W.R. Berkley's (WRB) CEO W. Robert Berkley, Jr. on Q4 2015 Results - Earnings Call Transcript

| About: W.R. Berkley (WRB)

W.R. Berkley Corporation (NYSE:WRB)

Q4 2015 Earnings Conference Call

February 2, 2016 5:00 p.m. ET

Executives

W. Robert Berkley, Jr. - CEO and President

Eugene Ballard - EVP, CFO

William Berkley - Executive Chairman

Analysts

Michael Nannizzi - Goldman Sachs

Kai Pan - Morgan Stanley

Ryan Tunis - Credit Suisse

Vinay Misquith - Sterne, Agee

Josh Shanker - Deutsche Bank

Jay Cohen - Bank of America Merrill Lynch

Mark Dwelle - RBC Capital Markets

Ian Gutterman - Balyasny Asset Management

Brian Meredith - UBS

Operator

Good day and welcome to W.R. Berkley Corporation's Fourth Quarter 2015 Earnings Conference Call. Today's conference is being recorded.

The speakers' remarks may contain forward-looking statements. Some of the forward-looking statements can be identified by the use of forward-looking words including, without limitation, believes, expects and estimates. We caution you that forward-looking statements should not be regarded as a representation by us that the future plans, estimates or expectations contemplated by us will in fact be achieved. Please refer to our Annual Report on Form 10-K for the year ended December 31st, 2015 and our other filings made with the SEC for a description of the business environment in which we operate and the important factors that may materially affect our results. W.R. Berkley Corporation is not under any obligation and expressly disclaims any such obligation to update or alter its forward-looking statements whether as a result of new information, future events or otherwise.

I would now like to turn the call over to Mr. Robert Berkley. Please go ahead, sir.

W. Robert Berkley, Jr.

Thank you, Bridgett, and good afternoon and welcome to our fourth quarter call.

The agenda we have laid out is I'm going to start with some general comments, then we're going to hand it over to Gene to walk you through the numbers and provide some highlights, and then we'll move on to the Q&A where our Chairman, Gene and I will be available to answer any questions people have.

So, starting out with a couple of comments on the marketplace. By and large market conditions were consistent with what we've seen over the past several quarters. The reinsurance marketplace remained seriously competitive, though the pace of the erosion seems to be slowing, particularly on the domestic market. We're also seeing a slowing in the entry of new alternative capital providers in the reinsurance space. And having said that, we'll have to see if that trend continues.

On the international insurance front, certainly this has remained a very competitive market, at least in the marketplaces that we participate in. Having said that, while we've seen several carriers over the past few years increasing their footprint, it would seem as though some of them are beginning to pause and perhaps in some cases reconsider these plans.

As it relates to the domestic insurance business, very much as in the past, a mixed bag. Yes, marginally in the aggregate more competitive. Having said that, the cat-exposed property market continues to be remarkably competitive. Perhaps this is a result or an extension from what's been going on in the cat reinsurance market.

Commercial auto, while rate increases are achievable, certainly the margins in that space continue to give us reason to pause. Having said that, on the other hand, the casualty market, the professional market and the comp market, while not across the board, certainly offer several pockets where there's very attractive opportunity to deploy capital and generate good returns.

So, having said all of this, while it does appear like it's such a natural extension of earlier quarters during 2015, the fact is over the past several months there's been quite a bit of change, if you peel a few layers back. There's been a significant amount of M&A going on, and in addition to that, several large companies are going through some very meaningful reorganizations.

As a result of that, we are seeing the potential for a lot of disruption in the P&C space. Perhaps this dislocation will actually prove to be as meaningful as some have speculated, which ultimately could generate a great opportunity for carriers like ourselves and others.

On a different note, a quick comment about distribution. Clearly as the marketplace is becoming more competitive for both carriers and distribution, there's a growing amount of pressure or tension between the two parties. Hopefully while everyone is busy trying to find ways to maintain their margins, people will not lose sight of the ultimate goal which is to find ways to work together to bring more demonstrable additional value to customers.

And finally, a comment on interest rates. We have had a view for some time that interest rates would be moving up. I think our view has been modified somewhat. Not that rates will be moving up but, quite frankly, we think it may be a more gradual process than some have suggested. We will see over time.

Obviously we are reminded that, in spite of the improvements in the U.S. economy as a result of globalization, the U.S. economy is not insulated from some of the challenges that other meaningful economies around the world are facing.

