US GAAP Accounting Treatment Alternatives, Private Investments, Operating Affiliates

Transcription

1 US GAAP Accounting Treatment Alternatives, Private Investments, Operating Affiliates This memorandum is intended to supplement the Investor Day presentation of May 24, 2007 in order to highlight the accounting treatment for XL s investments in alternatives, private investments and operating affiliates. See attached charts for blue numbered bullet references Overview XL s Alternative Investment portfolio is reflected in three separate balance sheet lines, Investments in Affiliates, Other Investments and Equities : 1 XL s Private Investment portfolio is reflected in two separate balance sheet lines, Investment in Affiliates and Other Investments: 2 3 Net Income from Investment Affiliates reflects: o The change in the net asset values of the equity accounted portion of our alternative portfolio, on which we base our annual investment affiliate guidance and is a product of the return multiplied by the level of the investments, o Changes in the fair value of our private investment funds. This element is not included in our annual guidance as it cannot be reasonably predicted o Certain gains and losses on sales of all or part of any of our holdings in the investment affiliates. Net Income from Operating Affiliates reflects earnings from minority interests in investment manager affiliates, insurance, reinsurance and financial affiliates, and will include Security Capital Assurance subsequent to the completion of the secondary offering announced on May 16, It also includes certain gains and losses on sales of all or part of any of our holdings in the operating affiliates. The unrealized change in the net asset values in the non-equity accounted alternative portfolio is reflected in Accumulated Other Comprehensive Income ( AOCI ), not in the income statement. We have expanded our financial supplement disclosure to provide these splits on a more timely basis. We will provide both current and prior quarter periods along with information showing the breakdown of the affiliate earnings between the alternative, private and operating affiliates categories. 4

2 XL Accounting Policies The following is the accounting policy for Investments in Affiliates as presented in note 2(g) of XL s K. Investment In Affiliates Investments in which the Company has significant influence over the operating and financial policies of the investee are classified as investments in affiliates on the Company s balance sheets and are accounted for under the equity method of accounting. Under this method, the Company records its proportionate share of income or loss from such investments in its results for the period. Significant influence is deemed to exist where the Company has an investment of 20% or more in the common stock of a corporation or an investment of 3% or greater in closed end funds, limited partnerships, LLC s or similar investment vehicles. Significant influence is considered for other strategic investments on a case-by-case basis. Operationally, XL s Investments in Affiliates can be split into the following principal categories: Alternative Investment Funds: This is the equity accounted portion of our alternative portfolio, where we are determined to have significant influence (generally >3% ownership). The change in the net asset values of the investments in this portfolio is reflected in Net Income from Investment Affiliates. Our annual guidance is based on our projected annual returns over the longer term for this portfolio and reflects the projected income on this portion of the portfolio. Private Investment Funds: This is the equity accounted portion of our private investment portfolio, where we are determined to have significant influence (generally >3% ownership). The change in the fair values of these portfolios is reflected in Net Income from Investment Affiliates. We do not provide annual guidance on this portion of the portfolio as the timing and amount of the fair value changes cannot be predicted. Operating Affiliates: These are minority investments in investment manager, insurance and reinsurance and financial affiliates. XL s share of company earnings, based on % of ownership, is reflected in net income from operating affiliates. Our share of Security Capital Assurance earnings will be reflected in this manner subsequent to the completion of the secondary offering announced May 16, The following is the accounting policy for Other Investments as presented in note 2(g) of XL s K:

3 Other investments The Company accounts for its other investments which do not have readily determinable market values at estimated fair value as it has no significant influence over these entities. The net unrealized appreciation or depreciation on investments, net of tax, is included in accumulated other comprehensive income (loss). Any unrealized depreciation in value considered by management to be other than temporary is charged to income in the period that it is determined. XL s Other Investments can be operationally classified as follows: Alternative Investment Funds: This is the non-equity accounted portion of our alternative portfolio, where we do not have significant influence. The change in the net asset value of investments in this portfolio is reflected in Accumulated Other Comprehensive Income until realized or permanently impaired, at which point it is reflected in Realized Gains (Losses) on Investments. Private Investments: This is the non-equity accounted portion of our private portfolio, where we do not have significant influence. The change in the net asset value of investments in this portfolio is reflected in Accumulated Other Comprehensive Income until realized or permanently impaired, at which point it is reflected in Realized Gains (Losses) on Investments. This also includes our CDO portfolio, which are accounted for on a cost recovery basis. Cash flows are applied first as a reduction of our carrying value. Once that carrying value is reduced to zero, subsequent cash flows are reflected in Net Investment Income. Fixed Income: Certain illiquid fixed income securities and funds are included in this balance, and results are reflected in the same manner as Available for Sale investments. The following is the accounting policy for Equity Securities as presented in note 2(g) of XL s K. Equities Investments that are considered available for sale are carried at fair value. The fair value of investments is based upon quoted market values where available or by reference to broker or underwriter bid indications. The net unrealized appreciation or depreciation on investments, net of tax, is included in accumulated other comprehensive income (loss). Any unrealized depreciation in value considered by management to be other than temporary is charged to income in the period that it is determined and reflected in Realized Gains (Losses on Investment.. Equity securities include investments in open end mutual funds and shares on publicly traded alternative funds. XL s Equity Securities can be operationally classified as follows:

4 Publicly traded equities and funds: Accounted for as available for sale assets. This includes certain fixed income funds that do not have the same risk characteristics as public equities, and accordingly we have separated these two in our financial supplement disclosures. Alternative Investment Funds: This is portion of our alternative portfolio consisting of publicly traded alternative funds. The change in the fair value as measured by the quoted market value these investments is reflected in Accumulated Other Comprehensive Income until realized or permanently impaired, at which point it is reflected in Realized Gains (Losses) on Investments.

5 Increased Quarterly B/S Transparency Equities, Affiliates, Other GAAP Basis ($mm, ) Equity Securities Investments in Affiliates Other Investments Total 1 Alternatives 30 1, ,127 Investment Public Equities Fund Affiliates Private Investments Fixed Income (Re) Insurance & Financial Affiliates Investment Manager Affiliates Total GAAP Basis 908 2, ,047 Affiliate Investments

6 Increased Quarterly B/S Transparency Equities, Affiliates, Other GAAP Basis ($mm, ) Equity Securities Investments in Affiliates Other Investments Total Alternatives Net Income from 30 Investment Affiliates 1, ,127 Public Equities Investment Fund Affiliates Private Investments Net Income from Investment - Affiliates Fixed Income (Re) Insurance & Financial Affiliates Net Income from Operating Affiliates 4 Operating Affiliates Investment Manager Affiliates Total GAAP Basis 908 2, ,047 Affiliate Investments