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Edited Transcript of XL earnings conference call or presentation 26-Apr-17 9:00pm GMT

Thomson Reuters StreetEvents

Q1 2017 XL Group Ltd Earnings Call

HAMILTON Apr 29, 2017 (Thomson StreetEvents) -- Edited Transcript of XL Group Ltd earnings conference call or presentation Wednesday, April 26, 2017 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Abbe F. Goldstein

XL Group Ltd - Director of IR

* Gregory S. Hendrick

XL Group Ltd - EVP and President of Property & Casualty Operations

* Michael S. McGavick

XL Group Ltd - CEO and Director

* Peter R. Porrino

XL Group Ltd - CFO and EVP

* Stephen Robb

XL Group Ltd - MD and Corporate Controller

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Conference Call Participants

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* Amit Kumar

Macquarie Research - VP and Senior Analyst

* Arun Narayan Kumar

JP Morgan Chase & Co, Research Division - MD, Head of European Credit Corporate Research, Head of the North American High Grade Credit Research, and Senior Analyst

* Brian Robert Meredith

UBS Investment Bank, Research Division - MD, Financials Research Sector Head, Global Insurance Strategist, and Senior Property Casualty Insurance Analyst

* Ian Gutterman

Balyasny Asset Management L.P. - Portfolio Manager

* Jay Adam Cohen

BofA Merrill Lynch, Research Division - Research Analyst

* Joshua David Shanker

Deutsche Bank AG, Research Division - Research Analyst

* Kai Pan

Morgan Stanley, Research Division - Executive Director

* Meyer Shields

Keefe, Bruyette, & Woods, Inc., Research Division - MD

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Presentation

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Operator [1]

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Good afternoon. At this time, I'd like to welcome everyone to the XL Group First Quarter 2017 Earnings Call. (Operator Instructions) Please be advised, this conference is being recorded.

I would like to turn the call over to Abbe Goldstein, XL Director of Investor Relations. Please go ahead.

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Abbe F. Goldstein, XL Group Ltd - Director of IR [2]

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Thank you, Shirley, and welcome to XL Group Ltd.'s first quarter 2017 earnings conference call. Our call today is being simultaneously webcast at www.xlgroup.com. We posted to our website several documents including our earnings press release, our quarterly financial statement and presentation slides that we'll refer to in our call.

On our call today, Mike McGavick, XL Group CEO, will offer opening remarks; Pete Porrino, XL's Chief Financial Officer, will review our financial results; followed by Greg Hendrick, President of P&C, who will review the Insurance and Reinsurance segment results and market conditions. We will then open up the call for questions, which will also include Steve Robb, Pete's successor as our CFO.

Before we begin, I'd like to remind you that certain of the matters we'll discuss today are forward-looking statements. These statements, including any estimates on losses resulting from recent natural catastrophes, are based on current plans, estimates and expectations, all of which involve risks and uncertainty, and a number of factors could cause actual results to differ materially from those contained in the forward-looking statements. Therefore, you should not place undue reliance on them.

Forward-looking statements are sensitive to many factors, including those identified in our most recent reports on Form 10-Q and 10-K as well as other documents on file with the SEC that could cause actual results to differ materially from those contained in the forward-looking statements. Forward-looking statements speak only as of the date of which they are made, and we undertake no obligation publicly to revise any forward-looking statement in response to new information, future developments or otherwise.

Our call today also includes non-GAAP financial measures, including but not limited to operating net income, operating ROE measures that are based on operating net income and fully diluted tangible book value per share. Explanations and reconciliations of these measures to comparable GAAP measures are included in our earnings materials posted to our website and the earnings release included as an exhibit to today's 8-K announcing our first quarter 2017 result.

With that, I'd like to turn the call over to Mike.

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Michael S. McGavick, XL Group Ltd - CEO and Director [3]

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Good evening, and thank you for joining our call. Tonight, I'll share some highlights of the first quarter and Pete will discuss the financials. Then Greg, who has been in his new role as President of P&C since the launch of our new operating model at the beginning of the year, will cover Insurance and Reinsurance for the quarter.

Speaking of Pete, and it is sad for me to remind all of us, this will be Pete's last quarter as CFO before he turns over the reins to Steve Robb. And in order to introduce Steve further to you, he is with us here today and will join with us on the Q&A.

Turning to the quarter itself, we are pleased to report a solid start to 2017. As you know and as we've been saying, we believe that the value proposition of XL Catlin is better and better understood in the Insurance and Reinsurance market places. And this is why even in these tough conditions, we've been able to show growth in the quarter. Similarly, we've been saying that with our broader book of business, we can improve our loss ratio through business mix and continued underwriting actions. Moreover, we have observed that our broader diversification would enable us to absorb more significant events and withstand natural catastrophes in the current year. And we've said that this is the year when we would start to see the full impact of our expense savings. All of these improved features are present in this quarter. It's that view, combined with our underlying strengths, that enabled us to show continued progress and is what has us off to this solid start.

Of course, on the other side of the ledger as you're aware, like many others, our prior year development in the quarter was negatively impacted by the U.K. Ogden rate change.

Looking at the numbers, our total P&C gross written premiums were $4.6 billion, up 6% from the prior year quarter. Though in that comparison, it is worth sharing with you that processing delays impacted premium in the first quarter of last year, which accounts for about 2% of that growth.

