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2019 Annual Report
ABOUT AMBAC
Ambac Financial Group, Inc. (“Ambac” or “AFG”), headquartered in New York City,
is a financial services holding company whose subsidiaries include Ambac Assurance
Corporation and Ambac Assurance UK Limited, guarantors of financial obligations
in run-off. Ambac’s common stock trades on the New York Stock Exchange under
the symbol “AMBC”. The Amended and Restated Certificate of Incorporation of
Ambac contains substantial restrictions on the ability to transfer Ambac’s common
stock. Subject to limited exceptions, any attempted transfer of common stock shall
be prohibited and void to the extent that, as a result of such transfer (or any series
of transfers of which such transfer is a part), any person or group of persons shall
become a holder of 5% or more of Ambac’s common stock or a holder of 5% or more
of Ambac’s common stock increases its ownership interest. Ambac is committed to
providing timely and accurate information to the investing public, consistent with our
legal and regulatory obligations. To that end, we use our website to convey information
about our businesses, including the anticipated release of quarterly financial results,
quarterly financial, statistical and business-related information, and the posting of
updates to the status of certain residential mortgage backed securities litigations.
For more information, please go to www.ambac.com.
MISSION
n Optimize our business and its
components to achieve maximum
return for shareholders
n Aggressively pursue financially
sound strategies to reduce risk
and decrease the size of the
insured portfolio
VISION
n Transition to a growth-oriented
platform sufficiently capitalized
to support businesses that
are synergistic with Ambac’s
core competencies
VALUES
n Culture of respect, inclusion,
collaboration and transparency
n Attract, retain and reward
top performers who meet
standards of excellence,
integrity and collaboration
Forward-Looking Statements In this Annual Report, we have included statements that may constitute “forward-looking statements” within the meaning of the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Words such as “estimate,” “project,” “plan,” “believe,” “anticipate,” “intend,” “planned,”
“potential” and similar expressions, or future or conditional verbs such as “will,” “should,” “would,” “could,” and “may,” or the negative of those expressions or verbs,
identify forward-looking statements. We caution readers that these statements are not guarantees of future performance. Forward-looking statements are not historical
facts but instead represent only our beliefs regarding future events, which, may by their nature be inherently uncertain and some of which may be outside our control.
These statements may relate to plans and objectives with respect to the future, among other things which may change. We are alerting you to the possibility that our
actual results may differ, possibly materially, from the expected objectives or anticipated results that may be suggested, expressed or implied by these forward-looking
statements. Important factors that could cause our results to differ, possibly materially, from those indicated in the forward-looking statements include, among others,
those discussed under “Risk Factors” in our most recently filed quarterly or annual report with the SEC.
3
DEAR FELLOW SHAREHOLDERS
“ Our 2019 results exemplify our consistent
approach to executing our strategic
priorities in order to deliver long-term
value for our shareholders.”
CLAUDE LeBLANC
President and Chief Executive Officer
When I joined Ambac over three years ago, I presented you with our revised strategic plan focused
on improving the risk profile and financial strength of Ambac Financial Group. Since then, we have
consistently delivered on that plan, despite numerous external challenges, and expanded our focus on
pursuing longer term, accretive growth opportunities.
Over the years, Ambac’s financial strength has materially improved with a much lower risk profile,
higher quality book value and adjusted book value and a more simplified capital structure. These
improvements provide Ambac with a stronger financial foundation, preserve optionality with respect
to our run-off insurance operations, and pave the way for us to explore new, value enhancing business
opportunities. In 2019, we maintained focus on our strategy and delivered significant results on our
highest priority initiatives.
PERFORMANCE HIGHLIGHTS:
n
n
n
Executed the COFINA Plan of Adjustment in the first quarter of 2019 resolving 78% of
Ambac’s total exposure to Puerto Rico
Ceded $1.5 billion of performing par exposure to third party reinsurers, including
$662 million of Adversely Classified and Watch List Credits
Realized $142 million in proceeds related to the settlement between the United States
Securities and Exchange Commission and Citigroup Global Markets
n
Decreased our insured portfolio by 19% to $38.0 billion from year-end 2018
n
n
n
Decreased Adversely Classified and Watch list Credits by 28% to $14.3 billion through
proactive efforts and run-off
Executed additional headcount and other cost reductions including the consolidation of
space for the New York headquarters
Ended 2019 with total AFG stockholders’ equity (“Book value”) of $1.5 billion, or $32.41
per share, and Adjusted Book Value(1) of $1.3 billion or $28.83 per share
1
BOOK VALUE/SHARE
ADJUSTED BOOK VALUE/SHARE (1)
$40
$35
$30
$25
$20
$15
$10
$5
$0
$37.41 $37.94
$31.09
$30.52
$35.12
$32.41
Dec
2014
Dec
2015
Dec
2016
Dec
2017
Dec
2018
Dec
2019
+ $ 1 3 . 8 2
$28.15 $29.48
$28.83
$27.58
$24.34
$15.01
Dec
2014
Dec
2015
Dec
2016
Dec
2017
Dec
2018
Dec
2019
$35
40
$30
35
30
$25
25
$20
20
$15
15
$10
10
$5
5
$0
0
35
30
25
20
15
10
5
0
In February of 2019 we closed the COFINA
levels. The transaction also materially increased
Plan of Adjustment (“POA”), the most significant
our adjusted book value per share and advanced
de-risking transaction of the year. This transaction
our strategy of stabilizing our insurance platform.
culminated in the final resolution of the sales and
We also completed two significant reinsurance
use tax securitization debt issued by COFINA
transactions this year related to a portfolio of
addressing 78% of Ambac’s insured debt service
public finance credits, ceding $1.5 billion of
exposure to Puerto Rico. Ambac was actively
performing par exposure or 3% of our total insured
involved in crafting the terms of the consensual
net par at December 31, 2018. These transactions
agreement which became the basis for the POA.
included approximately $662 million of Adversely
Ambac benefitted from a number of favorable
Classified and Watch List Credits, further improving
outcomes with the execution of the POA, namely,
our risk profile.
receipt of a 93% notional recovery, important
On a full year basis, net par outstanding was
protections clarifying that the share of the sales
reduced by approximately $8.9 billion, or 19%,
and use tax earmarked for COFINA are not available
to $38.0 billion at year-end. Of this, Adversely
resources for the Commonwealth, and dismissals
Classified and Watch List Credits decreased 28%
of challenges to the COFINA structure. With
to $14.3 billion at December 31, 2019. This decrease
COFINA behind us, we remain keenly focused on
was driven by our active de-risking efforts which
actively pursuing multiple strategies to enforce
accounted for 50% of the decline of the overall
and protect our rights relating to our remaining
portfolio and approximately 65% of the decline of
exposures in Puerto Rico.
Adversely Classified and Watch List Credits.
Another notable de-risking transaction during
I am extremely pleased with our 2019 de-risking
the year was the Ballantyne restructuring and
results. As we progress our de-risking efforts in
commutation, one of our largest credit exposures
in Ambac UK. This transaction reduced our
2020, we will continue to actively explore various
options to sculpt and de-risk our insured portfolio
Adversely Classified Credit exposure by $900
and reduce potential tail risk. This may include
million and, more importantly, strengthened Ambac
large scale commutations, remediations or
UK’s Solvency II capital position to near required
reinsurance transactions which could, in certain
2
WATCH LIST AND ADVERSELY
CLASSIFIED CREDITS (2), (3)
($ in billions)
$35
$30
$25
$20
$15
$10
$5
$0
$25.2
$19.9
Reduced by
28% in 2019
$14.3
Dec
2017
Dec
2018
Dec
2019
35
30
25
20
15
10
5
0
scenarios, negatively impact our Book and
Adjusted Book Values in the short-term. However,
STRATEGIC PRIORITIES
we believe such transactions will improve the
overall quality of our Book and Adjusted Book
Values and more importantly, accelerate the
timing and ability to potentially extract capital
from our insurance subsidiaries.
In 2019, we also significantly progressed
our asset recovery efforts. We realized a $142
million cash recovery in connection with the SEC’s
settlement with Citigroup in a suit related to an
Ambac insured CDO transaction. With these
proceeds and other funds, a total of $178 million
was deployed to make partial redemptions of
AAC’s secured notes.
We have demonstrated that our proactive
and persistent approach to defending our rights
through active litigation is a key value driver for our
shareholders. We remain confident in the strength
of the claims in our remaining litigations and will
continue to aggressively pursue all of our rights
and recoveries to final resolution.
Another key value driver for our shareholders
has been our consistent focus on reducing core
operating expenses. This year, we relocated our
New York headquarters to One World Trade
Center, consolidating our U.S. operations to a
n Active run-off of Ambac Assurance, and
its subsidiaries, through transaction
terminations, policy commutations,
reinsurance, settlements and restructurings,
with a focus on our watch list credits and
known and potential future adversely
classified credits, that we believe will
improve our risk profile, and maximizing
the risk-adjusted return on invested assets;
n Ongoing rationalization of Ambac’s capital
and liability structures;
n Loss recovery through active litigation
management and exercise of contractual
and legal rights;
n Ongoing review and adjustments focused
on improving the effectiveness and
efficiency of Ambac’s operating platform;
and
n Evaluation of opportunities in certain
business sectors that meet acceptable
criteria that will generate long-term
stockholder value with attractive risk-
adjusted returns.
3
INSURED PORTFOLIO (3)
INSURED PORTFOLIO NET PAR (3)
($ in billions)
International
34%
Public Finance
46%
$38.0
BILLION
NET PAR
20%
Structured Finance
$250
$200
$150
$100
$50
$0
# of Credits
6,000
4,000
Reduced by
19% in 2019
2,000
Dec
2014
Dec
2015
Dec
2016
Dec
2017
Dec
2018
Dec
2019
0
PF
SF
Int’l
# of Credits
250
200
150
100
50
0
6000
4000
2000
0
single floor which, together with other cost cutting
Our results were also impacted by adverse
measures, will significantly reduce our future
development, primarily related to certain Puerto
overhead expenses. We will continue to evaluate cost
Rico exposures, and the material financing costs
efficiencies and take further steps to reduce operating
related to debt secured by our outstanding
expenses as we progress our strategic goals.
litigation receivables. We expect litigation financing
Our improved financial strength and enhanced
costs to be recovered upon resolution of such
risk profile has also provided us greater flexibility
matters, although we can provide no assurance as
to begin targeted assessments of new business
to the ultimate outcome of our litigations.
opportunities. We have been actively evaluating
Ambac remains committed to the ongoing
and pursuing strategic opportunities in credit,
strengthening of our platform through the
insurance and other financial services that we
consistent execution of our strategic plan. However,
believe would be synergistic to our business
as we execute our strategy it is important to
model and leverage our core competencies. While
recognize that we are an event-driven company and
we have increased our efforts in evaluating such
our operating results may vary materially, quarter-
potential opportunities, we remain disciplined in
over-quarter.
our assessment of opportunities that would be
As we look ahead to 2020 and the potential
most optimal and generate sustainable long-term
uncertainties that we face, I am proud to be
shareholder value prior to deploying our capital.
leading a company with such strength, vision and
For 2019, we reported a net loss of $216 million,
foundation. Given the challenges we are facing as
or negative $4.69 per diluted share, and Adjusted
a nation, we have taken significant steps to
Earnings(1) of $66 million, or $1.44 per diluted share.
maintain stable operations while protecting the
Stockholders’ equity at December 31, 2019 was
health and well-being of our employees, clients
$1.5 billion, or $32.41 per share and Adjusted Book
Value(1) was $1.3 billion or $28.83 per share. Our net
loss for the year, compared to Adjusted Earnings,
and partners.
For the past three years, we have worked
tirelessly to consistently deliver on our standard
reflects the amortization of our insurance intangible
of excellence and we will continue to do so even
asset which was accelerated by our de-risking
with the challenges we face. I am grateful for the
activities, particularly the Ballantyne transaction.
dedication and commitment of the Board, the
4
executive team and all of our employees. I also
want to thank our shareholders for your ongoing
support and continued confidence as we move the
company forward. I welcome the opportunity to
update you as we progress our initiatives in 2020.
Sincerely,
CLAUDE LeBLANC
President and Chief Executive Officer
“ As we look ahead
to 2020 and the
potential uncertainties
that we face, I am
proud to be leading
a company with
such strength, vision
and foundation.”
(1) Ambac reports two non-GAAP financial measures: Adjusted Earnings (Loss) and Adjusted Book Value. The most directly comparable GAAP measures are net income
attributable to common stockholders for Adjusted Earnings (Loss) and Total Ambac Financial Group, Inc. stockholders’ equity for Adjusted Book value. A non-GAAP financial
measure is a numerical measure of financial performance or financial position that excludes (or includes) amounts that are included in (or excluded from) the most directly
comparable measure calculated and presented in accordance with GAAP. We are presenting these non-GAAP financial measures because they provide greater transparency
and enhanced visibility into the underlying drivers of our business. Adjusted Earnings (Loss) and Adjusted Book Value are not substitutes for the Company’s GAAP reporting,
should not be viewed in isolation and may differ from similar reporting provided by other companies, which may define non-GAAP measures differently. Each of the
reconciling items is presented in Appendix A to this Annual Report.
(2) Adversely Classified Credits are either in default or have developed problems that eventually may lead to a default. Watch List Credits are performing credits that demonstrate
the potential for long-term material adverse development.
(3) Par throughout this Annual Report includes capital appreciation bonds (“CABs”) which are reported at the par amount at the time of issuance of the insurance policy as
opposed to the current accreted value of the bonds.
5
BOARD OF DIRECTORS
EXECUTIVE OFFICERS
CLAUDE LeBLANC
President and
Chief Executive Officer
DAVID TRICK
Executive Vice President,
Chief Financial Officer
and Treasurer
DAVID BARRANCO
Senior Managing Director,
Head of Risk Management
and Corporate Development
ROBERT B. EISMAN
Senior Managing Director,
Chief Accounting Officer
and Controller
STEPHEN M. KSENAK
Senior Managing Director
and General Counsel
MICHAEL REILLY
Senior Managing Director,
Chief Information Officer and
Chief Administrative Officer
R. SHARON SMITH
Senior Managing Director
and Chief of Staff
JEFFREY S. STEIN (3)
Chairman
Founder and Managing Partner
of Stein Advisors LLC
ALEXANDER D. GREENE (2)*, (3), (4)
Former Managing Partner and
Head of U.S. Private Equity at
Brookfield Asset Management
IAN D. HAFT (1), (2), (4)*
Managing Partner and
Chief Executive Officer
of Surgis Capital LLC
DAVID L. HERZOG (1)*, (4)
Former Chief Financial Officer
of AIG
JOAN LAMM-TENNANT (1), (4)
Founder and
Chief Executive Officer of
Blue Marble Microinsurance
CLAUDE LeBLANC
President and
Chief Executive Officer
C. JAMES PRIEUR (1), (2), (3)*
Former Chief Executive Officer
of CNO Financial Group, Inc.
(1) Member of Audit Committee
(2) Member of Compensation Committee
(3) Member of Governance and Nominating Committee
(4) Member of Strategy and Risk Policy Committee
*Chair of Committee
6
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
☒
☐
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2019
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number:
1-10777
AMBAC FINANCIAL GROUP INC
(Exact name of Registrant as specified in its charter)
Delaware
(State of incorporation)
One World Trade Center New York NY
(Address of principal executive offices)
13-3621676
(I.R.S. employer identification no.)
10007
(Zip code)
(212) 658-7470
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbols
Name of each exchange on which registered
Common Stock, par value $0.01 per share
Warrants
AMBC
AMBC WS
New York Stock Exchange
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ☐
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ☐ No ☒
Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation
S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging
growth company. See definition of “large accelerated filer”, “accelerated filer”, “smaller reporting company”and"emerging growth company" in Rule 12b-2 of
the Exchange Act): (Check one):
Large accelerated filer ☒ Accelerated filer
☐ Non-accelerated filer ☐ Smaller reporting company
☐ Emerging growth company
☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or
revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒
The aggregate market value of voting stock held by non-affiliates of the Registrant as of the close of business on June 30, 2019 was $767,503,767. As of February 24,
2020, there were 45,577,874 shares of Common Stock, par value $0.01 per share, were outstanding.
Portions of the Registrant’s proxy statement for its 2020 annual meeting of stockholders are incorporated by reference in this Form 10-K in response to Part III
Items 10, 11, 12, 13, and 14.
Documents Incorporated By Reference
[This page intentionally left blank]
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
Cautionary Statement Pursuant to the Private Securities Litigation Reform Act of 1995 ...........................................................
1
Item Number
PART I
Page
Item Number
PART II (CONTINUED)
Page
59
61
135
7A Quantitative and Qualitative Disclosures about
Market Risk ................................................................
8
9
Financial Statements and Supplementary Data ..........
Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure.........................
9A Controls and Procedures.............................................
135
9B Other Information.......................................................
135
PART III
10 Directors, Executive Officers and Corporate
Governance.................................................................
137
11 Executive Compensation............................................
137
12 Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters...
13 Certain Relationships and Related Transactions, and
Director Independence ...............................................
137
137
14 Principal Accountant Fees and Services.....................
137
PART IV
15 Exhibits, Financial Statement Schedules....................
138
Schedule I—Summary of Investments Other Than
Investments in Related Parties.................................
Schedule II—Condensed Financial Information of
Registrant (Parent Company Only) .........................
143
144
Schedule IV—Reinsurance......................................
149
SIGNATURES ..................................................................
150
1
Business......................................................................
Introduction..............................................................
Risk Management Group.........................................
Insurance Regulatory Matters and Other
Restrictions ..............................................................
Investments and Investment Policy .........................
Employees................................................................
1A Risk Factors................................................................
1B Unresolved Staff Comments ......................................
2
3
Properties....................................................................
Legal Proceedings ......................................................
4 Mine Safety Disclosures.............................................
PART II
Market for Registrant’s Common Equity, Related
Stockholder Matters and Issuer Purchases of Equity
Securities ....................................................................
Selected Financial Data ..............................................
5
6
7 Management’s Discussion and Analysis of Financial
Condition and Results of Operations..........................
Company Overview .................................................
Executive Summary.................................................
Critical Accounting Policies and Estimates.............
Financial Guarantees in Force .................................
Results of Operations...............................................
Liquidity and Capital Resources..............................
Balance Sheet...........................................................
Special Purpose and Variable Interest Entities ........
Accounting Standards..............................................
Ambac Assurance Statutory Basis Financial
Results .....................................................................
Ambac UK Financial Results Under UK
Accounting Principles..............................................
Non-GAAP Financial Measures ..............................
2
2
4
7
8
8
8
22
22
22
22
23
25
26
26
26
28
30
39
44
47
53
53
55
56
57
[This page intentionally left blank]
CAUTIONARY STATEMENT PURSUANT TO THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995
In this Annual Report, we have included statements that may
constitute “forward-looking statements” within the meaning of the
safe harbor provisions of the Private Securities Litigation Reform
Act of 1995. Words such as “estimate,” “project,” “plan,”
“believe,” “anticipate,” “intend,” “planned,” “potential” and
similar expressions, or future or conditional verbs such as “will,”
“should,” “would,” “could,” and “may,” or the negative of those
expressions or verbs, identify forward-looking statements. We
caution readers that these statements are not guarantees of future
performance. Forward-looking statements are not historical facts
but instead represent only our beliefs regarding future events,
which may by their nature be inherently uncertain and some of
which may be outside our control. These statements may relate to
plans and objectives with respect to the future, among other things
which may change. We are alerting you to the possibility that our
actual results may differ, possibly materially, from the expected
objectives or anticipated results that may be suggested, expressed
or implied by these forward-looking statements. Important factors
that could cause our results to differ, possibly materially, from those
indicated in the forward-looking statements include, among others,
those discussed under “Risk Factors” in Part I, Item 1A of this
Annual Report on Form 10-K.
Any or all of management’s forward-looking statements here or in
other publications may turn out to be incorrect and are based on
management’s current belief or opinions. Ambac’s actual results
may vary materially, and there are no guarantees about the
performance of Ambac’s securities. Among events, risks,
uncertainties or factors that could cause actual results to differ
materially are: (1) the highly speculative nature of Ambac’s
common stock and volatility in the price of Ambac’s common
stock; (2) uncertainty concerning the Company’s ability to achieve
value for holders of its securities, whether from Ambac Assurance
Corporation ("Ambac Assurance") and its subsidiaries or from
transactions or opportunities apart from Ambac Assurance and its
subsidiaries, including new business initiatives; (3) changes in
Ambac Assurance’s estimated representation and warranty
recoveries or loss reserves over time; (4) failure to recover claims
paid on Puerto Rico exposures or incurrence of losses in amounts
higher than expected; (5) adverse effects on Ambac’s share price
resulting from future offerings of debt or equity securities that rank
senior to Ambac’s common stock; (6) potential of rehabilitation
proceedings against Ambac Assurance; (7) dilution of current
shareholder value or adverse effects on Ambac’s share price
resulting from the issuance of additional shares of common stock;
(8) inadequacy of reserves established for losses and loss expenses
and possibility that changes in loss reserves may result in further
volatility of earnings or financial results; (9) increased fiscal stress
experienced by issuers of public finance obligations or an increased
incidence of Chapter 9 filings or other restructuring proceedings
by public finance issuers, including an increased risk of loss on
revenue bonds of distressed public finance issuers due to recent
judicial decisions adverse to revenue bond holders; (10) the
Company's inability to realize the expected recoveries included in
its financial statements; (11) insufficiency or unavailability of
collateral to pay secured obligations; (12) credit risk throughout
the Company’s business, including but not limited to credit risk
related to residential mortgage-backed securities, student loan and
other asset securitizations, public finance obligations (including
obligations of the Commonwealth of Puerto Rico and its
instrumentalities and agencies) and exposures to reinsurers; (13)
credit risks related to large single risks, risk concentrations and
correlated risks; (14) the risk that the Company’s risk management
policies and practices do not anticipate certain risks and/or the
magnitude of potential for loss; (15) risks associated with adverse
selection as the Company’s insured portfolio runs off; (16) adverse
effects on operating results or the Company’s financial position
resulting from measures taken to reduce risks in its insured
portfolio; (17) disagreements or disputes with Ambac Assurance's
primary insurance regulator; (18) our inability to mitigate or
remediate losses, commute or reduce insured exposures or achieve
recoveries or investment objectives, or the failure of any
transaction intended to accomplish one or more of these objectives
to deliver anticipated results; (19) the Company’s substantial
indebtedness could adversely affect its financial condition and
operating flexibility; (20) the Company may not be able to obtain
financing or raise capital on acceptable terms or at all due to its
substantial indebtedness and financial condition; (21) the
Company may not be able to generate the significant amount of
cash needed to service its debt and financial obligations, and may
not be able to refinance its indebtedness; (22) restrictive covenants
in agreements and instruments may impair the Company’s ability
to pursue or achieve its business strategies; (23) loss of control
rights in transactions for which we provide insurance due to a
finding that Ambac Assurance has defaulted; (24) the impact of
catastrophic environmental or natural events on significant
portions of our insured portfolio; (25) adverse tax consequences
or other costs resulting from the characterization of the Company’s
surplus notes or other obligations as equity; (26) risks attendant to
the change in composition of securities in the Company’s
investment portfolio; (27) changes in prevailing interest rates; (28)
the expected discontinuance of the London Inter-Bank Offered
Rate; (29) factors that may influence the amount of installment
premiums paid to the Company; (30) default by one or more of
Ambac Assurance's portfolio investments, insured issuers or
counterparties; (31) market risks impacting assets in the
Company’s investment portfolio or the value of our assets posted
as collateral in respect of interest rate swap transactions; (32) risks
relating to determinations of amounts of impairments taken on
investments; (33) the risk of litigation and regulatory inquiries or
investigations, and the risk of adverse outcomes in connection
therewith, which could have a material adverse effect on the
Company’s business, operations, financial position, profitability
or cash flows; (34) actions of stakeholders whose interests are not
aligned with broader interests of the Company's stockholders; (35)
system security risks, data protection breaches and cyber attacks;
(36) changes in accounting principles or practices that may impact
the Company’s reported financial results; (37) the economic impact
of “Brexit”; (38) operational risks, including with respect to
internal processes, risk and investment models, systems and
employees, and failures in services or products provided by third
parties; (39) the Company’s financial position that may prompt
departures of key employees and may impact the Company’s
ability to attract qualified executives and employees; (40)
fluctuations in foreign currency exchange rates could adversely
impact the insured portfolio in the event of loss reserves or claim
payments denominated in a currency other than US dollars and the
value of non-US dollar denominated securities in our investment
portfolio; and (41) other risks and uncertainties that have not been
identified at this time.
| Ambac Financial Group, Inc. 1 2019 FORM 10-K |
PART I
Item 1.
Business
INTRODUCTION
Ambac Financial Group, Inc. ("AFG"), headquartered in New York
City, is a financial services holding company incorporated in the
State of Delaware on April 29, 1991. AFG provides financial
guarantee insurance policies through its principal operating
subsidiary, Ambac Assurance Corporation ("Ambac Assurance" or
"AAC") and its wholly owned subsidiary Ambac Assurance UK
Limited (“Ambac UK”), both of which have been in runoff since
2008. References to “Ambac,” the “Company,” “we,” “our,” and
“us” are to AFG and its subsidiaries, as the context requires. AFG
has $483 million in net assets (excluding it's investment in
subsidiaries), no outstanding debt and significant net operating loss
carry-forwards of $3,535 million ($2,285 million is allocated to
Ambac Assurance) at December 31, 2019. See Schedule II for
more information on the holding company.
Management reviews financial information, allocates resources
and measures financial performance on a consolidated basis. As a
result, the Company has a single reportable segment.
Corporate Strategy:
Since the exit from rehabilitation of Ambac Assurance’s
Segregated Account (as defined below) in February 2018, Ambac
has been focused on and continues to progress all key strategic
priorities, specifically:
• Active runoff of Ambac Assurance and its subsidiaries
through transaction terminations, policy commutations,
reinsurance, settlements and restructurings, with a focus on
our watch list credits and known and potential future
adversely classified credits, that we believe will improve our
risk profile, and maximizing the risk-adjusted return on
invested assets;
• Ongoing rationalization of Ambac's capital and liability
structures;
• Loss recovery through active litigation management and
exercise of contractual and legal rights;
• Ongoing review and adjustments focused on improving the
effectiveness and efficiency of Ambac's operating platform;
and
• Evaluation of opportunities in certain business sectors that
meet acceptable criteria that will generate long-term
stockholder value with attractive risk-adjusted returns.
With respect to our new business strategy, we continue to evaluate
and pursue strategic opportunities in credit, insurance, asset
management and other financial services that we believe would be
synergistic to Ambac and would leverage our core competencies.
While we have increased our efforts in evaluating such potential
opportunities, we continue to be measured and disciplined in our
approach as we seek to deploy our capital on opportunities that
will generate sustainable long-term shareholder value. Although
we are exploring new business opportunities for Ambac, no
assurance can be given that we will be able to identify or execute
a suitable transaction and/or obtain the financial and other
resources that may be required to finance the acquisition or
development of any new businesses or assets. Due to these factors,
as well as uncertainties relating to the ability of Ambac Assurance
to deliver value to Ambac, the value of our securities remains
speculative.
The execution of Ambac’s strategy to increase the value of its
investment in Ambac Assurance is subject to the restrictions set
forth in the Settlement Agreement, dated as of June 7, 2010 (the
"Settlement Agreement"), by and among Ambac Assurance,
Ambac Credit Products LLC ("ACP"), AFG and certain
counterparties to credit default swaps with ACP that were
guaranteed by Ambac Assurance, as well as the Stipulation and
Order (as defined in Note 1. Background and Business Description
to the Consolidated Financial Statements included in Part II, Item 8
of this Form 10-K) and in the indenture for the Tier 2 Notes (as
defined in Note 1. Background and Business Description to the
Consolidated Financial Statements included in Part II, Item 8 of
this Form 10-K), each of which requires OCI (as defined below)
and, under certain circumstances, holders of the debt instruments
benefiting from such restrictions, to approve certain actions taken
by or in respect of Ambac Assurance. In exercising its approval
rights, OCI will act for the benefit of policyholders, and will not
take into account the interests of Ambac. See Note 1. Background
and Business Description to the Consolidated Financial Statements
included in Part II, Item 8 in this Form 10-K for further
information.
Opportunities for remediating losses on poorly performing insured
transactions also depend on market conditions, including the
perception of Ambac Assurance’s creditworthiness, the structure
of the underlying risk and associated policy as well as other
counterparty specific factors. Ambac Assurance's ability to
commute policies or purchase certain investments may also be
limited by available liquidity.
Financial Guarantee Insurance:
Ambac provides financial guarantee insurance policies through its
principal operating subsidiaries, AAC and Ambac UK, both of
which have been in runoff since 2008. Insurance policies issued
provide an unconditional and irrevocable guarantee which protects
the holder of a debt obligation against non-payment when due of
the principal and interest on the obligations guaranteed. Pursuant
to such guarantees, Ambac Assurance and its subsidiaries make
payments if the obligor responsible for making payments fails to
do so when due. Revenues from financial guarantees consist of:
(i) premiums earned from insurance contracts, net of reinsurance,
and (ii) amendment and consent fees. Expenses from financial
guarantees consist of: (i) loss and commutation payments; (ii) loss
adjustment expenses, including those relating to the remediation
of problem credits; and (iii) insurance intangible amortization.
Ambac Assurance and its subsidiaries have been working toward
reducing uncertainties within their insured portfolios such as
exposures to financially stressed municipal entities (including
Puerto Rico) and asset-backed securities (including residential
mortgage-backed securities ("RMBS") and student loan-backed
securities). Additionally, Ambac Assurance and its subsidiaries
are actively prosecuting legal claims (including RMBS-related
lawsuits), managing the regulatory frameworks applicable to the
insurance entities, seeking to optimize capital allocation in a
challenging environment that includes long duration obligations,
and attempting to retain key employees.
| Ambac Financial Group, Inc. 2 2019 FORM 10-K |
The deterioration of Ambac Assurance's and Ambac UK's financial
condition beginning in 2007 has prevented these companies from
being able to write new financial guaranty business. Not writing
new business has and continues to negatively impact Ambac’s
operations and financial results. Ambac Assurance’s ability to pay
dividends and, as a result, AFG’s liquidity, have been significantly
restricted by the deterioration of Ambac Assurance’s financial
condition and by regulatory, legal and contractual restrictions. It
is highly unlikely that Ambac Assurance will be able to make
dividend payments to AFG for the foreseeable future. Refer to
"Dividend Restrictions, Including Contractual Restrictions" below
and Note 8. Insurance Regulatory Restrictions to the Consolidated
Financial Statements included in Part II, Item 8 in this Form 10-
K, for more information on dividend payment restrictions.
Derivatives:
Interest rate derivative transactions are executed through Ambac
Financial Services (“AFS”), a wholly-owned subsidiary of Ambac
Assurance. The primary activity of AFS is to economically hedge
interest rate risk in the financial guarantee and investment
portfolios. Accordingly, interest rate derivatives are positioned to
benefit from rising rates. Under agreements governing interest
rate derivative positions, AFS generally must post collateral or
margin in excess of the market value of the swaps and futures
contracts. All AFS derivative contracts containing ratings-based
downgrade triggers that could result in collateral or margin posting
or a termination have been triggered. A termination of AFS’s
derivatives could result in losses. AFS has borrowed cash and
securities from Ambac Assurance to help support its collateral and
margin posting requirements, previous termination payments and
other cash needs.
Credit derivative contracts were executed through ACP, a wholly
owned subsidiary of Ambac Assurance, for which fees are
collected over the contract term. Credit derivative contract terms
are substantially similar to financial guarantee insurance. Credit
derivatives also permit certain counterparties to assert mark-to-
market termination claims under certain conditions; however, the
assertion of such mark-to-market claims based on the Segregated
Account Rehabilitation Proceedings (as defined below) and related
circumstances has been enjoined by the Second Amended Plan of
Rehabilitation (as defined below) and orders of the Rehabilitation
Court (as defined below). See discussion of “Ambac Assurance
Liquidity” in Part II, Item 7 included in this Form 10-K for further
information.
Ambac derives derivative revenues from (i) changes in the fair
value of the derivatives portfolio resulting from interest rate or
credit changes and (ii) the value of future contract terminations or
settlements which may differ from the carrying value of the those
contracts.
Credit risks relating to interest rate derivative positions primarily
relate to the default of a counterparty. AFS's interest rate derivatives
generally consist of centrally cleared swaps, US treasury futures
and some over-the-counter ("OTC") swaps with financial
guarantee customers or bank counterparties. Counterparty default
exposure is mitigated through the use of industry standard
collateral posting agreements or margin posting requirements.
• Cleared swaps, futures and OTC derivatives with bank
counterparties require margin or collateral to be posted up to
or in excess of the market value of the interest rate derivatives.
Interest rate derivative contracts entered into with financial
guarantee customers are not subject to collateral posting
agreements.
• Credit risk associated with financial guarantee customer
derivatives and credit derivatives, is managed through the risk
management processes described in the Risk Management
Group section below. In some cases, interest rate derivatives
between Ambac and financial guarantee customers are placed
through a third party financial intermediary and similarly do
not require collateral posting.
Ambac manages a variety of market risks inherent in its businesses,
including credit, market, liquidity, operational and legal. These
risks are identified, measured, and monitored through a variety of
control mechanisms, which are in place at different levels
throughout the organization. See “Quantitative and Qualitative
Disclosures About Market Risk” included in Part II, Item 7A in
this Form 10-K for further information.
Segregated Account
In March 2010, Ambac Assurance established a segregated account
pursuant
to Wisconsin Stat. §611.24(2) (the “Segregated
Account”) to segregate certain segments of Ambac Assurance’s
liabilities. The Office of the Commissioner of Insurance for the
State of Wisconsin (“OCI” (which term shall be understood to refer
to such office as regulator of Ambac Assurance and to refer to the
Commissioner of Insurance for the State of Wisconsin as
rehabilitator of the Segregated Account (the “Rehabilitator”), as
the context requires)) commenced rehabilitation proceedings in
the Wisconsin Circuit Court for Dane County (the “Rehabilitation
Court”) with respect to the Segregated Account (the “Segregated
Account Rehabilitation Proceedings”) in order to permit OCI to
facilitate an orderly run-off and/or settlement of the liabilities
allocated to the Segregated Account pursuant to the provisions of
the Wisconsin Insurers Rehabilitation and Liquidation Act. Ambac
Assurance, itself, did not enter rehabilitation proceedings.
A plan of rehabilitation for the Segregated Account, as amended
(the "Segregated Account Rehabilitation Plan") became effective
on June 12, 2014. On September 25, 2017 the Rehabilitator filed
a motion in the Rehabilitation Court seeking entry of an order
to
approving an amendment
the Segregated Account
"Second Amended Plan of
(the
Rehabilitation Plan
Rehabilitation"). Following the conclusion of a Confirmation
Hearing on January 22, 2018, the Rehabilitation Court entered an
order granting the Rehabilitator's motion and confirming the
Second Amended Plan of Rehabilitation. On February 12, 2018
(the "Effective Date"), the Second Amended Plan of Rehabilitation
became effective. Consequently, the rehabilitation of the
Segregated Account was concluded. Refer to Note 1. Background
and Business Description to the Consolidated Financial Statements
included in Part II, Item 8 in this Form 10-K, for more information
on the Segregated Account and the Segregated Account
Rehabilitation Proceedings.
Enterprise Risk Management
The Company's policies and procedures relating to risk assessment
and risk management are overseen by its Board of Directors. The
Board of Directors takes an enterprise-wide approach to risk
management oversight that is designed to support the Company's
business plans at a level of risk considered by the Board to be
| Ambac Financial Group, Inc. 3 2019 FORM 10-K |
reasonable. A fundamental part of risk assessment and risk
management is not only understanding the risks the Company faces
and what steps management is taking to manage those risks, but
also understanding what level of risk is appropriate for the
Company. The Board of Directors periodically reviews the
Company's business plan, factoring risk management into account.
It also approves the Company's risk appetite statements, which
articulate the Company's tolerance for certain risks and describes
the general types of risk that the Company accepts, within certain
parameters, or attempts to avoid.
While the Board of Directors has the ultimate oversight
responsibility for
the risk management process, various
committees of the Board also have responsibilities related to risk
assessment and risk management, and management has
responsibility for managing the risks to which the Company is
exposed and reporting on such matters to the Board of Directors
and applicable Board committees.
• The Audit Committee oversees the management of risks
associated with the integrity of Ambac’s financial statements
and its compliance with legal and regulatory requirements. In
addition, the Audit Committee discusses policies with respect
to risk assessment and risk management, including major
financial risk exposures and the steps management has taken
to monitor and control such exposures. The Audit Committee
reviews with management, internal auditors and independent
auditors Ambac's critical accounting policies, Ambac's
system of internal controls over financial reporting and the
quality and appropriateness of disclosure and content in the
financial
financial
communications.
and other
statements
external
• The Compensation Committee oversees the management of
risk primarily associated with our ability to attract, motivate
and retain quality talent (particularly executive talent) and
with setting financial incentives that do not motivate undue
risk-taking.
• The Governance and Nominating Committee oversees the
management of risk primarily associated with Ambac’s
ability to attract and retain quality directors, Ambac’s
corporate governance programs and practices and our
compliance therewith. Additionally, the Governance and
Nominating Committee oversees the processes for evaluation
of the performance of the Board of Directors and its
committees each year and considers risk management
effectiveness as part of its evaluation. The Governance and
Nominating Committee also performs oversight of the
business ethics and compliance program, and reviews
compliance with Ambac’s Code of Business Conduct.
• The Strategy Committee oversees the management of risk and
risk appetite primarily with respect to strategic plans and
initiatives.
The Board of Directors also receives quarterly updates from Board
committees, and the Board provides guidance to individual
committee activities as appropriate.
In order to assist the Board of Directors in overseeing Ambac’s
risk management, Ambac uses enterprise risk management, a
company-wide process that involves the Board of Directors,
management and other personnel in an integrated effort to identify,
assess and manage a broad range of risks (e.g., credit, financial,
liquidity, market, model, operational,
legal,
regulatory,
reputational and strategic), that may affect the Company’s ability
to execute on its corporate strategy and fulfill its business
objectives. The Enterprise Risk Committee (“ERC”), which is a
management committee, is comprised of senior level management
responsible for assisting in the management of the Company’s risks
on an individual and aggregate basis. The ERC produces the
relevant risk management information for senior management and
the Board of Directors.
Ambac management has established other committees to assist in
managing the risks embedded in the enterprise. These committees
will meet monthly or as needed on an ad hoc basis.
• The Risk Committee's objective
is
to establish an
interdisciplinary team of professionals from different parts of
the Company to provide oversight of the key risk remediation
issues impacting Ambac. The purview of the committee is to
review and approve risk remediation activities for the
financial guarantee insured portfolio. Additionally, the Risk
Committee will provide oversight and review new risk
remediation structures or approaches in connection with risk
remediation plans or anticipated transactions. Members of the
Risk Committee include the Chief Executive Officer, Head
of Risk Management, Chief Financial Officer and senior
risk, corporate services,
managers
operations, investment management, legal and finance.
throughout
from
• The Asset Liability Management Committee's (“ALCO”)
objective is to foster an enterprise wide culture and approach
to liquidity management, asset management, asset valuation
and hedging. Members of ALCO include the Chief Executive
Officer, Chief Financial Officer and senior managers from
investment management and the Risk Management Group.
• The Disclosure Committee's objective is to assist the CEO
and CFO in their responsibilities to design, establish, maintain
and evaluate the effectiveness of disclosure controls and
procedures. Members of the Disclosure Committee include
the Chief Executive Officer, Chief Financial Officer, Chief
Accounting Officer, Head of Risk Management and senior
managers from throughout finance, legal, risk and corporate
services.
Available Information
Our Internet address is www.ambac.com. We make available free
of charge, through the investor relations section of our web site,
annual reports on Form 10-K, quarterly reports on Form 10-Q and
current reports on Form 8-K, and any amendments to those reports,
filed or furnished pursuant to Section 13(a) or 15(d) of the
Securities Exchange Act of 1934, as amended, as well as proxy
statements, as soon as reasonably practicable after we
electronically file such material with, or furnish it to, the U.S.
Securities and Exchange Commission. Our Investor Relations
Department can be contacted at Ambac Financial Group, Inc., One
World Trade Center, 41st Floor, New York, New York 10007, Attn:
Investor
email:
telephone:
ir@ambac.com. The reference to our website address does not
constitute inclusion or incorporation by reference of the
information contained on our website in this Form 10-K or other
filings with the SEC and the information contained on our website
is not part of this document.
212-208-3222
Relations,
| Ambac Financial Group, Inc. 4 2019 FORM 10-K |
RISK MANAGEMENT GROUP
Financial guarantee insurance was sold in three principal markets:
U.S. public finance, U.S. structured finance and international
finance. Ambac’s financial guarantee insurance policies and credit
derivative contracts expose the Company to the direct credit risk
of the assets and/or obligor supporting the guaranteed obligation.
In addition, insured transactions expose Ambac to indirect risks
that may increase our overall risk, such as credit risk separate from,
but correlated with, our direct credit risk; market; model;
economic; natural disaster and mortality or other non-credit type
risks. Please refer to Item 7 “Management’s Discussion and
Analysis of Financial Condition and Results of Operations -
Financial Guarantees in Force” section below for details on the
financial guarantee insured portfolio.
The Risk Management Group ("RMG") is primarily responsible
for the development, implementation and oversight of loss
mitigation strategies, surveillance and remediation of the insured
financial guarantee portfolio (including through the pursuit of
recoveries in respect of paid claims and commutations of policies).
Our ability to execute certain risk management activities may be
limited by the restrictions set forth in the Settlement Agreement,
the Stipulation and Order and the indenture for the Tier 2 Notes.
See Note 1. Background and Business Description to the
Consolidated Financial Statements included in Part II, Item 8 in
this Form 10-K for further information.
Ambac’s RMG has an organizational structure designed around four
primary areas of focus: Surveillance, Risk Remediation, Credit Risk
Management and Loss Reserving and Analytics.
Surveillance
This group's focus is on the early identification of potential stress
or deterioration in connection with credit exposures in the insured
portfolio and the related credit analysis associated with these and
other insured portfolio exposures. Additionally, surveillance will
evaluate the impact of changes in the economic, regulatory or
political environment on the insured portfolio.
Analysts in this group perform periodic credit reviews of insured
exposures according to a schedule based on the risk profile of the
guaranteed obligations or as necessitated by specific credit events
or other macro-economic variables. Risk-adjusted surveillance
strategies have been developed for each bond type with review
periods and scope of review based upon each bond type’s risk
profile. The risk profile is assessed regularly in response to our own
experience and judgments or external factors such as the economic
environment and industry trends. Active surveillance enables
analysts to track single credit migration and industry credit and
performance trends.
The focus of a credit review is to assess performance, identify credit
trends and recommend appropriate credit classifications, ratings and
changes to a transaction or bond type’s review period and
surveillance requirements. Please refer to Note 2. Basis of
Presentation and Significant Accounting Policies
the
Consolidated Financial Statements included in Part II, Item 8 in this
Form 10-K for further discussion of the various credit classifications
utilized by Ambac. If a problem is detected, the Surveillance group
will then work with the Risk Remediation group on a loss mitigation
plan, as necessary.
to
Surveillance for collateral dependent transactions, including, but
not limited to, residential mortgage-backed securities (“RMBS”)
and student loan transactions, focuses on reviews of the underlying
asset cash flows and, if applicable, the performance of servicers or
collateral managers. Ambac Assurance generally receives periodic
reporting of transaction performance from issuers or trustees.
Surveillance analysts review these reports to monitor performance
and, if necessary, seek legal advice to ensure that reporting and
application of cash flows comply with transaction requirements.
Risk Remediation
Risk Remediation's focus is on exposure reduction, loss mitigation,
avoiding defaults, and restructuring related to the insured portfolio
of Ambac Assurance. In particular, this group focuses on reducing
exposure to credits that have current negative developing trends,
have the potential for future adverse development or are already
adversely classified by, among other things, securing rights and
remedies, both of which may help to mitigate losses in the event of
further deterioration or event of default, or, as available, working
with an issuer to refinance or retire debt.
Loss mitigation and restructuring focuses on the analysis,
implementation and execution of commutation and related claims
reduction, defeasance or workout strategies for policies with
potential future claims. Efforts are focused on minimizing claims
and maximizing recoveries, typically following an event of default.
The emphasis on reducing risk is centered on reducing enterprise-
wide exposure on a prioritized basis.
For certain adversely classified, survey list and watch list credits,
RMG analysts will develop and implement a remediation or loss
mitigation plan that could include actions such as working with the
issuer, trustee, bond counsel, servicer and other interested parties in
an attempt to remediate the problem and minimize Ambac
Assurance’s exposure to potential loss. Other actions could include
working with bond holders and other economic stakeholders to
negotiate, structure and execute solutions, such as commutations.
In addition, reinsurance is used as a remediation tool to reduce
exposure to certain targeted policies.
following
(see discussion
Adversely classified, survey list and watch list credits are tracked
closely by RMG analysts as part of the risk remediation process and
are discussed at regularly scheduled meetings with Credit Risk
in “Credit Risk
Management
Management”) and the Risk Committee (see prior discussion in
"Risk Committee"). In some cases, the RMG will engage
restructuring or workout experts, attorneys and/or other consultants
with appropriate expertise in the targeted loss mitigation area to
assist management in examining the underlying contracts or
collateral, providing industry specific advice and/or executing
strategies.
We have established cross-functional teams in key areas of focus,
comprised of personnel both within the RMG and in other
departments, to target proactive mitigation and remediation of losses
and potential future losses associated with certain credits and sectors
in the insured portfolio. Examples of such efforts include teams of
professionals focused on (i) the review and enforcement of
contractual representations and warranties ("R&W") supporting
RMBS policies, (ii) RMBS servicing and remediation and (iii) the
analysis and prioritization of policies with projected claims or the
potential for future material adverse development to target and
| Ambac Financial Group, Inc. 5 2019 FORM 10-K |
execute risk reduction, restructuring and commutation strategies.
Members of these cross-functional teams will often work with
external experts in the pursuit of risk reduction efforts.
The team focused on recoveries from sponsors where Ambac
Assurance believes material breaches of representations and
warranties occurred with respect to certain RMBS policies has (i)
engaged experienced consultants to perform the re-underwriting of
loan files and (ii) consults with internal and external legal counsel
with regard to loan putbacks as well as settlement and litigation
strategies (refer to Note 2. Basis of Presentation and Significant
Accounting Policies and Note 7. Financial Guarantee Insurance
Contracts to the Consolidated Financial Statements included in Part
II, Item 8 in this Form 10-K for further discussion on this topic).
Credit Risk Management ("CRM")
The CRM function manages the decision process for all material
matters that affect credit exposures within the insured portfolio.
CRM provides a forum for independent assessments, reviews and
approvals and drives consistency and timeliness. The scope of credit
matters under the purview of CRM includes material amendments,
consents and waivers, evaluation of remediation or loss mitigation
plans, credit review scheduling, credit classifications, rating
designations, review of watch list or adversely classified credits,
sector reviews and overall portfolio reviews. Formal plans or
transactions that relate to risk remediation, loss mitigation or
restructuring may also require Risk Committee approval.
Control Rights
In structured transactions, including certain structured public
finance transactions, Ambac Assurance may be the control party as
a result of insuring the transaction’s senior class or tranche of debt
obligations. The control party may direct specified parties, usually
the trustee, to take or not take certain actions following contractual
defaults or trigger events. Control rights and the scope of direction
and remedies vary considerably among our insured transactions.
Because Ambac Assurance is party to and/or has certain rights in
documents supporting transactions in the insured portfolio, Ambac
Assurance frequently receives requests for amendments, consents
and waivers (“ACWs”). RMG reviews, analyzes and processes all
requests for ACWs.
As a part of the Segregated Account Rehabilitation Proceedings, the
Rehabilitation Court enjoined certain actions by other parties to
preserve Ambac Assurance’s control rights that could otherwise
have lapsed or been compromised. Pursuant to the Second Amended
Plan of Rehabilitation and orders of the Rehabilitation Court, such
protections continue after the conclusion of the Segregated Account
Rehabilitation Proceedings.
Watch List Credits
Credits that demonstrate the potential for long-term material adverse
development, represent significant size or sector concentration, or
have certain structural, credit or other complexities, but are
otherwise currently performing, may be designated as a watch list
credit as part of the CRM process. Watch list credits are more closely
monitored for potential adverse development and are primary targets
for proactive risk reduction efforts by the RMG.
Adversely Classified Credits
Credits that are either in default or have developed problems that
eventually may lead to a default are tracked closely by the
appropriate RMG teams and discussed as part of the CRM process.
Adversely classified credit meetings include members of RMG and
other groups within the Company, as necessary. As part of the
review, relevant information, along with the plan for corrective
actions and a reassessment of the credit’s rating and credit
classification is considered. Internal and/or external counsel
generally review the documents underlying any problem credit and,
if applicable, an analysis is prepared outlining Ambac Assurance’s
rights and potential remedies, the duties of all parties involved and
recommendations for corrective actions. Ambac Assurance also
meets with relevant parties to the transaction as necessary. The
review schedule for adversely classified credits is tailored to the
remediation plan to track and prompt timely action and proper
internal and external resourcing. A summary of developments
regarding adversely classified credits and credit trends is also
provided to AFG’s and Ambac Assurance’s Board of Directors no
less than quarterly.
The insured portfolio contains exposures that are correlated and/or
concentrated. RMG's surveillance activities include identifying
these types of exposures and identifying the risks that would or could
trigger credit deterioration across these related exposures. When
such risks materialize, an adverse credit classification may be
designated across these correlated and/or concentrated exposures.
This is the case with student loans and RMBS, for example, which
have several correlations including those associated with consumer
lending, unemployment and home prices. In the past, our not-for-
profit healthcare and our leveraged lease exposures experienced
periods of stress arising from their concentrated and/or correlated
risks, when there were major changes to healthcare reimbursement
programs, especially Medicaid, or significant weakness in consumer
and business travel, in the case of the former and the latter,
respectively. In the future, Ambac’s portfolio may be subject to
similar credit deterioration arising from concentrated and/or
correlated risks. Examples of other such risks that could impact our
portfolio, and that our surveillance is designed to monitor include
the impact of potential municipal bankruptcy contagion, the impact
of tax reform on state and municipal bond issuers, or the impact of
large scale domestic military cutbacks on our military housing
portfolio or event risk such as natural disasters or other regional
stresses. Most such risks cannot be predicted, and may materialize
unexpectedly or develop rapidly. Although our surveillance allows
us to connect the event and stress to the related exposures and assign
an adverse credit classification and estimate losses across the
affected credits, when necessary, we may not have adequate
resources or contractual rights and remedies to mitigate loss arising
from such risks.
Amendment, Consent and Waiver Review / Approval
The decision to approve or reject ACWs is based upon certain credit
factors, such as the issuer’s ability to repay the bonds and the bond’s
security features and structure. As part of the CRM process,
members of the RMG review, analyze and process all requests for
ACWs. All ACWs are initially screened for materiality by
surveillance analysts. Non-material AWCs require the approval of
at least the surveillance analyst and the surveillance manager.
Material ACWs are within the purview of the CRM process, as noted
above. For material ACWs, CRM has established minimum
requirements that may be modified to require more or varied
approvals depending upon the matter’s complexity, size or other
characteristics.
Ambac Assurance assigns internal credit ratings to individual
exposures as part of the ACW process and at surveillance reviews.
| Ambac Financial Group, Inc. 6 2019 FORM 10-K |
These internal credit ratings, which represent Ambac Assurance’s
independent
judgments, are based upon underlying credit
parameters consistent with the exposure type.
Loss Reserving and Analytics ("LRA")
LRA manages the quarterly loss reserving process for insured
portfolio credits with projected policy claims. It also supports the
development, operation and/or maintenance of various analytical
models used in the loss reserving process as well as in other risk
management functions. LRA works with surveillance and risk
remediation analysts responsible for a particular credit on the
development, review and implementation of loss reserve scenarios
and related analysis.
INSURANCE REGULATORY MATTERS AND
OTHER RESTRICTIONS
Regulatory Matters
United States
Ambac Assurance and Everspan Insurance Company ("Everspan")
are domiciled in the State of Wisconsin and, as such, are subject to
the insurance laws and regulations of the State of Wisconsin (the
“Wisconsin Insurance Laws”) and are regulated by the OCI. In
addition, Ambac Assurance and Everspan are subject to the
insurance laws and regulations of the other jurisdictions in which
they are licensed. See Note 8. Insurance Regulatory Restrictions to
the Consolidated Financial Statements included in Part II, Item 8 in
this Form 10-K for further information on regulatory restrictions.
In addition, pursuant to the terms of the Settlement Agreement, the
Stipulation and Order and the indenture for the Tier 2 Notes, Ambac
Assurance must seek prior approval by OCI of certain corporate
actions. The Settlement Agreement, Stipulation and Order and
indenture for the Tier 2 Notes include covenants which restrict the
operations of Ambac Assurance. The Settlement Agreement will
remain in force until the surplus notes issued thereunder have been
redeemed, repurchased or repaid in full. The Stipulation and Order
will remain in force for so long as OCI determines it to be necessary.
The indenture for the Tier 2 Notes will remain in force until the Tier
2 Notes have been redeemed, repurchased or repaid in full. Certain
of the restrictions in the Settlement Agreement and indenture for the
Tier 2 Notes may be waived with the approval of the OCI and/or
the requisite percentage of holders of debt securities issued
thereunder.
United Kingdom
The Prudential Regulatory Authority ("PRA") and Financial
Conduct Authority ("FCA") (and their predecessor regulator the
Financial Services Authority (“FSA”)) have exercised significant
oversight of Ambac UK since 2008, after AFG, Ambac Assurance
and Ambac UK began experiencing financial stress. In 2009, Ambac
UK’s license to write new business was curtailed by the FSA and
the insurance license was limited to undertaking only run-off related
activity. As such, Ambac UK is authorized to run-off its insurance
portfolio in the United Kingdom, and to do the same through a
branch in Milan, Italy, and a number of other EU countries. EU
legislation has allowed Ambac UK to conduct business in EU states
through a “passporting”
other
arrangement, which eliminates the necessity of additional licensing
or authorization in those other EU jurisdictions. See Item 1A. Risk
Factors in Part I, Item 1A and Note 8. Insurance Regulatory
Restrictions to the Consolidated Financial Statements included in
the United Kingdom
than
Part II, Item 8 in this Form 10-K for further information on Brexit
related developments as well as other regulatory restrictions.
Regulation of change in control
Under Wisconsin law applicable to insurance holding companies,
any acquisition of control of AFG, and any other direct or indirect
control of Ambac Assurance and Everspan, requires the prior
approval of the OCI. “Control” is defined as the direct or indirect
power to direct or cause the direction of the management and policies
of a person. Any purchaser of 10% or more of the outstanding voting
stock of a corporation is presumed to have acquired control of that
corporation and its subsidiaries unless the OCI, upon application,
determines otherwise. For purposes of this test, AFG believes that
a holder of common stock having the right to cast 10% or more of
the votes which may be cast by the holders of all shares of common
stock of AFG would be deemed to have control of Ambac Assurance
and Everspan within the meaning of the Wisconsin Insurance Laws.
The United Kingdom has similar requirements applicable in respect
of AFG, as the ultimate holding company of Ambac UK.
Dividend Restrictions, Including Contractual Restrictions
Due to contractual and regulatory restrictions, Ambac Assurance
has been unable to pay common dividends to AFG since 2008 and
will be unable to pay common dividends in 2020 without certain
approvals, including the prior consent of the OCI, which is unlikely.
Ambac Assurance’s ability to pay dividends is further restricted by
the Settlement Agreement, the Stipulation and Order, the indenture
for the Tier 2 Notes and the terms of its Auction Market Preferred
Shares ("AMPS"). See Note 8. Insurance Regulatory Restrictions
to the Consolidated Financial Statements included in Part II, Item 8
in this Form 10-K for further information on dividends.
As a result of these restrictions, Ambac Assurance is not expected
to pay dividends to AFG for the foreseeable future.
While the UK insurance regulatory laws impose no statutory
restrictions on an insurer’s ability to declare a dividend, the PRA’s
and FCA’s capital requirements in practice act as a restriction on the
payment of dividends, where a firm has a lower level of regulatory
capital than its regulatory capital requirement as is the case for
Ambac UK. Further, the FSA amended Ambac UK’s license in 2010
such that the PRA must specifically approve (“non-objection”) any
transfer of value and/or assets from Ambac UK to Ambac Assurance
or any other Ambac group company, other than in respect of certain
disclosed contracts between the two parties (such as in respect of a
management services agreement between Ambac Assurance and
Ambac UK). As a result, Ambac UK is not expected to pay any
dividends to Ambac Assurance for the foreseeable future.
Pursuant to the Settlement Agreement and the indenture for the Tier
2 Notes, Ambac Assurance may not make any “Restricted
Payment” (which includes dividends from Ambac Assurance to
AFG) in excess of $5 million in the aggregate per annum, other than
Restricted Payments from Ambac Assurance to AFG in an
amount up to $7.5 million per annum solely to pay operating
expenses of AFG. Concurrent with making any such Restricted
Payment, a pro rata amount of Ambac Assurance's surplus notes
would also need to be redeemed at par. Any such payment on surplus
notes would require either payment or collateralization of a
proportional amount of the Tier 2 Notes (or interest thereon) in
accordance with the terms of the Tier 2 Note indenture.
| Ambac Financial Group, Inc. 7 2019 FORM 10-K |
The Stipulation and Order requires OCI approval for the payment
of any dividend or distribution on the common stock of Ambac
Assurance.
Under the terms of Ambac Assurance’s AMPS, dividends may not
be paid on the common stock of Ambac Assurance unless all
accrued and unpaid dividends on the AMPS for the then current
dividend period have been paid, provided, that dividends on the
common stock may be made at all times for the purpose of, and
only in such amounts as are necessary for, enabling AFG (i) to
service its indebtedness for borrowed money as such payments
become due or (ii) to pay its operating expenses. If dividends are
paid on the common stock as provided in the prior sentence,
dividends on the AMPS become cumulative until the date that all
accumulated and unpaid dividends have been paid on the AMPS.
INVESTMENTS AND INVESTMENT POLICY
As of December 31, 2019, the consolidated non-VIE investments
of Ambac had an aggregate fair value of approximately $3,792
million. Investments are managed both internally by officers of
Ambac, who are experienced investment managers, and by
external investment managers. All investments are made in
accordance with the general objectives, policies, and guidelines
for investments reviewed or overseen by Ambac's Board of
Directors or the Board of Directors of the applicable subsidiary.
These policies and guidelines include liquidity, credit quality,
diversification and duration objectives and are periodically
reviewed and revised as appropriate. Additionally, senior credit
personnel monitor the portfolio on a continuous basis.
As of December 31, 2019, the Ambac Assurance and Everspan
non-VIE investment portfolio had an aggregate fair value of
approximately $2,812 million. Ambac Assurance’s and Everspan’s
investment objectives are to achieve the highest risk-adjusted after-
tax return on a diversified portfolio consistent with Ambac
Assurance’s and Everspan’s risk tolerance while employing active
asset/liability management practices to satisfy all operating and
strategic liquidity needs. In addition to internal investment policies
and guidelines, Ambac Assurance’s investment portfolio is subject
to limits on the types and quality of investments imposed by
applicable insurance laws and regulations, which may be waived
by the applicable regulatory authority in certain instances. The
Board of Directors of Ambac Assurance approves any changes to
Ambac Assurance's investment policy. Changes to Ambac
Assurance’s investment policies are subject to approval by OCI
pursuant to covenants made by Ambac Assurance in the Settlement
Agreement, the Stipulation and Order and the indenture for the
Tier 2 Notes. See Note 1. Background and Business Description
to the Consolidated Financial Statements included in Part II, Item 8
in this Form 10-K for more information about the Settlement
Agreement, the Stipulation and Order and the indenture for the
Tier 2 Notes. Such requirements could adversely impact the
performance of the investment portfolio.
As of December 31, 2019, the non-VIE Ambac UK investment
portfolio had an aggregate fair value of approximately $609
million. Ambac UK’s investment policy is designed with the
primary objective of ensuring that Ambac UK is able to meet its
financial obligations as they fall due, in particular with respect to
policy holder claims. Ambac UK’s investment portfolio is subject
to internal investment guidelines and may be subject to limits on
types and quality of investments imposed by its regulator. The
Board of Directors of Ambac UK approves any changes or
exceptions to Ambac UK’s investment policy.
As of December 31, 2019, the non-VIE AFG (parent company
only) investment portfolio had an aggregate fair value of
approximately $434 million. The primary investment objective is
to preserve capital for strategic uses while maximizing income.
The investment portfolio is subject to internal investment
guidelines. Such guidelines set forth minimum credit rating
requirements and credit risk concentration limits. Included in the
investment portfolio is AFG's investment in securities insured or
issued by Ambac Assurance, including surplus notes ($63 million
fair value at December 31, 2019) that are eliminated in
consolidation.
The following table provide certain information concerning the
consolidated investments of Ambac:
2019
2018
Investment Category
($ in millions)
December 31,
Municipal obligations
Corporate securities
Foreign obligations
U.S. government
obligations
Residential mortgage-
backed securities
Asset-backed securities
Total long-term
investments
Short-term investments
Other investments (3)
Carrying
Value (2)
$
215
1,430
44
156
248
484
2,577
737
478
Weighted
Average
Yield (1)
Carrying
Value (2)
Weighted
Average
Yield (1)
5.4% $
880
4.6%
0.8%
2.0%
8.9%
5.6%
5.0%
1.5%
—%
1,278
31
94
259
574
3,116
430
391
5.6 %
5.6 %
1.1 %
1.9 %
10.2 %
7.9 %
6.2 %
2.5 %
— %
5.7%
Total
$ 3,792
4.2% $ 3,937
(1) Yields are stated on a pre-tax basis, based on average amortized cost
for both long and short term fixed-income investments.
(2)
Includes investments guaranteed by Ambac Assurance and Ambac
UK. Refer to Note 10. Investments of the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K for further
discussion of Ambac insured securities held in the investment
portfolio.
(3) Other investments include interests in pooled investment funds that
are either classified as trading securities or are reported under the
equity method and Ambac's interests in an unconsolidated trust
created in connection with its sale of junior surplus notes on August
28, 2014.
EMPLOYEES
As of December 31, 2019, Ambac had 93 employees in the United
States and 11 employees in the United Kingdom. Ambac considers
its employee relations to be satisfactory.
Item 1A. Risk Factors
Capitalized terms used but not defined in this section shall have
the meanings ascribed thereto in Part I, Item 1 in this Form 10-K
or in Note 1. Background and Business Description to the
Consolidated Financial Statements included in Part II, Item 8 in
this Form 10-K unless otherwise indicated.
| Ambac Financial Group, Inc. 8 2019 FORM 10-K |
Our risk factors are organized in the following sections.
Risks Related to AFG Common Shares........................
Risks Related to Insured Portfolio Losses ...................
Risks Related to Indebtedness......................................
Risks Related to Capital, Liquidity and Markets .........
Risks Related to Financial and Credit Markets...........
Risks Related to the Company's Business....................
Risks Related to International Business ......................
Risks Related to Taxation.............................................
Risks Related to Strategic Plan....................................
Page
9
10
13
16
18
18
20
21
22
Risks Related to AFG Common Shares
Investments in AFG's common stock are highly speculative and
the price per share of AFG's common stock may be subject to a
high degree of volatility, including significant price declines.
Ambac's principal business is in run-off and faces significant risks
and uncertainties described elsewhere in Part I, Item 1A. Risk
Factors. Although AFG's common stock is listed on the New York
Stock Exchange ("NYSE"), there can be no assurance as to the
liquidity of the trading market or the price at which such shares
can be sold. The price of the shares may decline substantially in
response to a number of events or circumstances, including but not
limited to:
• adverse developments in our financial condition or results of
operations;
• changes in the actual or perceived risk within our insured
portfolio, particularly with regards to concentrations of credit
risk, such as in Puerto Rico;
• actual or perceived adverse developments with regards to
Ambac Assurance's RMBS litigations;
• changes to regulatory status;
• changes in investors’ or analysts’ valuation measures for our
stock;
• market trends unrelated to our stock;
• market and industry perception of our success, or lack thereof,
in pursuing our business strategy;
• the impact or perceived impact of any acquisition, disposition
or other strategic transaction, including entry into a new line
of business, on the value or long-term prospects of the
Company; and
• results and actions of other participants in our industry.
In addition, the price of AFG's shares may be affected by the
additional risks described below, including risks associated with
Ambac Assurance’s ability to deliver value to AFG. Investments
in AFG's common stock should be considered highly speculative
and may be subject to a high degree of volatility.
The occurrence of certain events could result in the initiation of
rehabilitation proceedings against Ambac Assurance, with
resulting adverse consequences to holders of our securities.
Increased loss development in the insured portfolio or significant
losses or other events resulting from litigation, including the failure
to achieve expected recoveries from existing litigations concerning
insured residential mortgage-backed securities ("RMBS"), may
prompt OCI to determine that it is in the best interests of
policyholders to initiate rehabilitation proceedings with respect to
Ambac Assurance, either preemptively or in response to any such
event.
If, as a result of the occurrence of any such event(s), OCI decides
to initiate rehabilitation proceedings with respect to Ambac
Assurance, adverse consequences may result, including, without
limitation and absent enforceable protective injunctive relief, the
assertion of damages by counterparties (including mark-to-market
claims with respect to insured transactions executed in ISDA
format), the acceleration of losses based on early termination
triggers, and the loss of control rights in insured transactions. Any
such consequences may reduce any residual value of Ambac
Assurance. Additionally, the rehabilitator would assume control of
all of Ambac Assurance’s assets and management of Ambac
Assurance. In exercising control, the rehabilitator would act for
the benefit of policyholders, and would not take into account the
interests of our securityholders. Such actions may result in material
adverse consequences for our securityholders.
The issuance of additional shares of AFG's common stock,
including shares underlying issued and outstanding warrants,
and/or debt or equity securities that rank senior or pari passu to
AFG's common stock may dilute current shareholder value or
have adverse effects on the market price of AFG’s common stock.
If AFG issues additional shares of common stock to raise capital,
whether for select business transactions, general corporate
purposes, in exchange for other securities, or in connection with
the exercise of issued and outstanding warrants, the value of current
stockholders’ interests may be diluted as AFG is not required to
offer any such shares to existing stockholders on a preemptive
basis.
AFG cannot predict the effect, if any, of future sales of its common
stock, or the availability of shares for future sales, on the market
price of its common stock. Sales of substantial amounts of common
stock or the perception that such sales could occur may adversely
affect the prevailing market price for its common stock.
If AFG were to issue debt or additional equity securities in the
future that rank senior or pari passu to its common stock, they could
be governed by an indenture or other instrument containing
covenants restricting AFG's operating flexibility. Additionally, any
convertible or exchangeable securities issued in the future may
have rights, preferences and privileges more favorable than those
of common stock or may result in dilution to owners of common
stock, either of which could have an adverse impact on our stock
price. Holders of common stock bear the risk of future offerings
reducing the market price of AFG's common stock and diluting the
value of their stock holdings in the Company.
AFG may not be able to realize value from Ambac Assurance or
generate earnings apart from Ambac Assurance.
The value of AFG's common stock is dependent upon realizing
residual value and/or receiving dividends from its main operating
subsidiary, Ambac Assurance; the receipt of payments to be made
by Ambac Assurance pursuant to the intercompany tax sharing
agreement (the "Amended TSA") and the intercompany expense
sharing and cost allocation agreement (the "Cost Allocation
Agreement"); the receipt of payments on the Owner Trust
| Ambac Financial Group, Inc. 9 2019 FORM 10-K |
Certificate issued to AFG by Corolla Trust (the "Owner Trust
Certificate"), which was created in 2014 to monetize AFG's
ownership interest in junior surplus notes issued by the Segregated
Account; the receipt of payments on investments made in securities
issued by Ambac Assurance; and the receipt of payments on other
investments. There can be no assurance that AFG will be able to
realize residual value and/or receive dividends from Ambac
Assurance, which is in run-off. AFG's ability to realize residual
value and/or receive dividends from Ambac Assurance will depend
upon, amongst other considerations, Ambac Assurance's ability to
satisfy all of its obligations that are senior to AFG's equity interests,
including obligations to policyholders, holders of its indebtedness
(including surplus notes, junior surplus notes, the Ambac Note and
the Tier 2 Notes) and holders of its preferred stock. Ambac
Assurance's ability to satisfy all of its obligations is dependent on
a number of considerations including its ability to achieve
recoveries and mitigate losses from its insured portfolio, which is
subject to significant risks and uncertainties, including as a result
of varying potential perceptions of the value of Ambac Assurance’s
guarantees and securities.
Due to the above considerations, as well as applicable legal and
contractual restrictions described elsewhere herein, it is highly
unlikely that Ambac Assurance will be able to pay AFG any
dividends for the foreseeable future. Furthermore, the payments to
be made to AFG under the Amended TSA and the intercompany
Cost Allocation Agreement are subject to contingencies that are
difficult to predict and, in certain instances, to OCI approval,
making the amount and timing, if any, of such payments uncertain.
Payments to be made under the Amended TSA, in particular,
depend on the generation of future taxable income by Ambac
Assurance above certain thresholds. Ambac Assurance’s ability to
generate taxable income above such thresholds is uncertain. Due
to these factors, there can be no assurance as to the amounts that
AFG will receive from Ambac Assurance under the Amended TSA.
Moreover, the Cost Allocation Agreement provides that Ambac
Assurance's reimbursement of AFG's operating expenses after
2017 is subject to the approval of OCI and limited to $4.0 million
per annum. We can provide no assurance as to whether OCI will
approve such reimbursement or any portion thereof.
It is also uncertain whether and to what extent AFG will realize
value from the Owner Trust Certificate. The Owner Trust
Certificate is subordinated to $299.2 million of senior secured
notes issued by Corolla Trust plus interest thereon. Such notes and
the Owner Trust Certificate are collateralized by and payable solely
from a $350.0 million face amount junior surplus note plus interest
thereon. Ambac Assurance became the obligor under the junior
surplus notes on February 12, 2018 pursuant to the Second
Amended Plan of Rehabilitation. No payment of interest on or
principal of a junior surplus note may be made until all existing
and future indebtedness of Ambac Assurance, including (but not
limited to) senior ranking surplus notes, policy claims and claims
having statutory priority, have been paid in full. All payments of
principal and interest on junior surplus notes are subject to the prior
approval of OCI. If OCI does not approve the payment of interest
on junior surplus notes, such interest will accrue and compound
annually until paid. Payments on the senior secured notes issued
by Corolla Trust will only be made when and to the extent that
Ambac Assurance makes payments on the junior surplus note held
by Corolla Trust. The senior secured notes must be paid in full
before any payments will be made on the Owner Trust Certificate.
If Corolla Trust has failed to pay all interest and principal
outstanding on the senior secured notes within three business days
of August 28, 2039, the senior secured noteholders may also take
possession of and sell the junior surplus note. If such a sale were
to occur, it is uncertain whether and to what extent there would be
any value for the Owner Trust Certificate after satisfaction of the
senior secured notes. AFG could also decide to sell the Owner
Trust Certificate to Ambac Assurance, the Corolla Trust or a third
party, including at a discount to par value.
The value of AFG's common stock may also depend upon the
ability of Ambac to generate earnings apart from Ambac
Assurance. As noted below in Risks Related to Strategic Plan,
Ambac is selectively exploring potential business opportunities
that, among other things, may permit utilization of Ambac’s net
operating loss carry-forwards, but there are no assurances
regarding its ability to find or execute such business opportunities
or the prospects of any such opportunities.
Risks Related to Insured Portfolio Losses
Loss reserves may not be adequate to cover potential losses, and
changes in loss reserves may result in further volatility of net
income and comprehensive income.
Loss reserves are established when management has observed
credit deterioration, in most cases, when the underlying credit is
considered adversely classified. Loss reserves established with
respect to our non-derivative financial guarantee insurance policies
are based upon estimates and judgments by management, including
estimates and judgments with respect to the probability of default,
the severity of loss upon default, management’s ability to execute
policy commutations and/or restructurings, and estimated
remediation recoveries for, among other things, breaches by
RMBS issuers of representations and warranties. The objective of
establishing loss reserve estimates is not to, and our loss reserves
do not, reflect the worst possible outcome. While our reserving
scenarios reflect a wide range of possible outcomes (on a
probability weighted basis) reflecting the significant uncertainty
regarding future developments and outcomes, our loss reserves
may change materially based on future developments. As a result
of inherent uncertainties in the estimates and judgments made to
determine loss reserves, there can be no assurance that either the
actual losses in our financial guarantee insurance portfolio will not
exceed such reserves or that our reserves will not increase or
decrease materially over time as circumstances, our assumptions,
or our models change.
transaction documents, Ambac Assurance or
Additionally, inherent in our estimates of loss severities and
remediation recoveries is the assumption that Ambac Assurance
or its subsidiaries, as applicable, will retain control rights in respect
of our insured portfolio. However, according to the terms of
relevant
its
subsidiaries, as applicable, may lose control rights in many insured
transactions if, among other things, the relevant insurer is the
subject of delinquency proceedings and/or other regulatory
actions. If Ambac Assurance or its subsidiaries lose control rights,
their ability to mitigate loss severities and realize remediation
recoveries will be compromised, and actual ultimate losses in the
insured portfolio could exceed current loss reserves.
Some issuers of public finance obligations insured by Ambac
Assurance are experiencing fiscal stress that could result in
increased losses on those obligations or increased liquidity
| Ambac Financial Group, Inc. 10 2019 FORM 10-K |
claims, including losses or claims resulting from payment
defaults, Chapter 9 bankruptcy or other restructuring
proceedings or loss of market access.
Some issuers of public finance obligations insured by Ambac
Assurance have reported, or may report, budget shortfalls,
significantly underfunded pensions or other fiscal stresses that
imperil their ability to pay debt service or will require them to
significantly raise taxes and/or cut spending in order to satisfy their
obligations. Furthermore, over time, the consequences of poor
public policy decisions by state and local governments or increases
in tax burdens can impact demographic trends, such as out-
migration from one state or municipality to another, that may
negatively impact the creditworthiness of related issuers. Some
issuers of obligations insured by Ambac Assurance have declared
a payment moratorium, defaulted or filed for bankruptcy or similar
debt adjustment proceedings, raising concerns about their ultimate
ability or willingness to service the debt insured by Ambac
Assurance and Ambac Assurance's ability to recover claims paid
in the future. If the issuers of the obligations in the public finance
portfolio are unable to raise taxes, cut spending, or receive federal
or state assistance, or if such issuers default or file for bankruptcy
under Chapter 9 or for similar relief under other laws that allow
for the adjustment of debts, Ambac Assurance may experience
liquidity claims and/or ultimate losses on those obligations, which
could adversely affect the Company's business, financial condition
and results of operations.
Catastrophic environmental or public health events, particularly
those associated with hurricanes, earthquakes, wildfires,
drought and pandemics, that result in loss of human life,
significant property damage, and/or material disruption of
economic activity, can have a material negative impact on the
financial performance of issuers of public finance, investor
owned utility, privatized military housing and other obligations
insured by Ambac Assurance. Such stresses could result in
liquidity claims or permanent losses on those obligations.
Ambac Assurance insures the obligations of a number of issuers
that have been, or may in the future be, substantially affected by
environmental or public health events (e.g. coronavirus), including
flooding, hurricanes, earthquakes, wildfires, drought and
pandemics.
The short and long term impact of catastrophic environmental or
public health events on issuers and their obligations is by its very
nature uncertain and is determined by a number of factors
including, but not limited to, the level of Federal Government
support via emergency disaster relief funding measures, both
related to FEMA and otherwise, flood insurance, low interest loans,
hazard mitigation, the level of state and local government support,
the effectiveness of governmental support or intervention, the
magnitude of commercial insurance recoveries, management of
disaster recovery or public health crisis remediation efforts, and
the outcome of certain socio-economic variables. Consequently, if
issuers affected by such catastrophic events do not receive adequate
measures of support or realize the appropriate level of economic
recovery, it could impact their ultimate ability to service the debt
insured by Ambac Assurance and Ambac Assurance's ability to
recover claims paid in the future.
In addition, certain catastrophic environmental events, notably
wildfires, can result in significant potential liabilities for issuers
such as investor owned utilities that increase bankruptcy risk and
the potential default on obligations of the issuer, including
obligations insured by Ambac Assurance.
Ambac Assurance insures obligations of the Commonwealth of
Puerto Rico, including certain of its authorities and public
corporations that are either subject to a Title III bankruptcy
protection proceeding under the Puerto Rico Oversight,
Management and Stability Act ("PROMESA") or have otherwise
suspended debt service payments. Ambac Assurance has made
and may continue to be required to make significant amounts of
policy payments over the next several years, the recoverability of
which is subject to great uncertainty, which may lead to material
permanent losses. While we believe our reserves are adequate
to cover losses on Puerto Rico insured bonds, there can be no
assurance that Ambac Assurance may not incur additional losses
in the future, particularly given the uncertainty related to the
ongoing Title III proceedings and the developing economic,
political and legal circumstances in Puerto Rico. Such losses may
have a material adverse effect on Ambac Assurance's results of
operation and financial condition.
Ambac Assurance has exposure to the Commonwealth of Puerto
Rico (the "Commonwealth"), including its authorities and public
corporations. Each has its own credit risk profile attributable to,
as applicable, discrete revenue sources, direct general obligation
pledges and/or general obligation guarantees. Ambac Assurance
had approximately $1,123 million of net par exposure to the
Commonwealth and these instrumentalities at December 31, 2019.
Components of the overall Puerto Rico net par outstanding include
capital appreciation bonds that are reported at the par amount at
the time of issuance of the related insurance policy as opposed to
the current accreted value of the bonds. The outstanding net insured
amount including accretion on capital appreciation bonds is
approximately $1,343 million at December 31, 2019. Total net
insured lifetime debt service (net par and interest) to the
Commonwealth of Puerto Rico and its instrumentalities was
approximately $2,813 million at December 31, 2019.
As a result of the developments described in these Risk Factors
and elsewhere in this 10-K (see Part II, Item 7, Management's
Discussion and Analysis of Financial Condition and Results of
Operations - Financial Guarantees in Force, and Note 7. Financial
Guarantee Insurance Contracts to the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K), the
Commonwealth of Puerto Rico and certain of its instrumentalities
are continuing to default on debt service payments, including
payments owed on bonds insured by Ambac Assurance. Ambac
Assurance has made, and may continue to be required to make,
significant amounts of policy payments over the next several years,
the recoverability of which is subject to great uncertainty, which
may lead to material permanent losses. Our exposure to Puerto
Rico is impacted by the amount of monies available for debt
service, which is in turn affected by a number of factors including
variability in economic growth and demographic trends, tax
revenues, changes in law or the effects thereof, essential services
expense, as well as federal funding of Commonwealth needs.
Substantial uncertainty also exists with respect to the ultimate
outcome for creditors in Puerto Rico due to the Commonwealth
Plan of Adjustment or changes thereto, as well as legislation
enacted by the Commonwealth and the United States, including
PROMESA, as well as actions taken in reliance on such laws,
including Title III filings. Ambac Assurance is involved in multiple
| Ambac Financial Group, Inc. 11 2019 FORM 10-K |
litigations relating to such actions and other issues and may not be
successful in pursuing claims or protecting its interests.
final
In addition,
there are possible
Given the numerous uncertainties and risks existing with respect
to the restructuring process, outcomes associated with the
Commonwealth Plan of Adjustment or any changes thereto and
relevant litigation, no assurance can be given that ultimate debt
service discounts will not be very severe and cause Ambac to
experience losses materially exceeding current reserves. It is
possible that certain restructuring process solutions, together with
associated legislation, budgetary, and/or public policy proposals
could be adopted and could significantly further impair our
exposures.
legal
determinations, including failing to recognize or properly
differentiate legal structures and protections applicable to such
exposures, that could result in losses exceeding our current reserves
by a material amount and further increases to our loss reserves. In
particular, in a Title III process, should court-approved plans of
adjustment for the Commonwealth, Puerto Rico Highways and
Transportation Authority ("PRHTA"), the Puerto Rico Public
Buildings Authority ("PBA") or any other issuers of Ambac-
insured debt that may or may not file for Title III protection
contemplate discounts to debt service implied by, or even worse
than, the Commonwealth Revised Fiscal Plan (May 9, 2019) or
Ambac receive unfavorable judgments in the litigations to which
it is a party, Ambac’s financial condition would be materially
adversely affected. For example, the amended disclosure statement
and plan of adjustment ("Amended POA") to restructure $35
billion of debt and other claims against the Commonwealth of
Puerto Rico, Public Building Authority ("PBA"), and Employees
Retirement Systems ("ERS"), as well as more than $50 billion in
pension liabilities that was filed by the Federal Oversight
Management Board for Puerto Rico ("Oversight Board") on
February 28, 2020, provides for an average of 3.9% recoveries on
claims for non-General Obligation and PBA bonds, including
revenue bonds insured by Ambac. If the Amended POA was
confirmed in its current form Ambac's financial condition would
be materially adversely affected. It is also possible that economic
or demographic outcomes may be as, or worse than, forecasted in
the Commonwealth Revised Fiscal Plan or under proposals or
plans promulgated by the Commonwealth or its instrumentalities
in or in connection with a Title III process or otherwise. Even a
negotiated restructuring to which Ambac agrees as part of
mediation or other process may involve material losses in excess
of current reserves. While our reserving scenarios reflect a wide
range of possible outcomes reflecting the significant uncertainty
regarding future developments and outcomes, given our exposure
to Puerto Rico and the economic, fiscal, legal and political
loss reserves may
uncertainties associated
ultimately prove to be insufficient to cover our losses, potentially
by a material amount, and may be subject to material volatility.
therewith, our
Certain judicial decisions related to the Commonwealth of
Puerto Rico's PROMESA Title III proceedings may materially
adversely affect our Public Finance insured portfolio.
On January 13, 2020, the U.S. Supreme Court denied a petition
for Writ of Certiorari to review decisions in March and June 2019
by the U.S. Court of Appeals for the First Circuit that affirmed
decisions by the U.S. District Court overseeing the PROMESA
Title III proceedings for the PRHTA, decisions which found that
under Sections 928(a) and 922(d) of the U.S. Bankruptcy Code,
municipal issuers of revenue bonds secured by special revenues
are permitted, but not required, to apply special revenues to pay
debt service on such revenue bonds during the pendency of
issuers. The
bankruptcy proceedings for such municipal
complainants, including Ambac Assurance, had sought an order
compelling PRHTA, as the debtor, to continue to make debt service
payments on its revenue bonds from pledged special revenues
during the pendency of its Title III case, but the First Circuit
affirmed the District Court’s dismissals of the complaints, holding
that it could not compel the issuer to make such payments. The
First Circuit's decisions challenge what had been a commonly
understood notion in the municipal finance marketplace that
municipal revenue bondholders secured by special revenues (as
defined in Chapter 9 of the U.S. Bankruptcy Code) would continue
to receive payment during a bankruptcy of the municipal issuer.
