2008 Seminar on Reinsurance: Professional Liability May 20, 2008

1 Agenda Section 1 State of the Lawyers Professional Marketplace Section 2 Reinsurance Discussion

Section 1: State of the Lawyers Professional Marketplace  Large Firms  Small Firms

Large Firms

4 The Market for Lawyers’ Professional Liability  “Large” defined as more than 50 attorneys  4Q2007 signaled first significant softening of LPL market since 2006 peak 5-10% rate reductions were common in late 2007 Expect to see continued reductions in 2008  As in past cycles, the LPL market has lagged the D&O market Law firm losses tend to develop more slowly than D&O losses and premiums as the firms are not typically party to initial litigation Delay also driven by lag before new capital enters –LPL substantially smaller than D&O market –Law firm losses not reported publicly 2007 was notable for the increase in insurer capacity  Multi-year coverage is becoming more available

5 Marketplace Conditions  Large law firm losses relatively benign 2003 – 2007  1999 – 2002 characterized by greater frequency of severe losses Financial failures of law firms’ client due to corporate malfeasance Economic downturn in the late 1990’s Tax shelter work done by a few firms  Law firm claim frequency remained well below D&O frequency Financial scandals that generated D&O claims did not include LPL –Central Bank of Denver protections –Stoneridge Investment Partners LLC v Scientific-Atlanta, Inc decision Other D&O loss categories have generated few, if any, LPL claims: –Laddering –Options backdating –Subprime/credit crunch

6 Large Settlements Since 1986 One in each cell was reversed on appeal.  Severity today generally remains below $50M ceiling established in the LPL cycle of the late 1980’s to early 1990’s Largest claims from tax shelters One hedge fund bankruptcy/fraud situation in early stages Source: Data compiled by Aon Professional Services Group from publicly reported information.

7 Underwriters Concerned About Future Losses  Economic downturn Increased frequency and severity may follow Business deals and transactions fall apart Certain areas of practice more active (e.g., bankruptcies)  Ramifications of subprime meltdown/credit crunch 236 subprime lawsuits as of 3/17/08, 1 legal malpractice* As of now, not seeing any LPL lawsuits related to subprime  Hedge funds and private equity work  Litigation exposures arising from e-discovery *Source: Industry Focus, April 2008; Advisen Ltd.

Small Firms

9 The Market for Lawyers’ Professional Liability  Rate softening varies Solo practitioners – holding fairly steady –Policyholder dividends As size of firm increases to 35-50, commercial markets more interested –Rate decreases as high as 10-15% or more  Frequency varies, but generally flat to decline with some instances of increase  Severity increasing at 3-5%  Deterioration in real estate area of practice

10 Underwriters Concerned About Future Losses  Economic downturn (same as large firms) Increased frequency and severity may follow Business deals and transactions fall apart Certain areas of practice more active (e.g., bankruptcies)  Real estate area of practice Particularly on east coast Title agents E&O cover as endorsement to LPL policy High paralegal to qualified attorney ratio – bucket shops for title closings without adequate supervision Around 15 states where lawyers combined the title closing function States where speculative or second home purchasing heavily exposed (FL, SC)  “Subprime” itself not necessarily concern as much as devaluation of assets and business failings

11 NABRICO Analysis  Analyze surplus growth for Lawyers Professional Liability writers NABRICO carriers write Lawyers Professional Liability –Examples: Lawyers Mutual Insurance Company (CA), Wisconsin Lawyers Mutual Insurance Co., Illinois State Bar Assoc. Mutual Difficult to analyze Commercial lines carriers that write LPL –Examples: CNA, Zurich, Great American –No unique Annual Statement Line  Understand the drivers of surplus growth How much from operating income (underwriting and investment)? How much from capital contributions?  Understand the drivers of operating income Underwriting income and prior year reserve development Investment income yields and asset distributions Source: Data from SNL compiled by Aon Re

12 Total Change in Surplus  Total surplus up $33M from 2005 to 2006  Total surplus up $23M from 2006 to 2007

13 Components to Change in Surplus Net IncomeNet Paid InUR GainsOther

14 Components Net Income Net U/W IncomeNet Investment Income Dividends to PHFederal Income Tax

15 Components Underwriting Income Prior Year Reserve Development Net U/W Income Before Prior Year Reserve Development

16 Return on Invested Assets

17 Distribution of Assets BondsStocksCashOther

Section 2: Reinsurance Discussion  Medical Malpractice  Lawyers Professional

19 Medical Malpractice Reinsurance Observations  More than enough capacity, with more coming in  Disconnect between supply and demand  Bad faith, ECO/XPL Connecticut: $38.5M Florida: $21M, $10M Illinois: $24M, $12M Iowa: $13.5M Maine: $8M Massachusetts: $26M New Jersey: $19M Wisconsin: $23M  Systemic, batch and aggregation  Awards-made coverage

20 Lawyers Professional Reinsurance Observations  Stable to growing capacity, depending on the market segment  Large firm LPL usually combined with D&O and other E&O programs, but sometimes stand-alone  Small firm structures similar to PIAA  More discussions regarding systemic type exposures and coverages – still mostly talk  Rate relief and broader terms for “best in class”  Increased actuarial involvement by all parties to the transaction  Increased interest from the Bermuda market