A couple of sound bites on our operation, before I flip it over to Gene. Certainly the top line we thought was a reasonable growth rate. Obviously it was somewhat impacted by FX. Having said that, when you peel a few layers back, we are growing where we think the opportunities are, and quite frankly, where we don't see the opportunities, that is where our book is shrinking. Ultimately we think that you can see in our press release that there are certain places where the margins are very healthy and we are looking to increase our footprint there.

So I'm going to pause there and hand it over to Gene and let him run through the numbers.

Eugene Ballard

Okay. Thanks, Rob.

Well, we closed the year with another solid quarter with operating income of 18% to $115 million and operating income per share of 22% to $0.89. The improvement from over a year ago was led by higher investment income and a modest increase in underwriting profits. Our overall net premiums written increased 3% to $1.5 billion. For the domestic segment, premiums increased 8%, with professional liability lines up 29%, workers' compensation business up another 13%, and other liability lines up 9%. Partially offsetting those was an 8% decline in commercial automobile business where we continue to emphasize needed rate increases.

For the international segment, net premiums declined 11% to $185 million, due primarily to the strengthening of the U.S. dollar. In local currency terms, the decline in international premiums was 2% as growth in Canada, South America was offset by lower premiums in Europe and Australia. And our global reinsurance premiums were down 10% to $146 million due to the impact of the continuing soft market conditions for the reinsurance business in both the U.S. and abroad.

Our pretax underwriting profits were up 7% in the quarter to $107 million and the combined ratio improved by two-tenths of a point to 93.1. For the current accident year, our pre-cat loss ratio declined 1.1 points from a year ago to 60.0, with all three business segments reporting accident year loss ratios between 58% and 61%.

Cat losses were just $11 million, compared with $18 million a year ago. In the current quarter there were no individual events with losses more than $2 million. And the overall cat loss ratio was just seven-tenths of a point.

Prior-year reserves developed favorably by $15 million or 1 loss ratio point, with positive development for the domestic and reinsurance segments and essentially no change in reserves for the international business. That's now 36 consecutive quarters that we've reported positive reserve development.

So in total that gives us a calendar year loss ratio of 59.8, down a full percentage point from a year ago.

Turning to expenses, our overall expense ratio for the quarter was 33.3, compared with 32.5 in the fourth quarter of 2014. Looking at it by segment, the domestic expense ratio increased eight-tenths of a point to 31.2, due primarily to higher DAC amortization. For the full year, the domestic expense ratio, which was also 31.2, was four-tenths of a point below full year 2014 and right in line with our business plan.

The international expense ratio increased 1.3 percentage points from a year ago to 41.5, due in part to a lower premium volume. On the other hand, the fourth quarter expense ratio of international was almost 2 points below the third quarter expense ratio as we're beginning to see the benefit of the international expense initiatives that we talked about on our last earnings call.

And finally, the reinsurance expense ratio increased 2 percentage points to 39.4, also due in part to lower premium volume -- lower premium volume. In addition, as I mentioned in the last couple of calls, the 2015 reinsurance expense ratio includes the impact of certain structured property [CREs] [ph] that paid profit commissions if losses are below a stated level. And although these contracts continue to be quite profitable, they added 1.5 points to the expense ratio for the segment.

Turning to investments, our investment income was up 12% to $128 million. Earnings from our internally managed investments, including our arbitrage trading account, were in line with prior year at $116 million and an average annualized yield of 3.1%. Income from investment funds was $11 million in the current quarter, compared to a loss of $4 million a year ago. The improvement reflects higher earnings from real estate funds as well as a foreign investment fund that was partially offset by a previously reported loss of $12 million for energy funds. For the full year, investment funds reported aggregate pretax earnings of $62 million and an average return on investments of 5.2%.

Also in the current quarter we reported realized gains of $13 million and recognized [another] [ph] temporary impairments of $21 million. The impairments are related to declines in fair value for equity investments in both the energy sector and the financial services sector.

At December 31, 2015, the average credit rating for the portfolio was AA-minus and the average duration was 3.3 years. With the increase in interest rates and spreads in 2015, the after-tax unrealized gains declined by $115 million to $181 million at December 31st. Of course, with the subsequent decrease in rates in January, that's moved significantly back in the other direction.

Unrealized currency translation losses also increased by $125 million in 2015 as a result of the strengthening of the U.S. dollar against our holdings in non-denominated -- non-U.S. denominated securities including the British pound, euros, Australian and Canadian dollar.

That gives us an operating income of $115 million for the quarter and an operating ROE of 10%, and for the full year, it gives us a net income of $504 million, earnings per share of $3.87, 20% increase in cash flow to $881 million, and a net income return on equity of 11%.

W. Robert Berkley, Jr.

Okay. Thank you, Gene.