Although the First Circuit’s decisions are binding only on federal
district and bankruptcy courts in Maine, Massachusetts, New
Hampshire, Puerto Rico and Rhode Island, they introduce
significant uncertainty into the public finance market, may make
it more difficult for municipal instrumentalities to procure revenue
bond financings in the future and increase the credit risk to
bondholders of existing special revenue bonds, particularly those
from weaker issuers. In the wake of the decisions, rating agencies
have taken ratings actions on, or announced their intention to
review ratings given to, bonds issued across the country
highlighting the potential contagion effect of the various Puerto
Rico proceedings under PROMESA.
It is unclear how these rulings may ultimately impact Ambac's
revenue bond municipal exposures, inclusive of Puerto Rico.
However, potential impacts could include ratings downgrades,
decreased or more costly access to capital markets to certain issuers
to refinance the insured debt or raise new debt, and lower recoveries
in a restructuring or bankruptcy. At December 31, 2019, Ambac
Assurance insured approximately $4,109 million of net par of
bonds of special revenue issuers, including $277 million net par
of watch list exposure and $615 million net par of adversely
classified exposure, $503 million of which was Puerto Rico
exposure.
We are subject to credit risk and other risks in our insured
portfolio, including related to RMBS and securities backed by
student loans. We are also subject to risks associated with adverse
selection as our insured portfolio runs off. Measures taken to
reduce such risks may have an adverse effect on the Company's
operating results or financial position.
Performance of our insured transactions, including (but not limited
to) RMBS transactions and those involving securities backed by
student loans, can be adversely affected by general economic
conditions, such as recession, rising unemployment rates,
underemployment, home prices that decline or do not increase in
the patterns assumed in our models, increasing foreclosure rates
and unavailability of consumer credit, mortgage product attributes,
such as interest rate adjustments and balloon payment obligations,
borrower and/or originator fraud, mortgage and student loan
servicer performance or underperformance and financial difficulty,
such as risks related to whether the servicer may be required to
delay the remittance of any cash collections held by it or received
by it after the time it becomes subject to bankruptcy or insolvency
proceedings.
While further deterioration in the performance of consumer assets,
including mortgage-related assets and student loans, may occur,
| Ambac Financial Group, Inc. 12 2019 FORM 10-K |
the timing, extent and duration of any future deterioration of the
credit markets is unknown, as is the impact on potential claim
payments and ultimate losses on the securities within our portfolio.
In addition, there can be no assurance that any governmental or
private sector initiatives designed to address such credit
deterioration in the markets will be successful or inure to the benefit
of the transactions we insure. For example, any initiative which
permits the discharge of student loan debt in bankruptcy may
adversely affect our portfolio. Similarly, servicer settlements with
governmental authorities regarding foreclosure or servicing
irregularities are generally designed to protect borrowers and may
increase losses on securities we insure. In particular, the student
loan industry and, specifically, trusts with securities insured by
Ambac Assurance have been subject to heightened Consumer
Finance Protection Bureau (CFPB) scrutiny and enforcement
action over servicing and collections practices and potential chain
of title issues and, consequently, any settlements, orders, consents
or penalties resulting from CFPB actions, or any failure on the part
of servicers or other parties asserting claims against delinquent
borrowers to establish title to the loans, could lead to increased
losses on securities we insure.
In addition, there can be no assurance that Ambac Assurance would
be successful, or that it would not be delayed, in enforcing the
subordination provisions, credit enhancements or other contractual
provisions of the RMBS that Ambac Assurance insures.
As the runoff of the insured portfolio continues, the proportion of
exposures we rate as below investment grade relative to the
aggregate insured portfolio is likely to continue to increase, leaving
the portfolio increasingly concentrated in higher risk exposures.
This risk may result in greater volatility or have adverse effects on
the Company's results from operations and on our financial
condition.
One of our primary goals is to create shareholder value through
transaction terminations, policy commutations, reinsurance,
settlements and restructurings that we believe will improve our
risk profile. As we take such actions to reduce known and potential
risks, such actions may negatively impact our operating results or
financial position in one or more reporting periods.
Our credit risk management policies and practices may not
adequately identify significant risks.
As described in Part I, Item 1, “Risk Management” in this Form
10-K, we have established risk management policies and practices
which seek to mitigate our exposure to credit risk in our insured
portfolio. Ongoing surveillance of credit risks in our insured
portfolio is an important component of our risk management
process. These policies and practices in the past have not insulated
us from risks that were unforeseen and which had unanticipated
loss severity, and such policies and practices may not do so in the
future. There can be no assurance that these policies and practices
will be adequate to avoid future losses. If we are not able to identify
significant risks, we may not be able to timely remediate such risks,
thereby increasing the amount of losses to which we are exposed.
An inability to identify significant risks could also result in the
failure to establish loss reserves that are sufficient in relation to
such risks.
We use analytical models and tools to assist our projection of
performance of our insured obligations and our investment
portfolio but actual results could differ materially from the model
and tool outputs and related analyses.
We rely on internally and externally developed complex financial
models, including default models related to RMBS and a waterfall
tool provided by a nationally recognized vendor for RMBS and
student loan exposures, to project performance of our insured
obligations and similar securities in our investment portfolio.
These models and tools assume various conditions, probability
scenarios, facts and circumstances, and there can be no assurance
that such models or tools accurately predict or measure the
quantum of losses, loss reserves and timing of losses. Differences
in the models and tools that we employ, uncertainties or flaws in
these financial models and tools, or faulty assumptions inherent in
these financial models and tools or those determined by
management could lead to material changes in projected outcomes,
and could include increased losses, loss reserves and/or other than
temporary investment impairments. Moreover, estimates of
transaction performance depend in part on the interpretation of
contracts and other bases of our legal rights. Such interpretations
may prove to be incorrect or different interpretations may be
employed by bond trustees and other transaction participants and,
ultimately courts, which could lead to increased losses, loss
reserves and/or investment impairments.
Political developments may materially adversely affect our
insured portfolio.
Our insured exposures and our results of operations can be
materially affected by political developments at the federal, state
and/or local government levels. Government shutdowns, trade
disputes, political turnover, judicial decisions, adverse changes in
federal funding, or poor public policy decision making could
disrupt the national and local economies where we have insured
exposures. In addition, we are exposed to correlation risk as a result
of the possibility that multiple credits may concurrently and/or
consecutively experience losses or increased stress as a result of
any such event or series of events.
Risks Related to Indebtedness
Ambac Assurance's ability to generate the significant amount of
cash needed to service its debt and financial obligations and its
ability to refinance all or a portion of its indebtedness or obtain
additional financing depends on many factors beyond our
control.
Ambac Assurance is highly leveraged. Ambac Assurance’s ability
to make payments on and/or refinance its debt and to fund its
operations will depend on its ability to generate substantial
operating cash flow and on the performance of the insured
portfolio. Ambac Assurance’s cash flow generation will depend
on receipt of premiums, investment returns, earnings from
subsidiaries and potential
litigation recoveries offset by
reinsurance
policyholder claims, commutation payments,
premiums, operating and loss adjustment expenses, and interest
expense, which will be subject to prevailing economic conditions
and to financial, business and other factors, many of which are
beyond our control and many of which are event-driven.
As of December 31, 2019, Ambac Assurance had approximately
$2,044 million of indebtedness outstanding (the Tier 2 Notes and
the Ambac Note) that are senior to its surplus notes. Ambac
| Ambac Financial Group, Inc. 13 2019 FORM 10-K |
Assurance had $574 million principal balance of surplus notes
outstanding plus $365 million principal balance of junior surplus
notes outstanding as of December 31, 2019. The Tier 2 Notes and
the Ambac Note are secured by potential litigation recoveries (and
in the case of the Ambac Note, other assets), the receipt of which
is highly uncertain, as more fully discussed in Part I, Item 1A. Risk
Factors. Failure to achieve litigation recoveries in an amount
sufficient to repay the Tier 2 Notes and the Ambac Note would
materially weaken Ambac Assurance’s ability to service its
indebtedness.
If Ambac Assurance cannot pay its policyholders’ claims or service
its debt, it will have to take actions such as selling assets,
restructuring or refinancing its debt or seeking additional capital.
Any of these remedies may not, if necessary, be effected on
commercially reasonable terms, or at all. Because of these and
other factors beyond our control, Ambac Assurance may be unable
to pay the principal, interest or other amounts on its indebtedness
when due or ever.
We have substantial indebtedness, which could adversely affect
our financial condition, operational flexibility and our ability to
obtain financing in the future.
Our substantial indebtedness could have significant consequences
for our financial condition and operational flexibility. For example,
it could:
• increase our vulnerability to general adverse economic,
competitive and industry conditions;
• limit our ability to obtain additional financing in the future
for working capital, capital expenditures, payment of
policyholder claims, debt service requirements, acquisitions,
general corporate purposes or other purposes on satisfactory
terms or at all;
• require us to dedicate a substantial portion of our cash flow
from operations to the payment of our indebtedness, thereby
reducing the funds available to us for operations and to fund
the execution of our key strategies;
• limit or restrict us from making strategic acquisitions or cause
us to make non-strategic divestitures;
• limit our ability or increase the costs to refinance indebtedness
or repay such indebtedness due to ongoing interest accretion;
• limit our ability to attract and retain key employees; and
• limit our ability to enter into hedging transactions by reducing
the number of counterparties with whom we can enter into
such transactions, as well as the volume of those transactions.
Despite current indebtedness levels, we may incur additional debt.
While restrictive covenants in certain of our contracts may limit
the amount of additional indebtedness Ambac Assurance may
incur, we may obtain waivers of those restrictions and incur
additional indebtedness in the future. In addition, if Ambac
incurred indebtedness, its ability to make scheduled payments on,
or refinance, any such indebtedness may depend on the ability of
our subsidiaries to make distributions or pay dividends, which in
turn will depend on their future operating performance and
contractual, legal and regulatory restrictions on the payment of
distributions or dividends to which they may be subject. There
can be no assurance that any such dividends or distributions would
be made. This could further exacerbate the risks associated with
our substantial leverage.
There may not be sufficient collateral to pay any or all of the
Secured Notes or Tier 2 Notes.
In addition to Ambac Assurance’s right to representation and
warranty ("R&W") recoveries in respect of the RMBS litigations,
which is inherently uncertain, the Ambac Note is also secured by
cash and securities having an estimated fair market value of
approximately $197 million. However, there can be no assurance
that the fair market value of these securities will not decrease
significantly. The value of the securities collateral in the event of
liquidation will depend on market and economic conditions, the
availability of buyers and other factors. Consequently, when
combined with potential R&W recoveries, liquidating the
securities collateral securing the Ambac Note may not produce
proceeds in an amount sufficient to pay all amounts due on the
Secured Notes.
In the event of rehabilitation, liquidation, conservation, dissolution
or other insolvency proceeding, Ambac Assurance cannot assure
holders that the proceeds from any sale or liquidation of the
securities collateral will be sufficient to pay any or all of Ambac
Assurance’s obligations under the Ambac Note.
In addition, in the event of any such proceeding, it is possible that
the rehabilitator, trustee, or competing creditors will assert that the
value of the collateral with respect to the Ambac Note or the Tier
2 Notes, including Ambac Assurance’s rights to recoveries in
respect of the RMBS litigations, is less than the then-current
principal amount outstanding under the Ambac Note and the
Secured Notes and/or the Tier 2 Notes on the date of the
rehabilitation filing. Upon a finding by the court overseeing an
Ambac Assurance rehabilitation that the Ambac Note and the
Secured Notes and/or the Tier 2 Notes are under-collateralized, the
claims in the rehabilitation proceeding with respect to the Ambac
Note, the Secured Notes or the Tier 2 Notes may be bifurcated
between a secured claim up to the value of the collateral and an
unsecured claim for any deficiency. As a result, the claim of the
holders of the Secured Notes or the Tier 2 Notes could be unsecured
in whole or in part. The ability of the holders of the Secured Notes
or Tier 2 Notes to realize upon any of the collateral securing the
Ambac Note and the Secured Notes or Tier 2 Notes, as the case
may be, may also be subject to bankruptcy and insolvency law
limitations or similar limitations applicable in insurance company
rehabilitation or liquidation proceedings.
Ambac Assurance has not made regular interest or principal
payments on surplus notes and may be unable or permitted to
repay surplus notes in full at their scheduled maturity of June 7,
2020 or ever.
Payments of interest and principal on surplus notes are subject to
the prior approval of the OCI. Since the issuance of the surplus
notes in 2010, OCI has declined to approve regular payments of
interest on surplus notes, although the OCI has permitted
exceptional payments in connection with (a) increasing the
percentage of deferred policy payments of the Segregated Account
of Ambac Assurance from 25% to 45% in 2014 and (b) a one-time
payment of approximately six months of interest on the surplus
notes outstanding immediately after the consummation of the
Rehabilitation Exit Transactions in 2018. Ambac Assurance may
not receive approval from OCI to make payments as and when
scheduled, including the payment of the surplus notes on their
scheduled maturity date of June 7, 2020. If the OCI does not
approve the making of any payment of principal of or interest on
| Ambac Financial Group, Inc. 14 2019 FORM 10-K |
surplus notes on the scheduled payment date or scheduled maturity
date thereof, the scheduled payment date or scheduled maturity
date, as the case may be, shall be extended until OCI grants
approval to make the payment. Interest will accrue, compounded
on each anniversary of the original scheduled payment date or
scheduled maturity date, on any unpaid principal or interest
through the actual date of payment, at 5.1% per annum. Holders
of surplus notes will have no rights to enforce the payment of the
principal of, or interest on, surplus notes in the absence of OCI
approval to pay such amount. As a result, holders of surplus notes
may not be paid in full at the scheduled maturity date or ever. If
OCI does not approve regular payments on the surplus notes within
the next several years, the total amount due (principal and accrued
interest) for surplus notes may exceed Ambac Assurance's
financial resources and holders of surplus notes may not ever be
paid in full. If Ambac Assurance becomes subject to a rehabilitation
or liquidation under Wisconsin insurance law, prior to the
repayment of surplus notes, holders of surplus notes may not
receive any recoveries on their investments.
Ambac Assurance has ongoing obligations related to surplus
notes.
Subject to approval by OCI, Ambac Assurance may be required to
make interest and principal (to the extent due) payments in cash
on surplus notes on an annual basis. Ambac Assurance will be
required to continue to make such payments, as and when approved
by OCI, until all of the surplus notes mature, are repaid in full or
are otherwise repurchased or retired. Ambac Assurance is also
obligated to make payments on junior surplus notes, subject to OCI
approval, after the senior surplus notes and other indebtedness have
been paid in full. Ambac Assurance may not have the ability to
borrow, raise or otherwise have access to the funds necessary to
pay such amounts when due.
Surplus notes are subordinated in right of payment to other
claims, which could impair the right of the holders of such notes
to receive interest and principal in the event of our insolvency or
a similar occurrence.
Surplus notes are unsecured obligations of Ambac Assurance and
are expressly subordinated in right of payment to all of Ambac
Assurance’s existing and future indebtedness (other than junior
surplus notes) and policy claims. The surplus notes are subject to
provisions of Wisconsin insurance law, which establishes the
priority of distribution of claims from the estate of an insolvent
insurance company. In the event that Ambac Assurance becomes
subject to rehabilitation, liquidation, conservation or dissolution,
holders of Ambac Assurance’s senior indebtedness and policy
claims would be afforded a higher priority of distribution than
holders of the surplus notes, and accordingly would have the right
to be paid in full before holders of the surplus notes would be paid.
Due to the nature of Ambac Assurance’s business, the amount of
such higher priority claims in any rehabilitation, liquidation,
conservation or dissolution is likely to be many times greater than
any free and divisible surplus and it is likely that the holders of
surplus notes would not recover any payment
in such
circumstances. In addition, claims of holders of the surplus notes
will be subordinated to certain liabilities of the Company’s
subsidiaries that are guaranteed by Ambac Assurance.
Increases in interest rates will increase the cost of servicing our
debt and could reduce our profitability.
The Secured Notes bear interest at a variable rate. As a result,
increases in interest rates will increase the cost of servicing the
Secured Notes and could adversely affect our profitability and cash
flows. Each one percentage point increase in interest rates would
result in an $17.6 million increase in the annual cash interest
payments due on the Secured Notes.
The amount of interest payable on the Secured Notes is set only
once per interest period based on the three-month LIBOR rate
on the applicable interest determination date, which rate may
fluctuate substantially, and affect our ability to make payment
on the Secured Notes.
In the past, the level of the three-month LIBOR rate has
experienced significant fluctuations. Historical levels, fluctuations
and trends of the three-month LIBOR rate are not necessarily
indicative of future levels. Any historical upward or downward
trend in the three-month LIBOR rate is not an indication that the
three-month LIBOR rate is more or less likely to increase or
decrease at any time during an interest period for the Secured
Notes, and historical levels of the three-month LIBOR rate should
not be taken as an indication of its future performance. In addition,
although the actual three-month LIBOR rate on an interest payment
date or at other times during an interest period may be higher than
interest
the
determination date, the only relevant date for purposes of
determining the interest payable on the Secured Notes is the three-
month LIBOR rate as of the respective interest determination date.
Changes in the three-month LIBOR rates between interest
determination dates will not affect the interest payable on the
Secured Notes.
three-month LIBOR rate on
the applicable
The Secured Notes will bear interest at floating rates that could
rise significantly, increasing Ambac Assurance’s interest expense
and reducing its cash flow. If Ambac Assurance’s interest expense
increases significantly, whether due to changes in LIBOR or
increased borrowing costs when it refinances its current
indebtedness, Ambac Assurance may not be able to make payments
with respect to the Secured Notes or its other indebtedness.
Ambac’s estimated R&W recovery may change over time, causing
the perceived value of the collateral securing the Secured Notes
and Tier 2 Notes to change, and any such change may be material.
Ambac reevaluates its estimated R&W recoveries on a quarterly
basis in connection with the preparation of its financial statements.
See “Critical Accounting Policies and Estimates” in Part II, Item
7, Note 2. Basis of Presentation and Significant Accounting
Policies and Note 7. Financial Guarantee Insurance Contracts to
the Consolidated Financial Statements included in Part II, Item 8
of this Form 10-K for the fiscal year ended December 31, 2019.
As a result of any reevaluation, the estimated amount of Ambac’s
R&W recovery may be adjusted upward or downward due to,
among other things, changes in management's view of such
estimated recoveries and/or changes in the loss reserves related to
such recoveries, and any adjustment may be material. Changes in
estimated R&W recoveries may result in material changes in
Ambac’s financial condition, including its capital and liquidity. In
addition, any adjustment to estimated R&W recoveries may alter
the perceived value of the collateral securing the Secured Notes
and Tier 2 Notes before payment on the Secured Notes or Tier 2
Notes is made in full, which may affect the value of, and trading
| Ambac Financial Group, Inc. 15 2019 FORM 10-K |
market, if any, for, the Secured Notes or Tier 2 Notes. Management
makes no representation that the estimated R&W recoveries will
not change, materially or at all, including in the near term. There
can be no assurance that the estimated R&W recoveries securing
the Secured Notes and Tier 2 Notes will equal or exceed the
principal amount of the Secured Notes and Tier 2 Notes,
respectively, at all times prior to maturity.
Risks Related to Capital, Liquidity and Markets
Our inability to realize the expected recoveries included in our
financial statements could adversely impact our liquidity,
financial condition and results of operations and the value of
our securities, including the Secured Notes and Tier 2 Notes.
Ambac Assurance is pursuing claims in litigation with respect to
certain RMBS transactions that it insured. These claims are based
on, among other things, representations with respect to the
characteristics of the securitized loans, the absence of borrower
fraud in the underlying loan pools or other misconduct in the
origination process, the compliance of loans with the prevailing
underwriting policies, and compliance of the RMBS transaction
counterparties with policies and procedures related to loan
origination and securitization. In such cases, where contract claims
are being pursued, the sponsor of the transaction is contractually
obligated to repurchase, cure or substitute collateral for any loan
that breaches the representations and warranties. However,
generally the sponsors have not honored those obligations and have
vigorously defended claims brought against them.
As of December 31, 2019, we have estimated RMBS R&W
subrogation recoveries of $1,702 million (net of reinsurance)
included in our financial statements. These estimated recoveries
are based on the contractual claims brought in the aforementioned
litigations and represent a probability-weighted estimate of
amounts we expect to recover under various possible scenarios.
The estimated recoveries we have recorded do not represent the
best or the worst possible outcomes with respect to any particular
transaction or group of transactions.
There can be no assurance that Ambac Assurance will be successful
in prosecuting its claims in the RMBS litigations. The outcome of
any litigation, including the RMBS litigations, is inherently
unpredictable, including because of risks intrinsic in the
adversarial nature of litigation. Motions made to the court, rulings
and appeals - in the cases being prosecuted by Ambac Assurance
or in other relevant cases - could delay or otherwise impact any
recovery by Ambac Assurance. Moreover, rulings that may be
adverse to Ambac Assurance (in any of its RMBS litigations, as
well as in other RMBS cases in which it is not a party) could affect
Ambac Assurance’s ability to pursue its claims or alter settlement
dynamics with RMBS litigation defendants. Any litigation award
or settlement may be for an amount less than the amount necessary
(even when combined with other pledged collateral) to pay the
Secured Notes or the Tier 2 Notes, which could have a material
adverse effect on our financial condition or results of operations
and make it more difficult for Ambac Assurance to repay the
Ambac Note (and therefore make it more difficult for the issuer of
the Secured Notes to repay the Secured Notes) and/or the Tier 2
Notes and/or Ambac Assurance’s outstanding surplus notes, on a
timely basis or at all. In the event that Ambac Assurance is unable
to satisfy its obligations with respect to the Secured Notes or Tier
2 Notes, holders will have the right to foreclose on any available
collateral and to sue Ambac Assurance for failure to make required
payments; however, there can be no assurance that the sale of
collateral will produce proceeds in an amount sufficient to pay any
or all amounts due on the Secured Notes or Tier 2 Notes, as the
case may be, or that holders will be successful in any litigation
seeking payments. Additionally, while Ambac Assurance may
pursue settlement negotiations, there can be no assurance that any
settlement negotiations will materialize or that any settlement
agreement can be reached on terms acceptable to Ambac
Assurance, or at all. Depending on the length of time required to
resolve these litigations, either through settlement or at trial,
Ambac Assurance could incur greater litigation expenses than
currently projected. If a case is brought to trial, Ambac Assurance’s
ultimate recovery would be subject to the additional risks inherent
in any trial, including adverse findings or determinations by the
trier of fact or the court, which could adversely impact the value
of our securities, including the Secured Notes and Tier 2 Notes.
Any litigation award is subject to risks of recovery, including that
the sponsor is unable pay a judgment that Ambac Assurance may
obtain in litigation. In some instances, Ambac Assurance also has
claims against a parent or an acquirer of the counterparty. However,
Ambac Assurance may not be successful in enforcing its claims
against any successor entity.
The RMBS litigations could also be adversely affected if Ambac
Assurance does not have sufficient resources to actively prosecute
its claims or becomes subject to rehabilitation, liquidation,
conservation or dissolution, or otherwise impaired by actions of
OCI.
Our ability to realize the estimated RMBS R&W subrogation
recoveries included in our financial statements and the time of the
recoveries, if any, is subject to significant uncertainty, including
the risks described above and uncertainties inherent in the
assumptions used in estimating such recoveries. The amount of
these subrogation recoveries is significant and if we were unable
to recover all such amounts, our stockholders’ equity as of
December 31, 2019 would decrease from $1,536 million to $(165)
million.
We expect to recover material amounts of claims payments through
remediation measures including the litigation described above as
well as through cash flows in the securitization structures of
transactions that Ambac Assurance insures. Realization of such
expected recoveries is subject to various risks and uncertainties,
including the rights and defenses of other parties with interests that
conflict with Ambac Assurance's interests, the performance of the
collateral and assets backing the obligations that Ambac Assurance
in
the performance of servicers
insures, and
securitizations in which Ambac Assurance participates as insurer.
Additionally, our ability to realize recoveries in insured
transactions may be impaired if the continuing orders of the
Rehabilitation Court are not effective.
involved
Adverse developments with respect to such variables may cause
our recoveries to fall below expectations, which could have a
material adverse effect on our financial condition, including our
capital and liquidity, and may result in adverse consequences such
as impairing the ability of Ambac Assurance to honor its financial
obligations; the initiation of rehabilitation proceedings against
Ambac Assurance; decreased likelihood of Ambac Assurance
delivering value to AFG, through dividends or otherwise;
| Ambac Financial Group, Inc. 16 2019 FORM 10-K |
diminished business prospects due to third party concerns about
our ability to recover losses; and a significant drop in the value of
securities issued or insured by AFG or Ambac Assurance,
including the Secured Notes and Tier 2 Notes.
Ambac’s estimate of RMBS litigation recoveries is subject to
significant uncertainty and changes to the estimate could
adversely impact its liquidity, financial condition and results of
operations.
For Ambac’s RMBS cases for which it records an RMBS R&W
subrogation recovery in its financial statements, Ambac has
obtained loan files from the relevant original pool and has
conducted loan file re-underwriting to derive a breach rate that is
extrapolated to estimate the damages Ambac expects to recover.
Ambac does not estimate an RMBS R&W subrogation recovery
for litigations where its sole claim is for fraudulent inducement.
The amount estimated for purposes of Ambac’s RMBS R&W
subrogation recovery and the amount Ambac may ultimately
receive is subject to significant uncertainty, as described in the
immediately preceding risk factor. Ambac’s findings and
assumptions regarding collateral performance and Ambac’s
expectations with respect to the outcome of the RMBS litigations
have a significant impact on Ambac’s estimated RMBS R&W
subrogation recovery. If these findings, assumptions or estimates
prove to be incorrect or otherwise do not support our claims, actual
recoveries could differ materially from those estimated. Actual
recoveries will ultimately depend on future events and there can
be no assurance that our view of collateral performance or our
estimated RMBS R&W subrogation recoveries will not differ from
actual events. Although Ambac believes that its methodology for
estimating recoveries is appropriate, the methodologies Ambac
uses to estimate expected collateral losses and specific transaction
performance may not be similar to methodologies used by Ambac’s
competitors, counterparties or other market participants. The
determination of expected RMBS R&W subrogation recoveries is
an inherently subjective and complex process involving numerous
estimates and assumptions and judgments by management, using
both internal and external data sources to derive a specific
transaction's cash flows. As a result, Ambac’s current estimates
may not reflect Ambac’s ultimate recovery, and management
makes no representation that the actual amounts recovered, if any,
will not differ materially from those estimated. The failure of
Ambac’s actual recoveries to meet or exceed its current estimates
could result in a material adverse effect on Ambac’s financial
condition, including its capital and liquidity.
We may not be able to commute or reduce insured exposures.
In pursuing the objective of improving our financial position, we
are seeking to commute or reduce insured exposures. De-risking
transactions may not be feasible or economically viable. We cannot
provide any assurance that any such transaction will be
consummated in the future, or if it is, as to the timing, terms or
conditions of any such transaction. Even if we consummate one
or more of such transactions, doing so may ultimately prove to be
unsuccessful in creating value for any or all of our stakeholders
and may adversely affect our operating results or financial position.
Revenues and cash flow would be adversely impacted by a decline
in realization of installment premiums.
A significant percentage of our premium revenue is attributable to
installment premiums. The amount of installment premiums we
termination of
actually realized could be reduced in the future due to factors such
as early
insurance contracts, accelerated
prepayments of underlying obligations or insufficiency of cash
flows (by the premium paying entity). Such reductions would result
in lower revenues.
The composition of the securities in our investment portfolio
exposes us to greater risk than before we invested in "alternative
assets."
Each of Ambac Assurance and Ambac UK maintains a portion of
its investment portfolio in below investment grade securities,
equities and/or “alternative assets” with the objective to increase
the risk-adjusted portfolio returns. Investments
in below
investment grade securities, equities and “alternative assets” could
expose Ambac Assurance and/or Ambac UK to greater earnings
volatility, increased losses and decreased liquidity in the
investment portfolio.
We may have future capital needs and may not be able to obtain
third-party financing or raise additional third-party capital on
acceptable terms, or at all.
An inability to obtain third-party debt financing or raise additional
third-party capital, when required by us or when business
conditions warrant, could have a material adverse effect on our
business, financial condition and results of operations. The
economic conditions affecting our industry, as well as other factors,
may constrain our financing abilities. Our ability to secure third-
party financing, if available, and to satisfy or refinance our
financial obligations under indebtedness outstanding from time to
time will depend upon regulatory conditions, our future operating
performance, the availability of credit generally, economic
conditions and financial, business and other factors, many of which
are beyond our control. The market conditions and the
macroeconomic conditions that affect our industry could have a
material adverse effect on our ability to secure third-party financing
on favorable terms, if at all.
If third-party financing is not available when needed, or is available
on unfavorable terms, we may be unable to take advantage of
business opportunities, respond to competitive pressures or
refinance our outstanding indebtedness, any of which could have
a material adverse effect on our business, financial condition and
results of operations.
Ambac Assurance may in the future report a policyholders’
deficit or become insolvent.
While the Rehabilitation Exit Transactions and related transactions
were designed to improve our financial condition, we will continue
to be subject to risks and uncertainties that could materially affect
our financial position. Therefore, even following consummation
of the Rehabilitation Exit Transactions, circumstances may occur
that would cause Ambac Assurance to report a policyholders’
deficit or not comply in the future with the statutory minimum
policyholders’ surplus or undergo rehabilitation. In addition,
Ambac Assurance may become insolvent in the future. OCI has
prescribed or permitted additional accounting practices for Ambac
Assurance and Everspan which are described in Note 8. Insurance
Regulatory Restrictions to the Consolidated Financial Statements
included in Part II, Item 8 in this Form 10-K.
| Ambac Financial Group, Inc. 17 2019 FORM 10-K |
The determination of the amount of other-than temporary
impairments taken on our investments is highly subjective and
could materially impact our results of operations or financial
position.
The determination of the amount of impairments on our
investments varies by investment type and is based upon our
periodic evaluation and assessment of known and inherent risks
associated with the respective asset class. Such evaluations and
assessments are revised as conditions change and new information
becomes available. Management updates its evaluations regularly
and reflects changes in impairments as such evaluations are
revised. There can be no assurance that our management has
accurately assessed the level of impairments taken in our financial
statements. Furthermore, additional impairments may need to be
taken in the future. Historical trends may not be indicative of future
impairments. In particular, we use financial models and tools to
project impairments with respect to RMBS held in our investment
portfolio,
including Ambac Assurance guaranteed RMBS.
Differences in the models and tools we employ and/or flaws in
these models and tools and/or faulty assumptions inherent in these
models and tools and those determined by management, could lead
to increased impairments with respect to RMBS in our investment
portfolio.
Risks Related to the Financial and Credit Markets
Changes in prevailing interest rate levels and market conditions
could adversely impact our business results and prospects.
Increases in prevailing interest rate levels can adversely affect the
value of our investment portfolio and, therefore, our financial
strength. In the event that investments must be sold in order to pay
claims, to pay debt obligations, to meet collateral posting
requirements or to meet other liquidity needs, such investments
would likely be sold at discounted prices. Additionally, increasing
interest rates would have an adverse impact on our insured
portfolio. For example, increasing interest rates could result in
higher claim payments in respect of defaulted obligations that bear
floating rates of interest. Higher interest rates can also lead to
increased credit stress on consumer asset-backed transactions (as
the securitized assets supporting a portion of these exposures are
floating rate consumer obligations), slower prepayment speeds and
resulting “extension risk” relative to such consumer asset-backed
transactions in our insured and investment portfolios, and
decreased refinancing activity.
Decreasing interest rates could result in early terminations of
financial guarantee insurance policies in respect of which we are
paid on an installment basis and do not receive a termination
premium, thus reducing premium earned for these transactions.
Decreases in prevailing interest rates may also limit growth of, or
reduce, investment income and may adversely impact our interest
rate swap portfolio.
Our investment portfolio may also be adversely affected by credit
rating downgrades, ABS and RMBS prepayment speeds, foreign
exchange movements, spread volatility, and credit losses.
We are subject to credit risk throughout our businesses, including
large single risks, risk concentrations, correlated risks and
reinsurance counterparty credit risk.
We are exposed to the risk that issuers of debt which we have
insured (or with respect to which we have written credit
in
derivatives), issuers of debt which we hold in our investment
portfolio, reinsurers and other contract counterparties (including
their financial
derivative counterparties) may default
obligations, whether as the result of insolvency, lack of liquidity,
operational failure, fraud or other reasons. These credit risks could
cause increased losses and loss reserves, and/or estimates of credit
impairments and mark-to-market losses with respect to credit
derivatives in our financial guarantee business; and we could
experience losses and decreases in the value of our investment
portfolio and, therefore, our financial strength. Such credit risks
may be in the form of large single risk exposures to particular
issuers, reinsurers or counterparties; losses caused by catastrophic
events (including terrorist acts and natural disasters); losses caused
by increases in municipal defaults; losses in respect of different,
but correlated, credit exposures; or other forms
Uncertainties regarding the expected discontinuance of the
London Inter-Bank Offered Rate or any other interest rate
benchmark could have adverse consequences.
In 2017, the U.K. Financial Conduct Authority (“FCA”), which
regulates the London Interbank Offered Rate ("LIBOR"),
announced that it will no longer persuade or compel banks to
submit rates for the calculation of LIBOR after 2021. As a result,
LIBOR and certain other indices which are utilized as benchmarks
are not expected to be published after 2021. Ambac Assurance and
Ambac UK insure securities, own assets, are party to certain
derivative contracts and have issued debt and other obligations that
reference LIBOR. While regulators and market participants have
suggested substitute rates for LIBOR, such as the Secured
Overnight Financing Rate, the impact of the discontinuance of
LIBOR is uncertain. Similarly, it is not possible to know whether
LIBOR will continue to be viewed as an acceptable benchmark ,
what rate or rates may become accepted alternatives to LIBOR, or
what the effect of any such changes in views and alternative may
have on the financial markets for LIBOR-linked financial
instruments for the period preceding LIBOR no longer being
published. Differences in contractual provisions of certain legacy
assets and liabilities and other factors, may cause the consequences
of the discontinuance of LIBOR to vary by instrument. As a result,
the value of our assets, derivatives and liabilities; costs to operate
our business; and the losses associated with our insured portfolio
may be affected in a way that may ultimately materially adversely
impact Ambac’s results of operations and financial condition. In
addition, Ambac may experience adverse tax and accounting
impacts, system and model disruption, and increased liquidity
demands in connection with the transition away from LIBOR that
may have adverse operational consequences resulting in further
adverse impacts on Ambac’s results of operations and financial
condition.
Risks Related to the Company's Business
We are subject to the risk of litigation and regulatory inquiries
or investigations, and the outcome of proceedings we are or may
become involved in could have a material adverse effect on our
business, operations, financial position, profitability or cash
flows.
Ambac Assurance is defending or otherwise involved in various
lawsuits relating to its financial guarantee business. In addition,
the Company from time to time receives various regulatory
inquiries and requests for information. Please see Note 17.
Commitments and Contingencies to the Consolidated Financial
| Ambac Financial Group, Inc. 18 2019 FORM 10-K |
Statements included in Part II, Item 8 in this Form 10-K for
information on these various proceedings.
It is not possible to predict whether additional suits involving AFG,
Ambac Assurance or one or more other subsidiaries will be filed
or whether additional regulatory inquiries or requests for
information will be made, and it is also not possible to predict the
outcome of litigation, inquiries or requests for information. It is
possible that there could be unfavorable outcomes in these or other
proceedings. Management is unable to make a meaningful estimate
of the amount or range of loss that could result from unfavorable
outcomes or of the expenses that will be incurred in defending
these lawsuits. Under some circumstances, adverse results in any
such proceedings and/or the incurring of significant litigation
expenses could be material to our business, operations, financial
position, profitability or cash flows.
The Settlement Agreement, Stipulation and Order and Indenture
for the Tier 2 Notes contain restrictive covenants that may impair
our ability to pursue our business strategies.
Pursuant to the terms of the Settlement Agreement, Stipulation and
Order and indenture for the Tier 2 Notes, Ambac Assurance must
seek prior approval by OCI of certain corporate actions. The
Settlement Agreement, Stipulation and Order and indenture for the
Tier 2 Notes also include covenants which restrict the operations
of Ambac Assurance which, (i) in the case of the Settlement
Agreement, remain in force until the surplus notes that were issued
pursuant to the Settlement Agreement have been redeemed,
repurchased or repaid in full, (ii) in the case of the Stipulation and
Order, remain in place until the OCI decides to relax such
restrictions, and (iii) in the case of the indenture for the Tier 2
Notes, remain in force until the Tier 2 Notes have been redeemed,
repurchased or repaid in full. Certain of these restrictions may be
waived with the approval of holders of the applicable debt
securities and/or OCI. If we are unable to obtain the required
consents under the Settlement Agreement, the Stipulation and
Order and/or the indenture for the Tier 2 Notes, we may not be able
to execute our planned business strategies.
OCI has certain enforcement rights with respect to the Settlement
Agreement and Stipulation and Order. Disputes may arise over the
interpretation of such agreements, the exercise or purported
exercise of rights thereunder, or the performance of or failure or
purported failure to perform obligations thereunder. Any such
dispute could have material adverse effects on the Company,
whether
proceedings,
supervisory orders, failure to execute transactions sought by
management, interference with corporate strategies, objectives or
prerogatives, inefficient decision-making or execution, forced
realignment of resources,
to
management, strained working relationships or otherwise. Such
effects would also increase the risk that OCI would seek to initiate
rehabilitation proceedings against Ambac Assurance.
increased costs, distractions
administrative
litigation,
through
System security risks, data protection breaches and cyber-attacks
could adversely affect our business and results of operations.
We rely on our information technology systems for many
enterprise-critical functions and a prolonged failure or interruption
of these systems for any reason could cause significant disruption
to our operations and have a material adverse effect on our business,
financial condition and operating results. Our information
technology and application systems may be vulnerable to threats
from computer viruses, natural disasters, unauthorized access,
cyber-attack and other similar disruptions. Computer hackers may
be able to penetrate our network’s system security and
misappropriate or compromise confidential information, create
system disruptions or cause shutdowns. In addition to our own
confidential information, we sometimes receive and are required
to protect confidential information obtained from third parties and
personally identifiable information of individuals. To the extent
any disruption or security breach results in a loss or damage to our
data, or inappropriate disclosure of our confidential information
or that of others, or personally identifiable information of
individuals, it could cause significant financial losses that are either
not, or not fully, insured against, cause damage to our reputation,
affect our relationships with third parties, lead to claims against
us, result in regulatory action, or otherwise have a material adverse
effect on our business or results of operations. In addition, we may
be required to incur significant costs to mitigate the damage caused
by any security breach, or to protect against future damage.
Moreover, although we have disaster recovery and business
continuity plans in place, we may not be able to adequately execute
these plans in a timely fashion in the event of a disruption to our
information technology and application systems.
We may incur losses resulting from operational risk due to
inadequate or failed internal processes, breakdown of settlement
or communication systems, or from external events leading to
disruption of our business. Events subject to operational risk
include:
• Internal Fraud - misappropriation of assets, intentional
mismarking of positions;
• External Fraud - theft of information, third-party theft and
forgery;
• Clients, Products, & Business Practice - improper trade,
fiduciary breaches;
• Damage to Physical Assets;
• Business Disruption & System Failures - software failures,
hardware failures; and
• Execution, Delivery, & Process Management - data entry
errors, accounting errors, failed mandatory reporting,
settlement errors, and negligence.
We may be adversely affected by failures in services or products
provided by third parties.
We have outsourced and may continue to outsource certain
activities of our operations and business, and rely upon third-party
vendors for other essential services and information, such as the
provision of data used in setting loss reserves and the provision of
risk management information and services. A material failure by
an external service or information provider or a material defect in
the products, services or information provided thereby could
adversely affect our financial condition and results of operations.
Our inability to attract and retain qualified executives and
employees or the loss of any of these personnel could negatively
impact our business.
Our ability to execute on our business strategies depends on the
retention and recruitment of qualified executives and other
professionals. We rely substantially upon the services of our
current executive team. In addition to these officers, we require
key staff with risk mitigation, structured finance, insurance, credit,
| Ambac Financial Group, Inc. 19 2019 FORM 10-K |
investment, accounting, finance, legal and technical skills. As a
result of Ambac’s financial situation, there is a higher risk that
executive officers and other key staff will leave the Company and
replacements may not be motivated to join the Company. The loss
of the services of members of our senior management team or our
inability to hire and retain other talented personnel could delay or
prevent us from succeeding in executing our strategies, which
could further negatively impact our business.
Our business could be negatively affected by actions of
stakeholders whose interests may not be aligned with the broader
interests of our stockholders.
Ambac could be negatively affected as a result of actions by
stakeholders whose interests may not be aligned with the broader
interests of our stockholders, and responding to any such actions
could be costly and time-consuming, disrupt operations and divert
the attention of management and employees. Such activities could
interfere with our ability to execute on our strategic plans.
Risks Related to International Business
Uncertainty regarding the economic and regulatory impact of
"Brexit" may have an adverse effect on Ambac's insured
international portfolio and the value of its foreign investment,
both of which primarily reside with its subsidiary Ambac UK.
Following a Parliamentary general election in the United Kingdom
("UK") on December 12, 2019, the Conservative Party won a
substantial majority under the leadership of Boris Johnson (who
therefore remains Prime Minister). He campaigned on a platform
of delivering a prompt exit by the UK ("Brexit") from the European
Union ("EU") on terms already agreed between the UK and the
EU under the EU-UK Withdraw Agreement which had been agreed
earlier in 2019. Under the terms of the Withdrawal Agreement the
UK left the EU at the end of January 2020.
The Withdrawal Agreement's terms include a transition period
from the date of departure to the end of December 2020 (the "Exit
Date"). The structure of the Withdrawal Agreement and UK
departure anticipate that a future trade framework between the UK
and EU applying after the end of the transition period is to be
negotiated during this transition period (the "New Trade
Agreement"). Such negotiations are expected to be complex and
potentially contentious between the parties, suggesting that the
transition period may be insufficient time for such negotiations.
Consequently, there remains a material risk that on the Exit Date
the UK automatically exits the EU without a New Trade Agreement
(a “no deal Brexit”), and also with no certain path to negotiating
a future trade relationship with the EU.
Absent action by the EU or member states, in the event of a no
deal Brexit, the activities in the European Economic Area (“EEA”)
of UK passporting insurers, including Ambac UK, will become
unlawful on the Exit Date. They will lose their legal authorization
to serve clients who benefit from policies issued by UK
incorporated insurers under freedom of services passporting rights
(and thereby may be unable to legally collect premiums or pay
claims).
At December 31, 2019, Ambac UK’s insured portfolio included
four policies in the EU written under current passporting rights,
with an aggregate par value of $1,407 million. In respect of these
four policies, there is premium receivable of $23 million and loss
and loss expense reserves (net of subrogation recoverable) of $2
million. Absent legally binding transitional arrangements, Ambac
UK may be unable to collect these premiums or pay the claims to
which these premiums receivable and loss and loss expense
reserves relate after the Exit Date. Ambac UK’s ability to
restructure these policies to mitigate this risk is limited.
Nonpayment of claims under any of the affected policies could
lead to the loss of control rights in the related transaction(s), which
would expose Ambac UK to greater risk of loss. In addition, under
applicable English law, a court may hold that Ambac UK has an
enforceable obligation to pay claims irrespective of the EU
regulatory position in law. Consequently Ambac UK could find
itself in a position where it was not in receipt of premium on a
relevant policy, but chose to pay claims to avoid loss of control
rights and/or other consequences of non-payment, notwithstanding
the EU regulatory characterization in law.
Additionally, if UK insurers have branches in EEA Member States
they may be legally obliged to either capitalize them, as a so-called
third country branch from an institution whose home state is
outside the EEA, or close them down and no longer be legally
represented in those EU jurisdictions. Ambac UK has a branch in
Italy, with one remaining policy issued from the branch. The branch
is not capitalized separately from Ambac UK. In the event of a
no-deal Brexit, the future nature and status of the branch is unclear,
particularly with respect to the need for capitalization to support
the one remaining branch policy. Given that Ambac UK is
undercapitalized in terms of applicable regulatory capital rules it
will be difficult for the UK regulator to agree to assets leaving the
company for this purpose.
then be
There is a risk that absent agreement with the Italian regulator
regarding the future of the branch, under law the Italian regulator
could institute insolvent winding up proceedings against the branch
as an unlicensed insurance business. In this scenario the one branch
law
policy would
notwithstanding the prejudicial outcome to policy holders. This
chain of events could in turn trigger cross defaults with a
consequential loss by Ambac UK of its controlling creditor rights
in many or all transactions. This would greatly inhibit Ambac UK’s
ability to exercise its rights in transactions generally, and in
particular with respect to mitigating potential or actual loss in those
transactions.
terminated by operation of
The European Insurance and Occupational Pensions Authority
(“EIOPA”) has made a series of recommendations to EU insurance
regulators in light of Brexit. Acting on these recommendations
European regulatory authorities have put in place (or are putting
in place) legal frameworks that facilitate the orderly run off of
branch operations and of insurance policies issued in EEA member
states by UK insurers. The effect of these legal frameworks is to
allow the continued run off of insurance policies issued in EEA
member states by UK insurers prior to Exit Date that terminate
after this date in the event that the draft departure agreement has
not been approved prior to Exit Date.
In light of no deal Brexit risk, the UK financial regulatory authority
has been actively encouraging regulated firms to put into place
contingency plans, as have been EU and EU member states’
financial regulatory bodies. Ambac UK is in discussion with the
PRA and other relevant regulatory authorities to enable the
continued orderly run off of its policies issued in the EEA under
passporting rights as well as the Italian branch operation in line
| Ambac Financial Group, Inc. 20 2019 FORM 10-K |
with the EIOPA recommendations and legal frameworks which
have been, or are planned to be, put in place by EEA member states.
PRA could adversely impact the anticipated run-off trajectory of
Ambac UK and impact its value.
In addition to the direct impact on insurers cited above, general
uncertainty and the perceptions as to the ultimate impact of Brexit
may adversely affect business activity, political stability, foreign
exchange rates and economic conditions in the UK, the Eurozone,
and the EU, which may result in additional credit and other stresses
on Ambac UK's insured and investment portfolios and may
ultimately adversely impact Ambac's results of operations and
financial condition.
Actions of the PRA and FCA could reduce the value of Ambac
UK realizable by Ambac Assurance, which would adversely affect
our securityholders.
Ambac’s international business is operated by Ambac UK, which
is regulated by the Prudential Regulation Authority (“PRA”) for
prudential purposes and the Financial Conduct Authority (“FCA”)
for conduct purposes. Under the Financial Services and Markets
Act 2000 (“FSMA”), the PRA authorized Ambac UK to carry out
financial guaranty insurance business in the UK and in the EU by
way of the EU’s passporting regime (although this may change
following Brexit), subject to the terms and conditions of the
permission granted by the PRA and consented to by the FCA.
However, the terms of Ambac UK’s regulatory authority are now
restricted and Ambac UK is in run-off. Among other things, Ambac
UK may not write any new business, and, with respect to any entity
within the Ambac group of affiliates, commute, vary or terminate
any existing financial guaranty policy, transfer certain assets, or
pay dividends, without the prior approval of the PRA and FCA.
The PRA and FCA act generally in the interests of Ambac UK
policyholders and will not take into account the interests of
securityholders of Ambac when considering whether to provide
any such approval. Accordingly, determinations made by the PRA
and FCA, in their capacity as Ambac UK’s regulator, could
potentially result in adverse consequences for our securityholders
and also reduce the value realizable by Ambac Assurance for
Ambac UK.
Regulatory uncertainty in relation to Ambac UK’s capital
position could adversely affect the value of Ambac UK and affect
our securityholders.
Under applicable regulatory capital rules (“Solvency II”) Ambac
UK remains deficient in terms of capital. Ambac UK does not
have a remedial plan other than to build its assets over time by on-
going premium collections and earned investment income, as well
as attempting to accelerate the run-off of its exposures. Further,
there currently is no prospect of any capital support from the
Ambac group of affiliates. The PRA is aware of Ambac UK’s
position and prospects. The PRA supervisory statement SS7/15
“Supervision of firms in difficulty or run-off” notes that “there are
many circumstances in which a run-off strategy is in the best
interests of policyholders” and notes that the PRA will review such
firms and that they “may be permitted to continue activities
necessary to carry out existing contracts in a manner, and for so
long as, the PRA considers necessary in order to afford an
appropriate degree of protection to policyholders”. Ambac UK
clearly falls into this category and therefore Ambac UK’s current
run-off approach remains at all times subject to the PRA continuing
to take no action in relation to its capital deficit and related
Solvency II requirements. Alternative courses of action open to the
Risks Related to Taxation
Surplus notes received in the AMPS Exchange and by holders
of Deferred Amounts pursuant to the Second Amended Plan of
Rehabilitation along with other debt reissued by Ambac may not
be fungible for U.S. federal income tax purposes with other
surplus notes and debt currently outstanding.
Surplus notes received in the AMPS Exchange and by holders of
Deferred Amounts pursuant to the Second Amended Plan of
Rehabilitation along with other debt reissued by Ambac (together
"Reissued Debt") have different issue prices for U.S. federal
income tax purposes than the originally issued outstanding surplus
notes and other debt and, therefore, are expected to accrue original
issue discount (“OID”) in an amount that differs from the amounts
of OID accruing on the originally issued surplus notes and other
debt currently outstanding, as the case may be. Therefore, Reissued
Debt may not be fungible with the other outstanding surplus notes
and debt, as applicable, for U.S. federal income tax purposes.
Because Reissued Debt has the same CUSIP numbers as other
related surplus notes and debt currently outstanding, the Reissued
Debt will not be readily distinguishable from the other outstanding
surplus notes and debt, as applicable. This could create uncertainty
in the market and could adversely affect the liquidity and/or trading
values of surplus notes and other debt.
Certain surplus notes or other obligations of Ambac Assurance
may be characterized as equity of Ambac Assurance and as a
result, Ambac Assurance may no longer be a member of the U.S.
federal income tax consolidated group of which AFG is the
common parent.
It is possible that certain surplus notes or other obligations of
Ambac Assurance may be characterized as equity of Ambac
Assurance for U.S. federal income tax purposes. If such surplus
notes or other obligations are characterized as equity of Ambac
Assurance that is taken into account for tax affiliation purposes
and it is determined that such “equity” represented more than
twenty percent of the total value of the stock of Ambac Assurance,
Ambac Assurance may no longer be characterized as an includable
corporation that is affiliated with AFG. As a result, Ambac
Assurance would no longer be characterized as a member of the
U.S. federal income tax consolidated group of which AFG is the
common parent (the “Ambac Consolidated Group”) and Ambac
Assurance would be required to file a separate consolidated tax
return as the common parent of a new U.S. federal income tax
consolidated group including Ambac Assurance as the new
common parent and Ambac Assurance’s affiliated subsidiaries (the
“Ambac Assurance Consolidated Tax Group”).
To the extent Ambac Assurance is no longer a member of the
Ambac Consolidated Group, Ambac Assurance’s net operating
loss carry-forwards ("NOLs") (and certain other available tax
attributes of Ambac Assurance and the other members of the
Ambac Assurance Consolidated Tax Group) may no longer be
available for use by the Ambac Assurance Consolidated Tax Group
or any of the remaining members of the Ambac Assurance
Consolidated Tax Group to reduce the U.S. federal income tax
liabilities of the Ambac Assurance Consolidated Tax Group. AFG,
Ambac Assurance and their affiliates entered into a tax sharing
agreement that would require AFG to make certain tax elections
| Ambac Financial Group, Inc. 21 2019 FORM 10-K |
that could mitigate the loss of NOLs and other tax attributes
resulting from a deconsolidation of Ambac Assurance from the
Ambac Consolidated Group. However, in the event of a
deconsolidation, certain other benefits resulting from U.S. federal
income tax consolidation may no longer be available to the Ambac
Consolidated Group, including certain favorable rules relating to
the Ambac
transactions occurring between members of
Consolidated Group and members of the Ambac Assurance
Consolidated Tax Group.
If surplus notes or other obligations are characterized as equity
of Ambac Assurance, the Ambac Assurance NOLs (and certain
other tax attributes or tax benefits of the Ambac Consolidated
Group) may be subject to limitation under Section 382 of the Tax
Code.
It is possible that certain surplus notes or other obligations may be
characterized as equity of Ambac Assurance for U.S. federal
income tax purposes. Such characterization could result in an
“ownership change” of Ambac Assurance for purposes of
Section 382 of the Tax Code. If such an ownership change were
to occur, the value and amount of the Ambac Assurance NOLs
would be substantially impaired, increasing the U.S. federal
income tax liability of Ambac Assurance and materially reducing
the value of Ambac Assurance’s stock owned by AFG and the
potential of future cash tolling or dividend payments from Ambac
Assurance to AFG.
Deductions with respect to interest accruing on certain surplus
notes may be eliminated or deferred until payment.
To the extent certain surplus notes are characterized as equity for
U.S. federal income tax purposes, accrued interest will not be
deductible by Ambac Assurance. In addition, even if such surplus
notes are characterized as debt for U.S. federal income tax
purposes, the deduction of interest accruing on such surplus notes
may be deferred until paid or eliminated in part depending upon
(i) the terms of any deferral and payment provisions provided in
such surplus notes, (ii) whether such surplus notes have
“significant original issue discount,” and (iii) the yield to maturity
of surplus notes. To the extent deductions with respect to interest
are eliminated or deferred, the U.S. federal income tax of the
members of the Ambac Consolidated Group or the members of the
Ambac Assurance Consolidated Tax Group as the case may be,
could be increased reducing the amount of cash available to pay
its obligations.
every matter that could have a material adverse effect on us. Efforts
to pursue select business opportunities may be unsuccessful or
require significant financial or other resources, which could have
a negative impact on our operating results and financial condition.
No assurance can be given that Ambac will be able to complete
such business opportunities, generate any earnings or be able to
successfully integrate any such business into our current operating
structure.
Moreover, Ambac’s ability to enter into new businesses, including
new businesses apart from Ambac Assurance, is also subject to
significant doubt, given the financial condition of Ambac
Assurance, counterparty or rating agency concerns about our
ability to mitigate insured portfolio losses or recover losses in
litigation, the difficulty of leveraging or monetizing Ambac’s other
assets, and the uncertainty of its ability to raise capital. Due to these
factors, as well as those relating to Ambac Assurance as described
in this Item 1A. Risk Factors, the value of our securities is
speculative.
Ambac’s current strategy and initiatives have been derived from,
and created as a consequence of, the Company’s current financial
condition and circumstances. Should changes in Ambac’s
circumstances or financial condition or in the political, economic
and/or legal environment occur, there can be no assurance that all
or any part of such strategy and/or initiatives will not be abandoned
or amended to take account of such changes. Any such adjustment
or abandonment may have an adverse effect on our securities.
Item 1B. Unresolved Staff Comments — No matters
require disclosure.
Item 2.
Properties
The executive office of Ambac has relocated to One World Trade
Center, New York, New York 10007, consisting of 46,927 square
feet of office space, under a sublease agreement that expires in
January 2030. Ambac continues to hold a lease at One State Street
Plaza that expires in December 2029 (25,871 square feet). Ambac
has sublet this space through its expiration date.
Ambac UK maintains an office in London, England, which consists
of 3,514 square feet of office space, under a lease agreement that
expires in October 2020. Negotiations are currently taking place,
(and anticipated to conclude in the second quarter of 2020), to
extend the current lease for five years (to October 2025).
Risks Related to Strategic Plan
Item 3.
Legal Proceedings
Refer to Notes to the Consolidated Financial Statements—Note
17. Commitments and Contingencies included in Part II, Item 8
in this Form 10-K for a discussion on legal proceedings against
Ambac.
Item 4. Mine Safety Disclosures — Not applicable.
Ambac is exploring select business opportunities which may
permit utilization of Ambac’s net operating loss carry-forwards;
however, such business opportunities may not be consummated,
or if consummated, may not create value and may negatively
impact our financial results.
Ambac is exploring select business opportunities which may,
amongst other things, permit utilization of its net operating loss
carry-forwards. Such business opportunities may involve the
acquisition of assets or existing businesses or the development of
businesses through new or existing subsidiaries. It is not possible
at this time to predict the future prospects or other characteristics
of any such business opportunities. Although we intend to conduct
business, financial and legal due diligence in connection with the
evaluation of any future business or acquisition opportunities, there
can be no assurance our due diligence investigations will identify
| Ambac Financial Group, Inc. 22 2019 FORM 10-K |
PART II
Warrants
Each warrant represents the right to purchase one share of AFG
common stock. The warrants are exercisable for cash at any time
on or prior to April 30, 2023 at an exercise price of $16.67 per
share. The warrants also have a cashless exercise provision.
On June 30, 2015, the Board of Directors of AFG authorized the
establishment of a warrant repurchase program that permits the
repurchase of up to $10 million of warrants. On November 3, 2016,
the Board of Directors of AFG authorized an additional $10 million
to the warrant repurchase program. AFG repurchased 985,331
warrants at a cost of $8.1 million and then reissued 824,307 of the
repurchased warrants on August 3, 2018 in connection with the
AMPS Exchange (as defined in Note 1. Background and Business
Description to the Consolidated Financial Statements included in
Part II, Item 8 in this Form 10-K). The remaining aggregate
authorization at December 31, 2019 is $11.9 million. Refer to Note
1. Background and Business Description to the Consolidated
Financial Statements included in Part II, Item 8 in this Form 10-
K for further discussion of the AMPS Exchange. Ambac currently
has 4,877,783 warrants outstanding.
Item 5. Market for Registrant's Common Equity,
Related Stockholder Matters and Issuer
Purchases of Equity Securities
Market Information
On February 3, 2020, the Company's common stock and warrants
began trading on the NYSE under the symbol “AMBC, and
"AMBC WS," respectively. Prior to being listed on the NYSE, the
Company's common stock and warrants were listed on NASDAQ
under the symbols “AMBC,” and "AMBCW," respectively.
Holders
On February 24, 2020, there were 20 stockholders of record of
AFG’s common stock and 60 holders of record of AFG's warrants.
Dividends
The Company did not pay cash dividends on its common stock
during 2019 and 2018. Information concerning restrictions on the
payment of dividends from Ambac's insurance subsidiaries is set
forth in Item 1 above under the caption “Dividend Restrictions,
Including Contractual Restrictions" and in Note 8. Insurance
Regulatory Restrictions to the Consolidated Financial Statements
included in Part II, Item 8 in this Form 10-K.
Purchases of Equity Securities By the Issuer and Affiliated
Purchasers
The following table summarizes AFG's share purchases during the
fourth quarter of 2019. When restricted stock unit awards issued
by AFG vest or settle, they become taxable compensation to
employees. For certain awards, shares may be withheld to cover
the employee's portion of withholding taxes. In the fourth quarter
of 2019, AFG purchased shares from employees that settled
restricted stock units to meet employee tax withholdings.
October
2019
November
2019
December
2019
Fourth
Quarter
2019
Total Shares
Purchased (1)
Average Price
Paid Per Share
Total Number of
Shares
Purchased as
Part of Publicly
Announced
Plan (1)
Maximum
Number of
Shares That may
Yet be Purchased
Under the Plan
1,259
$
19.14
—
—
—
—
—
—
857
2,116
20.97
$
19.88
—
—
—
—
(1) There were no other repurchases of equity securities made during the
three months ended December 31, 2019. AFG does not have a stock
repurchase program.
| Ambac Financial Group, Inc. 23 2019 FORM 10-K |
Stock Performance GraphThe following graph compares the performance of an investment in our common stock from the close of business on December 31, 2014through December 31, 2019, with the Russell 2000 Index and S&P Completion Index. The graph assumes $100 was invested on December31, 2014 in our common Stock at the closing price of $24.50 per share and at the closing price for the Russell 2000 Index and S&P CompletionIndex. It also assumes that dividends (if any) were reinvested on the date of payment without payment of any commissions. The performanceshown in the graph represents past performance and should not be considered an indication of future performance.AmbacFinancialGroup,Inc.Russell2000IndexS&PCompletionIndex$150$125$100$75$5012/31/1412/31/1512/31/1612/31/1712/31/1812/31/19December 31,201420152016201720182019Ambac Financial Group, Inc.$100$58$92$65$70$88Russell 2000 Index$100$94$113$128$113$139S&P Completion Index$100$95$109$127$113$143| Ambac Financial Group, Inc. 24 2019 FORM 10-K | Item 6.
Selected Financial Data
The following financial information for the five years ended December 31, 2019, has been derived from Ambac’s Consolidated Financial
Statements. This information should be read in conjunction with the Consolidated Financial Statements and related notes located in Part II,
Item 8 in this Form 10-K.
($ in millions, except per share data)
Total Comprehensive Income (Loss) Highlights:
Year Ended December 31,
2019
2018
2017
2016
2015
Gross premiums written.....................................................................................
$
(28) $
(24) $
(14) $
(54) $
Net premiums earned .........................................................................................
Net investment income (2) ..................................................................................
Other than temporary impairment losses ...........................................................
Net realized investment gains ............................................................................
Net gains (losses) on derivative contracts..........................................................
Net realized (losses) gains on extinguishment of debt (2) ..................................
Income (loss) on Variable Interest Entities ("VIEs") .........................................
Other income (3)..................................................................................................
Losses and loss expenses (benefit) (1) (2) .............................................................
Operating expenses (2) ........................................................................................
Interest expense (2)..............................................................................................
Insurance intangible amortization......................................................................
Goodwill impairment .........................................................................................
Pre-tax income (loss) .........................................................................................
Net income (loss) ...............................................................................................
Net income (loss) attributable to Common Shareholders ..................................
Total comprehensive income attributable to Ambac Financial Group, Inc. ......
Net income (loss) per share:
66
227
—
81
(50)
—
38
134
13
103
269
295
—
(183)
(216)
(216)
(125)
111
273
(3)
112
7
3
3
5
(224)
112
242
107
—
273
267
186
192
175
361
(20)
5
76
5
20
—
513
122
120
151
—
(284)
(329)
(329)
(335)
197
313
(22)
39
(30)
5
(14)
18
(11)
114
124
175
—
105
74
75
21
(38)
313
266
(26)
53
(1)
—
32
7
(769)
103
117
170
515
510
493
493
288
Basic................................................................................................................
Diluted.............................................................................................................
$
$
(4.69) $
(4.69) $
4.07
3.99
$
$
(7.25) $
(7.25) $
1.66
1.64
$
$
10.92
10.72
(1) Ambac records the impact of estimated recoveries related to securitized loans in RMBS transactions that breached certain representations and warranties
within losses and loss expenses (benefit). The expense (benefit) associated with changes to our estimated recoveries for the years ended December 31,
2019, 2018, 2017, 2016 and 2015 were $42, $62, $72, $(71), and $(304), respectively.
(2) On February 12, 2018, Ambac Assurance executed the Rehabilitation Exit Transactions (as defined in Note 1. Background and Business Description to
the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report on Form 10-K). These transactions directly resulted in: (i) a Loss
and loss expense benefit of $288; (ii) operating expenses of $17 and (iii) realized gains on extinguishment of debt of $3. Additionally, changes to the
investment portfolio and to the composition of long-term debt arising from the transactions significantly impacted net investment income and interest
expense for 2018 compared to prior years. Refer to Results of Operations included in Item 7 of this Form 10-K for a further discussion of the Rehabilitation
Exit Transactions and their impact on financial results in 2018.
(3) Other income also includes proceeds received by Ambac Assurance in September 2019 in connection with an SEC action against Citigroup Global Markets
Inc. in the amount of $142. Refer to Note 17. Commitments and Contingencies located in Part II Item 8 in this Form 10-K for further details on the SEC
action.
| Ambac Financial Group, Inc. 25 2019 FORM 10-K |
($ in millions) December 31
Balance Sheet Highlights:
2019
2018
2017
2016
2015
Total non-variable interest entity investments ..................................................... $
3,792
$
3,937
$
5,741
$
6,500
$
5,645
Cash and cash equivalents ...................................................................................
Premium receivable .............................................................................................
Insurance intangible asset ....................................................................................
Subrogation recoverable (1) ..................................................................................
Deferred ceded premium......................................................................................
Total VIE assets ...................................................................................................
Total assets ...........................................................................................................
Unearned premiums .............................................................................................
Loss and loss expense reserves (1) ........................................................................
Long-term debt (2) ................................................................................................
Derivative liabilities.............................................................................................
Total VIE liabilities..............................................................................................
Total liabilities .....................................................................................................
Total stockholders’ equity ....................................................................................
24
416
427
2,029
82
6,286
13,320
518
1,548
2,822
90
6,212
11,783
1,536
63
495
719
1,933
61
7,093
14,589
630
1,826
2,929
77
6,981
12,956
1,633
624
586
847
631
52
14,501
23,192
783
4,745
992
83
14,366
21,547
1,645
91
661
962
685
70
13,368
22,636
967
4,381
1,114
319
13,235
20,658
1,978
36
832
1,212
1,229
97
14,288
23,728
1,280
4,088
1,125
353
14,260
21,770
1,958
Total liabilities and stockholders' equity.............................................................. $
13,320
$
14,589
$
23,192
$
22,636
$
23,728
(1) Ambac records as a component of its loss reserves and subrogation recoverable, estimated recoveries related to securitized loans in RMBS transactions
that breached certain representations and warranties ("R&W"). Ambac has recorded gross estimated R&W recoveries of $1,727, $1,771, $1,834, $1,907,
and $2,830 at December 31, 2019, 2018, 2017, 2016 and 2015, respectively.
(2) Long-term debt includes Ambac Assurance surplus notes and junior surplus notes, the Ambac Note and Tier 2 Notes issued in connection with the
Rehabilitation Exit Transactions in 2018 and the Ambac UK debt issued in connection with the Ballantyne commutation in 2019. Long-term debt for all
years excludes the portion of long-term debt associated with variable interest entities.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) contains certain financial measures,
in particular the presentation of Adjusted Earnings and Adjusted Book Value, which are not presented in accordance with accounting principles
generally accepted in the United States (“GAAP”). We are presenting these non-GAAP financial measures because they provide greater
transparency and enhanced visibility into the underlying drivers of our business. We do not intend for these non-GAAP financial measures to
be a substitute for any GAAP financial measures and they may differ from similar reporting provided by other companies. Readers of this
Form 10-K should use these non-GAAP financial measures only in conjunction with the comparable GAAP financial measures. Adjusted
Earnings and Adjusted Book Value are non-GAAP financial measures that adjust for the impact of certain non-recurring or non-economic
GAAP accounting requirements and include the addition of certain items that the Company has or expects to realize in the future, but that are
not reported under GAAP. We provide reconciliations to the most directly comparable GAAP measures; Adjusted Earnings to Net income
attributable to common stockholders and Adjusted Book Value to Total Ambac Financial Group, Inc. stockholders’ equity.
COMPANY OVERVIEW
Asset Management
See Note 1. Background and Business Description for a description
of the Company and our key strategies to achieve our primary goal
to maximize shareholder value.
EXECUTIVE SUMMARY
Ambac Assurance and Subsidiaries
A key strategy for AFG is to increase the value of its investment
in Ambac Assurance by actively managing its assets and liabilities.
Asset management primarily entails maximizing the risk adjusted
return on non-VIE invested assets and managing liquidity to help
ensure resources are available to meet operational and strategic
cash needs. These strategic cash needs include activities associated
with Ambac's liability management and loss mitigation programs.
Investment portfolios are subject to internal investment guidelines,
as well as limits on types and quality of investments imposed by
applicable insurance laws and regulations. As part of its investment
strategy, and in accordance with the aforementioned guidelines,
Ambac Assurance and Ambac Assurance UK Limited ("Ambac
UK"), purchase distressed Ambac-insured securities based on their
relative risk/reward characteristics. The investment portfolios of
Ambac Assurance and Ambac UK also hold fixed income
securities and various pooled investment funds. Refer to Note 10.
Investments to the Consolidated Financial Statements, included in
Part II, Item 8 in this Form 10-K for further details of fixed income
investments by asset category and pooled investment funds by
investment type.
During the year ended December 31, 2019, Ambac did not acquire
a significant amount of distressed Ambac-insured securities. At
December 31, 2019, Ambac owned $436 million of distressed
| Ambac Financial Group, Inc. 26 2019 FORM 10-K |
Ambac-insured bonds, including $158 million of Puerto Rico
bonds and excluding Ambac's holdings of secured notes issued by
Ambac LSNI (the "Secured Notes") in connection with the
Rehabilitation Exit Transactions (as defined in Note 1. Background
and Business Description to the Consolidated Financial Statements
included in Part II, Item 8 of this Annual Report on Form 10-K).
Subject to applicable internal and regulatory guidelines and other
constraints, Ambac may opportunistically purchase and sell
Ambac-insured securities and Secured Notes in the future. In the
event that Ambac Assurance sells any of the Secured Notes it owns,
it must use the proceeds of such sale to redeem a like amount of
Secured Notes at par in accordance with the terms of the Indenture
and related security and collateral documents. The price at which
Ambac Assurance sells the Secured Notes may differ from the price
at which it redeems the Secured Notes.
Liability and Insured Exposure Management
Ambac Assurance's Risk Management Group ("RMG") focuses
on the analysis, implementation and execution of risk reduction,
loss mitigation and loss recovery strategies. Analysts evaluate the
estimated timing and severity of projected policy claims as well
as the potential impact of such strategies in order to target and
prioritize policies, or portions
thereof, for commutation,
reinsurance, refinancing, restructuring or other risk reduction and
loss mitigation outcomes. For targeted policies, analysts will
engage with bondholders, issuers and other economic stakeholders
to negotiate, structure and execute such strategies. During 2019,
successful risk reduction transactions included:
• The COFINA Plan of Adjustment ("POA"). On February 12,
2019, the POA, including certain related commutation
transactions, and subsequent distributions, became effective,
resulting in a reduction of Ambac Assurance's insured net par
exposure to COFINA by approximately 77% or $620 million.
Subsequent redemptions of obligations of the COFINA Class
2 Trust (as further described in the Financial Guarantees in
Force section included in Part II, Item 7 in the Company’s
Annual Report on Form 10-K for
the year ended
December 31, 2019) brought COFINA net par outstanding
down to $101 million as of December 31, 2019;
• An Irish scheme of arrangement (the "Arrangement") on June
17, 2019, for the restructuring of Ballantyne Re plc
("Ballantyne").
the
commutation of $900 million of Ambac UK's net par
outstanding. See below under Financial Guarantees in Force
for further details of the Arrangement;
restructuring allowed
This
for
• Purchasing quota share reinsurance in September 2019 to
sculpt the risk profile of the insured portfolio. This included
ceding certain public finance exposures totaling $1.2
billion of par exposure (principal and interest of $2.4 billion),
which were comprised of lease and tax-backed revenue ($616
million par), general obligation ($374 million par),
transportation ($240 million par) and higher education ($4
million par) exposures and included $509 million par of watch
list and adversely classified credits;
• Purchasing quota share reinsurance in December 2019 for
$228 million of par exposure, including $153 million of watch
list credits;
• Completing work in January 2019, with an issuer to refinance
two watch list asset-backed lease securitizations with net par
outstanding of $95 million at December 31, 2018;
• A commutation in February 2019, via a refunding, of an
adversely classified public finance transaction with net par
outstanding of $350 million at December 31, 2018;
• Working with an issuer and noteholders to negotiate the
removal of the guarantee from a tranche of notes on a Watch
List credit in December 2019 with net par of $300 million
outstanding at December 31, 2018;
• Working closely with servicers and owners of Master
Servicing Rights to exercise their clean-up call rights on
several watch list and adversely classified RMBS transactions
with total net par outstanding of $200 million at December
31, 2018; and
• The final paydown, refunding, or partial commutation of
various watch list exposures and adversely classified
exposures that were subject to risk remediation efforts with
total net par outstanding at December 31, 2018 of $463
million.
The following table provides a comparison of total, adversely
classified credits ("ACC") and watch list net par outstanding in the
insured portfolio at December 31, 2019 and 2018. (See Note 2.
Basis of Presentation and Significant Accounting Policies to the
Consolidated Financial Statements, included in Part II, Item 8 in
this Form 10-K for a description of adversely classified and watch
list credits.) Net par exposures within the U.S. public finance
market includes capital appreciation bonds which are reported at
the par amount at the time of issuance of the insurance policy as
opposed to the current accreted value of the bonds.
($ in billions)
December 31,
Total
ACC
Watch List
2019
2018
Variance
$ 38,018
$ 46,927
$ (8,909)
7,535
6,752
10,871
9,036
(3,336)
(2,284)
(19)%
(31)%
(25)%
The overall reduction in total net par outstanding was significantly
impacted by active de-risking initiatives at Ambac Assurance and
Ambac UK, including the transactions noted above, as well as
scheduled maturities, amortizations, refundings and calls.
The decrease in Watch List and ACC exposures is primarily due
to active de-risking and paydowns or calls by issuers, mostly
related to Puerto Rico, Ballantyne, international asset-backed,
public finance, aircraft asset-backed and residential mortgage-
backed securities.
Although our insured portfolio generally performed satisfactorily
in 2019, we continue to experience stress in certain insured
exposures, particularly within our approximately $1,123 million
of exposure to Puerto Rico, consisting of several different issuing
entities (all below investment grade). Each issuing entity has its
own credit risk profile attributable to, as applicable, discrete
revenue sources, direct general obligation pledges and/or general
obligation guarantees.
During 2019, Ambac made partial paydowns of the Ambac Note
(as defined in Note 1. Background and Business Description to the
Consolidated Financial Statements, included in Part II, Item 8 in
this Form 10-K) by $178 million.
| Ambac Financial Group, Inc. 27 2019 FORM 10-K |
AFG
As of December 31, 2019 net assets of AFG were $483 million.
($ in millions)
Cash and short-term investments
Other investments (1)
Other net assets (2)
Total
$
$
327
116
40
483
(1)
(2)
Includes surplus notes (fair value of $63) issued by Ambac Assurance
that are eliminated in consolidation.
Includes accruals for tolling payments from Ambac Assurance in
accordance with the intercompany Tax Sharing Agreement of $28.
As a result of positive taxable income at Ambac Assurance in 2017,
AFG has accrued approximately $28 million in tax tolling
payments. In May 2018, AFG executed a waiver under the
intercompany Tax Sharing Agreement pursuant to which Ambac
Assurance was relieved of the requirement to make this payment
by June 1, 2018. AFG also agreed to continue to defer the tolling
payment for the use of net operating losses in 2017 by Ambac
Assurance until such time as OCI (as defined in Note 1.
Background and Business Description to the Consolidated
Financial Statements, included in Part II, Item 8 in this Form 10-
K) consents to the payment.
Ambac Assurance accrued $16 million of tolling payments for year
ended December 31, 2018, which were paid to AFG in July of
2019. As a result of filing it's 2018 tax return, Ambac Assurance
accrued an additional $2 million of tolling payments during the
year ended December 31, 2019, for 2018, which were paid to AFG
in December 2019.
Pursuant to the Stipulation and Order, Ambac's tax positions are
subject to review by the OCI, which may lead to the adoption of
positions that reduce the amount of tolling payments otherwise
available to AFG.
Financial Statement Impacts of Foreign Currency
The impact of foreign currency as reported in Ambac's
Consolidated Statement of Total Comprehensive Income (Loss)
for the year ended December 31, 2019 included the following:
($ in millions)
Net income (1)
$
Changes in other comprehensive income(loss):
Gain (losses) on foreign currency translation
Unrealized gains (losses) on non-functional
currency available-for-sale securities
Total changes in other comprehensive income
(loss)
Impact on total comprehensive income (loss)
$
12
26
(27)
(1)
11
(1) A portion of Ambac UK's, and to a lesser extent Ambac Assurance's,
assets and liabilities are denominated in currencies other than its
functional currency and accordingly, we recognized net foreign
currency transaction gains/(losses) as a result of changes to foreign
currency rates through our Consolidated Statement of Total
Comprehensive Income (Loss). Refer to Note 2. Basis of Presentation
and Significant Accounting Policies to the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K for further
details on transaction gains and losses.
Future changes to currency rates, including as a result of a no deal
Brexit, may adversely affect our financial results. Refer to Part II,
Item 7A "Quantitative and Qualitative Disclosures about Market
Risk" for further information on the impact of future currency rate
changes on Ambac's financial instruments.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Ambac's Consolidated Financial Statements have been prepared
in accordance with GAAP. This section highlights accounting
estimates management views as critical because they are most
important to the portrayal of the Company's financial condition;
and require management to make difficult and subjective
judgments regarding matters that are inherently uncertain and
subject to change. These estimates are evaluated on an on-going
basis based on historical developments, market conditions,
industry trends and other information that is reasonable under the
circumstances. There can be no assurance that actual results will
conform to estimates and that reported results of operations will
not be materially adversely affected by the need to make future
accounting adjustments to reflect changes in these estimates from
time to time.
Management has identified the following critical accounting
policies and estimates: (i) valuation of loss and loss expense
reserves, (ii) valuation of certain financial instruments and
(iii) valuation of deferred tax assets. Management has discussed
each of these critical accounting policies and estimates with the
Audit Committee, including the reasons why they are considered
critical and how current and anticipated future events impact those
determinations. Additional information about these policies can be
found in Note 2. Basis of Presentation and Significant Accounting
Policies to the Consolidated Financial Statements included in Part
II, Item 8 in this Form 10-K.
Valuation of Losses and Loss Expense Reserves (including
Subrogation Recoverables)
The loss and loss expense reserves and subrogation recoverable
assets (collectively defined as "loss reserves") discussed in this
section relate only to Ambac’s non-derivative insurance policies
issued to beneficiaries, including unconsolidated VIEs. A loss
reserve is recorded on the balance sheet on a policy-by-policy basis
based upon the present value ("PV") of expected net claim cash
outflows or expected net recovery cash inflows, discounted at risk-
free rates. The estimate for future net cash flows consider the
likelihood of all possible outcomes that may occur from missed
principal and/or interest payments on the insured obligation. This
estimate also considers future recoveries related to breaches of
contractual representations and warranties by RMBS transaction
sponsors, remediation strategies, excess spread and other
contractual cash flows on public finance and structured finance
transactions (including RMBS). Ambac’s approach to resolving
disputes involving contractual breaches by transaction sponsors or
other third parties has included negotiations and/or pursuing
litigation. Ambac does not estimate recoveries for litigations where
its sole claim is for fraudulent inducement, since any remedies
under such claims would be non-contractual.
The evaluation process for expected future net cash flows is subject
to certain estimates and judgments regarding the probability of
default by the issuer of the insured security, probability of
remediation and settlement outcomes (which may include
| Ambac Financial Group, Inc. 28 2019 FORM 10-K |
commutation, litigation settlements, refinancings and/or other
settlement outcomes), probability of a restructuring outcome
(which may include payment moratoriums, debt haircuts and/or
subsequent recoveries) and the expected loss severity of credits for
each insurance contract.
As the probability of default for an individual credit increases and/
or the severity of loss given a default increases, our loss reserve
for that insured obligation will also increase. Political, economic,
credit or other unforeseen events could have an adverse impact on
default probabilities and loss severities.
The loss reserves for many transactions are derived from the
issuer’s creditworthiness. For public finance issuers, loss reserves
will consider not only creditworthiness but also political dynamics
and economic status and prospects. The loss reserves for
transactions which have no direct issuer support, such as most
structured finance exposures, including RMBS and student loan
exposures, are derived from the default activity and loss given
default of underlying collateral supporting the transactions. In
addition, many transactions have a combination of issuer/entity
and collateral support. Loss reserves reflect our assessment of the
transaction’s overall structure, support and expected performance.
Loss reserve volatility will be a direct result of the credit
performance of our insured portfolio, including the number, size,
bond types and quality of credits included in our loss reserves; our
ability to execute workout strategies and commutations; economic
and market conditions; and management's judgments with regards
to the current performance and future developments within the
insured portfolio. The number and severity of credits included in
our loss reserves depend to a large extent on transaction specific
attributes, but will generally increase during periods of economic
stress and decline during periods of economic prosperity.
Reinsurance contracts mitigate our loss reserves but since Ambac
currently has minimal exposure ceded to reinsurers on credits with
loss reserves, the existing reinsurance contracts are unlikely to have
a significant effect on loss reserve volatility. Loss reserve volatility
will also be materially impacted by changes in interest rates from
period to period.
The table below indicates the gross par outstanding and gross loss reserves (including loss expenses) related to policies in Ambac’s loss and
loss expense reserves at December 31, 2019 and 2018:
($ in millions) December 31
RMBS
Domestic Public Finance
Student Loans
Ambac UK and Other Credits
Loss expenses
Totals
2019
2018
Gross Par
Outstanding(1)(2)
Gross Loss and
Loss Expense
Reserves(1)(3)(4)
Gross Par
Outstanding(1)(2)
Gross Loss and
Loss Expense
Reserves(1)(3)(4)
$
$
3,027
$
(1,392) $
3,716
$
(1,313)
2,398
472
271
—
627
208
3
73
3,987
530
1,170
—
6,168
$
(482) $
9,403
$
639
228
273
66
(107)
(1) Ceded par outstanding on policies with loss reserves and ceded loss and loss expense reserves are $511 and $26 respectively, at December 31, 2019 and
$540 and $23, respectively at December 31, 2018. Ceded loss and loss expense reserves are included in Reinsurance recoverable on paid and unpaid
losses.
(2) Gross Par Outstanding includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed
to the current accreted value of the bond.
(3) Loss and Loss Expense reserves at December 31, 2019 of $(482) are included in the balance sheet in the following line items: Loss and loss expense
reserves: $1,548 and Subrogation recoverable: $2,029. Loss and Loss Expense reserves at December 31, 2018 of $(107) are included in the balance sheet
in the following line items: Loss and loss expense reserves: $1,826 and Subrogation recoverable: $1,933.
(4) Ambac records as a component of its loss and loss expense reserves, estimated recoveries related to securitized loans in RMBS transactions that breached
certain representations and warranties. Ambac has recorded gross estimated recoveries of $1,727 and $1,771 at December 31, 2019 and 2018, respectively.
See Note 2. Basis of Presentation and Significant Accounting
Policies to the Consolidated Financial Statements, included in Part
II, Item 8 in this Form 10-K for a description of the cash flow and
statistical methodologies used to develop loss reserves. Most of
our reserved credits with large loss reserves utilize the cash flow
method of reserving. Alternative cash flow scenarios are
developed to represent the range of possible outcomes and resultant
future claim payments and timing. Scenarios and probabilities of
each are adjusted regularly to reflect changes in status, outlook and
our analysis and views. Significant judgment is used to develop
the cash flow assumptions and related probabilities, and there can
be no certainty that the scenarios or probabilities will not deviate
materially from ultimate outcomes.
In some cases, such as RMBS and student loans, cash flow
projections include the modeling of an issuer or transaction’s future
revenues and expenses to determine the resources available to pay
debt service on our insured obligations. With respect to RMBS, a
component of our loss reserve estimate includes subrogation
recoveries related to securitized loans in such transactions that
breached certain representations and warranties ("R&W"). In other
cases, such as many public finance exposures including our Puerto
Rico exposures, we consider the issuers’ overall ability and
willingness to pay, as it relates to the existing fiscal, economic,
legal, restructuring and/or political framework relevant to a
particular exposure or group of exposures. We then develop
multiple scenarios where issuer debt service is paid, missed and/
or haircut with claims paid then modeled for any recovery amount
and timing. There is no certainty our assumptions as to scenarios
or probabilities will not be subject to material changes as
developments occur.
| Ambac Financial Group, Inc. 29 2019 FORM 10-K |
In estimating loss reserves, we also incorporate scenarios which
represent the potential outcome of remediation strategies.