Our P&C accident year combined ratio, excluding natural catastrophes, was 89.5%, an improvement of 2.6% versus the same quarter last year. On the same basis, Insurance produced a 91.2% combined ratio for a 3.3% improvement over Q1 2016, and Reinsurance was basically flat year-over-year at 86.5%.

Needless to say, we're proud of our underwriters and their ability to leverage our increased relevance and scale to find the right growth opportunities in what continues to be a tough rate environment. Underwriting discipline means picking your spots and working hard to find those opportunities just as much as it means saying no, that's a tricky balance, but one we think our teams are striking really well.

Equally as important is our focus on continuous improvement and efficient operations, and we saw our operating expenses come down 5.7% in the quarter, excluding integration costs. Since you may not have heard us talk about continuous improvement externally before, think of it as a broad mindset we are driving into our culture, building from what we learned in the integration. We intend to find things little and big that can make every day better, and we think this will help us grow our top line more than our expenses.

By the way, as we approach the 2-year anniversary of the Catlin acquisition, we will be done with integration costs next quarter. We view that process as largely complete and related items from hereon will simply be business as usual and improvements in the normally XL Catlin is seeking to improve over time. Relatedly, as integration comes to an end, there's a significant piece of recent news regarding Stephen Catlin and his decision to retire from his role as our Deputy Executive Chairman and from our Board. As we announced happily, Stephen will be with us as an adviser -- as an employee through the end of the year and then adviser beyond that, which will give plenty of time for us to recognize his remarkable career and his many contributions to this firm. For now, I just want to say thank you to Stephen, I know that our integration would never have been for successful if not for his selfless leadership throughout.

In terms of capital allocation, we repurchased about $200 million in buybacks during the first quarter. At this point, we reiterate that we expect to complete not less than $700 million in buybacks for all of 2017. We still view buybacks as one of the better uses of our capital and we'll act accordingly as long as the right conditions persist.

Lastly, on innovation and culture, as we discussed last year, we're very proud of the awards we received in 2016, particularly around product innovation. And in the past quarter, we introduced 7 new products in areas that range from environmental to professional to aviation. Also we're very excited about the recent announcement that will be joining our partners at Oxbotica, the robotics unit spun out of Oxford University, in leading the DRIVEN consortium of companies working to deploy a fleet of autonomous vehicles in the U.K. We're the only insurer participating that effort, and we think it really speaks to our future focus culture and how we're working to understand new technology risk from things like autonomous cars. Between these efforts and investment partnerships we're building through XL Innovate, we intend to continue to be at the forefront of what our industry introduces.

So in sum, we are pleased to show further progress and we'll work hard to continue to do so. Insurance had a really solid quarter. Our Reinsurance team continues to be disciplined and active participants in the tough market. And we believe that if we are already benefiting from greater clarity and accountability brought about by our improved operating model. As we look at the rest of 2017, although industry headwinds surely remain, we are off to a solid start.

With that, I will turn it over to Pete.

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Peter R. Porrino, XL Group Ltd - CFO and EVP [4]

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Well, thanks, Mike and good evening. It is hard for me to believe that this is my last earnings call as the CFO, but I'll get back to that in a few minutes.

Along with Mike, I'm also pleased to report a solid first quarter, our performance was largely driven by underlying improvement in our key Insurance underwriting metrics. We have discipline premium growth as well as improvement in each of our key ratios, our accident year ex-cat loss ratio, our acquisition cost ratio, and our operating expense ratio. Importantly, our Insurance accident year ex-cat underwriting profit grew 80% to $144 million.

We've enhanced our earnings presentation in an effort to be responsive to some investor feedback and to better illustrate and explain our results. Although we won't go through every slide on the call we hope you'll find it useful. For example, on Pages 6 and 7, you can see the breakdown of our quarterly operating income drivers. Our net income attributable to common shareholders was $153 million compared to $22 million from the first quarter of last year. Operating earnings per share was $0.50 compared to $0.35, a 43% increase. In addition to our strong Insurance results, other drivers included a positive increase in the affiliate income as well as pressure from greater catastrophe losses and adverse prior development attributable to the previously announced impact of the U.K. Ogden rate change.

Our ROE was 5.6% for the quarter compared to 0.7% last year. Our annualized operating ROE excluding AOCI, integration cost and the seasonality of our preferred dividends was 7.7%. This annualized 7.7% illustrated on the bottom left of Page 6, includes the adverse Ogden-related impact of approximately 260 basis points.

As we continue to enhance efficiencies throughout the company, our operating expenses continue to improve decreasing 5.7% compared to the prior year, excluding integration costs. Our integration cost for the quarter were $34 million or $0.13 per fully diluted share. We expect to be compete with integration expenses in the second quarter with an estimate of $30 million to $35 million in that quarter. As we said in the last quarterly call, we still expect operating expenses excluding integration costs to be towards the bottom of the range we've previously provided of $1.77 billion to $1.84 billion, assuming FX rates stay roughly as they are today.

Our natural catastrophe losses net of reinstatement premiums for the first quarter were $96 million or 3.8 loss ratio points for the quarter compared to $53 million or 2.2 loss ratio points in the same quarter in 2016. As indicated on Slide 6, U.S. catastrophes were $33 million, mostly related to U.S. storms, international catastrophes was $64 million and included Cyclone Debbie in Australia, wildfires in Chile and flooding in Peru. And Greg is willing to go into more depth about cats in his remarks.

