” “expect,” “intend,” “estimate,” “anticipate,” “believe” or “continue” and similar statements of a future or forward-looking nature or their negative or variations or similar terminology.
Forward-looking statements involve our current assessment of risks and uncertainties. Actual events and results may differ materially from those expressed or implied in these statements. Important factors that could cause actual events or results to differ materially from those indicated in such statements are discussed below and elsewhere in this release and in our periodic reports filed with the Securities and Exchange Commission (the “SEC”), and include:
our ability to successfully implement our business strategy during “soft” as well as “hard” markets;
acceptance of our business strategy, security and financial condition by rating agencies and regulators, as well as by brokers and our insureds and reinsureds;
the integration of United Guaranty and any other businesses we have acquired or may acquire into our existing operations;
our ability to maintain or improve our ratings, which may be affected by our ability to raise additional equity or debt financings, by ratings agencies’ existing or new policies and practices, as well as other factors described herein;
general economic and market conditions (including inflation, interest rates, foreign currency exchange rates, prevailing credit terms and the depth and duration of a recession) and conditions specific to the reinsurance and insurance markets (including the length and magnitude of the current “soft” market) in which we operate;
competition, including increased competition, on the basis of pricing, capacity (including alternative forms of capital), coverage terms or other factors;
developments in the world’s financial and capital markets and our access to such markets;
our ability to successfully enhance, integrate and maintain operating procedures (including information technology) to effectively support our current and new business;
the loss of key personnel;
accuracy of those estimates and judgments utilized in the preparation of our financial statements, including those related to revenue recognition, insurance and other reserves, reinsurance recoverables, investment valuations, intangible assets, bad debts, income taxes, contingencies and litigation, and any determination to use the deposit method of accounting, which for a relatively new insurance and reinsurance company, like our company, are even more difficult to make than those made in a mature company since relatively limited historical information has been reported to us through September 30, 2017;
greater than expected loss ratios on business written by us and adverse development on claim and/or claim expense liabilities related to business written by our insurance and reinsurance subsidiaries;
severity and/or frequency of losses;
claims for natural or man-made catastrophic events in our insurance, reinsurance and mortgage businesses could cause large losses and substantial volatility in our results of operations;
acts of terrorism, political unrest and other hostilities or other unforecasted and unpredictable events;
availability to us of reinsurance to manage our gross and net exposures and the cost of such reinsurance;
the failure of reinsurers, managing general agents, third party administrators or others to meet their obligations to us;
the timing of loss payments being faster or the receipt of reinsurance recoverables being slower than anticipated by us;
our investment performance, including legislative or regulatory developments that may adversely affect the fair value of our investments;

 
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changes in general economic conditions, including new or continued sovereign debt concerns in Eurozone countries or downgrades of U.S. securities by credit rating agencies, which could affect our business, financial condition and results of operations;
the volatility of our shareholders’ equity from foreign currency fluctuations, which could increase due to us not matching portions of our projected liabilities in foreign currencies with investments in the same currencies;
losses relating to aviation business and business produced by a certain managing underwriting agency for which we may be liable to the purchaser of our prior reinsurance business or to others in connection with the May 5, 2000 asset sale described in our periodic reports filed with the SEC;
changes in accounting principles or policies or in our application of such accounting principles or policies;
changes in the political environment of certain countries in which we operate or underwrite business;
statutory or regulatory developments, including as to tax policy and matters and insurance and other regulatory matters such as the adoption of proposed legislation that would affect Bermuda-headquartered companies and/or Bermuda-based insurers or reinsurers and/or changes in regulations or tax laws applicable to us, our subsidiaries, brokers or customers; and
the other matters set forth under Item 1A “Risk Factors”, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and other sections of our Annual Report on Form 10-K for the year ended December 31, 2016, as well as the other factors set forth in our other documents on file with the SEC, and management’s response to any of the aforementioned factors.
 
All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by these cautionary statements. The foregoing review of important factors should not be construed as exhaustive and should be read in conjunction with other cautionary statements that are included herein or elsewhere. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. 


 
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ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
 
 
Page No.
 
 
 
 
 
 
 
 
 
September 30, 2017 (unaudited) and December 31, 2016
 
 
 
 
 
 
For the three and nine month periods ended September 30, 2017 and 2016 (unaudited)
 
 
 
 
 
 
For the three and nine month periods ended September 30, 2017 and 2016 (unaudited)
 
 
 
 
 
 
For the nine month periods ended September 30, 2017 and 2016 (unaudited)
 
 
 
 
 
 
For the nine month periods ended September 30, 2017 and 2016 (unaudited)
 
 
 
 
Notes to Consolidated Financial Statements (unaudited)
 
 
 
11 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


 
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Report of Independent Registered Public Accounting Firm
 
To the Board of Directors and Shareholders of Arch Capital Group Ltd.:
 
We have reviewed the accompanying consolidated balance sheet of Arch Capital Group Ltd. and its subsidiaries (the “Company”) as of September 30, 2017, and the related consolidated statements of income and comprehensive income for the three-month and nine-month periods ended September 30, 2017 and September 30, 2016 and the consolidated statements of changes in shareholders’ equity and cash flows for the nine-month periods ended September 30, 2017 and September 30, 2016. These interim financial statements are the responsibility of the Company’s management.
 
We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
 
Based on our review, we are not aware of any material modifications that should be made to the accompanying consolidated interim financial statements for them to be in conformity with accounting principles generally accepted in the United States of America.
 
We previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet as of December 31, 2016, and the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for the year then ended (not presented herein), and in our report dated March 1, 2017, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 2016, is fairly stated, in all material respects in relation to the consolidated balance sheet from which it has been derived.
 