So as you all can see, a solid quarter. We're particularly pleased with the improvement in international. Our work is not done there, but certainly a meaningful improvement on the loss ratio front. And as Gene suggested, while perhaps the improvement is not visible on the expense front when comparing fourth quarter to fourth quarter, if you compare the fourth quarter to the third quarter, meaningful improvement there. We are not done there, more work to do, but we expect the trend to continue.

So, overall, again, happy with the quarter. Thought it was a good year. Additionally, because of the nature of our business, we have a fair amount of visibility as to what 2016 is going to look like, and barring any unforeseen event, I think we are reasonably confident that we will be able in 2016 to improve from where we were in 2015.

So we will be pausing at this stage. Again you have Chairman Bill Berkley, Gene and myself available to answer questions. Bridget, if you could please open it up.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions]

Our first question is from Michael Nannizzi with Goldman Sachs. Your line is open.

Michael Nannizzi

Thanks so much. Hey, Rob, could you talk a little bit about -- maybe a little bit more about the expense ratio in domestic? Nice growth there. It's sort of been sitting here still above 31%, and we are sort of assuming that the trend line last couple of quarters represented would continue just given the growth there. Can you talk a little bit about what's happening and, you know, how we should be thinking about that?

W. Robert Berkley, Jr.

Well, Gene, as you commented, there was a bit of a component having to do with DAC. But I think the other piece that we have there is that, while we haven't made big public announcements about it, we have added over the past couple of quarters, call it, about a handful of teams to the organization. And as a result of that, we've incurred not an insignificant amount of expense. It takes time for that earned premium to come through.

Having said that, honestly, Mike, from our perspective, can, as we've discussed in the past, can we improve from the 31? Yeah, I think maybe we can over time improve from the 31. But it's unlikely that you're going to see us getting to a level that's significantly below where we are today just because of the nature of our domestic business. We are a significant specialty player and a fair amount of that is coming through a wholesaler. We need to both address the need of a wholesaler as well as ultimately a retailer.

So, do I think that we were adversely impacted, and Gene commented on this earlier, to a certain extent by DAC, do I think -- yes, that is clearly the case. Having said that, as our model has been for years, we tend to prefer to start businesses up. We think that's a more controlled model. But as a result of that, the earned lags the expenses, and I think you're seeing a bit of that as well.

Having, again, having said that, I don't think you should be expecting our domestic business to pass significantly to -- or should really get to a level materially below where we're running. Can we get down to 30%? Yes. Can we maybe get to 29%? Yes. But we'll need to see a hard market akin to like what we saw in 2003, 2004 to get there.

Michael Nannizzi

Got it. Okay, thanks for that. And then, how should we be thinking about the investment funds, the income from those funds in 2016 and just given the sort of rough start here at the beginning of the year, you know, can you give us just some context for how we should be thinking about that and do you plan to reallocate within that cluster of assets?

William Berkley

Michael, it's Bill.

Michael Nannizzi

Hey, Bill.

William Berkley

I think that, first of all, the allocation of our resources, we're down to probably $100 million in total investments in our energy funds, and that's the total exposure. I think the first quarter, we'll have a modest loss, probably $4 million, $5 million, $6 million, from the energy funds. A number of the other funds who are -- we already have the results for, a couple of real estate funds, are quite positive. So the funds for the first quarter will be okay.

I think that, you know, the only fund that's had real volatility that's been surprising has really been the oil fund, and that's followed everything else in the oil industry. The rest of the funds have been reasonably consistent performers. And we have a wide diversity of funds, so.

Michael Nannizzi

Okay.

William Berkley

I think that we'll continue doing the things that we do in those funds, our real estate investments and so forth.

Michael Nannizzi

Got it. And then, if I could, I think we've, on prior calls, we've talked about the tax rate and the fact that it's relatively high compared to peers. I mean, is there -- is that an area where we can expect you're looking at potential ways to improve your efficiency there? And if so, can you just kind of let us know what you might be thinking about doing or what we might be able to see in the future?

W. Robert Berkley, Jr.

Mike, the answer is yes, we are very conscious of it. And certainly we as an organization, our Chairman in particular, has been reasonably clear about our views as an organization. We are aware of the challenges around it compared to some of those that we compete against. And we are -- it is on our radar screen as far as our plans. Certainly it's something again that we think a lot about, but I don't think at this stage there's really anything to discuss beyond that.

I would add, however, that we do in our press release provide a pretax number because we think that it's important for investors to be able to compare on an apples to apples basis, putting aside tax the underlying earnings power of a business. It's not that the tax isn't real, it's not that it doesn't impact our model compared to some that we compete against. At the same time, there is oftentimes more than one way to look at a situation.