As we've discussed in previous calls, during the first and third quarters, our reserving process is based on our review of actual versus expected losses. Our semi-annual full actuarial review will be included in our results next quarter and we intend to provide our Global Loss Triangles in May.

Prior year net development resulting from the first quarter was an adverse $24 million or 0.9 loss ratio points for the quarter compared to net favorable development of $43 million or 1.8 loss ratio points for the same quarter in 2016. This reflects adverse development of $29 million from the Reinsurance segment and $5 million payroll development from the Insurance segment. This quarter was, of course, affected by the $75 million Ogden charge, which we preannounced back in March 1. As you can see, in the financial supplement, our operating effective tax rates excluding discrete items was 11.1% for the quarter, in line with that rate for the first quarter and full year 2016.

Fully diluted book value per share grew by $0.77 in the first quarter or 2% to $41.10 resulting from earnings as well as positive marks for our Investment Portfolio.

Turning to the Investment Portfolio. And as usual, my comments will exclude the life funds withheld assets. Net investment income rose to $167 million compared to $164 million for the prior year first quarter. During the first quarter, our average new money rate was 2.1% compared to 1.7% in the first quarter of last year. And at the end of March, the gross book yield of the fixed-income portfolio was 2.4% and the duration of the total Investment Portfolio remained stable at 3.4 years, remaining slightly short of our liability duration benchmark. We anticipate the net investment income will continue to remain under pressure given the current interest rate environment.

Net income from affiliates was $52 million for the quarter compared to net income of $8 million in the prior year first quarter driven principally by hedge fund affiliates. Relative to the prior year quarter, we also had an increase in performance from our strategic operating affiliates as well as strong results generated from investments within our value investing team.

Unrealized net gains were $0.5 billion at the end of the quarter. The total return on investments was 1% in the quarter in original currency.

Lastly, turning to our preferred dividends. I'd like you to refer to Slide 14 to clarify how these will change in the coming quarters. Starting in the second quarter, the Series E and Catlin preferreds will change from fixed to floating and also become callable. The Series D preferreds are already floating in callable. Although all of the preferreds will now be callable, it's not our intention to call any of them.

Also in the second quarter, the timing of the declaration for the Series D and Series E preferreds will changed to July, a month later than their previously scheduled declarations, in order to match declaration dates with actual dividend payment dates in the same quarter. The change in declaration is a modest positive earnings impact in the second quarter.

Now for the hard part. It is with a heavy heart that this is my last earnings call as CFO at XL. The past 6 years have been the highlight of my career. The Board, leadership team, finance group and the entire XL Catlin family had been absolutely tremendous. Mike has been a mentor and will be a lifelong friend. I'm both humbled by the experience and also proud of the team's accomplishments. I'm glad to be sticking around on a part-time basis and working on some key projects that a busy CFO just simply doesn't have time at least to focus.

And speaking of a busy CFO, it is with enormous confidence and pride that I hand the reigns over Steve Robb, who has been my right hand at XL since the day I joined and is the perfect person to lead XL's finance function going forward.

Now I'll turn the call over to Greg to discuss our underwriting results. I look forward to the Q&A at the end of the call, but I do plan and giving all of today's tough questions to Steve.

Greg?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [5]

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Thanks, Pete. This evening, I'll start with a brief review of our underwriting segments, discuss our diversified portfolio, highlight our disciplined underwriting and continuous improvement efforts within our underwriting results and finish with an update on current market conditions.

Starting with the underwriting segments, I'm pleased that we've gotten off to a solid start under our new operating model. The hard work of our colleagues to create XL Catlin over the last 2 years provide a strong foundation to build on this quarter and into the future. As you can see on Page 8 of the earnings presentation, we operate property and Casualty Insurance and Reinsurance segments. Our Insurance segment, roughly 70% of our gross rate and premium, is focused primarily on large corporate and middle market commercial risks across the broad spectrum of products provided globally. We operate Insurance in 3 main business groups, Global Lines, International and North America.

Our Reinsurance segment, the remaining 30% of our top line, provides treaty and faculty of reinsurance globally across 5 regions via 10 main product lines. Through the combination of XL and Catlin, we have created market-leading position at Specialty Insurance, Large Corporate Insurance and Property Catastrophe Reinsurance.

Turning to our underwriting portfolio and expanding on Mike's observations, with a broad product suite and global reach, we are able to pull numerous levers and remix our book as market conditions allow. As a reference, Page 9 of the earnings presentation contains a split in underwriting results between the 2 segments. In Insurance segment, gross written premiums increased year-over-year by 8.4% when normalized for foreign exchange. Although roughly 40% is growth was the result of premium process timing from the first quarter of last year.

The underlying growth occurred across a number of our portfolios. We grew our international property and casualty books as well as our North American Construction and Global Risk Management businesses. In global lines, we have material growth in Fine Art and Specie, Crisis Management, and political risk portfolios. And a common theme across the segment was our ability to win business by being able to provide global program solutions to our multinational customers. These programs carry larger gross written premiums and drove some of the underlying growth. Meanwhile, we maintained underwriting discipline with reduced top line in our aerospace, U.S. E&S casualty, and London wholesale businesses, where certain parts of these books have become overly competitive.