/s/ PricewaterhouseCoopers LLP
 
November 3, 2017

 
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ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(U.S. dollars in thousands, except share data)
 
(Unaudited)
 
 
 
September 30,
2017
 
December 31,
2016
Assets
 

 
 

Investments:
 

 
 

Fixed maturities available for sale, at fair value (amortized cost: $13,722,581 and $13,522,671)
$
13,792,903

 
$
13,426,577

Short-term investments available for sale, at fair value (amortized cost: $1,645,873 and $611,878)
1,646,036

 
612,005

Collateral received under securities lending, at fair value (amortized cost: $543,243 and $762,554)
543,252

 
762,565

Equity securities available for sale, at fair value (cost: $401,674 and $475,085)
477,143

 
518,041

Other investments available for sale, at fair value (cost: $205,828 and $149,077)
260,339

 
167,970

Investments accounted for using the fair value option
4,249,634

 
3,421,220

Investments accounted for using the equity method
962,574

 
811,273

Total investments
21,931,881

 
19,719,651

 
 
 
 
Cash
862,361

 
842,942

Accrued investment income
101,104

 
124,483

Securities pledged under securities lending, at fair value (amortized cost: $529,700 and $746,409)
528,212

 
744,980

Premiums receivable
1,269,678

 
1,072,435

Reinsurance recoverable on unpaid and paid losses and loss adjustment expenses
2,506,015

 
2,114,138

Contractholder receivables
1,864,348

 
1,717,436

Ceded unearned premiums
947,135

 
859,567

Deferred acquisition costs
531,196

 
447,560

Receivable for securities sold
385,952

 
58,284

Goodwill and intangible assets
684,405

 
781,553

Other assets
1,012,510

 
889,080

Total assets
$
32,624,797

 
$
29,372,109

 
 
 
 
Liabilities
 
 
 
Reserve for losses and loss adjustment expenses
$
11,351,267

 
$
10,200,960

Unearned premiums
3,751,550

 
3,406,870

Reinsurance balances payable
352,006

 
300,407

Contractholder payables
1,864,348

 
1,717,436

Collateral held for insured obligations
345,726

 
301,406

Senior notes
1,732,726

 
1,732,258

Revolving credit agreement borrowings
826,242

 
756,650

Securities lending payable
543,243

 
762,554

Payable for securities purchased
1,091,464

 
76,183

Other liabilities
788,354

 
806,260

Total liabilities
22,646,926

 
20,060,984

 
 
 
 
Commitments and Contingencies


 


Redeemable noncontrolling interests
205,829

 
205,553

 
 
 
 
Shareholders' Equity
 
 
 
Non-cumulative preferred shares
772,555

 
772,555

Convertible non-voting common equivalent preferred shares
489,627

 
1,101,304

Common shares ($0.0033 par, shares issued: 182,924,882 and 174,644,101)
610

 
582

Additional paid-in capital
1,212,960

 
531,687

Retained earnings
8,359,354

 
7,996,701

Accumulated other comprehensive income (loss), net of deferred income tax
129,682

 
(114,541
)
Common shares held in treasury, at cost (shares: 52,058,509 and 51,856,584)
(2,053,644
)
 
(2,034,570
)
Total shareholders' equity available to Arch
8,911,144

 
8,253,718

Non-redeemable noncontrolling interests
860,898

 
851,854

Total shareholders' equity
9,772,042

 
9,105,572

Total liabilities, noncontrolling interests and shareholders' equity
$
32,624,797

 
$
29,372,109


See Notes to Consolidated Financial Statements

 
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ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(U.S. dollars in thousands, except share data)
 
(Unaudited)
 
(Unaudited)
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Revenues
 

 
 

 
 

 
 

Net premiums written
$
1,325,403

 
$
1,014,278

 
$
3,850,358

 
$
3,159,076

Change in unearned premiums
(63,517
)
 
(55,875
)
 
(230,581
)
 
(243,109
)
Net premiums earned
1,261,886

 
958,403

 
3,619,777

 
2,915,967

Net investment income
116,459

 
93,618

 
345,457

 
275,691

Net realized gains (losses)
66,275

 
125,105

 
122,163

 
230,647

 
 
 
 
 
 
 
 
Other-than-temporary impairment losses
(1,878
)
 
(3,867
)
 
(5,415
)
 
(16,999
)
Less investment impairments recognized in other comprehensive income, before taxes

 

 

 
150

Net impairment losses recognized in earnings
(1,878
)
 
(3,867
)
 
(5,415
)
 
(16,849
)
 
 
 
 
 
 
 
 
Other underwriting income
6,064

 
7,980

 
15,519

 
38,251

Equity in net income (loss) of investment funds accounted for using the equity method
31,090

 
16,662

 
111,884

 
32,054

Other income (loss)
(342
)
 
(400
)
 
(3,118
)
 
(432
)
Total revenues
1,479,554

 
1,197,501

 
4,206,267

 
3,475,329

 
 
 
 
 
 
 
 
Expenses
 
 
 
 
 
 
 
Losses and loss adjustment expenses
1,046,141

 
524,183

 
2,288,571

 
1,631,724

Acquisition expenses
193,854

 
161,267

 
566,579

 
501,782

Other operating expenses
170,127

 
153,286

 
514,827

 
460,748

Corporate expenses
17,098

 
18,485

 
69,766

 
45,068

Amortization of intangible assets
31,824

 
4,865

 
93,942

 
14,493

Interest expense
29,510

 
15,943

 
86,935

 
47,713

Net foreign exchange losses (gains)
28,028

 
2,621

 
86,975

 
1,525

Total expenses
1,516,582

 
880,650

 
3,707,595

 
2,703,053

 
 
 
 
 
 
 
 
Income (loss) before income taxes
(37,028
)
 
316,851

 
498,672

 
772,276

Income tax expense
(8,189
)
 
(13,231
)
 
(70,755
)
 
(43,672
)
Net income (loss)
$
(45,217
)
 
$
303,620

 
$
427,917

 
$
728,604

Net (income) loss attributable to noncontrolling interests
11,561

 
(50,748
)
 
(23,279
)
 
(109,879
)
Net income (loss) available to Arch
(33,656
)
 
252,872

 
404,638

 
618,725

Preferred dividends
(12,369
)
 
(5,484
)
 
(34,936
)
 
(16,453
)
Loss on redemption of preferred shares
(6,735
)
 

 
(6,735
)
 

Net income (loss) available to Arch common shareholders
$
(52,760
)
 
$
247,388

 
$
362,967

 
$
602,272

 
 
 
 
 
 
 
 
Net income (loss) per common share and common share equivalent
 

 
 

 
 

 
 

Basic
$
(0.39
)
 
$
2.05

 
$
2.70

 
$
4.99

Diluted
$
(0.39
)
 
$
1.98

 
$
2.61

 
$
4.84

 
 
 
 
 
 
 
 
Weighted average common shares and common share equivalents outstanding
 
 
 
 
 

 
 

Basic
134,885,451

 
120,938,916

 
134,472,129

 
120,656,420

Diluted
134,885,451

 
124,931,653

 
139,222,324

 
124,528,174





See Notes to Consolidated Financial Statements

 
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ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(U.S. dollars in thousands)
 
(Unaudited)
 
(Unaudited)
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Comprehensive Income
 
 
 
 
 

 
 

Net income (loss)
$
(45,217
)
 
$
303,620

 
$
427,917

 
$
728,604

Other comprehensive income (loss), net of deferred income tax
 
 
 
 
 
 
 
Unrealized appreciation (decline) in value of available-for-sale investments:
 
 
 