William Berkley

I think we could add something else. I mean it's -- one of the things when you assess short-term tax rates versus asset exposures and so forth, there are plenty of people who choose asset mixes such as municipal bonds and so forth, that give you lower tax rate but don't really give you over a long term better returns. So I think that we try and look at overall returns, and in the short term that can penalize us from the tax rate point of view. We think we still make the right decision. And if you take note, our percentage of our portfolio that represents municipal bonds has gone down substantially as returns have been such that we could realize substantial gains in that part of the portfolio.

Michael Nannizzi

All right. I guess, and with the gap now with peers, the tax rate differential is wider in part because the municipal bonds aren't there as well. So I guess I'm just --

William Berkley

It's also more of our peers have moved offshore.

Michael Nannizzi

Also fair. Also fair. Yes, so I guess I'm just, you know, I think Robbie answered it, but I guess my question is, are you spending, is this an area that's getting more attention as time goes on or, you know, is it something --

William Berkley

Couldn't get more attention, Mike.

W. Robert Berkley, Jr.

Yeah.

Michael Nannizzi

Okay.

W. Robert Berkley, Jr.

We are aware of it, Mike.

Michael Nannizzi

Got it. Thank you.

Operator

Thank you. Our next question is from Kai Pan with Morgan Stanley. Your line is open.

Kai Pan

Thank you. So the first question is on capital management. It looks like you didn't repurchase any shares in the quarter. I just wonder, is it because the stock price, where you consider other options such as special dividends, or potentially growing the business either organically or inorganically?

W. Robert Berkley, Jr.

Yeah. I think the answer to that is obviously, quite frankly, very consistent with what I think you've heard in the past, we are conscious of trying to manage our capital effectively and in the best interest of our shareholders. We look out at our growth prospects and what we think our capital needs will be. To the extent that there is excess capital, then we will try and figure out what the optimal way to return shareholder -- value to shareholders, whether that be through a dividend or repurchase.

As far as the specifics around the special dividend or repurchase, no different than in the past, it's not really something that we get into a lot of detail. But what I can assure you of is that capital management remains something that we are focused on in the past and continue today.

Kai Pan

Okay. Just following up on that, do you -- you have a pretty nice growth in terms of top line and you'll hire additional teams for future growth. I just wonder, would that consume part of your capital generated through your operations going forward?

W. Robert Berkley, Jr.

Certainly we think that it is possible our business will grow in 2016 compared to 2015, and as a result of that, presumably, there would be a need for additional capital. Having said that, obviously our growth is dependent on what market conditions are. Ultimately we can't control the market. We can only control our actions and our activity.

So, again, do we think there is opportunity for growth given how we see the market conditions at this stage? Yes. And as a result of that, will that create an opportunity, a situation where we will be consuming perhaps a bit more capital? Yes, that's correct.

Kai Pan

Okay. Second question is that you commented in the prepared remarks that you expect better returns with 2016. Just drill down a little bit on that. Given -- can you talk about the price environment, also investment returns? And what gives you confidence that you'll be able to generate better returns in the coming year?

W. Robert Berkley, Jr.

Well, first of all, I think I suggested to you that we think that 2016 will be a better year than 2015. Return is certainly one of the metrics one might use. I don't think that was the metric that I use.

Putting that aside, the optimism around 2016 is because, as you know, our reported results, we earn that premium through, so we -- over a period of time. So we have a fair amount of visibility as to what our earned premium is going to be. We also have a fair amount of insight as to what our loss picks [ph] are running. And to, ultimately, again, we just feel like we have that visibility, gives us the comfort that we think 2016 will be a better year.

Additionally, some of the noise that came out of the international segment that we referenced earlier and have discussed on past calls, we do not anticipate that rearing its head again. In fact, we are expecting improvement from here.

Kai Pan

Okay, that's great. Lastly, if I may, on the investment side, can you give updates on the -- in the past I think you talked about this before, Bill, about some of the investment actually you mark sort of the book value rather than its mark-to-market value. Given all the market movements, what's your estimate in terms of book value per share --

William Berkley

It's come down a lot. How much? My guess is it's probably come down $150 million from where it was, so it's probably come down significantly.

On the other hand, candidly, coupled with pieces of real estate seem to have better values than we expected based on some transactions that have taken place. But clearly the market has gone down and certainly, at least the health equity where we're a big shareholder is down from where it was by, let's just say, round numbers, $150 million.

Kai Pan

Okay --

William Berkley

As of now. As of the end of the year it was substantially less than that. But I'm marking it to today's price.

