Legion & Villanova: Carriers Gone Bad’

The recent rehabilitation of the Legion and Villanova Insurance Companies with the Legion Insurance Group is sure to have raised some eyebrows across the insurance industry, but is it an indicator of what could be in store for companies in the future? Or are Legion and Villanova simply unique and isolated incidents, unfortunate in light of the events of the past year?

Ralph Cagnetta, a managing senior financial analyst at A.M. Best, attributed Legion’s rehabilitation status to a number of factors, including the significant growth Legion experienced in the late 1990’s, taking on added exposure, and paying the additional premium to go along with it.

“What they ended up doing was leveraging their balance sheet to an extreme. They didn’t retain much, but they ended up feeding out to the insurance market,” says Cagnetta. The additional growth resulted in their reinsurance receivable becoming multiple times their capital base.

“Legion ran into a situation where they weren’t able to collect on their insurance or recoverables, or the reinsurers were just low paying,” says Cagnetta.

Another determining factor was some reserving problems Legion had on their own book, which caused a counter development in some of their under-priced programs written in the soft market.

Finally, Cagnetta attributes financial leverage at Legion’s parent company, Mutual Risk Management, as contributing to Legion’s troubles.

“MRM had pretty high debt load and was not able to raise any additional cash to infuse into the Legion company,” Cagnetta says.

“It is definitely a liquidity issue with this company,” says Melissa Fox, deputy press secretary at the Pennsylvania Insurance Department. She explained that the company had been on watch for approximately two years by the PDI. “They have gone through some multiple downgrades with A.M. Best. There was $494 million in liquid assets for Legion. Unfortunately for them $317 million of that was restricted by the reinsurance. Over half of the liquid assets were tied up in reinsurance.”

Fox further says that Legion attempted to raise an additional $100 million in equity, filed with the SEC, and lined up an underwriter. The filing failed when an outside auditor reduced its tax-deferred assets, resulting in another downgrade from Best. The underwriter withdrew.

The PDI took Legion and Villanova into rehabilitation on April 1, with Pennsylvania Insurance Commissioner M. Diane Koken appointed as rehabilitator.

“The policyholders are the first priority in the rehabilitation process,” Fox says, adding that it is essential that their coverage is available to them and that they have access to any outstanding claims.

“We say that on average it takes about 90 days to determine a rehabilitation plan,” continues Fox. “As with any rehabilitation our goal is to marshal the assets and establish a financial picture of the company.” Fox explains that this procedure allows the department to determine whether or not rehabilitation will be successful, or if the court would be petitioned for an order of liquidation.

Once the company is taken into possession, the PDI ensures that there is enough money, and consumer protections are employed to ensure that policyholders are safeguarded.

Fox adds, “Some of the claims have been put on hold pending the development of the rehabilitation plan, in particular, auto insurance claims.”

So what further implications can this have on the insurance industry?

“Legion and Mutual Risk in general are program writers. They all have a terrific advantage when there’s a soft market, and there’s plenty of reinsurance capacity,” says Donald Watson, a managing director at Standard & Poor’s. “What’s happened is that reinsurance capacity has become scarce.”

Watson attributes the scarcity in part to the Sept. 11 tragedy, but also to a large amount of underpricing in the reinsurance market.

According to Watson, MRM began to try and retain as much as 30 percent of the risk in 2002 due to the pressuring of reinsurers. Watson says, “It was still a tough battle to get the reinsurers to sign on for the amount of capacity. And if the reinsurers don’t support you, you’ve got to take all of that risk on your own balance sheet. MRM didn’t have the capital that would allow them to do so.”

Watson says growth and reinsurance recoverables are two early warning indicators….

Cagnetta describes the significance of monitoring financials in companies that show signs of financial instability. “We look at them on a quarterly basis to help identify changes or trends in a company’s operations, which may lead to concerns about the overall stability of the company.”

Growth, again, is a tell-tale factor. Cagnetta questions companies that show significant growth in a short time period. “Is the insurer able to handle the additional business? Are they charging the adequate rates for exposures assumed?

“A lot of the rapid growth, especially in the soft pricing environment, is a pretty big risk factor,” he adds.

In addition to noting aggressive growth, analysts also look at the reserves, reserve adequacy, and, at Best, a proprietary loss reserve model indicates if a company’s reserves are deficient utilizing different actuarial techniques. Other factors include a year-reserve development.

“Then of course you have the obvious factors, a company that loses surplus, or negative cash flow, changes in senior management, they’re all indicators of problems at a company,” adds Cagnetta. He also notes the role of stress in the corporate family, referencing the financial instability at MRM.

Watson adds, “When you look at what’s happened with Legion, a big part of it has been that they did not have a history of writing risk with an intent to retain it, and as a result, underwriting quality was not at a level that would keep the reinsurers supporting the group at the level that would make it possible for them.”

Additionally, Legion lost financing from its premium finance company only eight months ago. The loss further antagonized Legion’s financial instability.

But to Watson, Legion’s troubles come as no surprise. “I think their [Legion’s] difficulties are predominately a function of market conditions and a lack of capital and underwriting expertise that they need in the current environment. Give them some time, and they can manage a risk portfolio on a smaller basis.”

As for the fate of MRM, Cagnetta says, Bermuda regulatory agencies are looking at the offshore parent company, but he is unclear whether any action has been taken.

To comment on this story, e-mail cbeisiegel@insurancejournal.com.