 
 
 
 
Unrealized holding gains (losses) arising during period
66,462

 
16,281

 
260,223

 
251,722

Portion of other-than-temporary impairment losses recognized in other comprehensive income, net of deferred income tax

 

 

 
(150
)
Reclassification of net realized (gains) losses, net of income taxes, included in net income (loss)
(23,912
)
 
(54,992
)
 
(46,180
)
 
(109,309
)
Foreign currency translation adjustments
8,280

 
(5,312
)
 
29,701

 
(6,150
)
Comprehensive income
5,613

 
259,597

 
671,661

 
864,717

Net (income) loss attributable to noncontrolling interests
11,561

 
(50,748
)
 
(23,279
)
 
(109,879
)
Foreign currency translation adjustments attributable to noncontrolling interests
411

 
(59
)
 
479

 
141

Comprehensive income available to Arch
$
17,585

 
$
208,790

 
$
648,861

 
$
754,979





See Notes to Consolidated Financial Statements

 
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ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(U.S. dollars in thousands)
 
(Unaudited)
 
Nine Months Ended
 
September 30,
 
2017
 
2016
Non-cumulative preferred shares
 

 
 

Balance at beginning of year
$
772,555

 
$
325,000

Preferred shares issued
230,000

 
450,000

Preferred shares redeemed
(230,000
)
 

Balance at end of period
772,555

 
775,000

 
 
 
 
Convertible non-voting common equivalent preferred shares
 
 
 
Balance at beginning of year
1,101,304

 

Preferred shares converted to common shares
(611,677
)
 

Balance at end of period
489,627

 

 
 
 
 
Common shares
 
 
 
Balance at beginning of year
582

 
577

Common shares issued, net
28

 
5

Balance at end of period
610

 
582

 
 
 
 
Additional paid-in capital
 

 
 

Balance at beginning of year
531,687

 
467,339

Preferred shares converted to common shares
611,653

 

Issue costs on preferred shares
(7,946
)
 
(15,101
)
Reversal of original issue costs on redeemed preferred shares
6,735

 

All other
70,831

 
63,966

Balance at end of period
1,212,960

 
516,204

 
 
 
 
Retained earnings
 

 
 

Balance at beginning of year
7,996,701

 
7,332,032

Cumulative effect of an accounting change
(314
)
 

Balance at beginning of year, as adjusted
7,996,387

 
7,332,032

Net income
427,917

 
728,604

Net (income) loss attributable to noncontrolling interests
(23,279
)
 
(109,879
)
Preferred share dividends
(34,936
)
 
(16,453
)
Loss on redemption of preferred shares
(6,735
)
 

Balance at end of period
8,359,354

 
7,934,304

 
 
 
 
Accumulated other comprehensive income (loss), net of deferred income tax
 
 
 
Balance at beginning of year
(114,541
)
 
(16,502
)
Unrealized appreciation (decline) in value of available-for-sale investments, net of deferred income tax:
 
 
 
Balance at beginning of year
(27,641
)
 
50,085

Unrealized holding gains (losses) arising during period, net of reclassification adjustment
214,043

 
142,413

Portion of other-than-temporary impairment losses recognized in other comprehensive income, net of deferred income tax

 
(150
)
Balance at end of period
186,402

 
192,348

Foreign currency translation adjustments:
 
 
 
Balance at beginning of year
(86,900
)
 
(66,587
)
Foreign currency translation adjustments
29,701

 
(6,150
)
Foreign currency translation adjustments attributable to noncontrolling interests
479

 
141

Balance at end of period
(56,720
)
 
(72,596
)
Balance at end of period
129,682

 
119,752

 
 
 
 
Common shares held in treasury, at cost
 
 
 
Balance at beginning of year
(2,034,570
)
 
(1,941,904
)
Shares repurchased for treasury
(19,074
)
 
(89,955
)
Balance at end of period
(2,053,644
)
 
(2,031,859
)
 
 
 
 
Total shareholders’ equity available to Arch
8,911,144

 
7,313,983

Non-redeemable noncontrolling interests
860,898

 
834,808

Total shareholders’ equity
$
9,772,042

 
$
8,148,791


See Notes to Consolidated Financial Statements

 
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ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(U.S. dollars in thousands)
 
(Unaudited)
 
Nine Months Ended
 
September 30,
 
2017
 
2016
Operating Activities
 

 
 

Net income
$
427,917

 
$
728,604

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Net realized (gains) losses
(141,944
)
 
(262,112
)
Net impairment losses recognized in earnings
5,415

 
16,849

Equity in net income or loss of investment funds accounted for using the equity method and other income or loss
(63,784
)
 
8,157

Amortization of intangible assets
93,942

 
14,493

Share-based compensation
58,308

 
46,311

Changes in:
 
 
 
Reserve for losses and loss adjustment expenses, net of unpaid losses and loss adjustment expenses recoverable
602,652

 
277,277

Unearned premiums, net of ceded unearned premiums
230,581

 
243,109

Premiums receivable
(167,143
)
 
(198,909
)
Deferred acquisition costs
(73,631
)
 
(40,906
)
Reinsurance balances payable
37,528

 
49,198

Other items, net
71,293

 
155,068

Net Cash Provided By Operating Activities
1,081,134

 
1,037,139

Investing Activities
 

 
 

Purchases of fixed maturity investments
(28,079,129
)
 
(27,840,555
)
Purchases of equity securities
(667,135
)
 
(377,767
)
Purchases of other investments
(1,406,528
)
 
(1,008,774
)
Proceeds from sales of fixed maturity investments
27,629,474

 
26,731,924

Proceeds from sales of equity securities
751,873

 
464,904

Proceeds from sales, redemptions and maturities of other investments
938,581

 
879,330

Proceeds from redemptions and maturities of fixed maturity investments
747,621

 
540,823

Net settlements of derivative instruments
(20,952
)
 
23,396

Net (purchases) sales of short-term investments
(964,653
)
 
(604,162
)
Change in cash collateral related to securities lending
148,692

 
(27,935
)
Acquisitions, net of cash
(27,709
)
 
(20,911
)
Purchases of fixed assets
(16,862
)
 
(11,565
)
Other
86,145

 
(3,816
)
Net Cash Provided By (Used For) Investing Activities
(880,582
)
 
(1,255,108
)
Financing Activities
 

 
 

Proceeds from issuance of preferred shares, net
222,054

 
434,899

Redemption of preferred shares
(230,000
)
 

Purchases of common shares under share repurchase program

 
(75,256
)
Proceeds from common shares issued, net
(7,484
)
 
(3,785
)
Proceeds from borrowings
238,915

 
46,000

Repayments of borrowings
(172,000
)
 
