e10vq
Table of Contents

 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
Form 10-Q
(Mark One)
     
þ   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 2011
OR
     
o   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: 001-32938
ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
(Exact Name of Registrant as Specified in Its Charter)
     
Switzerland   98-0681223
(State or Other Jurisdiction of   (I.R.S. Employer
Incorporation or Organization)   Identification No.)
Lindenstrasse 8, 6340 Baar
Zug, Switzerland

(Address of Principal Executive Offices and Zip Code)
41-41-768-1080
(Registrant’s Telephone Number, Including Area Code)
     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 þ   No o
     Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes þ   No o
     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
             
Large accelerated filer þ   Accelerated filer o   Non-accelerated filer o   Smaller reporting company o
        (Do not check if a smaller reporting company)    
     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o   No þ
     As of November 1, 2011, 38,156,652 common shares were outstanding.
 
 

 


TABLE OF CONTENTS

PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
PART II
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. [Removed and Reserved
Item 5. Other Information
Item 6. Exhibits
SIGNATURES
EXHIBIT INDEX
EX-31.1
EX-31.2
EX-32.1
EX-32.2
EX-101 INSTANCE DOCUMENT
EX-101 SCHEMA DOCUMENT
EX-101 CALCULATION LINKBASE DOCUMENT
EX-101 LABELS LINKBASE DOCUMENT
EX-101 PRESENTATION LINKBASE DOCUMENT
EX-101 DEFINITION LINKBASE DOCUMENT


Table of Contents

PART I
FINANCIAL INFORMATION
Item 1. Financial Statements.
ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

as of September 30, 2011 and December 31, 2010
(Expressed in thousands of United States dollars, except share and per share amounts)
                 
    As of     As of  
    September 30,     December 31,  
    2011     2010  
ASSETS:
               
Fixed maturity investments available for sale, at fair value (amortized cost: 2011: $264,050; 2010: $828,544)
  $ 284,966     $ 891,849  
Fixed maturity investments trading, at fair value
    6,279,615       5,769,097  
Equity securities trading, at fair value
    424,104       174,976  
Other invested assets trading, at fair value
    552,074       347,632  
 
           
Total investments
    7,540,759       7,183,554  
Cash and cash equivalents
    869,320       756,995  
Restricted cash
    33,253       96,373  
Insurance balances receivable
    607,270       529,927  
Prepaid reinsurance
    218,514       187,287  
Reinsurance recoverable
    1,009,643       927,588  
Accrued investment income
    39,743       40,520  
Net deferred acquisition costs
    115,070       96,803  
Goodwill
    268,376       268,376  
Intangible assets
    54,576       56,876  
Balances receivable on sale of investments
    349,327       188,408  
Net deferred tax assets
    26,872       19,740  
Other assets
    50,424       75,184  
 
           
Total assets
  $ 11,183,147     $ 10,427,631  
 
           
LIABILITIES:
               
Reserve for losses and loss expenses
  $ 5,245,553     $ 4,879,188  
Unearned premiums
    1,158,842       962,203  
Reinsurance balances payable
    95,463       99,732  
Balances due on purchases of investments
    754,451       506,978  
Senior notes
    797,885       797,700  
Dividends payable
    14,305        
Accounts payable and accrued liabilities
    113,574       106,010  
 
           
Total liabilities
  $ 8,180,073     $ 7,351,811  
 
           
SHAREHOLDERS’ EQUITY:
               
Common shares: 2011: par value CHF 14.38 per share and 2010: par value CHF 15.00 per share (2011: 40,003,642; 2010: 40,003,642 shares issued and 2011: 38,145,557; 2010: 38,089,226 shares outstanding)
    571,455       600,055  
Additional paid-in capital
    73,797       170,239  
Treasury shares, at cost (2011: 1,858,085; 2010: 1,914,416)
    (112,624 )     (112,811 )
Retained earnings
    2,452,650       2,361,202  
Accumulated other comprehensive income: net unrealized gains on investments, net of tax
    17,796       57,135  
 
           
Total shareholders’ equity
    3,003,074       3,075,820  
 
           
Total liabilities and shareholders’ equity
  $ 11,183,147     $ 10,427,631  
 
           
See accompanying notes to the consolidated financial statements.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE (LOSS) INCOME

for the three and nine months ended September 30, 2011 and 2010
(Expressed in thousands of United States dollars, except share and per share amounts)
                                 
    Three Months Ended     Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
REVENUES:
                               
Gross premiums written
  $ 442,698     $ 378,445     $ 1,522,984     $ 1,376,455  
Premiums ceded
    (92,438 )     (76,276 )     (296,050 )     (271,199 )
 
                       
Net premiums written
    350,260       302,169       1,226,934       1,105,256  
Change in unearned premiums
    21,080       37,327       (165,411 )     (88,512 )
 
                       
Net premiums earned
    371,340       339,496       1,061,523       1,016,744  
Net investment income
    47,883       59,479       150,459       193,975  
Net realized investment (losses) gains
    (130,809 )     116,930       (21,555 )     289,350  
Net impairment charges recognized in earnings:
                               
Total other-than-temporary impairment charges
                      (168 )
Portion of loss recognized in other comprehensive income, before taxes
                       
 
                       
Net impairment charges recognized in earnings
                      (168 )
Other income
    35,000             35,000       913  
 
                       
 
    323,414       515,905       1,225,427       1,500,814  
 
                       
EXPENSES:
                               
Net losses and loss expenses
    205,546       126,988       745,811       547,864  
Acquisition costs
    39,680       41,919       120,733       120,641  
General and administrative expenses
    66,007       69,871       201,164       201,423  
Amortization and impairment of intangible assets
    767       892       2,300       2,675  
Interest expense
    13,748       9,533       41,235       28,592  
Foreign exchange loss (gain)
    2,966       (1,387 )     3,708       248  
 
                       
 
    328,714       247,816       1,114,951       901,443  
 
                       
(Loss) Income before income taxes
    (5,300 )     268,089       110,476       599,371  
Income tax expense
    5,672       13,569       19,028       27,152  
 
                       
NET (LOSS) INCOME
    (10,972 )     254,520       91,448       572,219  
 
                       
Other comprehensive (loss) income:
                               
Unrealized gains on investments arising during the period net of applicable deferred income tax expense for the three months ended September 30, 2011: $5,476; 2010: $2,449 and nine months ended September 30, 2011: $3,051; 2010: $3,138
    20       47,954       5,656       149,276  
Reclassification adjustment for net realized investment gains included in net (loss) income, net of applicable income tax
    (5,319 )     (32,550 )     (44,995 )     (145,476 )
 
                       
Other comprehensive (loss) income
    (5,299 )     15,404       (39,339 )     3,800  
 
                       
COMPREHENSIVE (LOSS) INCOME
  $ (16,271 )   $ 269,924     $ 52,109     $ 576,019  
 
                       
PER SHARE DATA
                               
Basic (loss) earnings per share
  $ (0.29 )   $ 5.59     $ 2.40     $ 11.78  
Diluted (loss) earnings per share
  $ (0.29 )   $ 5.21     $ 2.30     $ 11.03  
Weighted average common shares outstanding
    38,110,368       45,544,060       38,078,116       48,580,541  
Weighted average common shares and common share equivalents outstanding
    38,110,368       48,839,991       39,759,780       51,887,390  
Dividends paid per share
  $ 0.375     $ 0.20     $ 0.375     $ 0.60  
See accompanying notes to the consolidated financial statements.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

for the nine months ended September 30, 2011 and 2010
(Expressed in thousands of United States dollars)
                                                 
                            Accumulated              
            Additional             Other              
    Share     Paid-in     Treasury     Comprehensive     Retained        
    Capital     Capital     Shares     Income     Earnings     Total  
December 31, 2010
  $ 600,055     $ 170,239     $ (112,811 )   $ 57,135     $ 2,361,202     $ 3,075,820  
 
                                   
Net income
                            91,448       91,448  
Dividends — par value reduction
    (28,600 )                             (28,600 )
Other comprehensive loss
                      (39,339 )           (39,339 )
Stock compensation
          (42,822 )     60,187                   17,365  
Share repurchases
                (60,000 )                 (60,000 )
Repurchase of founder warrants
          (53,620 )                       (53,620 )
 
                                   
September 30, 2011
  $ 571,455     $ 73,797     $ (112,624 )   $ 17,796     $ 2,452,650     $ 3,003,074  
 
                                   
 
                                               
December 31, 2009
  $ 1,492     $ 1,359,934     $     $ 149,849     $ 1,702,020     $ 3,213,295  
Cumulative effect adjustment upon adoption of ASU 2010-11, net of deferred taxes
                      (41,889 )     41,889        
Net income
                            572,219       572,219  
Dividends
                            (28,774 )     (28,774 )
Other comprehensive income
                      3,800             3,800  
Stock compensation
    32       28,570                         28,602  
Share repurchase
                (415,009 )                 (415,009 )
Repurchase of founder warrants
          (32,819 )                       (32,819 )
 
                                   
September 30, 2010
  $ 1,524     $ 1,355,685     $ (415,009 )   $ 111,760     $ 2,287,354     $ 3,341,314  
 
                                   
See accompanying notes to the consolidated financial statements.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

for the nine months ended September 30, 2011 and 2010
(Expressed in thousands of United States dollars)
                 
    Nine Months Ended  
    September 30,  
    2011     2010  
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
               
Net income
  $ 91,448     $ 572,219  
Adjustments to reconcile net income to cash provided by operating activities:
               
Net realized gains on sales of investments
    (78,001 )     (145,700 )
Mark to market adjustments
    61,912       (143,650 )
Net impairment charges recognized in earnings
          168  
Stock compensation expense
    16,917       25,177  
Insurance balances receivable
    (77,343 )     (71,266 )
Prepaid reinsurance
    (31,227 )     (682 )
Reinsurance recoverable
    (82,055 )     (19,965 )
Accrued investment income
    777       9,760  
Net deferred acquisition costs
    (18,267 )     (14,479 )
Net deferred tax assets
    (4,081 )     15,401  
Other assets
    24,650       10,797  
Reserve for losses and loss expenses
    366,365       128,053  
Unearned premiums
    196,639       89,195  
Reinsurance balances payable
    (4,269 )     (5,690 )
Accounts payable and accrued liabilities
    7,564       (27,837 )
Other items, net
    20,476       (2,310 )
 
           
Net cash provided by operating activities
    491,505       419,191  
 
           
CASH FLOWS (USED IN) PROVIDED BY INVESTING ACTIVITIES:
               
Purchases of fixed maturity investments — available for sale
    (727 )     (138,918 )
Purchases of fixed maturity investments — trading
    (5,209,039 )     (8,739,173 )
Purchases of equity securities
    (346,210 )     (122,929 )
Purchases of other invested assets
    (265,720 )     (138,249 )
Sales of fixed maturity investments — available for sale
    627,392       2,057,431  
Sales of fixed maturity investments — trading
    4,772,552       7,583,380  
Sales of equity securities
    69,028       5,721  
Sales of other invested assets
    40,129       2,858  
Purchases of fixed assets
    (7,792 )     (7,809 )
Change in restricted cash
    63,120       (282,595 )
 
           
Net cash (used in) provided by investing activities
    (257,267 )     219,717  
 
           
CASH FLOWS USED IN FINANCING ACTIVITIES:
               
Dividends paid
          (28,774 )
Dividends paid — par value reduction
    (14,295 )      
Proceeds from the exercise of stock options
    5,317       7,053  
Share repurchases
    (60,000 )     (415,009 )
Repurchase of founder warrants
    (53,620 )     (32,819 )
 
           
Net cash used in financing activities
    (122,598 )     (469,549 )
 
           
Effect of exchange rate changes on foreign currency cash
    685       (261 )
NET INCREASE IN CASH AND CASH EQUIVALENTS
    112,325       169,098  
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
    756,995       292,188  
 
           
CASH AND CASH EQUIVALENTS, END OF PERIOD
  $ 869,320     $ 461,286  
 
           
Supplemental disclosure of cash flow information:
               
— Cash paid for income taxes
  $ 6,294     $ 12,820  
— Cash paid for interest expense
    45,750       37,500  
See accompanying notes to the consolidated financial statements.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
1. GENERAL
     Allied World Assurance Company Holdings, AG, a Swiss holding company (“Allied World Switzerland”), through its wholly-owned subsidiaries (collectively, the “Company”), provides property and casualty insurance and reinsurance on a worldwide basis through operations in Bermuda, the United States, Europe, Hong Kong and Singapore.
2. BASIS OF PREPARATION AND CONSOLIDATION
     These unaudited condensed consolidated financial statements include the accounts of the Company and have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with Article 10 of Regulation S-X as promulgated by the U.S. Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, these unaudited condensed consolidated financial statements reflect all adjustments that are normal and recurring in nature and necessary for a fair presentation of financial position and results of operations as of the end of and for the periods presented. The results of operations for any interim period are not necessarily indicative of the results for a full year.
     The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The significant estimates reflected in the Company’s financial statements include, but are not limited to:
    The premium estimates for certain reinsurance agreements,
 
    Recoverability of deferred acquisition costs,
 
    The reserve for outstanding losses and loss expenses,
 
    Valuation of ceded reinsurance recoverables,
 
    Determination of impairment of goodwill and other intangible assets,
 
    Valuation of financial instruments, and
 
    Determination of other-than-temporary impairment of available for sale investments.
     Inter-company accounts and transactions have been eliminated on consolidation and all entities meeting consolidation requirements have been included in the consolidation.
     These unaudited condensed consolidated financial statements, including these notes, should be read in conjunction with the Company’s audited consolidated financial statements, and related notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
3. NEW ACCOUNTING PRONOUNCEMENTS
     In July 2010, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2010-20, “Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses” (“ASU 2010-20”). ASU 2010-20 enhances disclosures about credit quality of financing receivables and the allowance of credit losses by requiring additional information regarding the Company’s credit risk exposures and evaluating the adequacy of its allowance for credit losses. The balance sheet related disclosures for ASU 2010-20 were effective for the year ended December 31, 2010 and the income statement related disclosures were effective for the quarter ended March 31, 2011. Refer to Note 15 for the Company’s related disclosures.
     In October 2010, the FASB issued ASU 2010-26, “Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts” (“ASU 2010-26”). ASU 2010-26 clarifies what costs associated with acquiring or renewing insurance contracts can be deferred and amortized over the coverage period. Under the revised guidance of ASU 2010-26, incremental direct costs that result directly from and are essential to the insurance contract and would not have been incurred had the insurance contract not been written are costs that may be capitalized, including costs relating to activities specifically performed by the Company such as underwriting, policy issuance and processing. ASU 2010-26 will be effective January 1, 2012 and early adoption is permitted. The Company has not elected early adoption and is currently evaluating the provisions of ASU 2010-26 and its potential impact on future financial statements.
     In January 2011, the FASB issued ASU 2011-01, “Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20”. In April 2011, the FASB issued ASU 2011-02 “A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring” (“ASU 2011-02”). ASU 2011-02 provides further guidance on what constitutes a troubled debt restructuring. The guidance is effective for interim and annual periods beginning on or after June 15, 2011 and applies retrospectively to restructurings within the fiscal year of adoption. Refer to Note 15 for the Company’s related disclosures.
     In May 2011, the FASB issued ASU 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs” (“ASU 2011-04”). ASU 2011-04 provides a consistent meaning for the term “fair value” between the FASB and International Accounting Standards Board and establishes common requirements for measuring and disclosing information related thereto. ASU 2011-04 is effective on a prospective basis for interim and annual periods beginning on or after December 15, 2011 and early adoption is prohibited. The Company is currently assessing the provisions of ASU 2011-04 and its potential impact on future financial statements.
     In June 2011, the FASB issued ASU 2011-05, “Presentation of Comprehensive Income” (“ASU 2011-05”). ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity, requires consecutive presentation of the statement of net income and other comprehensive income and requires the presentation of reclassification adjustments on the face of the financial statements from other comprehensive income to net income. ASU 2011-05 is effective on a retrospective basis for interim and annual periods beginning on or after December 15, 2011 and will not have an impact on the presentation of future financial statements.
     In September 2011, the FASB issued ASU 2011-08, “Testing Goodwill for Impairment” (“ASU 2011-08”). ASU 2011-08 simplifies how goodwill is tested for impairment by permitting entities to assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The qualitative assessment will determine if an entity needs to proceed with the two-step goodwill impairment test. ASU 2011-08 is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011 and early adoption is permitted. The Company has not elected early adoption and is currently evaluating the provisions of ASU 2011-08 and its potential impact on future financial statements.
4. INVESTMENTS
a) Available for Sale Securities
     The amortized cost, gross unrealized gains, gross unrealized losses and fair value of the Company’s available for sale investments by category are as follows:

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                 
            Gross     Gross        
    Amortized     Unrealized     Unrealized        
    Cost     Gains     Losses     Fair Value  
September 30, 2011                                
U.S. Government and Government agencies
  $ 32,971     $ 2,327     $     $ 35,298  
States, municipalities and political subdivisions
    29,099       4,008             33,107  
Corporate debt:
                               
Financial institutions
    38,368       1,501       (302 )     39,567  
Industrials
    87,661       6,250             93,911  
Utilities
    75,951       7,132             83,083  
 
                       
Total fixed maturity investments, available for sale
  $ 264,050     $ 21,218     $ (302 )   $ 284,966  
 
                       
December 31, 2010
                               
U.S. Government and Government agencies
  $ 85,030     $ 6,923     $     $ 91,953  
Non-U.S. Government and Government agencies
    138,386       9,539       (2,541 )     145,384  
States, municipalities and political subdivisions
    107,289       10,901       (13 )     118,177  
Corporate debt:
                               
Financial institutions
    66,660       6,776       (38 )     73,398  
Industrials
    310,664       20,548       (2 )     331,210  
Utilities
    120,515       11,212             131,727  
 
                       
Total fixed maturity investments, available for sale
  $ 828,544     $ 65,899     $ (2,594 )   $ 891,849  
 
                       
b) Trading Securities
     Securities accounted for at fair value with changes in fair value recognized in the unaudited condensed consolidated statements of operations and comprehensive (loss) income (“consolidated income statements”) by category are as follows:
                 
    September 30, 2011     December 31, 2010  
U.S. Government and Government agencies
  $ 1,067,673     $ 1,229,720  
Non-U.S. Government and Government agencies
    225,782       120,793  
States, municipalities and political subdivisions
    103,180       127,436  
Corporate debt:
               
Financial institutions
    1,292,078       1,261,219  
Industrials
    827,425       627,524  
Utilities
    115,214       101,472  
Residential mortgage-backed:
               
Non-agency residential
    328,395       371,935  
Agency residential
    1,374,564       1,195,905  
Commercial mortgage-backed:
    350,704       184,043  
Asset-backed
    594,600       549,050  
 
           
Total fixed maturity investments, trading
    6,279,615       5,769,097  
Equity securities
    424,104       174,976  
Other invested assets (1)
    552,074       347,632  
 
           
Total
  $ 7,255,793     $ 6,291,705  
 
           
 
(1)   Within the Company’s financial statements and footnotes “other invested assets” include the Company’s investments in both hedge funds and private equity funds.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
c) Contractual Maturity Dates
     The contractual maturity dates of available for sale fixed maturity investments are as follows:
                 
    September 30, 2011  
    Amortized Cost     Fair Value  
Due within one year
  $ 26,354     $ 26,819  
Due after one year through five years
    198,860       213,579  
Due after five years through ten years
    35,815       40,787  
Due after ten years
    3,021       3,781  
 
           
 
  $ 264,050     $ 284,966  
 
           
     Expected maturities may differ from contractual maturities because borrowers may have the right to prepay obligations with or without prepayment penalties.
d) Other Invested Assets
     Included in other invested assets are the Company’s hedge fund and private equity investments. As of the balance sheet date, the Company held 21 funds with a total fair value of $552,074, which comprised 6.5% of the total fair value of its investments and cash and cash equivalents and are summarized as follows by type of investment strategy:
                                                 
                    Long     Short              
    Fair Value as of     Unfunded     Exposure(1)     Exposure(2)     Gross     Net  
Fund Type   September 30, 2011     Commitments     (% of funded)     (% of funded)     Exposure(3)     Exposure(4)  
Private equity (primary and secondary)
  $ 78,078     $ 162,162       100 %     0 %     100 %     100 %
Mezzanine debt
    3,308       111,621       100 %     0 %     100 %     100 %
Distressed
    8,744       36,392       100 %     0 %     100 %     100 %
 
                                           
Total private equity
    90,130       310,175                                  
 
                                           
Distressed hedge funds
    46,767             64 %     42 %     106 %     22 %
Equity long/short
    175,170             78 %     58 %     136 %     20 %
Multi-strategy
    157,479             88 %     66 %     154 %     22 %
Event driven
    82,528             93 %     69 %     162 %     24 %
 
                                           
Total
  $ 552,074     $ 310,175                                  
 
                                           
 
(1)   Long exposure represents the ratio of the fund’s long investments in securities to the fund’s equity capital (over 100% may denote explicit borrowing). Two of the Company’s hedge funds, one event driven fund and one multi-strategy fund had long exposure greater than 100% of the funds’ net asset value (indicating explicit leverage) of 140% and 110%, respectively, as of September 30, 2011.
 
(2)   Short exposure represents the ratio of the securities sold short to the fund’s equity capital.
 
(3)   Gross exposure is the addition of the long and short exposures (over 100% may denote explicit borrowing).
 
(4)   Net exposure is the subtraction of the short exposure from the long exposure.
  Private equity funds: These funds buy limited partnership interests from existing limited partners of primary private equity funds. As owners of private equity funds seek liquidity, they can sell their existing investments, plus any remaining commitment, to secondary market participants. The Company has invested in four private equity funds to purchase those primary limited partnership interests. The fair values of the investments in this class have been estimated using the net asset value per share of the investments. These funds cannot be redeemed because the investments include restrictions that do not

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
    allow for redemption until termination of the fund. The restriction period for these funds from initial investment ranges from eight to ten years.
  Mezzanine debt funds: Mezzanine debt funds invest primarily in privately negotiated mezzanine investments. The funds’ strategies will focus primarily on providing capital to upper middle market and middle market companies, and private equity sponsors, in connection with leveraged buyouts, mergers and acquisitions, recapitalizations, growth financings and other corporate transactions. The most common position in the capital structure will be between the senior secured debt holder and the equity, however the funds will utilize a flexible approach when structuring investments, which may include secured debt, subordinated debt, preferred stock and/or private equity. The fair values of the funds in this class have been estimated using the net asset value per share of the funds. The Company has invested in one mezzanine debt fund which cannot be redeemed at this time because the investments include restrictions that do not allow for redemption until termination of the fund. The restriction period for this fund from initial investment is ten years.
  Distressed funds: In distressed debt investing, managers take positions in the debt of companies experiencing significant financial difficulties, including bankruptcy, or in certain positions of the capital structure of structured securities. The manager relies on the fundamental analysis of these securities, including the claims on the assets and the likely return to bondholders. The fair values of the funds in this class have been estimated using the net asset value per share of the funds. The Company has invested in five distressed funds, three of which (representing approximately 32% of the value of the funds in this class) are not currently eligible for redemption due to imposed lock-up periods from initial investments ranging from one to eight years. The remaining funds representing approximately 45% and 23% of the value of the funds in this class are currently eligible for quarterly redemption with a 65-day and 45-day notification period, respectively, and are subject to redemption limitations and a redemption fee if redeemed prior to January 2012.
  Equity long/short funds: In equity long/short funds, managers take long positions in companies they deem to be undervalued and short positions in companies they deem to be overvalued. Long/short managers may invest in countries, regions or sectors and vary by their use of leverage and target net long position. The fair values of the funds in this class have been estimated using the net asset value per share of the funds. The Company has invested in five equity long/short funds, one of which (representing approximately 25% of the value of the funds in this class) is not currently eligible for redemption due to an imposed lock-up period of eighteen months from initial investment, at which time the fund will be eligible for quarterly redemption with a 45-day notification period. The remaining four funds, representing approximately 75% of the value of the funds in this class, are currently eligible for quarterly redemption, one with a 30-day notification period or monthly redemption with a 30-day notification period and redemption fee, one with a 45-day notification period and redemption fee if redeemed prior to July 2012 and two with a 60-day notification period.
  Multi-strategy funds: These funds may utilize many strategies employed by specialized funds including distressed investing, equity long/short, merger arbitrage, convertible arbitrage, fixed income arbitrage and macro trading. The fair values of the funds in this class have been estimated using the net asset value per share of the funds. The Company has invested in four multi-strategy funds, all of which are currently eligible for quarterly redemption. Three of the funds require notification periods before redemption which range from 45 days to 90 days. The remaining fund is currently eligible for redemption of one third of the net asset value with a 65-day notification period.
  Event driven funds: Event driven strategies seek to deploy capital into specific securities whose returns are affected by a specific event that affects the value of one or more securities of a company. Returns for such securities are linked primarily to the specific outcome of the events and not by the overall direction of the bond or stock markets. Examples could include mergers and acquisitions (arbitrage), corporate restructurings and spin-offs and capital structure arbitrage. The fair values of the funds in this class have been estimated using the net asset value per share of the funds. The Company has invested in two event driven funds. Approximately 53% of the value of the funds is not currently eligible for redemption due to an imposed two year lock-up period from initial investment. The remaining 47% of the value of the funds in this class is currently eligible for quarterly redemption, but is subject to redemption fees and limitations.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
e) Net Investment Income
                                 
    For the Three Months Ended     For the Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
Fixed maturity investments
  $ 47,877     $ 55,165     $ 149,471     $ 193,815  
Equity securities and other invested assets
    3,397       6,438       10,608       7,684  
Cash and cash equivalents
    166       183       611       346  
Expenses
    (3,557 )     (2,307 )     (10,231 )     (7,870 )
 
                       
Net investment income
  $ 47,883     $ 59,479     $ 150,459     $ 193,975  
 
                       
f) Components of Realized Gains and Losses
     Components of realized gains and (losses) are summarized in the following table:
                                 
    For the Three Months Ended     For the Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
Gross realized gains on sale of securities
  $ 44,674     $ 33,222     $ 122,842     $ 163,461  
Gross realized losses on sale of securities
    (10,634 )     (2,533 )     (35,896 )     (15,663 )
Treasury yield hedge
                      (3,958 )
Futures not designated as hedges
    (27,060 )           (47,470 )      
 
                               
Foreign exchange forwards not designated as hedges
    1,442             882        
Mark-to-market changes: debt securities trading
    (46,078 )     73,563       (742 )     134,040  
Mark-to-market changes: foreign exchange forwards and futures not designated as hedges
    (17,667 )           (12,233 )      
Mark-to-market changes: hedge funds and equity securities
    (75,486 )     10,818       (48,938 )   $ 9,610  
Gain on sale of Program Administrator
          1,860             1,860  
 
                       
Net realized investment (losses) gains
  $ (130,809 )   $ 116,930     $ (21,555 )   $ 289,350  
 
                       
Proceeds from sale of available for sale securities
  $ 60,043     $ 208,473     $ 606,234     $ 2,054,547  
Proceeds from sale of trading securities
  $ 1,321,722     $ 2,517,784     $ 4,740,270     $ 7,815,137  
g) Pledged Assets
     As of September 30, 2011 and December 31, 2010, $285,501 and $280,175, respectively, of cash and cash equivalents and investments were on deposit with various state or government insurance departments or pledged in favor of ceding companies in order to comply with relevant insurance regulations. In addition, the Company has set up trust accounts to meet security requirements for inter-company reinsurance transactions. These trusts contained assets of $1,356,304 and $1,377,266 as of September 30, 2011 and December 31, 2010, respectively, and are included in fixed maturity investments.
     The Company also has facilities available for the issuance of letters of credit collateralized against the Company’s investment portfolio. The collateralized portion of these facilities is up to $1,300,000 as of September 30, 2011 and December 31, 2010. See Note 8 “Debt and Financing Arrangements” for details on the facilities.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
     The following table shows the Company’s trust accounts on deposit, as well as outstanding and remaining letter of credit facilities, and the collateral committed to support the letter of credit facilities:
                 
    As of     As of  
    September 30,     December 31,  
    2011     2010  
Total trust accounts on deposit
  $ 1,641,805     $ 1,657,441  
Total letter of credit facilities:
               
Citibank Europe plc
    900,000       900,000  
Credit Facility
    800,000       800,000  
 
           
Total letter of credit facilities
    1,700,000       1,700,000  
 
           
Total letter of credit facilities outstanding:
               
Citibank Europe plc
    752,412       689,851  
Credit Facility
    161,677       158,983  
 
           
Total letter of credit facilities outstanding
    914,089       848,834  
 
           
Total letter of credit facilities remaining:
               
Citibank Europe plc
    147,588       210,149  
Credit Facility (1)
    638,323       641,017  
 
           
Total letter of credit facilities remaining
    785,911       851,166  
 
           
Collateral committed to support the letter of credit facilities
  $ 1,062,380     $ 1,121,345  
 
           
 
(1)   Net of any borrowing or repayments under the Unsecured Facility (as defined in Note 8). See Note 8 for further details on the Unsecured Facility.
     Total trust accounts on deposit includes available for sale securities, trading securities and cash and cash equivalents. The fair values of the combined total cash and cash equivalents and investments held under trust were $2,704,185 and $2,778,786 as of September 30, 2011 and December 31, 2010, respectively. Of the total letters of credit facilities outstanding as of September 30, 2011 and December 31, 2010, $7,295 was used to meet security requirements for inter-company transactions and the remaining letters of credit facilities outstanding of $906,794 and $841,539 was used for third-party beneficiaries, respectively.
h) Analysis of Unrealized Losses
     As of September 30, 2011 and December 31, 2010, there were three and nine securities, respectively, in an unrealized loss position. The following table summarizes the market value of those investments in an unrealized loss position for periods less than and greater than 12 months:
                                 
    September 30, 2011     December 31, 2010  
    Gross Fair     Unrealized     Gross Fair     Unrealized  
    Value     Loss     Value     Loss  
Less than 12 months
                               
Non-U.S. Government and Government agencies
  $     $     $ 34,204     $ (1,116 )
States, municipalities and political subdivisions
                472       (13 )
Corporate debt:
                           
Financial institutions
    9,477       (302 )     2,796       (38 )
Industrials
                2,150       (2 )
 
                       
 
  $ 9,477     $ (302 )   $ 39,622     $ (1,169 )
 
                       
More than 12 months
                               
Non-U.S. Government and Government agencies
  $     $     $ 10,998     $ (1,425 )
 
                       
 
  $     $     $ 10,998     $ (1,425 )
 
                       
 