Remediation scenarios may include (i) a potential refinancing of
the transaction by the issuer; (ii) the issuer’s ability to redeem
outstanding securities at a discount, thereby increasing the
structure’s ability to absorb future losses; and (iii) our ability to
terminate, restructure or commute the policy in whole or in part.
The remediation scenarios and the related probabilities of
occurrence vary by policy depending on ongoing and expected
discussions and negotiations with issuers and/or investors. In
addition to commutation negotiations that are underway with
various counterparties in various forms, our reserve estimates may
also include scenarios which incorporate our ability and/or
expectation
to commute additional exposure with other
counterparties.
Valuation of Certain Financial Instruments
The Fair Value Measurement Topic of the ASC requires financial
instruments to be classified within a three-level fair value
hierarchy. The fair value hierarchy, the financial instruments
classified within each level, our valuation methods, inputs,
assumptions and the review and validation procedures over quoted
and modeled pricing are further detailed in Note 9. Fair Value
Measurements to the Consolidated Financial Statements included
in Part II, Item 8 in this Form 10-K.
The level of judgment in estimating fair value is largely dependent
on the amount of observable market information available to fair
value a financial instrument, which is also determinative of where
the financial instrument is classified in the fair value hierarchy.
Level 3 instruments are valued using models which use one or
more significant inputs or value drivers that are unobservable and
therefore require significant
judgment. Level 3 financial
instruments which are material include certain invested assets,
uncollateralized interest rate swaps and investments and loan
receivables of consolidated VIEs. Model-derived valuations of
Level 3 financial instruments incorporate estimates of the effects
of Ambac's own credit risk and/or counterparty credit risk, which
can be complex and judgmental. Furthermore, Level 3 loan
receivables of consolidated VIEs incorporate estimates of Ambac's
financial guarantee cash flows, including future premiums and
losses. Such cash flow estimates require judgments regarding
prepayments of VIE debt, loss probabilities and loss severities, all
of which are inherently uncertain.
All models and related assumptions are continuously re-evaluated
by management and enhanced, as appropriate, based on
improvements in information and modeling techniques. The re-
evaluation process includes a quarterly meeting of senior Finance
and Risk personnel to review and approve changes to models and
key assumptions.
As a result of the significant judgment for the above-described
instruments, the actual trade value of the financial instrument in
the market, or exit value of the financial instrument owned by
Ambac, may be significantly different from its recorded fair value.
Valuation of Deferred Tax Assets
Our provision for taxes is based on our income, statutory tax rates
and tax planning opportunities available to us in the jurisdictions
in which we operate. Tax laws are complex and subject to different
interpretations by the taxpayer and respective governmental taxing
authorities. Significant judgment is required in determining our
tax expense and in evaluating our tax positions. We review our tax
positions quarterly and adjust the balances as new information
becomes available. Deferred tax assets arise because of temporary
differences between the financial reporting and tax bases of assets
and liabilities, as well as from net operating loss ("NOL") and tax
credit carry forwards. More specifically, deferred tax assets
represent a future tax benefit (or receivable) that results from losses
recorded under GAAP in a current period which are only deductible
for tax purposes in future periods and NOL carry forwards.
Valuation allowances are established to reduce deferred tax assets
to an amount that “more likely than not” will be realized. On a
quarterly basis, management identifies and considers all available
evidence, both positive and negative, in making the determination
with significant weight given to evidence that can be objectively
for
verified. Negative evidence
unrecognized future insurance tax losses; cumulative pre-tax
losses in recent years; uncertainty regarding timing and magnitude
of RMBS R&W litigation recoveries; no new financial guarantee
business and execution risk of any new business venture.
the potential
includes
The level of deferred tax asset recognition is influenced by
management’s assessment of future expected taxable income,
which depends on the existence of sufficient taxable income within
the carry forward periods available under the tax law. As a result
of the above-described risks and uncertainties associated with
future operating results, management believes it is more likely than
not that the Company will not generate sufficient taxable income
to recover the U.S. deferred tax asset and therefore has a full
valuation allowance. To the extent such risks and uncertainties are
resolved, Ambac may have the ability to establish a history of
making reliable estimates of future income which could ultimately
result in a reduction to the deferred tax asset valuation allowance.
See Note 14. Income Taxes to the Consolidated Financial
Statements, included in Part II, Item 8 in this Form 10-K for
additional information on the Company's deferred income taxes.
FINANCIAL GUARANTEES IN FORCE
The following table provides a breakdown of guaranteed net par
outstanding by market sector at December 31, 2019 and 2018. Net
par exposures within the U.S. public finance market include capital
appreciation bonds which are reported at the par amount at the time
of issuance of the insurance policy as opposed to the current
accreted value of the bonds. Guaranteed net par outstanding
includes the exposures of policies that insure variable interest
entities (“VIEs”) consolidated by Ambac in accordance with the
Consolidation Topic of the ASC, Consolidation. Guaranteed net
par outstanding excludes the exposures of policies that insure
bonds which have been refunded or pre-refunded and excludes
exposure of the policy that insures the notes issued by Ambac LSNI
as defined in Note 1. Background and Business Description to the
Consolidated Financial Statements included in Part II, Item 8 in
this Form 10-K.
($ in millions) December 31,
Public Finance (1)(2)
Structured Finance
International Finance
Total net par outstanding
2019
2018
$ 17,653,000
$ 23,442,000
7,508,000
9,947,000
12,857,000
13,538,000
$ 38,018,000
$ 46,927,000
| Ambac Financial Group, Inc. 30 2019 FORM 10-K |
(1)
(2)
Includes $5,654 and $5,759 of Military Housing net par outstanding
at December 31, 2019 and 2018, respectively.
Includes $1,123 and $1,880 of Puerto Rico net par outstanding at
December 31, 2019 and 2018, respectively. Components of Puerto
Rico net par outstanding include capital appreciation bonds which
are reported at the par amount at the time of issuance of the related
insurance policy as opposed to the current accreted value of the bonds.
The table below shows Ambac’s ten largest exposures, by repayment source, as a percentage of total financial guarantee net par outstanding
at December 31, 2019 (in millions):
($ in
millions)
Risk Name
IF
IF
IF
IF
AUK Mitchells & Butlers Finance plc-UK Pub Securitisation
AUK Capital Hospitals plc (3)
AUK Aspire Defence Finance plc
AUK Anglian Water
PF
AAC
New Jersey Transportation Trust Fund Authority -
Transportation System
AUK National Grid Gas
AUK Posillipo Finance II S.r.l
AUK Ostregion Investmentgesellschaft NR 1 SA (3)
AUK RMPA Services plc
IF
IF
IF
IF
PF
Total
UK-Infrastructure
BBB+
Bond Type
UK-Asset
Securitizations
UK-Infrastructure
UK-Utility
Lease and Tax-
backed Revenue
UK-Utility
Italy-Sub-Sovereign
Austria-
Infrastructure
UK-Infrastructure
Ambac
Ratings (1)
Net Par
Outstanding (2)
% of Total
Net Par
Outstanding
A+
A-
A-
A-
A-
BIG
BIG
BBB+
BBB
$
1,017
896
865
819
778
757
710
674
575
549
2.7%
2.4%
2.3%
2.2%
2.0%
2.0%
1.9%
1.8%
1.5%
1.4%
$
7,640
20.1%
AAC Mets Queens Baseball Stadium Project, NY, Lease Revenue
General Obligation
PF = Public Finance, SF = Structured Finance, IF = International Finance
AAC = Ambac Assurance, AUK = Ambac UK
(1)
Internal credit ratings are provided solely to indicate the underlying credit quality of guaranteed obligations based on the view of Ambac. In cases where
Ambac has insured multiple tranches of an issue with varying internal ratings, or more than one obligation of an issuer with varying internal ratings, a
weighted average rating is used. Ambac credit ratings are subject to revision at any time and do not constitute investment advice. BIG denotes credits
deemed below investment grade.
(2) Net Par includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed to the current
accreted value of the bonds.
(3) A portion of this transaction is insured by an insurance policy issued by Ambac Assurance. Ambac Assurance has issued policies for these transactions
that will only pay in the event that Ambac UK does not pay under its insurance policies (“second to pay policies").
Net par related to the top ten exposures reduced $862 million from December 31, 2018. Exposures are impacted by changes in foreign exchange
rates, certain indexation rates and scheduled and unscheduled paydowns. The decrease from 2018 was primarily related to the Ballantyne
commutation, the COFINA Plan of Adjustment, and refundings, partially offset by the addition of RMPA Services plc and Mets Queens
Baseball Stadium Project. The concentration of net par amongst the top ten (as a percentage of net par outstanding) has increased to 20%
from 18% at December 31, 2018. The remaining insured portfolio of financial guarantees has an average net par outstanding of $32 million
per single risk, with insured exposures ranging up to $536 million and a median net par outstanding of $6 million.
Given that Ambac has not written any new insurance policies since 2008, the risk exists that the insured portfolio becomes increasingly
concentrated to large and/or below investment grade exposures.
U.S. Public Finance Insured Portfolio
Ambac’s portfolio of U.S. public finance exposures is $17,653,000
million, representing 46% of Ambac’s net par outstanding as of
December 31, 2019 and a 25% reduction from the amount
outstanding at December 31, 2018. This reduction in exposure was
due to additional reinsurance acquired, the COFINA Plan of
Adjustment, restructuring and related commutation transactions,
commutations, exposure runoff, and early terminations (calls,
refundings and pre-refundings). While Ambac’s U.S. public
finance portfolio consists predominantly of municipal bonds such
as general obligation, revenue, and lease and tax-backed
obligations of state and local government entities, the portfolio
also comprises a wide array of non-municipal types of bonds,
including financings for not-for-profit entities and transactions
with public and private elements, which generally finance
infrastructure, housing and other public interests. See Note 6.
Financial Guarantees in Force to the Consolidated Financial
Statements, included in Part II, Item 8 in this Form 10-K for
exposures by bond type.
Municipal bonds are generally supported directly or indirectly by
the issuer’s taxing authority or by public sector fees and
assessments which may or may not be specifically pledged. Risk
factors in these transactions derive from the municipal issuer,
including its fiscal management, politics, and economic position,
as well as its ability and willingness to continue to pay its debt
| Ambac Financial Group, Inc. 31 2019 FORM 10-K |
service. Municipal bankruptcies and similar proceedings, while
still relatively uncommon, have occurred, exposing Ambac to the
risk of liquidity claims and ultimate losses if issuers cannot
successfully adjust their liabilities without impairing creditors.
Not-for-profit transactions are generally supported by the not-for-
profit entities’ net revenues and may also include specific pledges,
liens and/or mortgages. The entity typically serves a well-defined
market and promulgates a public purpose mission. These
transactions may afford Ambac contractual protections such as
financial covenants and control rights in the event of issuer
breaches and defaults. Risk factors in these transactions derive
from the creditworthiness of the issuer, including but not limited
to, its financial condition, leverage, management, business mix,
competitive position,
trends,
government programs and other factors. Examples of these types
of transactions include not-for-profit hospitals, universities,
associations and charities.
industry and socioeconomic
Public/private transactions are generally structured to achieve their
targeted public interest objective without direct support from the
public sector. Some examples of this type of financing include
affordable housing, private education, privatized military housing
and student housing. Protections within these financings provided
to Ambac usually include the strength of the financed asset’s
essentiality and public purpose and may include financial
covenants, collateral and control rights. Risk factors include
financial underperformance, event risk and a shift in the asset’s
mission or essentiality. One example of this type of financing is
U.S. military housing.
• Ambac insures approximately $5,654 million net par of
privatized military housing debt. The debt was issued to
finance the construction and/or renovation of housing units
for military personnel and their families on domestic U.S.
military bases. Debt service is not directly paid or guaranteed
by the U.S. Government. Rather, the bonds are serviced from
the cash flow generated in most cases by rental payments
deposited by the military directly into lockbox accounts as
part of each service personnel’s Basic Allowance for Housing
(BAH). In a small number of cases rental payments also come
from civilians, including retired service personnel, living on
a particular base. Collateral for these transactions includes
the BAH payments as well as an interest in the ground
lease. Risk factors affecting these transactions include
ongoing base essentiality, military deployments, the U.S.
government’s commitment to fund the BAH, marketability/
attractiveness of the on-base housing units versus off-base
housing,
environmental
remediation, utility and other operating costs and housing
management. Ambac's exposure to privatized military
housing debt is a growing concentration given the long-dated
maturity profile of the exposure relative to faster run-off of
other parts of Ambac's insured portfolio. As of December 31,
2019, privatized military housing represented approximately
15% of net par outstanding.
construction
completion,
Puerto Rico
Ambac has exposure to the Commonwealth of Puerto Rico (the
"Commonwealth") and
instrumentalities across several
different issuing entities with total net par exposure of $1,123
million as of December 31, 2019. Each has its own credit risk
its
profile attributable to, as applicable, discrete revenue sources,
direct general obligation pledges and/or general obligation
guarantees.
Fiscal Plans
On May 9, 2019, the Oversight Board certified its own version of
a new Commonwealth Fiscal Plan ("Revised Fiscal Plan"), which
superseded the previous Commonwealth Fiscal Plan certified on
October 23, 2018. In the Commonwealth Revised Fiscal Plan, the
annual Commonwealth budget surpluses are lower in the short term
but larger in the long term because of a longer than previously
expected roll-out of federal disaster spending. The new surplus
through fiscal 2024 is just under $14 billion, whereas the previous
plan was almost $18 billion. The plan projects a 30-year surplus
of $19.7 billion, but $5.4 billion of that money may not be available
to the Commonwealth because it is being generated by public
corporations. This compares to a 30-year surplus of just under $13
billion under the previous fiscal plan.
rationales
As was the case with prior fiscal plans for the Commonwealth of
Puerto Rico, the Commonwealth Revised Fiscal Plan lacks a high
degree of transparency regarding the underlying data, assumptions
and
assumptions, making
reconciliation and due diligence difficult. As a result, it is difficult
to assess the possible impact that Commonwealth Revised Fiscal
Plan changes may have on creditor outcomes or Ambac's financial
condition, including liquidity, loss reserves and capital resources.
supporting
those
On June 7, 2019, the Oversight Board certified its own version of
the Fiscal Plan for the Puerto Rico Highways and Transportation
Authority ("PRHTA"). Without considering PRHTA Fiscal Plan
measures, the PRHTA’s total financial surplus over the six-year
plan period is projected to be $31 million. However, after taking
into account the measures set forth in the PRHTA Fiscal Plan, the
Oversight Board states that the cumulative surplus over that six-
year period would grow to $493 million.
It is unknown if and when a PRHTA Plan of Adjustment will be
filed by the Oversight Board or confirmed by the court overseeing
the Title III proceedings of PRHTA. It is also unknown if and when
other Puerto Rico instrumentalities, which have debt outstanding
insured by Ambac Assurance, will be filed under Title III and what
effect their fiscal plans and/or plans of adjustment may have on
Ambac's financial position. No assurances can be given that
Ambac's financial condition will not suffer a materially negative
impact as an ultimate result of the Commonwealth Revised Fiscal
Plan, the Commonwealth Plan of Adjustment, or any future
changes or revisions to Commonwealth fiscal plans or fiscal plans
and/or plans of adjustment for PRHTA or other Puerto Rico
instrumentalities.
Commonwealth Plan of Adjustment
On September 27, 2019, the Oversight Board filed a disclosure
statement and plan of adjustment (the "Initial POA") to restructure
$35 billion of debt and other claims against the Commonwealth of
Puerto Rico, PBA, and the Employee Retirement System ("ERS"),
as well as more than $50 billion of pension liabilities. (On the same
day, PBA filed a petition for a Title III restructuring.)
On October 21, 2019, Puerto Rico's House of Representatives
unanimously passed Concurrent Resolution 114 (which was
subsequently passed by the Puerto Rico Senate on November 7,
| Ambac Financial Group, Inc. 32 2019 FORM 10-K |
2019) which rejected the Initial POA due to its proposed 8.5% cut
to the pensions of retired public workers. The resolution states that
the Puerto Rico legislature will not approve any legislation that
may be required to implement the Initial POA and authorizes the
Speaker of the House and the Senate President to take the actions
they deem pertinent, as well as the use of the resources of the
Legislative Assembly, to defend against those actions of the
Oversight Board that are detrimental to the best interests of Puerto
Ricans.
On February 28, 2020, the Oversight Board filed an amended
disclosure statement and amended plan of adjustment (the
“Amended POA”) to restructure $35 billion of debt and other
claims against the Commonwealth of Puerto Rico, PBA, and ERS,
as well as more than $50 billion in pension liabilities. The Amended
POA would reduce Commonwealth debt and other claims from
$35 billion to less than $11 billion, a 70% cut. The Amended POA
would reduce the Commonwealth’s annual debt service by 56%.
Treatment for pension claims is the same as contained in the Initial
POA, which is a reduction in pension payments by as much as
8.5% for retirees who currently receive at least $1,200 a month,
such that 60% of retirees would not face any cuts, and the
establishment of a pension reserve fund to help support retirement
payments in future years.
The Amended POA, as is, disproportionately disadvantages claims
related to the Commonwealth revenue bonds, including those
insured by Ambac Assurance. The Amended POA provides for
estimated recovery of 3.9% on claims against the Commonwealth
related to PRHTA bonds, Puerto Rico Infrastructure Financing
Authority (PRIFA) Special Tax Revenue (Rum Tax) bonds, and
Puerto Rico Convention Center District Authority (PRCCDA)
bonds. It is unknown if and how the Amended POA may be
modified or what the final adjustments will be to the obligations
of Commonwealth instrumentalities addressed in the Amended
POA. However, if the Amended POA were confirmed in its current
form, Ambac's financial condition would suffer a material negative
impact. Refer to Note 7. Financial Guarantee Insurance Contracts,
in this Form 10-K located in Part II. Item 8 for the possible increase
in loss reserves under stress or other adverse conditions, including
the impact of the Amended POA. There can be no assurance that
losses may not exceed such estimates.
Mediation
On November 27, 2019, the court-appointed mediation team (the
"Mediation Team") filed an
interim report and set of
recommendations regarding the scheduling and sequencing of
litigation matters. In the report, the Mediation Team provided an
update on the status of mediation stating the Oversight Board,
"...the Government of Puerto Rico, and various creditor
parties...have been and remain engaged in substantive, and
delicately poised, negotiations facilitated by the Mediation Team
regarding the terms of a possible amended Plan of Adjustment that
would be acceptable to those creditors. If successful, these
negotiations could result in the filing of an amended Plan of
Adjustment that differs from, and has materially more creditor
support than, the current Plan [of Adjustment]."
On February 9, 2020, the Oversight Board announced it reached
an agreement in principle ("Plan Support Agreement") with certain
creditors supporting the restructuring of the Commonwealth's
General Obligation and PBA debt, and intended to file the
Amended POA reflecting the terms of this agreement.
On February 10, 2020, following the Oversight Board's
announcement regarding the Plan Support Agreement, the
Mediation Team filed a report with the Title III court
recommending a schedule for continuation of certain litigation
matters and recommending that other litigation matters be stayed
while the Oversight Board pursued confirmation of the Amended
POA. The court has not yet ruled on these recommendations. The
status, timing and subject of any subsequent or future mediation
discussion has not yet been publicly disclosed.
No assurances can be given that negotiations will be successfully
concluded, that Commonwealth, Oversight Board and creditor
parties will reach definitive agreements on debt restructurings, that
any additional negotiated transaction, debt restructuring, definitive
agreement or Plan of Adjustment will be approved by the court
and completed, or that any transaction or Plan of Adjustment will
not have an adverse impact on Ambac's financial conditions or
results.
Federal Aid
The Commonwealth of Puerto Rico is projected to benefit from
over $45 billion of federal disaster aid for infrastructure
improvement initiatives or recovery efforts, as a result of the
damage cause by hurricanes Irma and Maria as well as the
earthquakes that began in late December 2019. More than $20
billion of Community Development Block Grants (CDBG) was
appropriated by Congress for Puerto Rico for reconstruction
following Hurricane Maria, but to date very little has been drawn
down. The Department of Housing and Urban Development
(HUD), which administers the CDBG program, recently approved
release of a second tranche of CDBG funds totaling $8.2 billion,
which brings the total amount available for drawdown to nearly
$10 billion (an additional roughly $10 billion has not yet been
approved by HUD for release).
In order to ensure federal taxpayer dollars are spent effectively and
efficiently, HUD has conditioned release of the $8.2 billion on
various requirements that Puerto Rico must meet. Governor
Wanda Vasquez has agreed to these requirements, which includes
a prohibition on any of the funds from being used to rebuild the
electric grid until (and unless) HUD publishes additional
requirements on such spending; overturns an executive order
establishing a $15 minimum wage for government construction
projects using CDBG; requires greater Puerto Rico to provide
greater transparency and implement enhanced financial controls;
and requires CDFBG spending plans to be submitted to the
Oversight Board for determination that they are in accordance
with its certified budgets and fiscal plans. Consequently, it is
anticipated that drawdown of funds will begin soon. HUD has also
appointed a federal monitor to oversee use of CDBG funds.
In addition to CDBG and several billion in additional federal
Medicaid money for Puerto Rico that was recently approved,
Puerto Rico is receiving additional federal assistance in the wake
of the earthquakes that have occurred on parts of the island through
FEMA. In addition, it is possible that Congress will appropriate
more federal funds to Puerto Rico. The House of Representatives
has passed legislation providing $4.7 billion (most of which is
CDBG as well as highway funds) but the Senate has not taken that
| Ambac Financial Group, Inc. 33 2019 FORM 10-K |
legislation up yet, and the White House has threatened to veto the
legislation in its current form.
While these federal funds are expected to support economic
recovery and growth in Puerto Rico, there can be no assurances as
to the certainty, timing, usage, efficacy or magnitude of benefits
to creditor outcomes related to disaster aid and ensuing economic
growth, if any.
COFINA Debt Restructuring
On January 16-17, 2019, hearings for the confirmation of the
COFINA Plan of Adjustment (the "COFINA POA") and the
Commonwealth 9019 motion (to approve the settlement of the
Commonwealth-COFINA dispute) were held. On February 4,
2019, the COFINA POA was confirmed and the Commonwealth
9019 motion was approved by Judge Laura Taylor Swain of the
U.S. District Court for the District of Puerto Rico. On February
12, 2019, the COFINA POA went effective, concurrent with the
completion of the commutation described above in the "Executive
Summary" section of this Management Discussion and Analysis.
As a result, Ambac Assurance's insured COFINA bond exposure
decreased by $620 million net par to approximately $185 million
net par. Subsequent redemptions of obligations of the COFINA
Class 2 Trust brought COFINA net par outstanding down to $101
million as of December 31, 2019.
Ambac Assurance's remaining policy obligation of $101 million
net par is an asset of the COFINA Class 2 Trust, which holds a
ratable distribution of cash and new COFINA bonds, which can
be used to partially offset Ambac’s remaining insurance liability.
Several parties are presently appealing the confirmation of the POA
and no assurances can be given regarding the results of such
appeals. At this time, it is unclear what impact the COFINA
restructuring will have on the prospective recoveries of Ambac
Assurance's other insured Puerto Rico instrumentalities.
Other Developments
On February 15, 2019, the United States Court of Appeals for the
First Circuit issued an opinion in the consolidated appeals brought
by certain parties who argued that the members of the Financial
Oversight and Management Board for Puerto Rico (the "Oversight
Board") were appointed in violation of the U.S. Constitution’s
Appointments Clause. The First Circuit ruled that the Oversight
Board members (other than the ex-officio Member) must be, and
were not, appointed in compliance with the Appointments Clause.
The First Circuit declined to dismiss the Oversight Board’s Title
III petitions, did not render ineffective any otherwise valid actions
of the Oversight Board prior to the issuance of the ruling and stayed
its ruling until the Supreme Court rendered a decision in the case.
On June 18, 2019, President Trump sent to the U.S. Senate for
confirmation the nominations of the seven members of the
Oversight Board for the remainder of their term. It is unclear if and
when President Trump will send new nominations to the U.S.
Senate following the Oversight Board term expiration on August
30, 2019.
The Supreme Court heard argument on October 15, 2019. It is
unclear how the Supreme Court will rule and how the ruling will
impact the restructuring process, mediation discussions and
relevant litigation with respect to Ambac-insured Puerto Rico
exposures.
Ambac Title III Litigation Update
Ambac Assurance is party to a number of litigations related to its
Puerto Rico exposures, and actively participates
the
Commonwealth’s Title III proceedings before the United States
District Court for the District of Puerto Rico.
in
The Oversight Board has filed five adversary proceedings related
to Ambac Assurance’s Puerto Rico exposures within the Title III
cases. Ambac Assurance has several active matters before the
District Court within the Commonwealth’s Title III case, including
motions seeking a determination that the automatic stay does not
apply to certain actions Ambac Assurance contemplates taking
with respect to the pledged revenues from PRIFA, PRHTA, and
PRCCDA, or that any such stay should be lifted for cause. Four
litigations are COFINA-related cases that have been, or will soon
be, dismissed by operation of the COFINA POA that was
confirmed on February 4, 2019, and became effective on February
12, 2019. Several parties are presently appealing the confirmation
of the COFINA POA. A fifth is another COFINA-related case that
had been stayed pending resolution of an interpleader action related
to COFINA funds, but which will be permitted to proceed by
operation of the POA now that the interpleader action has been
resolved. A number of other Puerto Rico-related litigations
predating the Title III cases are stayed under Title III of PROMESA
and certain other matters within the Title III cases are stayed as
well. Ambac is unable to predict when and how the issues raised
in these cases (other than those already dismissed by operation of
the COFINA POA) will be resolved. If Ambac Assurance is
unsuccessful in any of these proceedings, Ambac’s financial
condition, including liquidity, loss reserves and capital resources
may suffer a material negative impact.
Refer to Note 17. Commitments and Contingencies to the
Consolidated Financial Statements, included in Part II, Item 8 in
this Form 10-K, for further information about Ambac's litigation
relating to Puerto Rico.
Summary
Ambac has considered these developments and other factors in
evaluating its Puerto Rico loss reserves. During the year ended
December 31, 2019, Ambac had incurred losses associated with
its Domestic Public Finance insured portfolio of $250 million,
which was significantly impacted by the continued uncertainty and
volatility of the situation in Puerto Rico. While management
believes its reserves are adequate to cover losses in its Public
Finance insured portfolio, there can be no assurance that Ambac
may not incur additional losses in the future, particularly given the
developing economic, political, and legal circumstances in Puerto
Rico. Such additional losses may have a material adverse effect
on Ambac’s results of operations and financial condition.
| Ambac Financial Group, Inc. 34 2019 FORM 10-K |
The following table shows Ambac's insured exposure to each issuer segregated by whether such debt obligation is subject to the Priority Debt
Provision or "clawback." Ambac has initiated litigation challenging the application of the "clawback" announced by Governor Padilla, Puerto
Rico's former governor, on December 1, 2015. A description of Ambac's legal challenge is provided in Note 17. Commitments and
Contingencies in the Consolidated Financial Statements, included in Part II, Item 8 in this Form 10-K.
Range of
Maturity
Ambac
Ratings (1)
Net Par
Outstanding (2)
Net Par
and Interest
Outstanding (3)(8)
Ever-to-Date
Net Claims
Paid(4)
($ in millions)
Exposures Subject to Priority Debt Provision (5)
PR Highways and Transportation Authority (1968
Resolution - Highway Revenue) (6)
PR Highways and Transportation Authority (1998
Resolution - Senior Lien Transportation Revenue) (6)
PR Infrastructure Financing Authority (Special Tax
Revenue) (7)
PR Convention Center District Authority (Hotel Occupancy
Tax)
Total
2021-2027
2020-2042
2020-2044
2020-2031
Exposures Not Subject to Priority Debt Provision
Commonwealth of Puerto Rico - General Obligation Bonds
2020-2023
PR Public Buildings Authority - Guaranteed by the
Commonwealth of Puerto Rico
PR Sales Tax Financing Corporation - Senior Sales Tax
Revenue (COFINA)
2020-2035
2047-2054
Total
Total Net Exposure to The Commonwealth of
Puerto Rico and Related Entities
BIG
BIG
BIG
BIG
BIG
BIG
BIG
$
4
$
10
$
405
404
100
913
25
84
101
210
677
903
146
1,736
27
150
900
1,077
$
1,123
$
2,813
$
23
106
172
49
350
41
79
37
157
507
(1)
Internal credit ratings are provided solely to indicate the underlying credit quality of guaranteed obligations based on the view of Ambac. In cases where
Ambac has insured multiple tranches of an issue with varying internal ratings, or more than one obligation of an issuer with varying internal ratings, a
weighted average rating is used. Ambac credit ratings are subject to revision at any time and do not constitute investment advice. BIG denotes credits
deemed below investment grade.
(2) Net Par includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed to the current
accreted value of the bonds. Accretion of the capital appreciation bonds would increase the related net par by $220 at December 31, 2019.
(3) Net Par and Interest Outstanding ("P&I") represents the total insured future debt service remaining over the lifetime of the bonds. P&I for capital
appreciation bonds does not represent the accreted amount as noted in footnote (2) but rather the amount due at respective maturity dates.
(4)
In addition to ever-to-date net claims paid, Ambac made net claim payments of $23 in January 2020.
(5) Commonly known as "clawback," provision pursuant to Section 8 of Article VI of the Constitution of the Commonwealth of Puerto Rico. Under this
provision, in the event Commonwealth available revenues and any surplus for any fiscal year are insufficient to meet the appropriations made for that
year, interest on the public debt and amortization thereof shall first be paid and other disbursements, including debt service on the obligations subject to
such provision as described above (to the extent payable from such revenues), shall thereafter be made in accordance with the order of priorities established
by law. These exposures are also subject to Act No. 5-2017, as amended, also known as the Financial Emergency and Fiscal Responsibility Act of 2017,
which declares an emergency period that has been subsequently re-extended until June 30, 2020, from its prior December 31, 2019, deadline. Pursuant
to Act 5-2017, all executive orders issued under Act No. 21-2016 (as amended, known as the Puerto Rico Emergency Moratorium and Financial
Rehabilitation Act), shall continue in full force and effect until amended, rescinded or superseded.
(6) Certain Pledged Revenues for Highways and Transportation Revenue Bonds such as Toll Revenues and Investment Earnings are not subject to the Priority
Debt Provision.
(7) Payable from and secured by proceeds from a federal excise tax imposed on all items produced in Puerto Rico and sold on the mainland of the United
States. Currently, rum is the only product from Puerto Rico subject to this federal excise tax.
(8) Net Par and Interest Outstanding excludes the effects of a 10% current interest rate on $60 net par of PR Public Building Authority ("PBA") bonds with
a maturity date of July 1, 2035, resulting from the absence of a remarketing. Should a remarketing not occur before the maturity of the bonds, the Net Par
and Interest Outstanding for PBA exposure would increase by $42.
U.S. Structured Finance Portfolio
Ambac’s portfolio of U.S. structured finance exposures is
$7,508,000 million, representing 20% of Ambac’s net par
outstanding as of December 31, 2019, and a 25% reduction from
the amount outstanding at December 31, 2018. This reduction in
exposure was primarily related to residential mortgage-backed
securities ("RMBS") policies, which continued to prepay; claims
presented on insured RMBS bonds; commutations and clean-up
calls of certain RMBS transactions, with less than 10% of their
original mortgage pool balances remaining and the commutation
of $900 million of Ambac UK's exposure to Ballantyne Re Plc, as
discussed further below.
Current insured exposures include securitizations of mortgage
loans, home equity loans, student loans, leases, operating assets,
collateralized loan obligations (“CLO”), and other asset-backed
financings, in each case where the majority of the underlying
collateral risk is situated in the United States. Additionally,
Ambac’s structured finance insured portfolio includes secured and
| Ambac Financial Group, Inc. 35 2019 FORM 10-K |
unsecured debt issued by investor-owned utilities. It also includes
structured insurance transactions, including transactions providing
insurance on the notes of trusts that were established in connection
with the reinsurance of defined blocks of life insurance and that
were used to fund regulatory reserves associated with level
premium term life insurance policies (commonly referred to as
Regulation XXX reserves).
See Note 6. Financial Guarantees in Force to the Consolidated
Financial Statements, included in Part II, Item 8 included in this
Form 10-K, for exposures by bond type as of December 31, 2019.
Structured finance securitization exposures generally entail three
forms of risk: (i) asset risk, which relates to the amount and quality
of the underlying assets; (ii) structural risk, which relates to the
extent to which the transaction’s legal structure and credit support
provide protection from loss; and (iii) servicer risk, which is the
risk that poor performance at the servicer or manager level
contributes to a decline in cash flow available to the transaction.
Ambac Assurance seeks to mitigate and manage these risks through
its risk management practices.
Securitized securities are usually designed to help protect the
investors and, therefore, the guarantor from the bankruptcy or
insolvency of the entity that originated the underlying assets as
well as from the bankruptcy or insolvency of the servicer of those
assets. The servicer of the assets is typically responsible for
collecting cash payments on the underlying assets and forwarding
such payments, net of servicing fees, to a trustee for the benefit of
the issuer. One potential issue is whether the sale of the assets by
the originator to the issuer would be upheld in the event of the
bankruptcy or insolvency of the originator and whether the servicer
of the assets may be permitted or stayed from remitting to investors
cash collections held by it or received by it after the servicer or the
originator becomes subject
insolvency
proceedings. Another potential issue is whether the originator sold
ineligible assets to the securitization transaction that subsequently
deteriorated, and, if so, whether the originator has the willingness
or financial wherewithal to meet its contractual obligations to
repurchase those assets out of the transaction. Structural protection
in a transaction, such as control rights that are typically held by
the senior note holders, or guarantor in insured transactions, will
determine the extent to which underlying asset performance can
be influenced upon non-performance to improve the revenues
available to cover debt service.
to bankruptcy or
Ambac has exposure to the U.S. mortgage market primarily
through direct financial guarantees of RMBS,
including
transactions that contain risks to first and second lien mortgages.
Ambac's total net par exposure to RMBS at December 31, 2019,
was approximately $4,423 million ($2,572 million, $1,720 million,
$130 million are first lien, second lien and other respectively), a
decrease of 20% during 2019. At December 31, 2019, 87% of
RMBS net par exposure relates to securitizations issued during
2005 through 2007.
Ballantyne Re Plc
Following entry into a lock-up agreement with Ballantyne Re plc
("Ballantyne"), Assured Guaranty Europe plc and Assured
Guaranty Corp., certain Ballantyne Class A Noteholders, Security
Life of Denver Insurance Company ("SLD") and Swiss Re Life
and Health America Inc. ("SRLHA") Ballantyne commenced,
under Irish law, a restructuring transaction ("Restructuring") in
respect of its obligations under its Class A-1 Notes, Class A-2a
Notes, Class A-2b Notes, Class A-3a Notes, Class A-3b Notes,
Class A-3c Notes and Class A-3d Notes (together, the "Scheme
Notes") (the "Restructuring"). The Class A-2a Notes, the Class
A-3a Notes, the Class A-3b Notes, the Class A-3c Notes and the
Class A-3d Notes had a guarantee from Ambac UK (the "Ambac
UK Guaranteed Notes").
The Restructuring was commenced by Ballantyne on April 25,
2019 and was implemented through an Irish scheme of
arrangement (the "Arrangement") under Part 9 of the Irish
Companies Act 2014 which required the consent of the requisite
majorities of the relevant Class A Noteholders at each Arrangement
meeting. The Arrangement was approved on June 17, 2019, and
the Restructuring was implemented on the terms proposed.
The key features of the Restructuring were as follows:
• the novation of the indemnity reinsurance agreement between
Ballantyne and SLD dated November 19, 2008, (as amended)
to SRLHA (the "Novation");
• the disbursement of the assets from Ballantyne's reinsurance
trust account to effectuate the Novation and make payment
to the holders of Scheme Notes in full and final satisfaction
of their claims against Ballantyne; and
• the commutation of the obligations of Ambac UK in respect
of the Ambac UK Guaranteed Notes.
With the successful implementation of the Restructuring, Ambac
UK has ceased to have any exposure with respect to the obligations
of Ballantyne.
International Finance Insured Portfolio
Ambac’s portfolio of international finance insured exposures is
$12,857,000 million, representing 34% of Ambac’s net par
outstanding as of December 31, 2019, and a 5% reduction from
the amount outstanding at December 31, 2018. This reduction in
exposure was primarily the result of policy terminations within
asset-backed securities and investor-owned utilities partially offset
by a weakening of the US dollar versus the British pound. Ambac’s
international finance insured exposures include a wide array of
obligations in the international markets, including infrastructure
financings, asset-securitizations, utility obligations, whole
business securitizations (e.g., securitizations of substantially all of
the operating assets of a corporation) and sub-sovereign credit.
Ambac has no insured exposure related to emerging markets. See
Note 6. Financial Guarantees in Force to the Consolidated
Financial Statements, included in Part II, Item 8 included in this
Form 10-K, for exposures by bond type as of December 31, 2019.
When underwriting transactions in the international markets,
Ambac considered the specific risks related to the particular
country and region that could impact the credit of the issuer. These
risks include the legal and political environment, capital markets
dynamics, foreign exchange issues and the degree of governmental
support. Ambac continues to assess these risks through its ongoing
risk management.
Ambac UK, which is regulated in the United Kingdom (“UK”),
had been Ambac Assurance’s primary vehicle for directly issuing
financial guarantee policies in the UK and the European Union
| Ambac Financial Group, Inc. 36 2019 FORM 10-K |
with $11,862 million net par outstanding in those markets at
December 31, 2019. The portfolio of
insured exposures
underwritten by Ambac UK is financially supported exclusively
by the assets of Ambac UK and no capital support arrangements
are in place with any other Ambac affiliate.
Other European Union Exposures (“EU”)
Ambac's international net par exposures are principally in the
United Kingdom ($10,593 million); however, we also have
exposures with credit risk based in various other EU member states,
including Austria, France, Germany and Italy ($1,756 million).
Italy, with net par exposure of $767 million, in particular has
experienced economic, fiscal and political strains since the 2008
global financial crisis such that the likelihood of default on an
insured sub-sovereign obligation in that country is higher than
when the policy was underwritten.
Ambac does not guarantee any sovereign bonds of the above EU
countries.
Brexit:
In March 2017 the UK government gave the European Union
(“EU”) formal notification of its intention to leave the EU
(“Brexit”). In January 2020 the UK Government and EU ratified
the terms of a legal binding treaty ("Withdrawal Agreement")
setting out the terms of a transition period to apply to the UK until
December 31, 2020. The effect of the withdrawal agreement is to
retain the rights and obligations between the UK and the EU from
the date of the UK's exit from the EU on January 31, 2020 ("Exit
Day") to the end of this transition period.
The UK and EU are currently negotiating a free trade agreement
which is expected to come into force at the end of the transition
period. It is currently unclear what regulations may apply to the
activities in the EEA of passporting insurers as part of this free
trade agreement. They may lose their legal authorization to serve
clients who benefit from policies issued by a UK incorporated
insurer under freedom of services and freedom of establishment
passporting rights (and thereby maybe unable to legally collect
premiums or pay claims) and if they have branches in EEA Member
States they may be legally obliged to close them down and no
longer be legally represented in those jurisdictions.
Additional Insured Portfolio Information
Average Life of Insured Portfolio
Ambac underwrote and priced financial guarantees based on the
assumption that the guarantees would remain in force until the
maturity of the underlying bonds. Ambac estimates that the average
life of its guarantees on par in force at December 31, 2019 is
approximately 10 years. The average life is determined by applying
a weighted average calculation, using the remaining years to
expected maturity of each guaranteed bond, and weighting them
on the basis of the remaining net par guaranteed. Except for RMBS
policies, no assumptions are made for non-contractual reductions,
refundings or terminations of insured issues. RMBS policies
incorporate assumptions on expected prepayments over the
remaining life of the insured obligation.
The following table depicts amortization of existing guaranteed
net par outstanding:
Net Par Outstanding Amortization (1)
($ in millions)
Estimated Net
Amortization
2020
2021
2022
2023
2024
2020-2024
2025-2029
2030-2034
2035-2039
After 2039
Total
$
3,092
2,857
2,750
1,749
2,107
$
12,555
7,755
5,996
7,834
3,878
$
38,018
(1) Depicts amortization of existing guaranteed portfolio, assuming no
advance refundings, as of December 31, 2019. Expected maturities
will differ from contractual maturities because borrowers may have
the right to call or prepay guaranteed obligations.
the recommendation
However on February 19, 2019, the European Insurance and
Occupational Pensions Authority (“EIOPA”) made a series of
recommendations to EU insurance regulators in light of Brexit.
These recommendations
that
include
regulatory authorities apply legal frameworks that facilitate the
orderly run off (without time limit) of branch operations and of
insurance policies issued in EEA member states by UK insurers
prior
The
recommendations will require to be incorporated into EEA
member states legal and regulatory frameworks in an appropriate
manner to bring them into effect. If introduced as expected, these
measures will retain Ambac UK's right to collect premium and pay
claims on policies issued under EU passporting rights.
terminate after
to Exit Day
this date.
that
As of December 31, 2019 Ambac UK's insured portfolio included
4 financial guarantee obligations with a gross par outstanding of
$1,407 million issued under EU passporting rules.
| Ambac Financial Group, Inc. 37 2019 FORM 10-K |
Geographic Area The following table sets forth the geographic distribution ofAmbac's existing guaranteed net par outstanding as ofDecember 31, 2019: Geographic Area($ in millions)Net ParAmountOutstanding% of TotalNet ParAmountOutstandingDomestic:Mortgage and asset-backed (1)$4,531,00011.9%California2,556,0006.7%Colorado2,396,0006.3%New York2,331,0006.1%New Jersey1,487,0003.9%Texas1,289,0003.4%Puerto Rico1,123,0003.0%Pennsylvania916,0002.4%Washington833,0002.2%Florida754,0002.0%Illinois709,0001.9%Other domestic6,236,00016.4%Total Domestic25,161,00066.2%International:United Kingdom10,593,00027.9%Italy767,0002.0%Austria674,0001.8%Australia382,0001.0%France303,0000.8%Other international (2)138,0000.4%Total International Finance12,857,00033.8%Total$38,018,000100.0%(1)Mortgage and asset-backed obligations includes guarantees withmultiple locations of risk within the United States and is primarilycomprised of residential mortgage and commercial asset-backedsecuritizations. (2) Other international may include components of U.S. exposure. Exposure Currency The table below shows the distribution by currency of Ambac'sexisting guaranteed net par outstanding as of December 31, 2019:Currency($ in millions)Net ParAmountOutstandingin BaseCurrencyNet ParAmountOutstandingin U.S.DollarsPercentageof Net ParAmountOutstandingU.S. Dollars$25,559$25,55967.2%British Pounds£7,81310,34427.2%Euros€1,5451,7334.6%Australian DollarsA$5453821.0%Total$38,018100.0%Ratings Distribution The following tables provide a rating distribution of existing netpar outstanding based upon internal Ambac credit ratings atDecember 31, 2019 and 2018 and a distribution by bond type ofAmbac's below investment grade ("BIG") net par exposures atDecember 31, 2019 and 2018. BIG is defined as those exposureswith an internal credit rating below BBB-: December31,2019AA:10%A:39%BBB:31%BIG:20%December31,2018AA:10%A:34%BBB:34%BIG:22%Note: AAA is less than 1% in both periods.(1)Internal credit ratings are provided solely to indicate the underlyingcredit quality of guaranteed obligations based on the view of Ambac.In cases where Ambac has insured multiple tranches of an issue withvarying internal ratings, or more than one obligation of an issuer withvarying internal ratings, a weighted average rating is used. Ambaccredit ratings are subject to revision at any time and do not constituteinvestment advice. BIG denotes credits deemed below investmentgrade. | Ambac Financial Group, Inc. 38 2019 FORM 10-K | Summary of Below Investment Grade Exposure:
Bond Type ($ in millions)
Public Finance:
Lease and tax-backed (1)
General obligation (1)
Housing (2)
Transportation
Health care
Other
Total Public Finance
Structured Finance:
RMBS
Structured Insurance
Student loans
Other
Total Structured Finance
International Finance:
Other
Total International Finance
Net Par Outstanding -
December 31,
2019
2018
$
1,109
$
2,025
525
311
27
—
42
434
314
378
25
146
2,014
3,322
3,362
—
620
33
4,015
1,455
1,455
4,205
900
714
53
5,872
924
924
Total
$
7,484
$
10,118
(1) Lease and tax-backed includes $1,014 and $1,735 of Puerto Rico net
par at December 31, 2019 and 2018, respectively. General obligation
includes $109 and $145 of Puerto Rico net par at December 31, 2019
and 2018, respectively. Puerto Rico net par outstanding includes
capital appreciation bonds which are reported at the par amount at
the time of issuance of the related insurance policy as opposed to the
current accreted value of the bonds.
(2)
Includes $311 and $314 of military housing net par at December 31,
2019 and 2018, respectively.
The decrease in below investment grade exposures is primarily
due to (i) the commutation or restructuring of certain structured
insurance, lease and tax-backed and transportation transactions
(including the Ballantyne and COFINA commutations), (ii)
paydowns or calls by issuers, mostly related to residential
mortgage-backed and other asset-backed securities, and (iii) a
termination of an international aircraft asset-backed transaction.
This decrease is offset by the addition of an Italian sub-sovereign
exposure. Despite the decrease in below investment grade
exposures, such exposures could increase as a relative proportion
of the guarantee portfolio given that stressed borrowers generally
have less ability to prepay or refinance their debt and therefore
Ambac is subject to the risk that its insured portfolio will
increasingly become concentrated in higher risk below investment
grade exposures. This risk may result in greater volatility in our
results from operations and have adverse effects on our financial
condition.
Ceded Reinsurance
Ambac Assurance has reinsurance in place pursuant to surplus
share treaties and facultative agreements. As a primary financial
guarantor, Ambac Assurance is required to honor its obligations to
its policyholders whether or not its reinsurers perform their
obligations under these reinsurance agreements. For exposures
reinsured, Ambac Assurance generally withholds a ceding
commission to defray its underwriting and operating expenses. To
minimize its exposure to losses from reinsurers, Ambac Assurance
(i) monitors the financial condition of its reinsurers; (ii) is entitled
to receive collateral from its reinsurance counterparties in certain
reinsurance contracts; and (iii) has certain cancellation rights that
can be exercised by Ambac Assurance in the event of rating agency
downgrades of a
(among other events and
circumstances). Ambac Assurance held letters of credit and
collateral amounting to $124 million from its reinsurers at
December 31, 2019. As of December 31, 2019, the aggregate
amount of insured par ceded by Ambac Assurance to reinsurers
under reinsurance agreements was $5,890 million, with the largest
reinsurer accounting for $2,746 million or 6.3% of gross par
outstanding at December 31, 2019.
reinsurer
The following table shows the distribution, by bond type, of Ambac
Assurance’s ceded guaranteed portfolio at December 31, 2019:
Ceded Par
Amount
Outstanding
% of Gross
Par Ceded
Bond Type ($ in millions)
Public Finance:
General obligation
Lease and tax-backed revenue
Housing revenue
Transportation revenue
Utility revenue
Higher education
Other
Total Public Finance
Structured Finance:
Student loan
Investor-owned utilities
Structured insurance
Asset-backed and other
Mortgage-backed and home equity
Total Structured Finance
Total Domestic
International Finance:
Investor-owned and public utilities
Transportation
Asset-backed
Total International Finance
$
1,571
1,422
945
564
249
182
102
5,035
281
225
147
106
49
808
5,843
24
22
1
47
Total
$
5,890
34%
22%
14%
40%
25%
17%
14%
22%
27%
12%
27%
49%
1%
10%
19%
1%
1%
—%
—%
13%
RESULTS OF OPERATIONS
The following discussion should be read along with the financial
statements included in this Form 10-K, as well as Part II, "Item 7,
Management's Discussion and Analysis's of Financial Condition
and Results of Operations" of our Form 10-K for the year ended
December 31, 2018, which provides additional information on
comparisons of years 2018 and 2017.
Certain amounts in the tables that follow may not add due to
rounding.
| Ambac Financial Group, Inc. 39 2019 FORM 10-K |
($ in millions)
Year Ended December 31,
Revenues:
2019
2018
2017
Net premiums earned
$
66
$
227
—
81
(50)
134
38
13
295
103
269
32
(216)
—
$
111
273
(3)
112
7
8
3
(224)
107
112
242
5
267
82
175
361
(20)
5
76
5
20
513
151
122
120
44
(329)
—
Net investment income
Net other-than-temporary
impairment losses
Net realized investment
gains (losses)
Net gains (losses) on
derivative contracts
Other income (expense) (2)
Income (loss) on variable
interest entities
Expenses:
Losses and loss expenses
(benefit)
Insurance intangible
amortization
Operating expenses
Interest expense
Provision for income taxes
Net income (loss)
Less: exchange of auction
market preferred
shares (1)
Net income (loss)
attributable to common
stockholders
$
(216) $
186
$
(329)
(1)
In connection with the AMPS Exchange, the difference between the
fair value of consideration provided to AMPS holders and the carrying
amount of the AMPS has been reflected as a reduction to Net income
attributable to common stockholders in 2018 for approximately $82.
Refer to Note 1. Background and Business Description for a
discussion of the AMPS Exchange.
(2)
2019 includes proceeds received in connection with an SEC action
against Citigroup Global Markets Inc. in the amount of $142 million.
2018 and 2017 include net realized gains on extinguishment of debt.
During 2018 and 2019, Ambac executed on a number of
restructuring / commutation transactions that had significant
impacts to the consolidated results of operations. As described
further below, the completion of the these transactions, including
the related changes to invested assets, loss reserves and debt of the
Company, had a significant impact on the comparability of the
results of operation for the years ended December 31,2019 and
2018. The most significant transactions, which are more fully
discussed in the "Financial Guarantees in Force" section of this
Form 10-K were:
Rehabilitation Exit Transactions. On February 12, 2018, Ambac
Assurance executed the Rehabilitation Exit Transactions under
which Deferred Amounts (as defined in Note 1. Background and
Business Description to the Consolidated Financial Statements
included in Part II, Item 8 of this Annual Report on Form 10-K)
and a substantial portion of Ambac Assurance senior surplus notes
were settled at a discount, with holders (other than Ambac)
receiving in exchange, a consideration package of cash and debt
securities.
Puerto Rico COFINA Plan of Adjustment ("POA"). On February
12, 2019, the POA, including certain related commutation
transactions, and subsequent distributions, became effective,
resulting in a significant reduction of Ambac Assurance's insured
net par exposure to COFINA. Pursuant to the COFINA POA,
approximately 75% of holders of Ambac Assurance-insured senior
COFINA bonds (including Ambac) elected to commute their
insurance policy.
Ballantyne Re plc ("Ballantyne") Restructuring. On April 25,
2019, Ballantyne commenced, under Irish law, a restructuring
transaction ("Restructuring") in respect of its obligations,
including obligations that were guaranteed by Ambac UK. The
Arrangement was approved on June 17, 2019. With the successful
implementation of the Restructuring, Ambac UK has ceased to
have any exposure with respect to the obligations of Ballantyne.
The following paragraphs describe the consolidated results of
operations of Ambac for 2019 and 2018. Some tables may not add
due to rounding.
Net Premiums Earned. Net premiums earned primarily represent
the amortization into income of insurance premiums. Net
premiums earned for the year ended December 31, 2019, decreased
by $45 million or 41% as compared to net premiums earned for
the year ended December 31, 2018.
We present accelerated premiums, which result from calls and
other accelerations of insured obligations separate from normal net
premiums earned. When an insured bond has been retired, any
remaining unearned premium revenue ("UPR") is recognized at
that time to the extent the financial guarantee contract is legally
revenue. For
extinguished, causing accelerated premium
installment premium paying transactions, we offset the recognition
of any remaining UPR by the reduction of the related premium
receivable to zero (as it will not be collected as a result of the
retirement), which may cause negative accelerated premium
revenue.
Normal net premiums earned are impacted by the following:
• The runoff of the insured portfolio occurring through
transaction terminations, calls and scheduled maturities,
which reduce normal net premiums earned.
• Pre-refundings of insured securities, primarily Public Finance
transactions. Since the maturity date of pre-refunded
securities is shortened (to a specified call date from its
previous legal maturity), normal net premiums earned will
increase over the remaining period of the related policy.
• New ceded reinsurance of insurance risk which reduces
normal net premiums earned over the remaining period of the
related policies.
• Changes to allowance for uncollectible premiums on
premium receivable asset.
• The strengthening or weakening of the U.S. dollar relative to
the British Pound since Ambac's wholly-owned UK
subsidiary, Ambac UK, operates in the United Kingdom and
the British Pound is its functional currency.
Normal net premiums earned and accelerated premiums are
reconciled to total net premiums earned in the table below,
including a breakdown of net premiums earned by market:
| Ambac Financial Group, Inc. 40 2019 FORM 10-K |
($ in millions)
Year Ended December 31,
Public finance
Structured finance
International finance
Total net normal premiums
earned
Public Finance
Structured Finance
International Finance
Total net accelerated
earnings
$
$
$
$
Total net premiums earned $
2019
2018
2017
27
10
19
56
25
(7)
(8)
10
66
$
$
$
$
$
37
17
23
77
29
5
1
35
111
$
$
$
$
$
62
22
27
111
47
3
15
65
175
Investments
Net Investment Income. Net investment income primarily
consists of interest and net discount accretion on fixed income
securities classified as available-for-sale, including investments in
Ambac-insured securities.
in Ambac-insured
securities are made opportunistically based on their risk/reward
characteristics. As described further below, investment income
from holdings of Ambac-insured securities (including Secured
Notes issued by Ambac LSNI, LLC) for the periods presented have
primarily been driven by restructuring transactions involving
RMBS, Puerto Rico and Ballantyne bonds. Also, included in net
investment income are net gains and (losses) on pooled investment
funds and certain other investments that are either classified as
trading securities with changes in fair value recognized in earnings
or are reported under the equity method. These pooled investment
funds and other investments are included in Other investments on
the Consolidated Balance Sheets and consist primarily of pooled
fund investments in diversified asset classes. For further
information about investment funds held, refer to Note 10.
Investments to the Consolidated Financial Statements, included in
this Annual Report.
Net investment income from Ambac-insured securities, available
for sale and short-term securities other than Ambac-insured and
Other investments is summarized the table below:
2019
2018
2017
$
121
$
220
$
262
($ in millions)
Year Ended December 31,
Securities available-for-sale:
Ambac-insured (including
Secured Notes)
Securities available-for-sale
and short-term other than
Ambac-insured
Other investments (includes
trading securities)
75
32
51
2
76
23
361
Net investment income
$
227
$
273
$
Net investment income decreased $46 million for the year ended
December 31, 2019 compared to 2018. The $99 million decrease
in net investment income from Ambac-insured securities for 2019
compared to 2018 is due primarily to the reduced amount of
Ambac-insured RMBS and COFINA bonds held following their
restructuring transactions in February of 2018 and 2019,
respectively. The impact of lower insured RMBS and COFINA
bond holdings was partially offset by increased income from
accelerated accretion on Ballantyne bonds in connection with the
Ballantyne restructuring in June 2019. Net investment income
from Secured Notes was slightly lower in 2019 than 2018 as a
result of early redemptions and AFG's divestiture of its holdings
completed in early 2019.
Net investment income from available-for-sale securities other
than Ambac-insured increased $24 million in 2019, reflecting the
effects of uninsured COFINA bonds received under the POA;
higher allocations towards other non-insured bonds including
investment grade corporates, CMBS and CLOs; and higher interest
rates on short-term positions.
Net investment income from Other investments increased $30
million from 2018, due to strong equity and credit market
performance, including gains on investments in high-yield and an
asset-backed focused hedge fund by Ambac Assurance as well as
gains on investments in high yield funds held by Ambac UK.
Additionally, 2018 included losses on hedge fund, equity and
insurance linked-security fund investments of Ambac UK.
Net Other-Than-Temporary Impairment Losses. Net other-than-
temporary impairment losses recorded in earnings include only
credit related impairment amounts on securities to the extent
management does not intend to sell and it is not more likely than
not that the Company will be required to sell before recovery of
the amortized cost basis. Non-credit related impairment amounts
are recorded in other comprehensive income (loss). Alternatively,
non-credit related impairment is reported through earnings as part
of net other-than-temporary impairment losses if management
intends to sell securities or it is more likely than not that the
Company will be required to sell before recovery of amortized cost
less any current period credit impairment.
Net other-than-temporary impairments for the year ended
December 31, 2019 related to management's intent to sell
securities. Net other-than-temporary impairments for the year
ended December 31, 2018 related to credit losses on certain
securities and to management’s intent to sell securities.
Net Realized Investment Gains. The following table provides a
breakdown of net realized gains, for the periods presented:
($ in millions)
Year Ended December 31,
Net gains on securities sold
or called
Foreign exchange gains
(losses)
Total net realized gains
$
$
2019
2018
2017
59
$
105
$
22
81
7
$
112
$
10
(5)
5
Net realized gains on securities sold or called during the year ended
December 31, 2019 included $50 million of net gains arising
directly or indirectly from the COFINA restructuring, including
sales of Ambac-insured COFINA bonds and sales of new uninsured
COFINA bonds received in the restructuring. Also included in
realized gains for the year ended December 31, 2019 are $23
million of realized foreign exchange gains arising from the
settlement of Ballantyne bonds held in the investment portfolio.
Net gains during the year ended December 31, 2018 were primarily
from sales of Ambac-insured RMBS. Additionally, 2018 gains
included a $27 million recovery from a class-action settlement
| Ambac Financial Group, Inc. 41 2019 FORM 10-K |
relating to certain RMBS securities previously held in the
investment portfolio.
Net Gains (Losses) on Derivative Contracts. Net gains (losses)
on derivative contracts includes results from the Company's
interest rate derivatives portfolio and its legacy credit derivative
positions as presented in the following table:
($ in millions)
Year Ended December 31,
Net gains (losses) on interest
rate derivatives
Net gains (losses) on credit
derivatives
Total net gains (losses)
$
$
2019
2018
2017
(51) $
7
$
2
(50) $
(1)
7
$
60
16
76
The interest rate derivatives portfolio is positioned to benefit from
rising rates as a partial economic hedge against interest rate
exposure in the financial guarantee and investment portfolios.
Results in Net gain (loss) on interest rate derivatives generally
reflect mark-to-market gains (losses) in the portfolio caused by
increases (declines) in forward interest rates during the periods,
the carrying cost of the net liability position of the portfolio, and
the impact of counterparty credit adjustments as discussed below.
Net losses on interest rate derivatives for the year ended
December 31, 2019 were $51 million, compared to the net gain of
$7 million for the year ended December 31, 2018. The net loss for
the year ended December 31, 2019, reflects declines in forward
interest rates, partially offset by negative net carrying costs driven
by the partially inverted yield curve in place for most of the year.
Net gains for 2018 were primarily the result of rising forward
interest rates offset by carrying costs.
Counterparty credit adjustments are generally applicable for
uncollateralized derivative assets that may not be offset by
derivative liabilities under a master netting agreement. Inclusion
of counterparty credit adjustments in the valuation of interest rate
derivatives resulted in losses within Net gain (loss) on interest rate
derivatives of $(2) million in both 2019 and 2018.
The net gain/(loss) from change in fair value of credit derivatives
for the year ended December 31, 2019 was a gain of $2 million,
as compared to the loss of $(1) million for the year ended December
31, 2018. Changes in fair value of credit derivatives are driven by
price changes on the underlying reference obligations of remaining
legacy positions plus continued accretion of fees.
Net Realized Gains (Losses) on Extinguishment of Debt. Net
realized gains on extinguishment of debt was $0 million for the
year ended December 31, 2019, compared to gains of $3 million
for the year ended December 31, 2018. The gains for the year
ended December 31, 2018 related to surplus notes received by
Ambac Assurance in settlement of Deferred Amounts held in its
investment portfolio in connection with the Rehabilitation Exit
Transactions.
Income (loss) on Variable Interest Entities. Included within
Income (loss) on variable interest entities are income statement
amounts relating to VIEs consolidated under the Consolidation
Topic of the ASC as a result of Ambac's variable interest arising
from financial guarantees written by Ambac's subsidiaries,
including gains or losses attributable to consolidating or
deconsolidating VIEs during the periods reported. Generally, the
Company’s consolidated VIEs are entities for which Ambac has
provided financial guarantees on all of or a portion of its assets or
liabilities. In consolidation, assets and liabilities of the VIEs are
initially reported at fair value and the related insurance assets and
liabilities are eliminated. However, the amount of VIE net assets
(liabilities) that remain in consolidation generally result from the
net positive (negative) present value of projected cash flows from
(to) the VIEs which are attributable to Ambac’s insurance
subsidiaries in the form of financial guarantee insurance premiums,
fees and losses. In the case of VIEs with net negative projected
cash flows, the net liability is generally to be funded by AFG’s
insurance claim payments.
insurance subsidiaries
Differences between the net carrying value of the insurance
accounts under the Financial Services—Insurance Topic of the
ASC and the carrying value of the consolidated VIE’s net assets
or liabilities are recorded through income at the time of
consolidation or deconsolidation. Additionally, terminations or
other changes to Ambac's financial guarantee insurance policies
that impact projected cash flows between a consolidated VIE and
Ambac could result in gains or losses, even if such policy changes
do not result in deconsolidation of the VIE.
through
Income (loss) on variable interest entities was $38 million and $3
million for the years ended December 31, 2019 and 2018,
respectively.
• Income on variable interest entities for the year ended
December 31, 2019, was driven by the impact of a VIE created
in connection with the restructuring of Puerto Rico COFINA
debt. Under the restructuring, Ambac-insured COFINA
bonds that were not commuted were deposited into a newly
formed trust called the COFINA Class 2 Trust ("COFINA
Trust"), which Ambac has determined must be consolidated.
Refer to Part II, Item 7, “Management's Discussion and
Analysis — Financial Guarantees in Force" in this report on
Form 10-K for further discussion of the COFINA Debt
Restructuring. Income from COFINA Trust for the the year
ended December 31, 2019, was $26 million, including $15
million from consolidation and $13 million from realized
investment gains on sales of assets from the trust used for
early redemptions of debt, partially offset by net interest
expense and fees. Income for the year ended December 31,
2019, also included a gain on the fair value of net assets of a
VIE arising from an increase in projected cash flows on the
VIE's assets related to higher financial guarantee insurance
premiums. Results for 2019 also included a loss of $2 million
from deconsolidation of a VIE.
• Income on variable interest entities for the year ended
December 31, 2018, included gains of $2 million on
deconsolidation of VIEs as a result of financial guarantee
policy terminations and discount accretion on remaining VIE
net assets.
Refer to Note 3. Variable Interest Entities to the Consolidated
Financial Statements included in this Form 10-K for further
information on the accounting for VIEs.
Other income (expense). Other income (expense) includes various
fees, primarily consent and waiver fees, as well as foreign exchange
gains/(losses) unrelated to investments or loss reserves. Other
income also includes proceeds received by Ambac Assurance in
September 2019 in connection with an SEC action against
Citigroup Global Markets Inc. in the amount of $142 million. For
| Ambac Financial Group, Inc. 42 2019 FORM 10-K |
the year ended December 31, 2018, other income (expense)
included foreign exchange gains and amortization of fee income.
Losses and Loss Expenses (Benefit). Losses and loss expenses
are based upon estimates of the aggregate losses inherent in the
non-derivative financial guarantee portfolio for insurance policies
issued to beneficiaries, including unconsolidated VIEs. Losses
and loss expenses for the year ended December 31, 2018, included
interest on Deferred Amounts pursuant to the Segregated Account
Rehabilitation Plan (as defined in Note 1. Background and
Business Description to the Consolidated Financial Statements
included in Part II, Item 8 of this Annual Report on Form 10-K)
that were discharged on February 12, 2018.
Ambac records as a component of its loss reserve estimate
subrogation recoveries related to securitized loans in RMBS
transactions with respect to which Ambac Assurance is pursuing
claims for breaches of representations and warranties described
herein. Ambac does not estimate an RMBS R&W subrogation
recovery where its sole claim is for fraudulent inducement.
Generally, the sponsor of an RMBS transaction provided
representations and warranties with respect to the securitized loans,
including representations with respect to the loan characteristics,
the absence of borrower fraud in the underlying loan pools or other
misconduct in the origination process and attesting to the
compliance of loans with the prevailing underwriting policies.
Ambac has recorded RMBS R&W subrogation recoveries, net of
reinsurance, of $1,702 million and $1,744 million at December 31,
2019 and 2018, respectively. Refer to Note 2. Basis of Presentation
and Significant Accounting Policies to the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K for more
information regarding the estimation process for RMBS R&W
subrogation recoveries.
loss expenses (benefit) for
Losses and
the year ended
December 31, 2019 and 2018 were $13 million and $(224) million,
respectively. The following table provides details, by bond type,
for losses and loss expenses (benefit) incurred for the periods
presented:
($ in millions)
Year Ended December 31,
RMBS (1)
Domestic Public Finance
Student Loans
Ambac UK and Other
Credits
Interest on Deferred
Amounts
Discount on Rehabilitation
Exit Transaction
Totals (2)
$
2019
2018
2017
$
(93) $
(8) $
250
(17)
(127)
—
—
13
37
(4)
19
21
(288)
$
(224) $
(41)
476
25
(125)
178
—
513
(1) The loss and loss expense (benefit) associated with changes in
estimated representation and warranties for the year ended
December 31, 2019 and 2018 was $42 and $62, respectively.
(2)
Includes loss expenses incurred of $78 and $92 for the year ended
December 31, 2019 and 2018, respectively.
Losses and loss expenses for 2019 were driven by the following:
• Higher projected losses in domestic public finance driven
mostly by lower discount rates and additions to Puerto Rico
loss reserves, partially offset by;
• Favorable development within Ambac UK and Other Credits
primarily due to the Ballantyne commutation;
• Favorable RMBS development as a result of credit
improvement, the impact on excess spread from declines in
interest rates and a trustee settlement related to Lehman
sponsored transactions, partially offset by RMBS R&W
litigation loss expenses incurred and a reduction to estimated
RMBS R&W subrogation recoveries.
Losses and loss expenses for 2018 were driven by the following:
• Discount achieved pursuant to the Rehabilitation Exit
Transactions, partially offset by interest on Deferred Amounts
through the Rehabilitation Exit Transactions effective date;
• Higher projected losses in domestic public finance largely
driven by Military Housing loss expenses incurred and
adverse development on a certain general obligation and
transportation risks;
• Favorable RMBS credit development, which was more than
offset by a decrease in RMBS R&W subrogation recoveries
and loss expenses incurred;
• $15 million of foreign exchange losses related to Ambac UK
loss reserves denominated in currencies other than its
functional currency of British Pounds, resulting in incurred
the British Pound depreciates
losses
(appreciates).
(gains) when
Insurance
Insurance Intangible Amortization.
intangible
amortization was $295 million and $107 million for the years ended
December 31, 2019 and 2018, respectively. The increase in
intangible amortization for the year ended December 31, 2019,
compared to 2018, is primarily due to accelerated amortization as
a result of the Ballantyne commutation that occurred in 2019.
Operating Expenses. Operating expenses consist of gross
operating expenses plus reinsurance commissions. The following
table provides details of operating expenses for the periods
presented:
($ in millions)
Year Ended December 31,
Compensation
Non-compensation
$
Gross operating expenses
Reinsurance commissions,
net
2019
2018
2017
$
58
44
103
—
$
55
56
111
1
54
68
122
—
122
Total operating expenses
$
103
$
112
$
Gross operating expenses for the year ended December 31, 2019
are $103 million, a decrease of $9 million from gross operating
expenses for the year ended December 31, 2018. The decrease
was primarily due to the following:
• Lower non-compensation costs primarily due to reduced
advisory costs of $15 million, of which $5 million relates to
services provided for the benefit of OCI; partially offset by
| Ambac Financial Group, Inc. 43 2019 FORM 10-K |
increased premises costs of $3 million, primarily due to the
extinguishment of lease reducing Junior Surplus Notes which
previously reduced rent expense.
• Higher compensation costs related to higher incentive
compensation driven by (i) improvements in performance
metrics, mostly related to Ambac UK incentive compensation
and (ii) higher severance and post employment costs related
to staff right-sizing.
With the conclusion of the Segregated Account rehabilitation, the
duties of the Wisconsin Insurance Commissioner as rehabilitator
of the Segregated Account have been discharged. Legal and
consulting services provided for the benefit of OCI amounted to
$2 million and $7 million for the years ended December 31, 2019
and 2018, respectively. Subsequent to the Segregated Account's
exit from rehabilitation, advisory services for the benefit of OCI
continue, but at a reduced level.
Interest Expense. Interest expense primarily includes accrued
interest on the Ambac Note, Tier 2 Notes and surplus notes issued
by Ambac Assurance. Additionally, interest expense includes
discount accretion when the debt instrument carrying value is at a
discount to par.
The following table provides details by type of obligation for the
periods presented:
($ in millions)
Year Ended December 31,
Surplus notes (1)
Ambac note
Tier 2 notes
Other
2019
2018
2017
$
99
$
80
$
143
26
—
139
22
1
113
—
2
4
Total interest expense
$
269
$
242
$
120
(1)
Includes junior surplus notes.
• The increase in interest expense for the year ended
December 31, 2019, compared to 2018 primarily reflects the
higher average balance of surplus notes outstanding in 2019
and compounding of interest on surplus notes. Although the
amount of surplus notes outstanding decreased in connection
with the Rehabilitation Exit Transactions, the amount
outstanding increased in the third quarter of 2018 due to
surplus notes issued by Ambac Assurance in connection with
the AMPS Exchange (as defined in Note 1. Background and
Business Description
the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K) and
resales of notes by Ambac to the market.
to
• Increased interest expense on the floating rate Ambac note
was driven by higher reset rates in 2019 and the impact of the
notes being outstanding for the full year, partially offset by
optional redemptions and full amortization of deferred debt
issuance costs through interest expense in 2018.
• Interest expense increased on the Tier 2 notes due primarily
to interest compounding. The increase in interest expense
also reflects the impact of applying the level yield method on
surplus notes and Tier 2 notes as the discount to the face value
of the long-term debt accretes over time.
Surplus note principal and interest payments require the approval
of OCI. Since the issuance of the surplus notes in 2010, OCI has
declined to approve regular payments of interest on surplus notes,
although the OCI has permitted exceptional payments in
connection with (a) increasing the percentage of deferred policy
payments of the Segregated Account of Ambac Assurance from
25% to 45% in 2014 and (b) a one-time payment of approximately
six months of interest on the surplus notes (other than junior surplus
notes) outstanding immediately after consummation of the
Rehabilitation Exit Transactions in 2018. Ambac Assurance has
not requested to pay interest on any junior surplus notes since their
issuance. Ambac Assurance may not receive approval from OCI
to make payments as and when scheduled, including the payment
of the surplus notes on their scheduled maturity date of June 7,
2020. If the OCI does not approve the making of any payment of
principal of or interest on surplus notes on the scheduled payment
date or scheduled maturity date thereof, the scheduled payment
date or scheduled maturity date, as the case may be, shall be
extended until OCI grants approval to make the payment. Interest
will accrue, compounded on each anniversary of the original
scheduled payment date or scheduled maturity date, on any unpaid
principal or interest through the actual date of payment, at 5.1%
per annum. Holders of surplus notes will have no rights to enforce
the payment of the principal of, or interest on, surplus notes in the
absence of OCI approval to pay such amount. The interest on the
outstanding surplus notes and junior surplus notes were accrued
for and Ambac Assurance is accruing interest on the interest
amounts following each scheduled interest payment date. Total
accrued and unpaid interest for surplus notes and junior surplus
notes outstanding to third parties were $302 million and $146
million, respectively, at December 31, 2019.
Provision for Income Taxes. The provision for income taxes for
the year ended December 31, 2019 and 2018, was $32 million and
$5 million, respectively. The income tax for the year ended
December 31, 2019 and 2018, includes provisions for income tax
due in respect of Ambac UK of $36 million and $5 million,
respectively.
At December 31, 2019 the Company had approximately $3,535
million of U.S. Federal net ordinary operating loss carryforwards,
including approximately $1,250 million at AFG and $2,285 million
at Ambac Assurance.
LIQUIDITY AND CAPITAL RESOURCES
AFG Liquidity. AFG’s liquidity is dependent on its cash,
investments, and net receivables, totaling $483 million as of
December 31, 2019, and expense sharing and other arrangements
with Ambac Assurance.
• Pursuant to the amended and restated tax sharing agreement
among AFG, Ambac Assurance and certain affiliates (the
"Amended TSA"), Ambac Assurance is required to make
payments ("tolling payments") to AFG with respect to the
utilization of net operating loss carry-forwards (“NOLs”).
AFG has accrued $28 million of tolling payments based on
NOLs used by Ambac Assurance in 2017. In May 2018, AFG
executed a waiver under the intercompany tax sharing
agreement pursuant to which Ambac Assurance was relieved
of the requirement to make this payment by June 1, 2018.
AFG also agreed to defer the tolling payment for the use of
net operating losses by Ambac Assurance in 2017 until such
time as OCI consents to the payment.
| Ambac Financial Group, Inc. 44 2019 FORM 10-K |
• Under an inter-company cost allocation agreement, AFG is
reimbursed by Ambac Assurance for a portion of certain
operating costs and expenses and, if approved by OCI, entitled
to an additional payment of up to $4 million per year to cover
expenses not otherwise reimbursed. AFG has not accrued any
receivable related to this payment as of December 31, 2019.
AFG's investments include securities directly and indirectly issued
by Ambac Assurance some of which are eliminated in
consolidation. Securities issued by Ambac Assurance are
generally less liquid than investment grade and other traded
investments.
It is highly unlikely that Ambac Assurance will be able to make
dividend payments to AFG for the foreseeable future and therefore
cash and investments and payments under the intercompany cost
allocation agreement will be AFG’s principal source of liquidity
in the near term. Refer to Part I, Item 1, “Insurance Regulatory
Including Contractual
Matters — Dividend Restrictions,
Restrictions” in this Annual Report on Form 10-K, and Note 8.
Insurance Regulatory Restrictions to the Consolidated Financial
Statements included in Part II, Item 8, in this Annual Report on
Form 10-K, for more information on dividend payment
restrictions.
The principal uses of liquidity are the payment of operating
expenses, including costs to explore opportunities to grow and
diversify Ambac, and the making of investments, including
securities issued or insured by Ambac Assurance. Future uses of
liquidity may include the acquisition or capitalization of new
businesses. Contingencies could cause material liquidity strains.
The following table includes aggregated information about contractual obligations for AFG and its subsidiaries at December 31, 2019, excluding
variable interest entities consolidated as a result of Ambac Assurance’s and Ambac UK's financial guarantee contracts. These obligations
include payments due under specified contractual obligations, aggregated by type of contractual obligation, including claim payments, principal
and interest payments under Ambac Assurance’s surplus notes, the Ambac Note, Tier 2 Notes and Ambac UK debt, and payments due under
operating leases. The table and commentary below reflect scheduled payments and maturities based on the original payment terms specified
in the underlying agreements and contracts, or expected required payment dates if earlier.
($ in millions)
Surplus note obligations(1)
Ambac note obligations(2)
Tier 2 note obligations(3)
Ambac UK debt obligations(4)
Operating lease obligations(5)
Purchase obligations(6)
Postretirement benefits(7)
Loss and loss expenses(8)
Income taxes
Total
Total
Less Than 1 Year
1 - 3 Years
3 - 5 Years
More Than 5
Years
Payments Due by Period
$
3,841
$
2,144
5,394
41
46
9
5
2,434
—
851
122
—
—
4
8
—
159
—
$
— $
245
— $
1,777
—
—
9
—
1
139
—
—
—
9
—
1
172
—
$
13,914
$
1,144
$
394
$
1,959
$
2,990
—
5,394
41
24
—
3
1,964
—
10,416
(1) Amounts on surplus notes (excluding junior surplus notes) include
principal on their scheduled maturity date and interest on scheduled
payment dates, including payment of previously deferred interest
totaling $279 million on the next scheduled payment date of June 7,
2020. Also includes all principal and interest on junior surplus notes
on the date all future and existing senior indebtedness of Ambac
Assurance, policy and other priority claims against Ambac Assurance
have been paid in full (included in the more than 5 years column).
All payments of principal and interest on surplus notes are subject to
the prior approval of the OCI. Since the issuance of the surplus notes
in 2010, OCI has declined to approve regular payments of interest
on surplus notes annually from 2011 through 2019, although the OCI
has permitted exceptional payments in connection with (a) increasing
the percentage of deferred policy payments of the Segregated
Account from 25% to 45% in 2014 and (b) a one-time payment of
approximately six months of interest on the surplus notes outstanding
immediately after the Rehabilitation Exit Transactions in 2018.
Ambac Assurance may not receive approval from OCI to make
payments as and when scheduled, including the payment of the
surplus notes on their scheduled maturity date of June 7, 2020. If the
OCI does not approve the making of any payment of principal of or
interest on surplus notes on the scheduled payment date or scheduled
maturity date thereof, the scheduled payment date or scheduled
maturity date, as the case may be, shall be extended until OCI grants
approval to make the payment. Interest will accrue, compounded on
each anniversary of the original scheduled payment date or scheduled
(2)
(3)
maturity date, on any unpaid principal or interest through the actual
date of payment, at 5.1% per annum.
Includes principal on Ambac Note as of December 31, 2019 to be
paid on its legal maturity date of February 12, 2023, and scheduled
interest payments. Interest amounts on this variable rate debt are
projected at a rate of 6.95% which is based on the index rate in effect
at the balance sheet date. These notes are subject to mandatory
redemption provisions that could significantly accelerate the timing
of required payments, as described further in Note 13. Long-Term
Debt to the Consolidated Financial Statements included in Part II,
Item 8 in this Form 10-K.
Includes principal and compounded paid-in-kind interest on Tier 2
notes to be paid on their legal maturity date of February 12, 2055.
These notes are subject to mandatory redemption provisions that
could significantly accelerate the timing of required payments, as
described further in Note 13. Long-Term Debt to the Consolidated
Financial Statements included in Part II, Item 8 in this Form 10-K.
(4)
Includes principal on the zero coupon note payable on its legal
maturity date of May 2, 2036.
(5) Amount represents future lease payments on lease agreements
existing as of December 31, 2019. Includes fixed costs, such as base
rent, and estimated variable costs, such as real estate taxes and
electricity.
| Ambac Financial Group, Inc. 45 2019 FORM 10-K |
(6) Purchase obligations represent future expenditures for contractually
scheduled fixed terms and amounts due for various technology-
related maintenance agreements and other outside services.
(7) Amount represents future payments relating to Ambac Assurance's
postretirement medical reimbursements to current retirees over the
next 10 years.
(8) The timing of expected claim payments is based on deal specific cash
flows, excluding expected recoveries. These deal specific cash flows
are based on the expected cash flows of the underlying transactions.
The timing of expected claim payments for credits with reserves that
were established using our statistical loss reserve method is
determined based on the weighted average expected life of the
exposure. Refer to the Loss Reserves section in Note 2. Basis of
Presentation and Significant Accounting Policies to the Consolidated
Financial Statements included in Part II, Item 8 in this Form 10-K
for further discussion of our statistical loss reserve method. The
timing of these payments may vary significantly from the amounts
shown above, especially for credits that are based on our statistical
loss reserve method.
Ambac Assurance Liquidity. Ambac Assurance’s liquidity is
dependent on the balance of liquid investments and, over time, the
net impact of sources and uses of funds. The principal sources of
Ambac Assurance’s liquidity are gross installment premiums on
insurance policies; principal and
interest payments from
investments; sales of investments; proceeds from repayment of
affiliate loans; and recoveries on claim payments, including from
litigation and reinsurance recoveries. Termination of installment
premium policies on an accelerated basis may adversely impact
Ambac Assurance’s liquidity.
The principal uses of Ambac Assurance’s liquidity are the payment
of operating and loss adjustment expenses, claims, commutation
and related expense payments on insurance policies, ceded
reinsurance premiums, principal and interest payments on the
Ambac Note, surplus note principal and interest payments, Tier 2
Note payments, additional loans to affiliates, tolling payments due
to AFG under the Amended TSA, and purchases of securities and
other investments that may not be immediately converted into cash.
Interest and principal payments on surplus notes are subject to the
approval of OCI, which has full discretion over payments
regardless of the liquidity position of Ambac Assurance. Any such
payment on surplus notes would require either payment or
collateralization of a portion of the Tier 2 Notes under the terms
of the Tier 2 Note indenture. See Note 13. Long-term Debt to the
Consolidated Financial Statements, included in Part II, Item 8 in
this Form 10-K for further discussion of the payment terms and
conditions of the Tier 2 Notes.
Ambac Assurance's intercompany loans are with Ambac Financial
Services ("AFS"). AFS uses interest rate derivatives (primarily
interest rate swaps and US Treasury futures) as an economic hedge
against the effects of rising interest rates elsewhere in the Company,
including on Ambac Assurance’s financial guarantee exposures.
AFS's derivatives include, interest rate swaps previously provided
to asset-backed issuers and other entities in connection with their
financings. Ambac Assurance loans cash and securities to AFS as
needed to fund payments under these derivative contracts,
collateral posting
requirements and operating expenses.
Intercompany loans are governed by an established lending
agreement with defined borrowing limits that has received non-
disapproval from OCI.
Ambac Assurance manages its liquidity risk by maintaining
comprehensive analyses of projected cash flows and maintaining
specified levels of cash and short-term investments at all times.
Ambac Assurance is limited in its ability to pay dividends pursuant
to the terms of its Auction Market Preferred Shares (“AMPS”),
which state that dividends may not be paid on the common stock
of Ambac Assurance unless all accrued and unpaid dividends on
the AMPS for the then current dividend period have been paid,
provided that dividends on the common stock may be made at all
times for the purpose of, and only in such amounts as are necessary
for enabling AFG (i) to service its indebtedness for borrowed
money as such payments become due or (ii) to pay its operating
expenses. If dividends are paid on the common stock for such
purposes, dividends on the AMPS become cumulative until the
date that all accumulated and unpaid dividends have been paid on
the AMPS. Ambac Assurance has not paid dividends on the AMPS
since 2010. Refer to Part I, Item 1, “Insurance Regulatory Matters
- Dividend Restrictions, Including Contractual Restrictions” in this
Annual Report on Form 10-K, and Note 8. Insurance Regulatory
Restrictions to the Consolidated Financial Statements included in
Part II, Item 8, in this Annual Report on Form 10-K, for more
information on dividend payment restrictions.
Our ability to realize RMBS R&W subrogation recoveries is
subject to significant uncertainty, including risks inherent in
litigation, collectability of such amounts from counterparties (and/
or their respective parents and affiliates), timing of receipt of any
such recoveries, intervention by the OCI, which could impede our
ability to take actions required to realize such recoveries, and
uncertainty inherent in the assumptions used in estimating the
amount of such recoveries. The amount of these subrogation
recoveries is significant and if we are unable to recover any
amounts or recover materially less than our estimated recoveries,
our future available liquidity to pay claims and meet our other
obligations would be reduced materially. See Part I, Item 1A. Risk
Factors in this Annual Report on Form 10-K for more information
about risks relating to our RMBS R&W subrogation recoveries.