(179,171
)
Change in cash collateral related to securities lending
(148,692
)
 
27,935

Dividends paid to redeemable noncontrolling interests
(13,491
)
 
(13,491
)
Other
(49,280
)
 
33,113

Preferred dividends paid
(34,936
)
 
(16,453
)
Net Cash Provided By (Used For) Financing Activities
(194,914
)
 
253,791

 
 
 
 
Effects of exchange rate changes on foreign currency cash
13,781

 
(10,332
)
 
 
 
 
Increase (decrease) in cash
19,419

 
25,490

Cash beginning of year
842,942

 
553,326

Cash end of period
$
862,361

 
$
578,816

 
 
 
 
Income taxes paid
$
47,907

 
$
40,742

Interest paid
$
64,613

 
$
35,234


See Notes to Consolidated Financial Statements

 
ACGL 2017 THIRD QUARTER FORM 10-Q
10

Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


1.    General

Arch Capital Group Ltd. (“ACGL”) is a Bermuda public limited liability company which provides insurance, reinsurance and mortgage insurance on a worldwide basis through its wholly-owned subsidiaries. As used herein, the “Company” means ACGL and its subsidiaries. The Company’s consolidated financial statements include the results of Watford Holdings Ltd. and its wholly owned subsidiaries. See Note 3.
On December 31, 2016, the Company completed the acquisition of United Guaranty Corporation, a North Carolina corporation (“UGC”) pursuant to a stock purchase agreement with American International Group, Inc. (“AIG”). The acquisition of UGC (“UGC acquisition”) expanded the scale of Arch’s existing mortgage insurance businesses by combining UGC’s position as the market leader in the U.S. private mortgage insurance industry with Arch’s financial strength and history of innovation, further diversifying the Company’s business profile and customer base.
The interim consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”). All significant intercompany transactions and balances have been eliminated in consolidation. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates and assumptions. In the opinion of management, the accompanying unaudited interim consolidated financial statements reflect all adjustments (consisting of normally recurring accruals) necessary for a fair statement of results on an interim basis. The results of any interim period are not necessarily indicative of the results for a full year or any future periods.
Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted; however, management believes that the disclosures are adequate to make the information presented not misleading. This report should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 (“2016 Form 10-K”), including the Company’s audited consolidated financial statements and related notes.
The Company has reclassified the presentation of certain prior year information to conform to the current presentation, including the presentation of ‘amortization of intangible assets’ on its consolidated statements of income to split out such item
 
(previously reflected in acquisition expenses and/or other operating expenses). Such reclassifications had no effect on the Company’s net income, comprehensive income, shareholders’ equity or cash flows. Tabular amounts are in U.S. Dollars in thousands, except share amounts, unless otherwise noted.
2.    Recent Accounting Pronouncements

Recently Issued Accounting Standards Adopted
The Company adopted Financial Accounting Standards Board (“FASB”) Accounting Standard Update (“ASU”) 2016-09, “Compensation - Stock Compensation (Topic 718) - Improvements to Employee Share-Based Payment Accounting,” effective January 1, 2017. This ASU was issued in the 2016 first quarter to improve and simplify the accounting for employee share-based payment transactions. This ASU provides simplifications with respect to income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows for these types of transactions. With respect to the forfeiture accounting policy election, the Company has elected to account for forfeitures as they occur, which did not result in a material cumulative effect adjustment. With respect to the change in presentation in the statement of cash flows related to excess tax benefits, the Company has applied the guidance prospectively and prior periods have not been adjusted.
Recently Issued Accounting Standards Not Yet Adopted
ASU 2014-09, “Revenue from Contracts with Customers (Topic 606),” was issued in the 2014 second quarter and updated through various ASUs in 2016. This ASU (and as updated in 2016) creates a new comprehensive revenue recognition standard that will serve as a single source of revenue guidance for all companies in all industries. The guidance applies to all companies that either enter into contracts with customers to transfer goods or services or enter into contracts for the transfer of non-financial assets, unless those contracts are within the scope of other standards, such as insurance contracts or financial instruments.The ASU also requires enhanced disclosures about revenue. The ASU is effective in the 2018 first quarter and the Company intends on adopting the ASU using the modified retrospective method, whereby the cumulative effect of adoption will be recognized as an adjustment to retained earnings at the date of initial application. The adoption of this ASU will not impact the Company's insurance premium revenues or revenues from its investment portfolio, which represent a substantial portion of consolidated revenues, but may have an impact on the Company's other revenues. Based on the Company’s evaluation of the impacted revenue streams, the ASU is not expected to have a material effect on the Company’s consolidated financial statements and the cumulative effect adjustment to retained earnings at the date of initial application is not expected to be material.

 
ACGL 2017 THIRD QUARTER FORM 10-Q
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Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


ASU 2016-01, “Financial Instruments - Overall (Subtopic 825-10) - Recognition and Measurement of Financial Assets and Financial Liabilities,” was issued in the 2016 first quarter to enhance the reporting model for financial instruments and to provide improved financial information to readers of the financial statements. Among other provisions focused on improving the recognition and measurement of financial instruments, the ASU requires that equity investments be measured at fair value on the balance sheet with changes in fair value reported in the income statement and that an exit price notion be used when measuring the fair value of financial instruments for disclosure purposes. The ASU is effective in the 2018 first quarter and, aside from limited situations, cannot be early adopted. The Company is currently assessing the impact the implementation of this ASU will have on its consolidated financial statements. The adoption of this ASU is not expected to have a material impact on the Company's financial position, cash flows, or total comprehensive income, but will have a material impact on the Company's results of operations as changes in fair value of equity instruments will be presented in net income rather than other comprehensive income.

ASU 2016-18, "Statement of Cash Flows (Topic 230) - Restricted Cash " was issued in the 2016 fourth quarter. The ASU requires that restricted cash and restricted cash equivalents be included with cash and cash equivalents in the reconciliation of beginning and ending cash on the statements of cash flows. As a result, transfers between cash and cash equivalents and restricted cash and restricted cash equivalents will no longer be presented on the statement of cash flows. The ASU is effective, with retrospective adoption, for interim and annual periods beginning after December 15, 2017, with early adoption permitted. The Company is currently assessing the impact the implementation of this ASU will have on its consolidated financial statements. The adoption of this ASU is not expected to have a material effect on the Company’s results of operations, financial position, comprehensive income or net cash provided from operating activities.