  $ 9,477     $ (302 )   $ 50,620     $ (2,594 )
 
                       

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
i) Other-than-temporary impairment charges
     Following the Company’s review of the securities in the investment portfolio during the three and nine months ended September 30, 2011, no securities were considered to be other-than-temporarily impaired.
     Following the Company’s review of the securities in the investment portfolio during the three and nine months ended September 30, 2010 nil and one mortgage-backed security was considered to be other-than-temporarily impaired due to the present value of the expected cash flows being lower than the amortized cost. The $168 of other than temporary impairment (“OTTI”) during the nine months ended September 30, 2010 was recognized through earnings due to credit related losses.
     The following table summarizes the amounts related to credit losses on debt securities for which a portion of the OTTI was recognized in other comprehensive income in the consolidated income statements for the three and nine months ended September 30, 2010:
                 
    For the Three Months     For the Nine Months  
    Ended September 30,     Ended September 30,  
    2010     2010  
Beginning balance of credit losses
  $ 1,264     $ 1,096  
Additions for credit loss for which OTTI was not previously recognized
          168  
Reductions for securities sold during the period (realized)
           
Reductions for OTTI previously recognized due to intent to sell
           
Additions resulting from the increase in credit losses
           
Reductions resulting from the improvement in expected cash flows
           
Adoption of ASU 2010-11
    (1,264 )     (1,264 )
 
           
Ending balance of credit losses
  $     $  
 
           
5. DERIVATIVE INSTRUMENTS
     The following table summarizes information on the location and amounts of derivative fair values on the unaudited condensed consolidated balance sheets (“consolidated balance sheets”):
                                                                 
    September 30, 2011     December 31, 2010  
    Asset             Liability             Asset             Liability        
    Derivative     Asset     Derivative     Liability     Derivative     Asset     Derivative     Liability  
    Notional     Derivative     Notional     Derivative     Notional     Derivative     Notional     Derivative  
    Amount     Fair Value     Amount     Fair Value     Amount     Fair Value     Amount     Fair Value  
Derivatives not designated as hedging instruments                                
Relating to investment portfolio:
                                                               
Foreign exchange contracts (1)
  $ 74,853     $ 1,487     $ 62,198     $ 6,989     $     $     $     $  
Interest rate futures (1)
    806,250       1,721       896,100       8,451                          
 
                                               
 
  $ 881,103     $ 3,208     $ 958,298     $ 15,440     $     $     $     $  
Relating to operating activities and capital management:                                
Foreign exchange contracts (2)
  $ 53,705     $ 2,551     $ 122,873     $ 11,438     $ 26,758     $ 858     $ 51,308     $ 1,629  
 
                                               
Total derivatives
  $ 934,808     $ 5,759     $ 1,081,171     $ 26,878     $ 26,758     $ 858     $ 51,308     $ 1,629  
 
                                               
 
(1)   Asset and liability derivatives relating to the investment portfolio are classified within “balances receivable on sale of investments” or “balances due on purchases of investments” on the consolidated balance sheets.
 
(2)   Asset and liability derivatives relating to operating activities are classified within “other assets” or “accounts payable and accrued liabilities” on the consolidated balance sheets.
     The following table provides the total unrealized and realized gains (losses) on derivatives recorded in the consolidated income statements:

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                         
            Three Months Ended     Nine Months Ended  
            September 30,     September 30,  
    Location of Gain (Loss) Recognized in                          
    the Consolidated Income Statements     2011     2010     2011     2010  
Derivatives not designated as hedging instruments                                
Relating to investment portfolio:
                                       
Foreign exchange contracts
  Net realized investment losses   $ (5,343 )   $     $ (4,620 )   $  
Interest rate futures
  Net realized investment losses     (37,942 )           (54,201 )      
 
                             
 
          $ (43,285 )   $     $ (58,821 )   $  
 
                                       
Relating to operating activities and capital management:                                
Foreign exchange contracts
  Foreign exchange (losses) gains   $ (8,075 )   $ 4,832     $ (5,474 )   $ 3,420  
Treasury yield hedge
  Net realized investment losses                       (3,958 )
 
                             
Total derivatives
          $ (51,360 )   $ 4,832     $ (64,295 )   $ (538 )
 
                             
Derivative Instruments not Designated as Hedging Instruments
a) Relating to Investment Portfolio
     The Company is exposed to foreign currency risk in its investment portfolio. Accordingly, the fair values of the Company’s investment portfolio are partially influenced by the change in foreign exchange rates. The Company entered into foreign currency forward contracts to manage the effect of this foreign currency risk. These foreign currency hedging activities have not been designated as specific hedges for financial reporting purposes.
     The Company also purchases and sells interest rate future contracts to actively manage the duration and yield curve positioning of its fixed income portfolio. Interest rate futures can efficiently increase or decrease the overall duration of the portfolio. Additionally, interest rate future contracts can be utilized to obtain the desired position along the yield curve in order to protect against certain future yield curve shapes.
b) Relating to Operating Activities and Capital Management
     The Company’s insurance and reinsurance subsidiaries and branches operate in various foreign countries and consequently the Company’s underwriting portfolio is exposed to foreign currency risk. The Company manages foreign currency risk by seeking to match liabilities under the insurance policies and reinsurance contracts that it writes and that are payable in foreign currencies with cash and investments that are denominated in such currencies. When necessary, the Company may also use derivatives to economically hedge un-matched foreign currency exposures, specifically forward contracts and currency options.
     In addition, the Company entered into a treasury yield hedge during the nine months ended September 30, 2010 to mitigate the potential rise in interest rates.
6. FAIR VALUE OF FINANCIAL INSTRUMENTS
     In accordance with U.S. GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. There is a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy is based upon whether the inputs to the valuation of an asset or liability are observable or unobservable in the market at the measurement date, with quoted market prices being the highest level (Level 1) and unobservable inputs being the lowest level (Level 3). A fair value measurement will fall within the level of the hierarchy based on the input that is significant to determining such measurement. The three levels are defined as follows:
  Level 1: Observable inputs to the valuation methodology that are quoted prices (unadjusted) for identical assets or liabilities in active markets.
  Level 2: Observable inputs to the valuation methodology other than quoted market prices (unadjusted) for identical assets or liabilities in active markets. Level 2 inputs include quoted prices for similar assets and liabilities in active markets, quoted

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
    prices for identical assets in markets that are not active and inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability.
  Level 3: Inputs to the valuation methodology that are unobservable for the asset or liability.
     The following table shows the fair value of the Company’s financial instruments and where in the fair value hierarchy the fair value measurements are included as of the dates indicated:
                                         
                    Fair value measurement using:  
                    Quoted prices in             Significant  
                    active markets for     Significant other     unobservable  
    Carrying             identical assets     observable inputs     inputs  
September 30, 2011   amount     Total fair value     (Level 1)     (Level 2)     (Level 3)  
Available for sale securities:
                                       
U.S. Government and Government agencies
  $ 35,298     $ 35,298     $ 35,298     $     $  
States, municipalities and political subdivisions
    33,107       33,107             33,107        
Corporate debt
    216,561       216,561             216,561        
 
                                   
Total available for sale fixed maturity investments
    284,966       284,966                          
 
                                   
Trading securities:
                                       
U.S. Government and Government agencies
  $ 1,067,673     $ 1,067,673     $ 858,948     $ 208,725     $  
Non-U.S. Government and Government agencies
    225,782       225,782             225,782        
States, municipalities and political subdivisions
    103,180       103,180             103,180        
Corporate debt
    2,234,717       2,234,717             2,234,717        
Mortgage-backed
    2,053,663       2,053,663             1,806,200       247,463  
Asset-backed
    594,600       594,600             498,993       95,607  
 
                                   
Total trading fixed maturity investments
    6,279,615       6,279,615                          
 
                                   
Total fixed maturity investments
    6,564,581       6,564,581                          
 
                                   
Equity securities
    424,104       424,104       424,104              
Other invested assets
    552,074       552,074                   552,074  
 
                             
Total investments
  $ 7,540,759     $ 7,540,759     $ 1,318,350     $ 5,327,265     $ 895,144  
 
                             
Senior notes
  $ 797,885     $ 865,868     $     $ 865,868     $  
 
                                       

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                         
                    Fair value measurement using:  
                    Quoted prices in             Significant  
                    active markets for     Significant other     unobservable  
    Carrying             identical assets     observable inputs     inputs  
December 31, 2010   amount     Total fair value     (Level 1)     (Level 2)     (Level 3)  
Available for sale securities:
                                       
U.S. Government and Government agencies
  $ 91,953     $ 91,953     $ 65,234     $ 26,719     $  
Non-U.S. Government and Government agencies
    145,384       145,384             145,384        
States, municipalities and political subdivisions
    118,177       118,177             118,177        
Corporate debt
    536,335       536,335             536,335        
 
                                   
Total available for sale fixed maturity investments
    891,849       891,849                          
 
                                   
Trading securities:
                                       
U.S. Government and Government agencies
  $ 1,229,720     $ 1,229,720     $ 1,088,967     $ 140,753     $  
Non-U.S. Government and Government agencies
    120,793       120,793             120,793        
States, municipalities and political subdivisions
    127,436       127,436             127,436        
Corporate debt
    1,990,215       1,990,215             1,990,215        
Mortgage-backed
    1,751,883       1,751,883             1,579,324       172,559  
Asset-backed
    549,050       549,050             500,343       48,707  
 
                                   
Total trading fixed maturity investments
    5,769,097       5,769,097                          
 
                                   
Total fixed maturity investments
    6,660,946       6,660,946                          
 
                                   
Equity securities
    174,976       174,976       174,976              
Other invested assets
    347,632       347,632                   347,632  
 
                             
Total investments
  $ 7,183,554     $ 7,183,554     $ 1,329,177     $ 5,285,479     $ 568,898  
 
                             
Senior notes
  $ 797,700     $ 850,570     $     $ 850,570     $  
     The following describes the valuation techniques used by the Company to determine the fair value of financial instruments held as of the balance sheet date.
     U.S. government and U.S. government agencies: Comprised primarily of bonds issued by the U.S. treasury, the Federal Home Loan Bank, the Federal Home Loan Mortgage Corporation and the Federal National Mortgage Association. The fair values of the Company’s U.S. government securities are based on quoted market prices in active markets and are included in the Level 1 fair value hierarchy. The Company believes the market for U.S. treasury securities is an actively traded market given the high level of daily trading volume. The fair values of U.S. government agency securities are priced using the spread above the risk-free yield curve. As the yields for the risk-free yield curve and the spreads for these securities are observable market inputs, the fair values of U.S. government agency securities are included in the Level 2 fair value hierarchy.
     Non-U.S. government and government agencies: Comprised of fixed income obligations of non-U.S. governmental entities. The fair values of these securities are based on prices obtained from international indices and are included in the Level 2 fair value hierarchy.
     States, municipalities and political subdivisions: Comprised of fixed income obligations of U.S. domiciled state and municipality entities. The fair values of these securities are based on prices obtained from the new issue market, and are included in the Level 2 fair value hierarchy.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
     Corporate debt: Comprised of bonds issued by corporations that are diversified across a wide range of issuers and industries. The fair values of corporate bonds that are short-term are priced using spread above the London Interbank Offered Rate yield curve, and the fair value of corporate bonds that are long-term are priced using the spread above the risk-free yield curve. The spreads are sourced from broker-dealers, trade prices and the new issue market. As the significant inputs used to price corporate bonds are observable market inputs, the fair values of corporate bonds are included in the Level 2 fair value hierarchy.
     Mortgage-backed: Primarily comprised of residential and commercial mortgages originated by both U.S. government agencies (such as the Federal National Mortgage Association) and non-U.S. government agencies. The fair values of mortgage-backed securities originated by U.S. government agencies and non-U.S. government agencies are based on a pricing model that incorporates prepayment speeds and spreads to determine appropriate average life of mortgage-backed securities. The spreads are sourced from broker-dealers, trade prices and the new issue market. As the significant inputs used to price the mortgage-backed securities are observable market inputs, the fair values of these securities are included in the Level 2 fair value hierarchy, unless the significant inputs used to price the mortgage-backed securities are broker-dealer quotes and the Company is not able to determine if those quotes are based on observable market inputs, in which case the fair value is included in the Level 3 hierarchy.
     Asset-backed: Principally comprised of bonds backed by pools of automobile loan receivables, home equity loans, credit card receivables and collateralized loan obligations originated by a variety of financial institutions. The fair values of asset-backed securities are priced using prepayment speed and spread inputs that are sourced from the new issue market or broker-dealer quotes. As the significant inputs used to price the asset-backed securities are observable market inputs, the fair values of these securities are included in the Level 2 fair value hierarchy, unless the significant inputs used to price the asset-backed securities are broker-dealer quotes and the Company is not able to determine if those quotes are based on observable market inputs, in which case the fair value is included in the Level 3 hierarchy.
     Equity securities: The fair value of the equity securities are priced from market exchanges and therefore included in the Level 1 fair value hierarchy.
     Other invested assets: Comprised of funds invested in a range of diversified strategies. In accordance with U.S. GAAP, the fair values of the funds are based on the net asset value of the funds as reported by the fund manager which the Company believes is an unobservable input, and as such, the fair values of those funds are included in the Level 3 fair value hierarchy.
     Senior notes: The fair value of the senior notes is based on trades as reported in Bloomberg. As of September 30, 2011, the 7.50% Senior Notes and 5.50% Senior Notes (each as defined in Note 8) were traded at 114.3% and 98.2% of their principal amount, providing an effective yield of 4.2% and 5.8%, respectively. The fair value of the senior notes is included in the Level 2 fair value hierarchy.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
     The following is a reconciliation of the beginning and ending balance of financial instruments using significant unobservable inputs
(Level 3):
                         
    Fair value measurement using significant  
    unobservable inputs (Level 3):  
    Other invested assets     Mortgage-backed     Asset-backed  
Three Months Ended September 30, 2011
                       
Opening balance
  $ 562,267     $ 216,660     $ 113,310  
Total realized and unrealized gains included in net income
    3,938       4,671       28  
Total realized and unrealized losses included in net income
    (38,667 )     (2,795 )     (1,402 )
Purchases
    29,553       46,077       328  
Sales
    (5,017 )     (7,021 )     (5,708 )
Transfers into Level 3
          18,170       1,351  
Transfers out of Level 3
          (28,299 )     (12,300 )
 
                 
Ending balance
  $ 552,074     $ 247,463     $ 95,607  
 
                 
Three Months Ended September 30, 2010
                       
Opening balance
  $ 319,592     $ 278,789     $ 103,555  
Total realized and unrealized gains included in net income
    6,093       6,448       406  
Total realized and unrealized losses included in net income
    (3,990 )     (1,548 )     (257 )
Change in unrealized gains included in Other Comprehensive Income (“OCI”)
          3,238       21  
Change in unrealized losses included in OCI
          (5,119 )     (2 )
Purchases
    6,580       1,115       2,177  
Sales
          (58,998 )     (1,803 )
Cumulative effect adjustment related to the adoption of ASU 2010-11
          1,796       (19 )
Transfers into Level 3
          6,773       5,294  
Transfers out of Level 3
          (3,257 )     (51,680 )
 
                 
Ending balance
  $ 328,275     $ 229,237     $ 57,692  
 
                 

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                         
    Fair value measurement using significant  
    unobservable inputs (Level 3):  
    Other invested assets     Mortgage-backed     Asset-backed  
Nine Months Ended September 30, 2011
                       