Cash Flow Statement Discussion. The following
summarizes the net cash flows for the periods presented.
table
($ in million)
Year Ended December 31,
Cash provided by (used in):
Operating activities
Investing activities
Financing activities
Effect of foreign exchange
on cash and cash
equivalents
2019
2018
2017
$
(311) $
1,000
(691)
(1,543) $
(221)
1,588
(585)
1,163
(412)
Net cash flow
$
(2) $
(541) $
—
—
(1)
529
Operating activities
The following represents the significant operating cash activities
during the years ended December 31, 2019 and 2018:
• During the year ended December 31, 2019, Ambac Assurance
received $142 million in connection with an SEC settlement
with Citigroup Global Markets Inc.
• During the year ended December 31, 2019, Ambac made
interest payments on the Ambac Note of $143 million. During
| Ambac Financial Group, Inc. 46 2019 FORM 10-K |
the year ended December 31, 2018, Ambac made interest
payments on long-term debt of $143 million, including $11
million on surplus notes made in connection with the
Rehabilitation Exit Transactions, $130 million on the Ambac
Note and $2 million on the secured borrowing which was fully
repaid in June 2018; and
• Cash outflow in 2018 from the Rehabilitation Exit
Transactions to third parties was $1,354 million of which
$1,162 million is included in operating activities and $191
million is included in financing activities as it related to
payments for surplus note principal;
• Net loss and loss expenses paid, including commutation
payments are detailed below:
($ in million)
Year Ended
December 31,
Net losses paid (1)
Net subrogation
received
Net loss expenses paid
2019
2018
2017
$
416
$
344
$
311
(168)
70
(140)
117
321
$
(244)
67
134
Net cash flow
$
318
$
(1) Net losses paid include commutation payments of $214, $87
and $21 for the years ended December 31, 2019, 2018 and 2017,
respectively.
(2) For the year ended December 31, 2019, subrogation received
includes $36 of settlement proceeds related to Lehman
sponsored RMBS transactions and $23 related to the COFINA
Plan of Adjustment.
• During the year ended December 31, 2019 and 2018 tax
payments, primarily at Ambac UK, amounted to $21 million
and $35 million, respectively.
Future operating cash flows will primarily be impacted by the level
of premium collections, investment coupon receipts and claim or
commutation payments.
Financing Activities
Financing activities for the year ended December 31, 2019,
included paydowns of Ambac Note of $178 million, paydowns of
VIE debt obligations of $542 million, proceeds of $19 million from
the re-issuance of 1,386 shares of Ambac owned AMPS and
proceeds of $12 million from the issuance of Ambac UK debt in
connection with the Ballantyne restructuring.
Financing activities for the year ended December 31, 2018,
included proceeds from the issuance of Tier 2 notes of $240 million,
paydowns of Ambac Note of $214 million, repayments of the
Secured Borrowing of $74 million, payments
the
extinguishment of surplus notes of $191 million (in connection
with the Rehabilitation Exit Transactions) and paydowns of VIE
debt obligations of $349 million.
for
Principal and interest due on the debt issued in connection with
the Rehabilitation Exit Transactions as well as future payments on
the remaining surplus notes will impact Ambac's future cash flows.
Collateral
AFS hedges a portion of the interest rate risk in the financial
guarantee and investment portfolio, along with legacy customer
interest rate swaps with standardized derivative contracts,
including financial futures contracts, which contain collateral or
margin requirements. Under these contracts, AFS is required to
post collateral or margin to its counterparties and futures
commission merchants to cover unrealized losses. In addition, AFS
is required to post collateral or margin in excess of the amounts
needed to cover unrealized losses. All AFS derivative contracts
containing ratings-based downgrade triggers that could result in
collateral or margin posting or a termination have been triggered.
If terminations were to occur, AFS would be required to make
termination payments but would also receive a return of collateral
or margin in the form of cash or U.S. Treasury obligations with
market values equal to or in excess of market values of the swaps
and futures contracts. AFS may look to re-establish hedge positions
that are terminated early, resulting in additional collateral or margin
obligations. The amount of additional collateral or margin posted
on derivatives contracts will depend on several variables including
the degree to which counterparties exercise their termination rights
(or agreements terminate automatically) and the terms on which
hedges can be replaced. All collateral and margin obligations are
currently met. Collateral and margin posted by AFS totaled $121
million (cash and securities), including independent amounts,
under these contracts at December 31, 2019.
Ambac Credit Products LLC (“ACP”) is not required to post
collateral under any of its outstanding derivative contracts.
BALANCE SHEET
Total assets decreased by approximately $1,269 million from
December 31, 2018 to $13,320 million at December 31, 2019,
primarily due to lower VIE assets from the deconsolidation of a
VIE during 2019 (causing a reduction in assets of $1,233 million)
partially offset by the consolidation of another VIE (causing an
increase in assets of $167 million) and increases from currency
changes (strengthening of the British Pound). Other significant
changes during 2019 were lower premium receivables and
intangible assets from the continued runoff of the financial
guarantee
the Ballantyne
commutation, and lower invested assets due to claim payments and
debt redemptions.
insurance portfolio, particularly
Total liabilities decreased by approximately $1,172 million from
December 31, 2018 to $11,783 million as of December 31, 2019,
primarily due to changes in VIEs consolidated as a result of
financial guarantees provided by Ambac, as noted above. The net
impact of these VIE changes to liabilities was a net decrease of
$1,028 million. Other significant changes during 2019 were (i)
lower unearned premiums from the runoff of the insured portfolio,
(ii) lower loss reserves (from claim and commutation payments,
the
including commutation payments on Ballantyne, and
elimination of loss reserves from the COFINA VIE consolidated),
and (iii) lower long-term debt due to partial paydowns on the
Ambac Note (net of of debt issued by Ambac UK of $12 million
in connection with the Ballantyne commutation). Such declines
are partially offset by an increases in accrued interest payable on
long-term debt and increases in interest rate derivative obligations
as a result of reductions in forward interest rates.
As of December 31, 2019, total stockholders’ equity was $1,536
million, compared with total stockholders’ equity of $1,633 million
at December 31, 2018. This decrease was primarily driven by the
net loss for 2019 partially offset by translation gains related to
| Ambac Financial Group, Inc. 47 2019 FORM 10-K |
Ambac invests in various asset classes in its fixed income securities
portfolio, including securities covered by guarantees issued by
Ambac Assurance and Ambac UK and other financial guarantors
("insured securities"). Other investments include diversified
equity interests in pooled funds. Refer to Note 10. Investments in
this 10-K located in Part II. Item 8 for information about insured
securities by guarantor and fixed income and equity interests by
asset class. The following table provides additional details of the
composition of the fair value of other asset-backed securities at
December 31, 2019 and 2018 by classification:
($ in millions)
December 31,
Other asset-backed securities
Military Housing
Structured Insurance
Student Loans
Auto
Credit Cards
2019
2018
$
237
$
—
32
—
18
241
145
32
20
5
Total other asset-backed securities
$
287
$
442
(1)
Includes investments guaranteed by Ambac Assurance and Ambac
UK. Refer to Note 10. Investments in this 10-K located in Part II.
Item 8 for further details of Ambac-insured securities held in the
investment portfolio.
Ambac's foreign subsidiaries and unrealized gains on investment
securities.
Investment Portfolio. Ambac Assurance’s investment objective is
to achieve the highest risk-adjusted after-tax return on a diversified
portfolio of primarily fixed income investments and pooled
investment funds while employing asset/liability management
practices to satisfy operating and strategic liquidity needs. Ambac
Assurance’s investment portfolio is subject to internal investment
guidelines and is subject to limits on types and quality of
investments imposed by the insurance laws and regulations of the
jurisdictions in which it is licensed, primarily the States of
Wisconsin and New York. Such guidelines set forth minimum
credit rating requirements and credit risk concentration limits.
Within these guidelines, which in certain instances may be
exceeded with the approval of the applicable regulatory authority,
Ambac Assurance opportunistically purchases Ambac Assurance
insured securities given their relative risk/reward characteristics.
Ambac Assurance’s investment policies are subject to oversight
by OCI pursuant to the Settlement Agreement, the Stipulation and
Order and the indenture for the Tier 2 Notes. The Board of Directors
of Ambac Assurance approves any changes to Ambac Assurance's
investment policy.
Ambac UK’s investment policy is designed with the primary
objective of ensuring that Ambac UK is able to meet its financial
obligations as they fall due, in particular with respect to
policyholder claims. Ambac UK’s investment portfolio is
primarily fixed income investments and diversified holdings of
pooled investment funds. The portfolio is subject to internal
investment guidelines and may be subject to limits on types and
quality of investments imposed by the PRA as regulator of Ambac
UK. Ambac UK’s investment policy sets forth minimum credit
rating requirements and concentration limits, among other
restrictions. The Board of Directors of Ambac UK approves any
changes or exceptions to Ambac UK’s investment policy.
Ambac Financial Group, Inc.'s investment portfolio's primary
objective is to preserve capital and liquidity for strategic uses while
maximizing income.
Refer to Note 10. Investments in this Form 10-K located in Part
II. Item 8 for information about Ambac's consolidated investment
portfolio. Ambac's investment polices and objectives do not apply
to the assets of VIEs consolidated as a result of financial guarantees
written by its insurance subsidiaries.
The following table summarizes the composition of Ambac’s
investment portfolio, excluding VIE investments, at carrying value
at December 31, 2019 and 2018:
($ in millions)
December 31,
Fixed income securities
Short-term
Other investments
Fixed income securities pledged as collateral
Total investments (1)
2019
2018
$
2,577
$
3,116
653
478
85
430
391
—
$
3,792
$
3,937
(1)
Includes investments denominated in non-US dollar currencies with
a fair value of £257 ($341) and €2 ($2) as of December 31, 2019 and
£204 ($259) and €14 ($16) as of December 31, 2018.
| Ambac Financial Group, Inc. 48 2019 FORM 10-K |
The following tables provide the ratings(1) distribution of the fixedincome investment portfolio based on fair value at December 31,2019 and 2018.December31,2019AAA:21%AA:16%A:12%BBB:15%BIG(2):14%NR(2):22%December31,2018AAA:11%AA:9%A:11%BBB:10%BIG(2):31%NR(2):28%(1)Ratings are based on the lower of Moody’s or S&P ratings. If ratingsare unavailable from Moody's or S&P, Fitch ratings are used. Ifguaranteed, rating represents the higher of the underlying orguarantor’s financial strength rating. (2)Below investment grade and not rated bonds insured by Ambacrepresented 33% and 57% of the 2019 and 2018 combined investmentportfolios, respectively. The decrease in the percentage of belowinvestment grade and increase in the percentage of AAA-ratedholdings since December 31, 2018, was driven by the COFINArestructuring where below investment grade Ambac-insured bondswere exchanged for new COFINA non-rated bonds and cash, with amajority of the new non-rated bonds being sold prior to December 31,2019. Cash proceeds from the restructuring and bond salesthroughout the year were invested in, amongst other things, AAA-rated short-term investments, commercial mortgage-backedsecurities and collateralized debt obligations at December 31, 2019.Premium Receivables. Ambac either received premium upfront attime of issuance of the insurance policy or in installments over thepolicy term. For installment premium transactions, a premiumreceivable asset is established equal to the (i) present value of futurecontractual premiums due or (ii) if the underlying insuredobligation is a homogenous pool of assets which are contractuallyprepayable, the present value of premiums to be collected over theexpected life of the transaction. Ambac's premium receivablesdecreased to $416 million at December 31, 2019 from $495 millionat December 31, 2018. As further discussed in Note 7. FinancialGuarantee Insurance Contracts, in this Form 10-K located in PartII. Item 8, the decrease is due to premium receipts, adjustments forchanges in expected and contractual cash flows and the impact ofcurrency exchange rates, partially offset by accretion of premiumreceivable discount. Premium receivables by payment currency were as follows:Currency(Amounts in millions)PremiumReceivable inPaymentCurrencyPremiumReceivable inU.S. dollarsU.S. Dollars$261$261British Pounds£97129Euros€2326Total$416Reinsurance Recoverable on Paid and Unpaid Losses. AmbacAssurance has reinsurance in place pursuant to surplus share treatyand facultative agreements. To minimize its exposure to lossesfrom reinsurers, Ambac Assurance (i) monitors the financialcondition of its reinsurers; (ii) is entitled to receive collateral fromits reinsurance counterparties under certain reinsurance contracts;and (iii) has certain cancellation rights that can be exercised byAmbac Assurance in the event of rating agency downgrades of areinsurer (among other events and circumstances). AmbacAssurance benefited from letters of credit and collateral amountingto approximately $124 million from its reinsurers at December 31,2019. Collateral is based on reinsurance contracts, but generallyincludes reinsurers share of loss and loss expense reserves andstatutory unearned premiums and contingency reserves, amongstother considerations. As of December 31, 2019 and 2018,reinsurance recoverable on paid and unpaid losses were $26million and $23 million, respectively. The increase was primarilya result of adverse development in public finance insuredexposures.Insurance Intangible Asset. At the Fresh Start Reporting Date,an insurance intangible asset was recorded which represented thedifference between the fair value and aggregate carrying value ofthe financial guarantee insurance and reinsurance assets andliabilities. The net intangible asset at December 31, 2019 and 2018was $427 million and $719 million, respectively. The decreasewas primarily driven by amortization expense of $295 million. Loss and Loss Expense Reserves and Subrogation Recoverable.Loss and loss expense reserves are based upon estimates of theultimate aggregate losses inherent in the non-derivative portfoliofor insurance policies issued to beneficiaries, includingunconsolidated VIEs. The loss and loss expense reserves net ofsubrogation recoverables and before reinsurance as ofDecember 31, 2019 and 2018 were $(482) million and $(107)million, respectively. Loss and loss expense reserves are includedin the Consolidated Balance Sheets as follows:| Ambac Financial Group, Inc. 49 2019 FORM 10-K | ($ in millions)
Balance Sheet Line Item
December 31, 2019:
Loss and loss expense reserves
Subrogation recoverable
Totals
December 31, 2018:
Loss and loss expense reserves
Subrogation recoverable
Totals
Present Value of Expected
Net Cash Flows
Claims and
Loss
Expenses
Recoveries (1)
Unearned
Premium
Revenue
Gross Loss
and Loss
Expense
Reserves
$
$
$
$
1,835
131
1,966
2,246
176
2,422
$
$
$
$
(233) $
(2,160)
(2,394) $
(54) $
—
(54) $
(313) $
(107) $
(2,109)
—
(2,422) $
(107) $
1,548
(2,029)
(482)
1,826
(1,933)
(107)
(1) Present value of future recoveries include R&W subrogation recoveries of $1,727 and $1,771 at December 31, 2019 and 2018, respectively.
The evaluation process for determining the level of reserves is
subject to certain estimates and judgments. Please refer to the
"Critical Accounting Policies and Estimates" and “Results of
Operations” sections of this Management’s Discussion and
Analysis of Financial Condition and Results of Operations in
addition to Note 2. Basis of Presentation and Significant
Accounting Policies and Note 7. Financial Guarantee Insurance
Contracts, respectively of the Consolidated Financial Statements
included in Part II, Item 8 in this Form 10-K for further information
on loss and loss expenses.
Ambac has exposure to various bond types issued in the debt capital
markets. Our experience has shown that, for the majority of bond
types, we have not experienced significant claims. The bond types
that have experienced significant claims, including through
commutations, are
residential mortgage-backed securities
(“RMBS”), student loan securities and public finance bond types.
These bond types represent 94% of our ever-to-date insurance
claims recorded with RMBS comprising 77%.
The table below indicates gross par outstanding and the components of gross loss and loss expense reserves related to policies in Ambac’s
gross loss and loss expense reserves at December 31, 2019 and 2018:
($ in millions)
December 31, 2019:
RMBS
Domestic Public Finance
Student Loans
Ambac UK and Other Credits
Loss expenses
Totals
December 31, 2018:
RMBS
Domestic Public Finance
Student Loans
Ambac UK and Other Credits
Loss expenses
Totals
Present Value of Expected
Net Cash Flows
Gross Par
Outstanding (1)(2)
Claims and
Loss
Expenses
Recoveries
Unearned
Premium
Revenue
Gross Loss
and Loss
Expense
Reserves (1)(3)
$
$
$
$
3,027
$
634
$
(2,013) $
(13) $
(1,392)
2,398
472
271
—
1,007
248
4
73
(344)
(36)
—
—
(36)
(4)
(1)
—
627
208
3
73
6,168
$
1,966
$
(2,394) $
(54) $
(482)
3,716
$
696
$
(1,995) $
(14) $
(1,313)
3,987
530
1,170
—
1,095
271
294
66
(383)
(39)
(5)
—
(73)
(4)
(16)
—
639
228
273
66
9,403
$
2,422
$
(2,422) $
(107) $
(107)
(1) Ceded par outstanding on policies with loss reserves and ceded loss and loss expense reserves are $511 and $26 respectively, at December 31, 2019 and
$540 and $23, respectively at December 31, 2018. Ceded loss and loss expense reserves are included in Reinsurance recoverable on paid and unpaid
losses.
(2) Gross Par Outstanding includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed
to the current accreted value of the bond.
(3) Loss reserves are included in the balance sheet as Loss and loss expense reserves or Subrogation recoverable dependent on if a policy is in a net liability
or net recoverable position.
| Ambac Financial Group, Inc. 50 2019 FORM 10-K |
Variability of Expected Losses and Recoveries
Ambac’s management believes that the estimated future loss
component of loss reserves (present value of expected net cash
flows) are adequate to cover future claims presented, but there can
be no assurance that the ultimate liability will not be higher than
such estimates.
It is possible that our estimated future losses for insurance policies
discussed above could be understated or that our estimated future
recoveries could be overstated. We have attempted to identify
possible cash flows related to losses and recoveries using more
stressful assumptions than the probability-weighted outcome
recorded. The possible net cash flows consider the highest stress
scenario that was utilized in the development of our probability-
weighted expected loss at December 31, 2019, and assumes an
inability to execute any commutation transactions with issuers and/
or investors. Such stress scenarios are developed based on
management’s view about all possible outcomes relating to losses
and recoveries. In arriving at such view, management makes
considerable judgments about the possibility of various future
events. Although we do not believe it is possible to have stressed
outcomes in all cases, it is possible that we could have stress case
outcomes in some or even many cases. See “Risk Factors” in Part
I, Item 1A as well as the following descriptions of "RMBS
Variability," "Public Finance Variability," "Student Loan
including Ambac UK,
Variability," and "Other Credits,
Variability," for further discussion of the risks relating to future
losses and recoveries that could result in more highly stressed
outcomes.
The occurrence of these stressed outcomes individually or
collectively would have a material adverse effect on our results of
operations and financial condition and may result in materially
adverse consequence for the Company, including (without
limitation) impairing the ability of Ambac Assurance to honor its
financial obligations; the initiation of rehabilitation proceedings
against Ambac Assurance; decreased likelihood of Ambac
Assurance delivering value to AFG, through dividends or
otherwise; and a significant drop in the value of securities issued
or insured by AFG or Ambac Assurance.
RMBS Variability
Ambac has exposure to the U.S. mortgage market primarily
including
through direct financial guarantees of RMBS,
transactions collateralized by first and second liens.
Changes to assumptions that could make our reserves under-
estimated include an increase in interest rates, deterioration in
housing prices, poor servicing, the effect of a weakened economy
characterized by growing unemployment and wage pressures. We
utilize a model to project losses in our RMBS exposures and
changes to reserves, either upward or downward, are not unlikely
if we used a different model or methodology to project losses.
We established a representation and warranty subrogation recovery
as further discussed in Note 7. Financial Guarantee Insurance
Contracts to the Consolidated Financial Statements included in this
Form 10-K. Our ability to realize RMBS representation and
warranty recoveries is subject to significant uncertainty, including
risks inherent in litigation, collectability of such amounts from
counterparties (and/or their respective parents and affiliates),
timing of receipt of any such recoveries, intervention by the OCI,
which could impede our ability to take actions required to realize
such recoveries and uncertainty inherent in the assumptions used
in estimating such recoveries. Additionally, our R&W actual
subrogation recoveries could be significantly lower than our
estimate of $1,702 million, net of reinsurance, as of December 31,
2019, if the sponsors of these transactions: (i) fail to honor their
obligations to repurchase the mortgage loans, (ii) successfully
dispute our breach findings or claims for damages, (iii) no longer
have the financial means to fully satisfy their obligations under the
transaction documents, or (iv) our pursuit of recoveries is otherwise
unsuccessful. Failure to realize R&W subrogation recoveries for
any reason or the realization of R&W subrogation recoveries
materially below the amount recorded on Ambac's consolidated
balance sheet would have a material adverse effect on our results
of operations and financial condition.
In the case of both first and second-lien exposures, the possible
stress case assumes a lower housing price appreciation projection,
which in turn drives higher defaults and severities. Using this
approach, the possible increase in loss reserves for RMBS credits
for which we have an estimate of expected loss at December 31,
2019 could be approximately $20 million. Combined with the
absence of any R&W subrogation recoveries, a possible increase
in loss reserves for RMBS could be approximately $1,722 million.
Additionally, loss payments are sensitive to changes in interest
rates, increasing as interest rates rise. For example an increase in
interest rates of 0.50% could increase our estimate of expected
losses by approximately $45 million. There can be no assurance
that losses may not exceed such amounts.
Public Finance Variability
Ambac’s U.S. public finance portfolio consists predominantly of
municipal bonds such as general and revenue obligations and lease
and tax-backed obligations of state and local government entities;
however, the portfolio also comprises a wide array of non-
municipal types of bonds, including financings for not-for-profit
entities and transactions with public and private elements, which
generally finance infrastructure, housing and other public purpose
facilities and interests. The decline in public finance gross loss
reserves at December 31, 2019, as compared to December 31,
2018, was primarily related to the Puerto Rico COFINA debt
restructuring, payments of claims and commutations, substantially
offset by increases in other Puerto Rico loss reserves. Total public
finance gross loss reserves and related gross par outstanding on
Ambac insured obligations by bond type were as follows:
| Ambac Financial Group, Inc. 51 2019 FORM 10-K |
($ in millions)
Issuer Type
December 31,
Lease and tax-backed
General obligation
Housing
Transportation revenue
Other
Total
2019
2018
Gross Par
Outstanding (1)
Gross Loss
Reserves
Gross Par
Outstanding (1)
Gross Loss
Reserves
$
$
1,075
$
681
457
88
97
561
$
(16)
29
42
11
2,062
$
904
445
471
105
2,398
$
627
$
3,987
$
528
24
26
49
12
639
(1) Gross Par Outstanding includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed
to the current accreted value of the bond.
It is possible our loss reserves for public finance credits may be
under-estimated if issuers are faced with prolonged exposure to
adverse political, judicial, economic, fiscal or socioeconomic
events or trends.
Our experience with the city of Detroit in 2013 in its bankruptcy
proceeding was not favorable and renders future outcomes with
other public finance issuers even more difficult to predict and may
increase the risk that we may suffer losses that could be sizable.
We agreed to settlements regarding our insured Detroit general
obligation bonds that provide better treatment of our exposures
than the city planned to include in its plan of adjustment, but
nevertheless required us to incur a loss for a significant portion of
our exposure. An additional troubling precedent in the Detroit
case, as well as other municipal bankruptcies, is the preferential
treatment of certain creditor classes, especially the public pensions.
The cost of pensions and the need to address frequently sizable
unfunded or underfunded pensions is often a key driver of stress
for many municipalities and their related authorities, including
entities to whom we have significant exposure, such as Chicago
Public Schools, the State of New Jersey and many others. Less
severe treatment of pension obligations in bankruptcy may lead to
worse outcomes for traditional debt creditors. Variability of
outcomes applies to even what is generally considered more secure
municipal financings, such as dedicated sales tax revenue bonds
that capture sales tax revenues for debt service ahead of any
amounts being deposited into the general fund of an issuer. In the
case of the Puerto Rico COFINA sales tax bonds that were part of
the Commonwealth of Puerto Rico's Title III proceedings, Ambac
Assurance and other creditors agreed to settle at a recovery rate
equal to about 93% of pre-petition amounts owed on the Ambac
insured senior COFINA bonds. In the COFINA case, the senior
bonds still received a reduction or "haircut" despite the existence
of junior COFINA bonds, which received a recovery rate equal to
about 56% of pre-petition amounts owed. The amounts were
confirmed as part of the COFINA Plan of Adjustment on February
4, 2019.
In addition, municipal entities may be more inclined to use
bankruptcy to resolve their financial stresses if they believe
preferred outcomes for various creditor groups can be achieved.
We expect municipal bankruptcies and defaults to continue to be
challenging to project given the unique political, economic, fiscal,
legal, governance and public policy differences among
municipalities as well as the complexity, long duration and relative
infrequency of the cases themselves in forums with a scarcity of
legal precedent.
Another potentially adverse development that could cause the loss
reserves on our public finance credits to be underestimated is
deterioration in the municipal bond market, resulting from reduced
or limited access to alternative forms of credit (such as bank loans)
or other exogenous factors, such as the Tax Cuts and Jobs Act that
was signed into law on December 22, 2017, which could reduce
certain municipal investors' appetite for tax-exempt municipal
bonds and over the longer term could potentially put additional
pressure on issuers in states with high state and local taxes. These
factors could deprive issuers access to funding at a level necessary
to avoid defaulting on their obligations.
In addition, a more recent judicial decision in connection with the
PRHTA Title III proceedings could cause the loss reserves on our
public finance credits to be underestimated. On March 26, 2019,
the U.S. Court of Appeals for the First Circuit, affirming a decision
by the U.S. District Court overseeing the PROMESA Title III
proceedings for the PRHTA, found that under Sections 928(a) and
922(d) of the U.S. Bankruptcy Code, municipal issuers of revenue
bonds secured by special revenues are permitted, but not required,
to apply special revenues to pay debt service on such revenue bonds
during the pendency of bankruptcy proceedings for such municipal
issuers. The complainants had sought an order compelling
PRHTA, as the debtor, to continue to make debt service payments
on its revenue bonds from pledged special revenues during the
pendency of its Title III case, but the First Circuit affirmed the
District Court’s dismissal of the complaint, holding that it could
not compel the issuer to make such payments. The First Circuit's
decision challenges what had been a commonly understood notion
in the municipal finance marketplace that municipal revenues
bondholders secured by special revenues (as defined in Chapter 9
of the U.S. Bankruptcy Code) would continue to receive payment
during a bankruptcy of the municipal issuer. This decision
introduces significant uncertainty into the public finance market
and it may make it more difficult for municipal instrumentalities
to procure revenue bond financings in the future and increases the
credit risk to bondholders of existing special revenue bonds,
particularly those from weaker issuers. In the wake of the decision,
rating agencies have already taken ratings actions on, or announced
their intention to review ratings given to, bonds issued across the
country highlighting the potential contagion effect of the various
Puerto Rico proceedings under PROMESA.
While our loss reserves consider our judgment regarding issuers’
financial flexibility to adapt to adverse markets, they may not
adequately capture sudden, unexpected or protracted uncertainty
that adversely affects market conditions.
| Ambac Financial Group, Inc. 52 2019 FORM 10-K |
Our exposures to the Commonwealth of Puerto Rico are under
stress arising from the Commonwealth’s poor financial condition,
uncertain willingness and ability to pay, weak economy, loss of
capital markets access, weakened infrastructure and severe
damage caused by hurricanes Irma and Maria in 2017 as well as
the earthquakes that began in late December 2019. These factors,
taken together with the payment moratorium on debt payments of
the Commonwealth and its instrumentalities, ongoing PROMESA
Title III proceedings, and certain other provisions under
PROMESA, the potential for restructurings of debt insured by
Ambac Assurance, either with or without its consent, and the
possibility of protracted litigation as a result of which its rights
may be materially impaired, may cause losses to exceed current
reserves in a material manner. See Note 17. Commitments and
Contingencies to the Consolidated Financial Statements in Part II,
Item 8 and "Financial Guarantees
in Force" section of
Management’s Discussion and Analysis of Financial Condition
and Results of Operations included in Part II, Item 7 in this Annual
Report on Form 10-K for further updates relating to Puerto Rico
and details on the legal, economic and fiscal developments that
have impacted or may impact Ambac Assurance’s insured Puerto
Rico bonds.
Material additional losses caused by the above-described factors
would have a material adverse effect on our results of operations
and financial condition. For public finance credits, including
Puerto Rico as well as other issuers, for which we have an estimate
of expected loss at December 31, 2019, the possible increase in
loss reserves could be approximately $1,000 million. Among other
things, this estimate includes the possibility that the current Plan
Support Agreement (as discussed above in the Financial
Guarantees in Force section of this Management Discussion and
Analysis) were to become effective. However, there can be no
assurance that losses may not exceed such amount.
Student Loan Variability
Changes to assumptions that could make our reserves under-
estimated include, but are not limited to, increases in interest rates,
default rates and loss severities on the collateral due to economic
or other factors. Such factors may include lower recoveries on
defaulted loans or additional losses on collateral or trust assets,
including as a result of any enforcement actions by the Consumer
Finance Protection Bureau. For student loan credits for which we
have an estimate of expected loss at December 31, 2019, the
possible increase in loss reserves could be approximately $15
million. Additionally, an increase in interest rates of 0.50% could
increase our estimate of expected losses by approximately $20
million. However, there can be no assurance that losses may not
exceed such amounts.
Other Credits, including Ambac UK, Variability
It is possible our loss reserves on other types of credits, including
those insured by Ambac UK, may be under-estimated because of
various risks that vary widely, including the risk that we may not
be able to recover or mitigate losses through our remediation
processes. For all other credits, including Ambac UK, for which
we have an estimate of expected loss, the sum of all the highest
stress case loss scenarios is approximately $50 million greater than
the loss reserves at December 31, 2019. However, there can be no
assurance that losses may not exceed such amount. The highest
stress case losses at December 31, 2019, are $120 million lower
than the December 31, 2018, estimate primarily as a result of the
Ballantyne commutation.
Long-term Debt. Long-term debt consists of senior and junior
surplus notes issued by Ambac Assurance, the Ambac Note and
Tier 2 Notes issued in connection with the Rehabilitation Exit
Transactions, and Ambac UK debt issued in connection with the
Ballantyne commutation. The carrying value of each of these as
of December 31, 2019 and 2018 is below:
($ in millions)
Surplus notes
Ambac note
Tier 2 notes
Ambac UK debt
Total Long-term Debt
December 31,
2019
December 31,
2018
$
$
769
$
1,763
278
13
2,822
$
737
1,940
252
—
2,929
The decrease in long-term debt from December 31, 2018 is
primarily due to optional redemptions of the Ambac Note by $178
million, partially offset by increase in the Tier 2 notes balance due
to paid-in-kind interest and discount accretion, together with
issuance of Ambac UK debt. Increase in Surplus notes was due to
the accretion on the carrying value of the notes.
SPECIAL PURPOSE AND VARIABLE INTEREST
ENTITIES
Please refer to Note 2. Basis of Presentation and Significant
Accounting Policies and Note 3. Variable Interest Entities to the
Consolidated Financial Statements, included in Part II, Item 8 in
this Form 10-K, for information regarding special purpose and
variable interest entities.
ACCOUNTING STANDARDS
The following accounting standards have been issued but have not
yet been adopted. We do not expect these accounting standards to
have a consequential impact on Ambac's financial statements.
VIE Related Party Guidance
In October 2018, the FASB issued ASU 2018-17, Consolidation
(Topic 810) - Targeted Improvements to Related Party Guidance
for Variable Interest Entities. To determine whether a decision-
making fee is a variable interest, under the new guidance a
reporting entity must consider indirect interests held through
related parties under common control on a proportional basis rather
than as a direct interest in its entirety (as currently required in
GAAP). These amendments create alignment between
determining whether a decision making fee is a variable interest
and determining whether a reporting entity within a related party
group is the primary beneficiary of a VIE. ASU 2018-17 is effective
for fiscal years, and interim periods within those fiscal years,
beginning after December 15, 2019, with early adoption permitted.
Ambac will adopt this ASU on January 1, 2020.
Cloud Computing Arrangement Service Contracts
In August 2018, the FASB issued ASU 2018-15, Intangibles—
Goodwill and Other— Internal-Use Software (Subtopic 350-40) -
Customer’s Accounting for Implementation Costs Incurred in a
Cloud Computing Arrangement That Is a Service Contract. The
| Ambac Financial Group, Inc. 53 2019 FORM 10-K |
new guidance requires a customer in a cloud computing
arrangement that is a service contract to capitalize certain
implementation costs as if the arrangement was an internal-use
software project. The internal-use software guidance requires the
capitalization of certain costs incurred only during the application
development stage. That guidance also requires entities to expense
costs during the preliminary project and post-implementation
stages as they are incurred. ASU 2018-15 is effective for fiscal
years, and interim periods within those fiscal years, beginning after
December 15, 2019, with early adoption permitted. The ASU may
be applied either retrospectively or prospectively
to all
implementation costs incurred after the date of adoption. Ambac
will adopt this ASU on January 1, 2020 to prospective costs.
Defined Benefit and Other Postretirement Plans Disclosures
In August 2018, the FASB issued ASU 2018-14, Compensation -
Retirement Benefits - Defined Benefit Plans - General (Subtopic
715-20) - Disclosure Framework - Changes to the Disclosure
Requirements for Defined Benefit Plans. The ASU modifies
various disclosure requirements for employers that sponsor
defined benefit pension or other postretirement plans. Relevant
disclosures that will be removed are: i) amounts in accumulated
other comprehensive income expected to be recognized as net
periodic benefit cost over the next fiscal year and ii) the effects of
a one percentage point change in assumed health care cost trend
rates on the (a) aggregate of the service and interest cost
components of the net periodic pension cost and (b) benefit
obligation for postretirement healthcare benefits. Relevant
disclosures that will be added are an explanation of the reasons for
significant gains and losses related to changes in the benefit
obligations for the period. ASU 2018-14 is effective for fiscal
years ending after December 15, 2020, with early adoption
permitted. The modified disclosures must be applied on a
retrospective basis for all periods presented. Ambac will adopt
this ASU on December 31, 2020.
Fair Value Measurement Disclosures
In August 2018, the FASB issued ASU 2018-13, Fair Value
Measurement (Topic 820) - Disclosure Framework - Changes to
the Disclosure Requirements for Fair Value Measurement. The
ASU modifies various disclosure requirements on fair value
measurements. Relevant disclosures that will be removed,
modified and added are as follows:
• Removals: 1) Amount of and reasons for transfers between
Level 1 and Level 2 of the fair value hierarchy, 2) Policy for
timing of transfers between levels, and 3) Valuation processes
for Level 3 fair value measurements.
• Modifications: 1) For investments in certain entities that
calculate net asset value, disclosures are only required for the
timing of liquidation of an investee's assets and the date when
restrictions from redemption might lapse, only if the investee
has communicated the timing to the reporting entity or
publicly announced
the
measurement uncertainty disclosure is to communicate
information about the uncertainty in measurement as of the
reporting date and not possible future changes.
it and 2) Clarification
that
• Additions: 1) Changes in unrealized gains and losses for the
period included in other comprehensive income for recurring
Level 3 fair value measurements held at the end of the
reporting period and 2) Range and weighted average of
significant unobservable inputs used to develop Level 3 fair
value measurements. Alternatively, an entity may disclose
other quantitative information (such as the median or
arithmetic average) if it determines that it is a more reasonable
and rational method to reflect the distribution of unobservable
inputs used.
ASU 2018-13 is effective for fiscal years, and interim periods
within those fiscal years, beginning after December 15, 2019, with
early adoption permitted. Disclosure amendments related to
changes in unrealized gains and losses included in other
comprehensive income (loss) for Level 3 instruments, the range
and weighted average of significant unobservable inputs, and the
narrative description of measurement uncertainty should be
applied prospectively only for the most recent interim or annual
period presented. All other disclosure amendments should be
applied retrospectively to all periods presented. Ambac will adopt
this ASU on January 1, 2020.
Measurement of Credit Losses on Financial Instruments
In June 2016, the FASB issued ASU 2016-13, Financial
Instruments-Credit Losses (Topic 326) - Measurement of Credit
Losses on Financial Instruments, subsequently amended by ASU
2018-19, Codification Improvements to Topic 326, Financial
Instruments - Credit Losses; ASU 2019-04, Codification
Improvements to Topic 326, Financial Instruments—Credit
Losses, Topic 815, Derivatives and Hedging, and Topic 825,
Financial Instruments; ASU 2019-05, Financial Instruments—
Credit Losses (Topic 326): Targeted Transition Relief ; and ASU
2019-11, Codification Improvements to Topic 326, Financial
Instruments - Credit Losses (collectively "the ASU").
The ASU significantly affects how reporting entities will measure
credit losses for financial assets that are not accounted for at fair
value through net income, which include loans, debt securities,
premium receivables, reinsurance recoverables, net investments in
leases and certain off-balance sheet credit exposures. The ASU
does not apply to recoveries of previously paid losses on financial
guarantee insurance contracts accounted for under ASC 944 nor
does it apply to equity method investments accounted for under
ASC 323.
• For financial assets measured at amortized cost, the ASU
replaces the "incurred loss" model, which generally delayed
recognition of the full amount of credit losses until the loss
was probable of occurring, with an "expected loss" model,
which reflects an entity's current estimate of all expected
lifetime credit losses. Expected lifetime credit losses for
amortized cost assets will be recorded as a valuation
allowance, with subsequent increases or decreases in the
allowance reflected in net income each period.
• For available-for-sale debt securities, credit losses under the
ASU will be measured similarly to current GAAP. However,
under the ASU, credit losses for available-for-sale debt
securities will be recorded as a valuation allowance (similar
to the amortized cost assets approach described above), rather
than as a direct write-down of the security as is required under
current GAAP. As a result, improvements to estimated credit
losses for available-for-sale debt securities will be recognized
immediately in net income rather than as interest income over
time.
| Ambac Financial Group, Inc. 54 2019 FORM 10-K |
For both amortized cost assets and available-for-sale debt
securities, our implementation process included updates to our
allowance documentation, reporting processes and related internal
controls.
Given the more significant changes to the amortized cost asset
credit model, the implementation process further included
identifying the inventory of assets impacted by this standard;
design and selection of a credit loss model; and identification of
new data requirements and data sources for model implementation.
Depending on the asset type, either a discounted cash flow or
probability of default/loss given default model will be used for
estimating the effect of lifetime losses and will incorporate any
necessary qualitative adjustments for model limitations.
The ASU is effective for SEC filers that are not eligible to be
smaller reporting companies for interim and annual periods
beginning after December 15, 2019. Ambac will adopt this ASU
effective January 1, 2020, using a modified retrospective approach.
While we do not expect the ASU to have a consequential impact
on Ambac's financial statements, we continue to assess all the
effects of adoption. We currently believe the most significant effect
will be increased disclosure requirements.
AMBAC ASSURANCE STATUTORY BASIS FINANCIAL
RESULTS
Ambac Assurance and Everspan's statutory financial statements
are prepared on the basis of accounting practices prescribed or
permitted by the OCI. OCI recognizes only statutory accounting
practices prescribed or permitted by the State of Wisconsin
(“SAP”) for determining and reporting the financial condition and
results of operations of an insurance company for determining its
solvency under Wisconsin Insurance Law. The National
Association of Insurance Commissioners (“NAIC”) Accounting
Practices and Procedures manual (“NAIC SAP”) has been adopted
as a component of prescribed practices by the State of Wisconsin.
OCI has prescribed or permitted additional accounting practices
for Ambac Assurance and Everspan which are described in Note
8. Insurance Regulatory Restrictions to the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K. As a
result of these prescribed and permitted practices, Ambac
Assurance’s policyholder surplus at December 31, 2019 and 2018
was less than NAIC SAP by $12 million and less than $42 million,
respectively.
Ambac Assurance’s statutory policyholder surplus and qualified
statutory capital (defined as the sum of policyholders surplus and
mandatory contingency reserves) were $1,088 million and $1,618
million at December 31, 2019, respectively, as compared to $1,152
million and $1,648 million at December 31, 2018, respectively. As
of December 31, 2019, statutory policyholder surplus and
qualified statutory capital included $574 million principal balance
of surplus notes outstanding, $365 million principal balance of
junior surplus notes outstanding and $138 million liquidation
preference of preferred stock outstanding. These surplus and junior
surplus notes (including related accrued interest of $472 million
that is not recorded under statutory basis accounting principles)
and preferred stock issued by Ambac Assurance are obligations
that have claims on the resources of Ambac Assurance that are
senior to AFG's equity and therefore impact AFG's ability to realize
residual value or receive dividends from Ambac Assurance.
The drivers to the net decrease in policyholder surplus were:
• Statutory net loss of $225 million for the year ended
December 31, 2019, primarily due to loss and loss expenses
from net adverse development on the insured portfolio,
operating expenses and impairment charges on loans to
subsidiaries, partially offset by net investment gains and
premiums earned;
• Contributions to contingency reserves of $35 million;
partially offset by
• Surplus benefits for (i) Ambac Assurance's receipt in
September 2019, in connection with an SEC action against
Citibank Global Markets Inc., of $142 million, (ii) the
recognition of a previous deferred gain from the 2015 sale of
Ballantyne bonds to Ambac UK of $28 million and (iii) an
increase of $17 million in the fair value of investment
securities that are recorded at the lower of amortized cost or
fair value.
As further discussed in "Financial Guarantees in Force" above in
the Management Discussion and Analysis section of this Form 10-
K, pursuant to the COFINA Plan of Adjustment that was effective
on February 12. 2019, Ambac Assurance commuted a significant
portion of its COFINA insured exposure. The commutation
transactions resulted in a reduction of Ambac Assurance's insured
exposure to COFINA by approximately 75% and an incurred loss
of $37 million in 2019, which was offset by accelerated earned
premiums of $31 million on the insured exposures being
commuted.
Ambac Assurance’s statutory surplus is sensitive to multiple
factors, including: (i) loss reserve development, (ii) approval by
OCI of principal or interest payments on existing surplus notes,
(iii) approval by OCI of principal or interest payments on existing
junior surplus notes, (iv) deterioration in the financial position of
Ambac Assurance subsidiaries that have their obligations
guaranteed by Ambac Assurance, (v) first time payment defaults
of insured obligations, which increase statutory loss reserves,
(vi) commutations of insurance policies or credit derivative
contracts at amounts that differ from the amount of liabilities
recorded, (vii) reinsurance contract terminations at amounts that
differ from net assets recorded, (viii) changes to the fair value of
investments carried at fair value, (ix) settlements or resolutions of
representation and warranty breach claims at amounts that differ
from amounts recorded, including failures to collect such amounts,
(x) realized gains and losses, including losses arising from other
than temporary impairments of investment securities, and
(xi) future changes to prescribed SAP practices by the OCI.
Under SAP, these amounts will be recorded as a liability once
approval for payment has been granted by OCI.
The significant differences between GAAP and SAP are that under
SAP:
• Loss reserves are only established for losses on guaranteed
obligations that have experienced a payment default in an
amount that is sufficient to cover the present value of the
anticipated defaulted debt service payments over the expected
period of default, less estimated recoveries under subrogation
rights (5.1% as prescribed by OCI). Under GAAP, in addition
to the establishment of loss reserves for defaulted obligations,
| Ambac Financial Group, Inc. 55 2019 FORM 10-K |
loss reserves are established (net of GAAP basis unearned
premium revenue) for obligations that have experienced
credit deterioration, but have not yet defaulted using a
weighted-average risk-free discount rate, currently at 2.1%.
• Mandatory contingency reserves are required based upon the
type of obligation insured, whereas GAAP does not require
such a reserve. Releases of the contingency reserves are
generally subject
to a
determination that the held reserves are deemed excessive.
to OCI approval and relate
• Investment grade fixed income investments are stated at
amortized cost and certain below investment grade fixed
income investments are reported at the lower of amortized
cost or fair value. Under GAAP, all fixed income investments
are reported at fair value.
• Wholly owned subsidiaries are not consolidated; rather, the
equity basis of accounting is utilized and the carrying values
of these investments are subject to admissibility tests.
• Variable interest entities ("VIE") are not required to be
assessed for consolidation. Under GAAP, a reporting entity
that has both the following characteristics is required to
consolidate the VIE: a) the power to direct the activities of
the VIE that most significantly impact the VIE’s economic
performance and b) the obligation to absorb losses of the VIE
or the right to receive benefits from the VIE that could
potentially be significant to the VIE. Ambac Assurance
generally has the obligation to absorb losses of VIEs that
could potentially be significant to the VIE as the result of its
guarantee of insured obligations issued by VIEs. For certain
VIEs Ambac Assurance has the power to direct the most
significant activities of the VIE and accordingly consolidates
the related VIEs under GAAP.
• All payments of principal and interest on the surplus notes
are subject to the approval of the OCI. Unpaid interest due
on the surplus notes is expensed when the approval for
payment of interest has been granted by the OCI. Under
GAAP, interest on surplus notes is accrued regardless of OCI
approval.
• Upfront premiums written are earned on a basis proportionate
to the remaining scheduled debt service to the original total
principal and interest insured. Installment premiums are
reflected in income pro-rata over the period covered by the
premium payment. When an insurance policy has been legally
defeased, the related portion of unearned premium revenue
is accelerated and recognized as premiums earned. Under
GAAP, premium revenues for both upfront and installment
premiums are earned over the life of the financial guarantee
contract in proportion to the insured principal amount
outstanding at each reporting date.
• Insurance
intangibles
that arose as a result of
the
implementation of Fresh Start reporting is not a concept
within SAP. This insurance intangible asset is amortized as
an expense on a level yield basis over the life of the related
insurance risks.
AMBAC UK FINANCIAL RESULTS UNDER UK
ACCOUNTING PRINCIPLES
Ambac UK is required to prepare financial statements under FRS
102 "The Financial Reporting Standard applicable in the UK and
Republic of Ireland." Ambac UK’s shareholder funds under
UK GAAP were £387 million at December 31, 2019, as compared
to £263 million at December 31, 2018. The increase in Ambac
UK’s shareholders’ funds was primarily due to the loss and loss
expenses benefit in the period following the restructuring and
commutation of Ballantyne coupled with the receipt of premiums
and return on investments. At December 31, 2019, the carrying
value of cash and investments was £470 million, a decrease from
£498 million at December 31, 2018. The decrease in cash and
investments is due to the impact of the restructuring and
commutation of Ballantyne as noted above, tax payments and
operating expenses partially offset by continued receipt of
premiums and net investment income in the period.
The significant differences between U.S. GAAP and UK GAAP
are that under UK GAAP:
• Loss reserves are only established for losses on guaranteed
obligations when, in the judgment of management, a
monetary default in the timely payment of debt service is
likely to occur, which would result in Ambac UK incurring a
loss. A loss provision is established in an amount that is
sufficient to cover the present value (currently using a
discount rate of 5.23%) of the anticipated defaulted debt
service payments over the expected period of default, less
estimated recoveries under subrogation rights. The discount
rate is equal to the lower of the rate of return on invested assets
for either the current year or the period covering the current
year plus the four previous years. Under U.S. GAAP, loss
reserves are established (net of U.S. GAAP basis unearned
premium revenue) for obligations that have experienced
credit deterioration, but have not yet defaulted using a
weighted-average risk-free discount rate.
• Investments in fixed income securities are stated at amortized
cost, subject
impairment
evaluation. Under U.S. GAAP, all bonds are reported at fair
value, also subject to an other-than-temporary impairment
evaluation.
to an other-than-temporary
• Purchases of Ambac UK insured securities are bifurcated into
an intrinsic and an Ambac UK claim based value. The
intrinsic value is recorded as an investment whereas the
Ambac UK claim based value is recorded as a claim payment
with an accompanying reduction in Ambac UK loss reserves.
Under U.S. GAAP, investments in Ambac UK insured
securities are reported as investments and do not reduce loss
reserves.
• Variable interest entities (“VIE”) are not required to be
assessed for consolidation. Under U.S. GAAP, a reporting
entity that has both the following characteristics is required
to consolidate the VIE: a) the power to direct the activities of
the VIE that most significantly impact the VIE’s economic
performance; and b) the obligation to absorb losses of the VIE
or the right to receive benefits from the VIE that could
potentially be significant to the VIE. Ambac generally has the
obligation to absorb losses of VIEs that could potentially be
significant to the VIE as the result of its guarantee of insured
obligations issued by VIEs. For certain VIEs Ambac UK has
the power to direct the most significant activities of the VIE
and accordingly consolidates the related VIEs under U.S.
GAAP.
• Upfront premiums written are earned on a basis proportionate
to the remaining scheduled debt service to the total principal
| Ambac Financial Group, Inc. 56 2019 FORM 10-K |
and interest insured. Installment premiums are reflected in
income pro-rata over the period covered by the premium
payment. Under U.S. GAAP, premium revenues for both
upfront and installment premiums are earned over the life of
the financial guarantee contract in proportion to the insured
principal amount outstanding at each reporting date.
• Insurance
intangibles
that arose as a result of
the
implementation of Fresh Start reporting is not a concept
within UK GAAP. Under U.S. GAAP, this insurance
intangible asset is amortized as an expense on a level yield
basis over the life of the related insurance risks.
Ambac UK is also required to prepare financial information in
accordance with the Solvency II Directive. The basis of
preparation of this information is significantly different from both
US GAAP and UK GAAP. The calculation of capital resources,
regulatory capital requirements and regulatory capital deficits
under Solvency II at December 31, 2019, will be be published on
Ambac's website during March. Final annual Solvency II data and
Ambac UK's annual Solvency and Financial Condition Report will
be published on Ambac's website on April 22, 2019.
Available capital resources under Solvency II were a surplus of
£187.5 million at December 31, 2019, (based on the quarterly
Solvency II filing made on February 11, 2019, which may be
subject to update in the final annual Solvency II filing noted above)
an improvement from a surplus of £94.9 million at December 31,
2018. Of these available capital resources the value eligible to
meet solvency capital requirements at December 31, 2019, was
£178 million in comparison to £90 million as at December 31,
2018. Eligible capital resources at December 31, 2019 and
December 31, 2018, are in comparison to regulatory capital
requirements of £208 million and £357 million, respectively.
Ambac UK is therefore deficient in terms of compliance with
applicable regulatory capital requirements by £30 million and £267
million at December 31, 2019 and December 31, 2018,
respectively. The regulators are aware of the deficiency in capital
resources as compared to capital requirements and dialogue
between Ambac UK management and its regulators remains
ongoing with respect to options for addressing the shortcoming,
although such options remain few.
NON-GAAP FINANCIAL MEASURES
In addition to reporting the Company’s quarterly financial results
in accordance with GAAP, the Company reports two non-GAAP
financial measures: Adjusted Earnings and Adjusted Book Value.
The most directly comparable GAAP measures are net income
attributable to common stockholders for Adjusted earnings and
Total Ambac Financial Group, Inc. stockholders’ equity for
Adjusted Book value. A non-GAAP financial measure is a
numerical measure of financial performance or financial position
that excludes (or includes) amounts that are included in (or
excluded from) the most directly comparable measure calculated
and presented in accordance with GAAP. We are presenting these
non-GAAP financial measures because they provide greater
transparency and enhanced visibility into the underlying drivers
of our business. Adjusted Earnings and Adjusted Book Value are
not substitutes for the Company’s GAAP reporting, should not be
viewed in isolation and may differ from similar reporting provided
by other companies, which may define non-GAAP measures
differently.
Ambac has a significant U.S. tax net operating loss (“NOL”) that
is offset by a full valuation allowance in the GAAP consolidated
financial statements. As a result of this and other considerations,
we utilized a 0% effective tax rate for non-GAAP adjustments;
which is subject to change.
The following paragraphs define each non-GAAP financial
measure and describe why it is useful. A reconciliation of the non-
GAAP financial measure and the most directly comparable GAAP
financial measure is also presented below.
Adjusted Earnings (Loss). Adjusted Earnings (Loss) is defined
as net income (loss) attributable to common stockholders, as
reported under GAAP, adjusted on an after-tax basis for the
following:
• Non-credit impairment fair value (gain) loss on credit
derivatives: Elimination of the non-credit impairment fair
value gains (losses) on credit derivatives, which is the amount
in excess of the present value of the expected estimated credit
losses. Such fair value adjustments are affected by, and in part
fluctuate with, changes in market factors such as interest rates
and credit spreads, including the market’s perception of
Ambac’s credit risk (“Ambac CVA”), and are not expected to
result in an economic gain or loss. These adjustments allow
for all financial guarantee contracts to be accounted for
consistent with the Financial Services – Insurance Topic of
ASC, whether or not they are subject to derivative accounting
rules.
• Insurance intangible amortization: Elimination of the
amortization of the financial guarantee insurance intangible
asset that arose as a result of the implementation of Fresh Start
reporting. These adjustments ensure that all financial
guarantee contracts are accounted for consistent with the
provisions of the Financial Services – Insurance Topic of the
ASC.
• Foreign exchange (gains) losses: Elimination of the foreign
exchange gains (losses) on the re-measurement of assets,
liabilities and transactions in non-functional currencies. This
adjustment eliminates the foreign exchange gains (losses) on
all assets, liabilities and transactions in non-functional
currencies, which enables users of our financial statements to
better view the business results without the impact of
fluctuations in foreign currency exchange rates and facilitates
period-to-period comparisons of Ambac's operating
performance.
• Fair value (gain) loss on interest rate derivative from Ambac
CVA: Elimination of the gains (losses) relating to Ambac’s
CVA on interest rate derivative contracts. Similar to credit
derivatives, fair values include the market’s perception of
Ambac’s credit risk and this adjustment only allows for such
gain or loss when realized.
| Ambac Financial Group, Inc. 57 2019 FORM 10-K |
The following table reconciles net income attributable to common stockholders to the non-GAAP measure, Adjusted Earnings on a total dollar
amount and per diluted share basis, for all periods presented:
($ in millions, except per share data)
Year Ended December 31,
$ Amount
Per Diluted
Share
$ Amount
Per Diluted
Share
$ Amount
Per Diluted
Share
Net income (loss) attributable to common stockholders
$
(216) $
(4.69) $
186
$
3.99
$
(329) $
(7.25)
2019
2018
2017
Adjustments:
Non-credit impairment fair value (gain) loss on credit
derivatives
Insurance intangible amortization
Foreign exchange (gains) losses
Fair value (gain) loss on interest rate derivatives from
Ambac CVA
Adjusted Earnings (Loss)
$
(1)
295
(12)
—
66
(0.03)
6.43
(0.26)
—
1
107
7
—
0.02
2.30
0.15
—
(11)
151
(21)
45
$
1.44
$
301
$
6.47
$
(165) $
(0.24)
3.33
(0.47)
0.99
(3.64)
Adjusted Book Value. Adjusted Book Value is defined as Total
Ambac Financial Group, Inc. stockholders’ equity as reported
under GAAP, adjusted for after-tax impact of the following:
• Non-credit impairment fair value losses on credit derivatives:
Elimination of the non-credit impairment fair value loss on
credit derivatives, which is the amount in excess of the present
value of the expected estimated economic credit loss. GAAP
fair values are affected by, and in part fluctuate with, changes
in market factors such as interest rates, credit spreads,
including Ambac’s CVA that are not expected to result in an
economic gain or loss. These adjustments allow for all
financial guarantee contracts to be accounted for within
Adjusted Book Value consistent with the provisions of the
Financial Services—Insurance Topic of the ASC, whether or
not they are subject to derivative accounting rules.
emergence
• Insurance intangible asset: Elimination of the financial
guarantee insurance intangible asset that arose as a result of
Ambac’s
the
from
implementation of Fresh Start reporting. This adjustment
ensures that all financial guarantee contracts are accounted
for within Adjusted Book Value consistent with the provisions
of the Financial Services—Insurance Topic of the ASC.
bankruptcy
and
• Ambac CVA on interest rate derivative liabilities: Elimination
of the gain relating to Ambac’s CVA on interest rate derivative
contracts. Similar to credit derivatives, fair values include the
market’s perception of Ambac’s credit risk and this
adjustment only allows for such gain when realized.
• Net unearned premiums and fees in excess of expected losses:
Addition of the value of the unearned premium revenue
("UPR") on financial guarantee contracts, in excess of
expected losses, net of reinsurance. This non-GAAP
adjustment presents the economics of UPR and expected
losses for financial guarantee contracts on a consistent basis.
In accordance with GAAP, stockholders’ equity reflects a
reduction for expected losses only to the extent they exceed
UPR. However, when expected losses are less than UPR for
a financial guarantee contract, neither expected losses nor
UPR have an impact on stockholders’ equity. This non-GAAP
adjustment adds UPR in excess of expected losses, net of
reinsurance, to stockholders’ equity for financial guarantee
contracts where expected losses are less than UPR.
a
as
• Net unrealized investment (gains) losses in Accumulated
Other Comprehensive Income: Elimination of the unrealized
gains and losses on the Company’s investments that are
recorded
accumulated other
component of
comprehensive income (“AOCI”). The AOCI component of
the fair value adjustment on the investment portfolio may
differ from realized gains and losses ultimately recognized
by the Company based on the Company’s investment strategy.
This adjustment only allows for such gains and losses in
Adjusted Book Value when realized.
| Ambac Financial Group, Inc. 58 2019 FORM 10-K |
The following table reconciles Total Ambac Financial Group, Inc. stockholders’ equity to the non-GAAP measure Adjusted Book Value on a
total dollar amount and per share basis, for all periods presented:
2019
2018
($ in millions, except per share data) December 31,
$ Amount
Per Share
$ Amount
Per Share
Total Ambac Financial Group, Inc. stockholders’ equity
$
1,477
$
32.41
$
1,592
$
35.12
Adjustments:
Non-credit impairment fair value losses on credit derivatives
Insurance intangible asset
Net unearned premiums and fees in excess of expected losses
Net unrealized investment (gains) losses in Accumulated Other Comprehensive Income
(Loss)
Adjusted Book Value
—
(427)
414
(151)
0.01
(9.37)
9.09
(3.31)
1
(719)
462
(86)
$
1,313
$
28.83
$
1,251
$
0.03
(15.87)
10.19
(1.89)
27.58
Factors that impact changes to Adjusted Book Value include many
of the same factors that impact Adjusted Earnings, including the
majority of revenues and expenses, but generally exclude
components of premium earnings since they are embedded in prior
period's Adjusted Book Value through the net unearned premiums
and fees in excess of expected losses adjustment. Net unearned
premiums and fees in excess of expected losses will affect Adjusted
Book Value for (i) changes to future premium assumptions (e.g.
expected term, interest rates, foreign currency rates, time passage)
and (ii) changes to expected losses for policies which do not exceed
their related unearned premiums. The Adjusted Book Value
increase from December 31, 2018 to December 31, 2019 was
primarily driven by Adjusted earnings.
Item 7A. Quantitative and Qualitative Disclosures
about Market Risk
Market risk represents the potential for losses that may result from
changes in the value of a financial instrument as a result of changes
in market conditions. The primary market risks that would impact
the value of Ambac’s financial instruments are interest rate risk,
credit spread risk and foreign currency risk. Below we discuss each
of these risks and the specific types of financial instruments
impacted. Senior managers are responsible for developing and
applying methods to measure risk. Ambac utilizes various systems,
models and sensitivity scenarios to monitor and manage market
risk. These models include estimates, made by management, which
utilize current and historical market information. The valuation
results from these models could differ materially from amounts
that would actually be realized in the market. Financial instruments
of VIEs that are consolidated as a result of Ambac's financial
guarantees are excluded from the market risk measures below.
increase) and long-term debt and the interest rate derivatives
portfolio (which produce net fair value gains as rates increase).
Ambac performs scenario testing to measure the potential for
losses in volatile markets. These scenario tests include parallel and
non-parallel shifts in the benchmark interest rate curve.
The interest rate derivatives portfolio is managed as an economic
hedge against the effects of rising interest rates elsewhere in the
Company, including on Ambac's financial guarantee exposures
(the "macro-hedge"). The interest rate sensitivity of the interest
rate derivatives portfolio attributable to the macro-hedge position
would produce mark-to-market gains or losses of approximately
$0.4 million for a 1 basis point parallel shift in USD benchmark
interest rates up or down at December 31, 2019.
The following table summarizes the estimated change in fair value
(based primarily on the valuation methodology discussed in Note
9. Fair Value Measurements to the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K) on these
financial instruments, assuming immediate changes in interest
rates at specified levels at December 31, 2019:
($ in millions)
300 Basis Point Rise
200 Basis Point Rise
100 Basis Point Rise
Base Scenario
100 Basis Point Decline(1)
200 Basis Point Decline(1)
Estimated
Change in
Net Fair
Value
Estimated
Net Fair
Value
$
$
30
17
7
—
(2)
15
(380)
(393)
(403)
(410)
(412)
(395)
Interest Rate Risk
(1)
Incorporates an interest rate floor of 0%
Financial instruments for which fair value may be affected by
changes in interest rates consist primarily of fixed income
investment securities, long-term debt and interest rate derivatives.
Fixed income investment securities that are guaranteed by Ambac
have interest rate risk characteristics that behave inversely to those
associated with future financial guarantee claim payments.
Accordingly, such securities are excluded from the interest rate
sensitivity table below.
Changes in fair value resulting from changes in interest rates are
driven primarily by the impact of interest rate shifts on the
investment portfolio (which produce net fair value losses as rates
Due to the low interest rate environment as of December 31, 2019,
stress scenarios involving interest rate declines greater than 200
basis points are not meaningful to Ambac's portfolios.
Interest rate increases would also have a negative economic impact
on expected future claim payments within the financial guarantee
portfolio, most notably for RMBS and student loan policies. An
increase in interest rates of 0.50% could increase our estimate of
expected losses for RMBS and student loans by approximately $45
million and $20 million, respectively.
| Ambac Financial Group, Inc. 59 2019 FORM 10-K |
Credit Spread Risk
Financial instruments that may be adversely affected by changes
in credit spreads include Ambac’s outstanding credit derivative
contracts, certain interest rate derivatives and investment assets.
Changes in spreads are generally caused by changes in the market’s
perception of the credit quality of the underlying obligor. Market
liquidity and prevailing risk premiums demanded by market
participants are also reflected in spreads and impact valuations.
The following table summarizes the estimated change in fair values
on Ambac’s net derivative liabilities assuming immediate parallel
shifts in reference obligation credit spreads related to written credit
derivatives and counterparty credit
to
uncollateralized interest rate derivatives at December 31, 2019. It
is more likely that actual changes in credit spreads will vary by
obligor:
spreads
related
($ in millions)
Estimated
Change in
Net Fair
Value
Estimated
Net Fair
Value
250 Basis Point Widening
$
(20) $
50 Basis Point Widening
Base Scenario
50 basis Point Narrowing
250 basis Point Narrowing
(4)
—
4
13
(35)
(19)
(15)
(11)
(2)
Also included in the fair value of derivatives is the effect of
Ambac’s creditworthiness, which reflects market perception of
Ambac’s ability to meet its obligations. Generally, the need for an
Ambac credit valuation adjustment is mitigated by the existence
of collateral posting agreements under which adequate collateral
has been posted. Derivative contracts entered into with credit
exposure to financial guarantee customers are not typically subject
to collateral posting agreements. As a result of runoff of
uncollateralized interest rate and credit default swap liabilities,
Ambac’s credit valuation adjustment included in the determination
of fair value has resulted in $0.1 million reduction to derivative
liabilities as of December 31, 2019. An increase in Ambac credit
spreads as much as 250 basis points would result in less than a $1
million impact to the fair value of derivatives at December 31,
2019. Refer to Note 9. Fair Value Measurements to the
Consolidated Financial Statements included in Part II, Item 8 in
this Form 10-K for further information on measurement of the
credit valuation adjustment.
Ambac’s fixed income investment portfolio contains securities
with different sensitivities to and volatility of credit spreads. Fixed
income securities that are guaranteed by Ambac and were
purchased in Ambac's investment portfolio have credit spread risk
characteristics that behave inversely to those associated with future
financial guarantee claim payments. Accordingly such securities
are excluded from the company's spread sensitivity measures. The
following table summarizes the estimated change in fair values of
Ambac’s fixed income investment portfolio assuming immediate
shifts in credit spreads across all holdings other than Ambac
guaranteed securities at December 31, 2019. It is more likely that
actual changes in credit spreads will vary by security:
($ in millions)
Estimated
Change in
Net Fair
Value
Estimated
Net Fair
Value
250 Basis Point Widening
$
(155) $
50 Basis Point Widening
Base Scenario
50 Basis Point Narrowing
250 Basis Point Narrowing
Foreign Currency Risk
(31)
—
30
71
2,189
2,313
2,344
2,374
2,415
Ambac has financial instruments denominated in currencies other
than the U.S. dollar, primarily pounds sterling and euros. These
financial instruments are primarily invested assets of Ambac UK.
The following table summarizes the estimated net change in fair
value of these financial instruments assuming immediate shifts in
spot foreign exchange rates to U.S. dollars as of December 31,
2019.
($ in millions)
Change in Foreign Exchange Rates Against U.S.
Dollar
20% Decrease
10% Decrease
10% Increase
20% Increase
Estimated
change in
fair value
$
(72)
(36)
36
72
| Ambac Financial Group, Inc. 60 2019 FORM 10-K |
Item 8.
Financial Statements and Supplementary Data
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Reports of Independent Registered Public Accounting Firm..................................................................................................................
62
Consolidated Financial Statements
Consolidated Balance Sheets..................................................
65 Consolidated Statements of Stockholders’ Equity .................
Consolidated Statements of Total Comprehensive Income
(Loss)......................................................................................
66 Consolidated Statements of Cash Flows ................................
67
68
Notes to Consolidated Financial Statements
Note 1. Background and Business Description ...................
Note 2. Basis of Presentation and Significant Accounting
Policies.................................................................................
Note 3. Variable Interest Entities .........................................
Note 4. Comprehensive Income ..........................................
Note 5. Net Income Per Share .............................................
Note 6. Financial Guarantees in Force ................................
Note 7. Financial Guarantee Insurance Contracts ...............
Note 8. Insurance Regulatory Restrictions ..........................
Note 9. Fair Value Measurements........................................
69
72
82
86
87
88
88
94
98
Note 10. Investments ...........................................................
107
Note 11. Derivative Instruments..........................................
113
Note 12. Loans.....................................................................
115
Note 13. Long-term Debt.....................................................
116
Note 14. Income Taxes ........................................................
118
Note 15. Employment Benefit Plans ...................................
120
Note 16. Leases....................................................................
123
Note 17. Commitments and Contingencies .........................
124
Note 18. Quarterly Information (Unaudited).......................
134
| Ambac Financial Group, Inc. 61 2019 FORM 10-K |
Report of Independent Registered Public Accounting Firm
Definition and Limitations of Internal Control Over Financial
Reporting
A company’s internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements
for external purposes in accordance with generally accepted
accounting principles. A company’s internal control over financial
reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of the assets of
the company; (2) provide reasonable assurance that transactions
are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management
and directors of the company; and (3) provide reasonable
assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the company’s assets that could
have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because
of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.
/s/ KPMG LLP
New York, New York
March 2, 2020
To the Stockholders and Board of Directors
Ambac Financial Group, Inc.:
Opinion on Internal Control Over Financial Reporting
Inc. and
We have audited Ambac Financial Group,
subsidiaries' (the Company) internal control over financial
reporting as of December 31, 2019, based on criteria established
in Internal Control - Integrated Framework (2013) issued by the
Committee of Sponsoring Organizations of the Treadway
Commission. In our opinion, the Company maintained, in all
material respects, effective internal control over financial reporting
as of December 31, 2019, based on criteria established in Internal
Control - Integrated Framework (2013) issued by the Committee
of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States)
(PCAOB), the consolidated balance sheets of the Company as of
December 31, 2019 and 2018, the related consolidated statements
of total comprehensive income (loss), stockholders’ equity, and
cash flows for each of the years in the three-year period ended
December 31, 2019, and the related notes and financial statement
schedules I, II and IV (collectively, the consolidated financial
statements), and our report dated March 2, 2020 expressed an
unqualified opinion on those consolidated financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining
effective internal control over financial reporting and for its
assessment of the effectiveness of internal control over financial
reporting, included in the accompanying Management’s Report on
Internal Control over Financial Reporting. Our responsibility is
to express an opinion on the Company’s internal control over
financial reporting based on our audit. We are a public accounting
firm registered with the PCAOB and are required to be independent
with respect to the Company in accordance with the U.S. federal
securities laws and the applicable rules and regulations of the
Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the
PCAOB. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all
material respects. Our audit of internal control over financial
reporting included obtaining an understanding of internal control
over financial reporting, assessing the risk that a material weakness
exists, and testing and evaluating the design and operating
effectiveness of internal control based on the assessed risk. Our
audit also included performing such other procedures as we
considered necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinion.
| Ambac Financial Group, Inc. 62 2019 FORM 10-K |
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Ambac Financial Group, Inc.:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of
Ambac Financial Group, Inc. and subsidiaries (the Company) as
of December 31, 2019 and 2018, the related consolidated
statements of total comprehensive income (loss), stockholders’
equity, and cash flows for each of the years in the three-year period
ended December 31, 2019, and the related notes and financial
statement schedules I, II and IV (collectively, the consolidated
financial statements). In our opinion, the consolidated financial
statements present fairly, in all material respects, the financial
position of the Company as of December 31, 2019 and 2018, and
the results of its operations and its cash flows for each of the years
in the three-year period ended December 31, 2019, in conformity
with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States)
(PCAOB), the Company’s internal control over financial reporting
as of December 31, 2019, based on criteria established in Internal
Control - Integrated Framework (2013) issued by the Committee
of Sponsoring Organizations of the Treadway Commission, and
our report dated March 2, 2020 expressed an unqualified opinion
on the effectiveness of the Company’s internal control over
financial reporting.
Basis for Opinion
These consolidated financial statements are the responsibility of
the Company’s management. Our responsibility is to express an
opinion on these consolidated financial statements based on our
audits. We are a public accounting firm registered with the PCAOB
and are required to be independent with respect to the Company
in accordance with the U.S. federal securities laws and the
applicable rules and regulations of the Securities and Exchange
Commission and the PCAOB.
financial
statements are
to obtain reasonable assurance about whether
We conducted our audits in accordance with the standards of the
PCAOB. Those standards require that we plan and perform the
audit
the
consolidated
free of material
misstatement, whether due to error or fraud. Our audits included
performing procedures to assess the risks of material misstatement
of the consolidated financial statements, whether due to error or
fraud, and performing procedures that respond to those risks. Such
procedures included examining, on a test basis, evidence regarding
the amounts and disclosures in the consolidated financial
statements. Our audits also included evaluating the accounting
principles used and significant estimates made by management, as
well as evaluating the overall presentation of the consolidated
financial statements. We believe that our audits provide a
reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising
from the current period audit of the consolidated financial
statements that was communicated or required to be communicated
to the audit committee and that: (1) relates to accounts or
disclosures that are material to the consolidated financial
statements and (2) involved our especially challenging, subjective,
or complex judgment. The communication of a critical audit matter
does not alter in any way our opinion on the consolidated financial
statements, taken as a whole, and we are not, by communicating
the critical audit matter below, providing a separate opinion on the
critical audit matter or on the accounts or disclosures to which it
relates.
Evaluation of the estimate of Loss and Loss Expense
Reserves and Subrogation Recoverable
As described in Notes 2 and 7 to the consolidated financial
statements, the Company estimates loss and loss expense
reserves and subrogation recoverable (loss reserves) on a
policy-by-policy basis, based upon the present value of
expected net claim cash outflows or expected net recovery
cash inflows, discounted at a risk-free rate. Expected net claim
cash outflows represent the present value of expected claim
cash outflows, less the present value of expected recovery
cash inflows. For such policies, a loss and loss expense
reserves liability is recorded for the present value of expected
net claim cash outflows in excess of the related unearned
premium revenue. Expected net recovery cash inflows
represent the present value of expected recovery cash inflows,
less the present value of expected claim cash outflows. For
such policies, a subrogation recoverable asset is recorded.
Loss and loss expense reserves and subrogation recoverable
were a liability of $1,548 million and an asset of $2,029
million, respectively, as of December 31, 2019.
We have identified the evaluation of loss reserves as a critical
audit matter because it involved significant measurement
uncertainty requiring subjective and complex auditor
judgment. The evaluation encompassed the assessment of the
loss reserve methodologies, including those methodologies
used to estimate the following key inputs and assumptions:
(1) credit worthiness of the issuer of the insured security, (2)
the likelihood of possible outcomes regarding the probability
of default by the issuer of the insured security, (3) the expected
loss severity for each insurance policy, (4) the probability of
remediation, settlement and restructuring outcomes, and (5)
the probability of successful litigation or related settlement
outcomes, as well as the percentage of the breach rates of
representations and warranties underlying certain insured
residential mortgage backed securities. The evaluation of the
methodologies and the impact of these key inputs and
assumptions required specialized skills and auditor judgment.
The primary procedures we performed to address this critical
audit matter included the following. We tested, with the
involvement of professionals with specialized industry
knowledge and experience, when necessary, certain internal
controls related to the determination of the key inputs and
assumptions and the analysis of the loss reserves and
historical trends. We inquired of internal and external legal
counsel and read letters received directly from the Company’s
internal and external legal counsel regarding the status of
litigation underlying certain insurance policies. We involved,
| Ambac Financial Group, Inc. 63 2019 FORM 10-K |
when necessary, credit professionals with specialized
industry knowledge and experience, who assisted in assessing
the individual issuer ratings for a selection of policies by
evaluating the financial performance of the issuer of the
insured security and underlying collateral. We involved, when
necessary, forensics professionals with specialized industry
knowledge and experience, who assisted in inspecting
underwriting documentation for a selection of mortgage loans
underlying certain insured residential mortgage backed
securities examined by the Company’s consultants engaged
to determine breach rates of representations and warranties.
We also involved, when necessary, valuation professionals
with specialized knowledge and experience, who assisted in:
•
•
•
Evaluating the loss and loss expense reserves and
subrogation
for
compliance with U.S. generally accepted accounting
principles;
recoverable methodologies
Evaluating, in certain instances, the key inputs and
assumptions used in the calculation of loss reserves
by comparing to internal experience and related
historical and industry trends; and
Developing, in certain instances, an independent
expectation of the loss reserves and comparing it to
the recorded estimate.
/s/ KPMG LLP
We have served as the Company’s auditor since 1985.
New York, New York
March 2, 2020
| Ambac Financial Group, Inc. 64 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(Dollars in millions, except share data) December 31,
2019
2018
Assets:
Investments:
Fixed income securities, at fair value (amortized cost of $2,450 and $3,020)
Short-term investments, at fair value (amortized cost of $653 and $430)
Short-term investments pledged as collateral, at fair value (amortized cost of $85 and $0)
Other investments (includes $432 and $351 at fair value)
Total investments
Cash and cash equivalents
Restricted cash
Premium receivables
Reinsurance recoverable on paid and unpaid losses
Deferred ceded premium
Subrogation recoverable
Derivative assets
Current taxes
Insurance intangible asset
Other assets
Variable interest entity assets:
Fixed income securities, at fair value
Restricted cash
Loans, at fair value
Derivative assets
Other assets
Total assets
Liabilities and Stockholders’ Equity:
Liabilities:
Unearned premiums
Loss and loss expense reserves
Ceded premiums payable
Deferred taxes
Long-term debt
Accrued interest payable
Derivative liabilities
Other liabilities
Variable interest entity liabilities:
Accrued interest payable
Long-term debt (includes $4,351 and $5,269 at fair value)
Derivative liabilities
Total liabilities
Commitments and contingencies (See Note 17)
Stockholders’ equity:
Preferred stock, par value $0.01 per share; 20,000,000 shares authorized shares; issued and outstanding shares—none
Common stock, par value $0.01 per share; 130,000,000 shares authorized; issued shares: 45,571,743 and 45,365,170
Additional paid-in capital
Accumulated other comprehensive income (loss)
Retained earnings
Treasury stock, shares at cost: 16,343 and 28,892
Total Ambac Financial Group, Inc. stockholders’ equity
Noncontrolling interest
Total stockholders’ equity
Total liabilities and stockholders’ equity
May not add due to rounding
See accompanying Notes to Consolidated Financial Statements
| Ambac Financial Group, Inc. 65 2019 FORM 10-K |
$
$
$
$
2,577
653
85
478
3,792
24
55
416
26
82
2,029
75
11
427
95
3,121
2
3,108
52
3
13,320
518
1,548
29
32
2,822
441
90
93
1
4,554
1,657
11,783
—
—
232
42
1,203
—
1,477
60
1,536
13,320
$
$
$
$
3,116
430
—
391
3,937
63
19
495
23
61
1,933
59
47
719
138
2,737
1
4,288
66
1
14,589
630
1,826
33
40
2,929
376
77
64
1
5,269
1,712
12,956
—
—
219
(49)
1,421
—
1,592
41
1,633
14,589
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Total Comprehensive Income (Loss)
(Dollars in millions, except share data) Year Ended December 31,
2019
2018
2017
Revenues:
Net premiums earned
Net investment income:
Securities available-for-sale and short-term
Other investments
Net investment income
Other-than-temporary impairment losses:
Total other-than-temporary impairment losses
Portion of other-than-temporary impairment recognized in other comprehensive income (loss)
Net other-than-temporary impairment losses recognized in earnings
Net realized investment gains (losses)
Net gains (losses) on derivative contracts
Net realized gains (losses) on extinguishment of debt
Other income
Income (loss) on variable interest entities
Total revenues
Expenses:
Losses and loss expenses (benefit)
Insurance intangible amortization
Operating expenses
Interest expense
Total expenses
Pre-tax income (loss)
Provision for income taxes
Net income (loss)
Less: loss on exchange of auction market preferred shares
Net income (loss) attributable to common stockholders
Other comprehensive income (loss), after tax:
Net income (loss)
Unrealized gains (losses) on securities, net of income tax provision (benefit) of $(8), $2 and $0
Gains (losses) on foreign currency translation, net of income tax provision (benefit) of $0, $0 and $0
Credit risk changes of fair value option liabilities, net of income tax provision (benefit) of $0, $0 and $0
Changes to postretirement benefit, net of income tax provision (benefit) of $0, $0 and $0
Total other comprehensive income (loss), net of income tax
Total comprehensive income (loss)
Less: loss on exchange of auction market preferred shares
Total comprehensive income (loss) attributable to common stockholders
Net income (loss) per share attributable to common stockholders:
Basic
Diluted
Weighted average number of common shares outstanding:
Basic
Diluted
May not add due to rounding
See accompanying Notes to Consolidated Financial Statements
$
66
$
111
$
196
32
227
—
—
—
81
(50)
—
134
38
496
13
295
103
269
680
(183)
32
(216)
—
(216) $
(216) $
65
26
—
(1)
91
(125)
—
(125) $
271
2
273
(3)
—
(3)
112
7
3
5
3
511
(224)
107
112
242
238
273
5
267
82
186
267
55
(48)
1
(2)
6
274
82
192
(4.69) $
(4.69) $
4.07
3.99
$
$
$
$
$
$
$
$
$
$
175
338
23
361
(55)
34
(20)
5
76
5
—
20
622
513
151
122
120
906
(284)
44
(329)
—
(329)
(329)
(82)
74
—
1
(7)
(335)
—
(335)
(7.25)
(7.25)
45,954,908
45,665,883
45,367,932
45,954,908
46,559,835
45,367,932
| Ambac Financial Group, Inc. 66 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders’ Equity
(Dollars in millions)
Total
Ambac Financial Group, Inc.
Retained
Earnings
Accumulated
Other
Comprehensive
Income (Loss)
Preferred
Stock
Common
Stock
Additional
Paid-in
Capital
Common
Stock Held
in Treasury,
at Cost
Noncontrolling
Interest
Balance at January 1, 2019
$
1,633
$
1,421
$
(49) $
— $
— $
219
$
— $
—
—
—
—
— $
—
—
—
—
— $
264
—
—
—
—
—
— $
—
—
—
—
(223)
41
— $
264
41
—
—
—
19
60
—
—
—
—
264
Total comprehensive income
(loss)
Stock-based compensation
Cost of shares (acquired) issued
under equity plan
Re-issuance of Ambac
Assurance auction market
preferred shares
(125)
12
(3)
19
Balance at December 31, 2019 $
1,536
Balance at January 1, 2018
$
1,645
Total comprehensive income
(loss)
Adjustment to initially apply
ASU 2016-01
Stock-based compensation
Cost of shares (acquired) issued
under equity plan
Exchange of auction market
preferred shares
274
—
12
(1)
(297)
Balance at December 31, 2018 $
1,633
Balance at January 1, 2017
$
1,978
$
$
$
$
(216)
—
(3)
—
1,203
1,234
267
3
—
(1)
$
$
(82)
1,421
1,558
$
$
Total comprehensive income
(loss)
Adjustment to initially apply
ASU 2018-02
Stock-based compensation
Cost of shares (acquired) issued
under equity plan
(335)
(329)
—
4
(2)
7
—
(2)
91
—
—
—
42
—
—
—
—
—
—
—
—
$
— $
— $
—
12
—
—
232
(52) $
— $
— $
200
6
(3)
—
—
—
—
—
—
—
—
—
—
—
—
—
(49) $
— $
— $
—
—
12
—
8
219
(39) $
— $
— $
195
(7)
(7)
—
—
—
—
—
—
—
—
—
—
—
—
4
—
$
$
$
$
Balance at December 31, 2017 $
1,645
$
1,234
$
(52) $
— $
— $
200
$
— $
May not add due to rounding
See accompanying Notes to Consolidated Financial Statements
| Ambac Financial Group, Inc. 67 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Dollars in millions) Year Ended December 31,
Cash flows from operating activities:
Net income (loss) attributable to common stockholders
Exchange for auction market preferred shares
Net income (loss)
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation and amortization
Amortization of bond premium and discount
Share-based compensation
Deferred income taxes
Current income taxes
Unearned premiums, net
Losses and loss expenses, net
Ceded premiums payable
Premium receivables
Accrued interest payable
Amortization of insurance intangible assets
Net mark-to-market (gains) losses
Net realized investment gains
Other-than-temporary impairment charges
(Gain) loss on extinguishment of debt
Variable interest entity activities
Derivative assets and liabilities
Other, net
Net cash used in operating activities
Cash flows from investing activities:
Proceeds from sales of bonds
Proceeds from matured bonds
Purchases of bonds
Proceeds from sales of other invested assets
Purchases of other invested assets
Change in short-term investments
Change in cash collateral receivable
Proceeds from paydowns of consolidated VIE assets
Other, net
Net cash provided by investing activities
Cash flows from financing activities:
Net proceeds from issuance of Tier 2 notes
Proceeds from issuance of Ambac UK debt
Proceeds from issuance of surplus notes
Paydowns of Ambac note
Paydowns of a secured borrowing
Payments for investment agreement draws
Payments for extinguishment of surplus notes
Payments for debt issuance costs
Issuance of auction market preferred shares of Ambac Assurance
Payments for auction market preferred shares
Tax payments related to shares withheld for share-based compensation plans
Payments of consolidated VIE liabilities
Net cash used in financing activities
Effect of foreign exchange on cash and cash equivalents
Net cash flow
Cash, cash equivalents, and restricted cash at beginning of period
Cash, cash equivalents, and restricted cash at end of period
May not add due to rounding
See accompanying Notes to Consolidated Financial Statements
2019
2018
2017
$
(216) $
—
(216)
$
186
82
267
—
(63)
12
1
35
(132)
(364)
(4)
77
87
295
(1)
(81)
—
—
(38)
(1)
80
(311)
1,212
379
(959)
81
(137)
(218)
100
543
(2)
1,000
—
12
—
(178)
—
—
—
—
19
—
(3)
(542)
(691)
—
(2)
83
81
$
1
(137)
12
7
(35)
(163)
(1,633)
(5)
91
9
107
1
(112)
3
(3)
(3)
(17)
67
(1,543)
1,248
432
(528)
159
(140)
127
(58)
349
—
1,588
240
—
24
(214)
(74)
—
(191)
(9)
—
(11)
(1)
(349)
(585)
—
(541)
625
83
$
$
(329)
—
(329)
1
(183)
4
32
(26)
(168)
400
(5)
77
50
151
(15)
(5)
20
(5)
(20)
(223)
22
(221)
2,139
814
(2,054)
350
(299)
(127)
123
235
(17)
1,163
—
—
—
—
(29)
(82)
(69)
—
—
—
(1)
(230)
(412)
(1)
529
96
625
| Ambac Financial Group, Inc. 68 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
1. BACKGROUND AND BUSINESS DESCRIPTION
Ambac Financial Group, Inc. (“AFG”), headquartered in New
York City, is a financial services holding company incorporated in
the state of Delaware on April 29, 1991. AFG provides financial
guarantee insurance policies through its principal operating
subsidiary, Ambac Assurance Corporation ("Ambac Assurance" or
"AAC") and its wholly owned subsidiary Ambac Assurance UK
Limited (“Ambac UK”), both of which have been in runoff since
2008. References to “Ambac,” the “Company,” “we,” “our,” and
“us” are to AFG and its subsidiaries, as the context requires.
subsidiary, Everspan
Insurance policies issued by Ambac Assurance and Ambac UK
generally guarantee payment when due of the principal and interest
on the obligations guaranteed. Ambac Assurance also has another
wholly-owned
Insurance Company
(formerly known as Everspan Financial Guarantee Corp.), which
has been in runoff since its acquisition in 1997. The deterioration
of Ambac Assurance’s financial condition resulting from losses in
its insured portfolio since 2007 has prevented Ambac Assurance
and Ambac UK from being able to write new business. The inability
to write new business has and will continue to negatively impact
Ambac’s future operations and financial results. Ambac
Assurance’s ability to pay dividends and, as a result, AFG’s
liquidity, have been significantly restricted by the deterioration of
Ambac Assurance’s financial condition and by the terms of the
Settlement Agreement, dated as of June 7, 2010, as amended (the
"Settlement Agreement"), by and among Ambac Assurance,
Ambac Credit Products LLC (“ACP”), AFG and certain
counterparties to credit default swaps with ACP that were
guaranteed by Ambac Assurance. Ambac Assurance is also
restricted in its ability to pay dividends pursuant to regulatory
restrictions; the Stipulation and Order among the Office of the
Commissioner of Insurance for the State of Wisconsin (“OCI”),
AFG and Ambac Assurance that became effective on February 12,
2018, as amended (the “Stipulation and Order”); the terms of the
indenture for the Tier 2 Notes (as defined below), which are
substantially similar to the terms of the Settlement Agreement in
this regard; and the terms of its Auction Market Preferred Shares
("AMPS"). It is highly unlikely that Ambac Assurance will be able
to make dividend payments to AFG for the foreseeable future.
