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Variable Interest Entities and Noncontrolling Interests

9 Months Ended

Sep. 30, 2021

Noncontrolling Interest [Abstract]

Variable Interest Entity and Noncontrolling Interests

Variable Interest Entities and Noncontrolling Interests

Watford

In March 2014, the Company invested $100.0 million and acquired approximately 11% of Watford’s outstanding common equity. Watford was considered a VIE and the Company concluded that it was the primary beneficiary of Watford, through June 30, 2021. As such, the results of Watford were included in the Company’s consolidated

financial statements as of and for the periods ended June 30, 2021.

In the 2020 fourth quarter, Arch Capital, Watford and Greysbridge, a wholly-owned subsidiary of Arch Capital, entered into an Agreement and Plan of Merger (as amended, the “Merger Agreement”). The merger and the related Greysbridge equity financing closed on July 1, 2021. Effective July 1, 2021, Watford is wholly owned by Greysbridge, and Greysbridge is owned 40% by the Company, 30% by certain investment funds managed by Kelso and 30% by certain investment funds managed by Warburg. Based on the governing documents of Greysbridge, the Company concluded that, while it retains significant influence over Watford, Watford no longer constitutes a variable interest entity. Accordingly, effective July 1, 2021, the Company no longer consolidates the results of Watford in its consolidated financial statements and footnotes. Beginning in the 2021 third quarter, the Company classifies its investment as ‘investments in operating affiliates’ on the Company’s balance sheets and is accounted for under the equity method.

The following table provides the carrying amount and balance sheet caption in which the assets and liabilities of Watford were reported at December 31, 2020:

									December 31,
									2020
Assets
Investments accounted for using the fair value option (1)									$	1,790,385
Fixed maturities available for sale, at fair value									655,249
Equity securities, at fair value									52,410
Cash									211,451
Accrued investment income									14,679
Premiums receivable									224,377
Reinsurance recoverable on unpaid and paid losses and loss adjustment expenses									286,590
Ceded unearned premiums									122,339
Deferred acquisition costs									53,705
Receivable for securities sold									37,423
Goodwill and intangible assets									7,650
Other assets									75,801
Total assets of consolidated VIE									$	3,532,059
Liabilities
Reserve for losses and loss adjustment expenses									$	1,519,583
Unearned premiums									407,714
Reinsurance balances payable									63,269
Revolving credit agreement borrowings									155,687
Senior notes									172,689
Payable for securities purchased									25,881
Other liabilities									193,494
Total liabilities of consolidated VIE									$	2,538,317
Redeemable noncontrolling interests									$	52,398

(1)    Included in “other investments” on the Company’s balance sheet.

Through June 30, 2021, Watford generated $47.0 million of cash provided by operating activities, $96.3 million of cash provided by investing activities and $2.0 million of cash used for financing activities, compared to $133.6 million of cash provided by operating activities, $242.0 million of cash provided by investing activities and $279.7 million of cash used for financing activities for the nine months ended September 30, 2020.

Non-redeemable noncontrolling interests

Through June 30, 2021, the Company accounted for the portion of Watford’s common equity attributable to third party investors in the shareholders’ equity section of its consolidated balance sheets. The portion of Watford’s income or loss attributable to third party investors was 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,
			2021						2020
Three Months Ended
Balance, beginning of period			$	918,874					$	679,089
Impact of deconsolidation of Watford			(918,874)						—
Additional paid in capital attributable to noncontrolling interests			—						243
Amounts attributable to noncontrolling interests			—						67,768
Other comprehensive income (loss) attributable to noncontrolling interests			—						10,820
Balance, end of period			$	—					$	757,920
Nine Months Ended
Balance, beginning of year			$	823,007					$	762,777
Impact of deconsolidation of Watford			(918,874)
Additional paid in capital attributable to noncontrolling interests			22,113						715
Repurchases attributable to non-redeemable noncontrolling interests (1)			—						(2,867)
Amounts attributable to noncontrolling interests			78,314						(578)
Other comprehensive income (loss) attributable to noncontrolling interests			(4,560)						(2,127)
Balance, end of period			$	—					$	757,920

(1) During 2020, Watford’s board of directors authorized the investment in Watford’s common shares through a share repurchase program.

Redeemable noncontrolling interests

Through June 30, 2021, the Company accounted for redeemable noncontrolling interests in the mezzanine section of its consolidated balance sheets in accordance with applicable accounting guidance. Such redeemable noncontrolling interests primarily related to the Watford Preference Shares issued in late March 2014 with a par value of $0.01 per share and a liquidation preference of $25.00 per

share. The Watford Preference Shares were issued at a discounted amount of $24.50 per share. Through June 30, 2021 preferred dividends, including the accretion of the discount and issuance costs, were 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,
			2021						2020
Three Months Ended
Balance, beginning of period			$	57,533					$	55,986
Impact of deconsolidation of Watford			(48,919)						—
Accretion of preference share issuance costs			—						23
Other			1,623						1,826
Balance, end of period			$	10,237					$	57,835
Nine Months Ended
Balance, beginning of year			$	58,548					$	55,404
Impact of deconsolidation of Watford			(48,919)						—
Accretion of preference share issuance costs			—						70
Other			608						2,361
Balance, end of period			$	10,237					$	57,835

The portion of 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,
			2021						2020
Three Months Ended
Amounts attributable to non-redeemable noncontrolling interests			$	—					$	(67,768)
Amounts attributable to redeemable noncontrolling interests			(1,473)						(1,875)
Net (income) loss attributable to noncontrolling interests			$	(1,473)					$	(69,643)
Nine Months Ended
Amounts attributable to non-redeemable noncontrolling interests			$	(78,314)					$	578
Amounts attributable to redeemable noncontrolling interests			(3,889)						(4,998)
Net (income) loss attributable to noncontrolling interests			$	(82,203)					$	(4,420)

Bellemeade Re

The Company has entered into aggregate excess of loss mortgage reinsurance agreements with various special purpose reinsurance companies domiciled in Bermuda (the “Bellemeade Agreements”). At the time the Bellemeade Agreements were entered into, the applicability of the accounting guidance that addresses VIEs was evaluated. As a result of the evaluation of the Bellemeade Agreements, the Company concluded that these entities are VIEs. However, given that the ceding insurers do not have the unilateral power to direct those activities that are significant to their economic performance, the Company does not consolidate such entities in its consolidated financial statements.