Kai Pan

Great. Where do you, Bill, where do you see investment opportunities? Because like given the track record the past few years, actually a lot of book value gains that are coming from these harvesting gains as well as these investments, and given the market condition, do you think that opportunity becoming less going forward? What were you still find the areas that could provide additional returns?

William Berkley

Always better opportunities when everyone else thinks there are none. So we're really quite optimistic. And we see numerous opportunities, where people are more concerned or need financing, because we buy things without debt, without financing, and we can go in and do a transaction without needing any financing, any contingency based on things we know and understand. So we continue to see great opportunities.

Kai Pan

Thank you so much for all the answers. Robert, congratulations in assuming the CEO role.

W. Robert Berkley, Jr.

Thank you. It's very kind of you.

Operator

Thank you. Our next question is Ryan Tunis with Credit Suisse. Your line is open.

Ryan Tunis

Hey, thanks. My first question is I guess going back to Rob's prepared remarks on interest rates, and it sounded like a modification of the view there, that interest rates still rise but more gradually. Just wondering, practically speaking, if that has an impact on either your investment philosophy or how you're thinking about trends.

William Berkley

I think that the answer to that really is that we're just trying to indicate that clearly deficit spending ultimately is going to bring about higher interest rates in our view. But as long as governments continue to find ways to defer paying the piper, that's not going to happen, and it seems like they've been able to find ways for a long time.

So our expectation of increasing interest rates is just not happening. We thought rates would be up 100 basis points this year. We think it's probably not so likely.

W. Robert Berkley, Jr.

This year being 2016.

William Berkley

This year being 2016. And we just -- we're in a quandary. We sit here and say, what's and who is going to do what? And is inflation in fact going to take hold as we anticipate? So we're trying to be more cautious and not in fact sit here and wait. So I think we're just taking a little more cautious stance.

Ryan Tunis

Okay. But no change to your, I guess, your view of trend given the lack of inflation, or just thoughts on how you might deploy the short-term portion of your investment portfolio?

William Berkley

Our short-term portion of investments is something we continually try to find creative ways where we don't need as much liquidity as we have. So, are there things we can do where we give up instant liquidity but maintain that AA, AAA quality of risk? So we're willing to give up instant liquidity and have three-month liquidity to get a little bit better yield. But the fact is, in the past 30 days or so, five-year treasury is down by 50 basis points. That's a hell of a change. And people who close their eyes to those changes are naïve. That's a huge change, and if you look at our cash flow, we generate $700 million, $800 million, $900 million a year of cash flow. That makes a difference in how we invest our money, and we're shooting for a three-year duration.

So we're just constantly trying to figure out how and what do we do. And the cornerstone for our operation for our short-term money is we have lots of liquidity, we can give up our short-term instant liquidity, but we can't and aren't willing to give up the quality of our portfolio.

W. Robert Berkley, Jr.

As far as the picks around loss trend, as we've discussed with comments [ph] in the past, we tend to err on the -- mature [ph], then we will recognize the fact that we took a very measure approach to begin with. But certainly if inflation continues to be as benign for the foreseeable future as it's been over the past several years, we as an organization, from the reserve perspective, would do that as a plus.

Ryan Tunis

Okay. Thanks guys. Appreciate it.

Operator

Thank you. Our next question is from Vinay Misquith with Sterne, Agee. Your line is open.

Vinay Misquith

Hi, good evening. The first question is the accident year loss ratio ex cats. We saw that at about 60.0% this quarter. This was about 100 basis points better than last quarter and the year-ago quarter. Just wondering what's happening with that.

W. Robert Berkley, Jr.

Gene, would you like to comment or would you like me to?

Eugene Ballard

Well, the one observation I was going to make is, you know, as we get towards the end of the year, obviously we learn more information as the year goes along, and by the time we get to the end of the year, we've got a pretty good idea where it's going to land. We might be a little cautious towards the beginning of the year and, you know, we firm that up.

Vinay Misquith

Okay, that's fair enough. And should we expect that could deteriorate slightly next year given the fact that pricing is likely not keeping trend with loss cost?

W. Robert Berkley, Jr.

I'm sorry, you were breaking up a little bit. Would you mind repeating the question?

Vinay Misquith

Sure. Sorry. So, should we expect the accident year loss ratio ex cat to deteriorate slightly in 2016 versus 2015 given that pricing is not keeping trend with loss cost trend?

W. Robert Berkley, Jr.

I wouldn't -- suggest that you not leap to that conclusion. First of all, that would be -- you would be making an assumption that our portfolio is not changing and the mix of business isn't changing, for starters, which would be the wrong assumption. And in addition to that, again, trying to figure out how far I can go here, we feel very comfortable with our loss picks and it's certainly possible that there will continue to be good news to come.