Management reviews financial information, allocates resources
and measures financial performance on a consolidated basis. As a
result, the Company has a single reportable segment.
Limitations on Voting and Transfer of Common Stock
AFG’s Amended and Restated Certificate of Incorporation limits
voting and transfer rights of stockholders in significant ways.
Article IV contains voting restrictions applicable to any person
owning at least 10% of AFG's common stock so that such person
(including any group consisting of such person and any other
person with whom such person or any affiliate or associate of such
person has any agreement, contract, arrangement or understanding
with respect to acquiring, voting, holding or disposing of AFG’s
common stock) shall not be entitled to cast votes in excess of one
vote less than 10% of the votes entitled to be cast by all common
stock holders, except as otherwise approved by the OCI. Article
XII contains substantial restrictions on the ability to transfer AFG’s
common stock. In order to preserve certain tax benefits, subject
to limited exceptions, any attempted transfer of common stock
shall be prohibited and void to the extent that, as a result of such
transfer (or any series of transfers of which such transfer is a part),
either (i) any person or group of persons shall become a holder of
5% or more of the Company’s common stock or (ii) the percentage
stock ownership interest in AFG of any holder of 5% or more of
the Company’s common stock shall be increased (a “Prohibited
Transfer”). These restrictions shall not apply to an attempted
transfer if the transferor or the transferee obtains the written
approval of AFG’s Board of Directors to such transfer. A purported
transferee of a Prohibited Transfer shall not be recognized as a
stockholder of AFG for any purpose whatsoever in respect of the
securities which are the subject of the Prohibited Transfer (the
“Excess Securities”). Until the Excess Securities are acquired by
another person in a transfer that is not a Prohibited Transfer, the
purported transferee of a Prohibited Transfer shall not be entitled
with respect to such Excess Securities to any rights of stockholders
of AFG, including, without limitation, the right to vote such Excess
Securities and to receive dividends or distributions, whether
liquidating or otherwise, in respect thereof, if any. Once the Excess
Securities have been acquired in a transfer that is not a Prohibited
Transfer, the securities shall cease to be Excess Securities. If the
Board determines that a transfer of securities constitutes a
Prohibited Transfer then, upon written demand by AFG, the
purported transferee shall transfer or cause to be transferred any
certificate or other evidence of ownership of the Excess Securities
within the purported transferee’s possession or control, together
with any distributions paid by AFG with respect to such Excess
Securities, to an agent designated by AFG. Such agent shall
thereafter sell such Excess Securities and the proceeds of such sale
shall be distributed as set forth in the Amended and Restated
Certificate of Incorporation. If the purported transferee of a
Prohibited Transfer has resold the Excess Securities before
receiving such demand, such person shall be deemed to have sold
the Excess Securities for AFG’s agent and shall be required to
transfer to such agent the proceeds of such sale, which shall be
distributed as set forth in the Amended and Restated Certificate of
Incorporation.
Strategies to Enhance Shareholder Value
Since the exit from rehabilitation of Ambac Assurance’s
Segregated Account (as defined below) in February 2018, Ambac
has been focused on and continues to progress all key strategic
priorities, specifically:
• Active runoff of Ambac Assurance and its subsidiaries
through transaction terminations, policy commutations,
reinsurance, settlements and restructurings, with a focus on
our watch list credits and known and potential future
adversely classified credits, that we believe will improve our
risk profile, and maximizing the risk-adjusted return on
invested assets;
• Ongoing rationalization of Ambac's capital and liability
structures;
• Loss recovery through active litigation management and
exercise of contractual and legal rights;
| Ambac Financial Group, Inc. 69 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
• Ongoing review and adjustments focused on improving the
effectiveness and efficiency of Ambac's operating platform;
and
• Evaluation of opportunities in certain business sectors that
meet acceptable criteria that will generate long-term
stockholder value with attractive risk-adjusted returns.
With respect to our new business strategy, we continue to evaluate
and pursue strategic opportunities in credit, insurance, asset
management and other financial services that we believe would be
synergistic to Ambac and would leverage our core competencies.
While we have increased our efforts in evaluating such potential
opportunities, we continue to be measured and disciplined in our
approach as we seek to deploy our capital on opportunities that
will generate sustainable long-term shareholder value. Although
we are exploring new business opportunities for Ambac, no
assurance can be given that we will be able to identify or execute
a suitable transaction and/or obtain the financial and other
resources that may be required to finance the acquisition or
development of any new businesses or assets. Due to these factors,
as well as uncertainties relating to the ability of Ambac Assurance
to deliver value to Ambac, the value of our securities remains
speculative.
The execution of Ambac’s strategy to increase the value of its
investment in Ambac Assurance is subject to the restrictions set
forth in the Settlement Agreement, dated as of June 7, 2010 (the
"Settlement Agreement"), by and among Ambac Assurance,
Ambac Credit Products LLC ("ACP"), AFG and certain
counterparties to credit default swaps with ACP that were
guaranteed by Ambac Assurance, as well as the Stipulation and
Order (as defined in Note 1. Background and Business Description
to the Consolidated Financial Statements included in Part II, Item 8
of this Form 10-K) and in the indenture for the Tier 2 Notes (as
defined in Note 1. Background and Business Description to the
Consolidated Financial Statements included in Part II, Item 8 of
this Form 10-K), each of which requires OCI (as defined below)
and, under certain circumstances, holders of the debt instruments
benefiting from such restrictions, to approve certain actions taken
by or in respect of Ambac Assurance. In exercising its approval
rights, OCI will act for the benefit of policyholders, and will not
take into account the interests of Ambac. See Note 1. Background
and Business Description to the Consolidated Financial Statements
included in Part II, Item 8 in this Form 10-K for further
information.
Opportunities for remediating losses on poorly performing insured
transactions also depend on market conditions, including the
perception of Ambac Assurance’s creditworthiness, the structure
of the underlying risk and associated policy as well as other
counterparty specific factors. Ambac Assurance's ability to
commute policies or purchase certain investments may also be
limited by available liquidity.
The Segregated Account
In March 2010, Ambac Assurance established a Segregated
Account pursuant to Wisc. Stat. §611.24 (2) (the “Segregated
Account”) to segregate certain segments of Ambac Assurance’s
liabilities, and the Wisconsin Insurance Commissioner, acting as
rehabilitator (the "Rehabilitator") commenced rehabilitation
proceedings in the Dane County, Wisconsin Circuit Court (the
“Rehabilitation Court”) with respect to the Segregated Account
(the “Segregated Account Rehabilitation Proceedings”) in order to
permit OCI to facilitate an orderly run-off and/or settlement of the
liabilities allocated to the Segregated Account. On October 8,
2010, OCI filed a plan of rehabilitation for the Segregated Account
(the “Segregated Account Rehabilitation Plan”)
the
Rehabilitation Court, which was confirmed on January 24, 2011.
On June 11, 2014, the Rehabilitation Court approved amendments
to the Segregated Account Rehabilitation Plan and the Segregated
Account Rehabilitation Plan, as amended, became effective on
June 12, 2014. Policy obligations not allocated to the Segregated
Account remained in the General Account of Ambac Assurance,
and such policies in the General Account were not subject to and,
therefore, were not directly impacted by the Segregated Account
Rehabilitation Plan.
in
On February 12, 2018, the rehabilitation of the Segregated Account
was concluded pursuant to an amendment to the Segregated
Account Rehabilitation Plan (the "Second Amended Plan of
Rehabilitation"). The conclusion of the rehabilitation followed the
successful completion of Ambac's surplus note exchange offers
and consent solicitation, which, together with the satisfaction of
all conditions precedent to the effectiveness of the Second
Amended Plan of Rehabilitation, including the discharge of all
unpaid policy claims of the Segregated Account, including
accretion amounts thereon ("Deferred Amounts"), completed the
restructuring
Exit
Transactions") .
"Rehabilitation
transactions
(the
In exchange for an effective consideration package of 40% cash,
41% Secured Notes (as defined below) and 12.5% General
Account Surplus Notes (as defined below), paid in respect of
outstanding Deferred Amounts and General Account Surplus
Notes. Ambac Assurance received the following benefits as a result
of the completion of the Rehabilitation Exit Transactions:
• Satisfaction and discharge of all outstanding Deferred
Amounts (including accretion) of the Segregated Account,
totaling $3,857;
• Cancellation of $552 in principal amount outstanding, plus
accrued and unpaid interest of $257 thereon, of Ambac
Assurance's 5.1% surplus notes due 2020 (the "General
Account Surplus Notes"); and
• An effective discount of 6.5% on Deferred Amounts (applied
first against accretion) and on the outstanding amount of
principal and accrued and unpaid interest on tendered General
Account Surplus Notes.
AFG received $0.91 in principal amount of Secured Notes for each
$1.00 of Deferred Amounts (including accretion) that it held, and
provided a $0.09 discount in full satisfaction and discharge of its
Deferred Amount claims. AFG did not participate in the voluntary
surplus note exchange offers. Until the earlier of (i) June 8, 2020
and (ii) the date on which at least 25% of the principal amount of
General Account Surplus Notes (other than junior surplus notes)
are no longer outstanding, AFG has agreed to hold and not sell
General Account Surplus Notes (other than junior surplus notes)
which, as of June 30, 2017, had an aggregate of $60 of principal
amount and accrued and unpaid interest outstanding.
| Ambac Financial Group, Inc. 70 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The Secured Notes
A newly formed special purpose entity, Ambac LSNI, LLC
("Ambac LSNI") issued $2,154 of new secured notes (the “Secured
Notes”), secured by all assets of the special purpose entity, which
include a note issued by Ambac Assurance to the special purpose
entity (the "Ambac Note"), which is secured by a pledge of Ambac
Assurance’s right, title and interest in up to the first $1,400 of
proceeds (net of reinsurance) from certain litigations in which
Ambac Assurance seeks redress for breaches of representations
and warranties and/or fraud related to residential mortgage-backed
securitizations (the “RMBS Litigations”). In addition, the Ambac
Note is secured by cash and securities having a market value of
$197 as of December 31, 2019. Ambac Assurance also pledged
for the benefit of the holders of Secured Notes (other than Ambac
Assurance) the proceeds of the Secured Notes held by Ambac
Assurance from time to time, and issued a financial guaranty
insurance policy to a trustee for the benefit of holders of Secured
Notes irrevocably guarantying all principal and interest payments
in respect of the Secured Notes as and when such payments become
due and owing.
Prior to the Rehabilitation Exit Transactions, AFG and Ambac
Assurance owned securities that were insured by Ambac Assurance
and allocated to the Segregated Account. As a result of the
Rehabilitation Exit Transactions, AFG and Ambac Assurance
received $125 and $644, respectively, of par amount of Secured
Notes issued by Ambac LSNI. The current holdings of these
secured notes are reported in Investments in the Consolidated
Balance Sheets at their fair value.
Tier 2 Financing
On the effective date of the Rehabilitation Exit Transactions,
Ambac Assurance issued $240 of senior notes (the “Tier 2 Notes”)
secured by Ambac Assurance’s rights, title and interest in the cash
and non-cash proceeds (net of reinsurance) above $1,600 received
in connection with the RMBS Litigations. The indenture for the
Tier 2 Notes limits certain activities of Ambac Assurance and its
subsidiaries, such as issuing certain indebtedness; engaging in
mergers and similar transactions; disposing of assets; making
restricted payments; and creating or permitting liens (among other
restrictions and limitations). The indenture for the Tier 2 Notes
includes certain allowances with respect to these activities and
generally requires the approval of OCI and, in some cases, holders
of the Tier 2 Notes, for consents, waivers or amendments.
Bank Settlement Agreement Waiver and Amendment
As part of the Rehabilitation Exit Transactions, AFG and Ambac
Assurance received sufficient consents from holders of General
Account Surplus Notes for a waiver and amendment (the "BSA
Waiver and Amendment") of the Settlement Agreement. Among
other provisions, the BSA Waiver and Amendment includes
amendments to the Settlement Agreement that (i) eliminate the
requirement for Ambac Assurance to have "unaffiliated qualified
directors" on its Board of Directors; (ii) eliminate the prohibition
on new business activities; (iii) modify the restrictions on the
incurrence of indebtedness and other material obligations; (iv)
modify the restrictions on liens securing permitted indebtedness;
(v) modify restrictions applicable to junior surplus notes; and (vi)
modify restrictions on mergers or similar transactions. After giving
effect to the BSA Waiver and Amendment, the Settlement
Agreement continues to limit certain activities of Ambac
Assurance and its subsidiaries, such as issuing indebtedness;
engaging in mergers and similar transactions; disposing of assets;
making restricted payments; creating or permitting liens; engaging
in transactions with affiliates; modifying or creating tax sharing
agreements; and taking certain actions with respect to surplus notes
(among other restrictions and limitations). The Settlement
Agreement includes certain allowances with respect to these
activities and generally requires the approval of OCI and, in some
cases, holders of surplus notes issued pursuant to the Settlement
Agreement, for consents, waivers or amendments.
Stipulation and Order
Upon consummation of the Rehabilitation Exit Transactions, the
Stipulation and Order became effective. The Stipulation and Order
includes affirmative covenants, as well as restrictions on certain
business activities and transactions, of AFG and Ambac Assurance.
The Stipulation and Order has no fixed term and may be terminated
or modified only with the approval of OCI. OCI reserved the right
to modify or terminate the Stipulation and Order in a manner
consistent with the interests of policyholders, creditors and the
public generally.
August 2018 AMPS Exchange
At June 30, 2018, Ambac Assurance had 26,411 shares of issued
and outstanding AMPS with a liquidation preference of $660
(reported as noncontrolling interest of $264 on Ambac's balance
sheet).
On July 3, 2018, AFG and Ambac Assurance commenced an offer
to exchange (the “AMPS Exchange”) all of Ambac Assurance’s
outstanding AMPS for General Account Surplus Notes and, from
AFG, cash and warrants to purchase AFG's common stock. The
General Account Surplus Notes offered in the AMPS Exchange
have the same terms as other outstanding surplus notes of Ambac
Assurance (other than junior surplus notes). The offering period
for the AMPS Exchange expired on August 1, 2018 and the
transaction closed on August 3, 2018 (the "Settlement Date").
In exchange for each AMPS share (i.e. $25 thousand of liquidation
preference), holders received General Account Surplus Notes with
a total outstanding amount (including accrued and unpaid interest
thereon through June 22, 2018 (the "Signing Date")) equal to
$13.875 thousand (the “Repurchase”). AMPS holders who
tendered on or before July 17, 2018, representing 22,096 shares of
the AMPS, also received from AFG $0.500 in cash and 37.3076
warrants (rounded down to the nearest whole warrant) to purchase
an equivalent number of shares of common stock of AFG at an
exercise price of $16.67 per share (the “AFG Purchase” and,
together with the Repurchase, the “Purchases”).
As a result of the completion of the Purchases, Ambac:
1) Repurchased 84.4% or 22,296 AMPS with an aggregate
liquidation preference of $557, including $35 in aggregate
liquidation preference in the AFG Purchase;
2) Captured a nominal discount of approximately $227 (a
discount of approximately $253 on a fair market value basis)
on $557 of the total outstanding liquidation preference of
AMPS; and
| Ambac Financial Group, Inc. 71 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
3)
Issued, in aggregate, $213 in current principal amount of
General Account Surplus Notes with accrued interest
thereon on Settlement Date of $98, issued 824,307 warrants
and paid $11 in cash.
The AMPS are reported on the balance sheet within non-
controlling interests and are carried at their fair value at the date
AFG emerged from bankruptcy in April 2013, which is lower than
the fair value of the total consideration provided to the AMPS
holders in the Purchases. The difference between the fair value of
consideration provided to AMPS holders and the carrying amount
of the AMPS was reflected as a reduction to Net income attributable
to common stockholders in 2018 for approximately $82.
At December 31, 2019, and December 31, 2018, Ambac Assurance
had 5,501 and 4,115 shares of issued and outstanding AMPS with
a liquidation preference of $138 and $103 (reported as
noncontrolling interest of $60 and $41 on Ambac's balance sheet).
The increase resulted from the re-issuance of 1,386 shares from
the sale of AFG owned AMPS during 2019.
2. BASIS OF PRESENTATION AND SIGNIFICANT
ACCOUNTING POLICIES
Ambac’s consolidated financial statements have been prepared on
the basis of U.S. generally accepted accounting principles
(“GAAP”). The preparation of financial statements in conformity
with GAAP requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities,
revenues, expenses and disclosures. Such estimates that are
particularly susceptible to change are used in connection with
certain fair value measurements, valuation of loss reserves for non-
derivative insurance policies and the valuation allowance on the
deferred tax asset, any of which individually could be material.
Consolidation
in accordance with
the primary beneficiary
The consolidated financial statements include the accounts of AFG
and all other entities in which AFG (directly or through its
subsidiaries) has a controlling financial interest, including variable
interest entities (“VIEs”) for which AFG or an AFG subsidiary is
deemed
the
Consolidation Topic of the Accounting Standards Codification
("ASC"). All significant intercompany balances have been
eliminated. The usual condition for a controlling financial interest
is ownership of a majority of the voting interests of an entity.
However, a controlling financial interest may also exist in entities,
such as VIEs, through arrangements that do not involve controlling
voting interests. A VIE is an entity: a) that lacks enough equity
investment at risk to permit the entity to finance its activities
without additional subordinated financial support from other
parties; or b) where the group of equity holders does not have:
(1) the power, through voting rights or similar rights, to direct the
activities of an entity that most significantly impact the entity’s
economic performance; (2) the obligation to absorb the entity’s
expected losses; or (3) the right to receive the entity’s expected
residual returns. The determination of whether a variable interest
holder is the primary beneficiary involves performing a qualitative
analysis of the VIE that includes, among other factors, its capital
structure, contractual terms including the rights of each variable
interest holder, the activities of the VIE, whether the variable
interest holder has the power to direct the activities of a VIE that
most significantly impact the VIE’s economic performance,
whether the variable interest holder has the obligation to absorb
losses of the VIE that could potentially be significant to the VIE
or the right to receive benefits from the VIE that could potentially
be significant to the VIE, related party relationships and the design
of the VIE. An entity that is deemed the primary beneficiary of a
VIE is required to consolidate the VIE. Refer to Note 3. Variable
Interest Entities, for a detailed discussion of Ambac’s involvement
in VIEs, Ambac’s methodology for determining whether Ambac
is required to consolidate a VIE and the effects of VIEs being
consolidated.
AFG Unconsolidated Financial Information
Financial information of AFG is presented in Schedule II to this
Form 10-K as of December 31, 2019 and 2018 and for the years
ended December 31, 2019, 2018 and 2017. Investments in
subsidiaries are accounted for using the equity method of
accounting in Schedule II.
Investments
The Investments - Debt Securities Topic of the ASC requires that
all debt instruments be classified in Ambac’s Consolidated Balance
Sheets according to their purpose and, depending on that
classification, be carried at either cost or fair market value.
Ambac’s non-VIE debt investment portfolio is accounted for on a
trade-date basis and consists primarily of investments in fixed
income securities that are considered available-for-sale as defined
by the Investments - Debt Securities Topic of the ASC. Available-
for-sale debt securities are reported in the financial statements at
fair value with unrealized gains and losses, net of deferred taxes,
reflected in Accumulated Other Comprehensive Income (Loss) in
Stockholders’ Equity and computed using amortized cost as the
basis. For purposes of computing amortized cost, premiums and
discounts are accounted for using the effective interest method over
a future term of the security. For structured debt securities with a
large underlying pool of homogenous loans, such as mortgage-
backed and asset-backed securities, premiums and discounts are
adjusted for the effects of actual and anticipated prepayments. For
other fixed income securities, such as corporate and municipal
bonds, discounts were amortized or accreted over the remaining
term of the securities. Ambac adopted ASU 2017-08, Receivables-
Nonrefundable Fees and Other Costs (Subtopic 310-20) - Premium
Amortization on Purchased Callable Debt Securities, on January
1, 2019. ASU 2017-08 shortened the amortization period for the
premium on callable debt securities to the earliest call date. Under
previous GAAP, Ambac generally amortized the premium over the
contractual life (i.e. maturity) of the debt security and if that debt
security was called, we would record a loss equal to the
unamortized premium.
Ambac’s non-VIE investment portfolio also includes equity
interests in pooled investment funds which are accounted for in
accordance with the Investments - Equity Securities Topic of the
ASC and reported as Other investments on the Consolidated
Balance Sheet with income reported through Net investment
income on the Statement of Total Comprehensive Income (Loss).
Equity interests in the form of common stock or in-substance
common stock are classified as trading securities and reported at
| Ambac Financial Group, Inc. 72 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
fair value while limited partner interests in such funds are reported
using the equity method.
Fair value is based primarily on quotes obtained from independent
market sources. When quotes are not available or cannot be
reasonably corroborated, valuation models are used to estimate fair
value. These models include estimates, made by management,
which utilize current market information. The quotes received or
modeled valuations could differ materially from amounts that
would actually be realized in the market. Realized gains and losses
on the sale of investments are determined on the basis of specific
identification.
VIE investments in fixed income securities are carried at fair value
as they are either considered as available for sale securities or under
the fair value option election. For additional information about VIE
investments, including fair value by asset-type, see Note 3.
Variable Interest Entities.
Ambac has a formal impairment review process for fixed income
available-for-sale securities in its investment portfolio. Ambac
conducts a review each quarter to identify and evaluate investments
that have indications of impairment that may be other than
temporary in accordance with the Investments - Debt Securities
Topic of the ASC. Factors considered to identify and assess
securities for other than temporary impairment include: (i) fair
values that have declined by 20% or more below amortized cost;
(ii) market values that have declined by 5% or more but less than
20% below amortized cost for a continuous period of at least six
months; (iii) recent downgrades by rating agencies; (iv) the
financial condition of the issuer and financial guarantor, as
applicable, and an analysis of projected defaults on the underlying
collateral; (v) whether scheduled interest payments are past due;
(vi) whether Ambac has the intent to sell the security; and (vii)
whether it is more likely than not that Ambac will be required to
sell a security before the anticipated recovery of its amortized cost
basis. If we believe a decline in the fair value of a particular
investment is temporary, we record the decline as an unrealized
loss net of tax in Accumulated Other Comprehensive Income
(Loss) in Stockholders’ Equity on our Consolidated Balance
Sheets. If management either: (i) has the intent to sell its investment
in a debt security or (ii) determines that the Company more likely
than not will be required to sell the debt security before its
anticipated recovery of the amortized cost basis less any current
period credit
then an other-than-temporary
impairment charge is recognized in earnings, with the amortized
cost of the security being written-down to fair value. If these
conditions are not met, but it is determined that a credit loss exists,
the credit impairment loss is recognized in earnings, and the other-
than-temporary amount related to all other factors is recognized in
other comprehensive income. For fixed income securities that have
other-than-temporary impairments in a period, the previous
amortized cost of the security less the amount of the other-than-
temporary impairment recorded through earnings becomes the
investment’s new amortized cost basis. Ambac accretes the new
amortized cost basis to par or to the estimated future cash flows to
be recovered over the expected remaining life of the security.
impairment,
The evaluation of securities for impairment is a quantitative and
qualitative process, which is subject to risks and uncertainties and
is intended to determine whether, and to what extent, declines in
the fair value of investments should be recognized in current period
earnings. The risks and uncertainties include changes in general
economic conditions, the issuer’s or guarantor’s financial
condition and/or future prospects, the impact of regulatory actions
on the investment portfolio, the performance of the underlying
collateral, the effects of changes in interest rates or credit spreads
and the expected recovery period. With respect to Ambac insured
securities owned, future cash flows used to measure credit
impairment represents the sum of (i) the bond’s intrinsic cash flows
and (ii) the estimated Ambac Assurance claim payments. Prior to
the discharge and settlement of the Segregated Account's claim
obligations on February 12, 2018, the estimate of Ambac's
Segregated Account claim payments, including interest on
Deferred Amounts, was an important consideration in the
evaluation of other than temporary impairment as such payments
were at the sole discretion of the Rehabilitator. Refer to Note 1.
Background and Business Description for more information on the
Segregated Account and the Segregated Account Rehabilitation
Proceedings. Ambac’s assessment about whether a decline in value
is other-than-temporary reflects management’s current judgment
regarding facts and circumstances specific to a security and the
factors noted above. If that judgment changes, Ambac may
ultimately record a charge for other-than-temporary impairment in
future periods.
Net Premiums
Gross premiums were received either upfront or in installments.
For premiums received upfront, an unearned premium revenue
(“UPR”) liability was established, which was initially recorded as
the cash amount received. For installment premium transactions,
a premium receivable asset and offsetting UPR liability was
initially established in an amount equal to: (i) the present value of
future contractual premiums due (the “contractual” method) or
(ii) if the underlying insured obligation is a homogenous pool of
assets which are contractually prepayable, the present value of
premiums to be collected over the expected life of the transaction
(the “expected” method). An appropriate
rate
corresponding to the weighted average life of each policy and
currency is used to discount the future premiums contractually due
or expected to be collected. For example, U.S. dollar exposures
are discounted using U.S. Treasury rates while exposures
denominated in a foreign currency are discounted using the
appropriate risk-free rate for the respective currency. The weighted
average risk-free rate at December 31, 2019 and 2018, was 2.4%.
and 2.7%, respectively, and the weighted average period of future
premiums used
the premium receivable at
December 31, 2019 and 2018, was 8.5 and 8.7 years, respectively.
to estimate
risk-free
include
Insured obligations consisting of homogeneous pools for which
Ambac uses expected future premiums to estimate the premium
receivable
residential mortgage-backed securities
("RMBS"). As prepayment assumptions change for homogenous
pool transactions, or if there is an actual prepayment for a
“contractual” method installment transaction, the related premium
receivable and UPR are adjusted in equal and offsetting amounts
with no immediate effect on earnings using new premium cash
flows and the then current risk-free rate corresponding to the initial
weighted average life of the related policy.
| Ambac Financial Group, Inc. 73 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
For both upfront and installment premium policies, premium
revenues are earned over the life of the financial guarantee contract
in proportion to the insured principal amount outstanding at each
reporting date (referred to as the level-yield method). For
installment paying policies, the premium receivable discount,
equating to the difference between the undiscounted future
installment premiums and the present value of future installment
premiums, is accreted as premiums earned in proportion to the
premium receivable balance at each reporting date.
Additionally, the Company evaluates whether any premiums
receivable are uncollectible at each balance sheet date and records
an allowance for policies with a premium receivable impairment
based on our expectation.
Similar to gross premiums, premiums ceded to reinsurers were
paid either upfront or in installments. For premiums paid upfront,
a deferred ceded premium asset was established which is initially
recorded as the cash amount paid. For installment premiums, a
ceded premiums payable liability and offsetting deferred ceded
premium asset were initially established in an amount equal to: i)
the present value of future contractual premiums due or ii) if the
underlying insured obligation is a homogenous pool of assets, the
present value of expected premiums to be paid over the life of the
transaction. An appropriate risk-free rate corresponding to the
weighted average life of each policy and exposure currency is used
to discount the future premiums contractually due or expected to
be collected. Premiums ceded to reinsurers reduce the amount of
premiums earned by Ambac from its financial guarantee insurance
policies. For both upfront and installment premiums, ceded
premiums written are primarily recognized in earnings in
proportion to and at the same time as the related gross premium
revenue is recognized. For premiums paid to reinsurers on an
installment basis, Ambac records the present value of future ceding
commissions as an offset to ceded premiums payable, using the
same assumptions noted above for installment premiums.
When a bond issue insured by Ambac has been retired early,
typically due to an issuer call, any remaining UPR is recognized
at that time to the extent the financial guarantee contract is legally
extinguished, causing accelerated premium
revenue. For
installment premium paying transactions, we offset the recognition
of any remaining UPR by the reduction of the related premium
receivable to zero (as it will not be collected as a result of the
retirement), which may cause negative accelerated premium
revenue. Certain obligations insured by Ambac have been legally
defeased whereby government securities are purchased by the
issuer with the proceeds of a new bond issuance, or less frequently
with other funds of the issuer, and held in escrow. The principal
and interest received from the escrowed securities are then used
to retire the Ambac-insured obligations at a future date either to
their maturity date (a refunding) or a specified call date (a pre-
refunding). Ambac has evaluated the provisions in policies issued
on these obligations and determined those insurance policies have
not been legally extinguished. For policies with refunding
securities, premium revenue recognition is not impacted as the
escrowed maturity date is the same as the previous legal maturity
date. For policies with pre-refunding securities, the maturity date
of the pre-refunded security has been shortened from its previous
legal maturity. Although premium revenue recognition has not
been accelerated in the period of the pre-refunding, it results in an
increase in the rate at which the policy's remaining UPR is to be
recognized.
Loans
Loans are reported at either their outstanding principal balance less
unamortized discount or at fair value.
• Loans not held by consolidated VIEs are reported at their
outstanding principal balance less unamortized discount and
are reported within Other assets on the Consolidated Balance
Sheet. Interest income is earned using the effective interest
method based upon interest accrued on the unpaid principal
balance adjusted for accretion of discounts. A loan is
considered impaired when, based on the financial condition
of the borrower, it is probable that Ambac will be unable to
collect all principal and interest due according to the
contractual terms of the loan agreement.
• Loans held by VIEs consolidated as required under the
Consolidation Topic of the ASC are carried at fair value under
the fair value option election with changes in fair value
recorded in Income (loss) on variable interest entities on the
Consolidated Statements of Total Comprehensive Income
(Loss). Such loans are reported as Loans, at fair value within
the Variable interest entity assets section of the Consolidated
Balance Sheet.
Derivative Contracts
The Company has entered into derivative contracts both for trading
purposes and to hedge certain economic risks inherent in its
financial asset and liability portfolios. None of Ambac’s derivative
contracts are designated as hedges under the Derivatives and
Hedging Topic of the ASC. Ambac's derivatives consist primarily
of interest rate swaps and futures contracts.
• Ambac maintains a portfolio consisting primarily of interest
rate swaps and futures contracts to economically hedge
interest rate risk in the financial guarantee and investment
portfolios. This portfolio also includes legacy interest rate
swaps with asset-backed securitization issuers, states,
municipalities and their authorities which were written in
connection with their financings. Changes in fair value of
these interest rate derivatives are recorded, along with
changes in fair value of Ambac's remaining credit
derivatives, within Net gains (losses) on derivative contracts
on the Consolidated Statements of Total Comprehensive
Income (Loss).
• VIEs consolidated under the Consolidation Topic of the ASC
entered into derivative contracts to meet specified purposes
within their securitization structure. Changes in fair value
of consolidated VIE derivatives are included within Income
(loss) on variable interest entities on the Consolidated
Statements of Total Comprehensive Income (Loss).
All derivatives are recorded on the Consolidated Balance Sheets
at fair value on a gross basis; assets and liabilities are netted by
counterparty only when a legal right of offset exists. Variation
payments on centrally cleared swaps and futures contracts are
considered settlements of the associated derivative balances and
are reflected as a reduction to derivative liabilities or assets on the
Consolidated Balance Sheets. For other derivatives, Ambac has
| Ambac Financial Group, Inc. 74 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
determined that the amounts recognized for the right to reclaim
cash collateral or the obligation to return cash collateral may not
be used to offset amounts due under the derivative instruments in
the normal course of settlement. Therefore, such amounts are not
offset against fair value amounts recognized for derivative
instruments executed with the same counterparty under the same
master netting arrangement and are included in "Other assets" on
the Consolidated Balance Sheets. Refer to Note 11. Derivative
Instruments for further discussion of the Company’s use of
derivative instruments and their impact of the consolidated
financial statements. Refer to Note 9. Fair Value Measurements
for further description of the methodologies used to determine the
fair value of derivative contracts, including model inputs and
assumptions where applicable.
Insurance Intangible Asset
Upon Ambac's emergence from bankruptcy in 2013, an insurance
intangible asset was recorded which represented the difference
between the fair value and aggregate carrying value of the financial
guarantee insurance and reinsurance assets and liabilities. The
carrying values of our financial guarantee insurance and
reinsurance contracts continue to be reported and measured in
accordance with their existing accounting policies. Pursuant to the
Financial Services-Insurance Topic of the ASC, the insurance
intangible is to be measured on a basis consistent with the related
financial guarantee insurance and reinsurance contracts. The
insurance intangible asset is amortized using a level-yield method
based on par exposure of the related financial guarantee insurance
or reinsurance contracts and is applied to groups of contracts with
similar characteristics.
Restricted Cash
Cash that we do not have the right to use for general purposes is
recorded as restricted cash in our consolidated balance sheets.
Restricted cash includes (i) consolidated variable interest entity
cash restricted to support the obligations of the consolidated VIEs
and (ii) cash held by Ambac Assurance received from its
investment in Secured Notes and pledged for the benefit of holders
of Secured Notes (other than Ambac Assurance).
Loss and Loss Expenses
The loss and loss expense reserve (“loss reserve”) policy relates
only to Ambac’s non-derivative insurance business for insurance
policies issued to beneficiaries, including VIEs, for which we do
not consolidate the VIE. Losses and loss expenses are based upon
estimates of the ultimate aggregate losses inherent in the non-
derivative financial guarantee portfolio as of the reporting date.
The policy for derivative contracts is discussed in the “Derivative
Contracts” section above.
A loss reserve is recorded on the balance sheet on a policy-by-
policy basis based upon the present value ("PV") of expected net
claim cash outflows or expected net recovery cash inflows,
discounted at risk-free rates. The estimate for future net cash flows
consider the likelihood of all possible outcomes that may occur
from missed principal and/or interest payments on the insured
obligation. This estimate also considers future recoveries related
to breaches of contractual representations and warranties by RMBS
transaction sponsors, remediation strategies, excess spread and
other contractual cash flows on public finance and structured
finance transactions (including RMBS). Ambac’s approach to
resolving disputes involving contractual breaches by transaction
sponsors or other third parties has included negotiations and/or
pursuing litigation. Ambac does not estimate recoveries for
litigations where its sole claim is for fraudulent inducement, since
any remedies under such claims would be non-contractual.
• Net claim cash outflow policies represent contracts where the
PV of expected cash outflows are greater than the PV of
expected recovery cash inflows. For such policies, a “Loss
and loss expense reserves” liability is recorded for the excess
of the PV of expected net claim cash outflows over the
unearned premium revenue.
• Net recovery cash inflow policies represent contracts where
the PV of expected recovery cash inflows are greater than the
PV of expected claim cash outflows. For such policies, a
“Subrogation recoverable” asset is recorded.
from period
to period and update
The evaluation process for determining expected losses is subject
to certain judgments based on our assumptions regarding the
probability of default by the issuer of the insured security,
probability of settlement outcomes (which may
include
commutation settlements, refinancing and/or other settlement
outcomes) and expected severity of credits for each insurance
contract. Ambac’s loss reserves are based on management’s
ongoing review of the financial guarantee credit portfolio. Active
surveillance of the insured portfolio enables Ambac’s Risk
Management Group ("RMG") to track credit migration of insured
obligations
internal
classifications and credit ratings for each transaction. Non-
adversely classified credits are assigned a Class I rating while
adversely classified credits are assigned a rating of Class IA
through Class V. The criteria for an exposure to be assigned an
adversely classified credit rating includes the deterioration of an
issuer’s financial condition, underperformance of the underlying
collateral (for collateral dependent transactions such as mortgage-
backed or student loan securitizations), poor performance by the
servicer of the underlying collateral and other adverse economic
events or trends. The servicer of the underlying collateral of an
insured securitization transaction is a consideration in assessing
credit quality because the servicer’s performance can directly
impact the performance of the related issue. For example, a servicer
of a mortgage-backed securitization that does not remain current
in its collection efforts could cause an increase in the delinquency
and the potential for default of the underlying obligation. Similarly,
loss severities increase when a servicer does not effectively handle
loss mitigation activities such as (i) the advancing of delinquent
principal and interest and of default related expenses which are
deemed to be recoverable by the servicer, (ii) pursuit of loan
charge-offs which maximize cash flows from the mortgage loan
pool and (iii) foreclosure and real estate owned disposition
strategies and timelines.
All credits are assigned risk classifications by RMG using the
following guidelines:
CLASS I - “Fully Performing - Meets Ambac Criteria with Remote
Probability of Claim” - Credits that demonstrate adequate security
and structural protection with a strong capacity to pay interest,
repay principal and perform as underwritten. Factors supporting
| Ambac Financial Group, Inc. 75 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
debt service payment and performance are considered unlikely to
change and any such change would not have a negative impact
upon
fundamental credit quality. Through ongoing
surveillance, Ambac may also designate Class I credits into one or
more of the following categories:
the
• Survey List - credits that may lack information or demonstrate
a weakness but further deterioration is not expected.
• Watch List - credits that demonstrate the potential for future
material adverse development due to such factors as long-
term uncertainty about a particular sector, a certain structural
element or concern related to the issuer or transaction or the
overall financial and economic sustainability.
CLASS IA - “Potential Problem with Risks to be Dimensioned” -
Credits that are fully current and monetary default or claims-
payment are not anticipated. The payor’s or issuer’s financial
condition may be deteriorating or the credits may lack adequate
collateral. A structured financing may also evidence weakness in
its fundamental credit quality as evidenced by its under-
performance relative to its modeled projections at underwriting,
issues related to the servicer’s ability to perform or questions about
the structural integrity of the transaction. While certain of these
credits may still retain an investment grade rating, they usually
have experienced or are vulnerable to a ratings downgrade. Further
investigation is required to dimension and correct any deficiencies.
A complete legal review of documents may be required. An action
plan should be developed with triggers for future classification
changes upward or downward.
CLASS II - “Substandard Requiring Intervention” - Credits whose
fundamental credit quality has deteriorated to the point that timely
payment of debt service may be jeopardized by adversely
developing trends of a financial, economic, structural, managerial
or political nature. No claim payment is currently foreseen but the
probability of loss or claim payment over the life of the transaction
is now existent (generally 10% or greater probability). Class II
credits may be border-line or below investment grade (BBB- to
B). Prompt and sustained action must be taken to execute a
comprehensive loss mitigation plan and correct deficiencies.
CLASS III - “Doubtful with Clear Potential for Loss” - Credits
whose fundamental credit quality has deteriorated to the point that
timely payment of debt service has been or will be jeopardized by
adverse trends of a financial, economic, structural, managerial or
political nature which, in the absence of positive change or
corrective action, are likely to result in a loss. The probability of
monetary default or claims paying over the life of the transaction
is generally 50% or greater. Full exercise of all available remedial
actions is required to avert or minimize losses. Class III credits
will generally be rated below investment grade (B to CCC).
CLASS IV - “Imminent Default or Defaulted” - Monetary default
or claim payments have occurred or are expected imminently. Class
IV credits are generally rated D.
CLASS V - “Fully Reserved” - The credit has defaulted and
payments have occurred. The claim payments are scheduled and
known, reserves have been established to fully cover such claims,
and no claim volatility is expected.
(taking
information
The population of credits evaluated in Ambac’s loss reserve
process are: (i) all adversely classified credits (Class IA through
V) and ii) non-adversely classified credits which had an internal
Ambac rating downgrade since the transaction’s inception. One of
two approaches is then utilized to estimate losses to ultimately
determine if a loss reserve should be established. The first approach
is a statistical expected loss approach, which considers the
likelihood of all possible outcomes. The “base case” statistical
expected loss is the product of: (i) the par outstanding on the credit;
into
(ii) internally developed default
consideration internal ratings and average life of an obligation);
(iii) internally developed loss severities; and (iv) a discount factor.
The loss severities and default information are based on rating
agency information, are specific to each bond type and are
established and approved by senior RMG officers. For certain
credit exposures, Ambac’s additional monitoring, loss remediation
efforts and probabilities of potential settlement outcomes may
provide information relevant to adjust this estimate of “base case”
statistical expected losses. Analysts may accept the “base case”
statistical expected loss as the best estimate of expected loss or
assign multiple probability weighted scenarios to determine an
adjusted statistical expected loss that better reflects management’s
view of a given transaction’s expected losses, as well as the
(e.g.,
for
potential
commutations).
remediation
additional
activities
The second approach entails the use of cash-flow based models to
estimate expected losses (future claims, net of potential recoveries,
expected to be paid to the holder of the insured financial
obligation). Ambac’s RMG group will consider the likelihood of
all possible outcomes and develop appropriate cash flow scenarios.
This approach can include the utilization of internal or third party
models and tools to project future losses and resultant claim
payment estimates. We utilize cash flow models for RMBS, student
loan, Puerto Rico and other exposures. RMBS and student loan
models use historical performance of the collateral pools in order
to then derive future performance characteristics, such as default
and voluntary prepayment rates, which in turn determine projected
future claim payments. In other cases, such as many public finance
exposures, including our Puerto Rico exposures, we do not
specifically forecast resources available to pay debt service in the
cash flow model itself. Rather, we consider the issuers’ overall
ability and willingness to pay, including the fiscal, economic, legal
and political framework. In this approach, a probability-weighted
expected
is developed based on assigning
probabilities to multiple claim payment scenarios and applying an
appropriate discount factor. Additionally, we assign a probability
to the issuer’s ability to refinance an insured issue, Ambac’s ability
to execute a potential settlement (i.e., commutation) of the
insurance policy, including the impact on future installment
premiums, and/or other restructuring scenarios. The commutation
scenarios and the related probabilities of occurrence vary by
transaction, depending on our view of the likelihood of negotiating
such a transaction with issuers and/or investors.
loss estimate
The discount factor applied to the statistical expected loss approach
is based on a risk-free discount rate corresponding to the remaining
expected weighted-average life of the exposure and the exposure
currency. For the cash flow scenario approach, discount factors are
applied based on a risk-free discount rate term structure and
correspond to the date of each respective cash flow payment or
| Ambac Financial Group, Inc. 76 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
recovery and the exposure currency. Discount factors are updated
for the current risk-free rate each reporting period.
Ambac establishes loss expense reserves based on our estimate of
expected net cash outflows for loss expenses, such as legal and
consulting costs.
Below we provide further details of our loss reserve models for
both RMBS and student loan exposures:
RMBS Expected Loss Estimate
insured RMBS
Ambac insures RMBS transactions collateralized by first-lien
mortgages. Ambac has also
transactions
collateralized predominantly by second-lien mortgage loans such
as closed-end seconds and home equity lines of credit. A second-
lien mortgage loan is a type of loan in which the borrower uses the
equity in their home as collateral and the second-lien loan is
subordinate to the first-lien loan outstanding on the home.
Borrowers are obligated to make monthly payments on both their
first and second-lien loans. If the borrower defaults on the
payments due under these loans and the property is subsequently
liquidated, the liquidation proceeds are first utilized to pay off the
first-lien loan (as well as other costs) and any remaining funds are
applied to pay off the second-lien loan. As a result of this
subordinate position to the first-lien loan, second-lien loans may
carry a significantly higher severity in the event of a loss,
approaching or exceeding 100%.
Ambac primarily utilizes a cash flow model (“RMBS cash flow
model”) to develop estimates of projected losses for both our first
and second lien transactions. First, the RMBS cash flow model
projects collateral performance utilizing: (i) the transaction’s
underlying loans' characteristics and status, (ii) projected home
price appreciation (“HPA”) and (iii) projected interest rates.
Depending in the amount of collateral information available for
each transaction, we project such performance either at the loan-
level or the deal-level. In the absence of specific loan-level
information, the deal-level approach evaluates a loan pool as if it
were a single loan, selecting certain aggregated deal-level
characteristics to then perform a series of statistical analyses. The
deal-level approach projects performance using a roll-rate that
evaluates the possible future state of a loan based on its current
status and three variables: average FICO (credit score), average
current consolidated loan to value ratio (“CLTV”) and an overall
quality indicator. Projected servicer-level behavior may also have
an impact on transaction performance.
We source HPA projections from a market accepted vendor and
interest rate projections are developed from market sources. We
use three HPA projection scenarios to develop a base case as well
as stress and upside cases. The highest probability is assigned to
the base case, with lower probabilities to the stress and upside
cases.
For the liabilities of the transaction which we insure, we generally
utilize waterfall projections generated from a tool provided by a
market accepted vendor. This waterfall tool allows us to capture
the impact of each transaction’s specific structure (e.g., the
waterfall priority of payments, triggers, redemption priority) to
generate our specific projected claims profile in the base, upside
and downside scenarios.
On a monthly basis, we compare monthly claims submitted against
the trustees’ reports, waterfall projections and our understanding
of the transactions’ structures to identify and resolve discrepancies.
We also review the vendor’s published waterfall revisions to
identify significant discrepancies. Resolving discrepancies is
challenging and may take place over an extended period of time.
Moreover, transaction documents are subject to interpretation, and
our interpretation or that of the vendor and as reflected in our loss
reserves may prove to be incorrect and/or not consistent with
trustees directing cash flows in the future. In some cases, we may
utilize an alternative waterfall structure when our legal and
commercial analysis of the transaction’s payment structure differs
from the vendor’s waterfall structure.
In our experience, market performance and model characteristics
change and therefore need to be updated and reflected in our models
through time. As such, we conduct regular reviews of current
models, alternative models and the overall approach to loss
estimation.
RMBS Representation and Warranty Subrogation Recoveries
Ambac records, as a component of its loss reserve estimate,
subrogation recoveries related to securitized loans in RMBS
transactions that breached certain representations and warranties
described herein. Generally, the sponsor of an RMBS transaction
provided representations and warranties with respect to the
securitized loans, including representations and warranties with
respect to loan characteristics, the absence of borrower fraud in
the underlying loan pools and other misconduct in the origination
process and attesting to the compliance of loans with the prevailing
underwriting policies. In such cases, the sponsor of the transaction
is contractually obligated to repurchase, cure or substitute
collateral for any loan that breaches the representations or
warranties. Ambac or its counsel engaged consultants with
significant mortgage underwriting experience to review the
underwriting documentation for mortgage loans underlying certain
insured RMBS transactions which exhibited exceptionally poor
performance. Factors which Ambac believes to be indicative of
poor performance include (i) high levels of early payment defaults,
(ii) significant numbers of loan liquidations or charge-offs and
resulting high levels of losses and (iii) rapid elimination of credit
protections inherent in the transactions’ structures. With respect to
item (ii), “loan liquidations” refers to loans for which the servicer
has liquidated the related collateral and the securitization has
realized losses on the loan; “charge-offs” refers to loans which
have been written off as uncollectible by the servicer, generating
no recoveries to the securitization, and may also refer to the
unrecovered balance of liquidated loans. In either case, the servicer
has taken actions to recover against the collateral, and the
securitization has incurred losses to the extent such actions did not
result in full repayment of the borrower’s obligations.
the
loans conformed
to ascertain whether
Generally, subsequent to the forensic exercise of examining loan
files
the
representations and warranties, we submit nonconforming loans
for repurchase to the contractual counterparty bearing the
repurchase obligation, which is typically the transaction sponsor.
To effect a repurchase, depending on the transaction, the sponsor
is obligated to repurchase the loan at (a) for loans which have not
been liquidated or charged off, either (i) the current unpaid
to
| Ambac Financial Group, Inc. 77 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
principal balance of the loan, (ii) the current unpaid principal
balance plus accrued unpaid interest, or (iii) the current unpaid
principal balance plus accrued interest plus unreimbursed servicer
advances/expenses and/or trustee expenses resulting from the
breach of representations and warranties that trigger the
repurchase, and (b) for loans that have already been liquidated or
charged-off, the amount of the realized loss (which in certain cases
may exclude accrued unpaid interest). In cases where loans are
repurchased by a sponsor, the effect is typically to offset current
period losses and then to increase the over-collateralization of the
securitization, depending on the extent of loan repurchases and the
structure of the securitization. Specifically, the repurchase price is
paid by the sponsor to the securitization trust which holds the loan.
The cash becomes an asset of the trust, replacing the loan that was
repurchased by the sponsor. On a monthly basis the cash received
related to loan repurchases by the sponsor is aggregated with cash
collections from the underlying mortgages and applied in
accordance with the trust indenture payment waterfall. This
payment waterfall typically includes principal and interest
payments to the note holders, various expenses of the trust and
reimbursements to Ambac, as financial guarantor, for previously
paid claims. Notwithstanding the reimbursement of previous claim
payments, to the extent there continues to be insufficient cash in
the waterfall in the current month to make scheduled principal and
interest payments to the note holders, Ambac is required to make
additional claim payments to cover this shortfall. Ambac may also
receive payments directly from transaction sponsors in settlement
of their repurchase obligations pursuant to negotiated settlement
agreements or otherwise as a result of related litigation.
While the obligation by sponsors to repurchase loans with material
breaches is clear, generally the sponsors have not honored those
obligations without actual or threatened litigation. Ambac has
utilized the results of the above described loan file examinations
to make demands for loan repurchases from sponsors or their
successors and, in certain instances, as a part of the basis for
litigation. Ambac’s approach to resolving these disputes has
included negotiating with individual sponsors at the transaction
level and in some cases at the individual loan level and has resulted
in the repurchase of some loans. Ambac has initiated and will
continue to pursue lawsuits seeking compliance with the
repurchase obligations in the securitization documents.
Ambac has performed
above-mentioned, detailed
the
examinations on a variety of second-lien and first-lien transactions
that have experienced exceptionally poor performance. However,
the loan file examinations and related estimated recoveries we have
reviewed and recorded to date have been limited to only those
transactions whose sponsors (or their successors) are subsidiaries
of large financial institutions, all of which carry an investment
grade rating from at least one nationally recognized rating agency,
or are otherwise deemed to have the financial wherewithal to live
up to their repurchase obligations. While our contractual recourse
is generally to the sponsor/subsidiary, rather than to the parent,
each of these large institutions has significant financial resources
and may have an ongoing interest in mortgage finance, and we
therefore believe that the financial institution/parent would
ultimately assume financial responsibility for these obligations if
the sponsor/subsidiary is unable to honor its contractual obligations
or pay a judgment that we may obtain in litigation. Additionally,
in the case of successor institutions, we are not aware of any
provisions that explicitly preclude or limit the successors’ ability
to honor the obligations of the original sponsor. Certain successor
financial institutions have made significant payments to certain
claimants to settle breaches of representations and warranties
perpetrated by sponsors that have been acquired by such financial
institutions. For example, Ambac received a significant payment
in 2016 from JP Morgan to settle RMBS-related litigation. As a
result of these factors, we do not make significant adjustments to
our estimated subrogation recoveries with respect to the credit risk
of these sponsors or their successors.
Our ability to realize RMBS R&W subrogation recoveries is
subject to significant uncertainty, including risks inherent in
litigation; collectability of such amounts from counterparties (and/
or their respective parents and affiliates); timing of receipt of any
such recoveries; intervention by OCI, which could impede our
ability to take actions required to realize such recoveries; and
uncertainty inherent in the assumptions used in estimating such
recoveries. Failure to realize RMBS R&W subrogation recoveries
for any reason or the realization of RMBS R&W subrogation
recoveries materially below the amount recorded on Ambac's
consolidated balance sheet would have a material adverse effect
on our results of operations and financial condition and may result
in adverse consequences such as impairing the ability of Ambac
Assurance to honor its financial obligations; the initiation of
rehabilitation proceedings against Ambac Assurance; decreased
likelihood of Ambac Assurance delivering value to Ambac,
through dividends or otherwise; and a significant drop in the value
of securities issued and/or insured by Ambac or Ambac Assurance.
The approach used to estimate RMBS R&W subrogation
recoveries is based on obtaining loan files from the original pool
and conducting loan file re-underwriting to derive a breach rate to
be extrapolated to determine an estimated repurchase obligation.
We limit the estimated repurchase obligation by ever-to-date
incurred losses.
Multiple probability-weighted scenarios are developed by
applying various realization factors to the estimated repurchase
obligation. The realization factors in these scenarios reflect
Ambac’s own assumptions about the likelihood of outcomes based
on all the information available to it including, but not limited to,
(i) discussions with external legal counsel and their views on
ultimate settlement and/or litigation outcomes, (ii) assessment of
the strength of the specific case and (iii) experience in settling
similar claims. The probability weightings are developed based on
the unique facts and circumstances for each transaction. The sum
the
of
undiscounted RMBS R&W subrogation recovery, which is then
discounted using a factor derived from a risk-free discount rate
term structure that corresponds to the estimated date of each
respective recovery.
these probability-weighted
represents
scenarios
Student Loan Expected Loss Estimate
The student loan insured portfolio consists of credits collateralized
by private student loans. The calculation of loss reserves for our
student loan portfolio involves evaluating numerous factors that
can impact ultimate losses. The factor which contributes the
greatest degree of uncertainty in ascertaining appropriate loss
reserves is the long final legal maturity date of the insured bonds.
Most of the student loan bonds which we insure were issued with
| Ambac Financial Group, Inc. 78 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
original terms of 20 to 40 years until final maturity. Since our policy
covers timely interest and ultimate principal payment, our loss
projections must make assumptions for many factors covering a
long time horizon. Key assumptions that will impact ultimate
losses include, but are not limited to, the following: collateral
performance (which is highly correlated to the economic
environment); interest rates; operating risks associated with the
issuer, servicers, special servicers, and administrators; investor
appetite for tendering or commuting insured obligations and; as
applicable, Ambac’s ability and willingness to commute policies.
In addition, we consider in our student loan loss projections the
potential impact, if any, of proposed or final regulatory actions or
orders, including by the Consumer Financial Protection Bureau
("CFPB"), affecting our insured transactions.
In evaluating our student loan portfolio, our losses are projected
using a cash flow modeling approach. In order to project collateral
performance under the cash flow approach, we use a default
projection tool that constructs lifetime cohort default curves based
on loan and deal-level historical performance data. To determine
ultimate losses on the transactions, the cohort default curves are
used to extrapolate future default behavior. Additionally, a
regression-based model is used to estimate recoveries on defaulted
loans. This regression-based recovery forecast is grounded in deal-
level performance data. For the liabilities of the transaction which
we insure, the transaction losses are then incorporated into a
waterfall tool to develop loss estimates for our exposures in various
base, upside and downside scenarios.
We develop and assign probabilities to multiple cash flow scenarios
based on each transaction’s unique characteristics. Probabilities
assigned are based on available data related to the credit,
information from contact with the issuer (if applicable), and any
economic or market information that may impact the outcomes of
the various scenarios being evaluated. Our base case usually
projects deal performance out to maturity using expected loss
assumptions. As appropriate, we also develop other cases that
incorporate various upside and downside scenarios that may
include changes to defaults and recoveries.
Long-Term Debt
Long-term debt issued by Ambac is carried at par value less
unamortized discount. Accrued interest and discount accretion on
long-term debt is reported as Interest expense on the Consolidated
Statements of Total Comprehensive Income (Loss). To the extent
Ambac repurchases or redeems its long-term debt, such
repurchases or redemptions may be settled for an amount different
than the carrying value of the obligation. Any difference between
the payment and carrying value of the obligation is reported in
Net realized gains (losses) on extinguishment of debt on the
Consolidated Statements of Total Comprehensive Income (Loss).
For long-term debt issued by consolidated VIEs in which Ambac's
variable interest arises from financial guarantees written by
Ambac's subsidiaries ("FG VIEs"), we may elect to use the fair
value option on an instrument by instrument basis. When the fair
value option is elected, changes in the fair value of the FG VIEs'
long-term debt is reported within Income (loss) on variable interest
entities in the Consolidated Statements of Total Comprehensive
Income (Loss), except for the portion of the total change in fair
value of financial liabilities caused by changes in the instrument-
specific credit risk which is presented separately in Other
comprehensive income (loss). In cases where the fair value option
has not been elected, the FG VIEs' long-term debt is carried at par
less unamortized discount, with interest expense reported within
Income (loss) on variable interest entities in the Consolidated
Statements of Total Comprehensive Income (Loss).
Noncontrolling Interest
At December 31, 2019 and 2018, Ambac Assurance had 5,501 and
4,115 shares of issued and outstanding AMPS with a liquidation
preference of $138 and $103 (reported as noncontrolling interest
of $60 and $41 on Ambac's balance sheet), respectively. The
auction occurs every 28 days and the dividend rate has
continuously been reset at the maximum rate of one-month LIBOR
plus 200 basis points.
Under the terms of the AMPS, dividends may not be paid on the
common stock of Ambac Assurance unless all accrued and unpaid
dividends on the AMPS for the then current dividend period have
been paid, provided, that dividends on the common stock may be
made at all times for the purpose of, and only in such amounts as
are necessary for, enabling AFG (i) to service its indebtedness for
borrowed money as such payments become due or (ii) to pay its
operating expenses. If dividends are paid on the common stock as
provided in the prior sentence, dividends on the AMPS become
cumulative until the date that all accumulated and unpaid dividends
have been paid on the AMPS. Ambac Assurance has not paid
dividends on its AMPS since 2010.
Employee Benefits
Postretirement and Postemployment Benefits
Ambac provides postretirement and postemployment benefits,
including health and life benefits covering employees who meet
certain age and service requirements. Ambac accounts for these
benefits under the accrual method of accounting. Amounts related
to the postretirement health benefits liability are established and
charged to expense based on actuarial determinations.
Incentive Compensation
Incentive compensation is a key component of our compensation
strategy. Incentive compensation has two components: short term
incentive compensation (consisting of an annual cash bonus and
awards of deferred stock units for certain officers) and long term
incentive plan awards (consisting of cash awards and restricted
and performance stock units). Annual decisions with regard to
incentive compensation are generally made in the first quarter of
each year and are based on the prior year's performance for the
Company, the employee and the employee's business unit.
The Ambac 2013 Incentive Compensation Plan (the “Equity Plan”)
provides for the granting of stock options, restricted stock, stock
appreciation rights, restricted and performance units and other
awards that are valued or determined by reference to Ambac's
common stock to employees and directors. In March 2014, Ambac
developed a long term incentive compensation plan (“LTIP”) as a
sub-plan of the 2013 Plan. This LTIP allows for both cash and
equity awards to US employees.
| Ambac Financial Group, Inc. 79 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Ambac recognizes compensation costs for all equity classified
awards granted at fair value and records forfeitures for unvested
shares only when they occur.
The types of equity awards granted to employees are as follows:
• Deferred stock units granted vest upon grant and will settle
and convert to Ambac common stock annually over a two-
year period (50% on the first anniversary of the grant date
and 50% on the second anniversary of the grant date). The
fair value of these grants is recognized as compensation
expense on the date of grant since no future service is required.
• Restricted stock units granted only require future service and
accordingly the respective fair value is recognized as
compensation expense over the relevant service period.
• Performance stock units granted require both future service
and achieving specified performance targets to vest and
accordingly compensation costs are only recognized when
the achievement of the performance conditions are considered
probable. Once deemed probable, such compensation costs
are recognized as compensation expense over the relevant
service period. Compensation costs are initially based on the
probable outcome of the performance conditions and adjusted
for subsequent changes in the estimated or actual outcome
each reporting period as necessary. Changes in the estimated
or actual outcome of a performance condition are recognized
by reflecting a retrospective adjustment to compensation cost
in the current period.
In 2015, Ambac UK's Board of Directors adopted a long term
incentive plan which provides cash based performance awards to
Ambac UK employees. Compensation costs are initially based on
the probable outcome of the performance conditions and adjusted
for subsequent changes in the estimated or actual outcome each
reporting period as necessary.
Operating Leases
Ambac adopted the New Lease Standard as further described
below in this Note 2. A contract contains a lease if it conveys the
right to control the use of identified property, plant, or equipment
for a period of time in exchange for consideration. Ambac's
evaluation of whether certain contracts contain leases may require
judgment regarding what party controls the asset and whether the
asset is physically distinct.
Ambac is the lessee in leases which are classified as operating
leases that recognize a single lease cost, calculated so that the cost
is allocated over the lease term generally on a straight-line basis
over the lease term within operating expenses in the Consolidated
Statements of Total Comprehensive Income (Loss). The lease term
commences on the earlier of the date when we become legally
obligated for the rent payments or the date on which we take
possession of the property. For such operating leases, Ambac
recognizes a right-of-use asset ("ROU") and a lease liability,
initially measured at the present value of the lease payments, on
the later of the adoption date or lease commencement date. The
discount rate used to initially measure the right of use assets and
lease liabilities was based on Ambac's estimated secured
borrowing rate. The Ambac Note, more fully described in Note 1.
Background and Business Description was a significant data point
in estimating this rate.
For contracts where Ambac is the lessee, we have elected the short-
term lease recognition exemption for all leases that qualify. For
those leases that qualify for that exemption, we will not recognize
ROU assets or lease liabilities. For all contracts where Ambac is
the lessee and lessor we have also elected the practical expedient
to not separate lease and non-lease components.
Depreciation and Amortization
Depreciation of furniture and fixtures, certain information
technology development costs and electronic data processing
equipment is charged over the estimated useful lives of the
respective assets, ranging from three to five years, using the
straight-line method. Amortization of leasehold improvements is
charged over the remaining term of the respective operating lease
using the straight-line method.
Foreign Currency
Financial statement accounts expressed in foreign currencies are
translated into U.S. dollars in accordance with the Foreign
Currency Matters Topic of the ASC. The functional currencies of
Ambac's subsidiaries are the local currencies of the country where
the respective subsidiaries are based, which are also the primary
operating environments in which the subsidiaries operate.
Foreign currency translation: Functional currency assets and
liabilities of Ambac’s foreign subsidiaries are translated into U.S.
dollars using exchange rates in effect at the balance sheet dates and
the related translation adjustments, net of deferred taxes, are
included as a component of Accumulated Other Comprehensive
Income (Loss) in Stockholders' Equity. Functional currencies
operating results of foreign subsidiaries are translated using
average exchange rates.
Foreign currency transactions: The impact of non-functional
currency transactions and the remeasurement of non-functional
currency assets and liabilities into the respective subsidiaries'
functional currency (collectively "foreign currency transactions
gains/(losses)") are $12, $(7) and $21 for the years ended
December 31, 2019, 2018 and 2017, of which $22, $7, and $(5)
relate to investments, classified in Net realized investment gains
(losses), $(10), $2, and $(2) relate to the remeasurement of
premiums receivable, and $(1), $(15), and $29 relate to the
remeasurement of loss reserves, classified in Loss and loss
expenses, respectively. Foreign currency transaction gains/
(losses) are primarily the result of remeasuring Ambac UK's assets
and liabilities denominated in currencies other than its functional
currency, primarily the U.S. dollar and the Euro.
Income Taxes
Ambac files a consolidated U.S. Federal income tax return with
its subsidiaries. Ambac UK files tax returns in both the United
Kingdom and Italy (for its Milan branch). Current tax assets and
liabilities are recognized for taxes refundable or payable for the
current year. Deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets and
| Ambac Financial Group, Inc. 80 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
on the existence of sufficient taxable income within the carry
forward periods available under the tax law.
Net Income Per Share
Basic net income per share is computed by dividing net income
attributable to common stockholders by the weighted-average
number of common shares outstanding and vested restricted stock
units (together, "Basic Weighted Average Shares Outstanding").
Diluted net income per share is computed by dividing net income
attributable to common stockholders by the Basic Weighted-
Average Shares Outstanding plus all potential dilutive common
shares outstanding during the period. All potential dilutive
common shares outstanding consider common stock deliverable
pursuant to warrants, vested and unvested options, unvested
restricted stock units and performance stock units granted under
employee and director compensation plans.
liabilities are measured using enacted tax rates expected to apply
to taxable income in the years in which those temporary differences
are expected to be recovered or settled. The effect on current and
deferred tax assets and liabilities of a change in tax rates is
recognized in the period that includes the enactment date. In
December 2017, the Tax Cut and Jobs Act ("TCJA") was enacted
that introduced significant changes that impact U.S. corporate tax
rates, business-related exclusions, and deductions and credits
effective January 1, 2018. As such, we incorporated the effects of
the TCJA in our current and deferred tax evaluation for the year
ended December 31, 2017.
The Income Taxes Topic of the ASC requires that companies assess
whether valuation allowances should be established against their
deferred tax assets based on the consideration of all available
evidence using a ‘more likely than not” standard. In making such
judgments, significant weight is given to evidence that can be
objectively verified.
The level of deferred tax asset recognition is influenced by
management’s assessment of future profitability, which depends
Supplemental Disclosure of Cash Flow Information
Year Ended December 31,
Cash paid during the period for:
Income taxes
Interest on long-term debt and investment agreements
Non-cash financing activities:
Increase in long-term debt in exchange for AMPS
2019
2018
2017
$
21
$
35
$
143
—
—
—
232
187
—
1,919
40
39
—
55
—
2019
2018
2017
$
$
24
55
2
81
$
$
63
19
1
83
$
$
624
—
1
625
Decrease in long-term debt as a result of an exchange for investment securities
Rehabilitation exit transaction discharge of all Deferred Amounts and cancellation of certain General Account
Surplus Notes
December 31,
Reconciliation of cash, cash equivalents, and restricted cash reported within the Consolidated Balance
Sheets to the Consolidated Statements of Cash Flow:
Cash and cash equivalents
Restricted cash
Variable Interest Entity Restricted cash
Total cash, cash equivalents, and restricted cash shown on the Consolidated Statements of Cash Flows
| Ambac Financial Group, Inc. 81 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Reclassifications and Rounding
Reclassifications may have been made to prior years' amounts to
conform to the current year's presentation. Certain amounts and
tables in the consolidated financial statements and associated notes
may not add due to rounding.
Recently Adopted Accounting Standards
Effective January 1, 2019, Ambac adopted
accounting standards:
the following
Equity-linked Instruments with Down Round Features
In July 2017, the FASB issued ASU 2017-11, Earnings Per Share
(Topic 260) and Derivatives and Hedging (Topic 815) - Accounting
for Certain Financial Instruments with Down Round Features.
Equity-linked instruments, such as warrants and convertible
instruments may contain down round features that result in the
strike price being reduced on the basis of the pricing of future
equity offerings. Under the ASU, a down round feature will no
longer require a freestanding equity-linked instrument (or
embedded conversion option) to be classified as a liability that is
remeasured at fair value through the income statement (i.e.
marked-to-market). However, other features of the equity-linked
instrument (or embedded conversion option) must still be
evaluated to determine whether liability or equity classification is
appropriate. Equity classified instruments are not marked-to-
market. For earnings per share ("EPS") reporting, the ASU requires
companies to recognize the effect of the down round feature only
when it is triggered by treating it as a dividend and as a reduction
of income available to common stockholders in basic EPS.
Adoption of this ASU did not impact Ambac's financial statements.
Premium Amortization on Callable Debt Securities
In March 2017, the FASB issued ASU 2017-08, Receivables-
Nonrefundable Fees and Other Costs (Subtopic 310-20) - Premium
Amortization on Purchased Callable Debt Securities. The ASU
shortens the amortization period for the premium on callable debt
securities to the earliest call date. Under previous GAAP, a
reporting entity generally amortized the premium as a yield
adjustment over the contractual life (i.e. maturity) of the debt
security and if that debt security is called, the entity would record
a loss equal to the unamortized premium. The ASU does not change
the accounting for callable debt securities held at a discount, which
will continue to be amortized to maturity. Adoption of this ASU
did not have a consequential impact on Ambac's financial
statements.
Leases
In February 2016, the FASB issued ASU 2016-02, Leases (Topic
842). This ASU was subsequently amended by ASU 2018-01, Land
Easement Practical Expedient; ASU 2018-10, Codification
to Topic 842; ASU 2018-11, Targeted
Improvements
Improvements; ASU 2018-20, Narrow-Scope Improvements for
Lessors; and ASU 2019-01, Leases (Topic 842): Codification
Improvements (collectively the "New Lease Standard"). The
primary difference between previous GAAP and the New Lease
Standard is the recognition of lease assets and lease liabilities for
those leases classified as operating leases with a term longer than
12 months. For those operating leases, a lessee is required to: 1)
recognize a right-of-use asset ("ROU") and a lease liability,
initially measured at the present value of the lease payments, on
the balance sheet, 2) recognize a single lease cost, calculated so
that the cost is allocated over the lease term generally on a straight-
line basis and 3) classify all cash payments within operating
activities in the statement of cash flows. For leases classified as
finance leases under the New Lease Standard, the balance sheet
presentation and expense recognition pattern is similar to capital
leases under previous GAAP.
Under the transition guidance, a reporting entity must use a
modified retrospective approach and may choose to initially apply
the New Lease Standard either at (1) the beginning of the earliest
comparative period presented, which is January 1, 2017 or (2) its
effective date, which is January 1, 2019. If a reporting entity
chooses the first option it must recast its comparative period
financial statements and provide disclosures for those comparative
periods. Ambac chose the second option and initially applied the
New Lease Standard on January 1, 2019. Consequently financial
information and disclosures were not provided for dates and
periods prior to January 1, 2019.
There are a number of optional practical expedients that were
elected at transition. We elected the package of practical
expedients, which permitted us not to reassess under the new
standard our prior conclusions about lease identification, lease
classification and initial direct costs. We also elected the hindsight
practical expedient allowing us to use the benefit of hindsight in
determining the probability of exercising any lessee options to
extend or terminate the lease, or purchase the underlying asset. We
did not use the practical expedient pertaining to land easements as
it was not applicable to Ambac.
The new new lease standard did not have a material effect on our
financial statements. The most significant effects related to (1) the
recognition of new ROU assets and lease liabilities on our balance
sheet for our office and equipment operating
leases of
approximately $15 at transition and (2) providing significant new
disclosures about our leasing activities.
See Note 16. Leases for further information.
3. VARIABLE INTEREST ENTITIES
Ambac, with its subsidiaries, has engaged in transactions with
variable interest entities ("VIEs") in various capacities.
• Ambac provides financial guarantees, including credit
derivative contracts, for various debt obligations issued by
special purpose entities, including VIEs ("FG VIEs");
• Ambac sponsors special purpose entities that issued notes to
investors for various purposes; and
• Ambac is an investor in collateralized debt obligations,
mortgage-backed and other asset-backed securities issued by
VIEs and its ownership interest is generally insignificant to
the VIE and/or Ambac does not have rights that direct the
activities that are most significant to such VIE.
FG VIEs
Ambac’s subsidiaries provide financial guarantees in respect of
assets held or debt obligations of VIEs. Ambac’s primary variable
interest exists through this financial guarantee contract. The
| Ambac Financial Group, Inc. 82 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
transaction structures provide certain financial protection to
Ambac. Generally, upon deterioration in the performance of a
transaction or upon an event of default as specified in the
transaction legal documents, Ambac will obtain certain control
rights that enable Ambac to remediate losses. These rights may
enable Ambac to direct the activities of the entity that most
significantly impact the entity’s economic performance. Under a
2018 Stipulation and Order, the OCI requires Ambac Assurance to
obtain their approval with respect to the exercise of certain
significant control rights in connection with policies that had
previously been allocated to the Segregated Account. Accordingly,
Ambac Assurance does not have the right to direct the most
significant activities of those FG VIEs.
• We determined that Ambac’s subsidiaries generally have the
obligation to absorb a FG VIE's expected losses given that
they have issued financial guarantees supporting certain
liabilities (and in some cases certain assets). As further
described below, Ambac consolidates certain FG VIEs in
cases where we also have the power to direct the activities
that most significantly
the VIE’s economic
performance due to one or more of the following: (i) the
transaction experiencing deterioration and breaching
performance triggers, giving Ambac the ability to exercise
certain control rights, (ii) Ambac being involved in the design
of the VIE and receiving control rights from its inception, or
(iii) the transaction not experiencing deterioration, however
due to the passive nature of the VIE, Ambac's contingent
control rights upon a future breach of performance triggers is
considered to be the power over the most significant activity.
impact
• A VIE is deconsolidated in the period that Ambac no longer
has such control rights, which could occur in connection with
the execution of remediation activities on the transaction or
amortization of insured exposure, either of which may reduce
the degree of Ambac’s control over a VIE.
• Assets and liabilities of FG VIEs that are consolidated are
reported within Variable interest entity assets or Variable
interest entity liabilities on the Consolidated Balance Sheets.
• The election to use the fair value option is made on an
instrument by instrument basis. Ambac has elected the fair
value option for consolidated FG VIE financial assets and
financial liabilities, except in cases where Ambac was
involved in the design of the VIE and was granted control
rights at its inception.
◦ When the fair value option is elected, changes in the fair
value of the FG VIE's financial assets and liabilities are
reported within Income (loss) on variable interest entities
in the Consolidated Statements of Total Comprehensive
Income (Loss), except for the portion of the total change
in fair value of financial liabilities caused by changes in
the instrument-specific credit risk which is presented
separately in Other comprehensive income (loss).
◦ In cases where the fair value option has not been elected,
the FG VIE's invested assets are fixed income securities
and are considered available-for-sale as defined by the
Investments - Debt Securities Topic of the ASC. These
assets are reported in the financial statements at fair value
with unrealized gains and losses reflected in Accumulated
other comprehensive income (loss) in Stockholders' equity.
The financial liabilities of these FG VIEs consist of long
term debt obligations and are carried at par less
unamortized discount. Income from the FG VIE's
available-for-sale securities (including investment income,
realized gains and losses and other-than-temporary
impairments as applicable) and interest expense on long
term debt are reported within Income (loss) on variable
interest entities in the Consolidated Statements of Total
Comprehensive Income (Loss).
• Upon initial consolidation of a FG VIE, Ambac recognizes a
gain or loss in earnings for the difference between: (i) the fair
value of the consideration paid, the fair value of any non-
controlling interests and the reported amount of any
previously held interests and (ii) the net amount, as measured
on a fair value basis, of the assets and liabilities consolidated.
Upon deconsolidation of a FG VIE, Ambac recognizes a gain
or loss for the difference between: (i) the fair value of any
consideration received, the fair value of any retained non-
controlling investment in the VIE and the carrying amount of
any non-controlling interest in the VIE and (ii) the carrying
amount of the VIE’s assets and liabilities. Gains or losses from
consolidation and deconsolidation that are reported in
earnings are reported within Income (loss) on variable interest
entities on
the Consolidated Statements of Total
Comprehensive Income (Loss).
• The impact of consolidating such FG VIEs on Ambac’s
balance sheet is the elimination of transactions between the
consolidated FG VIEs and Ambac’s operating subsidiaries
and the inclusion of the FG VIE’s third party assets and
liabilities. For a financial guarantee insurance policy issued
to a consolidated VIE, Ambac does not reflect the financial
guarantee insurance policy in accordance with the related
insurance accounting rules under the Financial Services –
Insurance Topic of
the ASC. Consequently, upon
consolidation, Ambac eliminates the insurance assets and
liabilities associated with the policy from the Consolidated
Balance Sheets. Such insurance assets and liabilities may
include premium receivables, reinsurance recoverable,
deferred ceded premium, subrogation recoverable, unearned
premiums, loss and loss expense reserves, ceded premiums
payable and insurance intangible assets. For investment
securities owned by Ambac that are debt instruments issued
by the VIE, the investment securities balance is eliminated
upon consolidation.
FG VIEs which are consolidated may include non-recourse assets
or liabilities. FG VIEs' liabilities (and in some cases assets) that
are insured by the Company are with recourse, because the
Company guarantees the payment of principal and interest in the
event the issuer defaults. FG VIEs' assets and liabilities that are
not insured by the Company are without recourse, because Ambac
has not issued a financial guarantee and is under no obligation for
the payment of principal and interest of these instruments.
Therefore, the Company’s exposure to consolidated FG VIEs is
limited to the financial guarantees issued for recourse assets and
liabilities and any additional variable interests held by Ambac.
Additionally, Ambac’s general creditors, other than those specific
policy holders which own the VIE debt obligations, do not have
| Ambac Financial Group, Inc. 83 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
rights with regard to the assets of the VIEs. Ambac evaluates the
net income effects and earnings per share effects to determine
attributions between Ambac and non-controlling interests as a
result of consolidating a VIE. Ambac has determined that the net
income and earnings per share effect of consolidated FG VIEs are
attributable to Ambac’s interests through financial guarantee
premium and loss payments with the VIE.
The following table summarizes the carrying values of assets and liabilities, along with other supplemental information related to VIEs that
are consolidated as a result of financial guarantees of Ambac UK and Ambac Assurance:
December 31,
ASSETS:
Fixed income securities, at fair value:
Corporate obligations, fair value option
Municipal obligations, available-for-sale (1)
Total FG VIE fixed income securities, at fair value
Restricted cash
Loans, at fair value (2)
Derivative assets
Other assets
Total FG VIE assets
LIABILITIES:
Accrued interest payable
Long-term debt:
Long-term debt, at fair value (3)
Long-term debt, at par less unamortized discount
Total long-term debt
Derivative liabilities
Total FG VIE liabilities
2019
Ambac
Assurance
Ambac UK
Total VIEs
Ambac UK
2018
Ambac
Assurance
Total VIEs
$
2,957
$
— $
2,957
$
2,737
$
— $
2,737
—
2,957
1
3,108
52
1
6,119
1
4,351
—
4,351
1,657
$
$
164
164
1
—
—
2
164
3,121
2
3,108
52
3
$
$
167
$
6,286
— $
1
$
$
—
203
203
—
4,351
203
4,554
1,657
—
2,737
1
4,288
66
1
7,093
1
5,269
—
5,269
1,712
$
6,009
$
203
$
6,212
$
6,981
$
—
—
—
—
—
—
—
2,737
1
4,288
66
1
$
$
— $
7,093
— $
1
—
—
—
—
— $
—
5,269
—
5,269
1,712
6,981
7
Number of FG VIEs consolidated
6
1
7
7
(1) Available-for-sale securities consist of municipal obligations with an amortized cost basis of $139 and aggregate gross unrealized gains and (losses)
of $25 at December 31, 2019. All such securities had contractual maturities due after ten years as of December 31, 2019.
(2) The unpaid principal balances of loan assets carried at fair value were $2,618 as of December 31, 2019 and $3,418 as of December 31, 2018.
(3) The unpaid principal balances of long-term debt carried at fair value were $3,800 as of December 31, 2019 and $4,553 as of December 31, 2018.
The following schedule details the components of Income (loss) on variable interest entities for the affected periods:
Year ended December 31,
2019
2018
2017
Net change in fair value of VIE assets and liabilities reported under the fair value option
$
13
$
3
$
Less: Credit risk changes of fair value option long-term debt reported through other comprehensive income
(loss)
Net change in fair value of VIE assets and liabilities reported in earnings
Investment income on available-for-sale securities
Net realized investment gains (losses) on available-for-sale securities
Interest expense on long-term debt carried at par less unamortized cost
Other expenses
Gain (loss) from consolidating FG VIEs
Gain (loss) from de-consolidating FG VIEs
Income (loss) on variable interest entities
—
14
10
13
(11)
(1)
15
(2)
$
38
$
(1)
2
—
—
—
—
—
2
3
$
20
—
20
—
—
—
—
—
—
20
As further discussed in Note 7. Financial Guarantee Insurance Contracts, on February 12, 2019, in connection with the COFINA POA, the
COFINA Class 2 Trust was established. Ambac was required to consolidate the COFINA Class 2 Trust, which resulted in a gain of $15. The
2019 balance sheet impact of this additional VIE on the date of consolidation was an increase to total consolidated assets and liabilities by
$292 and $364, respectively. Ambac deconsolidated one, four and one VIEs for the years ended December 31, 2019, 2018 and 2017, respectively.
These VIEs were deconsolidated as a result of guaranteed bond retirements or loss mitigation activities that eliminated or reduced Ambac's
control rights that previously required Ambac to consolidate these entities, and resulted in the gain (loss) on deconsolidation noted in the above
| Ambac Financial Group, Inc. 84 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
table. The 2019 balance sheet impact of the deconsolidation was a decline in total consolidated assets and liabilities by $1,233 and $1,230
from December 31, 2018, to December 31, 2019.
The following table displays the carrying amount of the assets, liabilities and maximum exposure to loss of Ambac’s variable interests in non-
consolidated VIEs resulting from financial guarantee and derivative contracts by major underlying asset classes, as of December 31, 2019 and
2018:
Carrying Value of Assets and Liabilities
Maximum
Exposure
To Loss (1)
Insurance
Assets (2)
Insurance
Liabilities (3)
Net Derivative
Assets
(Liabilities) (4)
December 31, 2019:
Global structured finance:
Mortgage-backed—residential
Other consumer asset-backed
Other commercial asset-backed
Other
Total global structured finance
Global public finance
Total
December 31, 2018:
Global structured finance:
Collateralized debt obligations
Mortgage-backed—residential
Other consumer asset-backed
Other commercial asset-backed
Other
Total global structured finance
Global public finance
Total
5,373
$
1,913
$
$
$
$
1,373
314
1,107
8,165
23,341
31,506
$
10
$
6,713
1,701
873
2,123
11,420
24,146
31
9
7
1,961
287
$
523
216
6
18
762
321
2,247
$
1,083
$
— $
1,859
15
21
53
1,949
309
— $
547
238
12
301
1,098
335
—
—
—
8
8
—
7
—
—
—
—
7
7
(1)
6
$
35,566
$
2,258
$
1,434
$
(1) Maximum exposure to loss represents the maximum future payments of principal and interest on insured obligations and derivative contracts. Ambac’s
maximum exposure to loss does not include the benefit of any financial instruments (such as reinsurance or hedge contracts) that Ambac may utilize to
mitigate the risks associated with these variable interests.