Our net written premiums for the quarter were flat relative to last year as we continue to refine our ceded Reinsurance strategy. The increase in ceded written premium is attributed to almost entirely to the multiyear Galileo catastrophe bond and the placement of a new casualty arrogate excess of loss treaty. As these are excess-to-loss protections, the entire ceded written premium was recorded in the quarter.

Turning to Reinsurance. Gross written premiums for the quarter was up 7% when normalized for foreign exchange. Roughly 3% of the increase was due to the impact of reinstatement premiums and multi-year renewals. In addition, strong new business and increased shares of existing clients was partially offset by over $100 million of canceled business that did not meet our return threshold. We also have the ability to shift our book at Reinsurance. And in the quarter, we grew our Casualty in property risk treaty portfolios while shrinking the Property Catastrophe book in the face of continued, albeit smaller rate decreases.

Combined, our 2 segments provide us with a well-diversified portfolio, and is better able to withstand catastrophe loss activity like we saw this quarter. For the group, we incurred $96 million of cat losses, up from $54 million in the same quarter last year. The largest events in the quarter were Cyclone Debbie at $40 million and the numerous U.S. wind and hail events, which totaled $33 million. This is an unsurprising amount given our global reach and a relatively active quarter on a global basis with at least $10 billion of global catastrophe losses, well above the first quarter industry medians since 2000 of $6.6 billion.

Shifting to underwriting discipline and continuous improvement. The Insurance segment's accident quarter ex-cat combined ratio was 91.2%, compared to 95% in the first quarter of 2016. This represents our best accident year ex cat quarter in a decade.

The segment produced an accident quarter ex-cat loss ratio of 60.8%, which compares to 61.2% in the first quarter of 2016. The decrease was driven by a favorable impact from change in mix of business as well as earning the benefit from continued underwriting actions executed during 2016. In particular, our continuous 1% loss ratio improvement initiative drove this reduction and we are hard at work on the actions for 2017.

The expense ratio decreased 3.4 points to 30.4% in the first quarter. 2/3 of this decrease was driven by lower operating expenses and the impact of our expense synergies continue to earn through. The other 1/3 was largely due to lower acquisition costs driven by change in business mix as we earned more in the quarter from businesses with lower acquisition costs.

In Reinsurance, the segment produced acceptable underwriting performance with the counter quarter combined ratio of 92.6% compared with 84.3% last year. The higher combined ratio for the quarter was driven almost entirely by the Ogden reserve charge, leading to overall reserve strength in the quarter of $29 million compared to a $32 million reserve release a year ago. As Pete mentioned, the reserves strike due to the preannounced $75 million Ogden rate change impacting our U.K. motor, general lability and employers liability excess of loss reserves. Reserve releases, primarily in property lines of business, offset the Ogden increase. We last strengthened reserves in our Reinsurance segment in 2006.

The Reinsurance segment produced an accident quarter ex-cat loss ratio of 53%, which compares to 52.3% in the first quarter of last year, driven predominantly by a change in mix of business. The expense ratio decreased 0.4 points to 33.4% in the first quarter. This decrease was driven by lower operating expenses as the benefits of our expense synergies continue to earned through. This was largely offset by a 2-point increase in our acquisition costs. Half of this increase was due to a shift in product mix and half was due to timing of premium in our casualty and credit proportional portfolios.

Moving on to market conditions. Price in Insurance segment was down 1.7% for the quarter, which is better than the 2.8% decrease for the full year of 2016. Our international business lines were up 1% for the quarter as modest rate increases in casualty were offset by modest rate decreases in property. Our North American business lines were down 1%, driven by our Professional DNO book, which was down 3%, partially offset by modest price increases in environmental, excess casualty and construction lines.

Our global lines businesses continue to be most adversely impacted with rates down 3.5% driven by continued competitive conditions in the Energy, Marine and Aviation lines.

And within the Reinsurance segment, we continue operating a challenging trading environment in most of our classes. But rate decreases continue to decelerate in most lines and regions. For the quarter, rates across the segment were down approximately 1% and our global catastrophe portfolio was down 3%, significantly less than the 6% decrease we experienced in 2016. In the remainder of the property treaty book, rates were down just under 1%.

Overall, our Casualty business increased by 1% and the remainder of our classes were down low single-digits.

In summary, we delivered a solid quarter of underwriting profitability, despite market conditions, slightly higher cat activity and the unfavorable Ogden prior year development. We also achieved another quarter of organic growth as our underwriting teams continue do an excellent job growing profitable business and finding new opportunities while maintaining underwriting discipline.

I'll now turn it back to Abbe.

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Abbe F. Goldstein, XL Group Ltd - Director of IR [6]

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Thanks, Greg. Now we are now ready to open up for Q&A.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from Amit Kumar with Macquarie Capital.

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Amit Kumar, Macquarie Research - VP and Senior Analyst [2]

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Thanks, Pete, for all your help all of these years. Just maybe a couple of questions. The first question goes back to the level of reserve releases in the Insurance segment. They just seemed a bit lighter then I guess what you've seen in the past several quarters, and I know that you really sort of don't talk about forecasting the number, was there anything unusual this quarter versus the prior quarter in terms of the reserve release number for Insurance?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [3]

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Yes, Amit, it's Greg. As you know, the first and third quarters for us are A versus E quarters. And so there is -- it's very much driven by the short-tail lines of business. And if my numbers are correct, there's about a $5 million release in the quarter, there's nothing to read into that in terms of trend overall. It's not a deep review quarter for us in the Insurance segment or in the Reinsurance segment.