Opening balance
  $ 347,632     $ 172,558     $ 48,707  
Total realized and unrealized gains included in net income
    16,641       8,480       115  
Total realized and unrealized losses included in net income
    (38,877 )     (3,377 )     (903 )
Purchases
    274,893       108,681       115,745  
Sales
    (48,215 )     (50,308 )     (8,933 )
Transfers into Level 3
          104,255       34,152  
Transfers out of Level 3
          (92,826 )     (93,276 )
 
                 
Ending balance
  $ 552,074     $ 247,463     $ 95,607  
 
                 
 
                       
Nine Months Ended September 30, 2010
                       
Opening balance
  $ 184,725     $ 253,979     $ 104,871  
Total realized and unrealized gains included in net income
    8,233       15,928       573  
Total realized and unrealized losses included in net income
    (2,932 )     (41 )      
Change in unrealized gains included in OCI
          2,755       64  
Change in unrealized losses included in OCI
    138,249              
Purchases
          122,058       53,358  
Sales
          (178,226 )     (7,049 )
Cumulative effect adjustment related to the adoption of ASU 2010-11
          1,796       (19 )
Transfers into Level 3
          55,504       56,034  
Transfers out of Level 3
          (44,516 )     (150,140 )
 
                 
Ending balance
  $ 328,275     $ 229,237     $ 57,692  
 
                 
     The Company attempts to verify the significant inputs used by broker-dealers in determining the fair value of the securities priced by them. If the Company could not obtain sufficient information to determine if the broker-dealers were using significant observable inputs, such securities have been transferred to Level 3 fair value hierarchy. The Company believes the prices obtained from the broker-dealers are the best estimate of fair value of the securities being priced as the broker-dealers are typically involved in the initial pricing of the security, and the Company has compared the price per the broker-dealer to other pricing sources and noted no material differences.
     During the three and nine months ended September 30, 2011, the Company transferred $28,299 and $92,826 of mortgage-backed securities, respectively, and $12,300 and $93,276 of asset-backed securities, respectively, from Level 3 to Level 2 in the fair value hierarchy. During the three and nine months ended September 30, 2010, the Company transferred $3,257 and $44,516 of mortgage-backed securities, respectively, and $51,680 and $150,140 of asset-backed securities, respectively, from Level 3 to Level 2 in the fair value hierarchy. The Company transferred those securities as they no longer utilized broker-dealer quotes and instead used other pricing sources that have significant observable inputs. The Company recognizes transfers between levels at the end of the reporting period.
7. RESERVE FOR LOSSES AND LOSS EXPENSES
     The reserve for losses and loss expenses consists of the following:
                 
    September 30,     December 31,  
    2011     2010  
Outstanding loss reserves
  $ 1,404,996     $ 1,166,516  
Reserves for losses incurred but not reported
    3,840,557       3,712,672  
 
           
Reserve for losses and loss expenses
  $ 5,245,553     $ 4,879,188  
 
           

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
     The table below is a reconciliation of the beginning and ending liability for unpaid losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables.
                                 
    For the Three Months Ended     For the Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
Gross liability at beginning of period
  $ 5,251,304     $ 4,920,435     $ 4,879,188     $ 4,761,772  
Reinsurance recoverable at beginning of period
    (1,013,951 )     (932,435 )     (927,588 )     (919,991 )
 
                       
Net liability at beginning of period
    4,237,353       3,988,000       3,951,600       3,841,781  
 
                       
Net losses incurred related to:
                               
Commutation of variable-rated reinsurance contracts
                11,529       8,864  
Current year
    267,070       228,362       895,386       778,424  
Prior years
    (61,524 )     (101,374 )     (161,104 )     (239,424 )
 
                       
Total incurred
    205,546       126,988       745,811       547,864  
 
                       
Net paid losses related to:
                               
Current year
    43,723       37,291       65,002       70,701  
Prior years
    150,767       135,861       394,363       367,851  
 
                       
Total paid
    194,490       173,152       459,365       438,552  
 
                       
Foreign exchange revaluation
    (12,499 )     8,033       (2,136 )     (1,224 )
 
                       
Net liability at end of period
    4,235,910       3,949,869       4,235,910       3,949,869  
Reinsurance recoverable at end of period
    1,009,643       939,956       1,009,643       939,956  
 
                       
Gross liability at end of period
  $ 5,245,553     $ 4,889,825     $ 5,245,553     $ 4,889,825  
 
                       
     During the nine months ended September 30, 2011, the Company commuted certain variable-rated reinsurance contracts that have swing-rated provisions, reducing ceded losses by $11,529 in accordance with the terms of the contracts resulting in a net gain of $865.
     For the three months ended September 30, 2011, the Company had net favorable reserve development in each of its segments due to actual loss emergence being lower than the initial expected loss emergence. The majority of the net favorable reserve development was recognized in each segment in the 2004 through 2007 loss years related to the general casualty and professional liability insurance and reinsurance lines of business and the healthcare insurance line of business.
     For the nine months ended September 30, 2011, the Company had net favorable reserve development in each of its segments due to actual loss emergence being lower than the initial expected loss emergence. The majority of the net favorable reserve development was recognized in the international insurance and reinsurance segments in the 2004 through 2007 loss years related to the general casualty and professional liability insurance and reinsurance lines of business and the healthcare insurance line of business.
     For the three and nine months ended September 30, 2010, the Company had net favorable reserve development in each of its segments due to actual loss emergence being lower than the initial expected loss emergence. For the three and nine months ended September 30, 2010, the majority of the net favorable reserve development was recognized in the international insurance segment in the 2004 through 2006 loss years related to the general casualty, healthcare and professional liability lines of business.
     While the Company has experienced favorable development in its insurance and reinsurance lines, there is no assurance that conditions and trends that have affected the development of liabilities in the past will continue. It is not appropriate to extrapolate future redundancies based on prior years’ development. The methodology of estimating loss reserves is periodically reviewed to ensure that the key assumptions used in the actuarial models continue to be appropriate.
8. DEBT AND FINANCING ARRANGEMENTS
     In November 2010, Allied World Assurance Company Holdings, Ltd (“Allied World Bermuda”) issued $300,000 aggregate principal amount of 5.50% Senior Notes due November 10, 2020 (“5.50% Senior Notes”), with interest on the notes payable on May 15 and November 15 of each year commencing on May 15, 2011. The 5.50% Senior Notes were offered by the underwriters at a price of 98.89% of their principal amount, providing an effective yield to investors of 5.56%. The net proceeds from the offering of the 5.50% Senior Notes were used for general corporate purposes, including the repurchase of the Company’s outstanding common

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
shares. The 5.50% Senior Notes are Allied World Bermuda’s unsecured and unsubordinated obligations and rank equally in right of payment with all existing and future unsecured and unsubordinated indebtedness. Allied World Bermuda may redeem the 5.50% Senior Notes at any time or from time to time in whole or in part at a redemption price equal to the greater of the principal amount of the 5.50% Senior Notes to be redeemed or a make-whole price, plus accrued and unpaid interest. Allied World Bermuda has no current expectations of redeeming the notes prior to maturity. The 5.50% Senior Notes include covenants and events of default that are usual and customary, but do not contain any financial covenants.
     In 2006, Allied World Bermuda issued $500,000 aggregate principal amount of 7.50% Senior Notes due August 1, 2016 (“7.50% Senior Notes”), with interest on the notes payable on August 1 and February 1 of each year, commencing on February 1, 2007. The 7.50% Senior Notes were offered by the underwriters at a price of 99.71% of their principal amount, providing an effective yield to investors of 7.54%. The 7.50% Senior Notes can be redeemed by Allied World Bermuda prior to maturity subject to payment of a “make-whole” premium. Allied World Bermuda has no current expectations of redeeming the notes prior to maturity. The 7.50% Senior Notes include covenants and events of default that are usual and customary, but do not contain any financial covenants.
     The 5.50% Senior Notes and the 7.50% Senior Notes have been unconditionally and irrevocably guaranteed for the payment of the principal and interest by Allied World Switzerland.
     Allied World Assurance Company, Ltd has a collateralized amended letter of credit facility of $900,000 with Citibank Europe plc. that has been, and will continue to be, used to issue standby letters of credit.
     In addition, Allied World Bermuda entered into an $800,000 five-year senior credit facility (the “Credit Facility”) with a syndication of lenders that will terminate on November 27, 2012. The Credit Facility consists of a $400,000 secured letter of credit facility for the issuance of standby letters of credit (the “Secured Facility”) and a $400,000 unsecured facility for the making of revolving loans and for the issuance of standby letters of credit (the “Unsecured Facility”). Both the Secured Facility and the Unsecured Facility have options to increase the aggregate commitments by up to $200,000, subject to approval of the lenders. The Credit Facility will be used for general corporate purposes and to issue standby letters of credit. The Credit Facility contains representations, warranties and covenants customary for similar bank loan facilities, including a covenant to maintain a ratio of consolidated indebtedness to total capitalization as of the last day of each fiscal quarter or fiscal year of not greater than 0.35 to 1.0 and a covenant under the Unsecured Facility to maintain a certain consolidated net worth. In addition, each material insurance subsidiary must maintain a financial strength rating from A.M Best Company of at least A- under the Unsecured Facility and of at least B++ under the Secured Facility. Allied World Bermuda is in compliance with all covenants under the Credit Facility as of September 30, 2011 and December 31, 2010.
     There are a total of 13 lenders that make up the Credit Facility syndication and that have varying commitments ranging from $20,000 to $87,500. Of the 13 lenders, four have commitments of $87,500 each, four have commitments of $62,500 each, four have commitments of $45,000 each and one has a commitment of $20,000.
     In May 2010, Allied World Capital (Europe) Limited established an irrevocable standby letter of credit in order to satisfy funding requirements of the Company’s Lloyd’s Syndicate 2232. As of September 30, 2011 and December 31, 2010, the amount of the letter of credit was £67,400 ($105,333) and £53,700 ($82,838), respectively.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
9. GOODWILL AND INTANGIBLE ASSETS
     The following table shows an analysis of goodwill and intangible assets:
                                 
            Intangible              
            assets with     Intangible        
            indefinite     assets with        
    Goodwill     lives     finite lives     Total  
Net balance at December 31, 2009
  $ 268,376     $ 23,920     $ 36,439     $ 328,735  
Additions
                       
Amortization
                (3,483 )     (3,483 )
 
                       
Net balance at December 31, 2010
    268,376       23,920       32,956       325,252  
Additions
                       
Amortization
                (2,300 )     (2,300 )
 
                       
Net balance at September 30, 2011
    268,376       23,920       30,656       322,952  
 
                       
Gross balance
    268,532       23,920       48,200       340,652  
Accumulated amortization
                (10,678 )     (10,678 )
Accumulated impairments
    (156 )           (6,866 )     (7,022 )
 
                       
Net balance
  $ 268,376     $ 23,920     $ 30,656     $ 322,952  
 
                       
     The amortization of the intangible assets with definite lives for the remainder of 2011 and for the years ended December 31, 2012, 2013, 2014, 2015 and thereafter will be $678, $2,533, $2,533, $2,533, $2,533 and $19,846, respectively. The intangible assets will be amortized over the remaining weighted average useful life of 12.1 years.
10. INCOME TAXES
     Under Swiss law, a resident company is subject to income tax at the federal, cantonal and communal levels that is levied on net income. Income attributable to permanent establishments or real estate located abroad is excluded from the Swiss tax base. Allied World Switzerland is a holding company and, therefore, is exempt from cantonal and communal income tax. As a result, Allied World Switzerland is subject to Swiss income tax only at the federal level. Allied World Switzerland is a resident of the Canton of Zug and, as such, is subject to an annual cantonal and communal capital tax on the taxable equity of Allied World Switzerland in Switzerland. Allied World Switzerland has a Swiss operating company resident in the Canton of Zug. The operating company is subject to federal, cantonal and communal income tax and to annual cantonal and communal capital tax.
     Under current Bermuda law, Allied World Bermuda and its Bermuda subsidiaries are not required to pay taxes in Bermuda on either income or capital gains. Allied World Bermuda and Allied World Assurance Company, Ltd have received an assurance from the Bermuda Minister of Finance under the Exempted Undertakings Tax Protection Act 1966 of Bermuda, that in the event of any such taxes being imposed, Allied World Bermuda and Allied World Assurance Company, Ltd will be exempted until March 2035.
     Certain subsidiaries of Allied World Switzerland file U.S. federal income tax returns and various U.S. state income tax returns, as well as income tax returns in the United Kingdom, Ireland, Switzerland, Hong Kong and Singapore. The following tax years by jurisdiction are open to examination:
         
    Fiscal Years  
U.S. Internal Revenue Service for the U.S. subsidiaries
    2007 — 2010  
Inland Revenue for the U.K. branches
    2009 — 2010  
Irish Revenue Commissioners for the Irish subsidiaries
    2006 — 2010  
Swiss Federal Tax Administration for the Swiss branch
    2008 — 2010  
Inland Revenue Department for the Hong Kong branch
    2009 — 2010  
Inland Revenue Department for the Singapore branch
    2010  
     To the best of the Company’s knowledge, there are no income tax examinations pending by any tax authority.
     Management has deemed that all material tax positions will more likely than not be sustained based on technical merits if challenged. The Company does not expect any material unrecognized tax benefits within 12 months of January 2011.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
11. SHAREHOLDERS’ EQUITY
a) Authorized shares
     Allied World Switzerland’s articles of association authorize its Board of Directors to increase the share capital by a maximum amount of 20% of the share capital registered in the commercial register up to CHF 114,469 or 7,960,260 voting shares, and create conditional capital of 7,200,000 voting shares. The issued share capital consists of the following:
                 
    September 30,     December 31,  
    2011     2010  
Common shares issued and fully paid, 2011: CHF 14.38 per share; 2010: CHF 15.00 per share
    40,003,642       40,003,642  
 
           
Share capital at end of period
  $ 571,455     $ 600,055  
 
           
         
    Nine Months Ended  
    September 30, 2011  
Total shares issued at beginning and end of period
    40,003,642  
 
     
Treasury shares issued, balance at beginning of period
    1,914,416  
Shares repurchased
    969,163  
Shares issued out of treasury
    (1,025,494 )
 