The following table presents the total assets of the Bellemeade entities, as well as the Company’s maximum exposure to loss associated with these VIEs, calculated as the maximum historical observable spread between the benchmark index for each respective transaction and short term invested trust asset yields. The benchmark index for agreements effective prior to 2021 is based on one-month LIBOR, while the 2021 agreements benchmark index is based on the Secured Overnight Financing Rate (“SOFR”). SOFR is a measure of the cost of borrowing cash overnight, collateralized by U.S. Treasury securities, and is based on directly observable U.S. Treasury-backed repurchase transactions.

									September 30, 2021																								December 31, 2020
									Maximum Exposure to Loss																								Maximum Exposure to Loss
Bellemeade Entities (Issue Date)			Total VIE Assets						On-Balance Sheet (Asset) Liability						Off-Balance Sheet						Total						Total VIE Assets						On-Balance Sheet (Asset) Liability						Off-Balance Sheet						Total
Bellemeade 2017-1 Ltd. (Oct-17)			$	145,573					$	(214)					$	585					$	371					$	145,573					$	(245)					$	844					$	599
Bellemeade 2018-1 Ltd. (Apr-18)			228,938						(764)						1,683						919						250,095						(903)						2,245						1,342
Bellemeade 2018-2 Ltd. (Aug-18)			—						—						—						—						108,395						(138)						280						142
Bellemeade 2018-3 Ltd. (Oct-18)			302,563						(1,049)						2,328						1,279						302,563						(1,320)						3,262						1,942
Bellemeade 2019-1 Ltd. (Mar-19)			210,529						(931)						8,142						7,211						219,256						(1,361)						8,461						7,100
Bellemeade 2019-2 Ltd. (Apr-19)			398,316						(787)						5,658						4,871						398,316						(730)						5,201						4,471
Bellemeade 2019-3 Ltd. (Jul-19)			491,634						(826)						3,971						3,145						528,084						(861)						5,079						4,218
Bellemeade 2019-4 Ltd. (Oct-19)			468,737						(682)						4,761						4,079						468,737						(890)						6,676						5,786
Bellemeade 2020-1 Ltd. (Jun-20) (1)			—						—						—						—						275,068						(178)						1,012						834
Bellemeade 2020-2 Ltd. (Sep-20) (2)			266,704						(279)						2,629						2,350						423,420						(556)						6,839						6,283
Bellemeade 2020-3 Ltd. (Nov-20) (3)			381,410						(395)						6,646						6,251						418,158						(631)						9,605						8,974
Bellemeade 2020-4 Ltd. (Dec-20) (4)			226,916						(100)						2,190						2,090						321,393						(156)						6,816						6,660
Bellemeade 2021-1 Ltd. (Mar-21) (5)			579,717						229						4,217						4,446						—						—						—						—
Bellemeade 2021-2 Ltd. (Jun-21) (6)			522,807						906						5,090						5,996						—						—						—						—
Bellemeade 2021-3 Ltd. (Sep-21) (7)			507,873						182						4,561						4,743						—						—						—						—
Total			$	4,731,717					$	(4,710)					$	52,461					$	47,751					$	3,859,058					$	(7,969)					$	56,320					$	48,351

(1)  An additional $79 million capacity was provided directly to Arch MI U.S. by a separate panel of reinsurers and is not reflected in this table.

(2)  An additional $26 million capacity was provided directly to Arch MI U.S. by a separate panel of reinsurers and is not reflected in this table.

(3)  An additional $34 million capacity was provided directly to Arch MI U.S. by a separate panel of reinsurers and is not reflected in this table.

(4)  An additional $16 million capacity was provided directly to Arch MI U.S. by a separate panel of reinsurers and is not reflected in this table.

(5)  An additional $64 million capacity was provided directly to Arch MI U.S. by a separate panel of reinsurers and is not reflected in this table.

(6)  An additional $93 million capacity was provided directly to Arch MI U.S. by a separate panel of reinsurers and is not reflected in this table.

(7)  An additional $131 million capacity was provided directly to Arch MI U.S. by a separate panel of reinsurers and is not reflected in this table.

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- Definition

The entire disclosure for noncontrolling interest in consolidated subsidiaries, which could include the name of the subsidiary, the ownership percentage held by the parent, the ownership percentage held by the noncontrolling owners, the amount of the noncontrolling interest, the location of this amount on the balance sheet (when not reported separately), an explanation of the increase or decrease in the amount of the noncontrolling interest, the noncontrolling interest share of the net Income or Loss of the subsidiary, the location of this amount on the income statement (when not reported separately), the nature of the noncontrolling interest such as background information and terms, the amount of the noncontrolling interest represented by preferred stock, a description of the preferred stock, and the dividend requirements of the preferred stock.

+ References

Reference 1: http://fasb.org/us-gaap/role/ref/legacyRef
-Publisher FASB
-Name Accounting Standards Codification
-Topic 810
-URI http://asc.fasb.org/topic&trid=2197479

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- References

No definition available.

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