(2)
(3)
Insurance assets represent the amount included in “Premium receivables” and “Subrogation recoverable” for financial guarantee insurance contracts on
Ambac’s Consolidated Balance Sheets.
Insurance liabilities represent the amount included in “Loss and loss expense reserves” and “Unearned premiums” for financial guarantee insurance
contracts on Ambac’s Consolidated Balance Sheets.
(4) Net derivative assets (liabilities) represent the fair value recognized on credit derivative contracts and interest rate swaps on Ambac’s Consolidated Balance
Sheets.
Ambac Sponsored Non-consolidated VIEs
In 1994, Ambac established a VIE to provide certain financial
guarantee clients with funding for their debt obligations. This VIE
was established as a separate legal entity, demonstrably distinct
from Ambac and that Ambac, its affiliates or its agents could not
unilaterally dissolve. The permitted activities of this entity are
contractually limited to purchasing assets from Ambac, issuing
medium-term notes ("MTNs") to fund such purchases, executing
derivative hedges and obtaining financial guarantee policies with
respect to indebtedness incurred. Ambac does not consolidate this
entity because the exercise of related control rights in such policies
remain subject to OCI approval under the Stipulation and Order,
as discussed above. Ambac elected to account for its equity interest
in this entity at fair value under the fair value option in accordance
with the Financial Instruments Topic of the ASC. We believe that
the fair value of the investments in this entity provides for greater
transparency for recording profit or loss as compared to the equity
method under the Investments – Equity Method and Joint Ventures
Topic of the ASC. Refer to Note 9. Fair Value Measurements for
further information on the valuation technique and inputs used to
measure the fair value of Ambac’s equity interest in this entity. At
December 31, 2019 and 2018 the fair value of this entity was $3
and $5, respectively, and is reported within Other assets on the
Consolidated Balance Sheets.
• Total principal amount of the entity's debt outstanding was
$403 and $393 at December 31, 2019 and 2018, respectively.
The entity's assets are utility obligations with a weighted
average rating of BBB+ at December 31, 2019, and weighted
average life of 1.1 years. Purchases by this entity of financial
| Ambac Financial Group, Inc. 85 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
assets from Ambac were financed through the issuance of
MTNs, which are cross-collateralized by the purchased
assets. The MTNs have the same expected weighted average
life as the purchased assets. Derivative contracts (interest rate
swaps) are used within the entity for economic hedging
purposes only. Derivative positions were established at the
time MTNs were issued to purchase financial assets. As of
December 31, 2019, Ambac Assurance had financial
guarantee insurance policies issued for all assets, MTNs and
derivative contracts owned and outstanding by the entity.
• Insurance premiums paid to Ambac Assurance by this entity
are earned in a manner consistent with other insurance
policies, over the risk period. Additionally, any losses
incurred on such insurance policies are included in Ambac’s
Consolidated Statements of Total Comprehensive Income
(Loss). Under the terms of an Administrative Agency
Agreement, Ambac provides certain administrative duties,
primarily collecting amounts due on the obligations and
making interest payments on the MTNs.
On August 28, 2014, Ambac monetized its ownership of the junior
surplus note issued to it by the Segregated Account by depositing
the junior surplus note into a newly formed VIE trust in exchange
4. COMPREHENSIVE INCOME
for cash and an owner trust certificate, which represents Ambac's
right to residual cash flows from the junior surplus note. Ambac
does not consolidate the VIE since it does not have a variable
interest in the trust. Ambac reports its owner trust certificate as an
equity investment within Other investments on the Consolidated
Balance Sheets with associated results from operations included
within Net investment income: Other investments on the
Consolidated Statements of Total Comprehensive Income (Loss).
The equity investment had a carrying value of $46 and $40 as of
December 31, 2019 and 2018, respectively.
On February 12, 2018, Ambac formed a VIE, Ambac LSNI, LLC
("Ambac LSNI"). Ambac LSNI issued Secured Notes in
connection with the Rehabilitation Exit Transactions. Ambac does
not consolidate the VIE since it does not have a variable interest
in the trust. Ambac reports its holdings of Secured Notes within
Fixed income securities in the Consolidated Balance Sheets. The
carrying value of Secured Notes held by Ambac was $535 and
$656 as of December 31, 2019 and 2018, respectively. Ambac's
debt obligation to the VIE (the Ambac Note) had a carrying value
of $1,763 and $1,940 at December 31, 2019 and 2018, respectively,
and is reported within Long-term debt on the Consolidated Balance
Sheets.
The following tables detail the changes in the balances of each component of accumulated other comprehensive income (loss) for the affected
periods:
Unrealized Gains
(Losses) on
Available- for
Sale Securities (1)
Amortization of
Postretirement
Benefit (1)
Gain (Loss) on
Foreign Currency
Translation (1)
Credit Risk
Changes of Fair
Value Option
Liabilities (1) (2)
Total
Year Ended December 31, 2019:
Beginning Balance
Other comprehensive income (loss)before
reclassifications
Amounts reclassified from accumulated other
comprehensive income (loss)
Net current period other comprehensive income
(loss)
Balance at December 31, 2019
Year ended December 31, 2018:
Beginning Balance
Adjustments to opening balance, net of taxes (3)
Adjusted balance, beginning of period
Other comprehensive income before
reclassifications
Amounts reclassified from accumulated other
comprehensive income
Net current period other comprehensive income
(loss)
Balance at December 31, 2018
$
$
$
$
86
$
142
(76)
65
9
1
(1)
(1)
$
(142) $
(2) $
26
—
26
—
—
—
151
$
8
$
(116) $
(2) $
$
31
—
31
136
(81)
55
86
$
11
—
11
(1)
(1)
(2)
9
$
$
(94) $
— $
—
(94)
(48)
—
(48)
(142) $
(3)
(3)
—
1
1
(2) $
(49)
168
(78)
91
42
(52)
(3)
(55)
87
(81)
6
(49)
(1) All amounts are net of tax and noncontrolling interest. Amounts in parentheses indicate reductions to Accumulated Other Comprehensive Income.
(2) Represents the changes in fair value attributable to instrument-specific credit risk of liabilities for which the fair value option is elected.
(3) Beginning in 2018, credit risk changes of fair value option liabilities are reflected as a component of Accumulated Other Comprehensive Income pursuant
to the adoption of ASU 2016-01. Refer to Note 2. Basis of Presentation and Significant Accounting Policies for further information regarding this change.
| Ambac Financial Group, Inc. 86 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The following table details the significant amounts reclassified from each component of accumulated other comprehensive income for the
affected periods:
Amount Reclassified from Accumulated
Other Comprehensive Income
Year Ended December 31,
2019
2018
Affected Line Item in the
Consolidated Statement of
Total Comprehensive Income
Details about Accumulated Other
Comprehensive Income Components
Unrealized Gains (Losses) on Available-for-Sale
Securities
Amortization of Postretirement Benefit
Prior service cost
Actuarial gains (losses)
Credit Risk Changes of Fair Value Option Liabilities
Total reclassifications for the period
$
$
$
$
$
$
5. NET INCOME PER SHARE
As of December 31, 2019, 45,555,400 shares of AFG's common
stock (par value $0.01) and warrants entitling holders to acquire
up to 4,877,783 shares of new common stock at an exercise price
of $16.67 per share were outstanding. For the three years ended
December 31, 2019, 2018 and 2017, 0, 194 and 0 warrants were
exercised, respectively, resulting in an issuance of 0, 194 and 0
shares of common stock, respectively.
On June 30, 2015, the Board of Directors of AFG authorized the
establishment of a warrant repurchase program that permits the
repurchase of up to $10 of warrants. On November 3, 2016, the
Board of Directors of AFG authorized a $10 increase to the warrant
repurchase program. For the years ended December 31, 2019 and
2018, AFG did not repurchase any warrants. As of December 31,
2019, AFG had repurchased 985,331 warrants at a total cost of $8
(average cost of $8.21 per warrant). The remaining aggregate
authorization at December 31, 2019 was $12. In connection with
the AMPS Exchange, AFG issued 824,307 of the repurchased
warrants at a price of $9.72 per warrant on August 3, 2018. Refer
to Note 1. Background and Business Description for further
discussion of the AMPS Exchange.
(81) $
4
(76) $
(1) $
—
(1)
—
(82) Net realized investment gains (loses)
1
Provision for income taxes
(81) Net of tax and noncontrolling interest
(1) Other income
— Other income
(1) Total before tax
— Provision for income taxes
(1) $
(1) Net of tax and noncontrolling interest
— $
—
—
(78) $
1
Credit risk changes of fair value option
liabilities
— Provision for income taxes
1 Net of tax and noncontrolling interest
(81) Net of tax and noncontrolling interest
The following table provides a reconciliation of the common shares
used for basic net income per share to the diluted shares used for
diluted net income per share:
Year Ended
December 31,
Basic weighted average
shares outstanding
Effect of potential
dilutive shares(1):
Warrants
Stock options
Restricted stock units
Performance stock
units (2)
Diluted weighted
average shares
outstanding
Anti-dilutive shares
excluded from the
above reconciliation
Stock options
Warrants
Restricted stock units
Performance stock
units (2)
2019
2018
2017
45,954,908
45,665,883
45,367,932
—
—
—
—
441,104
—
77,572
375,276
—
—
—
—
45,954,908
46,559,835
45,367,932
16,667
16,667
126,667
4,877,783
249,263
872,258
—
—
—
4,053,670
68,654
322,943
(1) For the years ended December 31, 2019 and 2017, Ambac had a net
loss and accordingly excluded all potentially dilutive securities from
the determination of diluted loss per share as their impact was anti-
dilutive.
(2) Performance stock units are reflected based on the performance
metrics through the balance sheet date. Vesting of these units is
| Ambac Financial Group, Inc. 87 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
contingent upon meeting certain performance metrics. Although a
portion of these performance metrics have been achieved as of the
respective period end, it is possible that awards may no longer meet
the metric at the end of the performance period.
6. FINANCIAL GUARANTEES IN FORCE
Financial guarantees outstanding includes the exposures of
policies that insure variable interest entities (“VIEs”) consolidated
in accordance with ASC Topic 810, Consolidation. Financial
guarantees outstanding includes the exposure of policies that insure
capital appreciation bonds which are reported at the par amount at
the time of issuance of the insurance policy as opposed to the
current accreted value of the bonds. Financial guarantees
outstanding exclude the exposures of policies that insure bonds
which have been called, pre-refunded or refunded and excludes
exposure of the policy that insures the notes issued by Ambac LSNI
as defined in Note 1. Background and Business Description. The
gross par amount of financial guarantees outstanding was $43,908
and $52,055 at December 31, 2019 and 2018, respectively. The par
amount of financial guarantees outstanding, net of reinsurance,
was $38,018,000 and $46,927 at December 31, 2019 and 2018,
respectively.
As of December 31, 2019 and 2018, the guarantee portfolio was
diversified by type of guaranteed bond as shown in the following
table:
Net Par Outstanding December 31,
2019
2018
As of December 31, 2019 and 2018, the International Finance
guaranteed portfolio by location of risk was as outlined in the table
below:
Net Par Outstanding December 31,
2019
2018
United Kingdom
$10,593,000
$10,965,000
Italy
Austria
Australia
France
Other international (1)
767,000
674,000
382,000
303,000
138,000
811,000
712,000
384,000
312,000
354,000
Total International Finance
$12,857,000
$13,538,000
(1) Other international may include components of U.S. exposure.
Gross financial guarantees in force (principal and interest) were
$69,826 and $87,543 at December 31, 2019 and 2018, respectively.
Net financial guarantees in force (after giving effect to reinsurance)
were $58,245 and $77,972 as of December 31, 2019 and 2018,
respectively.
In the United States, California, Colorado and New York were the
states with the highest aggregate net par amounts in force,
accounting for 6.7%, 6.3% and 6.1% of the total at December 31,
2019, respectively. No other state accounted for more than 5.0%.
The highest single insured risk represented 0.0% of the aggregate
net par amount guaranteed.
Public Finance:
Housing revenue (1)
$ 5,991,000
$ 6,159,000
CONTRACTS
7. FINANCIAL GUARANTEE INSURANCE
Lease and tax-backed revenue
5,102,000
7,565,000
General obligation
Higher education
Transportation revenue
Utility revenue
Other
Total Public Finance
Structured Finance:
3,011,000
4,214,000
885,000
855,000
768,000
1,168,000
1,754,000
1,178,000
1,041,000
1,404,000
17,653,000
23,442,000
Mortgage-backed and home equity
4,423,000
5,510,000
Investor-owned utilities
1,675,000
1,754,000
Student loan
Structured Insurance
Asset-backed and other
Total Structured Finance
International Finance:
769,000
395,000
246,000
934,000
1,365,000
384,000
7,508,000
9,947,000
Sovereign/sub-sovereign
5,264,000
5,250,000
Investor-owned and public utilities
4,436,000
4,499,000
Asset-backed and other
Transportation
1,625,000
2,176,000
1,532,000
1,613,000
Total International Finance
12,857,000
13,538,000
Total
$38,018,000
$46,927,000
(1)
Includes $5,654 and $5,759 of Military Housing net par at
December 31, 2019 and 2018, respectively.
Amounts presented in this Note relate only to Ambac’s non-
derivative insurance business for insurance policies issued to
beneficiaries, including VIEs, for which we do not consolidate the
VIE.
Net Premiums Earned
Below is the gross premium receivable roll-forward (direct and
assumed contracts) for the affected periods:
Year Ended
December 31,
Beginning premium
receivable
Premium receipts
Adjustments for
changes in expected
and contractual cash
flows (1)
Accretion of premium
receivable discount
Deconsolidation of
certain VIEs
Changes to
uncollectable
premiums
Other adjustments
(including foreign
exchange)
Ending premium
receivable (2)
2019
2018
2017
$
495
$
586
$
(48)
(56)
661
(82)
(38)
(42)
(30)
11
3
(2)
(6)
15
—
2
(10)
16
—
—
21
$
416
$
495
$
586
| Ambac Financial Group, Inc. 88 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
(1) Adjustments for changes in expected and contractual cash flows
primarily due to reductions in insured exposure as a result of early
policy terminations and unscheduled principal paydowns.
(2) Premium receivable includes premiums to be received in foreign
denominated currencies most notably in British Pounds and Euros.
At December 31, 2019, 2018 and 2017 premium receivables include
British Pounds of $129 (£97), $131 (£103) and $152 (£112),
respectively, and Euros of $26 (€23), $31 (€27) and $36 (€30),
respectively.
In evaluating the credit quality of the premium receivables,
management evaluates the obligor's ability to pay. For structured
finance transactions, this evaluation will include a review of the
priority for the payment of financial guarantee premiums to
Ambac, as required by bond indentures, in the transaction's
waterfall structure. The financial guarantee premium is generally
senior in the waterfall. An allowance for uncollectable premiums
are determined on a policy basis and utilize a combination of
historical premium collection data in addition to cash flow analysis
to determine if an impairment in the related policy's premium
receivables exist. At December 31, 2019 and 2018, $9 and $7
respectively, of premium receivables were deemed uncollectable.
The effect of reinsurance on premiums written and earned was as
follows:
Year Ended
December 31,
Direct
Assumed
Ceded (1)
Net
Premiums
2019:
Written
Earned
2018:
Written
Earned
2017:
Written
Earned
$
$
$
(28) $
— $
75
—
(24) $
— $
119
—
$
$
31
10
17
8
(14) $
— $
(2) $
190
—
15
(60)
66
(41)
111
(12)
175
(1)
Includes ceded premium activity related to the execution of
reinsurance transactions in the years ended December 31, 2019 and
2018.
Ambac’s accelerated premium revenue for retired obligations for
the years ended December 31, 2019, 2018 and 2017, was $10, $32
and $64, respectively.
The following table summarizes net premiums earned by location
of risk:
Year Ended
December 31,
United States
United Kingdom
Other international
Total
2019
2018
2017
$
$
$
55
17
(6)
$
88
19
5
66
$
111
$
134
33
8
175
The table below summarizes the future gross undiscounted
premiums to be collected and future premiums earned, net of
reinsurance at December 31, 2019:
Future
Premiums
to be
Collected (1)
Future
Premiums
to be
Earned Net of
Reinsurance (2)
Three months ended:
March 31, 2020
June 30, 2020
September 30, 2020
December 31, 2020
Twelve months ended:
December 31, 2021
December 31, 2022
December 31, 2023
December 31, 2024
Five years ended:
December 31, 2029
December 31, 2034
December 31, 2039
December 31, 2044
December 31, 2049
December 31, 2054
Total
$
$
14
11
10
9
37
36
34
33
143
102
47
22
9
1
10
10
10
10
36
34
32
30
124
82
38
14
5
1
$
508
$
436
(1) Future premiums to be collected are undiscounted and are used to
derive the discounted premium receivable asset recorded on Ambac's
balance sheet.
(2) Future premiums to be earned, net of reinsurance relate to the
unearned premiums liability and deferred ceded premium asset
recorded on Ambac’s balance sheet. The use of contractual lives for
many bond types which do not have homogeneous pools of
underlying collateral is required in the calculation of the premium
receivable as further described in Note 2. Basis of Presentation and
Significant Accounting Policies. This results in a different premium
receivable balance than if expected lives were considered. If
installment paying policies are retired or prepay early, premiums
reflected in the premium receivable asset and amounts reported in
the above table for such policies may not be collected. Future
premiums to be earned also considers the use of contractual lives for
many bond types which do not have homogeneous pools of
underlying collateral, which may result in different unearned
premium than if expected lives were considered. If those bonds types
are retired early, premium earnings may be negative in the period of
call or refinancing.
| Ambac Financial Group, Inc. 89 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Loss and Loss Expense Reserves
A loss reserve is recorded on the balance sheet on a policy-by-policy basis as further described in Note 2. Basis of Presentation and Significant
Accounting Policies. Below are the components of the Loss and loss expense reserves liability and the Subrogation recoverable asset at
December 31, 2019 and 2018:
Balance Sheet Line Item
December 31, 2019:
Loss and loss expense reserves
Subrogation recoverable
Totals
December 31, 2018:
Loss and loss expense reserves
Subrogation recoverable
Totals
Below is the loss and loss expense reserve roll-forward, net of
subrogation recoverable and reinsurance, for the affected periods.
Year Ended
December 31,
Beginning gross loss and
loss expense reserves
2019
2018
2017
$
(107) $
4,114
$
3,696
Reinsurance recoverable
23
41
31
Beginning balance of net
loss and loss expense
reserves
Losses and loss expenses
(benefit) incurred:
Current year
Prior years (1)
Total (2)(3)
Loss and loss expenses
(recovered) paid:
Current year
Prior years (1)
Total
Foreign exchange effect
Ending net loss and loss
expense reserves
Impact of VIE consolidation
Reinsurance recoverable (4)
Ending gross loss and loss
expense reserves
(130)
4,073
3,665
1
12
13
—
318
318
(1)
(436)
(72)
26
(482)
5
(228)
(224)
—
3,963
3,964
(15)
6
507
513
1
133
134
29
(130)
4,073
—
23
—
41
(107)
4,114
(1)
2018 loss and loss expenses (recovered) paid includes the settlement
of Deferred Amounts and Interest Accrued on Deferred Amounts in
the amount of $3,000 and $857, respectively in connection with the
Rehabilitation Exit Transactions through a combination of cash,
surplus notes and secured notes. 2018 loss and loss expenses incurred
includes a $288 loss and loss expense benefit on these settled Deferred
Amounts.
Present Value of Expected
Net Cash Flows
Claims and
Loss Expenses
Recoveries
Unearned
Premium
Revenue
Gross Loss and
Loss Expense
Reserves
$
$
$
$
1,835
131
1,966
2,246
176
2,422
$
$
$
$
(233) $
(2,160)
(2,394) $
(314) $
(2,109)
(2,422) $
(54) $
—
(54) $
(107) $
—
(107) $
1,548
(2,029)
(482)
1,826
(1,933)
(107)
(2) Total losses and loss expenses (benefit) includes $(7), $(2) and $20
for the years ended December 31, 2019, 2018 and 2017, respectively,
related to ceded reinsurance.
(3) Ambac records the impact of estimated recoveries related to
securitized loans in RMBS transactions that breached certain
representations and warranties within losses and loss expenses
(benefit). The losses and loss expense (benefit) incurred associated
with changes in estimated representation and warranty recoveries for
the year ended December 31, 2019, 2018 and 2017 was $42, $62 and
$72, respectively.
(4) Represents reinsurance recoverable on future loss and loss expenses.
Additionally, the Balance Sheet line "Reinsurance recoverable on
paid and unpaid losses" includes reinsurance recoverables (payables)
of $0, $1 and $0 as of December 31, 2019, 2018 and 2017,
respectively, related to previously presented loss and loss expenses
and subrogation.
For 2019, the adverse development in prior years was primarily a
result of deterioration in Public Finance credits, primarily Puerto
Rico, partially offset by the benefit for (i) the Ballantyne Re plc
("Ballantyne") and Puerto Rico COFINA commutations, and (ii)
positive development in the RMBS and Student Loan portfolios.
For 2018, the net positive development in prior years was primarily
a result of the discount recorded on the Rehabilitation Exit
Transactions partially offset by negative development in the Public
Finance portfolio and interest accrued on Deferred Amounts prior
to the Rehabilitation Exit Transactions.
For 2017, the net adverse development in prior years was primarily
the result of negative development in certain public finance
transactions, including Puerto Rico, and interest accrued on
Deferred Amounts partially offset by positive developments in
certain Ambac UK transactions, including a benefit of $145 related
to a confidential settlement of litigation brought by Ambac UK in
the name of Ballantyne that reduced the ultimate Ballantyne claims
Ambac UK was expecting to pay.
| Ambac Financial Group, Inc. 90 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The tables below summarize information related to policies currently included in Ambac’s loss and loss expense reserves or subrogation
recoverable at December 31, 2019 and 2018. Gross par exposures include capital appreciation bonds which are reported at the par amount at
the time of issuance of the insurance policy as opposed to the current accreted value of the bond. The weighted average risk-free rate used to
discount loss reserves at December 31, 2019 and 2018 was 2.1% and 2.8%, respectively.
Number of policies
Remaining weighted-average contract
period (in years) (1)
Gross insured contractual payments
outstanding:
Principal
Interest
Total
Gross undiscounted claim liability
Discount, gross claim liability
Gross claim liability before all subrogation
and before reinsurance
Less:
Gross RMBS subrogation (2)
Discount, RMBS subrogation
Discounted RMBS subrogation, before
reinsurance
Less:
Gross other subrogation (3)
Discount, other subrogation
Discounted other subrogation, before
reinsurance
Gross claim liability, net of all subrogation
and discounts, before reinsurance
Less: Unearned premium revenue
Plus: Loss expense reserves
Gross loss and loss expense reserves
Reinsurance recoverable reported on
Balance Sheet (4)
$
$
$
$
$
$
$
$
$
I
IA
Surveillance Categories as of December 31, 2019
V
III
IV
II
34
8
18
21
11
9
16
17
139
14
Total
221
15
3
3
$
$
$
668
340
1,007
2
—
$
$
$
510
507
1,016
44
(5)
$
$
$
277
128
404
21
(1)
$
$
$
857
366
1,223
541
(152)
$
$
$
3,819
1,678
5,498
1,778
(381)
$
$
$
37
11
48
48
(2)
6,168
3,029
9,197
2,434
(541)
2
$
39
$
20
$
389
$
1,397
$
46
$
1,893
— $
— $
— $
— $
(1,777) $
— $
(1,777)
—
—
—
—
—
2
$
(1) $
1
1
$
— $
—
—
—
—
—
39
$
(9) $
1
30
6
$
$
—
—
—
—
—
20
$
(1) $
1
20
7
$
$
—
—
(41)
4
(37)
353
$
(7) $
4
349
24
$
$
49
(1,727)
(666)
47
(620)
—
—
(13)
3
(10)
(950) $
(35) $
67
(918) $
36
$
— $
—
36
$
49
(1,727)
(720)
53
(666)
(501)
(54)
73
(482)
(10) $
— $
26
(1) Remaining weighted-average contract period is weighted based on projected gross claims over the lives of the respective policies.
(2) RMBS subrogation represents Ambac’s estimate of subrogation recoveries from RMBS transaction sponsors for representation and warranty ("R&W")
breaches.
(3) Other subrogation represents subrogation related to excess spread and other contractual cash flows on public finance and structured finance transactions
including RMBS.
(4) Reinsurance recoverable reported on Balance Sheet includes reinsurance recoverables of $26 related to future loss and loss expenses and $0 related to
presented loss and loss expenses and subrogation.
| Ambac Financial Group, Inc. 91 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Number of policies
Remaining weighted-average contract
period (in years) (1)
Gross insured contractual payments
outstanding:
Principal
Interest
Total
Gross undiscounted claim liability
Discount, gross claim liability
Gross claim liability before all subrogation
and before reinsurance
Less:
Gross RMBS subrogation (2)
Discount, RMBS subrogation
Discounted RMBS subrogation, before
reinsurance
Less:
Gross other subrogation (3)
Discount, other subrogation
Discounted other subrogation, before
reinsurance
Gross claim liability, net of all subrogation
and discounts, before reinsurance
Less: Unearned premium revenue
Plus: Loss expense reserves
Gross loss and loss expense reserves
Reinsurance recoverable reported on
Balance Sheet (4)
$
$
$
$
$
$
$
$
$
Surveillance Categories as of December 31, 2018
I
IA
II
III
IV
V
Total
21
9
28
19
18
9
16
22
145
14
$
$
$
917
488
1,404
4
—
$
$
$
708
632
1,340
64
(13)
$
$
$
623
293
916
36
(3)
$
$
$
1,705
6,979
8,685
992
(434)
$
$
$
5,407
2,178
7,585
2,296
(638)
3
3
43
13
57
57
(4)
231
16
$
$
$
9,403
10,583
19,986
3,448
(1,092)
4
$
51
$
33
$
558
$
1,658
$
52
$
2,356
— $
— $
— $
— $
(1,810) $
— $
(1,810)
—
—
—
—
—
4
$
(1) $
1
4
$
— $
—
—
(11)
7
(3)
47
$
(10) $
4
41
7
$
$
—
—
—
—
—
33
$
(5) $
3
30
4
$
$
—
—
(137)
67
(70)
489
$
(36) $
(6)
446
26
$
$
39
(1,771)
(625)
55
(570)
—
—
(13)
4
(9)
(682) $
(54) $
63
(672) $
43
$
— $
—
43
$
39
(1,771)
(785)
133
(652)
(66)
(107)
66
(107)
(15) $
— $
23
(1) Remaining weighted-average contract period is weighted based on projected gross claims over the lives of the respective policies.
(2) RMBS subrogation represents Ambac's estimate of subrogation recoveries from RMBS transaction sponsors for R&W breaches.
(3) Other subrogation represents subrogation related to excess spread and other contractual cash flows on public finance and structured finance transactions,
including RMBS.
(4) Reinsurance recoverable reported on Balance Sheet includes reinsurance recoverables of $23 related to future loss and loss expenses and $1 related to
presented loss and loss expenses and subrogation.
Puerto Rico
its
Ambac has exposure to the Commonwealth of Puerto Rico (the
"Commonwealth") and
instrumentalities across several
different issuing entities with total net par exposure of $1,123.
Components of Puerto Rico net par outstanding include capital
appreciation bonds which are reported at the par amount at the time
of issuance of the related insurance policy as opposed to the current
accreted value of the bonds. Each issuing entity has its own credit
risk profile attributable to discrete revenue sources, direct general
obligation pledges or general obligation guarantees. The
Commonwealth of Puerto Rico and certain of its instrumentalities
have defaulted and may continue to default on debt service
payments, including payments owed on bonds insured by Ambac
Assurance. Ambac Assurance may be required to make significant
amounts of policy payments over the next several years, the
recoverability of which is subject to great uncertainty, which may
lead to a material increase in permanent losses causing a material
adverse impact on our results of operations and financial condition.
Our exposure to Puerto Rico is impacted by the amount of monies
available for debt service, which is in turn affected by a number
of factors including demographic trends, economic growth, tax
policy and revenues, impact of reforms, fiscal plans, government
actions, political instability, budgetary performance and flexibility,
weather events, restructuring and litigation outcomes, willingness
to pay, as well as federal funding of Commonwealth needs. In the
near term, the financial and economic outlook for Puerto Rico is
dependent upon a still fragile infrastructure, heightening its
vulnerability to additional weather events. The longer term
recovery of the Commonwealth economy and its essential
infrastructure will likely be dependent on, among other factors, the
management, usage and efficacy of federal resources.
Also important to Puerto Rico's economic growth, government
reform and creditor outcomes is the Commonwealth Revised Fiscal
Plan, certified by the Financial Oversight and Management Board
for Puerto Rico ("Oversight Board") on May 9, 2019. The
Commonwealth Revised Fiscal Plan outlines a series of reforms,
| Ambac Financial Group, Inc. 92 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
rationales
projects the fiscal and economic impact of those reforms, and
provides forecasts of resulting budgetary surpluses over a fiscal
year series. However, as was the case with prior Commonwealth
fiscal plans, the Commonwealth Revised Fiscal Plan lacks a high
degree of transparency regarding the underlying data, assumptions
assumptions, making
and
reconciliation and due diligence difficult. As a result, it is difficult
to predict the long-term capacity and willingness of the Puerto Rico
government and its instrumentalities to pay debt service on bonded
debt and how their debt burden and financial flexibility might affect
Ambac Assurance's claim development potential, risk profile and
long-term financial strength.
supporting
those
Substantial uncertainty exists with respect to the ultimate outcome
for creditors in Puerto Rico, such as Ambac Assurance, due to,
amongst other matters, the Commonwealth Plan of Adjustment or
changes thereto; political uncertainty and leadership turnover;
legislation enacted by the Commonwealth and the federal
government, including PROMESA; and actions taken pursuant to
such laws, including Title III filings. Ambac Assurance is involved
in multiple litigations relating to such actions and other issues and
may not be successful in pursuing claims or protecting its interests.
As a result of litigation or other aspects of the restructuring
processes, including the Amended POA, the differences among the
credits insured by Ambac Assurance may not be respected.
Ambac Assurance has participated and may continue to participate
in mediation related to potential debt restructurings, which could
include debt restructurings as contemplated by the Amended POA.
Mediation may not be productive or may not resolve Ambac
Assurance's claims in a manner that avoids significant losses. No
assurances can be given that negotiations will be successfully
concluded, that Commonwealth, Oversight Board and creditor
parties will reach definitive agreements on additional debt
restructurings, that any additional negotiated transaction debt
restructuring, definitive agreement or plans of adjustment will be
approved by the court and completed, or that any transaction or
plans of adjustment will not have an adverse impact on Ambac's
financial condition or results. It is possible that certain restructuring
process solutions, together with associated legislation, budgetary,
and/or public policy proposals could be adopted and could further
impair our exposures, causing losses that could have a material
adverse impact on our results of operations and financial condition.
While our reserving scenarios account for a wide range of possible
outcomes, reflecting the significant uncertainty regarding future
developments and outcomes, given our exposure to Puerto Rico
and the economic, fiscal, legal and political uncertainties
associated therewith as well as the residual effects emanating from
the damage caused by hurricanes Maria and Irma in 2017 and
earthquakes that began in late December 2019, our loss reserves
may ultimately prove to be insufficient to cover our losses,
potentially having a material adverse effect on our results of
operations and financial position, and may be subject to material
volatility.
Ambac has considered these developments and other factors in
evaluating its Puerto Rico loss reserves. During the year ended
December 31, 2019, Ambac had incurred losses associated with
its Domestic Public Finance insured portfolio of $250, which was
primarily impacted by the continued uncertainty and volatility of
the situation in Puerto Rico. While management believes its
reserves are adequate to cover losses in its Public Finance insured
portfolio, there can be no assurance that Ambac may not incur
additional losses in the future, given the circumstances described
herein. Such additional losses may have a material adverse effect
on Ambac’s results of operations and financial condition and may
result in adverse consequences such as impairing the ability of
Ambac Assurance to honor its financial obligations; the initiation
of rehabilitation proceedings against Ambac Assurance; decreased
likelihood of Ambac Assurance delivering value to Ambac,
through dividends or otherwise; and a significant drop in the value
of securities issued or insured by Ambac or Ambac Assurance. For
public finance credits, including Puerto Rico, as well as other
issuers, for which Ambac has an estimate of expected loss at
December 31, 2019, the possible increase in loss reserves under
stress or other adverse conditions and circumstances was estimated
to be approximately $1,000. This possible increase in loss reserves
under stress or other adverse conditions is very significant and if
we were to experience such incremental losses, our stockholders’
equity as of December 31, 2019 would decrease from $1,536 to
$536. However, there can be no assurance that losses may not
exceed such amount.
COFINA Debt Restructuring
On January 16-17, 2019, the hearings for the confirmation of the
COFINA Plan of Adjustment ("COFINA POA") and the
Commonwealth 9019 motion were held. On February 4, 2019, the
COFINA POA was confirmed and the Commonwealth 9019
motion was approved by the U.S. District Court for the District of
Puerto Rico. On February 12, 2019, the COFINA POA went
effective. Pursuant to the POA, all existing COFINA senior and
subordinate bonds were discharged and exchanged for cash and
new COFINA current interest and capital appreciation bonds ("new
COFINA bonds"). The cash and new COFINA bonds allocated to
COFINA senior bondholders equaled approximately 93%
(considering the new COFINA bonds at par) of such senior
bondholders’ allowed claim, in the amount of the COFINA senior
bond accreted value, as of, but not including, May 5, 2017 (the
COFINA Title III Petition Date).
As a result of the COFINA POA, and subsequent commutations,
amendments, and redemptions of obligations of the COFINA Class
2 Trust, Ambac Assurance's net par outstanding was reduced to
$101 as of December 31, 2019. Ambac Assurance's remaining
policy obligation of $101 net par is an asset of the COFINA Class
2 Trust, which holds a ratable distribution of new COFINA bonds,
the interest and principal from which can be used to partially offset
Ambac’s remaining insurance liability. As further discussed in
Note 3. Variable Interest Entities, Ambac Assurance consolidates
the COFINA Class 2 Trust.
At this time, it is unclear what impact the COFINA restructuring
will have on the prospective recoveries of Ambac Assurance's other
insured Puerto Rico instrumentalities.
Representation and Warranty Recoveries
Ambac records estimated RMBS R&W subrogation recoveries for
breaches of R&W by sponsors of certain RMBS transactions. For
a discussion of the approach utilized to estimate RMBS R&W
| Ambac Financial Group, Inc. 93 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
subrogation recoveries, see Note 2. Basis of Presentation and
Significant Accounting Policies.
with the largest reinsurer accounting for $2,746 or 6.3% of gross
par outstanding at December 31, 2019.
Ambac has recorded RMBS R&W subrogation recoveries of
$1,727, ($1,702 net of reinsurance) and $1,771, ($1,744 net of
reinsurance) at December 31, 2019 and 2018, respectively.
Below is the rollforward of RMBS R&W subrogation for the
affected periods:
Year ended December 31,
2019
2018
2017
Discounted RMBS
subrogation recovery
(gross of reinsurance) at
beginning of year
All other changes (1)
Discounted RMBS
subrogation recovery
(gross of reinsurance) at
end of year
$
1,771
$
1,834
$
1,907
(43)
(64)
(73)
$
1,727
$
1,771
$
1,834
(1) All other changes which may impact RMBS R&W subrogation
recoveries include changes in actual or projected collateral
performance, changes in the creditworthiness of a sponsor and the
projected timing of recoveries. All other changes may also include
estimates of potential sponsor settlements that may not have been
subject to a sampling approach or have been executed, but the
settlement amounts have not yet been received. Those that have not
been subject to a sampling approach are not material to Ambac’s
financial results and therefore are included in this table.
Assumed Reinsurance
Assumed par outstanding was $219 and $219 at December 31,
2019 and 2018, respectively.
Ceded Reinsurance
Ambac Assurance has reinsurance in place pursuant to surplus
share
treaty and facultative reinsurance agreements. The
reinsurance of risk does not relieve Ambac Assurance of its original
liability to its policyholders. In the event that any of Ambac
Assurance’s reinsurers are unable to meet their obligations under
reinsurance contracts, Ambac Assurance would, nonetheless, be
liable to its policyholders for the full amount of its policy.
Ambac Assurance’s reinsurance assets, including deferred ceded
premiums and reinsurance recoverables on losses amounted to
$109 at December 31, 2019. Credit exposure existed at
December 31, 2019, with respect to reinsurance recoverables to
the extent that any reinsurer may not be able to reimburse Ambac
Assurance under the terms of these reinsurance arrangements. At
December 31, 2019, there were ceded reinsurance balances
payable of $29 offsetting this credit exposure.
To minimize its credit exposure to losses from reinsurer
insolvencies, Ambac Assurance (i) is entitled to receive collateral
from its reinsurance counterparties in certain reinsurance contracts
and (ii) has certain cancellation rights that can be exercised by
Ambac Assurance in the event of rating agency downgrades of a
reinsurer (among other events and circumstances). Ambac
Assurance held letters of credit and collateral amounting to $124
from its reinsurers at December 31, 2019. As of December 31,
2019, the aggregate amount of insured par ceded by Ambac
Assurance to reinsurers under reinsurance agreements was $5,890
The following table represents the percentage ceded to reinsurers
and unsecured reinsurance recoverable at December 31, 2019.
Reinsurers
Percentage
Ceded Par
Net Unsecured
Reinsurance
Recoverable (1)
Assured Guaranty Re Ltd
47%
$
Build America Mutual
Assurance Company (2)
Assured Guaranty Corporation
Sompo Japan Nipponkoa
Insurance, Inc.
42
8
3
Total
100%
$
—
36
5
—
41
(1) Represents reinsurance recoverables on paid and unpaid losses and
deferred ceded premiums, net of ceded premium payables due to
reinsurers, letters of credit, and collateral posted for the benefit of
Ambac Assurance.
(2) Build America Mutual Assurance Company has an S&P rating of AA.
Insurance Intangible Asset
The insurance intangible amortization expense is included in
insurance intangible amortization on the Consolidated Statements
of Total Comprehensive Income (Loss). For the years ended
December 31, 2019, 2018 and 2017, the insurance intangible
amortization expense was $295, $107 and $151, respectively. As
of December 31, 2019 and 2018, the gross carrying value of the
insurance intangible asset was $1,273 and $1,552, respectively.
Accumulated amortization of the insurance intangible asset was
$847 and $833, as of December 31, 2019 and 2018, respectively,
resulting in a net insurance intangible asset of $427 and $719,
respectively.
The estimated future amortization expense for the net insurance
intangible asset is as follows:
Amortization expense (1) (2)
2020
2021
2022
2023
2024
Thereafter
$
45
39
36
33
30
244
(1) The insurance intangible asset will be amortized using a level-yield
method based on par exposure of the related financial guarantee
insurance or reinsurance contracts as described in Note 2. Basis of
Presentation and Significant Accounting Policies. Future
amortization considers the use of contractual lives for many bond
types which do not have homogeneous pools of underlying collateral.
Actual maturities will differ from contractual maturities because
borrowers may have the right to call or prepay certain obligations. If
those bonds types are retired early, amortization expense may differ
in the period of call or refinancing from the amounts provided in the
table above.
(2) The weighted-average amortizations period is 7.6 years.
| Ambac Financial Group, Inc. 94 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
8. INSURANCE REGULATORY RESTRICTIONS
United States
Ambac Assurance and Everspan are domiciled in the State of
Wisconsin and, as such, are subject to the insurance laws and
regulations of the State of Wisconsin (the “Wisconsin Insurance
Laws”) and are regulated by the OCI. In addition, Ambac
Assurance and Everspan are subject to the insurance laws and
regulations of the other jurisdictions in which they are licensed.
Insurance laws and regulations applicable to financial guarantee
insurers vary by jurisdiction. The laws and regulations generally
require financial guarantors to maintain minimum standards of
business conduct and solvency; to meet certain financial tests; and
to file policy forms, premium rate schedules and certain reports with
regulatory authorities, including information concerning capital
structure, ownership, financial condition, corporate governance and
enterprise risk. Regulated insurance companies are also required to
file quarterly and annual statutory financial statements with the
National Association of Insurance Commissioners (“NAIC”), and
in each jurisdiction in which they are licensed. The level of
supervisory authority that may be exercised by non-domiciliary
insurance regulators varies by jurisdiction. Generally, however,
non-domiciliary regulators are authorized to suspend or revoke the
insurance license they issued and to impose restrictions on that
license in the event that laws or regulations are breached by a
regulated insurance company or in the event that continued or
unrestricted
insurance company
constitutes a “hazardous condition” (or meets a similar standard) in
the opinion of the regulator.
the regulated
licensing of
As the principal, or domiciliary, regulator of Ambac Assurance and
Everspan, OCI has primary regulatory authority, including with
respect to the initiation and administration of rehabilitation or
liquidation proceedings. Additionally, the accounts and operations
of Ambac Assurance and Everspan are subject to periodic
comprehensive examinations by the OCI. Wisconsin Insurance
Laws require regulated insurance companies to maintain minimum
standards of business conduct, maintain minimum surplus to
policyholders, meet certain financial tests, and file certain reports,
including information concerning their capital structure, ownership,
financial condition, corporate governance and enterprise risk.
Neither Ambac Assurance nor Everspan is subject to risk-based
capital requirements, since its is a financial guarantee insurer.
Ambac Assurance and Everspan are in compliance with minimum
surplus levels. Wisconsin Insurance Laws also require prior
approval by OCI of certain transactions between Ambac Assurance
or Everspan and their respective affiliates.
In addition, pursuant to the terms of the Settlement Agreement, the
Stipulation and Order and the indenture for the Tier 2 Notes, Ambac
Assurance must seek prior approval by OCI of certain corporate
actions. The Settlement Agreement, Stipulation and Order and
indenture for the Tier 2 Notes include covenants which restrict the
operations of Ambac Assurance. The Settlement Agreement will
remain in force until the surplus notes that were issued pursuant to
the Settlement Agreement have been redeemed, repurchased or
repaid in full. The Stipulation and Order will remain in force for so
long as OCI determines it to be necessary. The indenture for the Tier
2 Notes will remain in force until the Tier 2 Notes have been
redeemed, repurchased or repaid in full. Certain of the restrictions
in the Settlement Agreement and the indenture for the Tier 2 Notes
may be waived with the approval of the OCI and/or the requisite
percentage of holders of the related debt securities.
New York’s comprehensive financial guarantee insurance law
defines the scope of permitted financial guarantee insurance and
governs the conduct of business of all financial guarantors licensed
to do business in New York, including Ambac Assurance and
Everspan. The New York financial guarantee insurance law also
establishes single risk and aggregate limits with respect to insured
obligations insured by financial guarantee insurers. Such single risk
limits are specific to the type of insured obligation (for example,
municipal or asset-backed). Under
limits,
policyholders’ surplus and contingency reserves must at least equal
a percentage of aggregate net liability that is equal to the sum of
various percentages of aggregate net liability for various categories
of specified obligations. At December 31, 2019, Ambac Assurance
is in compliance with applicable aggregate risk limits but not in
compliance with applicable single risk limits. Through run-off of
the portfolio, Ambac Assurance will continue to seek the reduction
in its exposure for compliance with applicable single and aggregate
risk limits, but may not be able to do so. Everspan is in compliance
with all of such limits.
the aggregate
Ambac Assurance’s statutory financial statements are prepared on
the basis of accounting practices prescribed or permitted by
Wisconsin Insurance law and OCI actions thereunder. A Wisconsin
insurance company uses such statutory accounting practices
prescribed or permitted by the State of Wisconsin for determining
and reporting its financial condition and results of operations,
including for determining its solvency under Wisconsin Insurance
Law. The State of Wisconsin has adopted the applicable National
Association of Insurance Commissioners (“NAIC”) accounting
practices and procedures manual (“NAIC SAP”) as a component of
prescribed practices by the State of Wisconsin. Ambac Assurance’s
statutory policyholder surplus was $1,088 at December 31, 2019,
as compared to $1,152 as of December 31, 2018. Statutory
policyholder surplus differs from stockholders’ equity determined
under GAAP principally due to statutory accounting rules that treat
loss reserves, investments, consolidation of subsidiaries and
variable interest entities, premiums earned and surplus notes
differently.
The OCI has prescribed or permitted accounting practices for
Ambac Assurance. As a result of the prescribed and permitted
practices discussed below, Ambac Assurance’s statutory surplus at
December 31, 2019 and 2018 was lower by $12 and $42,
respectively, than if Ambac Assurance had reported such amounts
in accordance with NAIC SAP.
Prescribed Accounting Practices
OCI has prescribed the following accounting practices that differ
from NAIC SAP for Ambac Assurance:
• Paragraph 8 of Statement of Statutory Accounting Principles
No. 60 “Financial Guaranty Insurance” allows for a deduction
from loss reserves for the time value of money by application
of a discount rate equal to the average rate of return on the
admitted assets of the financial guaranty insurer as of the date
of the computation of the reserve. The discount rate shall be
adjusted at the end of each calendar year. Additionally, in
| Ambac Financial Group, Inc. 95 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
accordance with paragraph 13.e of Statutory Accounting
Principles No. 97 "Investments in Subsidiary, Controlled and
Affiliated Entities" and paragraph 8 of Statutory Accounting
Principles No. 5R “Liabilities, Contingencies and Impairments
of Assets - Revised”, Ambac Assurance records probable losses
on its subsidiaries for which it guarantees their obligations.
Ambac Assurance also discounts probable losses on guarantees
of subsidiary obligations using a discount rate equal to the
average rate of return on its admitted assets. Ambac
Assurance’s average rates of return on its admitted assets at
December 31, 2019 and 2018 were 5.43% and 5.87%,
respectively. OCI has directed Ambac Assurance to utilize a
prescribed discount rate of 5.10% for the purpose of
discounting both its loss reserves and its estimated impairment
losses on subsidiary guarantees.
• Paragraph 4 of Statement of Statutory Accounting Principles
No. 41 “Surplus Notes” (“SSAP 41”) states that proceeds
received by the issuer of surplus notes must be in the form of
cash or other admitted assets having readily determinable
values and liquidity satisfactory to the commissioner of the
state of domicile. Under statutory accounting principles,
surplus notes issued in conjunction with commutations or the
settlement of obligations would be valued at zero upon issuance
pursuant to paragraph 4, SSAP 41. OCI has directed the
Company to record surplus notes issued in connection with
commutations or the settlement of obligations at full par value
upon issuance. The surplus notes issued have a claim against
surplus senior to the preferred and common shareholders.
• Paragraph 35 of Statement of Statutory Accounting Principles
No. 43R ”Loan-backed and Structured Securities” states that
when an other-than-temporary impairment ("OTTI") has
occurred, the amount of the OTTI recognized as a realized loss
shall equal the difference between the investment’s amortized
cost basis and the present value of cash flows expected to be
collected, discounted at the loan-backed or structured
security’s effective interest rate. Beginning June 11, 2014, as
a result of the amended Segregated Account Rehabilitation
Plan, OCI has directed the Company to not evaluate
investments in Ambac Assurance insured securities with
policies that were allocated to the Segregated Account for
OTTI and require all such investments be reported at amortized
cost regardless of its NAIC risk designation. This accounting
determination was
that Ambac
Assurance continues to maintain statutory loss reserves
without adjustment for the economic effects of its ownership
of the insured investment securities, improve transparency to
the users of the statutory financial statements and to minimize
operational risks. Effective February 12, 2018, with the
Segregated Account's exit from Rehabilitation, this prescribed
practice is no longer applicable for OTTI evaluations going
forward.
to recognize
intended
Permitted Accounting Practices
OCI has allowed the following permitted practices for Ambac
Assurance:
• Wisconsin accounting practices for changes to contingency
reserves differ from NAIC SAP. Under NAIC SAP,
contributions to and releases from the contingency reserve are
recorded via a direct charge or credit to surplus. Under the
Wisconsin Administrative Code, contributions to and releases
from the contingency reserve are to be recorded through
underwriting income. Ambac Assurance received permission
from OCI to record contributions to and releases from the
contingency reserve, in accordance with NAIC SAP.
• Ambac Assurance received permission from OCI to report
investment holdings of Ambac Assurance insured securities as
a separate invested asset on the balance sheet rather than
combined with other bond investments. This permitted
practice only impacts the balance sheet classification and has
no impact on the valuation of the securities to which it applies
or to statutory surplus. On April 10 2019, Ambac Assurance
requested and OCI approved the termination of this permitted
practice and accordingly, all such investments are being
combined with other bond investments beginning on January
1, 2019.
• Effective upon the exit of the Segregated Account from
rehabilitation and the merger of the Segregated Account with
and into Ambac Assurance, Ambac Assurance received
permission from OCI to restate its unassigned funds (surplus)
balance to $100 with an offsetting reduction of $3,433 to gross
paid-in and contributed surplus such that total surplus remains
unchanged.
• In connection with the AMPS Exchange in 2018, Ambac
Assurance received permission from OCI to account for the
exchange of AMPS for 5.1% surplus notes in a manner that
ensures compliance with certain state insurance regulations
that require a minimum surplus level. Accordingly, Ambac
Assurance recorded the excess of the consideration paid over
the par value of the AMPS as follows: i) first as a reduction to
gross paid-in and contributed surplus up to an amount that
resulted in a gross paid-in and contributed surplus balance of
not less than $75 and ii) for any remaining excess, as a reduction
to unassigned surplus. This permitted practice only impacts
the balance sheet classification and has no impact on statutory
surplus.
United Kingdom
The Prudential Regulatory Authority (“PRA”) and Financial
Conduct Authority (“FCA”) (and their predecessor regulator the
Financial Services Authority (“FSA”)) are the dual statutory
regulator responsible for regulating the financial services industry
in the United Kingdom, with the purpose of maintaining confidence
in the U.K. financial system, providing public understanding of the
system, securing the proper degree of protection for consumers and
helping to reduce financial crime. In addition, the regulatory regime
in the United Kingdom must comply with certain EU legislation
binding on all EU member states.
These regulators have exercised significant oversight of Ambac UK
since 2008, after Ambac, Ambac Assurance and Ambac UK began
experiencing financial stress. In 2009, Ambac UK’s license to write
new business was curtailed by the FSA and the insurance license
was limited to undertaking only run-off related activity. As such,
Ambac UK is authorized to run-off its credit, suretyship and
financial guarantee insurance portfolio in the United Kingdom, and
to do the same through a branch in Milan, Italy, and a number of
other European Union (“EU”) countries. EU legislation has allowed
Ambac UK to conduct business in EU states other than the United
Kingdom through a “passporting” arrangement, which eliminates
| Ambac Financial Group, Inc. 96 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
the necessity of additional licensing or authorization in those other
EU jurisdictions.
The PRA requires that non-life insurance companies such as Ambac
UK maintain a margin of solvency at all times in respect of the
liabilities of the insurance company, the calculation of which
depends on the type and amount of insurance business a company
writes. These solvency requirements were amended on January 1,
2016, in order to implement the European Union's "Solvency II"
directive on risk-based capital. Notwithstanding the foregoing,
Ambac UK is deficient in terms of compliance with currently
applicable regulatory capital requirements under Solvency II
directive. The PRA and FCA are aware of the same, and dialogue
between Ambac UK management and its regulators remains
ongoing with respect to options for addressing the shortcoming,
although such options remain few.
Dividend Restrictions, Including Contractual Restrictions
Due to losses experienced by Ambac Assurance, it has been unable
to pay common dividends to Ambac since 2008 and will be unable
to pay common dividends in 2020 without the prior consent of the
OCI, which is unlikely. Ambac Assurance’s ability to pay dividends
is further restricted by the Settlement Agreement (as described
below), by the indenture for the Tier 2 Notes (as described below),
by the terms of its AMPS (as described below) and by the Stipulation
and Order. See Note 1. Background and Business Description for
further information. Ambac Assurance is not expected to make
dividend payments to AFG for the foreseeable future.
Subject to the foregoing, pursuant to the Wisconsin Insurance Laws,
Ambac Assurance and Everspan may declare dividends, subject to
restrictions in their respective articles of incorporation, provided
that, after giving effect to the distribution, such dividends would not
violate certain statutory solvency, surplus and asset tests. Board
action authorizing a shareholder distribution by Ambac Assurance
or Everspan (other than stock dividends) must be reported to the
OCI at least 30 days prior to payment, unless the distribution is no
more than 15% larger than for the corresponding period in the
previous year. In addition, Wisconsin Insurance Laws restrict the
payment of extraordinary dividends, which is any distribution
which, together with distributions in the prior 12 months, is greater
than the lesser of (a) 10% of policyholders’ surplus as of the
preceding December 31, and (b) the greater of (i) statutory net
income (loss) for the calendar year preceding the date of the
dividend, minus realized capital gains for that calendar year or
(ii) the aggregate of statutory net income (loss) for three calendar
years preceding the date of the dividend, minus realized capital gains
for those calendar years and minus dividends paid or credited within
the first two of the three preceding calendar years. Extraordinary
dividends must be reported to OCI at least 30 days prior to payment
and are subject to disapproval by the OCI.
UK law prohibits Ambac UK from declaring a dividend to its
shareholders unless it has “profits available for distribution.” The
determination of whether a company has profits available for
distribution is based on its accumulated realized profits less its
accumulated realized losses. While the UK insurance regulatory
laws impose no statutory restrictions on a general insurer’s ability
to declare a dividend, the PRA’s and FCA’s capital requirements in
practice act as a restriction on the payment of dividends. Further,
the FSA amended Ambac UK’s license in 2010 such that the PRA
must specifically approve (“non-objection”) any transfer of value
and/or assets from Ambac UK to Ambac Assurance or any other
Ambac group company, other than in respect of certain disclosed
contracts between the two parties (such as in respect of a
management services agreement between Ambac Assurance and
Ambac UK). Ambac UK is not expected to pay any dividends to
Ambac Assurance for the foreseeable future.
Pursuant to the Settlement Agreement, Ambac Assurance may not
make any “Restricted Payment” (which includes dividends from
Ambac Assurance to Ambac) in excess of $5 in the aggregate per
annum, other than Restricted Payments from Ambac Assurance to
Ambac in an amount up to $8 per annum solely to pay operating
expenses of Ambac. Concurrent with making any such Restricted
Payment, a pro rata amount of Ambac Assurance's surplus notes
would also need to be redeemed at par. The indenture for the Tier
2 Notes contains a similar restrictive covenant and further requires
a proportional payment of the Tier 2 Notes (or interest thereon) when
payments are made on the surplus notes.
Under the terms of Ambac Assurance’s AMPS, dividends may not
be paid on the common stock of Ambac Assurance unless all accrued
and unpaid dividends on the AMPS for the then current dividend
period have been paid, provided, that dividends on the common
stock may be made at all times for the purpose of, and only in such
amounts as are necessary for, enabling Ambac (i) to service its
indebtedness for borrowed money as such payments become due or
(ii) to pay its operating expenses. If dividends are paid on the
common stock as provided in the prior sentence, dividends on the
AMPS become cumulative until the date that all accumulated and
unpaid dividends have been paid on the AMPS.
The Stipulation and Order requires OCI approval for the payment
of any dividend or distribution on the common stock of Ambac
Assurance.
| Ambac Financial Group, Inc. 97 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
9. FAIR VALUE MEASUREMENTS
The Fair Value Measurement Topic of the ASC establishes a framework for measuring fair value and disclosures about fair value measurements.
Fair Value Hierarchy
The Fair Value Measurement Topic of the ASC specifies a fair value hierarchy based on whether the inputs to valuation techniques used to
measure fair value are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while
unobservable inputs reflect Company-based assumptions. The fair value hierarchy prioritizes model inputs into three broad levels as follows:
l Level 1
Quoted prices for identical instruments in active markets. Assets and liabilities classified as Level 1 include US Treasury and
other foreign government obligations traded in highly liquid and transparent markets, certain highly liquid pooled fund
investments, exchange traded futures contracts, variable rate demand obligations and money market funds.
l Level 2
l Level 3
Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are
not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active
markets. Assets and liabilities classified as Level 2 generally include investments in fixed income securities representing
municipal, asset-backed and corporate obligations, certain interest rate swap contracts and most long-term debt of variable
interest entities consolidated under the Consolidation Topic of the ASC.
Model derived valuations in which one or more significant inputs or significant value drivers are unobservable. This hierarchy
requires the use of observable market data when available. Assets and liabilities classified as Level 3 include certain
uncollateralized derivative contracts, equity interests in Ambac sponsored special purpose entities and certain investments in
fixed income securities. Additionally, Level 3 assets and liabilities generally include loan receivables, and certain long-term
debt of variable interest entities consolidated under the Consolidation Topic of the ASC.
| Ambac Financial Group, Inc. 98 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The Fair Value Measurement Topic of the ASC permits, as a practical expedient, the estimation of fair value of certain investments in funds
using the net asset value per share of the investment or its equivalent (“NAV”). Investments in funds valued using NAV are not categorized
as Level 1, 2 or 3 under the fair value hierarchy. The following table sets forth the carrying amount and fair value of Ambac’s financial
assets and liabilities as of December 31, 2019 and 2018, including the level within the fair value hierarchy at which fair value
measurements are categorized. As required by the Fair Value Measurement Topic of the ASC financial assets and liabilities are classified in
their entirety based on the lowest level of input that is significant to the fair value measurement.
December 31, 2019:
Financial assets:
Fixed income securities:
Municipal obligations
Corporate obligations
Foreign obligations
U.S. government obligations
Residential mortgage-backed securities
Commercial mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
Fixed income securities, pledged as collateral:
Short-term
Short term investments
Other investments (1)
Cash, cash equivalents and restricted cash
Derivative assets:
Interest rate swaps—asset position
Other assets - equity in sponsored VIE
Other assets-Loans
Variable interest entity assets:
Fixed income securities: Corporate obligations
Fixed income securities: Municipal obligations
Restricted cash
Loans
Derivative assets:
Currency swaps-asset position
Total financial assets
Financial liabilities:
Long term debt, including accrued interest
Derivative liabilities:
Interest rate swaps—liability position
Liabilities for net financial guarantees written (2)
Variable interest entity liabilities:
Long-term debt (includes $4,351 at fair value)
Derivative liabilities:
Interest rate swaps—liability position
Total financial liabilities
Carrying
Amount
Total Fair
Value
Fair Value Measurements Categorized as:
Level 1
Level 2
Level 3
$
215
$
1,430
215
$
1,430
44
156
248
50
146
287
85
653
478
79
75
3
10
2,957
164
2
3,108
44
156
248
50
146
287
85
653
493
79
75
3
13
2,957
164
2
3,108
52
10,242
3,262
$
$
89
(863)
52
10,260
3,274
$
$
89
284
4,554
4,567
1,657
8,699
$
1,657
9,872
$
$
$
$
— $
—
44
156
—
—
—
—
85
598
136
70
—
—
—
—
—
2
—
—
215
$
1,430
—
—
248
50
146
215
—
55
—
9
8
—
—
—
164
—
—
52
1,091
$
2,593
— $
2,829
$
$
—
—
—
—
— $
89
—
4,408
1,657
8,983
$
—
—
—
—
—
—
—
72
—
—
61
—
67
3
13
2,957
—
—
3,108
—
6,281
445
—
284
159
—
889
| Ambac Financial Group, Inc. 99 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Carrying
Amount
Total Fair
Value
Fair Value Measurements Categorized as:
Level 1
Level 2
Level 3
December 31, 2018:
Financial assets:
Fixed income securities:
Municipal obligations
Corporate obligations
Foreign obligations
U.S. government obligations
Residential mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
Short term investments
Other investments (1)
Cash and cash equivalents and restricted cash
Derivative assets:
Interest rate swaps—asset position
Other assets - equity in sponsored VIE
Other assets-loans
Variable interest entity assets:
Fixed income securities: Corporate obligations
Restricted cash
Loans
Derivative assets; Currency swaps-asset position
Total financial assets
Financial liabilities:
Long term debt, including accrued interest
Derivative liabilities:
Credit derivatives
Interest rate swaps—liability position
Futures contracts
Liabilities for net financial guarantees written (2)
Variable interest entity liabilities:
Long-term debt (includes $5,269 at fair value)
Derivative liabilities:
Interest rate swaps—liability position
$
880
$
880
$
— $
880
$
1,278
1,278
31
94
259
131
442
430
391
82
59
5
10
2,737
1
4,288
66
11,186
3,305
$
$
1
72
3
(718)
5,269
1,712
$
$
—
30
94
—
—
—
305
71
53
—
—
—
—
1
—
—
1,278
1
—
259
131
370
125
—
30
12
—
—
—
—
—
66
$
$
554
$
3,153
— $
2,909
$
$
—
—
3
—
—
—
3
—
72
—
—
5,052
1,712
9,745
31
94
259
131
442
430
367
82
59
5
12
2,737
1
4,288
66
11,164
3,260
1
72
3
559
5,269
1,712
10,876
—
—
—
—
—
—
72
—
16
—
47
5
12
2,737
—
4,288
—
7,177
351
1
—
559
217
—
1,128
Total financial liabilities
$
9,644
$
(1) Excluded from the fair value measurement categories in the table above are investment funds of $296 and $280 as of December 31, 2019 and 2018,
respectively, which are measured using NAV per share as a practical expedient.
(2) The carrying value of net financial guarantees written includes the following balance sheet items: Premium receivables; Reinsurance recoverable on paid
and unpaid losses; Deferred ceded premium; Subrogation recoverable; Insurance intangible asset; Unearned premiums; Loss and loss expense reserves;
Ceded premiums payable, premiums taxes payable and other deferred fees recorded in Other liabilities.
Determination of Fair Value
When available, Ambac uses quoted active market prices specific
to the financial instrument to determine fair value, and classifies
such items within Level 1. The determination of fair value for
financial instruments categorized in Level 2 or 3 involves judgment
due to the complexity of factors contributing to the valuation.
Third-party sources from which we obtain independent market
quotes also use assumptions, judgments and estimates in
determining financial instrument values and different third parties
may use different methodologies or provide different values for
financial instruments. In addition, the use of internal valuation
models may require assumptions about hypothetical or inactive
markets. As a result of these factors, the actual trade value of a
financial instrument in the market, or exit value of a financial
instrument position by Ambac, may be significantly different from
its recorded fair value.
Ambac’s financial instruments carried at fair value are mainly
comprised of investments in fixed income securities, equity
| Ambac Financial Group, Inc. 100 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
interests in pooled investment funds, derivative instruments,
certain variable interest entity assets and liabilities and certain
interests in Ambac sponsored special purpose entities. Valuation
of financial instruments is performed by Ambac’s finance group
using methods approved by senior financial management with
consultation from risk management and portfolio managers as
appropriate. Preliminary valuation results are discussed with
portfolio managers quarterly to assess consistency with market
transactions and trends as applicable. Market transactions such as
trades or negotiated settlements of similar positions, if any, are
reviewed to validate fair value model results. However many of
the financial instruments valued using significant unobservable
inputs have very little or no observable market activity. Methods
and significant inputs and assumptions used to determine fair
values across portfolios are reviewed quarterly by senior financial
management. Other valuation control procedures specific to
particular portfolios are described further below.
We reflect Ambac’s own creditworthiness in the fair value of
financial liabilities by including a credit valuation adjustment
(“CVA”) in the determination of fair value. A decline (increase) in
Ambac’s creditworthiness as perceived by market participants will
generally result in a higher (lower) CVA, thereby lowering
(increasing) the fair value of Ambac’s financial liabilities as
reported.
Fixed Income Securities
The fair values of fixed income investment securities are based
primarily on market prices received from quotes or alternative
pricing sources. Because many fixed income securities do not trade
on a daily basis, pricing sources apply available market information
through processes such as matrix pricing to calculate fair value.
Such prices generally consider a variety of factors, including recent
trades of the same and similar securities. In those cases, the items
are classified within Level 2. For those fixed income investments
where quotes were not available or cannot be reasonably
corroborated, fair values are based on internal valuation models.
Key inputs to the internal valuation models generally include
maturity date, coupon and yield curves for asset-type and credit
rating characteristics that closely match those characteristics of the
specific investment securities being valued. Items valued using
valuation models are classified according to the lowest level input
or value driver that is significant to the valuation. Thus, an item
may be classified in Level 3 even though there may be significant
inputs that are readily observable. Longer (shorter) expected
maturities or higher (lower) yields used in the valuation model will,
in isolation, result in decreases (increases) in fair value. Generally,
lower credit ratings or longer expected maturities will be
accompanied by higher yields used to value a security. At
December 31, 2019, approximately 4%, 94%, and 2% of the fixed
income investment portfolio (excluding variable interest entity
investments) was valued using dealer quotes, alternative pricing
sources and
respectively. At
December 31, 2018, approximately 8%, 90%, and 2% of the fixed
income investment portfolio (excluding variable interest entity
investments) was valued using dealer quotes, alternative pricing
sources and internal valuation models, respectively.
internal valuation models,
Ambac performs various review and validation procedures to
quoted and modeled prices for fixed income securities, including
price variance analyses, missing and static price reviews, overall
valuation analysis by portfolio managers and finance managers
and reviews associated with our ongoing impairment analysis.
Unusual prices identified through these procedures will be
evaluated further against alternative third party quotes (if
available) and/or internally modeled prices, and the pricing source
values will be challenged as necessary. Price challenges generally
result in the use of the pricing source’s quote as originally provided
or as revised by the source following their internal diligence
process. A price challenge may result in a determination by either
the pricing source or Ambac management that the pricing source
cannot provide a reasonable value for a security or cannot
adequately support a quote, in which case Ambac would resort to
using either other quotes or internal models. Results of price
challenges are reviewed by portfolio managers and finance
managers.
Information about the valuation inputs for fixed income securities
classified as Level 3 is included below:
Other asset-backed securities: These securities are a subordinated
tranche of a resecuritization collateralized by Ambac-insured
military housing bonds. The fair value of such securities classified
as Level 3 was $72 and $72 at December 31, 2019 and 2018,
respectively. Fair value was calculated using a discounted cash
flow approach with expected future cash flows discounted using
a yield consistent with the security type and rating. Significant
inputs for the valuation at December 31, 2019 and 2018 include
the following weighted averages:
December 31, 2019:
a. Coupon rate.............................................. 5.97%
b. Average Life ............................................ 15.58 years
c. Yield......................................................... 11.75%
December 31, 2018:
a. Coupon rate.............................................. 5.97%
b. Maturity ................................................... 16.29 years
c. Yield......................................................... 12.00%
Other Investments
Other investments primarily relate to investments in pooled
investment funds. The fair value of pooled investment funds is
determined using dealer quotes or alternative pricing sources when
such investments have readily determinable fair values. When fair
value is not readily determinable, pooled investment funds are
valued using NAV as a practical expedient as permitted under the
Fair Value Measurement Topic of the ASC. Refer to Note 10.
Investments for additional information about such investments in
pooled funds that are reported at fair value using NAV as a practical
expedient.
Other investments also includes Ambac's equity interest in a non-
consolidated VIE created
in connection with Ambac's
monetization of Ambac Assurance junior surplus notes. This
equity interest is carried under the equity method. Fair value for
the non-consolidated VIE equity interest is internally determined
using a market approach at December 31, 2019 and a discounted
| Ambac Financial Group, Inc. 101 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
cash flow approach at December 31, 2018. The valuation
methodology was updated to incorporate more directly relevant
market data from instruments issued by Ambac.
Derivative Instruments
inputs,
Ambac’s derivative instruments comprise interest rate swaps,
exchange traded futures contracts and credit default swaps. Fair
value is determined based upon market quotes from independent
sources, when available. When independent quotes are not
available, fair value is determined using valuation models. These
valuation models require market-driven
including
contractual terms, credit spreads and ratings on counterparties or
underlying referenced obligations, yield curves and tax-exempt
interest ratios. The valuation of certain interest rate as well as all
credit derivative contracts also require the use of data inputs and
assumptions that are determined by management and are not
readily observable in the market. Under the Fair Value
Measurement Topic of the ASC, Ambac is required to consider its
own credit risk when measuring the fair value of derivatives and
other liabilities. Factors considered in estimating the amount of
any Ambac CVA on such contracts include collateral posting
provisions, right of set-off with the counterparty, the period of time
remaining on the derivative and the pricing of recent terminations.
The fair value of uncollateralized derivative liabilities was reduced
by $0 and $0 at December 31, 2019 and 2018, respectively, as a
result of incorporating an Ambac CVA into the valuation model
for these contracts. Interest rate swap liabilities are collateralized
and are not adjusted with an Ambac CVA at December 31, 2019
and 2018.
Interest rate swaps that are not centrally cleared are valued using
vendor-developed models that incorporate interest rates and yield
curves that are observable and regularly quoted. These models
provide the net present value of the derivatives based on contractual
terms and observable market data. Generally, the need for
counterparty (or Ambac) CVAs on interest rate derivatives is
mitigated by the existence of collateral posting agreements under
which adequate collateral has been posted. Certain of these
derivative contracts entered into with financial guarantee
customers are not subject to collateral posting agreements.
Counterparty credit risk related to such customer derivative assets
is included in our determination of their fair value.
Ambac's remaining credit derivatives ("CDS") are valued using an
internal model that uses traditional financial guarantee CDS
pricing to calculate the fair value of the derivative contract based
on the reference obligation's current pricing, remaining life and
credit rating and Ambac's own credit risk. The model calculates
the difference between the present value of the projected fees
receivable under the CDS and our estimate of the fees a financial
guarantor of comparable credit quality would charge to provide
the same protection at the balance sheet date. Unobservable inputs
used include Ambac's internal reference obligation credit ratings
and expected life, estimates of fees that would be charged to assume
the credit derivative obligation and Ambac's CVA. Ambac is party
to only one remaining credit derivative with internal credit rating
of AA at December 31, 2019. Ambac has not made any significant
changes to its modeling techniques or related model inputs for the
periods presented.
Financial Guarantees
Fair value of net financial guarantees written represents our
estimate of the cost to Ambac to completely transfer its insurance
obligation to another market participant of comparable credit
worthiness. In theory, this amount should be the same amount that
another market participant of comparable credit worthiness would
hypothetically charge in the market place, on a present value basis,
to provide the same protection as of the balance sheet date. This
fair value estimate of financial guarantees is presented on a net
basis and includes direct and assumed contracts written, net of
ceded reinsurance contracts.
Long-term Debt
Long-term debt includes Ambac Assurance surplus notes and
junior surplus notes, the Ambac Note and Tier 2 Notes issued in
connection with the Rehabilitation Exit Transactions and the
Ambac UK debt issued in connection with the Ballantyne
commutation. The fair values of surplus notes, the Ambac Note
and Tier 2 Notes are classified as Level 2. The fair value of junior
surplus notes and Ambac UK debt are classified as Level 3.
Other Financial Assets and Liabilities
Included in Other assets are Loans and Ambac’s equity interest in
an Ambac sponsored VIE established to provide certain financial
guarantee clients with funding for their debt obligations. The fair
values of these financial assets are estimated based upon internal
valuation models and are classified as Level 3.
Variable Interest Entity Assets and Liabilities
The financial assets and liabilities of VIEs consolidated under the
Consolidation Topic of the ASC consist primarily of fixed income
securities, loans, derivative and debt instruments and are generally
carried at fair value. These consolidated VIEs are securitization
entities which have liabilities and/or assets guaranteed by Ambac
Assurance or Ambac UK. The fair values of VIE debt instruments
are determined using the same methodologies used to value
Ambac’s fixed income securities in its investment portfolio as
described above. VIE debt fair value is based on market prices
received from independent market sources. Such quotes are
considered Level 2 and generally consider a variety of factors,
including recent trades of the same and similar securities. For those
VIE debt instruments where quotes were not available, the debt
instrument fair values are considered Level 3 and are based on
internal discounted cash flow models. Comparable to the
sensitivities of investments in fixed income securities described
above, longer (shorter) expected maturities or higher (lower) yields
used in the valuation model will, in isolation, result in decreases
(increases) in fair value liability measurement for VIE debt.
Information about the valuation inputs for VIE debt carried at fair
value and classified as Level 3 is as follows:
European ABS transactions: The fair value of such obligations
classified as Level 3 was $0 and $217 at December 31, 2019 and
2018, respectively. As a result of reductions to Ambac's control
rights, this VIE was deconsolidated in 2019. Fair values were
calculated by using a discounted cash flow approach. The discount
rates used were based on the rates implied from the third party
quoted values for comparable notes from the same securitization
entity. Significant inputs for the valuation at December 31, 2018
include the following weighted averages:
| Ambac Financial Group, Inc. 102 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
December 31, 2018
a. Coupon rate.............................................. 2.20%
b. Maturity ................................................... 18.93 years
c. Yield......................................................... 3.18%
VIE derivative asset and liability fair values are determined using
valuation models. When specific derivative contractual terms are
available and may be valued primarily by reference to interest rates,
foreign exchange rates and yield curves that are observable and
regularly quoted, the derivatives are valued using vendor-
developed models. Other derivatives within the VIEs that include
significant unobservable valuation inputs are valued using
internally developed models. VIE derivative liability fair value
balances at December 31, 2019 and 2018 were developed using
vendor-developed models and do not use significant unobservable
inputs.
The fair value of VIE assets are obtained from market quotes when
available. Typically VIE asset fair values are not readily available
from market quotes and are estimated internally. The consolidated
VIEs are securitization entities in which net cash flows from assets
and derivatives (after adjusting for financial guarantor cash flows
and other expenses) will be paid out to note holders or equity
interests. Internal valuations of VIE assets (fixed income securities
or loans), therefore, are generally derived from the fair value of
notes and derivatives, as described above, adjusted for the fair
value of cash flows from Ambac’s financial guarantee. The fair
value of financial guarantee cash flows include: (i) estimated
future premiums discounted at a rate consistent with that implicit
in the fair value of the VIE’s liabilities and (ii) internal estimates
of future loss payments by Ambac discounted at a rate that includes
Ambac’s own credit risk. Estimated future premium payments to
be paid by the VIEs were discounted at a weighted average rate of
2.7% and 3.1% at December 31, 2019 and 2018, respectively. The
value of future loss payments to be paid by Ambac to the VIEs was
adjusted to include an Ambac CVA appropriate for the term of
expected Ambac claim payments.
Additional Fair Value Information for Financial Assets and Liabilities Accounted for at Fair Value
The following tables present the changes in the Level 3 fair value category for the periods presented in 2019, 2018 and 2017. Ambac classifies
financial instruments in Level 3 of the fair value hierarchy when there is reliance on at least one significant unobservable input to the valuation
model. In addition to these unobservable inputs, the valuation models for Level 3 financial instruments typically also rely on a number of
inputs that are readily observable either directly or indirectly. Thus, the gains and losses presented below include changes in the fair value
related to both observable and unobservable inputs.
Level-3 Financial Assets and Liabilities Accounted for at Fair Value
Year Ended December 31, 2019
Investments
Other
Assets (1)
Derivatives
Investments
Loans
Long-term
Debt
Total
Balance, beginning of period
$
72
$
5
$
46
$
2,737
$
4,288
$
(217) $
6,930
VIE Assets and Liabilities
Total gains/(losses) realized and unrealized:
Included in earnings
Included in other comprehensive income
Purchases
Issuances
Sales
Settlements
Transfers into Level 3
Transfers out of Level 3
Deconsolidation of VIEs
Balance, end of period
The amount of total gains/(losses) included in
earnings attributable to the change in
unrealized gains or losses relating to assets
and liabilities still held at the reporting date
$
$
2
—
—
—
—
(2)
—
—
—
72
$
(2)
—
—
—
—
—
—
—
—
3
$
25
—
—
—
—
(5)
—
—
—
66
138
116
—
—
—
(35)
—
—
—
287
74
—
—
—
(690)
—
—
(851)
(15)
8
—
—
—
—
—
—
223
436
199
—
—
—
(731)
—
—
(627)
$
2,957
$
3,108
$
— $
6,207
— $
(2) $
25
$
138
$
215
$
— $
376
(1) Other assets carried at fair value and classified as Level 3 relate to an equity interest in an Ambac sponsored VIE.
| Ambac Financial Group, Inc. 103 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Level-3 Financial Assets and Liabilities Accounted for at Fair Value
Year Ended December 31, 2018
Investments
Other
Assets
Derivatives
Investments
Loans
Long-term
Debt
Total
Balance, beginning of period
$
809
$
6
$
61
$
2,914
$
11,529
$
(2,758) $
12,561
VIE Assets and Liabilities
Total gains/(losses) realized and unrealized:
Included in earnings
Included in other comprehensive income
Purchases
Issuances
Sales
Settlements
Transfers out of Level 3
Deconsolidations of VIEs
Balance, end of period
The amount of total gains/(losses) included in
earnings attributable to the change in
unrealized gains or losses relating to assets
and liabilities still held at the reporting date
$
$
36
(53)
—
—
—
(714)
(5)
—
72
$
(1)
—
—
—
—
—
—
—
5
$
(9)
—
—
—
—
(6)
—
—
46
16
(158)
—
—
—
(35)
—
—
(201)
(470)
—
—
—
(624)
—
189
91
—
—
—
23
—
(5,946)
2,237
30
(590)
—
—
—
(1,356)
(5)
(3,709)
$
2,737
$
4,288
$
(217) $
6,930
— $
(1) $
(10) $
16
$
(63) $
47
$
(11)
Level-3 Financial Assets and Liabilities Accounted for at Fair Value
Year Ended December 31, 2017
Investments
Other
Assets
Derivatives
Investments
Loans
Long-term
Debt
Total
Balance, beginning of period
$
763
$
7
$
(100) $
2,623
$
10,659
$
(2,582) $
11,369
VIE Assets and Liabilities
Total gains/(losses) realized and
unrealized:
Included in earnings
Included in other comprehensive
income
Purchases
Issuances
Sales
Settlements
Transfers into Level 3
Balance, end of period
The amount of total gains/(losses) included
in earnings attributable to the change in
unrealized gains or losses relating to
assets and liabilities still held at the
reporting date
$
$
65
6
36
—
(79)
(30)
48
809
$
(1)
—
—
—
—
—
—
6
$
63
—
—
—
—
98
—
61
71
253
—
—
—
(33)
—
550
1,004
—
—
—
(684)
—
35
783
(254)
1,010
—
—
—
44
—
36
—
(79)
(605)
48
$
2,914
$
11,529
$
(2,758) $
12,561
— $
(1) $
9
$
71
$
547
$
37
$
662
| Ambac Financial Group, Inc. 104 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The tables below provide roll-forward information by class of investments and derivatives measured using significant unobservable inputs.
Level-3 Investments by Class
Year Ended December 31,
Balance, beginning of period
Total gains/(losses) realized and unrealized:
Included in earnings
Included in other comprehensive income
Purchases
Issuances
Sales
Settlements
Transfers out of Level 3
Balance, end of period
The amount of total gains/(losses) included in earnings
attributable to the change in unrealized gains or losses
relating to assets and liabilities still held at the reporting
date
Other Asset
Backed
Securities
2019
Non-
Agency
RMBS
Total
Investments
Other Asset
Backed
Securities
2018
Non-
Agency
RMBS
Total
Investments
$
72
$
— $
72
$
73
$
736
$
809
2
—
—
—
—
(2)
—
72
—
—
—
—
—
—
—
$
— $
2
—
—
—
—
(2)
—
72
$
1
(1)
—
—
—
(1)
—
72
35
(52)
—
—
—
(713)
(5)
$
— $
36
(53)
—
—
—
(714)
(5)
72
— $
— $
— $
— $
— $
—
$
$
Level-3 Investments by Class
Year Ended December 31, 2017
Balance, beginning of period
Total gains/(losses) realized and unrealized:
Included in earnings
Included in other comprehensive income
Purchases
Issuances
Sales
Settlements
Transfers into Level 3
Balance, end of period
The amount of total gains/(losses) included in earnings attributable to the change in unrealized gains or
losses relating to assets and liabilities still held at the reporting date
Other Asset
Backed
Securities
Non-
Agency
RMBS
Total
Investments
$
66
$
697
$
763
1
6
—
—
—
(1)
—
73
64
—
36
—
(79)
(29)
48
$
736
$
— $
— $
65
6
36
—
(79)
(30)
48
809
—
$
$
| Ambac Financial Group, Inc. 105 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
2019
2018
Interest
Rate
Swaps
Credit
Derivatives
Total
Derivatives
Interest
Rate
Swaps
Credit
Derivatives
Total
Derivatives
$
47
$
(1) $
46
$
61
$
(1) $
24
—
—
—
(4)
2
—
—
—
—
25
—
—
—
(5)
(9)
—
—
—
(5)
(1)
—
—
—
—
67
$
— $
66
$
47
$
(1) $
61
(9)
—
—
—
(6)
46
24
$
1
$
25
$
(9) $
(1) $
(10)
Level-3 Derivatives by Class
Year Ended December 31,
Balance, beginning of period
Total gains/(losses) realized and unrealized:
Included in earnings
Purchases
Issuances
Sales
Settlements
Balance, end of period
The amount of total gains/(losses) included in earnings
attributable to the change in unrealized gains or losses
relating to assets and liabilities still held at the reporting
date
$
$
Level-3 Derivatives by Class
Year Ended December 31, 2017
Balance, beginning of period
Total gains/(losses) realized and unrealized:
Included in earnings
Purchases
Issuances
Sales
Settlements
Balance, end of period
Interest
Rate
Swaps
Credit
Derivatives
Total
Derivatives
$
(85) $
(15) $
(100)
46
—
—
—
100
61
7
$
$
$
$
16
—
—
—
(2)
(1) $
2
$
63
—
—
—
98
61
9
The amount of total gains/(losses) included in earnings attributable to the change in unrealized gains or losses
relating to assets and liabilities still held at the reporting date
that
internal valuation models
Invested assets and VIE long-term debt are transferred into Level 3
include significant
when
unobservable inputs are used to estimate fair value. All such
securities that have internally modeled fair values have been
classified as Level 3. Non-agency RMBS securities transferred
from Level 2 into Level 3 in 2017 were investments in Ambac-
wrapped RMBS securities for which projected cash flows
consisted solely of Deferred Amounts and interest thereon. These
invested assets were internally valued as management either could
not obtain or could not corroborate the reasonableness of third
party quotes. Non-agency RMBS transferred out of Level 3 into
Level 2 in 2018 consisted of an Ambac-insured re-REMIC
collateralized by distressed mortgage-backed securities.
Derivative instruments are transferred into Level 3 when the use
of unobservable inputs becomes significant to the overall
valuation. There were no transfers of derivative instruments into
or out of Level 3 in the periods disclosed.