ASU 2017-08, “Receivables - Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities,” was issued in the 2017 first quarter. The ASU amends the amortization period for certain purchased callable debt securities held at a premium by shortening the amortization period for the premium to the earliest call date. The ASU will be effective for the Company on January 1, 2019 and is required to be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. The Company is currently assessing the impact the implementation of this ASU will have on its consolidated financial statements. The adoption of this
 
ASU is not expected to have a material effect on the Company’s results of operations, financial position or cash flows.

ASU 2017-09, “Compensation - Stock Compensation (Topic 718) - Scope of Modification Accounting” was issued in the 2017 second quarter. The ASU provides updated guidance to clarify when to account for a change to the terms or conditions of a share-based payment award as a modification. Under the new guidance, modification accounting is required only if the fair value, the vesting conditions, or the classification of the award (as equity or liability) changes as a result of the change in terms or conditions. The ASU is effective prospectively for all companies for annual periods beginning on or after December 15, 2017, with early adoption permitted. The adoption of this ASU is not expected to have a material effect on the Company’s results of operations, financial position or cash flows.

3.
Variable Interest Entities and Noncontrolling Interests

A variable interest entity (“VIE”) refers to an entity that has characteristics such as (i) insufficient equity at risk to allow the entity to finance its activities without additional financial support or (ii) instances where the equity investors, as a group, do not have characteristics of a controlling financial interest. The primary beneficiary of a VIE is defined as the variable interest holder that is determined to have the controlling financial interest as a result of having both (i) the power to direct the activities of a VIE that most significantly impact the economic performance of the VIE and (ii) the obligation to absorb losses or right to receive benefits from the VIE that could potentially be significant to the VIE. If a company is determined to be the primary beneficiary, it is required to consolidate the VIE in its financial statements.
Watford Holdings Ltd.
In March 2014, the Company invested $100.0 million and acquired approximately 11% of Watford Holdings Ltd.’s common equity and a warrant to purchase additional common equity. Watford Holdings Ltd. is the parent of Watford Re Ltd., a multi-line Bermuda reinsurance company (together with Watford Holdings Ltd., “Watford Re”). Watford Re is considered a VIE and the Company concluded that it is the primary beneficiary of Watford Re. As such, the results of Watford Re are included in the Company’s consolidated financial statements.
The Company does not guarantee or provide credit support for Watford Re, and the Company’s financial exposure to Watford Re is limited to its investment in Watford Re’s common and preferred shares and counterparty credit risk (mitigated by collateral) arising from reinsurance transactions.

 
ACGL 2017 THIRD QUARTER FORM 10-Q
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Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

The following table provides the carrying amount and balance sheet caption in which the assets and liabilities of Watford Re are reported:
 
September 30,
 
December 31,

 
2017
 
2016
Assets
 
 
 
Investments accounted for using the fair value option
$
2,457,365

 
$
1,857,623

Cash
57,151

 
74,893

Accrued investment income
13,718

 
17,017

Premiums receivable
209,985

 
189,911

Reinsurance recoverable on unpaid and paid losses and LAE
37,575

 
24,420

Ceded unearned premiums
23,538

 
12,145

Deferred acquisition costs
87,692

 
86,379

Receivable for securities sold
74,051

 
1,326

Goodwill and intangible assets
7,650

 
7,650

Other assets
132,796

 
111,386

Total assets of consolidated VIE
$
3,101,521

 
$
2,382,750

 
 
 
 
Liabilities
 
 
 
Reserves for losses and loss adjustment expenses
$
735,132

 
$
510,809

Unearned premiums
344,060

 
293,480

Reinsurance balances payable
22,487

 
12,289

Revolving credit agreement borrowings
426,242

 
256,650

Payable for securities purchased
211,065

 
42,922

Other liabilities
174,472

 
88,976

Total liabilities of consolidated VIE
$
1,913,458

 
$
1,205,126

 
 
 
 
Redeemable noncontrolling interests
$
220,529

 
$
220,253

For the nine months ended September 30, 2017, Watford Re generated $221.9 million of cash provided by operating activities, $394.4 million of cash used for investing activities and $152.5 million of cash provided by financing activities, compared to $207.0 million of cash provided by operating activities, $124.0 million of cash used for investing activities and $119.6 million of cash used for financing activities for the nine months ended September 30, 2016.
Non-redeemable noncontrolling interests
The Company accounts for the portion of Watford Re’s common equity attributable to third party investors in the shareholders’ equity section of its consolidated balance sheets. The noncontrolling ownership in Watford Re’s common shares was approximately 89% at September 30, 2017. The portion of Watford Re’s income or loss attributable to third party investors is recorded in the consolidated statements of income in ‘net (income) loss attributable to noncontrolling interests.’
 
The following table sets forth activity in the non-redeemable noncontrolling interests:
 
September 30,
 
2017
 
2016
Three Months Ended
 
 
 
Balance, beginning of period
$
877,456

 
$
788,589

Amounts attributable to noncontrolling interests
(16,147
)
 
46,160

Foreign currency translation adjustments attributable to noncontrolling interests
(411
)
 
59

Balance, end of period
$
860,898

 
$
834,808

 
 
 
 
Nine Months Ended
 
 
 
Balance, beginning of year
$
851,854

 
$
738,831

Amounts attributable to noncontrolling interests
9,523

 
96,118

Foreign currency translation adjustments attributable to noncontrolling interests
(479
)
 
(141
)
Balance, end of period
$
860,898

 
$
834,808

Redeemable noncontrolling interests
The Company accounts for redeemable noncontrolling interests in the mezzanine section of its consolidated balance sheets in accordance with applicable accounting guidance. Such redeemable noncontrolling interests relate to the 9,065,200 cumulative redeemable preference shares (“Watford Preference Shares”) issued in March 2014 with a par value of $0.01 per share and a liquidation preference of $25.00 per share. Preferred dividends, including the accretion of the discount and issuance costs, are included in ‘net (income) loss attributable to noncontrolling interests’ in the Company’s consolidated statements of income.
The following table sets forth activity in the redeemable non-controlling interests:
 
September 30,
 
2017
 
2016
Three Months Ended
 
 
 
Balance, beginning of period
$
205,736

 
$
205,366

Accretion of preference share issuance costs
93

 
93

Balance, end of period
$
205,829

 
$
205,459

 
 
 
 
Nine Months Ended
 
 
 
Balance, beginning of year
$
205,553

 
$
205,182

Accretion of preference share issuance costs
276

 
277

Balance, end of period
$
205,829

 
$
205,459


 
ACGL 2017 THIRD QUARTER FORM 10-Q
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Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

The portion of Watford Re’s income or loss attributable to third party investors, recorded in the Company’s consolidated statements of income in ‘net (income) loss attributable to noncontrolling interests,’ are summarized in the table below:
 