William Berkley

See, he made the mistake, he let the lawyers sit next to him. I never sit next to the lawyers.

Vinay Misquith

Right.

W. Robert Berkley, Jr.

I try to answer your question without answering it. Hopefully you got --

Vinay Misquith

I think I got the answer. Okay.

W. Robert Berkley, Jr.

Thank you. What else can we share with you?

Vinay Misquith

Yeah, the follow-up is on the net investment income. I mean, that was much, much better than what we thought, especially on the fixed income side on the core portfolio. How did it increase much quarter over quarter and year over year?

William Berkley

It was pretty much what we thought it was going to be. We -- maybe it was the cash flow, but I mean it was pretty much in line with what our expectations were.

Eugene Ballard

Yeah, it was.

William Berkley

I mean I think it -- I look at it compared to our expectations, and it was insignificantly different. So maybe if you can chat with Karen [ph] about your forecast for that. But it was right on with, you know, it was not significantly different than our forecast.

Vinay Misquith

Okay, that's helpful. And then one last thing if I may. You said that there are some opportunities in the market because of what's happening with some competitors.

W. Robert Berkley, Jr.

Yup.

Vinay Misquith

Those competitors are larger competitors. Just curious if you're seeing some opportunities in your space too.

W. Robert Berkley, Jr.

So let me offer a couple of sound bites and I suspect my boss has a view to share as well. I think for -- there are several opportunities that have come into focus from our perspective. Some of those opportunities we had capitalized on, some of those we have explored and decided not to pursue, and some of those opportunities we continue to explore.

The fact of the matter is, by and large, whenever there is a meaningful merger or acquisition, that creates a degree of overlaps or uncertainty or potential dislocation, that impacts both the people within the organization and it also can honestly impact people outside of the organization such as the distribution system and customers.

So we certainly have seen opportunities as a result of the M&A activity. We expect we will see more.

In addition to that, as you and others are aware, just like we're aware, there are some very meaningful organizations in the P&C space that seem to be going through a process of looking in the mirror and making some significant changes. As a result of that, that is creating some uncertainty, confusion and ultimately potentially opportunity as well for organizations like ourselves for both talent and business.

So all things being equal, from our perspective, we do think that there are some opportunities that we've been able to capitalize on and we think that there will be more to come. From our perspective, as we've suggested to some in the past, insurance business is fundamentally two things. It's capital and it's people. We believe capital is ever more a commodity and people are what makes the difference. So the opportunity to attract talented people from other organizations is certainly something that we are focused on.

Vinay Misquith

Good. Thank you.

Operator

Thank you. Our next question is from Josh Shanker with Deutsche Bank. Your line is open.

Josh Shanker

Yeah, thank you. Good evening everybody.

W. Robert Berkley, Jr.

Good evening, Josh.

Josh Shanker

Good evening. So if you improved the international business, I'm wondering if you can drill down a little bit into maybe what lines of business need fixing and how you measure success, and ultimately whether you think you have a core competency in international markets the way you do in the domestic markets.

W. Robert Berkley, Jr.

A couple of questions there, so let me try and take them one at a time.

First of all, we do believe that everything is not perfect, every plate is not spinning perfectly, but we think we are well on our way down the path to a better place. I appreciate the comment, but I don't think everything in the markets here we have running perfectly either.

As far as core competencies go, we do not necessarily take the same approach that other organizations take, particularly very large multinationals. We have no desire to be in every market around the world. We have a desire to participate in market niches within markets where we're able to compete based on expertise.

Obviously there are some places where we have not succeeded in doing that, hence, some of the results and some of the discussion that we've shared with you in the past. Having said that, we, as I suggested a moment ago, we believe that we are well on our way to remedy that.

So, quite frankly, I think our strategy outside of the United States is not dissimilar to our strategy in the United States. We are not trying to be the global all things to all people. We are trying to find niche opportunities in other markets where it makes sense outside of the United States to achieve reasonable risk-adjusted returns. In several markets that we participate in, Latin America would be an example, I think we have achieved that consistently for more than a decade. I believe we are doing that through our Lloyd's operation as well. Having said that, some of the activity in Canada -- excuse me, in Continental Europe, has not proven to work out as well. But again we think that we are getting that sorted.

Josh Shanker

By premium, if you were to divide it into the 80-20 rule, are 80% of the returns by premium very attractive and 20% are providing problems, or how should we think about it?