     
Total treasury shares at end of period
    1,858,085  
 
     
Total shares outstanding at end of period
    38,145,557  
 
     
     As of September 30, 2011, there were outstanding 38,101,697 voting common shares and 43,860 non-voting common shares.
b) Share Warrants
     In conjunction with the private placement offering at the formation of Allied World Bermuda, Allied World Bermuda granted warrant agreements to certain founding shareholders to acquire up to 5,500,000 common shares at an exercise price of $34.20 per share. These warrants were exercisable in certain limited conditions, including a public offering of common shares, and were due to expire November 21, 2011. All warrants granted have been repurchased by the Company.
     In August 2010, Allied World Bermuda repurchased a warrant owned by The Chubb Corporation (“Chubb”) in a privately negotiated transaction. The warrant entitled Chubb to purchase 2,000,000 of Allied World Bermuda’s common shares for $34.20 per share. Allied World Bermuda repurchased the warrant for an aggregate purchase price of $32,819. In November 2010, Allied World Bermuda repurchased warrants owned by GS Capital Partners and other investment funds, which are affiliates of The Goldman Sachs Group, Inc. (“Goldman Sachs”) and founding shareholders in a privately negotiated transaction. The warrants entitled Goldman Sachs to purchase 1,500,000 of Allied World Bermuda’s common shares for $34.20 per share. Allied World Bermuda repurchased the warrants for an aggregate purchase price of $37,197. In February 2011, the Company repurchased the last outstanding warrant owned by American International Group, Inc. (“AIG”) in a privately negotiated transaction. The warrant entitled AIG to purchase 2,000,000 of the Company’s common shares for $34.20 per share. The Company repurchased the warrant for an aggregate purchase price of $53,620. The repurchases of the warrants were recognized as a reduction in “additional paid-in capital” on the consolidated balance sheets. The repurchases were executed separately from the share repurchase program discussed in Note 11(d) below. After these repurchases, Chubb, Goldman Sachs and AIG have no warrants remaining and no other disclosed equity interest in the Company.
c) Dividends
     Under Swiss law, distributions to shareholders may be paid only if the Company has sufficient distributable profits from previous fiscal years, or if the Company has freely distributable reserves, each as presented on the audited stand-alone statutory balance sheet. Distributions to shareholders out of the share and participation capital may be made by way of a capital reduction in the form of a reduction to par value to achieve a similar result as the payment of a dividend.
     On May 5, 2011, the shareholders approved the Company’s proposal to pay cash dividends in the form of a distribution by way of par value reductions. The aggregate reduction amount will be paid to shareholders in quarterly installments of $0.375 per share. The Company made such quarterly dividend payments of $14,295 on August 5, 2011 and $14,305 on October 7, 2011 to shareholders of record on July 27, 2011 and October 3, 2011, respectively. The amount of the par value reductions were CHF 0.30 and CHF 0.32 based on the exchange rate as of July 18, 2011 and September 19, 2011, respectively. The Company expects to distribute the

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
remaining quarterly installments in January 2012 and April 2012. Dividend payments are subject to Swiss law and other related factors described in the Company’s 2011 Proxy Statement and the Company’s other filings with the SEC.
     In February 2010, the Company declared a dividend of $0.20 per common share payable on April 1, 2010 to shareholders of record on March 16, 2010. This dividend payable amounted to $10,092. In May 2010, the Company declared a quarterly dividend of $0.20 per common share, payable on June 10, 2010 to shareholders of record on May 25, 2010. This dividend paid amounted to $10,017. In August 2010, the Company declared a dividend of $0.20 per common share payable on September 9, 2010 to shareholders of record on August 24, 2010. This dividend payable amounted to $8,665. The total dividends paid through September 30, 2010 amounted to $28,774.
d) Share repurchase
     In May 2010, the Company established a share repurchase program in order to repurchase its common shares. Repurchases may be effected from time to time through open market purchases, privately negotiated transactions, tender offers or otherwise. The timing, form and amount of the share repurchases under the program will depend on a variety of factors, including market conditions, the Company’s capital position, legal requirements and other factors. During the nine months ended September 30, 2011, the Company repurchased through open market purchases 969,163 shares at a total cost of $60,000 for an average price of $61.91 per share. No shares were repurchased during the three months ended September 30, 2011 because of the merger agreement with Transatlantic Holdings, Inc. (“Transatlantic”) which was subsequently terminated. These repurchased shares have been classified as “Treasury shares, at cost” on the consolidated balance sheets. The Company will issue shares out of treasury principally related to the Company’s employee benefit plans.
     In August 2010, the Company repurchased 5,000,000 of its common shares for $250,000, or $50.00 per share, in a privately negotiated transaction from Goldman Sachs. The shares repurchased were classified as “Treasury shares, at cost” on the consolidated balance sheets. In November 2010, the Company repurchased the remaining 3,159,793 common shares from Goldman Sachs for $185,448, or $58.69 per share. The repurchase price per common share is based on and reflects 0.5% discount from the volume-weighted average trading price of the Company’s common shares on November 5, 2010. These repurchases were executed separately from the Company’s share repurchase program discussed above.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
12. EMPLOYEE BENEFIT PLANS
a) Employee option plan
     The Company has implemented the Allied World Assurance Company Holdings, AG 2001 Employee Stock Option Plan (the “Plan”). Under the Plan, up to 4,000,000 common shares may be issued. Options under the Plan are exercisable in certain limited conditions, expire after 10 years, and generally vest pro-rata over four years from the date of grant. The exercise price of options issued are recommended by the Compensation Committee to the Board of Directors for approval but shall not be less than 100% of the fair market value of the common shares of Allied World Switzerland on the date the option award is granted.
                 
    Nine Months Ended September 30, 2011  
            Weighted Average  
    Options     Exercise Price  
Outstanding at beginning of period
    1,272,739     $ 38.77  
Granted
    494,885       61.51  
Exercised
    (140,792 )     37.77  
Forfeited
    (44,449 )     51.83  
Expired
    (1,198 )     43.00  
 
             
Outstanding at end of period
    1,581,185     $ 45.61  
 
             
     Assumptions used in the option-pricing model are as follows:
         
    Options Granted During  
    the Nine Months Ended  
    September 30, 2011  
Expected term of option
  5.48 years
Weighted average risk-free interest rate
    2.33 %
Weighted average expected volatility
    31.51 %
Dividend yield
    1.00 %
Weighted average fair value on grant date
  $ 18.27  
 
     
     The Company has assumed a weighted average annual forfeiture rate of 6.72% in determining the compensation expense over the service period.
     Compensation expense of $967 and $3,143 relating to the options has been included in “general and administrative expenses” in the Company’s consolidated income statements for the three and nine months ended September 30, 2011, respectively. Compensation expense of $706 and $2,256 relating to the options has been included in “general and administrative expenses” in the Company’s consolidated income statements for the three and nine months ended September 30, 2010, respectively. As of September 30, 2011 and December 31, 2010, the Company has recorded in “additional paid-in capital” on the consolidated balance sheets an amount of $42,017 and $41,505, respectively, in connection with all options granted.
b) Stock incentive plan
     The Company has implemented the Allied World Assurance Company Holdings, AG Third Amended and Restated 2004 Stock Incentive Plan (the “Stock Incentive Plan”). The Stock Incentive Plan provides for grants of restricted stock, restricted stock units (“RSUs”), dividend equivalent rights and other equity-based awards. A total of 2,000,000 common shares may be issued under the Stock Incentive Plan. To date, only RSUs have been granted. These RSUs generally vest pro-rata over four years from the date of grant or vest in the fourth or fifth year from the date of grant.
                 
    Nine Months Ended September 30, 2011  
            Weighted Average  
            Grant Date Fair  
    RSUs     Value  
Outstanding RSUs at beginning of period
    851,078     $ 39.88  
RSUs granted
    47,198       58.96  
Performance-based RSUs granted
    139,210       61.51  
RSUs forfeited
    (38,643 )     34.31  
RSUs fully vested
    (338,636 )     37.48  
 
             
Outstanding RSUs at end of period
    660,207     $ 47.01  
 
             

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
     The Company granted performance-based RSUs in lieu of utilizing the LTIP (as defined in Note 12(c)). The performance-based RSUs are structured in exactly the same form as shares issued under the LTIP in terms of vesting restrictions and achievement of established performance criteria. For the performance-based RSUs granted in 2010 and 2011, the Company anticipates that the performance goals are likely to be achieved. Based on the performance goals, the performance-based RSUs granted in 2010 and 2011 are expensed at 100% of the fair market value of Allied World Switzerland’s common shares on the date of grant. The expense is recognized over the performance period.
     Compensation expense of $2,698 and $10,227 relating to the issuance of the RSUs, including the performance-based RSUs, has been recognized in “general and administrative expenses” in the Company’s consolidated income statements for the three and nine months ended September 30, 2011, respectively. Compensation expense of $3,174 and $10,215 relating to the issuance of the RSUs, including the performance-based RSUs, has been recognized in “general and administrative expenses” in the Company’s consolidated income statements for the three and nine months ended September 30, 2010, respectively. The compensation expense for the RSUs is based on the fair market value of Allied World Switzerland’s common shares at the time of grant. The Company believes it is unlikely that performance-based RSUs will be forfeited as these awards are issued to senior management. Thus, no forfeiture rate is applied to the performance-based RSUs. The Company has assumed a weighted average annual forfeiture rate of 2.80%, excluding performance-based RSUs, in determining the compensation expense over the service period.
     As of September 30, 2011 and December 31, 2010, the Company has recorded $25,362 and $37,991, respectively, in “additional paid-in capital” on the consolidated balance sheets in connection with the RSUs awarded.
c) Long-term incentive plan
     The Company has implemented the Allied World Assurance Company Holdings, AG Third Amended and Restated Long-Term Incentive Plan (“LTIP”). Each award under the LTIP represents the right to receive a number of common shares in the future, based upon the achievement of established performance criteria during the applicable three-year performance period. A total of 2,000,000 common shares may be issued under the LTIP. The awards granted in 2009 will vest after the fiscal year ending December 31, 2011, subject to the achievement of the performance conditions and terms of the LTIP. The awards granted in 2008 generally vested after the fiscal year ended December 31, 2010, however, a portion of this award will vest after the fourth or fifth year from the original grant date, subject to the achievement of the performance conditions and terms of the LTIP.
                 
    Nine Months Ended September 30, 2011  
            Weighted Average  
            Grant Date Fair  
    LTIP     Value  
Outstanding LTIP awards at beginning of period
    773,411     $ 41.74  
Additional LTIP awards granted due to the achievement of 2008 — 2010 performance criteria
    212,938       43.27  
LTIP forfeited
    (19,750 )     41.39  
LTIP awards vested
    (642,563 )     43.25  
 
             
Outstanding LTIP awards at end of period
    324,036     $ 39.78  
 
             
     Compensation expense of $1,140 and $3,547 relating to the LTIP has been recognized in “general and administrative expenses” in the Company’s consolidated income statements for the three and nine months ended September 30, 2011, respectively. Compensation expense of $3,843 and $12,706 relating to the LTIP has been recognized in “general and administrative expenses” in the Company’s consolidated income statements for the three and nine months ended September 30, 2010, respectively. The decrease in compensation expense relating to LTIP is primarily the result of the Company issuing performance-based RSUs in lieu of LTIP as discussed in Note 12(b). The compensation expense for the LTIP is based on the fair market value of Allied World Switzerland’s common shares at the time of grant. The LTIP is deemed to be an equity plan and as such, $47,991 and $77,728 have been included in “additional paid-in capital” on the consolidated balance sheets as of September 30, 2011 and December 31, 2010, respectively.
     In calculating the compensation expense and in the determination of share equivalents for the purpose of calculating diluted earnings per share, it is estimated for the unvested LTIP awards granted in 2008 and 2009 that the maximum performance goals as set by the LTIP are likely to be achieved over the performance period. Based on the performance goals, the unvested LTIP awards granted in 2008 and 2009 are expensed at 150% of the fair market value of Allied World Switzerland’s common shares on the date of grant. The expense is recognized over the performance period.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
d) Cash-equivalent stock awards
     Since 2009, as part of the Company’s annual year-end compensation awards, the Company granted both stock-based awards and cash-equivalent stock awards. The cash-equivalent awards were granted to employees who received RSU, LTIP and performance- based RSU awards and were granted in lieu of granting the full award as a stock-based award. The cash-equivalent RSU awards vest pro-rata over four years from the date of grant. The cash-equivalent LTIP and performance-based RSU awards vest after a three-year performance period. As the cash-equivalent awards are settled in cash, we establish a liability equal to the product of the fair market value of Allied World Switzerland’s common shares as of the end of the reporting period and the total awards outstanding. The liability is included in “accounts payable and accrued expenses” in the balance sheets and changes in the liability are recorded in “general and administrative expenses” in the consolidated income statements. For the three and nine months ended September 30, 2011, the expense recognized for the cash-equivalent stock awards was $3,048 and $11,623, respectively. For the three and nine months ended September 30, 2010, the expense recognized for the cash-equivalent stock awards was $4,767 and $10,088, respectively.
     The following table shows the stock related compensation expense relating to the stock options, RSUs, LTIP and cash equivalent awards:
                                 
    For the Three Months Ended     For the Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
Stock Options
  $ 967     $ 706     $ 3,143     $ 2,256  
RSUs
    2,698       3,174       10,227       10,215  
LTIP
    1,140       3,843       3,547       12,706  
Cash-equivalent stock awards
    3,048       4,767       11,623       10,088  
 
                       
Total
  $ 7,853     $ 12,490     $ 28,540     $ 35,265  
 
                       
13. EARNINGS PER SHARE
     The following table sets forth the comparison of basic and diluted earnings per share:
                                 
    Three Months Ended     Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
Basic (loss) earnings per share:
                               
Net (loss) income
  $ (10,972 )   $ 254,520     $ 91,448     $ 572,219  
Weighted average common shares outstanding
    38,110,368       45,544,060       38,078,116       48,580,541  
 
                       
Basic (loss) earnings per share
  $ (0.29 )   $ 5.59     $ 2.40     $ 11.78  
 
                       
                                 
    Three Months Ended     Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
Diluted (loss) earnings per share:
                               
Net (loss) income
  $ (10,972 )   $ 254,520     $ 91,448     $ 572,219  
Weighted average common shares outstanding
    38,110,368       45,544,060       38,078,116       48,580,541  
Share equivalents:
                               
Warrants and options
          1,689,743       413,228       1,627,137  
Restricted stock units
          631,841       443,443       659,402  
LTIP awards
          974,347       823,778       1,020,310  
Employee stock purchase plan
                1,215        
 
                       
Weighted average common shares and common share equivalents outstanding — diluted
    38,110,368       48,839,991       39,759,780       51,887,390  
 
                       
Diluted (loss) earnings per share
  $ (0.29 )   $ 5.21     $ 2.30     $ 11.03  
 
                       
     For the three months ended September 30, 2011 there were no common share equivalents included in calculating diluted earnings per share as there was a net loss and any additional shares would prove to be anti-dilutive. For the nine months ended September 30, 2011, a weighted average of 608,662 employee stock options and 134,615 RSUs were considered anti-dilutive and were therefore excluded from the calculation of the diluted earnings per share.

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
     For the three months ended September 30, 2010, a weighted average of 482,979 employee stock options were considered anti-dilutive and were therefore excluded from the calculation of the diluted earnings per share. For the nine months ended September 30, 2010, a weighted average of 620,556 employee stock options were considered anti-dilutive and were therefore excluded from the calculation of the diluted earnings per share.
14. SEGMENT INFORMATION
     The determination of reportable segments is based on how senior management monitors the Company’s underwriting operations. Management monitors the performance of its direct underwriting operations based on the geographic location of the Company’s offices, the markets and customers served and the type of accounts written. The Company is currently organized into three operating segments: U.S. insurance, international insurance and reinsurance. All product lines fall within these classifications.
     The U.S. insurance segment includes the Company’s direct specialty insurance operations in the United States. This segment provides both direct property and specialty casualty insurance primarily to non-Fortune 1000 North American domiciled accounts. The international insurance segment includes the Company’s direct insurance operations in Bermuda, Europe, Singapore and Hong Kong. This segment provides both direct property and casualty insurance primarily to Fortune 1000 North American domiciled accounts and mid-sized to large non-North American domiciled accounts. The reinsurance segment includes the reinsurance of property, general casualty, professional liability, specialty lines and property catastrophe coverages written by insurance companies. The Company presently writes reinsurance on both a treaty and a facultative basis, targeting several niche reinsurance markets.
     Responsibility and accountability for the results of underwriting operations are assigned by major line of business within each segment. Because the Company does not manage its assets by segment, investment income, interest expense and total assets are not allocated to individual reportable segments. General and administrative expenses are allocated to segments based on various factors, including staff count and each segment’s proportional share of gross premiums written.
     Management measures results for each segment on the basis of the “loss and loss expense ratio,” “acquisition cost ratio,” “general and administrative expense ratio” and the “combined ratio.” The “loss and loss expense ratio” is derived by dividing net losses and loss expenses by net premiums earned. The “acquisition cost ratio” is derived by dividing acquisition costs by net premiums earned. The “general and administrative expense ratio” is derived by dividing general and administrative expenses by net premiums earned. The “combined ratio” is the sum of the “loss and loss expense ratio,” the “acquisition cost ratio” and the “general and administrative expense ratio.”