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Amit Kumar, Macquarie Research - VP and Senior Analyst [4]

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Got it. That's helpful. I guess, the other question was just going back to the slide which shows the ROE and the trend line on that. I think one of the questions we've asked and tried to get more color on is, if you look at the ROE ex some of the noise, I'm curious how should we think about this franchise going forward. I mean, are we back in terms of shooting the stems with double-digit ROE? Or just based on the broader market challenges that's still further away?

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Michael S. McGavick, XL Group Ltd - CEO and Director [5]

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This is Mike. Look, I've certainly been educated by all of you that adding the table over in these specific numbers is not all that helpful, but I'll make several points. One, our goals are unchanged. #2, the numbers in the quarter are what they are. But the trajectory is also what the trajectory is and our determination is absolutely unwavering. So we're feeling very good about what this quarter tells us and very good about the trajectory as well.

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Amit Kumar, Macquarie Research - VP and Senior Analyst [6]

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If I could just sneak 1 more quickly on the capital management? I know last year, I think we had the 700 number to start with, but we ended with 1. Based on the noise in the Q1 and Ogden, should we -- how should we think about capital management versus earnings?

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Michael S. McGavick, XL Group Ltd - CEO and Director [7]

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Yes, this is Mike. So our approach to capital management remains unchanged. The first thing we do is analyze what we might need for future growth. The second thing we do is analyze if there's any opportunities to add anything to who we are that would make any sense. And assuming the answer to those 2 are that we don't need the additional capital we've been earning, we look for efficient ways to return it to our shareholders, which as we've said earlier in my comments, buybacks remains our preferred approach. So at this point, these issues that you've raised have nothing to do with how we think about buybacks for the rest of the year, and that's why our indication for the balance of the year is unchanged as the minimum level that we would repurchase.

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Operator [8]

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Next question comes from Kai Pan with Morgan Stanley.

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Kai Pan, Morgan Stanley, Research Division - Executive Director [9]

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First, good luck to Pete and Stephen for your retirement and also congratulations to Steve for the new role. First question is on the cost saving side, do you feel like you're done with it given the restructuring cost is finished? Are there additional opportunity you see in cost saving? Or the expense ratio improvements will be more leveraged on your top line growth rather than saving on the absolute dollar amount?

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Michael S. McGavick, XL Group Ltd - CEO and Director [10]

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Yes, this is Mike. First I'd remind you that the integration cost will feature next quarter as well and that will be the last quarter that we'll show integration costs separately broken out, after that it will be business as usual. I would say this, we certainly believe that we will meet our commitments as we've said on expenses. There's no change in our view of our year's expenses and we've been quite clear about that. And we believe though that one of the things we learned through the integration process is that the harder we challenged ourselves, the more we found. And as you know, we upped the targets for integration savings quite substantially over the course of time. So rather than just come to the end of this process and declare victory and just kind of go back to the however it was, our review is to internalize of those lessons and challenge ourselves constantly to make it better, to do more with less, if we can. To constantly be thinking in the frame of reference of a customer, who expects that every year it's going to get better and every year it will be more fertile. That's kind of the worldwide consumer mindset. I don't think Insurance should absent itself from that challenge. With that said, we don't know exactly how that will fall out, but we certainly know and then I'm willing to commit now that we believe we're able to grow top line far faster than we will grow expenses. Exactly how those targets will work out, we've been working on. We've done a lot a work in that regard and I'll just say, stay tuned. But the philosophy is, no, we're not stopping here. We're going to continue to constantly look for ways to do better.

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Peter R. Porrino, XL Group Ltd - CFO and EVP [11]

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Yes, Kai, I believe that our platform is scalable and leverageable. And as we grow, we wouldn't expect expenses to keep in track, and in fact it should stay relatively low.

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Arun Narayan Kumar, JP Morgan Chase & Co, Research Division - MD, Head of European Credit Corporate Research, Head of the North American High Grade Credit Research, and Senior Analyst [12]

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Okay, that's great. Then the second question, we have heard a lot about the rising tension between brokers and underwriters, especially in London market. Given you're one of the biggest players out there, just -- Mike, just wonder what's your thought on that?

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Michael S. McGavick, XL Group Ltd - CEO and Director [13]

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Well, #1, we see brokers as providing an essential service in the entire continuum of value creation for our clients. So we have a lot of regard for our brokers and we work closely with them to try and serve our clients together. We certainly observe as everyone does, that insurance relative to the ultimate value to the customer, which, let's say, the ultimate value of the customer is the pool of claims they are paid. We certainly believe that insurance needs to drive itself to become more efficient around that, say that balancing $0.30, $0.40, $0.50, whatever the line of business is. That's got to be a drive across the ecosystem from our brokers to ourselves and there we're open to ideas to try and find ways to lower those benefit -- lower those costs and increase the benefits to the ultimate insured. I think that has to be a mindset for everyone. As a leader in London, I see a lot of commentary out there, I would just say this, I know a lot of the comments have been around facilities. I would just say, look facilities have been around a long time, they come in lots of different forms. And while we do not think that is likely to change at all, we have noted and are taking advantage of the fact that, data and technology have vastly improve the ability of underwriters to judge these facilities better than used to be the case. And even saying that, we sure turn down more facilities than we write. But anyway, look I've heard a lot of conversations about all this. In the end, we all are going to have to think about how to add more value to clients.