September 30,
 
2017
 
2016
Three Months Ended
 
 
 
Amounts attributable to non-redeemable noncontrolling interests
$
16,147

 
$
(46,160
)
Dividends attributable to redeemable noncontrolling interests
(4,586
)
 
(4,588
)
Net (income) loss attributable to noncontrolling interests
$
11,561

 
$
(50,748
)
 
 
 
 
Nine Months Ended
 
 
 
Amounts attributable to non-redeemable noncontrolling interests
$
(9,523
)
 
$
(96,118
)
Dividends attributable to redeemable noncontrolling interests
(13,756
)
 
(13,761
)
Net (income) loss attributable to noncontrolling interests
$
(23,279
)
 
$
(109,879
)
Bellemeade Re I and II
Upon closing of the UGC acquisition, the Company acquired the rights and obligations related to aggregate excess of loss reinsurance agreements with Bellemeade Re I Ltd. (“Bellemeade I”), entered into in July 2015, and with Bellemeade Re II Ltd. (“Bellemeade II”), entered into in May 2016 (the “Bellemeade Agreements”). Bellemeade I and Bellemeade II are special purpose reinsurance companies domiciled in Bermuda, each of which provided for up to approximately $300 million of aggregate excess of loss reinsurance coverage at inception for new delinquencies on portfolios of in-force policies issued.
 
As a result of the evaluation of the Bellemeade Agreements, the Company concluded that both Bellemeade I and Bellemeade II are VIEs. However, given that the ceding insurers do not have the unilateral power to direct those activities that are significant to the economic performance of Bellemeade I and Bellemeade II, the Company does not consolidate Bellemeade I and Bellemeade II in its consolidated financial statements.
The following table presents total assets of Bellemeade I and Bellemeade II as well as the Company’s maximum exposure to loss associated with these VIEs:
 
 
 
Maximum Exposure to Loss
 
Total VIE Assets
 
On-Balance Sheet
 
Off-Balance Sheet
 
Total
Bellemeade I
$
112,090

 
$
533

 
$
1,009

 
$
1,542

Bellemeade II
191,387

 
(53
)
 
746

 
693

Total
$
303,477

 
$
480

 
$
1,755

 
$
2,235

See note 18, “Subsequent Event.”
Irving Partners Limited Partnership
Upon closing of the UGC acquisition, the Company acquired a limited partnership interest in Irving Partners Limited Partnership (“Irving Partners”), which owns and operates an office building in Greensboro, North Carolina in which the Company is the main tenant. The Company concluded that Irving Partners is a VIE but that it is not the primary beneficiary. During the 2017 third quarter, the Company’s ownership in Irving Partners was sold to a third party for approximately $14.5 million.

 
ACGL 2017 THIRD QUARTER FORM 10-Q
14

Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

4.    Earnings (Loss) Per Common Share

Due to the net loss recorded in the 2017 third quarter, diluted weighted average common shares and common share equivalents outstanding for the 2017 third quarter do not include the effect of 4.7 million otherwise dilutive securities since the inclusion of such securities is anti-dilutive to per share results. Since the Company reported net income for the other periods presented, the computation of diluted average shares outstanding includes dilutive securities for such periods.
The following table sets forth the computation of basic and diluted earnings (loss) per common share:
 
Three Months Ended

Nine Months Ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Numerator:
 
 
 
 
 
 
 
Net income (loss)
$
(45,217
)
 
$
303,620

 
$
427,917

 
$
728,604

Amounts attributable to noncontrolling interests
11,561

 
(50,748
)
 
(23,279
)
 
(109,879
)
Net income (loss) available to Arch
(33,656
)
 
252,872

 
404,638

 
618,725

Preferred dividends
(12,369
)
 
(5,484
)
 
(34,936
)
 
(16,453
)
Loss on redemption of preferred shares
(6,735
)
 

 
(6,735
)
 

Net income (loss) available to Arch common shareholders
$
(52,760
)
 
$
247,388

 
$
362,967

 
$
602,272

 
 
 
 
 
 
 
 
Denominator:
 
 
 
 
 
 
 
Weighted average common shares outstanding
129,211,251

 
120,938,916

 
124,526,611

 
120,656,420

Series D preferred shares (1)
5,674,200

 

 
9,945,518

 

Weighted average common shares and common share equivalents outstanding — basic
134,885,451

 
120,938,916

 
134,472,129

 
120,656,420

Effect of dilutive common share equivalents:
 
 
 
 
 
 
 
Nonvested restricted shares

 
1,313,025

 
1,459,879

 
1,295,825

Stock options (2)

 
2,679,712

 
3,290,316

 
2,575,929

Weighted average common shares and common share equivalents outstanding — diluted (3)
134,885,451

 
124,931,653

 
139,222,324

 
124,528,174

 
 
 
 
 
 
 
 
Earnings (loss) per common share:
 
 
 
 
 
 
 
Basic
$
(0.39
)
 
$
2.05

 
$
2.70

 
$
4.99

Diluted
$
(0.39
)
 
$
1.98

 
$
2.61

 
$
4.84

(1)
Such shares are convertible non-voting common equivalent preferred shares issued in connection with the UGC acquisition.
(2)
Certain stock options were not included in the computation of diluted earnings per share where the exercise price of the stock options exceeded the average market price and would have been anti-dilutive or where, when applying the treasury stock method to in-the-money options, the sum of the proceeds, including unrecognized compensation, exceeded the average market price and would have been anti-dilutive. For the 2017 third quarter and 2016 third quarter, the number of stock options excluded were nil and 334,203, respectively. For the nine months ended September 30, 2017 and 2016, the number of stock options excluded were 838,868 and 842,105, respectively.