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
     The following tables provide a summary of the segment results:
                                 
            International              
Three Months Ended September 30, 2011   U.S. Insurance     Insurance     Reinsurance     Total  
Gross premiums written
  $ 201,522     $ 109,612     $ 131,564     $ 442,698  
Net premiums written
    157,310       61,386       131,564       350,260  
Net premiums earned
    150,474       80,175       140,691       371,340  
Other income
                       
Net losses and loss expenses
    (85,720 )     (43,666 )     (76,160 )     (205,546 )
Acquisition costs
    (19,549 )     343       (20,474 )     (39,680 )
General and administrative expenses
    (28,945 )     (21,558 )     (15,504 )     (66,007 )
 
                       
Underwriting income
    16,260       15,294       28,553       60,107  
Net investment income
                            47,883  
Net realized investment losses
                            (130,809 )
Other income — termination fee
                            35,000  
Net impairment charges recognized in earnings
                             
Amortization and impairment of intangible assets
                            (767 )
Interest expense
                            (13,748 )
Foreign exchange loss
                            (2,966 )
 
                             
Loss before income taxes
                          $ (5,300 )
 
                             
 
                               
Loss and loss expense ratio
    57.0 %     54.5 %     54.1 %     55.4 %
Acquisition cost ratio
    13.0 %     (0.4 %)     14.6 %     10.7 %
General and administrative expense ratio
    19.2 %     26.9 %     11.0 %     17.8 %
 
                       
Combined ratio
    89.2 %     81.0 %     79.7 %     83.9 %
 
                       
                                 
            International              
Three Months Ended September 30, 2010   U.S. Insurance     Insurance     Reinsurance     Total  
Gross premiums written
  $ 181,232     $ 100,858     $ 96,355     $ 378,445  
Net premiums written
    140,481       65,520       96,168       302,169  
Net premiums earned
    129,650       80,557       129,289       339,496  
Other income
                       
Net losses and loss expenses
    (55,144 )     (11,040 )     (60,804 )     (126,988 )
Acquisition costs
    (18,081 )     29       (23,867 )     (41,919 )
General and administrative expenses
    (31,781 )     (22,819 )     (15,271 )     (69,871 )
 
                       
Underwriting income
    24,644       46,727       29,347       100,718  
Net investment income
                            59,479  
Net realized investment gains
                            116,930  
Net impairment charges recognized in earnings
                             
Amortization and impairment of intangible assets
                            (892 )
Interest expense
                            (9,533 )
Foreign exchange gain
                            1,387  
 
                             
Income before income taxes
                          $ 268,089  
 
                             
 
                               
Loss and loss expense ratio
    42.5 %     13.7 %     47.0 %     37.4 %
Acquisition cost ratio
    13.9 %     0.0 %     18.5 %     12.3 %
General and administrative expense ratio
    24.5 %     28.3 %     11.8 %     20.6 %
 
                       
Combined ratio
    80.9 %     42.0 %     77.3 %     70.3 %
 
                       

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                 
            International              
Nine Months Ended September 30, 2011   U.S. Insurance     Insurance     Reinsurance     Total  
Gross premiums written
  $ 611,562     $ 399,530     $ 511,892     $ 1,522,984  
Net premiums written
    470,099       245,281       511,554       1,226,934  
Net premiums earned
    431,812       236,421       393,290       1,061,523  
Other income
                       
Net losses and loss expenses
    (294,146 )     (186,932 )     (264,733 )     (745,811 )
Acquisition costs
    (56,527 )     2,946       (67,152 )     (120,733 )
General and administrative expenses
    (90,997 )     (62,939 )     (47,228 )     (201,164 )
 
                       
Underwriting (loss) income
    (9,858 )     (10,504 )     14,177       (6,185 )
Net investment income
                            150,459  
Net realized investment losses
                            (21,555 )
Other income — termination fee
                            35,000  
Net impairment charges recognized in earnings
                             
Amortization and impairment of intangible assets
                            (2,300 )
Interest expense
                            (41,235 )
Foreign exchange loss
                            (3,708 )
 
                             
Income before income taxes
                          $ 110,476  
 
                             
 
                               
Loss and loss expense ratio
    68.1 %     79.1 %     67.3 %     70.3 %
Acquisition cost ratio
    13.1 %     (1.2 %)     17.1 %     11.4 %
General and administrative expense ratio
    21.1 %     26.6 %     12.0 %     19.0 %
 
                       
Combined ratio
    102.3 %     104.5 %     96.4 %     100.7 %
 
                       
                                 
            International              
Nine Months Ended September 30, 2010   U.S. Insurance     Insurance     Reinsurance     Total  
Gross premiums written
  $ 532,980     $ 389,881     $ 453,594     $ 1,376,455  
Net premiums written
    407,274       245,110       452,872       1,105,256  
Net premiums earned
    384,514       257,027       375,203       1,016,744  
Other income
    913                   913  
Net losses and loss expenses
    (222,767 )     (133,069 )     (192,028 )     (547,864 )
Acquisition costs
    (50,895 )     29       (69,775 )     (120,641 )
General and administrative expenses
    (89,578 )     (67,321 )     (44,524 )     (201,423 )
 
                       
Underwriting income
    22,187       56,666       68,876       147,729  
Net investment income
                            193,975  
Net realized investment gains
                            289,350  
Net impairment charges recognized in earnings
                            (168 )
Amortization and impairment of intangible assets
                            (2,675 )
Interest expense
                            (28,592 )
Foreign exchange loss
                            (248 )
 
                             
Income before income taxes
                          $ 599,371  
 
                             
 
                               
Loss and loss expense ratio
    57.9 %     51.8 %     51.2 %     53.9 %
Acquisition cost ratio
    13.2 %     0.0 %     18.6 %     11.9 %
General and administrative expense ratio
    23.3 %     26.2 %     11.9 %     19.8 %
 
                       
Combined ratio
    94.4 %     78.0 %     81.7 %     85.6 %
 
                       
     The following table shows an analysis of the Company’s net premiums written by geographic location of the Company’s subsidiaries. All inter-company premiums have been eliminated.

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Table of Contents

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                 
    Three Months Ended     Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
United States
  $ 201,475     $ 184,223     $ 680,049     $ 622,483  
Bermuda
    81,868       88,386       353,651       347,287  
Europe
    34,403       24,293       126,942       115,003  
Hong Kong
    (476 )     1,045       7,735       6,658  
Singapore
    32,990       4,222       58,557       13,825  
 
                       
Total net premiums written
  $ 350,260     $ 302,169     $ 1,226,934     $ 1,105,256  
 
                       
15. COMMITMENTS AND CONTINGENCIES
     Insurance balances receivable primarily consist of net premiums due from insureds and reinsureds. The Company believes that the counterparties to these receivables are able to meet, and will meet, all of their obligations. Consequently, the Company has not included any allowance for doubtful accounts against the receivable balance. Of the $607,270 in insurance balances receivable as of September 30, 2011, $3,668 was past due over 90 days, which represented 0.6% of the total balance. Of the $529,927 in insurance balances receivable as of December 31, 2010, $2,658 was past due over 90 days, which represented 0.5% of the total balance.
16. OTHER INCOME
     On September 15, 2011, the Company reached a mutual agreement with Transatlantic to terminate the previously announced merger agreement. Under the terms of the termination agreement, the Company received a termination fee of $35,000, which has been included within “Other income” on the consolidated income statements.
17. CONDENSED CONSOLIDATED GUARANTOR FINANCIAL STATEMENTS
     The following tables present unaudited condensed consolidating financial information for Allied World Switzerland (the “Parent Guarantor”) and Allied World Bermuda (the “Subsidiary Issuer”). The Subsidiary Issuer is a direct 100%-owned subsidiary of the Parent Guarantor. Investments in subsidiaries are accounted for by the Parent Guarantor under the equity method for purposes of the supplemental consolidating presentation. Earnings of subsidiaries are reflected in the Parent Guarantor’s investment accounts and earnings. The Parent Guarantor fully and unconditionally guarantees the 5.50% Senior Notes and the 7.50% Senior Notes issued by Subsidiary Issuer.

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Table of Contents

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
Unaudited Condensed Consolidating Balance Sheet:
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
As of September 30, 2011   Guarantor)     Issuer)     Subsidiaries     Adjustments     Consolidated  
ASSETS:
                                       
Investments
  $     $     $ 7,540,759     $     $ 7,540,759  
Cash and cash equivalents
    98,941       18,545       751,834             869,320  
Insurance balances receivable
                607,270             607,270  
Prepaid reinsurance
                218,514             218,514  
Reinsurance recoverable
                1,009,643             1,009,643  
Net deferred acquisition costs
                115,070             115,070  
Goodwill
                268,376             268,376  
Intangible assets
                54,576             54,576  
Balances receivable on sale of investments
                349,327             349,327  
Investments in subsidiaries
    2,935,337       3,767,463             (6,702,800 )      
Due (to) from subsidiaries
    (4,800 )     (6,886 )     11,686              
Other assets
    1,672       60,574       141,666       (53,620 )     150,292  
 
                             
Total assets
  $ 3,031,150     $ 3,839,696     $ 11,068,721     $ (6,756,420 )   $ 11,183,147  
 
                             
LIABILITIES:
                                       
Reserve for losses and loss expenses
  $     $     $ 5,245,553     $     $ 5,245,553  
Unearned premiums
                1,158,842             1,158,842  
Reinsurance balances payable
                95,463             95,463  
Balances due on purchases of investments
                754,451             754,451  
Senior notes
          797,885                   797,885  
Accounts payable and accrued liabilities
    28,075       13,601       86,203             127,879  
 
                             
Total liabilities
    28,075       811,486       7,340,512             8,180,073  
 
                             
Total shareholders’ equity
    3,003,075       3,028,210       3,728,209       (6,756,420 )     3,003,074  
 
                             
Total liabilities and shareholders’ equity
  $ 3,031,150     $ 3,839,696     $ 11,068,721     $ (6,756,420 )   $ 11,183,147  
 
                             

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Table of Contents

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
As of December 31, 2010   Guarantor)     Issuer)     Subsidiaries     adjustments     Consolidated  
ASSETS:
                                       
Investments
  $     $     $ 7,183,554     $     $ 7,183,554  
Cash and cash equivalents
    138,488       125,663       492,844             756,995  
Insurance balances receivable
                529,927             529,927  
Prepaid reinsurance
                187,287             187,287  
Reinsurance recoverable
                927,588             927,588  
Net deferred acquisition costs
                96,803             96,803  
Goodwill
                268,376             268,376  
Intangible assets
                56,876             56,876  
Balances receivable on sale of investments
                188,408             188,408  
Investments in subsidiaries
    2,944,975       3,635,741             (6,580,716 )      
Due (to) from subsidiaries
    (7,143 )     (9,419 )     16,562              
Other assets
          8,801       223,016             231,817  
 
                             
Total assets
  $ 3,076,320     $ 3,760,786     $ 10,171,241     $ (6,580,716 )   $ 10,427,631  
 
                             
LIABILITIES:
                                       
Reserve for losses and loss expenses
  $     $     $ 4,879,188     $     $ 4,879,188  
Unearned premiums
                962,203             962,203  
Reinsurance balances payable
                99,732             99,732  
Balances due on purchases of investments
                506,978             506,978  
Senior notes
          797,700                   797,700  
Accounts payable and accrued liabilities
    500       18,111       87,399             106,010  
 
                             
Total liabilities
    500       815,811       6,535,500             7,351,811  
 
                             
Total shareholders’ equity
    3,075,820       2,944,975       3,635,741       (6,580,716 )     3,075,820  
 
                             
Total liabilities and shareholders’ equity
  $ 3,076,320     $ 3,760,786     $ 10,171,241     $ (6,580,716 )   $ 10,427,631  
 
                             

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Table of Contents

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
Unaudited Condensed Consolidating Income Statement:
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
For the Three Months Ended September 30, 2011   Guarantor)     Issuer)     Subsidiaries     Adjustments     Consolidated  
REVENUES:
                                       
Gross premiums written
  $     $     $ 442,698     $     $ 442,698  
Premiums ceded
                (92,438 )           (92,438 )
 
                             
Net premiums written
                350,260             350,260  
Change in unearned premiums
                21,080             21,080  
 
                             
Net premiums earned
                371,340             371,340  
Net investment income
    7       3       47,873             47,883  
Net realized investment losses
                (130,809 )           (130,809 )
Other income
    35,000                         35,000  
 
                             
 
    35,007       3       288,404             323,414  
 
                             
EXPENSES:
                                       
Net losses and loss expenses
                205,546             205,546  
Acquisition costs
                39,680             39,680  
General and administrative expenses
    2,110       913       62,984             66,007  
Amortization and impairment of intangible assets
                767             767  
Interest expense
          13,748                   13,748  
Foreign exchange loss (gain)
    (10 )     907       2,069             2,966  
Income tax expense
    2,730             2,942             5,672  
 
                             
 
    4,830       15,568       313,988             334,386  
 
                             
Income (loss) before equity in earnings of consolidated subsidiaries
    30,177       (15,565 )     (25,584 )           (10,972 )
Equity in earnings of consolidated subsidiaries
    (41,148 )     (26,615 )           67,763        
 
                             
NET (LOSS) INCOME
  $ (10,971 )   $ (42,180 )   $ (25,584 )   $ 67,763     $ (10,972 )
 
                             

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Table of Contents

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
For the Three Months Ended September 30, 2010   Guarantor)     Issuer)     Subsidiaries     Adjustments     Consolidated  
REVENUES:
                                       
Gross premiums written
  $     $     $ 378,445     $     $ 378,445  
Premiums ceded
                (76,276 )           (76,276 )
 
                             
Net premiums written
                302,169             302,169  
Change in unearned premiums
                37,327             37,327  
 
                             
Net premiums earned
                339,496             339,496  
Net investment income
          22       59,457             59,479  
Net realized investment gains (losses)
                116,930             116,930  
Net impairment charges recognized in earnings
                             
Other income
                             
 
                             
 
          22       515,883             515,905  
 
                             
EXPENSES:
                                       
Net losses and loss expenses
                126,988             126,988  
Acquisition costs
                41,919             41,919  
General and administrative expenses
          3,174       66,697             69,871  
Amortization and impairment of intangible assets
                892             892  
Interest expense
          9,533                   9,533  
Foreign exchange gain
          (555 )     (832 )           (1,387 )
Income tax expense
                13,569             13,569  
 
                             
 
          12,152       249,233             261,385  
 
                             
Income (loss) before equity in earnings of consolidated subsidiaries
          (12,130 )     266,650             254,520  
Equity in earnings of consolidated subsidiaries
          266,650             (266,650 )      
 