There were no transfers between Level 1 and Level 2 for the periods
presented. All transfers between fair value hierarchy Levels 1, 2,
and 3 are recognized at the beginning of each accounting period.
| Ambac Financial Group, Inc. 106 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Gains and losses (realized and unrealized) relating to Level 3 assets and liabilities included in earnings for the affected periods are reported
as follows:
Net
Investment
Income
Net Gains
(Losses) on
Derivative
Contracts
Income (Loss)
on Variable
Interest
Entities
Other
Income
(Expense)
Year Ended December 31, 2019
Total gains (losses) included in earnings for the period
Changes in unrealized gains (losses) relating to financial instruments still held at
the reporting date
Year Ended December 31, 2018
Total gains (losses) included in earnings for the period
Changes in unrealized gains (losses) relating to financial instruments still held at
the reporting date
Year Ended December 31, 2017
Total gains (losses) included in earnings for the period
$
$
$
2
$
25
$
410
$
—
25
353
36
$
(9) $
4
$
—
(10)
—
65
$
63
$
656
$
Changes in unrealized gains (losses) relating to financial instruments still held at
the reporting date
—
9
655
(2)
(2)
(1)
(1)
(1)
(1)
| Ambac Financial Group, Inc. 107 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
10. INVESTMENTS
Ambac’s non-VIE invested assets are primarily comprised of fixed income securities classified as available-for-sale and interests in pooled
investment funds which are reported within Other investments on the Consolidated Balance Sheets. Interests in pooled investment funds in
the form of common stock or in-substance common stock are classified as trading securities, while limited partner interests in such funds are
reported using the equity method. Other investments also include Ambac's equity interest in an unconsolidated trust created in connection
with its sale of Segregated Account junior surplus notes on August 28, 2014.
Fixed Income Securities
The amortized cost and estimated fair value of available-for-sale fixed income investments, excluding VIE investments, at December 31,
2019 and 2018 were as follows:
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Estimated
Fair Value
Non-Credit
Other-
than-
temporary
Impairments (1)
December 31, 2019
Fixed income securities:
Municipal obligations
Corporate obligations (2)
Foreign obligations
U.S. government obligations
Residential mortgage-backed securities
Commercial mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
Short-term
Fixed income securities pledged as collateral:
Short-term
Total collateralized investments
Total available-for-sale investments
December 31, 2018
Fixed income securities:
Municipal obligations
Corporate obligations (2)
Foreign obligations
U.S. government obligations
Residential mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
Short-term
$
194
$
1,396
44
157
200
49
147
263
2,450
653
3,103
85
85
22
36
1
2
47
1
—
24
132
—
132
—
—
$
$
3,187
$
132
$
883
$
1,289
30
94
222
133
370
3,021
430
$
14
6
—
1
38
—
73
133
—
$
— $
215
$
2
—
2
—
—
1
—
5
—
5
—
—
5
17
17
—
1
1
2
1
38
—
38
1,430
44
156
248
50
146
287
2,577
653
3,230
85
85
3,314
$
880
$
1,278
31
94
259
131
442
3,116
430
$
$
$
3,546
$
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
Total available-for-sale investments
$
3,451
$
133
$
(1) Represents the amount of non-credit other-than-temporary impairment losses remaining in accumulated other comprehensive income on securities that
also had a credit impairment. These losses are included in gross unrealized losses as of December 31, 2019 and 2018.
(2)
Includes Ambac's holdings of the secured notes issued by Ambac LSNI in connection with the Rehabilitation Exit Transactions.
| Ambac Financial Group, Inc. 108 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The amortized cost and estimated fair value of available-for-sale investments, excluding VIE investments, at December 31, 2019, by contractual
maturity, were as follows:
Due in one year or less
Due after one year through five years
Due after five years through ten years
Due after ten years
Residential mortgage-backed securities
Commercial mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
Total
Amortized
Cost
Estimated
Fair Value
$
749
$
1,157
477
145
2,528
200
49
147
263
749
1,173
501
160
2,583
248
50
146
287
$
3,187
$
3,314
Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay certain obligations with or
without call or prepayment penalties.
Unrealized Losses on Fixed Income Securities
The following table shows gross unrealized losses and fair values of Ambac’s available-for-sale investments, excluding VIE investments,
aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position, at
December 31, 2019 and 2018:
Less Than 12 Months
12 Months or More
Total
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
December 31, 2019
Fixed income securities:
Municipal obligations
Corporate obligations
Foreign obligations
$
U.S. government obligations
Residential mortgage-backed securities
Commercial mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
13
63
20
36
5
7
53
2
Short-term
Total temporarily impaired securities
$
200
201
401
$
$
— $
2
—
2
—
—
—
—
4
—
4
$
10
5
—
2
—
—
63
7
88
—
88
$
— $
—
—
—
—
—
1
—
1
—
1
$
$
23
68
20
38
5
7
116
10
288
201
489
$
$
—
2
—
2
—
—
1
—
5
—
5
| Ambac Financial Group, Inc. 109 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Less Than 12 Months
12 Months or More
Total
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
Fair Value
Gross
Unrealized
Loss
December 31, 2018
Fixed income securities:
Municipal obligations
Corporate obligations
Foreign obligations
U.S. government obligations
Residential mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
Short-term
$
$
538
307
1
6
35
124
14
1,024
115
Total temporarily impaired securities
$
1,139
$
Management has determined that the unrealized losses reflected
in the tables above are temporary in nature as of December 31,
2019 and 2018 based upon (i) no unexpected principal and interest
payment defaults on these securities; (ii) analysis of the
creditworthiness of the issuer and financial guarantor, as
applicable, and analysis of projected defaults on the underlying
collateral; (iii) no management intent to sell these investments in
debt securities; and (iv) it is not more likely than not that Ambac
will be required to sell these debt securities before the anticipated
recovery of its amortized cost basis. To the extent that securities
that management intends to sell are in an unrealized loss position,
they would have already been considered other-than-temporarily
impaired with the amortized cost written down to fair value. The
assessment under (iv) is based on a comparison of future available
liquidity from the investment portfolio against the projected net
cash outflow from operating activities and debt service. For
purposes of this assessment, available liquidity from the
investment portfolio is comprised of the fair value of securities for
which management has asserted its intent to sell, the fair value of
other securities that are available for sale and in an unrealized gain
position, highly liquid pooled fund investments plus the scheduled
maturities and interest payments from the remaining securities in
the portfolio. Principal payments on securities pledged as collateral
are not considered to be available for other liquidity needs until
the collateralized positions are projected to be settled. Because
the above-described assessment indicates that future available
liquidity exceeds projected net cash outflow, it is not more likely
than not that we would be required to sell securities in an unrealized
loss position before the recovery of their amortized cost basis.
16
9
—
—
1
2
—
27
—
27
$
29
$
190
5
58
—
—
77
360
—
$
360
$
1
9
—
—
—
—
1
11
—
11
$
$
566
497
6
64
35
124
91
1,384
115
$
1,499
$
17
17
—
1
1
2
1
38
—
38
For securities that have indications of possible other-than-
temporary impairment but for which management does not intend
to sell and will not more likely than not be required to sell,
management compares the present value of cash flows expected
to be collected to the amortized cost basis of the securities to assess
whether the amortized cost will be recovered. Cash flows are
discounted at the effective interest rate implicit in the security. For
debt securities that are beneficial interests in securitized financial
assets, the effective interest rate is the current yield used to accrete
the beneficial interest. For floating rate securities, future cash flows
and the discount rate used are both adjusted to reflect changes in
the index rate applicable to each security as of the evaluation date.
Of the securities that were in a gross unrealized loss position at
December 31, 2019, $29 of the total fair value and $0 of the
unrealized loss related to below investment grade and non-rated
securities. Of the securities that were in a gross unrealized loss
position at December 31, 2018, $660 of the total fair value and $18
of the unrealized loss related to below investment grade and non-
rated securities. The remainder of gross unrealized losses as of
December 31, 2019, are primarily on investment grade fixed-rate
securities purchased during periods of lower interest rates.
Management believes that the timely receipt of all principal and
interest on these positions is probable.
Ambac’s assessment about whether a decline in value is other-
than-temporary reflects management’s current judgment regarding
facts and circumstances specific to a security and the factors noted
above. If that judgment changes, Ambac may ultimately record a
charge for other-than-temporary impairment in future periods.
Future changes in our estimated liquidity needs could result in a
determination that Ambac no longer has the ability to hold
securities that are in an unrealized loss position, which could also
result in additional other-than-temporary impairment charges.
| Ambac Financial Group, Inc. 110 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Realized Gains and Losses and Other-Than-Temporary
Impairments
Counterparty Collateral, Deposits with Regulators and Other
Restrictions
The following table details amounts included in net realized gains
(losses) and other-than-temporary impairments included in
earnings for the affected periods:
Year Ended
December 31,
Gross realized gains on
securities
Gross realized losses on
securities
Foreign exchange
(losses) gains
Net realized gains
(losses)
Net other-than-
temporary
impairments (1)
$
$
$
2019
2018
2017
64
$
111
$
(5)
22
(7)
7
81
$
111
$
29
(19)
(5)
5
— $
(3) $
(20)
(1) Other-than-temporary impairments exclude impairment amounts
recorded in other comprehensive income under ASC Paragraph
320-10-65-1, which comprise non-credit related amounts on
securities that are credit impaired but which management does not
intend to sell and it is not more likely than not that the company will
be required to sell before recovery of the amortized cost basis.
During the Segregated Account Rehabilitation Proceedings,
changes in the estimated timing of claim payments on Ambac
insured securities contributed
to net other-than-temporary
impairments for the year ended December 31, 2017 presented in
the table above.
Future changes in our estimated liquidity needs could result in a
determination that Ambac no longer has the ability to hold
securities that are in an unrealized loss position, which could result
in additional other-than-temporary impairment charges.
The following table presents a roll-forward of Ambac’s cumulative
credit losses on debt securities held as of December 31, 2019, 2018
and 2017 for which a portion of an other-than-temporary
impairment was recognized in other comprehensive income:
Ambac routinely pledges and receives collateral related to certain
transactions. Cash, cash equivalents and securities held directly
in Ambac’s investment portfolio with a fair value of $85 and $103
at December 31, 2019 and 2018, respectively, were pledged to
derivative counterparties. Ambac’s derivative counterparties have
the right to re-pledge the investment securities and as such, these
pledged securities are separately classified on the Consolidated
Balance Sheets as “Short-term investments pledged as collateral,
at fair value”. Refer to Note 11. Derivative Instruments for further
information on cash collateral. There was no cash or securities
received from other counterparties that were re-pledged by Ambac.
Securities carried at $6 and $6 at December 31, 2019 and 2018,
respectively, were deposited by Ambac Assurance and Everspan
with governmental authorities or designated custodian banks as
required by laws affecting insurance companies. Invested assets
carried at $1 at December 31, 2019 were deposited as security in
connection with a letter of credit issued for an office lease.
Securities carried at $197 and $210 at December 31, 2019 and
2018, respectively, were pledged as collateral and as sources of
funding to repay the Secured Notes issued by Ambac LSNI. The
securities may not be transferred or repledged by Ambac LSNI.
Collateral may be sold to fund redemptions of the Secured Notes.
Ambac Assurance also pledged for the benefit of the holders of
Secured Notes (other than Ambac Assurance) the proceeds of
interest payments and partial redemption of the Secured Notes held
by Ambac Assurance. The amount of such proceeds held by Ambac
Assurance was $55 and $19 at December 31, 2019 and 2018 and
is included in Restricted cash on the Consolidated Balance Sheet.
Ambac Assurance may, from time to time, sell all or a portion of
the Secured Notes it owns. In the event that Ambac Assurance
sells any of the Secured Notes it owns, the proceeds must be used
to redeem a like amount of the Ambac Note at par. The price at
which Ambac Assurance sells the Secured Notes may differ from
the price at which it redeems the Secured Notes.
Year Ended
December 31,
Balance, beginning of
period
Additions for credit
impairments
recognized on:
Securities not
previously impaired
Securities previously
impaired
Reductions for credit
impairments
previously
recognized on:
Securities that
matured or were
sold during the
period
Balance, end of period
2019
2018
2017
67
52
12
—
—
1
—
(1)
12
(56)
12
3
12
—
67
| Ambac Financial Group, Inc. 111 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Guaranteed Securities
Ambac’s fixed income portfolio includes securities covered by guarantees issued by Ambac Assurance and other financial guarantors (“insured
securities”). The published rating agency ratings on these securities reflect the higher of the financial strength rating of the financial guarantor
or the rating of the underlying issuer. Rating agencies do not always publish separate underlying ratings (those ratings excluding the insurance
by the financial guarantor). In the event these underlying ratings are not available from the rating agencies, Ambac will assign an internal
rating. The following table represents the fair value, including the value of the financial guarantee, and weighted-average underlying rating,
excluding the financial guarantee, of the insured securities at December 31, 2019 and 2018, respectively:
Municipal
Obligations
Corporate
Obligations (3)
Mortgage
and Asset-
backed
Securities
Weighted
Average
Underlying
Rating (1) (3)
Total
December 31, 2019:
Ambac Assurance Corporation (2)
National Public Finance Guarantee
Corporation
Total
December 31, 2018:
Ambac Assurance Corporation (2)
National Public Finance Guarantee
Corporation
Total
$
$
$
$
176
$
11
187
$
833
$
16
849
$
535
$
—
535
$
656
$
—
656
$
442
$
—
442
$
599
$
—
599
$
1,153
11
1,164
2,089
16
2,105
B-
BBB-
B-
CCC
BBB-
CCC
(1) Ratings are based on the lower of Standard & Poor’s or Moody’s rating. If unavailable, Ambac’s internal rating is used.
(2)
Includes asset-backed securities with a fair value of $0 and $145 at December 31, 2019 and 2018, respectively, insured by Ambac UK.
(3) Represents Ambac's holdings of secured notes issued by Ambac LSNI in connection with the Rehabilitation Exit Transactions. Ambac LSNI secured
notes are insured by Ambac Assurance and are excluded from the calculation of weighted average underlying rating.
Other Investments
Ambac's investment portfolio includes interests in various pooled investment funds. Fair value and additional information about investments
in pooled funds, by investment type, is summarized in the table below. Except as noted in the table, fair value as reported is determined using
net asset value ("NAV") as a practical expedient. In addition to these investments, Ambac has unfunded commitments at December 31, 2019
of $41 to private credit funds and $48 to a hedge fund.
$
Class of Funds
December 31,
Real estate properties (1)
Hedge funds (2)
High yield and leveraged loans (3) (8)
Private credit (4)
Insurance-linked investments (5)
Equity market investments (6) (8)
Investment grade floating rate income (7)
2019
2018
Redemption Frequency
Redemption Notice Period
$
16
65
176
51
3
55
66
16
quarterly
— quarterly
114
daily
84
29
44
quarterly
fully redeemed
daily
63 weekly
10 business days
90 days
0 - 30 days
180 days if permitted
none
0 days
0 days
Total equity investments in pooled funds
$
432
$
351
(1)
Investments consist of UK property to generate income and capital growth.
(2) This class seeks to generate superior risk-adjusted returns through selective asset sourcing, active trading and hedging strategies within structured credit
markets, including mortgage-backed securities, commercial real estate securities and loans, CLOs, REITs and asset backed securities.
(3) This class of funds includes investments in a range of instruments including high-yield bonds, leveraged loans, CLOs, ABS and floating rate notes to
generate income and capital appreciation.
(4) This class aims to obtain high long-term return primarily through credit and preferred equity investments with low liquidity and defined term.
(5) This class seeks to generate returns from insurance markets through investments in catastrophe bonds, life insurance and other insurance linked investments.
(6) This class of funds includes investments in a range of instruments that include funds that have diversified exposure to global equity market returns through
holdings of market index funds.
(7) This class of funds includes investments in high quality floating rate debt securities including ABS and corporate floating rate notes (FRNs) as well as
ultra-short term bonds and money market instruments.
(8) High yield and leveraged loans products include $81 at December 31, 2019 and $27 at December 31, 2018 and equity market investments include $55 at
December 31, 2019 and $44 at December 31, 2018 that have readily determinable fair values priced through pricing vendors.
| Ambac Financial Group, Inc. 112 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Ambac also holds an equity interest in an unconsolidated trust
created in connection with the 2014 sale of Segregated Account
junior surplus notes that is accounted for under the equity method.
Investment Income
or under the fair value option, income from investment limited
partnerships accounted for under the equity method and the above
noted equity interest in an unconsolidated trust accounted for under
the equity method.
Net investment income was comprised of the following for the
affected periods:
The portion of net unrealized gains (losses) related to trading
securities still held at the end of each period is as follows:
Year Ended
December 31,
2019
2018
2017
Fixed income securities
$
183
$
265
$
337
Short-term investments
Loans
Investment expense
Securities available-for-
sale and short-term
Other investments
Total net investment
income
17
1
(6)
196
32
11
1
(7)
271
2
$
227
$
273
$
8
1
(8)
338
23
361
Net investment income from Other investments primarily
represents changes in fair value on securities classified as trading
11. DERIVATIVE INSTRUMENTS
Year Ended
December 31,
Net gains (losses)
recognized during the
period on trading
securities
Less: net gains (losses)
recognized during the
reporting period on
trading securities sold
during the period
Unrealized gains
(losses) recognized
during the reporting
period on trading
securities still held at
the reporting date
2019
2018
2017
$
24
$
(3) $
18
7
1
5
$
17
$
(4) $
13
The following tables summarize the gross fair values of individual derivative instruments and the impact of legal rights of offset as reported
in the Consolidated Balance Sheets as of December 31, 2019 and 2018.
December 31, 2019:
Derivative Assets:
Interest rate swaps
Total non-VIE derivative assets
Derivative Liabilities:
Credit derivatives
Interest rate swaps
Total non-VIE derivative liabilities
Variable Interest Entities Derivative Assets:
Currency swaps
Total VIE derivative assets
Variable Interest Entities Derivative Liabilities:
Interest rate swaps
Total VIE derivative liabilities
Gross
Amounts of
Recognized
Assets /
Liabilities
Gross
Amounts
Offset in the
Consolidated
Balance Sheet
Net Amounts
of Assets/
Liabilities
Presented
in the
Consolidated
Balance Sheet
Gross Amount
of Collateral
Received /
Pledged not
Offset in the
Consolidated
Balance Sheet
Net Amount
$
$
$
$
$
$
$
$
75
75
$
$
— $
89
90
52
52
1,657
1,657
$
$
$
$
$
— $
— $
— $
—
— $
— $
— $
— $
— $
75
75
$
$
— $
90
90
52
52
1,657
1,657
$
$
$
$
$
— $
— $
— $
89
89
$
— $
— $
— $
— $
75
75
—
1
1
52
52
1,657
1,657
| Ambac Financial Group, Inc. 113 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
December 31, 2018:
Derivative Assets:
Interest rate swaps
Total non-VIE derivative assets
Derivative Liabilities:
Credit derivatives
Interest rate swaps
Futures contracts
Total non-VIE derivative liabilities
Variable Interest Entities Derivative Assets:
Currency swaps
Total VIE derivative assets
Variable Interest Entities Derivative Liabilities:
Interest rate swaps
Total VIE derivative liabilities
Gross
Amounts of
Recognized
Assets /
Liabilities
Gross
Amounts
Offset in the
Consolidated
Balance Sheet
Net Amounts
of Assets/
Liabilities
Presented
in the
Consolidated
Balance Sheet
Gross Amount
of Collateral
Received /
Pledged not
Offset in the
Consolidated
Balance Sheet
Net Amount
$
$
$
$
$
$
$
$
60
60
1
72
3
77
66
66
1,712
1,712
$
$
$
$
$
$
$
$
— $
— $
— $
—
—
— $
— $
— $
— $
— $
59
59
1
72
3
77
66
66
1,712
1,712
$
$
$
$
$
$
$
$
— $
— $
— $
67
3
71
$
— $
— $
— $
— $
59
59
1
5
—
6
66
66
1,712
1,712
Amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral are not offset against fair value amounts
recognized for derivative instruments on the Consolidated Balance Sheets. The amounts representing the right to reclaim cash collateral and
posted margin, recorded in “Other assets” were $36 and $103 as of December 31, 2019 and 2018, respectively. There were no amounts held
representing an obligation to return cash collateral as of December 31, 2019 and 2018.
The following tables summarize the location and amount of gains and losses of derivative contracts in the Consolidated Statements of Total
Comprehensive Income (Loss) for the years ended December 31, 2019, 2018 and 2017:
Location of Gain (Loss) Recognized
in Consolidated Statements of
Total Comprehensive Income (Loss)
Amount of Gain (Loss) Recognized in Consolidated
Statement of Total Comprehensive Income (Loss) –
Year Ended December 31,
2019
2018
2017
Net gains (losses) on derivative contracts
Net gains (losses) on derivative contracts
Net gains (losses) on derivative contracts
Income (loss) on variable interest entities
Income (loss) on variable interest entities
(45)
(6)
2
(50)
(20)
(12)
(32)
$
(82) $
7
1
(1)
7
493
11
505
512
$
11
49
16
76
(127)
(26)
(152)
(76)
Non-VIE derivatives:
Futures contracts
Interest rate swaps
Credit derivatives
Total non-VIE derivatives
Variable Interest Entities:
Interest rate swaps
Currency swaps
Total Variable Interest Entities
Total derivative contracts
Credit Derivatives
Credit derivatives, which are privately negotiated contracts,
provide the counterparty with credit protection against the
occurrence of a specific event such as a payment default or
bankruptcy relating to an underlying obligation. Credit derivatives
issued are insured by Ambac Assurance. None of the outstanding
credit derivative transactions at December 31, 2019, include
ratings based collateral-posting triggers or otherwise require
Ambac to post collateral regardless of Ambac’s ratings or the size
of the mark to market exposure to Ambac.
The portfolio of our credit derivatives were written on a “pay-as-
you-go” basis. Similar to insurance policy execution, pay-as-you-
go provides that Ambac pays interest shortfalls on the referenced
transaction as they are incurred on each scheduled payment date,
but only pays principal shortfalls upon the earlier of (i) the date on
which the assets designated to fund the referenced obligation have
been disposed of and (ii) the legal final maturity date of the
referenced obligation.
| Ambac Financial Group, Inc. 114 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Ambac maintains internal credit ratings on its guaranteed
obligations, including credit derivative contracts, solely to indicate
management’s view of the underlying credit quality of the
guaranteed obligations. The gross principal notional outstanding
for CDS contracts was $280 and $295 as of December 31, 2019
and 2018, respectively, all of which had internal Ambac ratings of
AA in both periods:
Interest Rate Derivatives
Ambac, through its subsidiary Ambac Financial Services (“AFS”),
uses interest rate swaps and US Treasury futures contracts to
provide a partial economic hedge against the effects of rising
interest rates elsewhere in the Company, including on Ambac’s
financial guarantee exposures. Additionally, AFS provided
interest rate swaps to states, municipalities and their authorities,
asset-backed issuers and other entities in connection with their
financings. As of December 31, 2019 and 2018, the notional
amounts of AFS's derivatives are as follows:
Type of Derivative
Interest rate swaps—pay-fixed/receive-
variable
US Treasury futures contracts—short
Interest rate swaps—receive-fixed/pay-
variable
Notional - December 31,
2019
2018
$
1,261
$
755
332
1,122
1,760
493
Derivatives of Consolidated Variable Interest Entities
Certain VIEs consolidated under the Consolidation Topic of the
ASC entered into derivative contracts to meet specified purposes
within the securitization structure. The notional for VIE derivatives
outstanding as of December 31, 2019 and 2018, are as follows:
Type of VIE Derivative
Interest rate swaps—receive-fixed/pay-
variable
Interest rate swaps—pay-fixed/receive-
variable
Currency swaps
Credit derivatives
Notional - December 31,
2019
2018
$
1,194
$
1,400
1,176
329
9
1,177
345
10
Contingent Features in Derivatives Related to Ambac Credit
Risk
Ambac’s over-the-counter interest rate swaps are centrally cleared
when eligible. Certain interest rate swaps remain with professional
swap-dealer counterparties and certain direct customer
counterparties. These non-cleared swaps are generally executed
under standardized derivative documents including collateral
support and master netting agreements. Under these agreements,
Ambac is required to post collateral in the event net unrealized
losses exceed predetermined threshold levels. Additionally, given
that Ambac Assurance is no longer rated by an independent rating
agency, counterparties have the right to terminate the swap
positions.
As of December 31, 2019 and 2018, the net liability fair value of
derivative instruments with contingent features linked to Ambac’s
own credit risk was $89 and $67, respectively, related to which
Ambac had posted cash, cash equivalents and securities as
collateral with a fair value of $109 and $84, respectively. All such
ratings-based contingent features have been triggered as requiring
maximum collateral levels to be posted by Ambac while preserving
counterparties’ rights to terminate the contracts. Assuming all such
contracts terminated at fair value on December 31, 2019,
settlement of collateral balances and net derivative liabilities would
result in a net receipt of cash and/or securities by Ambac. If
counterparties elect to exercise their right to terminate, the actual
termination payment amounts will be determined in accordance
with derivative contract terms, which may result in amounts that
differ from fair values as reported in Ambac’s financial statements.
12. LOANS
Loans had been extended: (i) by VIEs which are consolidated by
Ambac under ASC Topic 810 as a result of Ambac’s financial
guarantees of the VIEs’ note liabilities and/or assets and (ii) to
certain institutions in connection with various transactions.
Loans extended by consolidated VIEs are generally carried at fair
value on the Consolidated Balance Sheets. See Note 3. Variable
Interest Entities for further information about VIEs for which the
assets and liabilities are carried at fair value.
Other loans had an outstanding principal balance of $19 and $19
at December 31, 2019 and 2018, respectively. The effective
interest rate on these loans ranged from 6.51% to 7.35% and 6.51%
to 8.60% at December 31, 2019 and 2018, respectively. The
maturity date of these loans ranged from June 2026 to December
2046 as of December 31, 2019. Collectability of these loans is
evaluated on an ongoing basis; no loan has been considered
impaired and as such no loan impairments have been recorded as
of December 31, 2019 and 2018.
| Ambac Financial Group, Inc. 115 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
13. LONG-TERM DEBT
Long-term debt outstanding, excluding VIE long-term debt, was as follows:
December 31,
2019
2018
Ambac Assurance:
5.1% surplus notes
5.1% junior surplus notes
Ambac note
Tier 2 notes
Ambac UK debt
Long-term debt
Par Value
Unamortized
Discount
Carrying
Value
Par Value
Unamortized
Discount
Carrying
Value
$
531
365
1,763
281
41
$
(14) $
(113)
—
(4)
(28)
$
517
252
1,763
278
13
531
367
1,940
259
—
$
(44) $
(117)
—
(7)
—
487
250
1,940
252
—
$
2,980
$
(159) $
2,822
$
3,096
$
(167) $
2,929
Aggregated annual maturities of non-VIE long-term debt
obligations (based on scheduled maturity dates as further discussed
below) are as follows:
2020
2021
2022
2023
2024
Thereafter
Total
Surplus Notes
$
531
—
—
1,763
—
687
$
2,980
Ambac Assurance surplus notes, with a par amount of $531 and
$531 at December 31, 2019 and 2018, respectively, have a
scheduled maturity of June 7, 2020. The retirement of certain notes
as part of the Rehabilitation Exit Transactions in 2018 resulted in
gains of $3 for the year ended December 31, 2018, recognized in
Net realized gains (losses) on extinguishment of debt on the
Consolidated Statements of Total Comprehensive Income.
Surplus notes outstanding are recorded at their fair value at the
date of issuance. The discount on surplus notes is accreted into
income using the effective interest method based on projected cash
flows at the date of issuance. The weighted average imputed
interest rate on surplus notes outstanding as of December 31, 2019
is 10.1%.
All payments of principal and interest on these surplus notes are
subject to the prior approval of the OCI. Since the issuance of the
surplus notes in 2010, OCI has declined to approve regular
payments of interest on surplus notes, although the OCI has
permitted exceptional payments in connection with (a) increasing
the percentage of deferred policy payments of the Segregated
Account of Ambac Assurance from 25% to 45% in 2014 and (b)
a one-time payment of approximately six months of interest on the
surplus notes (other than junior surplus notes) outstanding
immediately after consummation of the Rehabilitation Exit
Transactions in 2018 in the amount of $14, of which $3 was
received by AFG for surplus notes that it owned and that are
considered extinguished for accounting purposes. Ambac
Assurance may not receive approval from OCI to make payments
as and when scheduled, including the payment of the surplus notes
on their scheduled maturity date of June 7, 2020. If the OCI does
not approve the making of any payment of principal of or interest
on surplus notes on the scheduled payment date or scheduled
maturity date thereof, the scheduled payment date or scheduled
maturity date, as the case may be, shall be extended until OCI
grants approval to make the payment. Interest will accrue,
compounded on each anniversary of the original scheduled
payment date or scheduled maturity date, on any unpaid principal
or interest through the actual date of payment at 5.1% per annum.
Refer to Note 1. Background and Business Description for further
discussion of both the Rehabilitation Exit Transactions and the
AMPS Exchange.
Junior Surplus Notes
The junior surplus notes have a par value of $365 and $367 at
December 31, 2019 and 2018, respectively. Pursuant to the Second
Amended Plan of Rehabilitation, Ambac Assurance became the
obligor under the junior surplus notes (originally issued by the
Segregated Account) as of February 12, 2018. These junior surplus
notes have a scheduled maturity of June 7, 2020, subject to the
following restrictions. Principal and interest payments on these
junior surplus notes cannot be made until all Ambac Assurance
surplus notes (other than junior surplus notes) are paid in full and
after all of Ambac Assurance's future and existing senior
indebtedness, policy and other priority claims have been paid in
full. All payments of principal and interest on these junior surplus
notes are subject to the prior approval of the OCI. If the OCI does
not approve the payment of principal of or interest on the junior
surplus notes, such interest will accrue and compound annually
until paid. No such approval has been sought or obtained to pay
interest on junior surplus notes since their issuance.
• Par value at December 31, 2019 and 2018 includes $15 and
$17, respectively, of junior surplus notes issued in connection
with a settlement agreement (the “OSS Settlement
Agreement”) entered into among Ambac, Ambac Assurance,
the Segregated Account and One State Street, LLC (“OSS”)
with respect to the termination of Ambac’s office lease with
OSS. A portion of the principal balance of the originally issued
notes were eligible to be reduced based on rents paid to OSS
by Ambac Assurance after December 31, 2015. Par value of
these junior surplus notes was reduced by $2 and $4 during
| Ambac Financial Group, Inc. 116 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
the years ended December 31, 2019 and 2018, respectively,
as rent payments were made by Ambac Assurance. As of
December 31, 2019, there was no remaining balance of the
junior surplus notes that can be reduced on rents paid by
Ambac Assurance. These junior surplus notes were recorded
at their fair value at the date of issuance. The discount on these
notes are currently being accreted into income using the
effective interest method at an imputed interest rate of 19.5%.
• Par value at December 31, 2019 and 2018 includes $350 of
a junior surplus note originally issued to AFG pursuant to
AFG's Chapter 11 Reorganization Plan in accordance with
the Mediation Agreement dated September 21, 2011, among
AFG, Ambac Assurance, the Segregated Account, the
Rehabilitator, the OCI and the Official Committee of
Unsecured Creditors of AFG, and that AFG sold to a Trust on
August 28, 2014. This junior surplus note was recorded at a
discount to par based on its fair value on August 28, 2014.
Ambac is accreting the discount on this junior surplus note
into earnings using the effective interest method, based on an
imputed interest rate of 8.4%.
Ambac Note
The Ambac Note, issued in connection with the Rehabilitation Exit
Transactions on February 12, 2018, as more fully described in Note
1. Background and Business Description, has a par value of $1,763
and $1,940 at December 31, 2019 and 2018, respectively, and has
a legal maturity of February 12, 2023. Interest on the Ambac Note
is payable quarterly (on the last day of each quarter beginning with
June 30, 2018) at an annual rate of 3-month U.S. Dollar LIBOR +
5.00%, subject to a 1.00% LIBOR floor. During the years ended
December 31, 2019 and 2018, $178 and $214 par value of the
Ambac Note was redeemed, respectively. The maturity date for
the Ambac Note is the earlier of (x) February 12, 2023, and (y) if
the Secured Notes are then outstanding, the date that is five
business days prior to the date for which OCI has approved the
repayment of the outstanding principal amount of the surplus notes
(other than junior surplus notes) issued by Ambac Assurance.
Promptly, and in any event within four business days after the
receipt (whether directly or indirectly) of any representation and
warranty subrogation recoveries, Ambac Assurance shall (i) apply
an amount (the “Mandatory Redemption Amount”) equal to the
lesser of (a) the amount of representation and warranty subrogation
recoveries up to $1,400 and (b) all outstanding principal and
accrued and unpaid interest on the Ambac Note to redeem the
Ambac Note, in whole or in part, as applicable; provided, that any
non-cash representation and warranty subrogation recoveries shall
be deemed to be received upon the receipt of the applicable
appraisal.
• The portion of the Ambac Note issued in connection with the
exchange of surplus notes ("Ambac Note A") was accounted
for as a debt modification since the creditors before and after
the exchange remained the same and the change in terms was
not considered substantial. A substantial change is considered
to be a change in cash flows of equal to or greater than 10%,
and because the change in cash flows was less than 10%, debt
modification accounting
is appropriate. Under debt
modification accounting, Ambac Note A was recorded at a
discount to par based on the carrying value of the surplus
notes less the cash consideration paid. Furthermore, no gain
or loss was recorded on the surplus note exchange and a new
effective interest rate was established based on the cash flows
of Ambac Note A. Any consideration paid directly related to
the issuance of Ambac Note A was expensed as incurred.
• The portion of the Ambac Note issued in connection with the
exchange of Deferred Amounts ("Ambac Note B") was
recorded at fair value. The Deferred Amount exchange was
accounted for as an extinguishment of the Deferred Amounts
with the gain reflected as a benefit to loss and loss expenses.
Any consideration paid directly related to the issuance of
Ambac Note B was capitalized and amortized as part of the
effective yield calculation.
The aggregate discount on the entire Ambac Note (portions A and
B) was accreted into earnings from the date of issuance through
September 30, 2018 using the effective interest method, based on
an imputed interest rate of 7.6%. Refer to Note 1. Background and
Business Description for further discussion of the Rehabilitation
Exit Transactions in connection with which the Ambac Note was
issued. Refer to the discussion under "Counterparty Collateral,
Deposits with Regulators and Other Restrictions" in Note 10.
Investments for further information on security and collateral
related to the Ambac Note and the Secured Notes issued by Ambac
LSNI.
Tier 2 Notes
The Tier 2 Notes, issued in connection with the Rehabilitation Exit
Transactions on February 12, 2018, with a par value of $281 and
$259 (including paid-in-kind interest of $41 and $19) at
December 31, 2019 and 2018, respectively, have a legal maturity
of February 12, 2055. Interest on the Tier 2 Notes is at an annual
rate of 8.50%. Other than upon payment of principal at redemption
or maturity, interest payments will not be made in cash on interest
payment dates and shall be paid-in-kind and compounded on the
last day of each calendar quarter. The Tier 2 Notes were recorded
at a discount to par as any consideration paid that was directly
related to the issuance of the Tier 2 Notes was capitalized and is
part of the effective yield calculation. Ambac is accreting the
discount on the Tier 2 Notes into earnings using the effective
interest method, based on an imputed interest rate of 9.9%.
The Tier 2 Notes are subject to mandatory redemption upon: (i)
receipt of representation and warranty subrogation recoveries in
excess of $1,600 ("Tier 2 Net Proceeds") and (ii) payment of
principal or interest on Ambac Assurance surplus notes (other than
junior surplus notes). Promptly, and in any event within five
business days after the receipt (whether directly or indirectly) of
Tier 2 Net Proceeds, Ambac Assurance shall deposit an amount
equal to the Tier 2 Net Proceeds to a collateral account, provided,
that any non-cash representation and warranty subrogation
recoveries shall be deemed to be received upon the receipt of the
applicable appraisal of the consideration received by Ambac
Assurance. Similarly, within five business dates after a surplus
note payment (other than in connection with the Rehabilitation
Exit Transactions), Ambac Assurance shall deposit an amount
based on the percentage of surplus notes paid applied to the
outstanding balance of the Tier 2 Notes to a collateral account. In
both cases, the amount deposited shall not be in excess of the
amount required to redeem all outstanding Tier 2 Notes. Also, such
amounts shall be used to initiate a redemption on the initial call
| Ambac Financial Group, Inc. 117 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
date for the Tier 2 Notes or, if the initial call date has occurred,
promptly following the receipt of the Tier 2 Net Proceeds or surplus
note payment.
The Tier 2 Notes may also be redeemed, in whole or in part, at the
option of Ambac Assurance. Both mandatory and optional
redemptions may be made at a price equal to 100% of the aggregate
principal amount redeemed, plus accrued and unpaid interest, if
any, plus a make-whole premium. Make-whole premiums are
calculated based on future interest payments through the
contractual call date ("Initial Call Date"). The Initial Call Date at
issuance of December 17, 2020, extends ratably beginning the first
anniversary of issuance to September 17, 2021 by the second
anniversary, and to March 17, 2022 by the third anniversary of
issuance. There are no extensions of the Initial Call Date beyond
March 17, 2022. The Initial Call Date for redemptions is
determined based on the date the applicable amounts are deposited
to the collateral account.
Ambac UK Debt
The Ambac UK debt, issued in connection with the Ballantyne
commutation on June 18, 2019 has a par value of $41 at
December 31, 2019, and a legal maturity of May 2, 2036. Interest
on the Ambac UK debt is at an annual rate of 0.00%. The Ambac
UK debt was recorded at its fair value at the date of issuance. The
discount on the debt is currently being accreted into income using
the effective interest method at an imputed interest rate of 7.4%.
Variable Interest Entities, Long-term Debt
The variable interest entity notes were issued by consolidated
VIEs. Ambac is the primary beneficiary of the VIEs as a result of
providing financial guarantees on certain of the variable interest
obligations. Consequently, Ambac has consolidated these variable
interest entity notes and all other assets and liabilities of the VIEs.
Ambac is not primarily liable for the debt obligations of these
entities. Ambac would only be required to make payments on these
debt obligations in the event that the issuer defaults on any principal
or interest due and to the extent such obligations are guaranteed
by Ambac. The total unpaid principal amount of outstanding long-
term debt associated with VIEs consolidated as a result of the
financial guarantee provided by Ambac was $3,990 and $4,553 as
of December 31, 2019 and 2018, respectively. As of December 31,
2019 and 2018, the ranges of final maturity dates of the outstanding
long-term debt associated with these VIEs were December 2025
to August 2054 as of December 31, 2019, and September 2019 to
December 2047 as of December 31, 2018. As of December 31,
2019 and 2018, the interest rates on these VIEs’ long-term debt
ranged from 0.00% to 7.93% and from 1.36% to 7.93%,
respectively. Aggregated annual maturities of VIE long-term debt
following December 31, 2019 are: 2020-$0; 2021-$0; 2022-$0;
2023-$0; 2024-$0; Thereafter-$3,990.
14. INCOME TAXES
AFG files a consolidated Federal income tax return with its
subsidiaries. Ambac also files separate or combined income tax
returns in various states, local and foreign jurisdictions. The
following are the major jurisdictions in which Ambac operates and
the earliest tax years subject to examination:
Jurisdiction
United States
New York State
New York City
United Kingdom
Italy
Tax Year
2010
2013
2015
2016
2015
Consolidated Pretax Income (Loss)
U.S. and foreign components of pre-tax income (loss) were as
follows:
Year Ended
December 31,
U.S.
Foreign
Total
2019
2018
2017
$
$
(174) $
(9)
(183) $
264
8
273
$
$
(451)
167
(284)
Provision (Benefit) for Income Taxes
The components of the provision (benefit) for income taxes were
as follows:
Year Ended
December 31,
Current taxes
U. S. federal
U.S. state and local
Foreign
Total current taxes
Deferred taxes
Foreign
Total deferred taxes
Provision for income
taxes
$
$
2019
2018
2017
$
— $
(2) $
(30)
(3)
37
34
(1)
(1) $
32
$
2
(1)
—
5
5
5
$
$
2
41
13
31
31
44
| Ambac Financial Group, Inc. 118 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The total effect of income taxes on net income and stockholders’ equity for the years ended December 31, 2019, 2018 and 2017 is as follows:
Year Ended
December 31,
Total income taxes charged to net income
Income taxes charged (credited) to stockholders’ equity:
Unrealized gains (losses) on investment securities
Unrealized gains (losses) on foreign currency translations
Valuation allowance to equity
Total charged to stockholders’ equity:
Total effect of income taxes
2019
2018
2017
$
32
$
5
$
44
14
—
(23)
(8)
$
24
$
12
—
(9)
3
8
$
(31)
26
5
—
44
Reconciliation of U.S. Federal Statutory Income Tax Rate to Actual Income Tax Rate
The tax provisions in the accompanying Consolidated Statements of Total Comprehensive Loss reflect effective tax rates differing from
prevailing Federal corporate income tax rates. The following is a reconciliation of these differences:
Year Ended December 31,
Amount
%
Amount
%
Amount
%
Tax on income from continuing operations at statutory rate
$
(38)
21.0 % $
57
21.0 % $
(99)
35.0 %
2019
2018
2017
Changes in expected tax resulting from:
Tax-exempt interest
Foreign taxes
Substantiation adjustment
Valuation allowance
Change in Tax Law
Other, net
Tax expense on income from continuing operations
$
Unrecognized Tax Positions
(3)
40
28
8
—
(2)
32
1.8 %
(22.1)%
(15.3)%
(4.4)%
— %
1.3 %
(17.7)% $
(7)
10
(60)
5
(2)
1
5
(2.5)%
3.9 %
(22.0)%
1.9 %
(0.7)%
0.4 %
2.0 % $
(6)
(18)
36
128
2
2
44
2.1 %
6.2 %
(12.7 )%
(44.9 )%
(0.7 )%
(0.7 )%
(15.7)%
A reconciliation of the beginning and ending amounts of material unrecognized tax benefits for 2019, 2018 and 2017 is as follows:
Year Ended
December 31,
Balance, beginning of period
Increases related to prior year tax positions
Decreases related to prior year tax positions
Balance, end of period
2019
2018
2017
$
$
— $
— $
—
—
—
—
— $
— $
—
—
—
—
Included in these balances at December 31, 2019, 2018 and 2017 are $0, $0 and $0, respectively, of unrecognized tax benefits that, if recognized,
would affect the effective tax rate. During the years ended December 31, 2019, 2018 and 2017, Ambac recognized interest of approximately
$0, $0 and $0, respectively. Ambac had approximately $0, $0 and $0, for the payment of interest accrued at December 31, 2019, 2018 and
2017, respectively.
| Ambac Financial Group, Inc. 119 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Deferred Income Taxes
NOL Usage Table
The tax effects of temporary differences that give rise to significant
portions of the deferred tax liabilities and deferred tax assets at
December 31, 2019 and 2018, are presented below:
NOL Usage
Tier
2019
2018
$
151
$
December 31,
Deferred tax liabilities:
Insurance intangible
Variable interest entities
Investments
Unearned premiums and credit fees
Other
Total deferred tax liabilities
Deferred tax assets:
Net operating loss and capital
carryforward
Loss reserves
Debentures
Compensation
Other
Subtotal deferred tax assets
Valuation allowance
Total deferred tax assets
90
12
32
42
8
183
742
148
29
7
1
927
777
151
19
26
48
8
252
719
227
23
10
2
980
768
212
40
Net deferred tax liability
$
32
$
In accordance with the Income Tax Topic of the ASC, a valuation
allowance is recognized if, based on the weight of available
evidence, it is more-likely-than-not that some, or all, of the deferred
tax asset will not be realized. With respect to Ambac's domestic
subsidiaries subject to U.S. tax, as a result of the risks and
uncertainties associated with future operating results, management
believes it is more likely than not that the Company will not
generate sufficient taxable income to recover the deferred tax asset
and therefore maintains a full valuation allowance. The remaining
net deferred tax liability of $32 is attributable to Ambac U.K.
NOL Usage
Pursuant to the intercompany tax sharing agreement, to the extent
Ambac Assurance generates taxable income after September 30,
2011, which is offset with "Allocated NOLs" of $3,650, it is
obligated to make payments (“Tolling Payments”), subject to
certain credits, to AFG in accordance with the following NOL
usage table, where the “Applicable Percentage” is applied to the
aggregate amount of federal income tax liability that would have
been paid if the Allocated NOLs were not available. Pursuant to
the Closing Agreement between Ambac and the Internal Revenue
Service ("IRS"), the IRS will receive 12.5% of Tier C and 17.5%
of Tier D payments, if made.
Allocated NOLs
The first $479
The next $1,057 after Tier A
The next $1,057 after Tier B
The next $1,057 after Tier C
Applicable
Percentage
15%
40%
10%
15%
A
B
C
D
Any net operating loss carryforwards ("NOLs") generated by
Ambac Assurance after September 30, 2011, are utilized prior to
any Allocated NOLs for which Tolling Payments will be due.
Through December 31, 2018, Ambac Assurance generated
cumulative taxable income of $1,508, utilizing all post September
30, 2011, NOLs. For the year ended December 31, 2019, Ambac
Assurance generated an NOL of $143, that will need to be utilized
before any new Tolling Payments will be generated. Of the credits
available to offset the first $5 of payments due under each of the
NOL usage Tiers A, B, and C, Ambac Assurance has fully utilized
the combined $10 of Tier A and Tier B credits. Through
December 31, 2019, Ambac Assurance utilized all of the $479 Tier
A NOL and $1,029 of the $1,057 Tier B NOL resulting in Tolling
Payments, net of applicable credits, of $147, of which $119 was
paid to AFG through December 31, 2019. In May 2018 AFG
executed a waiver under the intercompany tax sharing agreement
pursuant to which Ambac Assurance was relieved of the
requirement to make $28 payment by June 1, 2018. AFG has also
agreed to continue to defer the Tolling Payment for the use of net
operating losses by Ambac Assurance until such time as OCI
consent to the payment.
Ambac's tax positions are subject to review by the OCI, which may
lead to the adoption of positions that reduce the amount of Tolling
Payments otherwise available to AFG.
As of December 31, 2019, Ambac had U.S. federal net operating
loss tax carryforwards of approximately $3,535, which, if not
utilized, will begin expiring in 2029, and will fully expire in 2040.
The remaining balance of the NOL allocated to Ambac Assurance
was $2,285 and Ambac was $1,250.
15. EMPLOYMENT BENEFIT PLANS
Postretirement Health Care and Other Benefits
Ambac provides postretirement and postemployment / severance
benefits, including health and life benefits for certain employees
who meet certain age and service requirements. None of the plans
are currently funded. Postretirement and postemployment benefits
expenses, including severance benefits paid, were $3, $1 and $5
for the years ended December 31, 2019, 2018 and 2017,
respectively.
Effective August 1, 2005, new employees were not eligible for
postretirement benefits. The current postretirement benefit
requires retirees to purchase their own medical insurance policy
with a portion of their premium being reimbursed by Ambac. The
unfunded accumulated postretirement benefit obligation was $8 as
of December 31, 2019. The assumed health care cost trend rates
range from 5.3% in 2020, decreasing ratably to 4.5% in 2028.
Increasing the assumed health care cost trend rate by one
| Ambac Financial Group, Inc. 120 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
percentage point in each future year would increase the
accumulated postretirement benefit obligation at December 31,
2019, by less than a million dollars and the 2019 benefit expense
by less than a million dollars. Decreasing the assumed health care
cost trend rate by one percentage point in each future year would
decrease the accumulated postretirement benefit obligation at
December 31, 2019 by less than a million dollars and the 2019
benefit expense by less than a million dollars.
The following table sets forth projected benefit payments from
Ambac’s postretirement plan over the next ten years for current
retirees:
2020
2021
2022
2023
2024
2025-2029
Total
$
$
—
—
—
—
1
3
5
The discount rate used in determining the projected benefit
obligations for the postretirement plan is selected by reference to
a pension liability index with similar duration to that of the benefit
plan. The rates used for the projected plan benefit obligations at
the measurement date for December 31, 2019 and 2018, were
3.00% and 4.00%, respectively.
Savings Incentive Plan
Substantially all employees of Ambac Assurance are covered by a
defined contribution plan (the “Savings Incentive Plan”). Ambac
Assurance makes employer matching contributions equal 100% of
the employees’ contributions, up to 3% of such participants’
compensation, as defined in the plan, plus 50% of contributions
up to an additional 2% of compensation, subject to limits set by
the Internal Revenue Code. The total cost of the Savings Incentive
Plan was $1, $1 and $1 for the years December 31, 2019, 2018 and
2017, respectively.
Incentive Compensation - Stock Units and Cash
Incentive compensation is a key component of our compensation
strategy. Our incentive compensation awards generally have two
components: short term incentive compensation awards ("STIP")
and long term incentive plan awards ("LTIP"). Annual decisions
with regard to incentive compensation are generally made in the
first quarter of each year and are based on Company performance
and individual and business unit performance of the previous year.
For all employees, an allocation of incentive compensation is made
between STIP and LTIP awards.
Employees, directors and consultants of Ambac are eligible to
participate in Ambac’s 2013 Incentive Compensation Plan (“2013
Plan”) subject to the discretion of the compensation committee of
Ambac’s Board of Directors. The 2013 Plan provides for incentives
and rewards that are valued or determined by reference to Ambac
common stock as currently traded on the New York Stock
Exchange. There are 4,000,000 shares of Ambac’s common stock
authorized for awards under the 2013 Plan of which 1,383,489
shares are available for future grant as of December 31, 2019.
Shares available for future grant are reduced by the maximum
number of shares that could be issued pursuant to granted
performance awards. The number of shares available for future
issuance considering the target number of shares instead of the
maximum number of shares related to performance awards is
2,079,181.
In March 2014, Ambac developed the LTIP as a sub-plan of the
2013 Plan. The LTIP is intended to be an annual program that
allows for both cash and equity performance awards to certain US
employees.
In 2015, Ambac UK 's Board of Directors adopted a long term
incentive plan which provides cash based performance awards to
Ambac UK employees. Cash based compensation expense related
to performance awards granted to Ambac UK employees was $5,
$1 and $2 for the years ended December 31, 2019, 2018 and 2017,
respectively.
The amount of stock-based compensation expense and
corresponding after-tax expense are as follows:
Year Ended
December 31,
Stock options
Restricted stock units
Performance awards (1) (2)
Total stock-based
compensation
Total stock-based
compensation (after-tax)
2019
2018
2017
— $
— $
—
4
8
12
12
$
$
6
6
12
12
$
$
2
3
4
4
$
$
$
(1) Represents expense related to performance stock unit portion of
performance awards. Certain performance awards are in the form
of cash. Cash based compensation expense related to performance
awards granted to US employees was $0, $1 and $2 for the years
ended December 31, 2019, 2018 and 2017, respectively.
(2) A performance award issued to Ambac's former Chief Executive
Officer in the form of performance stock units was expensed during
2018.
| Ambac Financial Group, Inc. 121 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Stock Options
Stock options were awarded in 2013 to directors that had an expiry
term of seven years from the grant date, subject to earlier expiration
upon the recipient's departure from the Company. The Company
intends to use Treasury shares first and then, if necessary, issue
new shares to satisfy stock option exercises.
453,637 units do not require future service and are deferred for
future settlement. As of December 31, 2018, 645,028 RSUs
remained outstanding, of which (i) 209,093 units required future
service as a condition to the delivery of the underlying shares of
common stock,and (ii) 435,935 units did not require future service
and were deferred for future settlement.
A summary of stock option activity for 2019 is as follows:
A summary of RSU activity for 2019 is as follows:
Weighted
Average
Exercise
Price
Aggregate
Intrinsic
Value
Shares
Weighted
Average
Remaining
Contractual
Life
(in years)
16,667
$
20.63
—
—
—
—
—
—
16,667
16,667
$
$
20.63
20.63
$
$
—
—
0.97
0.97
Outstanding at
beginning of
period
Granted
Exercised
Forfeited or
expired
Outstanding at
end of period
Exercisable
All stock options granted were fully vested as of December 31,
2019. Total unrecognized compensation costs related to unvested
stock options granted were $0 as of December 31, 2019. No stock
options were exercised during the years ended December 31, 2019,
2018 and 2017, respectively.
Restricted Stock Units (“RSUs”)
RSUs have been awarded to certain employees for a portion of
their STIP compensation, LTIP compensation and special awards
for exceptional performance. Generally, the STIP and special
awards vest upon grant, but settlement is deferred (other than for
employment tax withholdings) into two equal installments
generally on the first and second anniversary date of the grant. The
LTIP awards generally vest in equal installments over a three year
period. Such vesting is expressly conditioned upon the respective
employees continued service with Ambac through the applicable
vesting date.
RSUs are awarded annually to directors and vest on the last day
of April of the following year. These RSUs will not settle until the
respective director’s termination from the board of directors or, if
earlier, upon a change in control. All RSUs provide for accelerated
vesting upon a change in control, death or disability or involuntary
removal other than for cause (not including removal pursuant to a
shareholder vote at a regularly scheduled annual meeting of
shareholders). Upon termination (other than for cause), the
unvested RSUs shall partially vest as of the date of such termination
in an amount equal to the number of then outstanding unvested
RSUs multiplied by a fraction, the numerator of which shall be the
number of calendar days which have lapsed since the grant date
and the denominator of which shall be the total number of calendar
days of the original vesting period.
As of December 31, 2019, 702,579 RSUs remained outstanding,
of which (i) 248,942 units required future service as a condition
to the delivery of the underlying shares of common stock and (ii)
Weighted
Average
Grant Date
Fair Value
Shares
Outstanding at beginning of period
645,028
$
Granted
Delivered or returned to plan (1)
Forfeited
248,861
(189,832)
(1,478)
Outstanding at end of period
702,579
$
17.17
19.75
16.76
20.11
18.19
(1) When restricted stock unit awards issued by Ambac become taxable
compensation to employees, shares may be withheld to cover the
employee’s withholding taxes. For the year ended December 31,
2019, Ambac purchased 72,977 of shares from employees that settled
restricted stock units to meet the required tax withholdings.
Ambac’s closing share price on the grant date was used to estimate
the fair value of the service condition based RSU on the grant date.
The weighted average grant date fair value of RSUs granted during
2019, 2018 and 2017 was $19.75, $16.35 and $20.22, respectively.
As of December 31, 2019, there was $2 of total unrecognized
compensation costs related to unvested RSUs granted. These costs
are expected to be recognized over a weighted average period of
1.7 years. The fair value for RSUs vested and delivered during the
year ended December 31, 2019, 2018 and 2017 was $4, $1 and $3,
respectively.
Performance Stock Awards ("PSUs")
Performance awards granted vest in 3 years and actual awards will
be based on performance at both AFG and Ambac Assurance.
Actual awards can payout 0% to 220% of the number of units
granted.
Under currently outstanding award agreements,
performance will be evaluated as follows:
• AFG performance will be evaluated relative to cumulative
earnings before interest, taxes, depreciation and amortization
over the vesting period (exclusive of Ambac Assurance and
its subsidiaries' earnings), which is intended to reward
participants for generating pre-tax income.
• Ambac Assurance performance will be evaluated according
to changes in Ambac Assurance's assets relative to its
insurance and financial obligations, which is intended to
reward participants for increases in the relative value of
Ambac Assurance, as well as reductions in watch list and
adversely classified credits, which is intended to reward
participants for de-risking the insured portfolio.
• In 2019, a relative Total Shareholder Return modifier was
added as an additional metric with respect to the LTIP award
payouts. The modifier will cause the payout at the end of the
performance period to be increased or decreased by 10% if
AFG's stock performance compared to a peer group is at or
| Ambac Financial Group, Inc. 122 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
unless either party elects to terminate by providing 120 days notice
prior to the renewal. This renewal feature is not recognized in the
lease liability or right-of-use asset as it is not reasonably certain
we will elect to renew. No other leases contain extension or
termination provisions.
Lease costs are included in operating expenses on the Consolidated
Statement of Total Comprehensive
(Loss). The
components of lease costs, net of sub-lessor income, is as follows:
Income
Year Ended December 31,
2019
Operating lease cost
Variable lease cost
Sublease income
Total lease cost
$
$
7
—
(1)
7
Ambac is required to make variable lease payments under certain
leases which primarily related to variable costs of the lessor. Such
costs include taxes, insurance, maintenance and electricity and are
less than a million dollars for the year ended December 31, 2019.
Supplemental information related to leases is as follows:
Year Ended December 31,
2019
Cash paid for amounts included in the measurement
of operating lease liabilities
$
Right-of-use assets obtained in exchange for
operating lease liabilities (non-cash) (1)
6
30
(1)
Includes right-of-use assets of $14 for the year ended December 31,
2019 for leases which existed prior to the New Lease Standard
implementation date of January 1, 2019.
Supplemental balance sheet information related to leases is as
follows:
December 31,
Operating leases:
Operating lease right of use assets
$
Operating lease liabilities
Weighted average remaining lease term:
Operating leases
Weighted average discount rate:
Operating leases
2019
25
29
9.9 years
7.9%
Operating lease right of use assets and operating lease liabilities
are included in Other assets and Other liabilities, respectively, on
the consolidated balance sheet.
above the 75th percentile or at or below the 25th percentile,
respectively.
These performance metrics are subject to change by the
Compensation Committee of the Board of Directors as Ambac's
business evolves.
Other than voluntary termination or involuntary termination for
cause, and provided that the participant meets certain minimum
service requirements, the performance awards are subject to either
partial or accelerated vesting. The current performance awards
shall be settled within 75 days after the end of the performance
period, including those with partial or accelerated vesting.
In 2015, a performance award was granted to the former Chief
Executive Officer. This award vested on February 12, 2018, upon
the emergence of the Segregated Account from rehabilitation.
A summary of PSU activity for 2019 is as follows:
Weighted
Average
Grant Date
Fair Value
Shares
Outstanding at beginning of period
516,999
$
Granted (1)
Delivered (2)
Forfeited (1)
Performance adjustment (3)
230,391
(166,353)
(8,151)
77,326
Outstanding at end of period
650,212
$
17.02
19.17
15.52
18.11
15.52
17.98
(1) Represents performance share units at 100% of units granted for LTIP
Awards.
(2) Reflects the number of performance shares attributable to the
performance goals attained over the completed performance period
and for which service conditions have been met. When performance
stock unit awards issued by Ambac become taxable compensation to
employees, shares may be withheld to cover the employee’s
withholding taxes. For the year ended December 31, 2019, Ambac
purchased 64,086 of shares from employees that settled performance
based restricted stock units to meet the required tax withholdings.
(3) Represents the increase (decrease) in shares issued for awards granted
in 2016 based upon the attainment of performance metrics at the end
of the performance period.
As of December 31, 2019, there was $6 of total unrecognized
compensation costs related to the PSU portion of unvested
performance awards, which are expected to be recognized over a
weighted average period of 1.6 years.
16. LEASES
Ambac adopted the New Lease Standard, as defined and further
described in Note 2. Basis of Presentation and Significant
Accounting Policies. Ambac is the lessee and lessor for certain
lease agreements further described below.
Lessee information
Ambac is the lessee in operating leases of corporate offices, a data
center and equipment. Our leases, in effect at December 31, 2019,
have remaining lease terms ranging from less than 1 year to 11
years. Our data center lease has an automatic renewal of one-year
| Ambac Financial Group, Inc. 123 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Future undiscounted lease payments, gross of sublease receipts, to
be made are as follows:
As of December 31, 2019
Operating
Leases
2020
2021
2022
2023
2024
Thereafter
Total lease payments
Less: imputed interest
Total
Lessor information
$
$
4
4
4
4
4
22
42
(13)
29
Ambac is the lessor in one operating sublease of corporate office
space which has a remaining term of 10.0 years. There are no
extension or termination provisions.
Future undiscounted lease payments to be received are as follows:
As of December 31, 2019
Operating
Leases
2020
2021
2022
2023
2024
Thereafter
Total lease receipts
$
$
1
1
1
1
1
6
12
17. COMMITMENTS AND CONTINGENCIES
Litigation Against Ambac
Monterey Bay Military Housing, LLC, et al. v. Ambac Assurance
Corporation, et al. (United States District Court, Northern District
of California, San Jose Division, Case No. 17-cv-04992-BLF, filed
August 28, 2017). Plaintiffs, the corporate developers of various
military housing projects, filed an amended complaint on October
27, 2017 against Ambac Assurance, a former employee of Ambac
Assurance, and certain unaffiliated persons and entities, asserting
claims for (i) violation of 18 U.S.C §§ 1962(c) and 1962(d) (civil
Racketeer Influenced and Corrupt Organizations Act (“RICO”)
and conspiracy to commit civil RICO), (ii) breach of fiduciary duty,
(iii) aiding and abetting breach of fiduciary duty, (iv) fraudulent
misrepresentation, (v) fraudulent concealment and (vi) conspiracy
to commit fraud. The claims relate to bonds and debt certificates
(insured by Ambac Assurance) that were issued to finance the
renovation and construction of housing at certain military bases.
Plaintiffs allege that defendants secretly conspired to overcharge
plaintiffs for the financing of the projects and directed the excess
profits to themselves. Plaintiffs allege defendants generated these
excess profits by supposedly charging inflated interest rates,
manipulating “shadow ratings,” charging unnecessary fees, and
hiding evidence of their alleged wrongdoing. Plaintiffs seek,
among other things, compensatory damages, disgorgement of
profits and fees, punitive damages, trebled damages and attorneys’
fees. Ambac and the other defendants filed motions to dismiss the
amended complaint on November 13, 2017. On July 17, 2018, the
court granted Ambac Assurance’s and the other defendants’ motion
to dismiss the first amended complaint without prejudice. On
December 17, 2018, Plaintiffs filed a second amended complaint.
On February 15, 2019, Ambac and the other defendants filed a
motion to dismiss the second amended complaint. On September
26, 2019, the court issued a decision denying defendants’ motion
to dismiss and sua sponte reconsidering its previous denial of
defendants’ motion to transfer venue to the Southern District of
New York (“SDNY”). On October 4, 2019, the case was transferred
to the SDNY. On October 10, 2019, the defendants filed motions
in the SDNY to vacate or reconsider the decision by the Northern
District of California on the defendants’ motion to dismiss. On
October 24, 2019, plaintiffs filed their brief in opposition to
defendants' motions to vacate or reconsider, and on October 31,
2019, defendants filed their reply briefs in further support of their
motions. On November 20, 2019, the court ordered that the
defendants’ answers to the second amended complaint would be
due seven days after the court issues a decision on their motions.
for
Financial Oversight and Management Board for Puerto Rico, et al.
v. Autonomy Master Fund Limited, et al. (United States District
Court, District of Puerto Rico, No. 19-ap-00291, filed May 2,
2019). On May 2, 2019, the Financial Oversight and Management
Board for Puerto Rico (the "Oversight Board"), together with the
the
Official Committee of Unsecured Creditors
Commonwealth (the "Committee") filed an adversary proceeding
against certain parties that filed proofs of claim on account of
general obligation bonds issued by the Commonwealth of Puerto
Rico, including Ambac Assurance. The complaint seeks
declarations that the general obligation bonds are unsecured
obligations and, in the alternative, seeks to avoid any security
interests that holders of such bonds may have. On June 12, 2019,
a group of general obligation bondholders moved to dismiss the
complaint. On June 13, 2019, at the request of the Plaintiffs, the
District Court stayed the case until September 1, 2019 as to all
defendants; on July 24, 2019, the District Court referred this matter
to mediation and ordered it stayed during the pendency of such
mediation. Ambac Assurance filed a statement of position and
reservation of rights on February 5, 2020; certain other defendants
filed motions to dismiss on this same date. On February 9, 2020,
the Oversight Board announced that it intends to file, and to seek
to confirm, an amended plan of adjustment (the “Amended POA”).
The team of mediators designated in the Commonwealth’s
restructuring cases (the “Mediation Team”) has recommended this
case be stayed while the Oversight Board attempts to confirm the
Amended POA. The District Court has not yet ruled on this
recommendation.
Financial Oversight and Management Board for Puerto Rico, et al.
v. Ambac Assurance Corporation, et al. (United States District
Court, District of Puerto Rico, No. 19-ap-00363, filed May 20,
2019). On May 20, 2019, the Oversight Board, together with the
Committee, as Plaintiffs, filed an adversary proceeding against
certain parties that filed proofs of claim on account of bonds issued
by the Puerto Rico Highways and Transportation Authority
("PRHTA"), including Ambac Assurance. The complaint seeks
declarations that the PRHTA bonds are only secured by revenues
| Ambac Financial Group, Inc. 124 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
on deposit with the PRHTA Fiscal Agent and that PRHTA
bondholders have no security interest in any other property of
PRHTA or the Commonwealth, and in the alternative, to the extent
such other security interests exist, the complaint seeks to avoid
other security interests that holders of PRHTA bonds may have.
On June 14, 2019, at the request of the Plaintiffs, the District Court
stayed the case until September 1, 2019 as to all defendants; on
July 24, 2019, the District Court referred this matter to mediation
and ordered it stayed during the pendency of such mediation. On
December 19, 2019, the District Court ordered that this matter will
remain stayed pending further order of the District Court pursuant
to the Oversight Board’s initiation of a separate adversary
proceeding concerning PRHTA bonds (No. 20-ap-00005,
discussed below).
Financial Oversight and Management Board for Puerto Rico v.
Ambac Assurance Corp., et al. (United States District Court,
District of Puerto Rico, No. 20-ap-00003, filed Jan. 16, 2020).
Pursuant to an order of the District Court setting out an agreed
schedule for litigation submitted by the Mediation Team, on
January 16, 2020, the Oversight Board filed an adversary
proceeding against monoline insurers insuring bonds issued by the
Puerto Rico Infrastructure Financing Authority (“PRIFA”) and the
PRIFA bond trustee, all of which Defendants filed proofs of claim
against the Commonwealth relating to PRIFA bonds. The
complaint seeks to disallow Defendants’ proofs of claim against
the Commonwealth in their entirety, including for lack of secured
status. Briefing on motions to dismiss is expected to conclude on
May 13, 2020, and a hearing is scheduled for June 2020.
Financial Oversight and Management Board for Puerto Rico v.
Ambac Assurance Corp., et al. (United States District Court,
District of Puerto Rico, No. 20-ap-00004, filed Jan. 16, 2020).
Pursuant to an order of the District Court setting out an agreed
schedule for litigation submitted by the Mediation Team, on
January 16, 2020, the Oversight Board filed an adversary
proceeding against monoline insurers insuring bonds issued by the
Puerto Rico Convention Center District Authority (“PRCCDA”)
and the PRCCDA bond trustee, all of which Defendants filed
proofs of claim against the Commonwealth relating to PRCCDA
bonds. The complaint seeks to disallow Defendants’ proofs of
claim against the Commonwealth in their entirety, including for
lack of secured status. Briefing on motions to dismiss is expected
to conclude on May 13, 2020, and a hearing is scheduled for June
2020.
Financial Oversight and Management Board for Puerto Rico v.
Ambac Assurance Corp., et al. (United States District Court,
District of Puerto Rico, No. 20-ap-00005, filed Jan. 16, 2020).
Pursuant to an order of the District Court setting out an agreed
schedule for litigation submitted by the Mediation Team, on
January 16, 2020, the Oversight Board filed an adversary
proceeding against monoline insurers insuring bonds issued by
PRHTA, certain PRHTA bondholders, and the PRHTA fiscal agent
for bondholders, all of which Defendants filed proofs of claim
against the Commonwealth relating to PRHTA bonds. The
complaint seeks to disallow Defendants’ proofs of claim against
the Commonwealth in their entirety, including for lack of secured
status. Briefing on motions to dismiss is expected to conclude on
May 13, 2020, and a hearing is scheduled for June 2020.
Financial Oversight and Management Board for Puerto Rico v.
Ambac Assurance Corp., et al. (United States District Court,
District of Puerto Rico, No. 20-ap-00007, filed Jan. 16, 2020).
Pursuant to an order of the District Court setting out an agreed
schedule for litigation submitted by the Mediation Team, on
January 16, 2020, the Oversight Board and the Committee filed an
adversary proceeding against monoline insurers insuring bonds
issued by PRHTA, certain PRHTA bondholders, and the PRHTA
fiscal agent for bondholders, all of which Defendants filed proofs
of claim against PRHTA relating to PRHTA bonds. The complaint
seeks to disallow portions of Defendants’ proofs of claim against
the PRHTA, including for lack of secured status. Briefing on
motions to dismiss is expected to conclude on May 13, 2020, and
a hearing is scheduled for June 2020.
NC Residuals Owners Trust, et al. v. Wilmington Trust Co., et al.
(Delaware Court of Chancery, C.A. No. 2019-0880, filed Nov. 1,
2019). On November 1, 2019, Ambac Assurance became aware
of a new declaratory judgment action filed by certain residual
equity interest holders (“NC Owners” or “Plaintiffs”) in fourteen
National Collegiate Student Loan Trusts (the “Trusts”) against
Wilmington Trust Company, the Owner Trustee for the Trusts; U.S.
Bank National Association, the Indenture Trustee; GSS Data
Services, Inc., the Administrator; and Ambac Assurance. Plaintiffs
seek a number of judicial determinations, including that the Owner
Trustee and Administrator are required to follow the NC Owners’
issuer orders and cause the invoices of certain retained professional
advisors to be paid from the assets of the Trusts as Owner Trustee
expenses and Administrator expenses. Plaintiffs also seek a
declaration that, with respect to the Trusts, the Owner Trustee does
not owe fiduciary or extracontractual duties to any party except
the NC Owners. Finally, Plaintiffs request their costs and
attorney’s fees incurred in connection with this action. On January
21, 2020, the presiding Vice Chancellor entered an order
consolidating the action with previously filed litigation relating to
the Trusts. On January 31, 2020, Plaintiffs filed an amended
complaint containing an expanded list of requested judicial
determinations. On February 13, 2020, Ambac Assurance, the
Owner Trustee, the Indenture Trustee, and other parties filed
declaratory judgment counterclaims.
Ambac Assurance’s estimates of projected losses for RMBS
transactions consider, among other things, the RMBS transactions’
payment waterfall structure, including the application of interest
and principal payments and recoveries, and depend in part on our
interpretations of contracts and other bases of our legal rights.
From time to time, bond trustees and other transaction participants
have employed different contractual interpretations and have
commenced, or threatened to commence, litigation to resolve these
differences. It is not possible to predict whether additional disputes
will arise, nor the outcomes of any potential litigation. It is possible
that there could be unfavorable outcomes in this or other disputes
or proceedings and that our interpretations may prove to be
incorrect, which could lead to changes to our estimate of loss
reserves.
requests
Ambac Assurance has periodically received various regulatory
inquiries and
to
investigations and inquiries that such regulators are conducting.
Ambac Assurance has complied with all such inquiries and
requests for information.
information with
respect
for
| Ambac Financial Group, Inc. 125 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
The Company is involved from time to time in various routine legal
proceedings, including proceedings related to litigation with
present or former employees. Although the Company’s litigation
with present or former employees is routine and incidental to the
conduct of its business, such litigation can result in large monetary
awards when a civil jury is allowed to determine compensatory
and/or punitive damages for, among other things, termination of
employment that is wrongful or in violation of implied contracts.
From time to time, Ambac is subject to allegations concerning its
corporate governance that may lead to litigation, including
derivative litigation, and while the monetary impacts may not be
material, the matters may distract management and the Board of
Directors from their principal focus on Ambac's business, strategy
and objectives.
It is not reasonably possible to predict whether additional suits will
be filed or whether additional inquiries or requests for information
will be made, and it is also not possible to predict the outcome of
litigation, inquiries or requests for information. It is possible that
there could be unfavorable outcomes in these or other proceedings.
Legal accruals for litigation against the Company which are
probable and reasonably estimable, and management's estimated
range of loss for such matters, are either not applicable or are not
material to the operating results or financial position of the
Company. For the litigation matters the Company is defending that
do not meet the “probable and reasonably estimable” accrual
threshold and where no loss estimates have been provided above,
management is unable to make a meaningful estimate of the
amount or range of loss that could result from unfavorable
outcomes. Under some circumstances, adverse results in any such
proceedings could be material to our business, operations, financial
position, profitability or cash flows. The Company believes that it
has substantial defenses to the claims above and, to the extent that
these actions proceed, the Company intends to defend itself
vigorously; however, the Company is not able to predict the
outcomes of these actions.
Litigation Filed or Joined by Ambac
In the ordinary course of their businesses, certain of Ambac’s
subsidiaries assert claims in legal proceedings against third parties
to recover losses already paid and/or mitigate future losses. The
amounts recovered and/or losses avoided which may result from
these proceedings is uncertain, although recoveries and/or losses
avoided in any one or more of these proceedings during any quarter
or fiscal year could be material to Ambac’s results of operations
in that quarter or fiscal year.
Puerto Rico
Assured Guaranty Corp., Assured Guaranty Municipal Corp., and
Ambac Assurance Corporation v. Alejandro Garcia Padilla, et al.
(United States District Court, District of Puerto Rico No. 3:16-
cv-01037, filed January 7, 2016). Ambac Assurance, along with
co-plaintiffs Assured Guaranty Corp. and Assured Guaranty
Municipal Corp., filed a complaint for declaratory and injunctive
relief to protect its rights against the illegal clawback of certain
revenue by the Commonwealth of Puerto Rico. Defendants moved
to dismiss on January 29, 2016. On October 4, 2016, the court
denied the Defendants’ motions to dismiss. On October 14, 2016,
Defendants filed a Notice of Automatic Stay, asserting that
Plaintiffs’ claims have been rendered moot and further asserting
that the case was automatically stayed under section 405 of the
Puerto Rico Oversight, Management and Economic Stability Act
("PROMESA"). On October 28, 2016, Plaintiffs informed the court
that neither party was currently challenging the stay, and expressly
reserved their right to seek to lift the stay at any time. Plaintiffs
also objected to Defendants’ assertion that the case should be
dismissed as moot. PROMESA’s litigation stay expired on May 2,
2017. On May 3, 2017, the Oversight Board filed a petition to
adjust the Commonwealth’s debts under Title III of PROMESA,
resulting
the
Commonwealth. On May 17, 2017, the court issued an order
staying this case until further order of the court.
in an automatic stay of
litigation against
Ambac Assurance Corporation v. Puerto Rico Highways and
Transportation Authority (United States District Court, District of
Puerto Rico, No. 16-cv-1893, filed May 10, 2016). Ambac
Assurance filed a complaint against the Puerto Rico Highways and
Transportation Authority ("PRHTA") on May 10, 2016, alleging
breach of fiduciary duty and breach of contract in connection with
PRHTA’s extension of an existing toll road concession agreement.
The complaint alleges that it was inappropriate for PRHTA to enter
into the extension agreement in its current state of financial distress
because PRHTA has no control over, and is unlikely to receive, the
proceeds of the transaction. Ambac Assurance also filed related
motions seeking the appointment of a provisional receiver for
PRHTA and expedited discovery. On May 21, 2017, the Oversight
Board filed a petition to adjust PRHTA’s debts under Title III of
PROMESA, resulting in an automatic stay of litigation against
PRHTA. On May 24, 2017, the court issued an order staying this
case until further order of the court.
Lex Claims, LLC et al. v. Alejandro Garcia Padilla et al. (United
States District Court, District of Puerto Rico, No. 16-2374, filed
July 20, 2016). On October 7, 2016, certain General Obligation
bondholder Plaintiffs in an action to which Ambac Assurance was
not then a party filed a motion for leave to amend an existing
the Puerto Rico Sales Tax Financing
complaint, adding
Corporation ("COFINA"), COFINA’s executive director, and the
trustee for the COFINA bonds as Defendants, and asserting
numerous claims that challenged the legal validity of the COFINA
structure and seek injunctive relief requiring the sales and use tax
proceeds securing COFINA’s bonds to be transferred to the Puerto
Rico Treasury. On February 17, 2017, the court permitted Ambac
Assurance to intervene. On May 3, 2017, a petition under Title III
of PROMESA was filed on behalf of the Commonwealth of Puerto
Rico, and on May 5, 2017, a petition under Title III of PROMESA
was filed on behalf of COFINA, resulting in an automatic stay of
litigation against the Commonwealth and COFINA (respectively).
On May 17, 2017, the court issued an order staying this case until
further order of the court. On October 19, 2018, the Oversight
Board filed (i) a disclosure statement and a plan of adjustment for
COFINA (the “COFINA Plan”) in the COFINA Title III case
incorporating a
the
Commonwealth and COFINA concerning entitlement to sales and
use taxes (the “Commonwealth-COFINA Dispute”), and (ii) a
motion under Bankruptcy Rule 9019 in the Commonwealth Title
III case for approval of the settlement of the Commonwealth-
COFINA Dispute (the “9019 Motion”). On February 4, 2019 the
District Court granted the 9019 Motion and confirmed the
COFINA Plan, which resolves the dispute in this case. The
the dispute between
resolution of
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COFINA Plan became effective on February 12, 2019. Following
confirmation of the COFINA Plan, several parties filed notices of
appeal of the District Court’s confirmation order. On April 12,
2019, the Oversight Board and the Puerto Rico Fiscal Agency and
Financial Advisory Authority ("AAFAF") moved to dismiss these
appeals as equitably moot because the COFINA Plan has been
consummated. On August 7 and October 4, 2019, the First Circuit
denied the motions to dismiss, but without prejudice to
reconsideration of the mootness issue by the panel that decides the
appeals. Briefing on the merits of the appeals is ongoing before
the First Circuit.
Ambac Assurance Corporation v. Puerto Rico, et al. (United States
District Court, District of Puerto Rico, No. 17-1567, filed May 2,
2017). On May 2, 2017, Ambac Assurance filed a complaint
seeking a declaration that the Commonwealth’s Fiscal and
Economic Growth Plan (the "FEGP") and a recently enacted statute
called the “Fiscal Plan Compliance Law” are unconstitutional and
unlawful because they violate the Contracts, Takings, and Due
Process Clauses of the U.S. Constitution, are preempted by
PROMESA, and are unlawful transfers of property from COFINA
to the Commonwealth in violation of PROMESA. On May 3, 2017,
a petition under Title III of PROMESA was filed on behalf of the
Commonwealth of Puerto Rico, and on May 5, 2017, a petition
under Title III of PROMESA was filed on behalf of COFINA,
resulting in an automatic stay of litigation against COFINA. On
May 17, 2017, the court issued an order staying this case until
further order of the court. On February 4, 2019, the District Court
granted the 9019 Motion and confirmed the COFINA Plan. The
COFINA Plan became effective on February 12, 2019. Following
confirmation of the COFINA Plan, several parties filed notices of
appeal of the District Court’s confirmation order. Ambac
Assurance anticipates that this case will be voluntarily dismissed
given the effectiveness of the COFINA Plan.
Ambac Assurance Corporation v. Puerto Rico, et al. (United States
District Court, District of Puerto Rico, No. 17-1568, filed May 2,
2017). On May 2, 2017, Ambac Assurance filed a complaint
alleging that various moratorium laws and executive orders
enacted by the Commonwealth to claw back funds from PRIFA,
PRHTA, and PRCCDA bonds violate the Contracts, Takings, and
Due Process Clauses of the U.S. Constitution, are preempted by
PROMESA, and unlawfully transfer PRHTA, PRCCDA, and
PRIFA property to the Commonwealth. On May 3, 2017, a petition
under Title III of PROMESA was filed on behalf of the
Commonwealth of Puerto Rico and on May 21, 2017, a petition
under Title III of PROMESA was filed on behalf of PRHTA,
the
resulting
Commonwealth and PRHTA (respectively). On May 17, 2017, the
court issued an order staying this case until further order of the
court.
in an automatic stay of
litigation against
Ambac Assurance Corporation v. U.S. Department of Treasury et
al. (United States District Court, District of Columbia, No. 17-809,
filed May 2, 2017). On May 2, 2017, Ambac Assurance filed a
complaint against the U.S. Department of Treasury and Steven
Mnuchin, in his official capacity as Secretary of the Treasury,
alleging that Puerto Rico’s ongoing diversion of rum taxes from
PRIFA violates the Contracts, Takings, and Due Process Clauses
of the U.S. Constitution, and seeking an equitable lien on all rum
taxes possessed by the U.S. Treasury, and an injunction preventing
their transfer to the Commonwealth. On May 3, 2017, a petition
under Title III of PROMESA was filed on behalf of the
Commonwealth of Puerto Rico. On May 24, 2017, the Oversight
Board filed a statement requesting that the court take notice of the
stay resulting from the Commonwealth’s Title III filing. On May
25, 2017, the court issued an order staying this case as a result of
the Title III proceedings.
Ambac Assurance Corporation v. Bank of New York Mellon
(United States District Court, Southern District of New York. No.
1:17-cv-03804, filed May 2, 2017). On May 2, 2017, Ambac
Assurance filed a complaint in New York State Supreme Court,
New York County, against the trustee for the COFINA bonds, Bank
of New York Mellon ("BNY"), alleging breach of fiduciary,
contractual, and other duties for failing to adequately and
appropriately protect the holders of certain Ambac Assurance-
insured senior COFINA bonds. On May 19, 2017, BNY filed a
notice of removal of this action from New York state court to the
United States District Court for the Southern District of New York.
On May 30, 2017, the United States District Court for the District
of Puerto Rico entered an order in an adversary proceeding brought
by BNY (No. 1:17-ap-00133) staying this litigation pending
further order of the court. The COFINA Plan became effective on
February 12, 2019, and, pursuant to the District Court’s
confirmation order, this litigation is permitted to continue, with
Ambac’s claims against BNYM being limited to those for gross
negligence, willful misconduct and intentional fraud. Following
confirmation of the COFINA Plan, several parties filed notices of
appeal of the District Court’s confirmation order to the First Circuit
Court of Appeals. On April 12, 2019, the Oversight Board and
AAFAF moved to dismiss these appeals as equitably moot because
the COFINA Plan has been consummated. On August 7 and
October 4, 2019, the First Circuit denied the motions to dismiss,
but without prejudice to reconsideration of the mootness issue by
the panel that decides the appeals. Briefing on the merits of the
appeals is ongoing before the First Circuit.
Bank of New York Mellon v. COFINA, et al. (United States District
Court, District of Puerto Rico, No. 1:17-ap-00133, filed May 16,
2017). On May 16, 2017, BNY filed an interpleader action styled
as an adversary proceeding against COFINA and certain creditors
of COFINA, including Ambac Assurance, that have made
competing claims of entitlement to funds held by BNY in order to
determine the parties’ respective entitlements to the funds. BNY
also sought a release of liability in association with the COFINA
funds in its possession.. On September 27, 2018, the court
terminated competing motions for summary judgment without
prejudice in light of the pending agreement in principle between
the agent for COFINA and the agent for the Commonwealth in
adversary proceeding no. 1:17-ap-00257 (the “Commonwealth-
COFINA Dispute,” discussed below). On October 19, 2018, the
Oversight Board filed (i) a disclosure statement and the COFINA
Plan in the COFINA Title III case incorporating a resolution of the
Commonwealth-COFINA Dispute, and (ii) the 9019 Motion in the
Commonwealth Title III case for approval of the settlement of the
Commonwealth-COFINA Dispute. On February 4, 2019 the
District Court granted the 9019 Motion and confirmed the
COFINA Plan, which resolves the dispute in this case. The
COFINA Plan became effective on February 12, 2019. Following
confirmation of the COFINA Plan, several parties filed notices of
appeal of the District Court’s confirmation order to the First Circuit
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Court of Appeals. On February 20, 2019, on the joint motion of
BNY and COFINA, the District Court dismissed this case with
prejudice. On April 12, 2019, the Oversight Board and AAFAF
moved to dismiss these appeals as equitably moot because the
COFINA Plan has been consummated. On August 7 and October
4, 2019, the First Circuit denied the motions to dismiss, but without
prejudice to reconsideration of the mootness issue by the panel that
decides the appeals. Briefing on the merits of the appeals is
ongoing before the First Circuit.
