How Arig might return from the grave (page 1 of 4)

By Nick Henry in Manama

It's been a tough 12 months for the Arab Insurance Group (Arig), the Bahrain-based reinsurance specialist. It lost $88 million last year, largely as a result of September 11th. Arig's share price fell to just 20 cents, down from $1.60 at its flotation in 1997. And ratings agencies cut their all-important ratings on Arig Re, the group's reinsurance arm that chalked up most of the losses.

In isolation, 2001 would have been a difficult storm to weather. But it followed two years of similarly heavy losses. Such dismal performance was clearly unsustainable, and management reacted by announcing a major financial restructuring.

First, Arig Re was folded into the parent company. Second, financiers devised an innovative recapitalization in a bid to write off the group's losses and draw a line in the sand after three turbulent years.

"We started to have discussions with sovereign shareholders last year, long before September 11th," says Udo Krueger, the company's chief executive officer. "After September 11th, and the effect on our book of business, we had to increase the pace."
Mandates. This not the first time that Krueger has attempted to resuscitate the ailing group, the largest reinsurer in the Arab world.

The German national was hired in 2000, replacing the previous CEO, Abdul-Wahab Al Tammar. Krueger was given a very clear mandate from the board of directors: to revive Arig's flagging fortunes. Krueger devised a new strategy, which included withdrawing from aviation business, restructuring or divesting overseas subsidiaries, and developing income from business services and information technology. At the time, his new approach was roundly welcomed by analysts. So what went wrong?

"Unfortunately, September 11th caught up with us," says Krueger. "A change in direction does not work to quarterly results [in reinsurance]. There is a time lag of up to several years between receiving premium payments and the last payout on claims."

This reality was hammered home following the September 11th terrorist attacks and the American Airlines crash in New York on November 12th. Krueger had taken the decision to pull out of the aviation sector more than a year earlier. But the time lag meant that Arig Re's exposure to United Airlines and American Airlines had not expired by the time the incidents took place. And that lag, for Arig, proved extremely costly.

"Both were about to expire, American Airlines in two and a half months and United Airlines in six weeks," says Krueger. "We had already taken the decision not to renew all of our aviation accounts." Worse still, Arig Re had purchased retrocession cover to protect itself against aviation loss while the policies were expiring. But the company providing some of the cover, Fortress Re, collapsed, leaving ARIG heavily exposed. The incidents cost Arig a total of $62.8 million.

Poor timing. Analysts agree that the timing of the attacks, and the November crash, were extremely unfortunate for Arig. "They were a little bit unlucky," says Shahid Hameed, head of research at Securities and Investment Company (SICO) in Bahrain. "Their cover for United Airlines was just about to expire. They had been getting out of aviation business for some time. But it takes time to get out - you cannot exit overnight."
Bad luck rather than bad judgement may well have been the main culprit - but that did not change the precarious position in which Arig found itself. "Their problem was that their equity base had been shrunk and they were downgraded by a ratings agency, which had major negative implications for their business," says Shahid.

Despite some sympathy for Arig, international ratings agencies were left with little choice but to downgrade Arig Re in the wake of the troubles.