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Kai Pan, Morgan Stanley, Research Division - Executive Director [14]

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I appreciate that insight. If I can squeeze in 1 -- number of question is that, well, the sort of net premium declined 3% despite the gross premium up 6% because of the camp ons. I just wonder, is it 1 off for this quarter? And going forward, the gross in -- growth in that will be more in line with historical?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [15]

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Yes, Kai, it's Greg. We should get back to a normal relative to last year's session of premium level. These were just 2 raw of January 1 transactions. So we should get back to that normal run rate.

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Operator [16]

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Our next question comes from Josh Shanker with Deutsche Bank.

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Joshua David Shanker, Deutsche Bank AG, Research Division - Research Analyst [17]

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Noticing in the byline disclosure that you're shrinking your exposure professional liability on primary level, but increasing it on a Reinsurance level. I'm wondering if you can talk about the primary -- professional liability market a little bit and what opportunities are causing that reallocation?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [18]

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Yes. Josh, it's Greg. It's not really a reallocation percent. On the Insurance side, there's -- it's a very competitive market as we've observed out there. We are particularly mindful of some of the portfolios that we've had internationally that have been struggling, so we've been reunderwriting some of our exposures there. On the Reinsurance assumes side, there were some opportunities that we were able to surface that are unrelated to what we do in our core Professional book, particularly about smaller risks and a broader geographic scope than we have on the insurance side. So it wasn't the case of taking down one and increasing other. It's just concurrently, we saw in some of the large commercial space where we specialize a little less opportunity. On the Insurance side and in the smaller side of the business on the Reinsurance side and a broader geographical scope, we saw an opportunity to write some more.

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Joshua David Shanker, Deutsche Bank AG, Research Division - Research Analyst [19]

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And so I mean, given, let's say, January 1 type renewal, we shouldn't expect that to have continued growth throughout the year, I would guess?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [20]

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That's right. Sorry, Joshua, to cut. You shouldn't read across to those were as everything in Reinsurance. There were series of treaties in there that were one-off at 1/1. So we might have growth, but it wouldn't be right to read it across the growth rate for the rest of the year for Reinsurance.

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Joshua David Shanker, Deutsche Bank AG, Research Division - Research Analyst [21]

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Yes. And just want to know if you could walk through discrete tax items in the quarter and how we should think about it going forward?

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Peter R. Porrino, XL Group Ltd - CFO and EVP [22]

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Sure. Josh, in this quarter, the discreet items were predominantly the release of risk provisions based on the conclusion of audits. There aren't any identified discrete items we would expect going forward, but those come about as we close audits and as we think about the background of the environment going forward. But there's nothing you should read into the discrete items in the first quarter.

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Operator [23]

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The next question comes from Meyer Shields with KBW.

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Meyer Shields, Keefe, Bruyette, & Woods, Inc., Research Division - MD [24]

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A number of your competitors are talking about increasing, I guess, an increasingly adverse trial bar. I wonder whether you're seeing that? And whether that's affecting -- whether that's built into the accident loss ratio mix for this year?

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Michael S. McGavick, XL Group Ltd - CEO and Director [25]

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We constantly update our picks based on current activity. That's a regular and ordinary routine for us. And while there has been some uptick and you can note it, it's hard to tell whether that is a permanent change in judiciary or whether that is a -- or a long-term change related to the cycle of appointees of presidents and all of that, or whether we're seeing kind of a cultural shift given the burden that is been experienced by so many people across the country over this post-great recession period. Either one of those would have some impact. So we factor that in absolutely, we continued to monitor it very closely. We are encouraged, of course, by the -- in terms of the business outlook for these kinds of issues by the recent appointment to the Supreme Court and its confirmation and we all go from there. But any time you have a noticeable change, we factor it in.

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Meyer Shields, Keefe, Bruyette, & Woods, Inc., Research Division - MD [26]

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Okay, that's helpful. I apologize for how I phrased the question. A couple of years ago you said that you were or maybe a year ago, you said you were cautious about picking off business from AIG that went through its own issues just because in the first round, that business is likely to be significantly underpriced. Are we at a point now where that book of business looks more attractive?

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Michael S. McGavick, XL Group Ltd - CEO and Director [27]

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First of all, I don't generally speak about any 1 competitor, but there have been competitors that are going through changes for sure. And when that happens, I just observe that I know from my own work in way in the past when I was doing kind of turnaround restructuring kind of stuff, we were always shoving -- there are things you can make decisions on right away, it's stuff that's vastly underpriced, or vastly underperforming. So by definition, if you're not -- if you're a competitor with an organization going through that kind of change, you have to be really, really careful about how you think about what comes on the street. That said, it's also true that if one really knows the marketplace and knows the kind of clients they want, you have to be very focused and can really have an opportunity to write business that doesn't come in to the market very often . So you just have to think very carefully about it. I would not say that for any competitor, we would just say automatically because they wrote it -- they wait for us to wrote it. We write these pieces of business individually, we'll (inaudible) them individually. Greg?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [28]