Ambac Assurance Corporation v. Puerto Rico, et al. (United States
District Court, District of Puerto Rico, No. 1:17-ap-00159, filed
June 8, 2017). On June 8, 2017, Ambac Assurance filed an
adversary complaint in the Commonwealth’s Title III case against
the Commonwealth, PRHTA, the Oversight Board, AAFAF, and
other Commonwealth government officers. Ambac Assurance
challenges the Commonwealth’s clawback of funds from the
PRIFA, PRHTA, and PRCCDA bonds under the Contracts,
Takings, and Due Process Clauses of the U.S. Constitution and
under PROMESA. The complaint further seeks a declaration that
revenues pledged to the PRHTA bonds are “special revenues”
under Sections 922 and 928 of the Bankruptcy Code, and an
injunction compelling Defendants to remit the pledged special
revenues to PRHTA for payment of the PRHTA bonds. On July
7, 2017, Ambac Assurance filed an amended complaint that added
an additional claim for relief: a declaration that the funds held in
the PRHTA reserve accounts are property of the PRHTA
bondholders. On July 28, 2017, Defendants moved to dismiss
Ambac Assurance’s complaint, which Ambac Assurance opposed.
On February 27, 2018, the District Court granted Defendants’
motion to dismiss. On March 9, 2018, Ambac Assurance appealed
this ruling to the First Circuit Court of Appeals. On June 24, 2019,
the First Circuit affirmed the District Court's dismissal of Ambac
Assurance's claims for relief on the grounds that PROMESA
deprives courts of jurisdiction to review the Oversight Board's
certification determinations, and that PROMESA prohibits the
Title III court from interfering with the political or governmental
powers of the Commonwealth or the Commonwealth's property or
revenues. On January 13, 2020, the Supreme Court of the United
States denied Ambac Assurance’s petition for certiorari.
Official Committee of Unsecured Creditors v. Whyte (United
States District Court, District of Puerto Rico, No. 1:17-ap-00257,
filed September 8, 2017) (the Commonwealth-COFINA Dispute).
On August 10, 2017, the court approved a stipulation between the
Oversight Board, the Commonwealth, COFINA, and certain
creditor parties, including Ambac Assurance, to resolve the
Commonwealth-COFINA Dispute regarding entitlement to sales
and use taxes. The stipulation provided that separate agents for
COFINA and the Commonwealth would litigate the dispute while
preserving the ability of interested parties, to participate in the
litigation. On September 8, 2017, the Commonwealth Agent filed
an adversary proceeding against the COFINA Agent challenging
the COFINA structure on various grounds. The Commonwealth
Agent filed a revised complaint on October 25, 2017, making
technical corrections to the original complaint. Ambac Assurance
made a motion to intervene in this action, which the court granted
on November 21, 2017. The Commonwealth Agent filed an
amended complaint on January 16, 2018, largely re-stating its
original causes of action to fall within the parameters of the dispute
set by the court. After extensive motion practice, on September
27, 2018, the court terminated competing summary judgment
motions without prejudice in light of a pending agreement in
principle between the Commonwealth Agent and COFINA Agent.
On October 19, 2018, the Oversight Board filed (i) a disclosure
statement and the COFINA Plan in the COFINA Title III case
incorporating a resolution of the Commonwealth-COFINA
Dispute, and (ii) the 9019 Motion in the Commonwealth Title III
case for approval of the settlement of the Commonwealth-
COFINA Dispute. On February 4, 2019, the District Court granted
the 9019 Motion and confirmed the COFINA Plan, which resolves
the dispute in this case. The COFINA Plan became effective on
February 12, 2019. On February 21, 2019, on the joint motion of
the agents for the Commonwealth and COFINA, the Oversight
Board, AAFAF, and all participating interested parties, the District
Court dismissed this case with prejudice. Following confirmation
of the COFINA Plan, several parties filed notices of appeal of the
District Court’s confirmation order to the First Circuit Court of
Appeals. On April 12, 2019, the Oversight Board and AAFAF
moved to dismiss these appeals as equitably moot because the
COFINA Plan has been consummated. On August 7 and October
4, 2019, the First Circuit denied the motions to dismiss, but without
prejudice to reconsideration of the mootness issue by the panel that
decides the appeals. Briefing on the merits of the appeals is
ongoing before the First Circuit.
instrumentalities of
Financial Oversight and Management Board for Puerto Rico v.
Public Buildings Authority (United States District Court, District
of Puerto Rico, No. 1:18-ap-00149, filed December 21, 2018). On
December 21, 2018, the Oversight Board, together with the
Committee, as Plaintiffs, filed a complaint against the Puerto Rico
Public Buildings Authority (“PBA”) seeking declaratory judgment
that the leases between PBA and its lessees-many of whom are
agencies and
the Commonwealth-are
“disguised financings,” not true leases, and therefore should not
be afforded administrative expense priority under the Bankruptcy
Code. On March 12, 2019, Ambac Assurance and other interested
parties were permitted to intervene in order to argue that the PBA
leases are valid leases, and are entitled to administrative expense
treatment under the Bankruptcy Code. Certain intervenor-
defendants filed counterclaims for declarations to this effect, and
a motion for judgment on the pleadings. On June 16, 2019, the
Oversight Board announced that it had entered into a plan support
agreement ("PSA") with certain general obligation and PBA
bondholders that includes a proposed resolution of claim
objections to and issues surrounding both general obligation and
PBA bonds, including a proposed settlement of this adversary
proceeding. On June 27, 2019, the Oversight Board moved to stay
this adversary proceeding while it pursues confirmation of the plan
contemplated in the PSA. On July 9, 2019, Ambac Assurance
objected to the motion to stay. On July 24, 2019, the District Court
referred this matter to mediation and ordered it stayed during the
pendency of such mediation. On September 27, 2019, the
Oversight Board filed a joint plan of adjustment and disclosure
statement for the Commonwealth, PBA, and the Employees’
Retirement System for Puerto Rico. On February 9, 2020, the
Oversight Board executed a new plan support agreement with
additional creditors (the “New PSA”) and announced that it intends
to file, and seek to confirm, the Amended POA. The Mediation
Team has recommended this case continue to be stayed while the
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Oversight Board attempts to confirm the Amended POA. The
District Court has not yet ruled on this recommendation.
in
In re Financial Oversight and Management Board for Puerto Rico
(United States District Court, District of Puerto Rico, No. 1:17-
bk-03283), Omnibus Objection of (I) Financial Oversight and
Management Board, Acting Through
its Special Claims
Committee, and (II) Official Committee of Unsecured Creditors,
Pursuant to Bankruptcy Code Section 502 and Bankruptcy Rule
3007, to Claims Filed or Asserted by Holders of Certain
Commonwealth General Obligation Bonds (Dkt. No. 4784, filed
January 14, 2019) (“GO Bond Claim Objection Procedures”). On
January 14, 2019, the Oversight Board and the Committee filed an
omnibus claim objection in the Commonwealth’s Title III case
challenging claims arising from certain general obligation bonds
issued by the Commonwealth in 2012 and 2014 totaling
approximately $6 billion, none of which are held or insured by
Ambac Assurance. The court subsequently ordered certain
consolidated procedures permitting parties
interest an
opportunity to participate in litigation of the objection. On April
11, 2019, Ambac Assurance filed a notice of participation in
support of the objection, advancing the argument, among other
things, that the PBA leases are true leases, but the associated debt
nonetheless should be included in the Commonwealth’s debt
ceiling calculation such that the 2012 and 2014 general obligation
bond issuances are null and void and claims arising therefrom
should be disallowed. On June 16, 2019, the Oversight Board
announced that it had entered into a PSA with certain general
obligation and PBA bondholders that includes a proposed
resolution of claim objections to and issues surrounding both
general obligation and PBA bonds, including a proposed settlement
of this omnibus claim objection. On June 25, 2019, the Oversight
Board moved to stay proceedings related to this omnibus claim
objection while it pursues confirmation of the plan contemplated
in the PSA. On July 24, 2019, the District Court referred this matter
to mediation and ordered it stayed during the pendency of such
mediation. On February 5, 2020, certain parties filed motions to
dismiss the claim objection. On February 9, 2020, the Oversight
Board executed the New PSA and announced that it intends to file,
and seek to confirm, the Amended POA. Additional motions to
dismiss were filed on February 19, 2020. The Mediation Team has
recommended this matter be stayed while the Oversight Board
attempts to confirm the Amended POA. The District Court has
not yet ruled on this recommendation.
In re Financial Oversight and Management Board for Puerto Rico
(United States District Court, District of Puerto Rico, No. 1:17-
bk-03283), Ambac Assurance Corporation’s Motion to Strike
Certain Provisions of the Plan Support Agreement By and Among
the Financial Oversight and Management Board for Puerto Rico,
Certain GO Holders, and Certain PBA Holders (Dkt. No. 8020,
filed July 16, 2019) (“Ambac Assurance Motion to Strike PSA”).
On June 16, 2019, the Oversight Board announced that it had
entered into a PSA with certain general obligation and PBA
bondholders that includes a proposed resolution of claim
objections to and issues surrounding both general obligation and
PBA bonds. On July 16, 2019, Ambac Assurance filed a motion
to strike certain provisions of the PSA that it believes violate
PROMESA, including the potential payment of a breakup fee to
creditors who have supported the PSA. On July 24, 2019, the
District Court referred this matter to mediation and ordered it
stayed during the pendency of such mediation. On February 9,
2020, the Oversight Board executed the New PSA. The Mediation
Team has recommended the Ambac Assurance Motion to Strike
PSA be denied without prejudice due to the Commonwealth’s entry
into the New PSA. The District Court has not yet ruled on this
recommendation.
In re Financial Oversight and Management Board for Puerto Rico
(United States District Court, District of Puerto Rico, No. 1:17-
bk-03283), Ambac Assurance Corporation's Motion and
Memorandum of Law in Support of Its Motion Concerning
Application of the Automatic Stay to the Revenues Securing PRIFA
Rum Tax Bonds (Dkt. No. 7176, filed May 30, 2019) (“PRIFA Stay
Motion”). On May 30, 2019, Ambac Assurance filed a motion
seeking an order that the automatic stay does not apply to certain
lawsuits Ambac Assurance seeks to bring or to continue relating
to bonds issued by PRIFA, or, in the alternative, for relief from the
automatic stay to pursue such lawsuits or for adequate protection
of Ambac Assurance's collateral. On July 24, 2019, the District
Court referred this matter to mediation and ordered it stayed during
the pendency of such mediation. Pursuant to an order of the District
Court setting out an agreed schedule for litigation submitted by the
Mediation Team, on January 16, 2020, Ambac Assurance, together
with Assured Guaranty Corporation, Assured Guaranty Municipal
Corporation, and Financial Guaranty Insurance Company filed a
motion to amend the PRIFA Stay Motion in order to allow the
PRIFA bond trustee to join the amended motion and to allow
movants to address recent, controlling precedent from the First
Circuit. The District Court granted the motion to amend on January
31, 2020, and Ambac Assurance filed the amended motion the same
day. A preliminary hearing on the amended motion is scheduled
for April 2, 2020.
In re Financial Oversight and Management Board for Puerto Rico
(United States District Court, District of Puerto Rico, No. 1:17-
bk-03283), Motion of Assured Guaranty Corp., Assured Municipal
Corp., Ambac Assurance Corporation, National Public Finance
Guarantee Corporation, and Financial Guaranty Insurance
Company for Relief from the Automatic Stay, or, in the Alternative,
Adequate Protection (Dkt. No. 10102, filed January 16, 2020)
(“PRHTA Stay Motion”). Pursuant to an order of the District Court
setting out an agreed schedule for litigation submitted by the
Mediation Team, on January 16, 2020, Ambac Assurance, together
with Assured Guaranty Corp., Assured Municipal Corp., National
Public Finance Guarantee Corporation, and Financial Guaranty
Insurance Company filed a motion seeking an order that the
automatic stay does not apply to movants’ enforcement of the
application of pledged revenues to the PRHTA bonds or the
enforcement of movants’ liens on revenues pledged to such bonds,
or, in the alternative, for adequate protection of movants’ interests
in the revenues pledged to PRHTA bonds. A preliminary hearing
on the motion is scheduled for April 2, 2020.
In re Financial Oversight and Management Board for Puerto Rico
(United States District Court, District of Puerto Rico, No. 1:17-
bk-03283), Ambac Assurance Corporation, Financial Guaranty
Insurance Company, Assured Guaranty Corp., Assured Municipal
Corp., and the Bank of New York Mellon’s Motion Concerning
Application of the Automatic Stay to the Revenues Securing the
CCDA Bonds (Dkt. No. 10104, filed January 16, 2020) (“PRCCDA
Stay Motion”). Pursuant to an order of the District Court setting
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out an agreed schedule for litigation submitted by the Mediation
Team, on January 16, 2020, Ambac Assurance, together with
Financial Guaranty Insurance Company, Assured Guaranty Corp.,
Assured Municipal Corp., and the PRCCDA bond trustee, filed a
motion seeking an order either (i) that the automatic stay does not
apply to movants’ enforcement of their rights to revenues pledged
to PRCCDA bonds by bringing an enforcement action against
PRCCDA; or, in the alternative, (ii) lifting the automatic stay to
enable movants to pursue an enforcement action against PRCCDA;
or, in the further alternative, (iii) ordering adequate protection of
movants’ interests in the PRCCDA pledged to PRCCDA bonds. A
preliminary hearing on the motion is scheduled for April 2, 2020.
in
Ambac Assurance Corporation v. Merrill Lynch, Pierce, Fenner &
Smith Incorporated, Goldman Sachs & Co. LLC, Citigroup Global
Markets Inc., J.P. Morgan Securities LLC, Morgan Stanley & Co.
LLC, Samuel A. Ramirez & Co. Inc., Raymond James &
Associates, Inc., and UBS Financial Services Inc. (Commonwealth
of Puerto Rico, Court of First Instance, San Juan Superior Court,
Case No. CV-000248923, filed February 19, 2020). On February
19, 2020, Ambac Assurance filed a complaint
the
Commonwealth of Puerto Rico, Court of First Instance, San Juan
Superior Court, against certain underwriters of Ambac-insured
bonds issued by the Puerto Rico Infrastructure Financing Authority
(“PRIFA”) and the Puerto Rico Convention Center District
Authority (“PRCCDA”), with causes of action under the Puerto
Rico civil law doctrines of actos proprios and Unilateral
Declaration of Will. Ambac Assurance alleges defendants engaged
in inequitable conduct in underwriting Ambac-insured bonds
issued by PRIFA and PRCCDA, including failing to investigate
and adequately disclose material information in the official
statements for the bonds that defendants provided to Ambac
Assurance
the
systemic
Commonwealth’s financial reporting. Ambac Assurance seeks
damages in compensation for claims paid by Ambac Assurance on
its financial guaranty insurance policies insuring such bonds, pre-
judgment and post-judgment interest, and attorneys’ fees.
deficiencies
regarding
in
Ambac Assurance Corporation v. Autopistas Metropolitanas de
Puerto Rico, LLC (United States District Court for the District of
Puerto Rico) Case No. 3:20-cv-01094, filed February 19, 2020).
On February 19, 2020, Ambac Assurance filed a complaint in the
U.S. District Court for the District of Puerto Rico, against
Autopistas Metropolitanas de Puerto Rico, LLC (“Metropistas”),
which holds a concession from the Puerto Rico Highways and
Transportation Authority (“PRHTA”) for two Puerto Rico
highways, PR-5 and PR-22, in connection with a 10-year extension
of the concession that was entered into in April 2016. The
complaint includes claims for fraudulent conveyance and unjust
enrichment, alleging that the consideration paid by Metropistas for
the extension was less than reasonably equivalent value and most
of the benefit of such payment was received by the Commonwealth
instead of PRHTA. Ambac Assurance also seeks a declaratory
judgment that it has a valid and continuing lien on certain toll
revenues that are being collected by Metropistas.
Student Loans Exposure
CFPB v. Nat’l Collegiate Master Student Loan Trust (United States
District Court, District of Delaware, Case No. 1:17-cv-01323, filed
September 18, 2017). The Consumer Financial Protection Bureau
(“CFPB”) filed a complaint against fifteen National Collegiate
Student Loan Trusts, regarding alleged improprieties and
deficiencies in servicing practices. Simultaneous with the filing
of its complaint, CFPB also filed a motion for entry of a proposed
consent judgment that would grant monetary damages and
injunctive relief against the Trusts. Ambac Assurance guaranteed
certain securities issued by three of the Trusts and indirectly insures
six other Trusts. Ambac Assurance filed a motion to intervene in
the action on September 20, 2017. On September 20, 2018, the
case was reassigned to a new judge, who invited additional letter
submissions from the parties. Ambac Assurance submitted a letter
on September 28, 2018, reiterating its request to intervene in the
action. The CFPB also submitted a letter, which asserted that the
court can resolve the outstanding intervention motions on the
papers. In additional submissions, the CFPB and a firm purporting
to represent the Defendant Trusts argued that the court should
resolve a dispute relating to the payment of counsel fees out of
Trust assets, so that the Trusts can secure representation for the
case. On October 19, 2018, the court granted Ambac’s motion to
intervene. On November 29, 2018, following submissions from
the parties regarding the CFPB’s motion for entry of the proposed
consent judgment and regarding discovery necessary to respond
to the motion, the court set a bifurcated discovery and briefing
schedule. Discovery is now complete as to certain threshold issues
and will be followed by briefing on the CFPB’s motion to approve
the consent judgment.
Nat’l Collegiate Master Student Loan Trust v. Pa. Higher
Education Assistance Agency (PHEAA) (Delaware Court of
Chancery, C.A. No. 12111-VCS, filed March 21, 2016). Plaintiffs
purporting to act on behalf of fifteen National Collegiate Student
Loan Trusts filed a lawsuit against PHEAA, a servicer of loans in
the Trusts, alleging improprieties and deficiencies in servicing
practices and seeking an order compelling PHEAA to submit to an
emergency audit. PHEAA submitted papers contesting the validity
of certain transfers to Plaintiffs of beneficial ownership interests
in the Trusts. In addition, the Owner Trustee of the Trusts,
irreconcilable
Wilmington Trust Company, WTC, citing
differences with Plaintiffs, has resigned from its role as Owner
Trustee and moved for appointment of a successor Owner Trustee.
On October 9, 2017, the court directed the parties to meet and
confer to develop a process for selecting an interim Owner Trustee.
Ambac Assurance guaranteed certain securities issued by three of
the Trusts and indirectly insures certain securities in six other
Trusts. Ambac Assurance filed a motion to intervene in the action
on October 23, 2017, for the limited purpose of being heard
regarding the appointment of a successor Owner Trustee and
regarding WTC’s contractual commitment and obligation to
remain in that role until such appointment is made. On October
30, 2017, the court denied without prejudice a stipulation filed by
Plaintiffs and WTC purporting to address the Owner Trustee issue,
and instructed that all interested parties be given notice and an
opportunity to participate in discussions to formulate a process for
selecting a successor Owner Trustee. On November 7, 2017, the
court ruled in Plaintiffs’ favor and confirmed the validity of the
ownership transfers that PHEAA had disputed. On January 12,
2018, Plaintiffs filed a motion for injunctive or declaratory relief
requiring WTC, as Owner Trustee, and GSS Data Services, Inc.,
as Administrator, to resume processing for payment bills submitted
by lawyers purporting to act on the Trusts’ behalf. At a hearing
| Ambac Financial Group, Inc. 130 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
on April 3, 2018, the court denied Plaintiffs’ motion without
prejudice and on April 16, 2018 entered an order memorializing
its oral ruling. The court also granted Ambac Assurance’s motion
to intervene on April 10, 2018 and Ambac Assurance filed its
complaint in intervention on April 16, 2018.
On June 15, 2018, the Owner Trustee filed a stipulation and
proposed order addressing the selection of a Successor Owner
Trustee. Among other provisions, the stipulation calls for the
appointment of a Special Master to adjudicate disputes regarding
Owner Instructions, and raises the annual expense caps that apply
to the Owner Trustee and Indenture Trustee. On November 14,
2018, the court issued an order appointing Hon. Joseph J. Farnan,
Jr. as Special Master and granting him authority to resolve non-
dispositive disputes among the parties, including disputes
concerning instructions to the Owner Trustee. The order
appointing the Special Master also raises the annual expense caps
that apply to the Owner Trustee and Indenture Trustee. On June
21, 2019, the Special Master denied an application by certain
residual equity interest holders in the Trusts, which sought to
compel the Owner Trustee to appoint certain counsel for the Trusts
in CFPB v. Nat’l Collegiate Master Student Loan Trust (United
States District Court, District of Delaware, Case No. 1:17-
cv-01323, filed September 18, 2017). On October 11, 2019, Vice
Chancellor Slights issued a decision affirming the Special Master’s
ruling. On January 21, 2020, Vice Chancellor Slights entered an
order consolidating the action with later-filed litigation pending in
Delaware Chancery Court relating to the Trusts, including a
declaratory judgment action in which Ambac Assurance was
named as a defendant, NC Residuals Owners Trust, et al. v.
Wilmington Trust Co., et al. (Del. Ct. Ch., C.A. No. 2019-0880,
filed Nov. 1, 2019).
RMBS Litigation
In connection with Ambac Assurance’s efforts to seek redress for
breaches of representations and warranties and fraud related to the
information provided by both the underwriters and the sponsors
of various transactions and for failure to comply with the obligation
by the sponsors to repurchase ineligible loans, Ambac Assurance
has filed various lawsuits:
• Ambac Assurance Corporation and The Segregated Account
of Ambac Assurance Corporation v. First Franklin Financial
Corporation, Bank of America, N.A., Merrill Lynch, Pierce,
Fenner & Smith Inc., Merrill Lynch Mortgage Lending, Inc.,
and Merrill Lynch Mortgage Investors, Inc. (Supreme Court
of the State of New York, County of New York, Case No.
651217/2012, filed April 16, 2012). Ambac Assurance has
asserted claims for breach of contract, fraudulent inducement,
indemnification, reimbursement and has requested the
repurchase of loans that breach representations and warranties
as required under the contracts. On July 18, 2013 the court
granted in part and denied in part Defendants’ motion to
dismiss (filed on July 13, 2012). The court dismissed Ambac
Assurance’s claims for indemnification and limited Ambac
Assurance’s claim for breach of loan-level warranties to the
repurchase protocol, but denied dismissal of Ambac
Assurance’s other contractual claims and fraudulent
inducement claim. Discovery is ongoing.
• Ambac Assurance Corporation and The Segregated Account
of Ambac Assurance Corporation v. Countrywide Securities
Corp., Countrywide Financial Corp. (a.k.a. Bank of America
Home Loans) and Bank of America Corp. (Supreme Court of
the State of New York, County of New York, Case No.
651612/2010, filed on September 28, 2010). Ambac
Assurance’s Second Amended Complaint, filed on May 28,
2013, asserted claims against Countrywide and Bank of
America (as successor to Countrywide’s liabilities) for breach
of contract, fraudulent inducement, indemnification and
reimbursement, and breach of representations and warranties.
Ambac Assurance also requested the repurchase of loans that
breach representations and warranties as required under the
contracts. On May 1, 2015, the parties filed motions for partial
summary judgment regarding Ambac Assurance’s claims
against Countrywide (primary-liability claims) and its
secondary-liability claims against Bank of America. In
decisions issued on October 27, 2015, the court granted in
part and denied in part the parties’ respective summary
judgment motions regarding Ambac Assurance’s claims
against Countrywide and granted Ambac Assurance’s motion
for partial summary judgment on its secondary-liability
claims against Bank of America and denied Bank of
America’s motion for summary judgment regarding this
claim. Each party appealed certain aspects of the court’s
decisions to the New York Appellate Division, First
Department. On May 16, 2017, the First Department issued
rulings in both appeals, reversing a number of rulings that the
trial court had made and affirming other rulings. On June 15,
2017, Ambac Assurance sought leave from the First
Department to appeal certain rulings in its May 16, 2017
decision to the Court of Appeals, which the First Department
granted on July 25, 2017. On June 27, 2018, the Court of
Appeals denied Ambac Assurance’s appeal and affirmed the
rulings of the First Department.
In August and October 2018, Defendants filed pre-trial
motions seeking to (1) strike Ambac Assurance’s jury demand
for its fraudulent-inducement claim; (2) strike Ambac
Assurance’s jury demand for its successor-liability claim; (3)
sever the trials for Ambac Assurance’s primary- and
successor-liability claims; (4) limit the loans for which
Ambac Assurance may seek to recover damages; (5) preclude
Ambac Assurance from using sampling to prove liability or
damages for breach of contract; and (6) dismiss Ambac
Assurance’s fraudulent-inducement claim as duplicative of
its contract claim. On December 30, 2018, the court denied
all six of these pre-trial motions in their entirety and
Defendants appealed. On September 17, 2019, the First
Department issued a decision on Defendants’ appeals,
affirming the trial court’s denials of Countrywide's motions:
(1) to strike Ambac Assurance’s jury demand for its
fraudulent-inducement claim; (2) to limit the loans for which
Ambac Assurance may seek to recover damages; (3) to
preclude Ambac Assurance from using sampling to prove
liability or damages for breach of contract; and (4) to dismiss
fraudulent-inducement claim as
Ambac Assurance’s
duplicative of its contract claim, but subject to a potential
motion by Countrywide to renew. The First Department
modified the trial court’s ruling in the following respects: (1)
granting Bank of America’s motion to strike Ambac
| Ambac Financial Group, Inc. 131 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
Assurance’s jury demand for its successor-liability claim; and
(2) granting Defendants’ motion to sever the trials for Ambac
Assurance’s primary- and successor-liability claims. On
October 17, 2019, Countrywide filed a motion before the First
Department for leave to appeal certain issues to the New York
Court of Appeals and for reargument or leave to appeal certain
other issues, which Ambac Assurance opposed. On January
16, 2020, the First Department recalled and vacated its
September 17, 2019 decision and order and substituted a new
decision and order with the same rulings on all motions
subject to appeal, but also expressly affirming the trial court’s
ruling denying Countrywide’s motion to strike Ambac
Assurance’s jury demand and removing language from the
decision concerning Countrywide’s liability for loans that it
knew or should have known were in breach. On the same
date, the First Department denied Countrywide’s motion
seeking leave to appeal, without prejudice to seeking such
leave from the reissued decision and order. On January 30,
2020, Countrywide filed a new motion for leave to appeal the
First Department’s denial of its motions (1) to limit the loans
for which Ambac Assurance may seek to recover damages;
(2) to preclude Ambac Assurance from using sampling to
prove liability or damages for breach of contract; (3) to
dismiss Ambac Assurance’s fraudulent-inducement claim as
duplicative of its contract claim; and (4) to strike Ambac
Assurance’s jury demand for its fraudulent-inducement
claim. On February 7, 2020, Ambac Assurance filed its
opposition to Countrywide’s renewed motion for leave to
appeal.
On January 14, 2020, the trial court granted Ambac
Assurance’s motion to supplement and amend certain of its
expert reports, and expert discovery is ongoing. Trial is
currently scheduled to commence on July 13, 2020, although
Countrywide has asked the Court to vacate that trial date.
• Ambac Assurance Corporation and The Segregated Account
of Ambac Assurance Corporation v. Nomura Credit &
Capital, Inc. and Nomura Holding America Inc. (Supreme
Court of the State of New York, County of New York, Case
No. 651359/2013, filed on April 15, 2013). Ambac Assurance
has asserted claims for material breach of contract and has
requested the repurchase of loans that breach representations
and warranties under the contracts. Ambac Assurance also
asserted alter ego claims against Nomura Holding America,
Inc. Defendants filed a motion to dismiss on July 12, 2013.
On September 22, 2014, plaintiffs filed an amended complaint
which added (in addition to the claims previously asserted) a
claim for fraudulent inducement. On October 31, 2014
defendants filed a motion to strike the amended complaint
and on November 10, 2014 also filed a motion to dismiss the
fraudulent-inducement claim. On June 3, 2015, the court
denied defendants’ July 2013 motion to dismiss Ambac
Assurance’s claim for breaches of representations and
warranties, but granted the defendants’ motion to dismiss
Ambac Assurance’s claims for breach of the repurchase
protocol and for alter ego liability against Nomura Holding.
On December 29, 2016, the court denied Nomura’s motion
to strike Ambac Assurance’s amended complaint and its
motion to dismiss the fraudulent-inducement claim. Nomura
appealed the June 2015 decision to the extent it denied its
motion to dismiss, filing its opening appellate brief on March
23, 2017. On December 7, 2017, the First Department
affirmed the trial court’s June 3, 2015 decision. Discovery is
ongoing.
• Ambac Assurance Corporation and the Segregated Account
of Ambac Assurance Corporation v. Countrywide Home
Loans, Inc. (Supreme Court of the State of New York, County
of New York, Case No. 652321/2015, filed on June 30, 2015).
On June 30, 2015, Ambac Assurance and the Segregated
Account filed a Summons with Notice in New York Supreme
Court (the “2015 New York Action”), asserting claims
identical to claims they asserted in a litigation filed on
December 30, 2014 in Wisconsin Circuit Court for Dane
County, Case No 14 CV 3511 (the “Wisconsin Action”).
Specifically, in each action Ambac Assurance asserted a claim
for fraudulent inducement in connection with its issuance of
insurance policies relating to five residential mortgage-
backed securitizations that are not the subject of Ambac
Assurance’s previously filed lawsuit against the same
defendant. On July 21, 2015, plaintiffs filed a complaint in
the 2015 New York Action and a motion to stay the 2015 New
York Action pending appeal and litigation of the Wisconsin
Action. Countrywide opposed plaintiffs’ motion to stay and
on August 10, 2015, Countrywide filed a motion to dismiss
the complaint. On September 20, 2016, the court granted
Ambac Assurance’s motion to stay and held Countrywide’s
motion to dismiss in abeyance pending resolution of the
Wisconsin Action. Following the dismissal of the Wisconsin
Action on March 13, 2018, the court in the 2015 New York
Action vacated its stay on March 30, 2018, and restored
Countrywide’s motion to dismiss to the calendar. The parties
submitted supplemental letter briefs on April 11, 2018
addressing newly-issued relevant authority.
• Ambac Assurance Corporation and the Segregated Account
of Ambac Assurance Corporation v. Countrywide Home
Loans, Inc., Countrywide Securities Corp., Countrywide
Financial Corp., and Bank of America Corp. (Supreme Court
of the State of New York, County of New York, Case No.
653979/2014, filed on December 30, 2014). Ambac
Assurance asserted a claim for fraudulent inducement in
connection with Ambac Assurance’s issuance of insurance
policies relating to eight residential mortgage-backed
securitizations that are not the subject of Ambac Assurance’s
previously filed lawsuits against the same defendants. On
February 20, 2015, the Countrywide defendants filed a motion
to dismiss the complaint, which Bank of America joined on
February 23, 2015. On December 20, 2016, the court denied
to dismiss. Discovery has been
defendants’ motion
completed. The court has not yet set a schedule for summary
judgment or for trial.
• Ambac Assurance Corporation v. U.S. Bank National
Association (United States District Court, Southern District
of New York, Docket No. 18-cv-5182 (LGS), filed June 8,
2018 (the “SDNY Action”)); In the matter of HarborView
Mortgage Loan Trust 2005-10 (Minnesota state court, Docket
No. 27-TR-CV-17-32 (the “Minnesota Action”)). These two
actions relate to U.S. Bank National Association’s (“U.S.
Bank”) acceptance of a proposed settlement in a separate
litigation that U.S. Bank is prosecuting, as trustee, related to
the Harborview Mortgage Loan Trust, Series 2005-10
| Ambac Financial Group, Inc. 132 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
(“Harborview 2005-10”), a residential mortgage-backed
securitization for which Ambac Assurance issued an
insurance policy. On March 6, 2017, U.S. Bank filed a petition
commencing the Minnesota Action, a trust instruction
proceeding in Minnesota state court concerning the proposed
settlement, and on June 12, 2017, U.S. Bank filed an amended
petition. Ambac Assurance filed a motion to dismiss the
Minnesota Action. On November 13, 2017, the court denied
Ambac Assurance’s motion to dismiss the Minnesota Action.
On February 7, 2018, Ambac Assurance appealed this
decision, and on September 4, 2018, the Minnesota Court of
Appeals affirmed the lower court's decision. On September
17, 2018, Ambac Assurance filed a petition for review with
the Minnesota Supreme Court, which was denied on
November 13, 2018. On February 11, 2019, Ambac
Assurance filed a petition for certiorari with the United States
Supreme Court. On October 4, 2019, the Supreme Court
denied Ambac Assurance’s petition for certiorari. On
September 6, 2018, the court granted U.S. Bank's motion for
leave to file a Second Amended Petition seeking approval of
its acceptance of a proposed settlement to settle the separate
litigation being prosecuted by U.S. Bank, as Trustee. On
September 6, 2018, U.S. Bank filed its Second Amended
Petition, and Ambac Assurance and certain other
certificateholders objected to, or otherwise responded to, the
petition. Discovery in the Minnesota Action is ongoing, and
on October 9, 2019, the court set April 27, 2020 as the date
for the start of the trial. On June 8, 2018, Ambac Assurance
filed the SDNY Action asserting claims arising out of U.S.
Bank’s acceptance of the proposed settlement and treatment
of trust recoveries. Ambac Assurance asserts claims for
declaratory judgment, breach of contract, and breach of
fiduciary duty. On November 20, 2018, U.S. Bank filed a
motion to dismiss the complaint, which Ambac Assurance
opposed. On July 16, 2019, the court in the SDNY Action
granted in part and denied in part U.S. Bank's motion to
dismiss Ambac Assurance's claims. The court dismissed
Ambac Assurance's breach-of-contract and breach-of-
fiduciary-duty claims based on U.S. Bank's acceptance of the
settlement; and dismissed Ambac Assurance's declaratory
judgment claims regarding the occurrence of an Event of
Default and U.S. Bank's future distribution of trust recoveries
through the waterfall. The court denied the motion to dismiss
Ambac Assurance's breach-of-contract claims based on U.S.
Bank's past distribution of trust recoveries through the
waterfall. On January 17, 2020, U.S. Bank moved for
summary judgment regarding the remaining claim relating to
distributions. On February 7, 2020, Ambac Assurance cross-
moved for summary judgment.
• Ambac Assurance Corporation and The Segregated Account
of Ambac Assurance Corporation v. U.S. Bank National
Association (United States District Court, Southern District
of New York, Docket No. 17-cv-02614, filed April 11, 2017).
Ambac Assurance has asserted claims for breach of contract,
breach of fiduciary duty, declaratory judgment, and violation
of the Streit Act in connection with defendant’s failure to
enforce rights and remedies and defendant’s treatment of trust
recoveries, as trustee of five residential mortgage-backed
securitizations for which Ambac Assurance issued insurance
policies. On September 15, 2017, U.S. Bank filed a motion
to dismiss. On June 29, 2018, the court granted in part and
denied in part U.S. Bank’s motion to dismiss. The court
dismissed the breach-of-fiduciary duty claim in part as
duplicative of the breach-of-contract claim; dismissed the
breach-of-contract claim as untimely only to the extent that
it was premised on U.S. Bank's obligation to certify that
mortgage documents were properly delivered to the Trusts;
dismissed the Streit Act claims; and otherwise denied the
motion to dismiss. Discovery is ongoing.
• In re application of Deutsche Bank National Trust Company
as Trustee of the Harborview Mortgage Loan Trust Mortgage
Loan Pass-Through Certificates, Series 2006-9 (Supreme
Court of the State of New York, County of New York, No.
654208/2018), filed August 23, 2018 (the “Trust Instruction
Proceeding”). This action relates to Deutsche Bank National
Trust Company’s (“DBNT”) proposed settlement of claims
related to the Harborview Mortgage Loan Trust Series 2006-9
(“Harborview 2006-09”). On August 23, 2018, DBNT filed
a Petition commencing the Trust Instruction Proceeding,
seeking judicial instruction pursuant to CPLR Article 77, inter
alia, to accept the proposed settlement with respect of claims
relating to Harborview 2006-9. On September 6, 2018, the
court entered an Order to Show Cause, setting out procedures
for DBNT to give notice of the proceedings and for interested
persons to appear. On November 2, 2018, Ambac Assurance
and other interested persons filed notices of intention to
appear and answers to DBNT’s petition, and on November
29, 2018 various parties filed responses to answers. In its
answer, Ambac Assurance opposed DBNT’s request for an
order instructing it to accept the proposed settlement on the
basis that DBNT breached its obligations by failing to
investigate and enforce breaches of representations and
warranties in Harborview 2006-09, failing to immediately
reject the proposed settlement, and instituting an inadequate
certificateholder approval process. Ambac sought a period
of discovery before resolution on the merits. Ambac
Assurance has issued document requests to DBNT and
subpoenas for documents to Countrywide Home Loans and
Bank of America N.A. and DBNT has issued document
requests to Ambac Assurance. The parties have exchanged
documents. DBNT and Ambac Assurance have each served
a notice of corporate deposition upon the other. On October
30, 2019, the court ruled that Ambac Assurance does not need
to present a witness for deposition. Under the current case
schedule discovery is to be completed by March 10, 2020 and
merits briefing by July 10, 2020.
| Ambac Financial Group, Inc. 133 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Millions, Except Share Amounts)
18. QUARTERLY INFORMATION (Unaudited)
2019 Quarters
2018 Quarters
First
Second
Third
Fourth
First
Second
Third
Fourth
$
(21) $
(13) $
$
(1) $
(23) $
Gross premiums written
Net premiums earned
Net investment income
Net other than temporary impairment losses
Net realized investment gains (losses)
Net gains (losses) on derivative contracts
Net realized gains (losses) on extinguishment of debt
Other income (loss)
Income (loss) on Variable Interest Entities
Losses and loss expenses (benefit)
Insurance intangible amortization
Operating expenses
Interest expense
Pre-tax income (loss)
Net income (loss)
Net income (loss) attributable to Common
Stockholders
Net income (loss) per share:
Basic
Diluted
$
$
$
$
3
28
55
—
17
(16)
—
1
16
12
36
25
68
(41)
(43)
8
86
—
36
(35)
—
(9)
3
(133)
226
29
67
(100)
(128)
$
2
20
42
—
9
12
—
1
7
97
15
23
66
(111)
(110)
4
31
110
—
5
25
3
(1)
1
(247)
29
36
48
308
306
10
45
—
18
(10)
—
141
11
37
17
26
67
69
66
66
26
58
—
30
18
—
1
2
34
26
28
66
(20)
(22)
(5)
29
37
(2)
29
(45)
—
2
—
(42)
29
21
66
(22)
(20)
26
67
(1)
47
9
—
2
1
33
23
26
62
6
4
4
0.09
0.09
(43) $
(128) $
(0.94) $
(2.79) $
(0.94) $
(2.79) $
1.44
1.41
$
$
$
(110) $
306
(2.40) $
(2.40) $
6.72
6.70
$
$
$
$
$
$
(104) $
(20)
(2.27) $
(0.45)
(2.27) $
(0.45)
| Ambac Financial Group, Inc. 134 2019 FORM 10-K |
Item 9.
Changes in and Disagreements with
Accountants on Accounting and Financial
Disclosure — No matters require disclosure.
criteria established in the 2013 Internal Control — Integrated
Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures. Ambac’s
disclosure controls and procedures are designed to ensure that
information required to be disclosed under the Securities Exchange
Act of 1934, as amended, is recorded, processed, summarized and
reported within the time periods specified in the SEC’s rules and
forms, including without limitation that information required to be
disclosed by Ambac in its SEC filings is accumulated and
communicated to management, including the Chief Executive
Officer (CEO) and Chief Financial Officer (CFO) as appropriate
to allow for timely decisions regarding required disclosure.
Ambac’s Disclosure Committee assists the CEO and CFO in their
responsibilities to design, establish, maintain and evaluate the
effectiveness of disclosure controls and procedures. The
Disclosure Committee is responsible for, among other things, the
oversight, maintenance and implementation of the disclosure
controls and procedures, subject to the supervision and oversight
of the CEO and CFO. Ambac’s management, with the participation
of its CEO and CFO, has evaluated the effectiveness of Ambac’s
disclosure controls and procedures (as defined in Rule 13a-15(e)
under the Securities Exchange Act of 1934) as of December 31,
2019 and, the CEO and CFO have concluded that at that date
Ambac’s disclosure controls and procedures were effective at the
reasonable assurance level.
Management’s Report on Internal Control Over Financial
Reporting. Management of Ambac is responsible for establishing
and maintaining adequate internal control over financial reporting.
Ambac’s internal control over financial reporting is a process
designed under the supervision of the CEO and CFO and overseen
by Ambac’s Board of Directors to provide reasonable assurance
regarding the reliability of financial reporting and the preparation
of Ambac’s financial statements for external reporting purposes in
accordance with U.S. generally accepted accounting principles.
Ambac’s internal control over financial reporting includes those
policies and procedures that (i) pertain to the maintenance of
records that, in reasonable detail, accurately and fairly reflect the
transactions and dispositions of assets of Ambac; (ii) provide
reasonable assurance that transactions are recorded as necessary
to permit preparation of financial statements in accordance with
U.S. generally accepted accounting principles, and that receipts
and expenditures of the company are being made only in
accordance with authorizations of management and directors of
Ambac; and (iii) provide reasonable assurance regarding the
prevention or timely detection and remediation of unauthorized
acquisition, use or disposition of Ambac’s assets that could have
a material effect on the financial statements.
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because
of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.
Ambac management conducted an assessment of the effectiveness
of Ambac’s internal control over financial reporting based on the
Ambac management has concluded that, as of December 31, 2019,
our internal control over financial reporting was effective based
on the criteria articulated in the 2013 Internal Control - Integrated
Framework. The effectiveness of our internal control over financial
reporting as of December 31, 2019 has been audited by KPMG
LLP, an independent registered public accounting firm, as stated
in their report, which expressed an unqualified opinion on the
effectiveness of Ambac’s internal control over financial reporting.
Changes in Internal Control Over Financial Reporting. There
were no changes in the Company’s internal control over financial
reporting (as such term is defined in Rules 13a-15(f) and 15d-15
(f) under the Exchange Act) during the fourth quarter of 2019 that
have materially affected, or are reasonably likely to materially
affect, Ambac's internal control over financial reporting.
Item 9B. Other Information
Compensatory Arrangements of Certain Officers
On February 26, 2020, the Compensation Committee of the AFG
Board approved certain amendments to the employment agreement
of Claude LeBlanc to provide that Mr. LeBlanc would be eligible
to receive (i) a target annual bonus amount of no less than 100%
of his base salary; and (ii) a
long-term
incentive award of no less than 150% of his base salary. The
amendments removed clauses that set maximums, as a percentage
of base salary, on annual bonus amounts and long-term incentive
award amounts.
target annual
Additional minor amendments and conforming changes were
made that do not materially affect the substance of Mr. LeBlanc’s
employment agreement.
The foregoing description of the amendments to Mr. LeBlanc’s
employment agreement is only a summary, does not purport to be
complete, and is qualified in its entirety by reference to the full
text of the Amended and Restated Employment Agreement dated
as of February 27, 2020 by and among AFG, AAC and Claude
LeBlanc, which is filed as Exhibit 10.46 to this Annual Report on
Form 10-K and is incorporated into this filing by reference.
Amended and Restated Bylaws
On February 27, 2020, the Board of Directors of AFG approved
certain amendments to AFG’s By-laws of (the “By-laws”),
effective as of that date. The amendments are set forth in Amended
and Restated Bylaws approved by the Board and filed as an exhibit
to this Annual Report on Form 10-K. The amendments contained
in the Amended and Restated Bylaws relate to the execution and
delivery of notices, waivers of notice, proxies, and actions by
consent, including by electronic means, and are intended to
comport with recent changes to the Delaware General Corporation
Law (“DGCL”).
In particular, the changes to the By-laws include:
1.
The provisions of the By-laws governing notices of
meetings of stockholders and directors were amended to
address providing notice (and the waiver of notice) by
electronic transmission, including electronic mail.
| Ambac Financial Group, Inc. 135 2019 FORM 10-K |
2.
3.
4.
The provisions of
the By-laws regarding proxies,
stockholder action by consent in lieu of a meeting, and
director action by consent in lieu of a meeting, were also
amended to conform to the current provisions of the DGCL
regarding those matters as they relate to granting proxies
and acting by consent via electronic transmission.
The provision of the By-laws regarding stockholder
addresses was also amended to specifically address
stockholder electronic mail addresses.
In connection with these amendments, the definition of
“electronic transmission” in the By-laws was amended to
comport with the current definition of that term in the
DGCL, and definitions of the terms “electronic mail,”
“electronic mail address,” and “document” were added
(again tracking the similar definitions of those terms in the
DGCL).
Additional minor amendments and conforming changes were
made that do not materially affect the substance of the By-laws.
The foregoing description of the amendments to AFG’s By-laws
is only a summary, does not purport to be complete, and is qualified
in its entirety by reference to the full text of the Amended and
Restated Bylaws, which are filed as Exhibit 3.2 to this Annual
Report on Form 10-K and are incorporated into this filing by
reference.
| Ambac Financial Group, Inc. 136 2019 FORM 10-K |
PART III
Item 10. Directors, Executive Officers and Corporate
Governance
Information relating to AFG’s executive officers and directors,
including its audit committee and audit committee financial experts
will be in AFG’s definitive Proxy Statement for its 2020 Annual
Meeting of Stockholders which will be filed within 120 days of
the end of our fiscal year ended December 31, 2019 (the “2020
Proxy Statement”) and is incorporated herein by reference.
Ambac has a Code of Business Conduct which promotes
management’s commitment to integrity and expresses Ambac’s
standards for ethical behavior by providing guidelines for handling
business situations appropriately. This code can be found on
Ambac’s website at www.ambac.com on the “Investor Relations”
page under “Corporate Governance.” Ambac will disclose on its
website any amendment to, or waiver from, a provision of its Code
of Business Conduct that applies to its Chief Executive Officer,
Chief Financial Officer or Chief Accounting Officer. Ambac’s
corporate governance guidelines and the charters for the
committees of the Board of Directors are also available on our
website under the “Corporate Governance” page.
Item 11.
Executive Compensation
Information relating to Ambac’s executive officer and director
compensation will be in the 2020 Proxy Statement and is
incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information relating to security ownership of certain beneficial owners of AFG’s common stock and information relating to the security
ownership of AFG’s management will be in the 2020 Proxy Statement and is incorporated herein by reference.
Equity Compensation Plan Information
The following table provides information as of December 31, 2019 regarding securities issued under our 2013 Incentive Compensation Plan.
Equity compensation plans approved by security
holders
Equity compensation plans not approved by
security holders
Total
Plan
Category
2013 Incentive
Compensation Plan (1)
None
Number of Securities
to be Issued Upon
Exercise of
Outstanding Options,
Warrants and Rights
Weighted-Average
Exercise Price of
Outstanding
Options,
Warrants and Rights
Number of Securities
Remaining Available
for Future Issuance
Under Equity
Compensation Plans
(Excluding Securities
Reflected in the
Third Column)
2,065,150 (2) (3)
---
2,065,150 (2) (3) (4)
$20.63 (4)
---
$20.63 (5)
1,383,489 (5)
---
—
(1) Our 2013 Incentive Compensation Plan was approved by the stockholders of AFG on December 18, 2013. The total number of shares of AFG common
stock available for issuance under the 2013 Incentive Compensation Plan is 4,000,000.
(2) Represents, as of December 31, 2019, the number of outstanding restricted stock unit awards, stock options and the maximum number of performance
stock units that may be issued if certain performance goals are achieved. Refer to Note 15. Employment Benefit Plans to the Consolidated Financial
Statements included in Part II, Item 8 in this Form 10-K for a description of the grants made under the 2013 Incentive Compensation Plan. This amount
includes 702,579 restricted stock units, 16,667 options and 1,345,904 performance stock units which are based on the maximum number of shares potentially
payable under the awards. Maximum number of shares potentially payable under performance awards range from 200% to 220% of target.
(3) Each restricted stock unit, stock option and performance stock unit awarded under our 2013 Incentive Compensation Plan was granted at no cost to the
persons receiving them. Restricted stock units represent the contingent right to receive the equivalent number of shares of AFG common stock and may
vest after the passage of time. Stock options represent the right to acquire an equivalent number of shares of AFG common stock at a specified exercise
price. Performance stock units granted pursuant to the Company's Long Term Incentive Plan represent the contingent right to receive a number of shares
of AFG common stock ranging from 0% to 220% of the number of units granted depending upon the achievement of certain company-wide performance
goals at the end of a specified performance period.
(4) Reflects the weighted-average price of all outstanding options that had been granted but not forfeited, expired or exercised. Performance shares and
restricted stock units are not included in determining the weighted-average price as they have no exercise price.
(5) The number of securities remaining available for future issuance under compensation plans considering the target number of performance stock units are
2,079,181.
Item 13. Certain Relationships and Related
Item 14. Principal Accountant Fees and Services
Transactions, and Director Independence
Information relating to Ambac with respect to certain relationships
and related transactions and director independence will be in the
2020 Proxy Statement and is incorporated herein by reference.
Information relating to principal accountant fees and services will
be in the 2020 Proxy Statement and is incorporated herein by
reference.
| Ambac Financial Group, Inc. 137 2019 FORM 10-K |
Item 15. Exhibits, Financial Statement Schedules
(a) Documents filed as a part of this report:
1.
Financial Statements
PART IV
The consolidated financial statements included in Part II, Item 8 above are filed as part of this Annual Report on Form 10-K.
2.
Financial Statement Schedules
The financial statement schedules filed herein, which are the only schedules required to be filed, are as follows:
Schedule I — Summary of Investments Other Than Investments in Related Parties ............................................................
Schedule II — Condensed Financial Information of Registrant (Parent Company Only) .....................................................
Schedule IV — Reinsurance...................................................................................................................................................
Page
143
144
149
(b) Exhibits
Exhibit Description
(3) Articles of Incorporation and bylaws:
3.1
3.2
Amended and Restated Certificate of Incorporation of Ambac
Financial Group, Inc.
Amended By-Laws of Ambac Financial Group, Inc.
(4)
Instruments defining the rights of security holders, including indentures:
4.1
Description of Capital Stock
4.2
4.3
4.4
4.5
4.6
4.7
4.8
4.9
4.10
4.11
4.12
4.13
Specimen form of common stock certificate
Warrant Agreement between Ambac Financial Group, Inc. and
Computershare Inc.
Specimen form of warrant certificate (included in Exhibit 4.2)
Junior Note Fiscal Agency Agreement, dated as of April 30, 2013,
by and between the Segregated Account of Ambac Assurance
Corporation and The Bank of New York Mellon, as fiscal agent
5.1% Junior Surplus Note due June 7, 2020 in the aggregate amount
of $350 million issued by the Segregated Account of Ambac
Assurance Corporation pursuant to the Junior Note Fiscal Agency
Agreement, dated as of April 30, 2013
Form of 5.1% Non-Reducing Junior Surplus Note due June 7, 2020
issued by the Segregated Account of Ambac Assurance Corporation
Form of 5.1% Bankruptcy Reducing Junior Surplus Note due June
7, 2020 issued by the Segregated Account of Ambac Assurance
Corporation
Form of 5.1% Reducing Junior Surplus Note due June 7, 2020, issued
by the Segregated Account of Ambac Assurance Corporation
Fiscal Agency Agreement, dated as of July 19, 2010, by and between
the Segregated Account of Ambac Assurance Corporation and The
Bank of New York Mellon, as fiscal agent
Form of Surplus Note due June 7, 2020 issued by the Segregated
Account of Ambac Assurance Corporation.(included in Exhibit 4.9)
Fiscal Agency Agreement, dated as of June 7, 2010, by and between
Ambac Assurance Corporation and The Bank of New York Mellon,
as fiscal agent
Amendment dated as of October 3, 2014 to Fiscal Agency Agreement
dated as of June 7, 2010 by and between Ambac Assurance
Corporation and The Bank of New York Mellon, as fiscal agent
Incorporated by Reference
Form
Filing
Date
Exhibit
Number
Filed
Herewith
8-A
05/01/13
3.2
X
8-A
8-A
8-A
05/01/13
05/01/13
05/01/13
4.1
4.2
10-K
03/03/14
4.5
10-K
03/03/14
10-K
03/03/14
10-K
03/03/14
10-K
03/03/14
4.6
4.7
4.8
4.9
10-K
03/03/14
4.10
8-K
06/08/10
10.3
10-Q
11/09/15
4.1
| Ambac Financial Group, Inc. 138 2019 FORM 10-K |
4.14
4.15
4.16
4.17
Exhibit Description
Indenture (including the form of Notes), dated as of February 12,
2018, between Ambac LSNI, LLC and The Bank of New York
Mellon, as trustee and note collateral agent, providing for the issuance
of insured secured notes
Indenture (including the form of Notes), dated as of February 12,
2018, between Ambac Assurance Corporation and The Bank of New
York Mellon, as trustee and note collateral agent providing for the
issuance of senior notes secured by certain interests in proceeds of
certain RMBS litigation
Supplemental Fiscal Agency Agreement, dated as of February 12,
2018, among the Segregated Account of Ambac Assurance
Corporation, Ambac Assurance Corporation and The Bank of New
York Mellon, as fiscal agent
Promissory Note and Security Agreement dated as of February 12,
2018, of Ambac Assurance Corporation in favor of Ambac LSNI,
LLC
(10) Material contract and management compensation plans and
arrangements:
10.1
Amended and Restated Trust Agreement dated as of August 28, 2014,
among Ambac Financial Group, Inc., The Bank of New York Mellon,
and Wilmington Trust, National Association
10.2
10.3
10.4
10.5
10.6
10.7
10.8
10.9
10.10
10.11
10.12
10.13
10.14
10.15
10.16
Ambac Financial, Group, Inc.’s Incentive Compensation Plan
Ambac Financial Group, Inc.'s Long-Term Incentive Compensation
Plan
Form of Amended and Restated Restricted Stock Unit Award Letter
for executive officers
Form of Equity Award Letter for directors
Closing Agreement between Ambac Financial, Group, Inc. and
Commissioner of Internal Revenue, dated April 30, 2013
Amendment No. 1, dated April 29, 2013, to the Amended and
Restated Tax Sharing Agreement among Ambac Financial Group,
Inc. and certain of its affiliates
Tax Sharing Agreement dated March 14, 2012 among Ambac
Financial Group, Inc. and certain of its affiliates
Form of Amendment No. 1 to Cooperation Agreement between the
Segregated Account of Ambac Assurance Corporation and Ambac
Assurance Corporation
Form of Expense Sharing and Cost Allocation Agreement among
Ambac Assurance Corporation, Ambac Financial Group, Inc. and
their respective subsidiaries and affiliates
Lease, dated as of March 1, 2011, by and between One State Street,
LLC and Ambac Assurance Corporation
Settlement, Discontinuance and Release Agreement, dated as of
March 1, 2011, by and among One State Street, LLC, Ambac
Financial Group, Inc., Ambac Assurance Corporation and the
Segregated Account of Ambac Assurance Corporation
Settlement Agreement, dated as of June 7, 2010, by and among
Ambac Assurance Corporation, Ambac Credit Products LLC, Ambac
Financial Group, Inc. and the parties listed on Schedule A thereto
Ambac Financial Group, Inc. Severance Pay Plan (Applicable to
termination on or after January 1, 2010)
Cooperation Agreement, dated as of March 24, 2010, by and between
the Segregated Account of Ambac Assurance Corporation and
Ambac Assurance Corporation
Lease Modification dated as of September 8, 2015 to the Lease dated
as of March 1, 2011, by and between One State Street, LLC and
Ambac Assurance Corporation
Incorporated by Reference
Form
Filing
Date
Exhibit
Number
Filed
Herewith
8-K
02/15/18
4.1
8-K
02/15/18
4.3
8-K
02/15/18
4.4
10-K
02/28/19
4.16
8-K
08/28/14
99.2
DEF 14A
11/08/13
A
10-Q
08/11/14
10-K
10-K
03/03/14
03/03/14
8-K
05/03/13
10.1
10.4
10.5
10.2
8-K
05/03/13
10.1
10-K
03/03/14
10.12
8-K
09/27/11
10.3
8-K
09/27/11
10.2
10-K
03/16/11
10.34
10-K
03/16/11
10.33
10-Q
11/15/10
10.1
10-Q
05/17/10
10.26
10-K
04/09/10
10.23
10-K
02/29/16
10.27
| Ambac Financial Group, Inc. 139 2019 FORM 10-K |
10.17
10.18
10.19
10.20
10.21
10.22
10.23
10.24
10.25
10.26
10.27
10.28
10.29
10.30
10.31
10.32
10.33
10.34
Exhibit Description
Form of 2017 Long-Term Incentive Compensation Agreement
between Ambac Financial Group, Inc. and each of the Company's
executive officers
Voting Support Settlement Agreement, dated as of March 28, 2016,
by and between Ambac Financial Group, Inc. and Cornwall Master
LP
Employment Agreement dated as of November 1, 2016 by and among
Ambac Financial Group, Inc., Ambac Assurance Corporation and
David Trick
Employment Agreement dated as of December 8, 2016, by and
among Ambac Financial Group, Inc., Ambac Assurance Corporation
and Claude LeBlanc
Employment Agreement dated as of January 4, 2017 by and among
Ambac Financial Group, Inc., Ambac Assurance Corporation and
Stephen Ksenak
Rehabilitation Exit Support Agreement, by and among Ambac
Assurance Corporation, Ambac Financial Group, Inc. and certain
holders of Ambac Assurance Corporation’s 5.1% Surplus Notes due
2020 and certain holders of Ambac Assurance Corporation’s deferred
payment obligations, dated as of July 19, 2017
Tier 2 Commitment Letter, dated as of July 19, 2017 from funds
affiliated with or managed by investors party thereto
First Amendment to the Rehabilitation Exit Support Agreement, by
and among Ambac Assurance Corporation, Ambac Financial Group,
Inc. and certain holders of Ambac Assurance Corporation’s 5.1%
Surplus Notes due 2020 and certain holders of Ambac Assurance
Corporation’s deferred payment obligations, dated as of September
21, 2017
Financial Guaranty Insurance Policy, dated February 12, 2018, issued
by Ambac Assurance Corporation
Collateral Agreement, dated as of February 12, 2018, made by Ambac
LSNI, LLC in favor of The Bank of New York Mellon, as note
collateral agent, trustee and paying agent for the secured parties
Pledge Agreement, dated as of February 12, 2018, made by Ambac
Assurance Corporation in favor of The Bank of New York Mellon,
as note collateral agent, trustee and paying agent
Collateral Agreement, dated as of February 12, 2018, made by Ambac
Assurance Corporation in favor of The Bank of New York Mellon,
as note collateral agent, trustee and paying agent for the secured
parties
Waiver and Amendment, dated as of February 12, 2018, among
Ambac Assurance Corporation, Ambac Credit Products, LLC,
Ambac Financial Group, Inc. and the other signatories party thereto
Second Amended Plan of Rehabilitation of the Segregated Account
of Ambac Assurance Corporation dated September 25, 2017, and
effective as of February 12, 2018
Order Granting the Rehabilitator’s Motion to Further Amend the Plan
of Rehabilitation and confirming the Second Amended Plan of
Rehabilitation, as amended, Case No. 10-CV-1576 (Dane County,
Wisconsin) dated January 22, 2018
Stipulation and Order - Office of the Commissioner of Insurance of
the State of Wisconsin, in the Matter of the Rehabilitation of the
Segregated Account of Ambac Assurance Corporation effective as
of February 12, 2018
Amendment No. 1 to the Stipulation and Order - Office of the
Commissioner of Insurance of the State of Wisconsin, in the Matter
of the Rehabilitation of the Segregated Account of Ambac Assurance
Corporation effective as of February 12, 2018
Form of 2018 Restricted Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. LeBlanc, Trick and Ksenak
Incorporated by Reference
Form
Filing
Date
Exhibit
Number
Filed
Herewith
X
8-K
03/29/16
10.3
10-Q
11/03/16
10.2
8-K
12/13/16
10.1
8-K
01/06/17
10.1
8-K
8-K
8-K
8-K
07/20/17
07/20/17
10.1
10.2
09/26/17
02/15/18
10.1
10.1
8-K
02/15/18
10.2
8-K
02/15/18
10.3
8-K
02/15/18
10.4
8-K
02/15/18
10.5
10-K
02/28/18
10.38
10-K
02/28/18
10.39
10-K
02/28/18
10.40
10-K
02/28/19
10.37
10-Q
05/09/18
10.1
| Ambac Financial Group, Inc. 140 2019 FORM 10-K |
10.35
10.36
10.37
10.38
10.39
10.40
10.41
10.42
10.43
10.44
10.45
10.46
Exhibit Description
Form of 2018 Restricted Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. Barranco, Eisman, Reilly
and Ms. Smith
Form of 2018 Performance Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. LeBlanc, Trick and Ksenak
Form of 2018 Performance Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. Barranco, Eisman, Reilly
and Ms. Smith
Form of 2018 Deferred Stock Unit Award Agreement between
Ambac Financial Group, Inc. and each of the Company’s executive
officers
Preferred Stock Repurchase and Support Agreement dated as of June
22, 2018, by and among Ambac Assurance Corporation (“AAC”),
Ambac Financial Group, Inc. and the holders of one or more series
of the AAC’s outstanding Auction Market Preferred Shares
Form of 2019 Restricted Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. LeBlanc, Trick and Ksenak
Form of 2019 Restricted Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. Barranco, Eisman, Reilly
and Ms. Smith
Form of 2019 Deferred Stock Unit Award Agreement between
Ambac Financial Group, Inc. and each of the Company’s executive
officers
Form of 2019 Performance Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. LeBlanc, Trick and Ksenak
Form of 2019 Performance Stock Unit Award Agreement between
Ambac Financial Group, Inc. and Messrs. Barranco, Eisman, Reilly
and Ms. Smith
SUBLEASE dated as of January 30, 2019, between Advance
Magazine Publishers Inc. (D/B/A CONDE NAST), and Ambac
Assurance Group Corporation
Amended and Restated Employment Agreement dated as of February
27, 2020, by and among Ambac Financial Group, Inc., Ambac
Assurance Corporation and Claude LeBlanc
Incorporated by Reference
Form
Filing
Date
Exhibit
Number
Filed
Herewith
10-Q
05/09/18
10.2
10-Q
05/09/18
10.3
10-Q
05/09/18
10.4
10-Q
05/09/18
10.5
8-K
06/25/18
10-Q
05/09/19
10.1
10.1
10-Q
05/09/19
10.2
10-Q
05/09/19
10-Q
08/08/19
10.5
10.1
10-Q
08/08/19
10.2
(99) Additional exhibits
99.1
99.2
99.3
99.4
Amendment dated as June 12, 2014 to the Plan of Rehabilitation of
the Segregated Account of Ambac Assurance Corporation
Second Modified Fifth Amended Plan of Reorganization of Ambac
Financial Group, Inc., effective as of May 1, 2013
Plan of Rehabilitation of the Segregated Account of Ambac
Assurance Corporation
Plan of Operation of the Segregated Account of Ambac Assurance
Corporation
10-Q
11/10/14
10-K
03/03/14
10-K
03/16/11
10-Q
08/09/10
99.1
99.3
99.2
99.1
Other exhibits, filed or furnished, as indicated:
21.1
23.1
24.1
31.1
31.2
32.1++
List of Subsidiaries of Ambac Financial Group, Inc.
Consent of Independent Registered Public Accounting Firm
Power of Attorney for directors of Ambac Financial Group, Inc.
Certification of Chief Executive Officer Pursuant to Rules 13a-14(a)
and 15d-14(a) Promulgated under the Securities Exchange Act of
1934, as amended
Certification of Chief Financial Officer Pursuant to Rules 13a-14(a)
and 15d-14(a) Promulgated under the Securities Exchange Act of
1934, as amended
Certification of Chief Executive Officer and Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
101.INS
XBRL Instance Document.
| Ambac Financial Group, Inc. 141 2019 FORM 10-K |
X
X
X
X
X
X
X
X
Incorporated by Reference
Form
Filing
Date
Exhibit
Number
Filed
Herewith
Exhibit Description
101.SCH XBRL Taxonomy Extension Schema Document.
101.CAL XBRL Taxonomy Extension Calculation Linkbase Document.
101.LAB XBRL Taxonomy Extension Label Linkbase Document.
101.PRE XBRL Taxonomy Extension Presentation Linkbase Document.
101.DEF XBRL Taxonomy Extension Definition Linkbase Document.
104
Cover Page Interactive Data File - The cover page interactive data
file does not appear in the Interactive Data File because its XBRL
tags or embedded within the Inline XBRL document
++ Furnished herewith.
| Ambac Financial Group, Inc. 142 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
SCHEDULE I — SUMMARY OF INVESTMENTS
Other Than Investments in Related Parties
December 31, 2019
Type of Investment
($ in millions)
Municipal obligations
Corporate obligations
Foreign obligations
U.S. government obligations
Residential mortgage-backed securities
Commercial mortgage-backed securities
Collateralized debt obligations
Other asset-backed securities
Short-term
Other
Total
Cost
$
Estimated
Fair Value
Amount at Which
Shown in the
Balance Sheet
194
$
1,396
215
$
1,430
44
157
200
49
147
263
737
388
44
156
248
50
146
287
737
493
215
1,430
44
156
248
50
146
287
737
478
$
3,575
$
3,807
$
3,792
| Ambac Financial Group, Inc. 143 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
SCHEDULE II— CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY ONLY)
Condensed Balance Sheets
($ in millions, except share data) December 31,
2019
2018
$
$
$
Assets:
Fixed income securities, at fair value (amortized cost: 2019—$71 and 2018—$151)
Short-term investments, at cost (approximates fair value)
Other investments
Total investments
Cash
Investment in subsidiaries
Investment income due and accrued
Current taxes receivable (1)
Other assets
Total assets
Liabilities and Stockholders' Equity:
Liabilities:
Accounts payable and other liabilities
Total liabilities
Stockholders’ equity:
Preferred stock, par value $0.01 per share; 20,000,000 shares authorized shares; issued and outstanding
shares—none
Common stock, par value $0.01 per share; 130,000,000 shares authorized; issued shares: 45,571,743 and
45,365,170
Additional paid-in capital
Accumulated other comprehensive income (loss)
Retained earnings
Treasury stock, shares at cost: 16,343 and 28,892
Total Ambac Financial Group, Inc. stockholders’ equity
Total liabilities and stockholders’ equity
May not add due to rounding
70
$
318
46
434
9
993
1
30
11
148
193
40
381
15
1,148
1
44
3
1,478
$
1,593
$
2
2
—
—
232
42
1,203
—
1,477
$
1,478
$
1
1
—
—
219
(49)
1,421
—
1,592
1,593
(1) As of December 31, 2019, and December 31, 2018, $28 and $44, respectively, relate to receivables from the Registrant's wholly-owned subsidiary, Ambac
Assurance Corporation, pursuant to the intercompany tax sharing agreement, with the remainder being state income taxes.
The condensed financial statements should be read in conjunction with the consolidated financial statements and notes thereto and the following notes.
| Ambac Financial Group, Inc. 144 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
SCHEDULE II— CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY ONLY)
Condensed Statement of Comprehensive Income
($ in millions) Year Ended December 31,
2019
2018
2017
$
19
$
28
$
Revenues:
Investment income
Other than temporary impairments
Net realized gains (losses)
Total revenues
Expenses:
Operating expenses
Total expenses
Income (loss) before income taxes and equity in undistributed net loss of subsidiaries
Federal income tax provision (benefit)
Income before equity in undistributed net income (loss) of subsidiaries
Equity in undistributed net income (loss) of subsidiaries
Net income (loss)
Other comprehensive income (loss), after tax:
Net income (loss)
Unrealized gains (losses) on securities, net of income tax provision (benefit) of $(8), $2
and $0
Gains (losses) on foreign currency translation, net of income tax provision (benefit) of
$0, $0 and $0
Credit risk changes of fair value option liabilities, net of income tax provision (benefit)
of $0, $0 and $0
Changes to postretirement benefit, net of income tax provision (benefit) of $0, $0 and
$0
Total other comprehensive income (loss)
$
$
(2)
1
18
16
16
2
(5)
7
(223)
(216) $
(1)
(1)
26
8
8
17
(11)
28
157
186
$
(216) $
186
$
65
26
—
(1)
91
55
(48)
1
(2)
6
24
(1)
(7)
17
4
4
13
(29)
43
(371)
(329)
(329)
(82)
74
—
1
(7)
Total comprehensive income (loss) attributable to Ambac Financial Group, Inc.
$
(125) $
192
$
(335)
May not add due to rounding
The condensed financial statements should be read in conjunction with the consolidated financial statements and notes thereto and the following notes.
| Ambac Financial Group, Inc. 145 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
SCHEDULE II— CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY ONLY)
Condensed Statement of Stockholders' Equity
($ in millions)
Total
Retained
Earnings
Accumulated
Other
Comprehensive
Income
Preferred
Stock
Common
Stock
Additional
Paid-in
Capital
Common
Stock Held
in Treasury,
at Cost
Balance at January 1, 2019
$
1,592
$
1,421
$
(49) $
— $
— $
219
$
Total comprehensive income (loss)
Stock-based compensation
Cost of shares (acquired) issued
under equity plan
Balance at December 31, 2019
Balance at Balance at January 1,
2018
$
$
(125)
12
(3)
(216)
—
(3)
1,477
$
1,203
$
91
—
—
42
—
—
—
—
—
—
—
12
—
$
— $
— $
232
$
1,381
$
1,234
$
(52) $
— $
— $
200
$
Total comprehensive income (loss)
192
186
Adjustment to initially apply ASU
2016-01
Stock-based compensation
Cost of shares (acquired) issued
under equity plan
Issuance of warrants
Balance at December 31, 2018
Balance at January 1, 2017
Total comprehensive income (loss)
Adjustment to initially apply ASU
2018-02
Stock-based compensation
Cost of shares (acquired) issued
under equity plan
—
12
(1)
8
3
—
(1)
$
$
$
$
1,592
1,714
(335)
$
$
1,421
1,558
(329)
—
4
(2)
7
—
(2)
6
(3)
—
—
—
—
—
—
—
—
—
—
(49) $
— $
— $
(39) $
— $
— $
(7)
(7)
—
—
—
—
—
—
—
—
—
—
—
—
12
—
8
219
195
—
—
4
—
$
$
Balance at December 31, 2017
$
1,381
$
1,234
$
(52) $
— $
— $
200
$
May not add due to rounding
The condensed financial statements should be read in conjunction with the consolidated financial statements and notes thereto and the following notes.
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
| Ambac Financial Group, Inc. 146 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
SCHEDULE II— CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY ONLY)
Condensed Statements of Cash Flow
($ in millions) Year Ended December 31,
Cash flows from operating activities:
Net income (loss)
2019
2018
2017
$
(216) $
186
$
(329)
Adjustments to reconcile net income loss to net cash used in operating activities:
Equity in undistributed net (income) loss of subsidiaries
Amortization of bond premium and discount
Other-than-temporary impairment charges
Net realized gains (losses)
Increase (decrease) in current income taxes payable
Share-based compensation
(Increase) decrease in other assets
Other, net
Net cash provided by (used in) operating activities
Cash flows from investing activities:
Proceeds from matured bonds
Purchases of bonds
Change in short-term investments
Change in other investments
Sale of auction market preferred shares of Ambac Assurance
Purchase of auction market preferred shares of Ambac Assurance
Other, net
Net cash provided by (used in) investing activities
Cash flows from financing activities:
Net cash flow
Cash at beginning of period
Cash at end of period
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Income taxes
Non-cash financing activity:
Issuance of warrants in connection with purchase of auction market preferred shares of
Ambac Assurance
May not add due to rounding
223
(6)
2
(1)
15
12
(8)
(6)
16
86
(2)
(125)
—
19
—
—
(22)
(6)
15
9
(157)
(7)
1
1
(15)
12
12
—
32
230
(137)
(123)
25
—
(11)
(5)
(21)
11
4
15
$
$
1
$
4
$
— $
8
$
371
(17)
1
7
(1)
4
(11)
(10)
16
187
(196)
(3)
(35)
—
—
3
(44)
(28)
32
4
1
—
$
$
$
The condensed financial statements should be read in conjunction with the consolidated financial statements and notes thereto and the following notes.
| Ambac Financial Group, Inc. 147 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
SCHEDULE II— CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY ONLY)
Notes to Condensed Financial Information
(Dollar Amounts in Millions)
The condensed financial information of Ambac Financial Group, Inc. (“AFG” or the “Registrant”) as of December 31, 2019 and 2018, and
for the three years in the period ended December 31, 2019, should be read in conjunction with the consolidated financial statements of AFG
Financial Group, Inc. and Subsidiaries and the notes thereto included in this 2019 Annual Report on Form 10-K for the year ended December 31,
2019.
AFG, headquartered in New York City, is a financial services holding company incorporated in the state of Delaware on April 29, 1991.
Income Taxes
AFG files a consolidated Federal income tax return with its U.S. subsidiaries. AFG and its subsidiaries also file separate or combined income
tax returns in various states, local and foreign jurisdictions. As of December 31, 2019, Ambac had consolidated U.S. federal loss carryforwards
("NOLs") totaling $3,535, which, if not utilized, will begin expiring in 2029, and will fully expire in 2040.
Pursuant to the intercompany tax sharing agreement, taxable income generated by Ambac Assurance after September 30, 2011, is offset by
$3,650 of NOLs allocated to Ambac Assurance. However, as Ambac Assurance utilizes these $3,650 of NOLs it is obligated to make payments
(“Tolling Payments”), subject to certain credits, to AFG in accordance with a four tier (A through D) NOL usage table. NOLs in excess of the
allocated $3,650 may be utilized by Ambac Assurance, subject to AFG's consent for a payment of 25% of the benefit received. Any NOLs
generated by Ambac Assurance after September 30, 2011, must be utilized prior to any allocated NOLs for which Tolling Payments will be
due. The NOLs allocated to AFG as of December 31, 2019, were $1,250, and begin expiring in 2029 and fully expire in 2033.
Through December 31, 2018, Ambac Assurance generated cumulative taxable income of $1,508, utilizing all post September 30, 2011, NOLs
as of such date. For the year ended December 31, 2019, the Ambac Assurance sub-group generated an NOL of $143, that will expire in 2040
and will need to be utilized before any new Tolling Payments will be generated.
Through December 31, 2019, Ambac Assurance generated Tolling Payments, net of applicable credits, of $147, of which $119 was paid to
AFG through December 31, 2019. In May 2018 AFG executed a waiver under the intercompany tax sharing agreement pursuant to which
Ambac Assurance was relieved of the requirement to make the 2017 tax year Tolling Payment of $28 payment by June 1, 2018. AFG has
also agreed to continue to defer the Tolling Payment for the use of net operating losses by Ambac Assurance in 2017 until such time as OCI
consent to the payment.
The Registrant's tax positions are subject to review by the OCI, which may lead to the adoption of positions that reduce the amount of tolling
payments otherwise available to the Registrant.
| Ambac Financial Group, Inc. 148 2019 FORM 10-K |
AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES
SCHEDULE IV— REINSURANCE
Years Ended December 31, 2019, 2018 and 2017
Insurance Premiums Written
($ in millions)
Gross
Amount
Ceded to Other
Companies
Assumed from
Other
Companies
Net
Amount
Percentage of
Amount
Assumed to
Net
Year Ended December 31, 2019
$
(28) $
Year Ended December 31, 2018
Year Ended December 31, 2017
(24)
(14)
$
$
31
17
(2)
— $
—
—
(60)
(41)
(12)
—%
—%
—%
| Ambac Financial Group, Inc. 149 2019 FORM 10-K |
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
AMBAC FINANCIAL GROUP, INC.
SIGNATURES
Dated: March 2, 2020
By:
/S/ DAVID TRICK
David Trick
Executive Vice President and Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of
the Registrant and in the capacities and on the dates indicated.
Signature
Title
Date
/S/ JEFFREY S. STEIN*
Chairman of the Board and Director
March 2, 2020
Jeffrey S. Stein
/S/ CLAUDE LEBLANC
President, Chief Executive Officer and Director
March 2, 2020
Claude LeBlanc
(Principal Executive Officer)
/S/ DAVID TRICK
Executive Vice President and Chief Financial Officer
March 2, 2020
David Trick
(Principal Financial Officer)
/S/ ROBERT B. EISMAN
Senior Managing Director and Chief Accounting Officer
March 2, 2020
Robert B. Eisman
(Principal Accounting Officer)
/S/ ALEXANDER D. GREENE*
Director
Alexander D. Greene
/S/ IAN D. HAFT*
Director
Ian D. Haft
/S/ DAVID L. HERZOG*
Director
David L. Herzog
/S/ C. JAMES PRIEUR*
Director
C. James Prieur
/S/ JOAN LAMM-TENNANT*
Director
Joan Lamm-Tennant
/S/ STEPHEN M. KSENAK
Attorney-in-fact
*By: Stephen M. Ksenak
March 2, 2020
March 2, 2020
March 2, 2020
March 2, 2020
March 2, 2020
March 2, 2020
| Ambac Financial Group, Inc. 150 2019 FORM 10-K |
Appendix A
Non-GAAP Financial Measures
Ambac reports two non-GAAP financial measures: Adjusted Earnings and Adjusted Book Value. A non-GAAP financial measure is a numerical measure
of financial performance or financial position that excludes (or includes) amounts that are included in (or excluded from) the most directly comparable
measure calculated and presented in accordance with GAAP. We are presenting these non-GAAP financial measures because they provide greater
transparency and enhanced visibility into the underlying drivers of our business.Adjusted Earnings and Adjusted Book Value are not substitutes for the
Company’s GAAP reporting, should not be viewed in isolation and may differ from similar reporting provided by other companies, which may define
non-GAAP measures differently. Below are reconciliations of net income (loss) attributable to common stockholders to the non-GAAP measure of
Adjusted Earnings (Losses) and Total Ambac Financial Group, Inc. stockholders’ equity per share ("Book Value") to the non-GAAP measure of Adjusted
Book Value per share. Each of the reconciling items is more fully defined in our 2019 Annual Report on Form 10-K within Management's Discussion
and Analysis of Financial Condition and Results of Operations under the heading “Non-GAAP Financial Measures."
Ambac has a significant U.S. tax net operating loss ("NOL") that is offset by a full valuation allowance in the GAAP consolidated financial statements.
As a result of this and other considerations, for purposes of non-GAAP measures, we utilized a 0% effective tax rate; which is subject to change.
Adjusted Earnings (Loss) ($ in millions)
May-
December
2013
Year Ended December 31,
2014
2015
2016
2017
2018
2019
Net (loss) income attributable to common stockholders
$
505
$
484
$
493
$
75
$
(329)
$
186
$
(216)
Adjustments:
Non-credit impairment fair value (gain) loss on credit derivatives
Insurance intangible amortization
Impairment of goodwill
Foreign exchange (gains) losses (1)
Fair value (gain) loss on interest rate derivatives from Ambac CVA
Adjusted earnings (losses) (2)
(166)
100
—
(24)
47
(17)
152
—
35
(16)
(37)
170
515
27
(14)
(8)
175
—
39
34
(11)
151
—
(21)
45
1
107
—
7
—
$
462
$
637
$
1,154
$
315
$
(165)
$
301
$
(1)
295
(12)
—
66
Book Value Per Share / Adjusted Book Value Per Share
Total Ambac Financial Group, Inc. Shareholders' Equity
(Deficit)
Adjustments:
Non-credit impairment unrealized fair value losses on credit
derivatives
Insurance intangible asset
Goodwill
Ambac CVA on derivative product liabilities (excluding credit
derivatives)
Net unearned premiums and fees in excess of expected losses
Net unrealized investment (gains) losses in Accumulated
Other Comprehensive Income
Adjusted book value (2)
June 30,
December 31,
2013
2013
2014
2015
2016
2017
2018
2019
$
6.38
$
15.62
$
31.09
$
37.41
$
37.94
$
30.52
$
35.12
$
32.41
4.19
(36.03)
(11.43)
(1.44)
40.08
1.62
(35.51)
(11.43)
(1.08)
38.17
1.24
(31.35)
(11.43)
(1.43)
31.57
0.42
0.25
0.01
0.03
(26.91)
(21.30)
(18.71)
(15.87)
—
—
(1.75)
20.11
(0.99)
16.21
—
—
—
—
13.20
10.19
0.01
(9.37)
—
9.09
2.02
0.93
(4.68)
(1.13)
(2.63)
(0.68)
(1.89)
(3.31)
$
3.77
$
8.32
$
15.01
$
28.15
$
29.48
$
24.34
$
27.58
$
28.83
(1) Elimination of the foreign exchange gains (losses) on the re-measurement of assets, liabilities and transactions in non-functional currencies. For periods prior to
2016, we eliminated the foreign exchange gains (losses) on the re-measurement of net premium receivables and loss and loss expense reserves in non-functional
currencies. Given the long-duration of a significant portion of these premium receivables and loss reserves, the foreign exchange re-measurement gains (losses) are
not necessarily indicative of the total foreign exchange gains (losses) that Ambac will ultimately recognize. Beginning in 2016, we have eliminated the foreign
exchange gains (losses) on all assets, liabilities and transactions in non-functional currencies. Expanding this adjustment to include all foreign exchange gains
(losses) enables users of our financial statement to better view the business results without the impact of fluctuations in foreign currency exchange rates, particularly
as assets held in non-functional currencies have grown, and facilitates period-to-period comparisons of Ambac's operating performance. Note that we have not recast
prior period adjustment to conform to the methodology as such amounts were not material.
(2) Totals may not add due to rounding differences.
[This page intentionally left blank]
CORPORATE INFORMATION
CORPORATE OFFICE
Ambac Financial Group, Inc.
One World Trade Center
41st Floor
New York, NY 10007
212-658-7470
www.ambac.com
COMMON STOCK LISTING
The common stock of Ambac
Financial Group, Inc. trades on
the New York Stock Exchange
under the symbol “AMBC”.
ANNUAL MEETING
OF STOCKHOLDERS*
The Annual Meeting of Stockholders
will be held on Tuesday, June 2, 2020,
at 11:00 am Eastern Time at
One World Trade Center, 64th Floor
New York, New York 10007
INVESTOR SERVICES/
TRANSFER AGENT
COMPUTERSHARE
P.O. BOX 505000
Louisville, KY 40233
Inside the USA call 1-800-662-7232
Outside the USA call 1-781-575-4238
Hearing impaired call 1-800-952-9245
www.computershare.com/investor
or overnight correspondence
can be sent to:
COMPUTERSHARE
462 South 4th Street, Suite 1600
Louisville, KY 40202
INVESTOR RELATIONS
Lisa A. Kampf
Managing Director, Investor Relations
Ambac Financial Group, Inc.
212-208-3222
ir@ambac.com
INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
KPMG, LLP
345 Park Avenue
New York, NY 10154
CORPORATE GOVERNANCE
Ambac is committed to maintaining
the independence of Ambac’s
Board of Directors and its committees
and the integrity of its corporate
governance processes. Our Corporate
Governance Guidelines, Code of
Business Conduct and charters that
govern our Board committees, all
of which are designed to keep Ambac
accountable to its shareholders,
can be found at www.ambac.com
OFFICER CERTIFICATIONS
The certifications of Ambac’s Chief
Executive Officer and Chief Financial
Officer, required under Section 302 of
the Sarbanes-Oxley Act of 2002, have
been filed as exhibits to Ambac’s 2019
Annual Report on Form 10-K.
* We are monitoring the situation concerning COVID-19 (a/k/a Coronavirus) and, based on the facts and circumstances
as we get closer to the meeting date, we may provide for alternate means of participating in the Annual Meeting should
in-person attendance become a concern.
1
AMBAC FINANCIAL GROUP, INC.
One World Trade Center
41st Floor
New York, NY 10007
www.ambac.com