DBRS Confirms Fairfax Financial Holdings Limited at BBB (high), Insurance Affiliates at “A”; Stable Trends

DBRS Limited (DBRS) confirmed Fairfax Financial Holdings Limited’s (Fairfax or the Company) Issuer Rating at BBB (high), its Senior Unsecured Debt at BBB (high) and its Preferred Shares rating at Pfd-3 (high). DBRS also confirmed the rating of Fairfax (US) Inc.’s Senior Unsecured Notes, which are guaranteed by Fairfax, at BBB (high). In addition, DBRS confirmed the Issuer Rating and the Financial Strength Rating (FSR) of Northbridge General Insurance Corporation (Northbridge) as well as the FSR of Federated Insurance Company of Canada (Federated), the Canadian operating subsidiaries of Fairfax, at “A.” All trends are Stable.

KEY RATING CONSIDERATIONS
Fairfax’s ratings confirmations reflect the Company’s global footprint in property and casualty insurance and reinsurance. The Company has good franchise strength, which is supported by its international network of subsidiaries that successfully compete in niche markets. Fairfax’s disciplined underwriting approach is evidenced by its ability to consistently achieve solid combined ratios. Underwriting performance in 2017 was impacted by several large catastrophe events, but the Company had an overall combined ratio in line with that of the industry. Due to the treatment of unrealized investment gains and losses, investment results tend to be volatile, which negatively impact coverage ratios and profitability metrics.

The Stable trends on Fairfax’s credit ratings consider the Company’s comprehensive risk management and demonstrated ability to navigate challenging economic environments and the impact of significant catastrophe losses.

RATING DRIVERS
Upward rating pressure may arise from sustained improvement in profitability, with returns on equity consistently above 10% accompanied by well-managed risk exposures. Significant improvement in fixed-charge coverage ratios and a material reduction in investment income volatility, as well as a material reduction in financial leverage below 25%, would also have positive rating implications. Conversely, negative rating pressure may arise from sustained overall combined ratios above 102%, from a material decline in the regulatory capital ratios of the operating subsidiaries and significant reduction in holdco liquidity levels and from large debt-financed acquisitions, reducing Fairfax’s financial flexibility.

RATING RATIONALE
Fairfax has developed an extensive global portfolio of insurance and reinsurance subsidiaries over time, which the Company continues to expand through strategic acquisitions. With approximately $15 billion in gross premiums written, Fairfax ranks among the top 20 largest global non-life reinsurers and own several key operations, including Northbridge Financial Corporation, Brit Limited, Odyssey Group Holdings, Crum & Forster Holdings, Zenith National Insurance and, more recently, Allied World Assurance Company, which was acquired in 2017. Fairfax operates a decentralized structure in more than 40 countries and offers property and casualty insurance in a broad range of risks.

To manage its dispersed global operations, the Company maintains a lean head-office structure based on its approach of providing a high degree of autonomy to its business units and maintaining a multi-brand strategy. However, Fairfax’s good risk profile reflects its corporate risk management infrastructure, which uses the risk management functions of each of the business operations to collect and monitor information regarding aggregate and emerging risks.

Fairfax has a strong focus on underwriting profitability and a willingness to avoid writing new business when it deems market pricing as inadequate. Management incentives are in place to align the performance of the operating subsidiaries and are tied to combined ratios. The Company has successfully achieved combined ratios in the low 90s in the past few years, except for 2017, which was impacted by large catastrophe losses following the hurricane season in the Caribbean and the wildfires in California. Indicative of its ability to maintain its performance, its combined ratio for the 9M 2018 improved to 96.6% from 109% during 9M 2017.

The investment management function for all subsidiaries is provided centrally by Hamblin Watsa Investment Counsel Ltd., a wholly owned subsidiary of Fairfax. The Company follows a value investment approach and has been able to generate investment returns above peers’ average, although somewhat more volatile due in part to the accounting treatment of unrealized investment gains and losses.

Fairfax’s credit rating benefits from the large balance of liquid assets at the holding company level, including $462 million in cash and short-term investments at the end of Q3 2018 (27% of cash and total investments at the holdco level). Although this level is down from the $1.1 billion balance at fiscal year-end 2017, DBRS notes the Company is committed to maintaining at least $1 billion in cash and total investments at the holdco level ($1.7 billion at Q3 2018). In addition, Fairfax has access to a sizeable committed line of credit facility that was extended until December 2021 and remained undrawn as of September 30, 2018.

DBRS considers the Company to have good capitalization. Fairfax’s insurance and reinsurance subsidiaries are well capitalized. The Company’s main subsidiary in Canada, Northbridge, has robust regulatory capital with a minimum capital test ratio of 208%. However, its fixed-charge coverage ratios and profitability metrics have been volatile over time. The Company’s relatively high financial leverage (32.3% at Q3 2018) is partly mitigated by the strong liquidity at the holdco level.

The Grid Summary Grades for Fairfax are as follows: Franchise Strength – Good; Risk Profile – Good; Earnings Ability – Good; Liquidity – Good; Capitalization and Asset Quality – Good.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at www.dbrs.com.

The applicable methodologies are Global Methodology for Rating Life and P&C Insurance Companies and Insurance Organizations (January 2018), DBRS Criteria: Preferred Share and Hybrid Security Criteria for Corporate Issuers (November 2018), DBRS Criteria: Guarantees and Other Forms of Support (January 2018) and DBRS Criteria: Rating Corporate Holding Companies and Their Subsidiaries (November 2018), which can be found on our website under Methodologies & Criteria.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: Marcos T. Alvarez, Senior Vice President, Global FIG
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer – Global FIG and Sovereign Ratings

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.