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Yes. Thanks, Mike. I mean, I think 2 different thoughts. One on what's moving on the marketplace, again like Mike, I don't talk about individual competitors, this is not just worth it. We see a lot of commercial auto in the U.S. moving around. It's not an area where we're big in, we write it in a couple of spots, particularly in our large corporate risk management business where there's large clients self-retentions. So it's not a very low retention, low deductible business. And we also see it in workers comp, where again same thing, we're not active on a standalone workers comp basis. So the business that is broadly moving around is areas where we're not as active in a traditional basis. And the other thought is I'm just back from RIMS and it just -- I would just emphasize more the positive momentum that we have going in the marketplace. We met with over 500 clients over there. And I can tell you in the first quarter, our submission counts up from our major brokers. So we're getting more business. Our quote ratio is up, so we're getting more of the right business and our hit ratio is down. Now I know normally, you'd want the hit ratio up in the right kind of market, but I'm very happy to have it down, showing that we are just not out there getting business at any price. We're being very disciplined. So lots of support from brokers and clients, more business coming to the door, more of the right business coming in, and good pricing discipline by not hitting on the same, hitting at a lower level than we have in the past.

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Meyer Shields, Keefe, Bruyette, & Woods, Inc., Research Division - MD [29]

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That's very helpful. Thanks so much. And Pete, best of luck.

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Peter R. Porrino, XL Group Ltd - CFO and EVP [30]

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Thanks, Meyer.

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Operator [31]

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Our next question comes from Jay Cohen coming from Bank of America Merrill Lynch.

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Jay Adam Cohen, BofA Merrill Lynch, Research Division - Research Analyst [32]

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Let me just echo thoughts to Pete, best of luck. You've lived through some very, very interesting times at XL. There's a little bit Chinese curse about interesting times, but I think it's been pretty fruitful for everyone having you there. Just small questions actually. Reinsurance acquisition expense ratio did pop up you said. I think about half of it was due to some timing issues. Is it fair then to look at like a 24% number as a reasonable number to use going forward given some changes in the business mix?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [33]

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Yes, we should be up about a point year-over-year, going forward.

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Jay Adam Cohen, BofA Merrill Lynch, Research Division - Research Analyst [34]

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That's great. And then corporate expenses, excluding the integration expenses, did pop down from the run rate. I assume that's just realization of the cost savings. Anything unusual in that number? Is that also a good starting point for this year?

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Peter R. Porrino, XL Group Ltd - CFO and EVP [35]

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I think it's a good starting point for this year. It is the realization of cost savings and in addition, it's the normalization of projects. So as we complete projects and move them into business as usual, certain of our projects may become a part of our operating expenses in the segments. So corporate becomes less and that, hopefully, will be a trend over time.

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Jay Adam Cohen, BofA Merrill Lynch, Research Division - Research Analyst [36]

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Could that number come down more?

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Peter R. Porrino, XL Group Ltd - CFO and EVP [37]

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I think it will be relatively steady for the rest of the year, but we do expect to drive it down over the next several years.

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Operator [38]

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(Operator Instructions) Our next question comes from Ian Gutterman with Balyasny.

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Ian Gutterman, Balyasny Asset Management L.P. - Portfolio Manager [39]

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First for Pete, I was hoping for your final call, we could have kept ROE discussion off the call, but Amit had to ruin that for us, I apologize for him.

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Peter R. Porrino, XL Group Ltd - CFO and EVP [40]

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Well, there's always one in every crowd.

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Ian Gutterman, Balyasny Asset Management L.P. - Portfolio Manager [41]

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First for you or Steve, I think there's was a mention about strategic affiliates having a strong quarter. Was that any 1 affiliate or was that broad based?

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Stephen Robb, XL Group Ltd - MD and Corporate Controller [42]

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It was more balanced on 1 affiliate.

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Ian Gutterman, Balyasny Asset Management L.P. - Portfolio Manager [43]

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Okay. I mean, anything that suggests this wasn't a run rate? Or is this sort of above normal? Or...

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Stephen Robb, XL Group Ltd - MD and Corporate Controller [44]

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I would say, it was slightly above normal but nothing all that significant. I mean, and the investment affiliates would have been sort of below target. That would have offset that.

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Ian Gutterman, Balyasny Asset Management L.P. - Portfolio Manager [45]

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Got it. That's what I was trying to get. And I don't think, maybe I missed in the commentary. But the tax rate in the quarter was a little lower, is that right?

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Peter R. Porrino, XL Group Ltd - CFO and EVP [46]

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Well, this is Pete. As Steve said, I mean there was a discrete item in there that took it from the 11.1% down to where it ended up. But those discreets come and go, the 11.1% is pretty consistent with what it's been for the last year or so. There's nothing that's happened in the corporate that would indicate that our previous range of sort of 10% to 12% is not a reasonable range going forward.

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Ian Gutterman, Balyasny Asset Management L.P. - Portfolio Manager [47]

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Perfect, perfect. And then I think the only other 1 I had was, 1 thing a picked up in the 10-K that, I probably haven't asked about it for at least not in a while is, you have a very large valuation allowance that's actually grown over time and is now over $300 million, more than $1 a share. That's a lot of potential book value if you can find a way to realize that. Can you talk about plans to work on that, to monetize that and bring it into book value?