 
ACGL 2017 THIRD QUARTER FORM 10-Q
15

Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

5.    Segment Information

The Company classifies its businesses into three underwriting segments — insurance, reinsurance and mortgage — and two other operating segments — ‘other’ and corporate (non-underwriting). The Company determined its reportable segments using the management approach described in accounting guidance regarding disclosures about segments of an enterprise and related information. The accounting policies of the segments are the same as those used for the preparation of the Company’s consolidated financial statements. Intersegment business is allocated to the segment accountable for the underwriting results.
The Company’s insurance, reinsurance and mortgage segments each have managers who are responsible for the overall profitability of their respective segments and who are directly accountable to the Company’s chief operating decision makers, the Chairman and Chief Executive Officer, the President and Chief Operating Officer, and the Chief Financial Officer of ACGL. The chief operating decision makers do not assess performance, measure return on equity or make resource allocation decisions on a line of business basis. Management measures segment performance for its three underwriting segments based on underwriting income or loss. The Company does not manage its assets by underwriting segment, with the exception of goodwill and intangible assets, and, accordingly, investment income is not allocated to each underwriting segment.
The insurance segment consists of the Company’s insurance underwriting units which offer specialty product lines on a worldwide basis. Product lines include: construction and national accounts; excess and surplus casualty; lenders products; professional lines; programs; property, energy, marine and aviation; travel, accident and health; and other (consisting of alternative markets, excess workers' compensation and surety business).
The reinsurance segment consists of the Company’s reinsurance underwriting units which offer specialty product lines on a worldwide basis. Product lines include: casualty; marine and aviation; other specialty; property catastrophe; property excluding property catastrophe (losses on a single risk, both excess of loss and pro rata); and other (consisting of life reinsurance, casualty clash and other).
The mortgage segment includes the Company’s U.S. and international mortgage insurance and reinsurance operations as well as government sponsored enterprise (“GSE”) credit-risk sharing transactions. Arch Mortgage Insurance Company, United Guaranty Residential Insurance Company and United Guaranty Mortgage Indemnity Company (combined “Arch MI U.S.”) are approved as eligible mortgage insurers by Federal National Mortgage Association (“Fannie Mae”) and Federal Home Loan Mortgage Corporation (“Freddie Mac”), each a GSE.
The corporate (non-underwriting) segment results include net investment income, other income (loss), corporate expenses, UGC transaction costs and other, interest expense, items related to the Company’s non-cumulative preferred shares, net realized gains or losses, net impairment losses included in earnings, equity in net income or loss of investment funds accounted for using the equity method, net foreign exchange gains or losses and income taxes. Such amounts exclude the results of the ‘other’ segment.
The ‘other’ segment includes the results of Watford Re (see Note 3). Watford Re has its own management and board of directors that is responsible for the overall profitability of the ‘other’ segment. For the ‘other’ segment, performance is measured based on net income or loss.

 
ACGL 2017 THIRD QUARTER FORM 10-Q
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Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

The following tables summarize the Company’s underwriting income or loss by segment, together with a reconciliation of underwriting income or loss to net income available to common shareholders:
 
Three Months Ended
 
September 30, 2017
 
Insurance
 
Reinsurance
 
Mortgage
 
Sub-Total
 
Other
 
Total
 
 
 
 
 
 
 
 
 
 
 
 
Gross premiums written (1)
$
787,447

 
$
422,083

 
$
347,951

 
$
1,557,179

 
$
166,198

 
$
1,648,246

Premiums ceded
(222,516
)
 
(105,389
)
 
(57,900
)
 
(385,503
)
 
(12,471
)
 
(322,843
)
Net premiums written
564,931

 
316,694

 
290,051

 
1,171,676

 
153,727

 
1,325,403

Change in unearned premiums
(29,766
)
 
6,879

 
(15,533
)
 
(38,420
)
 
(25,097
)
 
(63,517
)
Net premiums earned
535,165

 
323,573

 
274,518

 
1,133,256

 
128,630

 
1,261,886

Other underwriting income (loss)

 
1,728

 
3,599

 
5,327

 
737

 
6,064

Losses and loss adjustment expenses
(568,795
)
 
(318,609
)
 
(35,156
)
 
(922,560
)
 
(123,581
)
 
(1,046,141
)
Acquisition expenses
(82,638
)
 
(57,340
)
 
(21,803
)
 
(161,781
)
 
(32,073
)
 
(193,854
)
Other operating expenses
(90,875
)
 
(36,214
)
 
(34,770
)
 
(161,859
)
 
(8,268
)
 
(170,127
)
Underwriting income (loss)
$
(207,143
)
 
$
(86,862
)
 
$
186,388

 
(107,617
)
 
(34,555
)
 
(142,172
)
 
 
 
 
 
 
 
 
 
 
 
 
Net investment income
 
 
 
 
 
 
94,127

 
22,332

 
116,459

Net realized gains (losses)
 
 
 
 
 
 
64,104

 
2,171

 
66,275

Net impairment losses recognized in earnings
 
 
 
 
 
 
(1,878
)
 

 
(1,878
)
Equity in net income (loss) of investment funds accounted for using the equity method
 
 
 
 
 
 
31,090

 

 
31,090

Other income (loss)
 
 
 
 
 
 
(342
)
 

 
(342
)
Corporate expenses (2)
 
 
 
 
 
 
(14,108
)
 

 
(14,108
)
UGC transaction costs and other (2)
 
 
 
 
 
 
(2,990
)
 

 
(2,990
)
Amortization of intangible assets
 
 
 
 
 
 
(31,824
)
 

 
(31,824
)
Interest expense
 
 
 
 
 
 
(26,264
)
 
(3,246
)
 
(29,510
)
Net foreign exchange gains (losses)
 
 
 
 
 
 
(27,785
)
 
(243
)
 
(28,028
)
Income (loss) before income taxes
 
 
 
 
 
 
(23,487
)
 
(13,541
)
 
(37,028
)
Income tax (expense) benefit
 
 
 
 
 
 
(8,168
)
 
(21
)
 
(8,189
)
Net income (loss)
 
 
 
 
 
 
(31,655
)
 
(13,562
)
 
(45,217
)
Dividends attributable to redeemable noncontrolling interests
 
 
 
 
 
 

 
(4,586
)
 
(4,586
)
Amounts attributable to nonredeemable noncontrolling interests
 
 
 
 
 
 

 
16,147

 
16,147

Net income (loss) available to Arch
 
 
 
 
 
 
(31,655
)
 
(2,001
)
 
(33,656
)
Preferred dividends
 
 
 
 
 
 
(12,369
)
 

 
(12,369
)
Loss on redemption of preferred shares
 
 
 
 
 
 
(6,735
)
 

 
(6,735
)
Net income (loss) available to Arch common shareholders
 
 
 
 
 
 
$
(50,759
)
 
$
(2,001
)
 
$
(52,760
)
 
 
 
 
 
 
 
 
 
 
 
 
Underwriting Ratios
 

 
 

 
 

 
 
 
 

 
 

Loss ratio
106.3
%
 
98.5
%
 
12.8
%
 
81.4
%
 
96.1
%
 
82.9
%
Acquisition expense ratio
15.4
%
 
17.7
%
 
7.9
%
 
14.3
%
 
24.9
%
 
15.4
%
Other operating expense ratio
17.0
%
 
11.2
%
 
12.7
%
 
14.3
%
 
6.4
%
 
13.5
%
Combined ratio
138.7
%
 
127.4
%
 
33.4
%
 
110.0
%
 
127.4
%
 
111.8
%
 
 
 
 
 
 
 
 
 
 
 
 
Goodwill and intangible assets
$
23,445

 
$
417

 
$
652,893

 
$
676,755

 
$
7,650

 
$
684,405

(1)
Certain amounts included in the gross premiums written of each segment are related to intersegment transactions. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total.
(2)
Certain expenses have been excluded from ‘corporate expenses’ and reflected in ‘UGC transaction costs and other.’