W. Robert Berkley, Jr.

I think the way I would suggest that you think about it is, as I suggested earlier, Josh, there were a couple of places that we zigged when we should have zagged, and we think that we are well on our way to having that sorted out. I would hesitate to try and start putting percentages on it because I don't have it down to the decimal point. But --

William Berkley

There's a better person in charge now, Josh, so we'll get it cleaned up.

Josh Shanker

Okay, very good. Thank you.

W. Robert Berkley, Jr.

Thanks, Josh. Have a good evening.

Operator

Thank you. Our next question is from Jay Cohen with Bank of America. Your line is open.

Jay Cohen

Yes, thank you. Rob, in your prepared remarks, you mentioned that in 2016 you're looking for improvement, and you really didn't mention a metric. I guess the earlier assumption was it was ROE. One of the I guess headwinds you see is catastrophe losses were relatively low this year, lowest in seven or eight years. So with that headwind, when you look at things like combined ratio, is it possible to improve upon where you were?

W. Robert Berkley, Jr.

I think -- again here we go with the forward-looking statements. I think our view is that, based on what we know today, which is imperfect, and I highlight imperfect, we think that there is a reasonably good chance, significantly better than average, that we will be able to improve our top line as well as our loss ratio. Additionally, we think that there's good reason to believe that we will be able to improve our expense ratio.

Having said that, going back to some of the comments earlier, given some of the dislocation in the market, we will be prepared to sacrifice our expense ratio in the short run in order to invest in new operations, as we have done historically.

Jay Cohen

Great.

W. Robert Berkley, Jr.

What else can we share with you, Jay?

Jay Cohen

My other questions were asked already, so I am good. Thanks.

Operator

Thank you. Our next question is from Mark Dwelle with RBC Capital Markets. Your line is open.

Mark Dwelle

Yeah, good evening. A couple of questions. First, on the service fee revenue. That declined a fair bit in the quarter, at least in percentage basis and it's sort of contra to the trend. Is that something that rolled off there or ran off there that caused that reversal?

Eugene Ballard

Well, that fee basis is most of it is related to one of our companies that manages assigned risk plans on behalf various states, so there's some variability in that business from one year to the next and on what states come on or drop off.

W. Robert Berkley, Jr.

So there, in other words, A, first of all, as the population of these pools grow and shrink, you have that variable. But even more so, these are contracts that we enter and they tend to be for a few years at a time, and they come up for bid every certain number of years. And again, sometimes they're rolling on, sometimes they're rolling off. So that's what creates a bit of the volatility as some of the contracts roll off.

Mark Dwelle

Okay.

W. Robert Berkley, Jr.

Ultimately we -- sorry, excuse me?

Mark Dwelle

No, go ahead.

W. Robert Berkley, Jr.

I was just going to say, as we've discussed in the past, obviously the size of those pools tends to ebb and flow with market conditions. The pools are shrinking a bit at this stage as the traditional market is accepting more of the risk and the risk is not spilling over into the market of last resort.

Mark Dwelle

Okay. Thanks for that. And commercial auto, I guess I was fairly surprised at how quickly the level of premiums there had reversed. That had been kind of generally growing, albeit slightly, for most of the year, and then this quarter seemed to mark a fairly sharp contrast. Heard from competitors sort of mixed views on commercial auto and was wondering if you could share a little more detail about how you're thinking about the sector and maybe more specifically what types of pricing challenges you're facing there.

W. Robert Berkley, Jr.

Sure. Generally speaking, as we've been discussing I guess for, probably not this quarter, maybe a couple of years at this stage, we found that commercial auto space overall to be particularly challenged. Long and intermediate haul trucking probably is standing out in particular, though the overall space is not an easy one.

Our activity in the commercial auto space has been shrinking for some number of years. It may not be visible in some of the things that you see because the fact of the matter is you see the amount of premium we're writing, you don't see our exposures going down. So our exposure count has gone down -- it has been going down dramatically for some period of time and it probably the fourth quarter just accelerated further.

The amount of premium that we are collecting is not reducing at the same pace because of the rate increases that we are achieving. So I think that's why I would encourage you not to leap through any conclusion just based on some of the numbers that we are publishing. Again our exposure count or the power units that we are writing is going down at a far more quick pace than the numbers that you are seeing, and it's just the rate increases that are mitigating that to an extent.

Mark Dwelle

Okay, that's helpful. I'll stop there. Thanks.

W. Robert Berkley, Jr.

Thank you.

Operator

Our next question is from Ian Gutterman with Balyasny. Your line is open

Ian Gutterman

Hi, thanks. Gene, first, do you have the paid loss ratio for the quarter?

Eugene Ballard

Yeah, I do. That would be 55.8.