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Michael S. McGavick, XL Group Ltd - CEO and Director [48]

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Sure. It grew in part in the last couple of years, it's primarily in the U.K. in relation to operating income in the U.K. just because of a history of those legal entities having not enough income, but it doesn't expire. We expect to be able to use that over time. We also have carryforwards that we have a provision against for our capital losses in the U.S., that's largely associated with the credit crisis. And we look at strategies all the time to try and utilize as much of that as possible.

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Ian Gutterman, Balyasny Asset Management L.P. - Portfolio Manager [49]

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Are there any sort of specific milestones just far as where you need to get to a certain number of years in a row of positive income? Or is something like that, that we should look forward to? Or was it a little bit less predictable?

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Stephen Robb, XL Group Ltd - MD and Corporate Controller [50]

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I think it's less predictable than that, and it's specific to a couple of legal entities in the U.K.

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Operator [51]

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Our final question comes from Brian Meredith from UBS.

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Brian Robert Meredith, UBS Investment Bank, Research Division - MD, Financials Research Sector Head, Global Insurance Strategist, and Senior Property Casualty Insurance Analyst [52]

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A couple of quick questions here. Just first one, curious, Pete, any impact with this accounting change for share-based compensation in the quarter on the tax rate versus or there is something?

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Peter R. Porrino, XL Group Ltd - CFO and EVP [53]

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No.

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Brian Robert Meredith, UBS Investment Bank, Research Division - MD, Financials Research Sector Head, Global Insurance Strategist, and Senior Property Casualty Insurance Analyst [54]

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Nothing? So you don't have that, will you have that going forward at some point?

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Peter R. Porrino, XL Group Ltd - CFO and EVP [55]

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No, we don't expect that to be a material impact to us.

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Brian Robert Meredith, UBS Investment Bank, Research Division - MD, Financials Research Sector Head, Global Insurance Strategist, and Senior Property Casualty Insurance Analyst [56]

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Got you. Perfect. Second, I just want to follow up a little bit on the ceded. In the quarter, I understand that there was cap-on transactions. How much of the kind of change was cat fund versus other potential changes in your Reinsurance program? Because it's a pretty substantial number. And what impact would that have had on your kind of expense ratios as well?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [57]

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Sure, Brian. On the group level -- at the group level, it's about 2/3 the cap on and 1/3 the Insurance Casualty, excess Reinsurance I talked about. In terms of an earned impact, I don't think it should be very material. The cap on is a 3-year deal so we're going to earn that premium over 3 years. I'm afraid I don't have that math in front of me, but...

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Brian Robert Meredith, UBS Investment Bank, Research Division - MD, Financials Research Sector Head, Global Insurance Strategist, and Senior Property Casualty Insurance Analyst [58]

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That's fine.

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Peter R. Porrino, XL Group Ltd - CFO and EVP [59]

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And then I think, Greg, just a follow-up on the comment about the expense ratios. This is Pete, those are both without big ceding commissions. And so if anything, they just increased the overall expense ratios of the company.

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Brian Robert Meredith, UBS Investment Bank, Research Division - MD, Financials Research Sector Head, Global Insurance Strategist, and Senior Property Casualty Insurance Analyst [60]

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Got you, excellent. And then just one quick last question. On the Reinsurance side, Greg, just with respect to your comments where you said mix shift caused the higher underlying loss ratio as well as the higher acquisition cost. Is there a strategic shift to go to maybe higher combined ratio or lower volatility type business in the Reinsurance? Or it's just happened to happen in the first quarter?

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Gregory S. Hendrick, XL Group Ltd - EVP and President of Property & Casualty Operations [61]

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What you've observed is what I talked about in the call last quarter, Brian, when we wrote 1 particular transaction, and its impact is now starting to earn through. So no, it's not a broad strategy to shift the whole Reinsurance segment to that kind of a profile. But certainly, we did add that 1 transaction that has exactly you've described, which is a lower return, but also a very much lower volatility to the downside. So you've seen that come through. And what you see, the pickup is on the operating expense ratio going down.

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Brian Robert Meredith, UBS Investment Bank, Research Division - MD, Financials Research Sector Head, Global Insurance Strategist, and Senior Property Casualty Insurance Analyst [62]

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Got you, excellent And then also, Pete, congratulations on your retirement and everything . Thanks for all your help over the years.

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Peter R. Porrino, XL Group Ltd - CFO and EVP [63]

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Thank you, Brian.

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Operator [64]

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At this time, I'll turn the call back to Mike McGavick for closing remark.

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Michael S. McGavick, XL Group Ltd - CEO and Director [65]

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Well, great. Thank you. And I know you have a lot of work to do, so I'll be brief. First of all, to all of our colleagues who are listening in and to those who will read these remarks later, thank you for everything you've been doing. Let's keep it up, there's a lot more to do.

Second, to Steve, not all of you know Steve as well as I do. I have been working with him consistently since I got to XL. He's been in the room for every important decision I've been a part of around here and has been central to their effective execution. You will learn over time that we couldn't have been better prepared for a transition that is seamless in most respects. And so Steve, welcome.

And then finally to Pete. The reason it's not seamless in all respects is Pete. And I just want to make it clear that I wish for everyone on this call that they get to work in their lifetime in close partnership some day with someone as smart, as humble, as fun and as a devoted to doing the right things as Pete is, because it's a rare thing.

So thanks, everyone, and have a great evening.

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Operator [66]

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Thank you. This does conclude today's conference. We thank you all, for participating. You may now disconnect.