                             
NET INCOME
  $     $ 254,520     $ 266,650     $ (266,650 )   $ 254,520  
 
                             

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Table of Contents

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
For the Nine Months Ended September 30, 2011   Guarantor)     Issuer)     Subsidiaries     Adjustments     Consolidated  
REVENUES:
                                       
Gross premiums written
  $     $     $ 1,522,984     $     $ 1,522,984  
Premiums ceded
                (296,050 )           (296,050 )
 
                             
Net premiums written
                1,226,934             1,226,934  
Change in unearned premiums
                (165,411 )           (165,411 )
 
                             
Net premiums earned
                1,061,523             1,061,523  
Net investment income
    51       25       150,383             150,459  
Net realized investment losses
                (21,555 )           (21,555 )
Net impairment charges recognized in earnings
                             
Other income
    35,000                         35,000  
 
                             
 
    35,051       25       1,190,351             1,225,427  
 
                             
EXPENSES:
                                       
Net losses and loss expenses
                745,811             745,811  
Acquisition costs
                120,733             120,733  
General and administrative expenses
    7,919       5,141       188,104             201,164  
Amortization and impairment of intangible assets
                2,300             2,300  
Interest expense
          41,235                   41,235  
Foreign exchange loss (gain)
    (11 )     1,131       2,588             3,708  
Income tax expense
    2,730             16,298             19,028  
 
                             
 
    10,638       47,507       1,075,834             1,133,979  
 
                             
Income (loss) before equity in earnings of consolidated subsidiaries
    24,413       (47,482 )     114,517             91,448  
Equity in earnings of consolidated subsidiaries
    67,035       114,243             (181,278 )      
 
                             
NET INCOME
  $ 91,448     $ 66,761     $ 114,517     $ (181,278 )   $ 91,448  
 
                             

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Table of Contents

ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
For the Nine Months Ended September 30, 2010   Guarantor)     Issuer)     Subsidiaries     Adjustments     Consolidated  
REVENUES:
                                       
Gross premiums written
  $     $     $ 1,376,455     $     $ 1,376,455  
Premiums ceded
                (271,199 )           (271,199 )
 
                             
Net premiums written
                1,105,256             1,105,256  
Change in unearned premiums
                (88,512 )           (88,512 )
 
                             
Net premiums earned
                1,016,744             1,016,744  
Net investment income
          43       193,932             193,975  
Net realized investment (losses) gains
          (3,958 )     293,308             289,350  
Net impairment charges recognized in earnings
                (168 )           (168 )
Other income
                913             913  
 
                             
 
          (3,915 )     1,504,729             1,500,814  
 
                             
EXPENSES:
                                       
Net losses and loss expenses
                547,864             547,864  
Acquisition costs
                120,641             120,641  
General and administrative expenses
          9,825       191,598             201,423  
Amortization and impairment of intangible assets
                2,675             2,675  
Interest expense
          28,592                   28,592  
Foreign exchange loss (gain)
          (555 )     803             248  
Income tax expense
                27,152             27,152  
 
                             
 
          37,862       890,733             928,595  
 
                             
Income (loss) before equity in earnings of consolidated subsidiaries
          (41,777 )     613,996             572,219  
Equity in earnings of consolidated subsidiaries
          613,996             (613,996 )      
 
                             
NET INCOME
  $     $ 572,219     $ 613,996     $ (613,996 )   $ 572,219  
 
                             

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
Unaudited Condensed Consolidating Cash Flows:
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
For the Nine Months Ended September 30, 2011   Guarantor)     Issuer)     Subsidiaries     Adjustments     Consolidated  
CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES:
                                       
Net income
  $ 91,448     $ 66,761     $ 114,517     $ (181,278 )   $ 91,448  
Adjustments to reconcile net income to cash provided by operating activities:
                                       
Equity in earnings of consolidated subsidiaries
    (67,035 )     (114,243 )           181,278        
Stock compensation expense
    650             16,267             16,917  
Amortization of discount on senior notes
          185                   185  
Other assets
    (1,673 )     (871 )     (180,114 )           (182,658 )
Accounts payable and accrued liabilities
    10,928       740       559,880             571,548  
Interest payable
          (5,250 )                 (5,250 )
 
                             
Net cash provided by (used in) operating activities
    34,318       (52,678 )     510,550             492,190  
 
                             
CASH FLOWS USED IN INVESTING ACTIVITIES:
                                       
Purchase of fixed maturity investments — available for sale
                (727 )           (727 )
Purchase of fixed maturity investments — trading
                (5,209,039 )           (5,209,039 )
Purchases of equity securities and other invested assets
                (611,930 )           (611,930 )
Sales of fixed maturity investments — available for sale
                627,392             627,392  
Sales of fixed maturity investments — trading
                4,772,552             4,772,552  
Sale of equity securities and other invested assets
                109,157             109,157  
Other
    (4,496 )           59,824             55,328  
 
                             
Net cash used in investing activities
    (4,496 )           (252,771 )           (257,267 )
 
                             
CASH FLOWS (USED IN) PROVIDED BY FINANCING ACTIVITIES:
                                       
Partial par value reduction
    (14,295 )                       (14,295 )
Proceeds from the exercise of stock options
    5,317                         5,317  
Share repurchase
    (60,000 )                       (60,000 )
Repurchase of founder warrants
          (53,620 )                 (53,620 )
Other
    (391 )     (820 )     1,211              
 
                             
Net cash (used in) provided by financing activities
    (69,369 )     (54,440 )     1,211             (122,598 )
 
                             
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    (39,547 )     (107,118 )     258,990             112,325  
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
    138,488       125,663       492,844             756,995  
 
                             
CASH AND CASH EQUIVALENTS, END OF PERIOD
  $ 98,941     $ 18,545     $ 751,834     $     $ 869,320  
 
                             

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ALLIED WORLD ASSURANCE COMPANY HOLDINGS, AG
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Expressed in thousands of United States dollars, except share, per share, percentage and ratio information)
                                         
    Allied World     Allied World                      
    Switzerland     Bermuda     Other Allied             Allied World  
    (Parent     (Subsidiary     World     Consolidating     Switzerland  
For the Nine Months Ended September 30, 2010   Guarantor)     Issuer)     Subsidiaries     Adjustments     Consolidated  
CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES:
                                       
Net income
  $     $ 572,219     $ 613,996     $ (613,996 )   $ 572,219  
Adjustments to reconcile net income to cash provided by operating activities:
                                       
Equity in earnings of consolidated subsidiaries
          (613,996 )           613,996        
Dividends received from subsidiaries
          540,000             (540,000 )      
Stock compensation expense
          428       24,749             25,177  
Amortization of discount on senior notes
          98                   98  
Other assets
          (443 )     (361,840 )           (362,283 )
Accounts payable and accrued liabilities
          (16,615 )     190,959             174,344  
Interest payable
          9,375                   9,375  
 
                             
Net cash provided by (used in) operating activities
          491,066       467,864       (540,000 )     418,930  
 
                             
CASH FLOWS USED IN INVESTING ACTIVITIES:
                                       
Purchase of fixed maturity investments — available for sale
                (138,918 )           (138,918 )
Purchase of fixed maturity investments — trading
                (8,739,173 )           (8,739,173 )
Purchases of equity securities and other invested assets
                (261,178 )           (261,178 )
Sales of fixed maturity investments - available for sale
                2,057,431             2,057,431  
Sales of fixed maturity investments — trading
                7,583,380             7,583,380  
Sale of equity securities and other invested assets
                8,579             8,579  
Other
          (2,097 )     (288,307 )           (290,404 )
 
                             
Net cash used in investing activities
          (2,097 )     221,814             219,717  
 
                             
CASH FLOWS (USED IN) PROVIDED BY FINANCING ACTIVITIES:
                                       
Dividends paid
          (28,774 )     (540,000 )     540,000       (28,774 )
Proceeds from the exercise of stock options
          7,053                   7,053  
Stock repurchase
          (415,009 )                 (415,009 )
Other
          (32,819 )                 (32,819 )
 
                             
Net cash (used in) provided by financing activities
          (469,549 )     (540,000 )     540,000       (469,549 )
 
                             
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
          19,420       149,678             169,098  
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
          53,849       238,339             292,188  
 
                             
CASH AND CASH EQUIVALENTS, END OF PERIOD
  $     $ 73,269     $ 388,017     $     $ 461,286  
 
                             

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Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations.
     The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes included elsewhere in this Form 10-Q. References in this Form 10-Q to the terms “we,” “us,” “our,” “the company” or other similar terms mean the consolidated operations of Allied World Assurance Company Holdings, AG, a Swiss holding company, and our consolidated subsidiaries, unless the context requires otherwise. References in this Form 10-Q to the term “Allied World Switzerland” or “Holdings” means only Allied World Assurance Company Holdings, AG. References to “Allied World Bermuda” means only Allied World Assurance Company Holdings, Ltd, a Bermuda holding company. References to “our insurance subsidiaries” may include our reinsurance subsidiaries. References in this Form 10-Q to $ are to the lawful currency of the United States and to CHF are to the lawful currency of Switzerland. References in this Form 10-Q to Holdings’ “common shares” means its registered voting shares and non-voting participation certificates.
Note on Forward-Looking Statement
     This Form 10-Q and other publicly available documents may include, and our officers and representatives may from time to time make, projections concerning financial information and statements concerning future economic performance and events, plans and objectives relating to management, operations, products and services, and assumptions underlying these projections and statements. These projections and statements are forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995 and are not historical facts but instead represent only our belief regarding future events, many of which, by their nature, are inherently uncertain and outside our control. These projections and statements may address, among other things, our strategy for growth, product development, financial results and reserves. Actual results and financial condition may differ, possibly materially, from these projections and statements and therefore you should not place undue reliance on them. Factors that could cause our actual results to differ, possibly materially, from those in the specific projections and statements are discussed throughout this Management’s Discussion and Analysis of Financial Condition and Results of Operations and in “Risk Factors” in Item 1A. of Part I of our 2010 Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on March 1, 2011 (the “2010 Form 10-K”). We are under no obligation (and expressly disclaim any such obligation) to update or revise any forward-looking statement that may be made from time to time, whether as a result of new information, future developments or otherwise.
Overview
Our Business
     We write a diversified portfolio of property and casualty insurance and reinsurance internationally through our subsidiaries and branches based in Bermuda, Europe, Hong Kong, Singapore and the United States as well as our Lloyd’s Syndicate 2232. We manage our business through three operating segments: U.S. insurance, international insurance and reinsurance. As of September 30, 2011, we had approximately $11.2 billion of total assets, $3.0 billion of total shareholders’ equity and $3.8 billion of total capital, which includes shareholders’ equity and senior notes.
     During the three months ended September 30, 2011, we experienced rate increases on property lines which had experienced significant loss activity on a year-to-date basis. We also continued to see rate improvement on our general casualty line of business while rates continued to decline in some of our other casualty lines. We believe the premium rate decreases are generally due to increased competition and excess capacity over the past several years. Despite the challenging pricing environment, we believe that there are opportunities where certain products have adequate premium rates and that the expanded breadth of our operations allows us to target those classes of business. Given these trends, we continue to be selective in the insurance policies and reinsurance contracts we underwrite. Our consolidated gross premiums written increased by $64.3 million, or 17.0%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010, and our net income decreased by $265.5 million, or 104.3%, to a net loss of $11.0 million for the same three-month period primarily as a result of a negative total return from our investment portfolio of 1.1%, as well as losses of $27.0 million related to Hurricane Irene in the United States, and additional losses of $6.5 million developing from storms earlier in the year. Our consolidated gross premiums written increased by $146.6 million, or 10.7%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010, and our net income decreased by $480.7 million, or 84.0%, to $91.5 million for the same nine-month period. The decrease in net income for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010 was primarily due to lower total return from investments and higher net losses and loss expenses from property catastrophe losses of $158.2 million in the Asia-Pacific region, $47.9 million from the Midwestern U.S. storms and $27.0 million from Hurricane Irene.

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Recent Developments
     On September 15, 2011, we reached a mutual agreement with Transatlantic Holdings, Inc. (“Transatlantic”) to terminate our previously announced merger agreement. Under the terms of the termination agreement, we received a termination fee of $35.0 million plus a $13.3 million partial reimbursement for merger-related expenses, $2.6 million of which were incurred during the three months ended June 30, 2011. Transatlantic will also be obligated to pay us an additional $66.7 million if they enter into an agreement providing for a competing transaction, recommend or submit a competing transaction to their shareholders for adoption, or a transaction with respect to a competing transaction is consummated within 12 months of the termination.
Financial Highlights
                                 
    Three Months Ended September 30,     Nine Months Ended September 30,  
    2011     2010     2011     2010  
    ($ in millions except share, per share and percentage data)  
Gross premiums written
  $ 442.7     $ 378.4     $ 1,523.0     $ 1,376.4  
Net (loss) income
    (11.0 )     254.5       91.5       572.2  
Operating income
    86.2       143.5       89.0       300.5  
Basic earnings per share:
                               
Net (loss) income
  $ (0.29 )   $ 5.59     $ 2.40     $ 11.78  
Operating income
  $ 2.26     $ 3.15     $ 2.34     $ 6.19  
Diluted earnings per share:
                               
Net (loss) income
  $ (0.29) *   $ 5.21     $ 2.30     $ 11.03  
Operating income
  $ 2.19     $ 2.94     $ 2.24     $ 5.79  
Weighted average common shares outstanding:
                               
Basic
    38,110,368       45,544,060       38,078,116       48,580,541  
Diluted
    39,340,711 *     48,839,991       39,759,780       51,887,390  
Basic book value per common share
  $ 78.73     $ 78.81     $ 78.73     $ 78.81  
Diluted book value per common share
  $ 75.82     $ 72.40     $ 75.82     $ 72.40  
Annualized return on average equity (ROAE), net (loss) income
    (1.5 %)     31.0 %     4.1 %     24.2 %
Annualized ROAE, operating income
    11.5 %     17.5 %     4.0 %     12.7 %
 
*   Diluted weighted average common shares outstanding were only used in the calculation of diluted operating income per share. There were no common share equivalents included in calculating diluted earnings per share as there was a net loss and any additional shares would prove to be anti-dilutive.
Non-GAAP Financial Measures
     In presenting the company’s results, management has included and discussed certain non-GAAP financial measures, as such term is defined in Item 10(e) of Regulation S-K promulgated by the SEC. Management believes that these non-GAAP measures, which may be defined differently by other companies, better explain the company’s results of operations in a manner that allows for a more complete understanding of the underlying trends in the company’s business. However, these measures should not be viewed as a substitute for those determined in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”).
Operating income & operating income per share
     Operating income is an internal performance measure used in the management of our operations and represents after-tax operational results excluding, as applicable, net realized investment gains or losses, net impairment charges recognized in earnings, net foreign exchange gain or loss, impairment of intangible assets and other non-recurring items. We exclude net realized investment gains or losses, net impairment charges recognized in earnings, net foreign exchange gain or loss and any other non-recurring items from our calculation of operating income because these amounts are heavily influenced by and fluctuate in part according to the availability of market opportunities and other factors. We exclude impairment of intangible assets as these are non-recurring charges. We have excluded from our operating income the $35.0 million termination fee received resulting from our previously announced

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merger agreement with Transatlantic as this is a non-recurring item. In addition to presenting net income determined in accordance with U.S. GAAP, we believe that showing operating income enables investors, analysts, rating agencies and other users of our financial information to more easily analyze our results of operations and our underlying business performance. Operating income should not be viewed as a substitute for U.S. GAAP net income. The following is a reconciliation of operating income to its most closely related U.S. GAAP measure, net income.
                                 