Ian Gutterman

Great. Thank you.

Eugene Ballard

Yeah, it's fifty -- it's right in line where it's been in the, you know, mid to 50s pretty much through the year.

Ian Gutterman

Got it, got it. Rob, in your opening comments, you mentioned a slowdown in alternative capital and kind of the [ph] reinsurance market. I guess I was wondering, is that something that we should take that that may affect your ability to execute something in the space, or is that more just a broad market comment?

W. Robert Berkley, Jr.

Yeah, I think it's just a general observation about the reinsurance marketplace. Clearly the entry of a meaningful amount of alternative capital over the past several years has put a meaningful amount of pressure the reinsurance marketplace and specifically on the traditional players. The pressure is still there but it doesn't seem like it continues to flow in at the same pace.

Ian Gutterman

Got it. Great. And then just finally on the investment impairments, the $20 million or so. Was that something that -- is that one of those mechanical adjustments where if the equities are down 20% for a certain duration, that they have to be marked, or is it something different?

William Berkley

Exactly right. It was already marked-to-market on the balance sheet, and once it's more than 12 months, you have to run it through the income statement.

Ian Gutterman

Got it, okay.

William Berkley

It's a really stupid world [ph].

Ian Gutterman

It is a stupid world.

William Berkley

Because otherwise, once you've run it through [ph] the income statement, if it goes back up the next day, you don't get to run it in the income statement, when it goes back up.

Ian Gutterman

Exactly.

William Berkley

So it's pretty dumb [ph].

Ian Gutterman

It is a bad world [ph]. I was just curious that it was bad enough, something that you chose to impair based on a view of something.

And then, is it reasonable to assume that, if the markets stay where they are for the rest of the quarter, probably a little bit more of this next quarter? Because you'll have more things sort of tripping that [ph] 20%?

William Berkley

There may be some other, but it's not of consequence [ph].

Ian Gutterman

Not significant, okay, great. Okay, thank you.

Operator

Thank you. And our last question is from Brian Meredith with UBS. Your line is open.

Brian Meredith

Yes, thanks. Hey, Rob, I'm wondering if you could talk a little bit about what your exposure is on the underwriting side to the energy sector in the U.S.? I know you've made some efforts to grow in that area over the last couple of years. Anything that we should kind of be thinking about or anything that's on your radar screen as far as potential loss activity coming out of that area?

W. Robert Berkley, Jr.

Yeah, good memory, Brian. We have expanded a bit into the energy space and it's something that we've chatted about with you all in the past. Just to put it in perspective, from an underwriting perspective, our exposure to oil and gas is less than 5% of our premium. It's closer to -- I think it's about 3-1/2% the last time I had a look.

So, is it something we care about? Sure, it's something we care about. But is it something that's going to dramatically derail the organization as that sector is under pressure? No, we don't think it, forget dramatic, we don't think it really is going to even be a blip for us.

And as far as the loss activity goes, we've seen no evidence to date that it is going to create an issue for our -- the picks [ph] that we are using.

Brian Meredith

Great. Thanks. And then next question, I'm just curious, any thoughts about increasing your reinsurance buy as we look into 2016 given we're hearing a lot more about multiyear deals coming in place and it's tracked to reinsurance pricing?

W. Robert Berkley, Jr.

Certainly. We are in touch with the reinsurance market. By and large it is a better moment to be a buyer than a seller. From our perspective, we try and view the reinsurance market as a place where we can partner with long-term partners. We do not look to arbitrage our partners. At the same time, we are not naïve to the market conditions and the opportunity that generates for our shareholders.

So as far as the specifics around our reinsurance buying strategy, Brian, that's just not something we tend to really get into in this type of forum. But I would suggest we -- we're not trying to abuse anyone, but we are not naïve to market conditions.

Brian Meredith

Great. Thanks.

W. Robert Berkley, Jr.

Thank you.

Operator

Thank you. And I'm not showing any further questions. I'll now turn the call back over to Mr. Berkley for closing remarks.

W. Robert Berkley, Jr.

Okay, Bridget [ph], thank you very much, and thank you all for calling in. As we've suggested earlier, we think both the quarter and the year were a solid showing. We continue to be very focused on generating what we believe are solid returns. And again, our view is that the return on equity that we should be able to achieve in the future is something that we are very focused on. And it is our view that we will be able to improve 2016 when compared to 2015.

So again, we think the market offers meaningful opportunity. We think some of the challenges that we've faced in 2015 are behind us. And we are enthusiastic about what is ahead.

Thank you all for joining us and have a good evening.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. You may all disconnect. Everyone have a great day.

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