 
ACGL 2017 THIRD QUARTER FORM 10-Q
17

Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 
Three Months Ended
 
September 30, 2016
 
Insurance
 
Reinsurance
 
Mortgage
 
Sub-Total
 
Other
 
Total
 
 
 
 
 
 
 
 
 
 
 
 
Gross premiums written (1)
$
758,934

 
$
324,361

 
$
131,726

 
$
1,214,765

 
$
163,736

 
$
1,278,765

Premiums ceded
(217,446
)
 
(89,551
)
 
(51,182
)
 
(357,923
)
 
(6,300
)
 
(264,487
)
Net premiums written
541,488

 
234,810

 
80,544

 
856,842

 
157,436

 
1,014,278

Change in unearned premiums
(22,410
)
 
17,117

 
(3,582
)
 
(8,875
)
 
(47,000
)
 
(55,875
)
Net premiums earned
519,078

 
251,927

 
76,962

 
847,967

 
110,436

 
958,403

Other underwriting income (loss)

 
2,216

 
4,740

 
6,956

 
1,024

 
7,980

Losses and loss adjustment expenses
(332,845
)
 
(105,924
)
 
(11,107
)
 
(449,876
)
 
(74,307
)
 
(524,183
)
Acquisition expenses
(77,146
)
 
(50,192
)
 
(5,190
)
 
(132,528
)
 
(28,739
)
 
(161,267
)
Other operating expenses
(86,613
)
 
(35,389
)
 
(24,249
)
 
(146,251
)
 
(7,035
)
 
(153,286
)
Underwriting income (loss)
$
22,474

 
$
62,638

 
$
41,156

 
126,268

 
1,379

 
127,647

 
 
 
 
 
 
 
 
 
 
 
 
Net investment income
 
 
 
 
 
 
66,282

 
27,336

 
93,618

Net realized gains (losses)
 
 
 
 
 
 
95,946

 
29,159

 
125,105

Net impairment losses recognized in earnings
 
 
 
 
 
 
(3,867
)
 

 
(3,867
)
Equity in net income (loss) of investment funds accounted for using the equity method
 
 
 
 
 
 
16,662

 

 
16,662

Other income (loss)
 
 
 
 
 
 
(400
)
 

 
(400
)
Corporate expenses (2)
 
 
 
 
 
 
(11,343
)
 

 
(11,343
)
UGC transaction costs and other (2)
 
 
 
 
 
 
(7,142
)
 

 
(7,142
)
Amortization of intangible assets
 
 
 
 
 
 
(4,865
)
 

 
(4,865
)
Interest expense
 
 
 
 
 
 
(12,924
)
 
(3,019
)
 
(15,943
)
Net foreign exchange gains (losses)
 
 
 
 
 
 
(4,232
)
 
1,611

 
(2,621
)
Income (loss) before income taxes
 
 
 
 
 
 
260,385

 
56,466

 
316,851

Income tax (expense) benefit
 
 
 
 
 
 
(13,232
)
 
1

 
(13,231
)
Net income (loss)
 
 
 
 
 
 
247,153

 
56,467

 
303,620

Dividends attributable to redeemable noncontrolling interests
 
 
 
 
 
 

 
(4,588
)
 
(4,588
)
Amounts attributable to nonredeemable noncontrolling interests
 
 
 
 
 
 

 
(46,160
)
 
(46,160
)
Net income (loss) available to Arch
 
 
 
 
 
 
247,153

 
5,719

 
252,872

Preferred dividends
 
 
 
 
 
 
(5,484
)
 

 
(5,484
)
Net income (loss) available to Arch common shareholders
 
 
 
 
 
 
$
241,669

 
$
5,719

 
$
247,388

 
 
 
 
 
 
 
 
 
 
 
 
Underwriting Ratios
 

 
 

 
 

 
 
 
 

 
 

Loss ratio
64.1
%
 
42.0
%
 
14.4
%
 
53.1
%
 
67.3
%
 
54.7
%
Acquisition expense ratio
14.9
%
 
19.9
%
 
6.7
%
 
15.6
%
 
26.0
%
 
16.8
%
Other operating expense ratio
16.7
%
 
14.0
%
 
31.5
%
 
17.2
%
 
6.4
%
 
16.0
%
Combined ratio
95.7
%
 
75.9
%
 
52.6
%
 
85.9
%
 
99.7
%
 
87.5
%
 
 
 
 
 
 
 
 
 
 
 
 
Goodwill and intangible assets
$
26,367

 
$
1,228

 
$
55,696

 
$
83,291

 
$
7,650

 
$
90,941


(1)
Certain amounts included in the gross premiums written of each segment are related to intersegment transactions. Accordingly, the sum of gross premiums written for each segment does not agree to the total gross premiums written as shown in the table above due to the elimination of intersegment transactions in the total.
(2)
Certain expenses have been excluded from ‘corporate expenses’ and reflected in ‘UGC transaction costs and other.’



 
ACGL 2017 THIRD QUARTER FORM 10-Q
18

Table of Contents
ARCH CAPITAL GROUP LTD. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 
Nine Months Ended
 
September 30, 2017
 
Insurance
 
Reinsurance
 
Mortgage
 
Sub-Total
 
Other
 
Total
 
 
 
 
 
 
 
 
 
 
 
 
Gross premiums written (1)
$
2,313,630

 
$
1,351,051

 
$
1,032,800

 
$
4,697,007

 
$
473,131

 
$
4,915,895

Premiums ceded
(704,057
)
 
(386,743
)
 
(194,139
)
 
(1,284,465
)
 
(35,315
)
 
(1,065,537
)
Net premiums written
1,609,573

 
964,308

 
838,661

 
3,412,542

 
437,816

 
3,850,358

Change in unearned premiums
(51,188
)
 
(81,182
)
 
(61,776
)
 
(194,146
)
 
(36,435
)
 
(230,581
)
Net premiums earned
1,558,385

 
883,126

 
776,885

 
3,218,396

 
401,381

 
3,619,777

Other underwriting income (loss)

 
1,143

 
11,999

 
13,142

 
2,377

 
15,519

Losses and loss adjustment expenses
(1,252,375
)
 
(631,669
)
 
(84,915
)
 
(1,968,959
)
 
(319,612
)
 
(2,288,571
)