    Three Months Ended September 30,     Nine Months Ended September 30,  
    2011     2010     2011     2010  
            ($ in millions except per share data)          
Net (loss) income
  $ (11.0 )   $ 254.5     $ 91.5     $ 572.2  
Add after tax effect of:
                               
Net realized investment losses (gains)
    126.5       (109.6 )     26.1       (272.0 )
Net impairment charges recognized in earnings
                      0.1  
Other income — termination fee
    (32.3 )           (32.3 )      
Foreign exchange loss (gain)
    3.0       (1.4 )     3.7       0.2  
 
                       
Operating income
  $ 86.2     $ 143.5     $ 89.0     $ 300.5  
 
                       
Basic per share data:
                               
Net (loss) income
  $ (0.29 )   $ 5.59     $ 2.40     $ 11.78  
Add after tax effect of:
                               
Net realized investment losses (gains)
    3.32       (2.41 )     0.69       (5.60 )
Net impairment charges recognized in earnings
                       
Other income — termination fee
    (0.85 )             (0.85 )        
Foreign exchange loss (gain)
    0.08       (0.03 )     0.10       0.01  
 
                       
Operating income
  $ 2.26     $ 3.15     $ 2.34     $ 6.19  
 
                       
Diluted per share data:
                               
Net (loss) income
  $ (0.29) *   $ 5.21     $ 2.30     $ 11.03  
Add after tax effect of:
                               
Net realized investment losses (gains)
    3.21       (2.24 )     0.66       (5.24 )
Net impairment charges recognized in earnings
                       
Other income — termination fee
    (0.82 )             (0.81 )        
Foreign exchange loss (gain)
    0.09       (0.03 )     0.09        
 
                       
Operating income
  $ 2.19     $ 2.94     $ 2.24     $ 5.79  
 
                       
 
*   Diluted weighted average common shares outstanding were only used in the calculation of diluted operating income per share. There were no common share equivalents included in calculating diluted earnings per share as there was a net loss and any additional shares would prove to be anti-dilutive.
Diluted book value per share
     We have included diluted book value per share because it takes into account the effect of dilutive securities; therefore, we believe it is an important measure of calculating shareholder returns.

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    As of September 30,  
    2011     2010  
    ($ in millions except share and per  
    share data)  
Price per share at period end
  $ 53.71     $ 56.59  
Total shareholders’ equity
  $ 3,003.1     $ 3,341.3  
Basic common shares outstanding
    38,145,557       42,394,576  
Add:
               
Unvested restricted share units
    256,672       580,706  
Performance based equity awards
    898,014       1,409,984  
Employee share purchase plan
    1,215        
Dilutive options/warrants outstanding
    1,107,305       4,563,380  
Weighted average exercise price per share
  $ 38.80     $ 34.69  
Deduct:
               
Options bought back via treasury method
    (799,914 )     (2,797,512 )
 
           
Common shares and common share equivalents outstanding
    39,608,849       46,151,134  
 
               
Basic book value per common share
  $ 78.73     $ 78.81  
Diluted book value per common share
  $ 75.82     $ 72.40  
Annualized return on average equity
     Annualized return on average shareholders’ equity (“ROAE”) is calculated using average equity, excluding the average after tax unrealized gains or losses on investments. We present ROAE as a measure that is commonly recognized as a standard of performance by investors, analysts, rating agencies and other users of our financial information.
     Annualized operating return on average shareholders’ equity is calculated using operating income and average shareholders’ equity, excluding the average after tax unrealized gains or losses on investments.
                                 
    Three Months Ended     Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
            ($ in millions except percentage data)          
Opening shareholders’ equity
  $ 3,044.4     $ 3,468.5     $ 3,075.8     $ 3,213.3  
Deduct: accumulated other comprehensive income
    (23.1 )     (138.3 )     (57.1 )     (149.8 )
 
                       
Adjusted opening shareholders’ equity
  $ 3,021.3     $ 3,330.2     $ 3,018.7     $ 3,063.5  
Closing shareholders’ equity
  $ 3,003.1     $ 3,341.3     $ 3,003.1     $ 3,341.3  
Deduct: accumulated other comprehensive income
    (17.8 )     (111.8 )     (17.8 )     (111.8 )
 
                       
Adjusted closing shareholders’ equity
  $ 2,985.3     $ 3,229.5     $ 2,985.3     $ 3,229.5  
 
                               
Average shareholders’ equity
  $ 3,003.3     $ 3,279.9     $ 3,002.0     $ 3,146.5  
Net (loss) income available to shareholders
  $ (11.0 )   $ 254.5     $ 91.5     $ 572.2  
Annualized return on average shareholders’ equity — net (loss) income available to shareholders
    (1.5 %)     31.0 %     4.1 %     24.2 %
 
                       
Operating income available to shareholders
  $ 86.2     $ 143.5     $ 89.0     $ 300.5  
Annualized return on average shareholders’ equity — operating income available to shareholders
    11.5 %     17.5 %     4.0 %     12.7 %
 
                       

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Relevant Factors
Revenues
     We derive our revenues primarily from premiums on our insurance policies and reinsurance contracts, net of any reinsurance or retrocessional coverage purchased. Insurance and reinsurance premiums are a function of the amounts and types of policies and contracts we write, as well as prevailing market prices. Our prices are determined before our ultimate costs, which may extend far into the future, are known. In addition, our revenues include income generated from our investment portfolio, consisting of net investment income and net realized investment gains or losses. Investment income is principally derived from interest and dividends earned on investments, partially offset by investment management expenses and fees paid to our custodian bank. Net realized investment gains or losses include gains or losses from the sale of investments, as well as the change in the fair value of investments that we mark-to-market through net income.
Expenses
     Our expenses consist largely of net losses and loss expenses, acquisition costs and general and administrative expenses. Net losses and loss expenses incurred are comprised of three main components:
    losses paid, which are actual cash payments to insureds and reinsureds, net of recoveries from reinsurers;
 
    outstanding loss or case reserves, which represent management’s best estimate of the likely settlement amount for known claims, less the portion that can be recovered from reinsurers; and
 
    reserves for losses incurred but not reported, or “IBNR”, which are reserves (in addition to case reserves) established by us that we believe are needed for the future settlement of claims. The portion recoverable from reinsurers is deducted from the gross estimated loss.
     Acquisition costs are comprised of commissions, brokerage fees and insurance taxes. Commissions and brokerage fees are usually calculated as a percentage of premiums and depend on the market and line of business. Acquisition costs are reported after (1) deducting commissions received on ceded reinsurance, (2) deducting the part of acquisition costs relating to unearned premiums and (3) including the amortization of previously deferred acquisition costs.
     General and administrative expenses include personnel expenses including stock-based compensation expense, rent expense, professional fees, information technology costs and other general operating expenses.
Ratios
     Management measures results for each segment on the basis of the “loss and loss expense ratio,” “acquisition cost ratio,” “general and administrative expense ratio,” “expense ratio” and the “combined ratio.” Because we do not manage our assets by segment, investment income, interest expense and total assets are not allocated to individual reportable segments. General and administrative expenses are allocated to segments based on various factors, including staff count and each segment’s proportional share of gross premiums written. The loss and loss expense ratio is derived by dividing net losses and loss expenses by net premiums earned. The acquisition cost ratio is derived by dividing acquisition costs by net premiums earned. The general and administrative expense ratio is derived by dividing general and administrative expenses by net premiums earned. The expense ratio is the sum of the acquisition cost ratio and the general and administrative expense ratio. The combined ratio is the sum of the loss and loss expense ratio, the acquisition cost ratio and the general and administrative expense ratio.
Critical Accounting Policies
     It is important to understand our accounting policies in order to understand our financial position and results of operations. Our unaudited condensed consolidated financial statements reflect determinations that are inherently subjective in nature and require management to make assumptions and best estimates to determine the reported values. If events or other factors cause actual results to differ materially from management’s underlying assumptions or estimates, there could be a material adverse effect on our financial condition or results of operations. We believe that some of the more critical judgments in the areas of accounting estimates and assumptions that affect our financial condition and results of operations are related to reserves for losses and loss expenses, reinsurance recoverables, premiums and acquisition costs, valuation of financial instruments and goodwill and other intangible asset

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impairment valuation. For a detailed discussion of our critical accounting policies please refer to our 2010 Form 10-K. There were no material changes in the application of our critical accounting estimates subsequent to that report.
Results of Operations
     The following table sets forth our selected consolidated statement of operations data for each of the periods indicated.
                                 
    Three Months Ended     Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
            ($ in millions)          
Gross premiums written
  $ 442.7     $ 378.4     $ 1,523.0     $ 1,376.4  
 
                       
Net premiums written
  $ 350.3     $ 302.2     $ 1,226.9     $ 1,105.2  
 
                       
Net premiums earned
    371.3       339.5       1,061.5       1,016.7  
Net investment income
    47.9       59.5       150.5       194.0  
Net realized investment (losses) gains
    (130.8 )     116.9       (21.6 )     289.4  
Net impairment charges recognized in earnings
                      (0.2 )
Other income
    35.0             35.0       0.9  
 
                       
 
  $ 323.4     $ 515.9     $ 1,225.4     $ 1,500.8  
 
                       
Net losses and loss expenses
  $ 205.5     $ 127.0     $ 745.8     $ 547.9  
Acquisition costs
    39.7       41.9       120.7       120.6  
General and administrative expenses
    66.0       69.9       201.2       201.4  
Amortization and impairment of intangible assets
    0.8       0.9       2.3       2.7  
Interest expense
    13.7       9.5       41.2       28.6  
Foreign exchange loss (gain)
    3.0       (1.4 )     3.7       0.2  
 
                       
 
  $ 328.7     $ 247.8     $ 1,114.9     $ 901.4  
 
                       
(Loss) Income before income taxes
  $ (5.3 )   $ 268.1     $ 110.5     $ 599.4  
Income tax expense
    5.7       13.6       19.0       27.2  
 
                       
Net (loss) income
  $ (11.0 )   $ 254.5     $ 91.5     $ 572.2  
 
                       
Ratios
                               
Loss and loss expense ratio
    55.4 %     37.4 %     70.3 %     53.9 %
Acquisition cost ratio
    10.7 %     12.3 %     11.4 %     11.9 %
General and administrative expense ratio
    17.8 %     20.6 %     19.0 %     19.8 %
Expense ratio
    28.5 %     32.9 %     30.4 %     31.7 %
Combined ratio
    83.9 %     70.3 %     100.7 %     85.6 %
Comparison of Three Months Ended September 30, 2011 and 2010
Premiums
     Gross premiums written increased by $64.3 million, or 17.0%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The overall increase in gross premiums written was primarily the result of the following:
    Gross premiums written in our U.S. insurance segment increased by $20.3 million, or 11.2%. The increase in gross premiums written was primarily due to increased new business, including new products, specifically in our general casualty and inland marine lines of business. These gains were partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and increased competition.
 
    Gross premiums written in our international insurance segment increased by $8.7 million, or 8.6%, primarily as a result of increased premiums in our general casualty and professional lines of business and new business including new products. These gains were partially offset by the continued trend of the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and increased competition.

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    Gross premiums written in our reinsurance segment increased by $35.3 million, or 36.7%. The increase in gross premiums written was primarily due to the continued build-out of our international platform, primarily through our Lloyd’s syndicate and increased new business, including gross premiums written by our new global marine and specialty division. These gains were partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions).
     The table below illustrates our gross premiums written by geographic location for each of the periods indicated.
                                 
    Three Months Ended              
    September 30,     Dollar     Percentage  
    2011     2010     Change     Change  
    ($ in millions)        
United States
  $ 245.7     $ 225.0     $ 20.7       9.2 %
Bermuda
    113.7       113.2       0.5       0.4  
Europe
    47.6       34.2       13.4       39.2  
Singapore
    33.2       4.2       29.0       690.5  
Hong Kong
    2.5       1.8       0.7       38.9  
 
                         
 
  $ 442.7     $ 378.4     $ 64.3       17.0 %
 
                         
     Net premiums written increased by $48.1 million, or 15.9%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The increase in net premiums written was due to the increase in gross premiums written. The difference between gross and net premiums written is the cost to us of purchasing reinsurance coverage, including the cost of property catastrophe reinsurance coverage. We ceded 20.9% of gross premiums written for the three months ended September 30, 2011 compared to 20.2% for the same period in 2010.
     Net premiums earned increased by $31.8 million, or 9.4%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010 as a result of higher net premiums earned for the U.S. insurance and reinsurance segments. This is driven primarily by premium growth of our U.S. and reinsurance operations.
     We evaluate our business by segment, distinguishing between U.S. insurance, international insurance and reinsurance. The following chart illustrates the mix of our business on both a gross premiums written and net premiums earned basis.
                                 
    Gross     Net  
    Premiums     Premiums  
    Written     Earned  
    Three Months Ended September 30,  
    2011     2010     2011     2010  
U.S. insurance
    45.5 %     47.9 %     40.5 %     38.2 %
International insurance
    24.8 %     26.6 %     21.6 %     23.7 %
Reinsurance
    29.7 %     25.5 %     37.9 %     38.1 %
 
                       
Total
    100.0 %     100.0 %     100.0 %     100.0 %
 
                       
Net Investment Income
     Net investment income decreased by $11.6 million, or 19.5%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The decrease was due to lower yields on our fixed maturity investments as well as an increased allocation to equity securities and other invested assets that contribute to our total return but carry little or no current yield. The annualized period book yield of the investment portfolio for the three months ended September 30, 2011 and 2010 was 2.4% and 2.9%, respectively, and the financial statement total return of our investment portfolio was negative 1.1% for the three months ended September 30, 2011. Investment management expenses of $3.6 million and $2.3 million were incurred during the three months ended September 30, 2011 and 2010, respectively. The increase in investment management expenses was primarily due to the increase in the size of our investment portfolio, as well as expenses from higher expense asset classes (equities).
     As of September 30, 2011, approximately 93.9% of our fixed income investments consisted of investment grade securities. As of September 30, 2011, the average credit rating of our fixed income portfolio was AA- as rated by Standard & Poor’s and Aa3 as rated by Moody’s. As of December 31, 2010, average credit rating of our fixed income portfolio was AA as rated by Standard & Poor’s and Aa2 as rated by Moody’s. The average duration of fixed maturity investments and cash and cash equivalents was approximately 2.1 years as of September 30, 2011 and 2.5 years as of September 30, 2010.

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Realized Investment Gains/Losses and Net Impairment Charges Recognized in Earnings
     During the three months ended September 30, 2011, we recognized $130.8 million in net realized investment losses compared to net realized investment gains of $116.9 million during the three months ended September 30, 2010. During the three months ended September 30, 2011 and 2010, we did not recognize any net impairment charges. Net realized investment losses of $130.8 million for the three months ended September 30, 2011 were comprised of the following:
    Net realized investment gains of $8.4 million primarily from the sale of fixed maturity securities partially offset by realized losses on interest rate futures.
 
    Net realized investment losses of $139.2 million related to mark-to-market adjustments.
     The major contributions to the mark-to-market losses are shown below. In the fixed income portfolio, spread widening more than offset the decline in U.S. Treasury rates, causing lower prices on much of the fixed income portfolio.
         
    Mark-to-Market Adjustments  
    for the Three Months Ended  
    September 30, 2011  
    ($ in millions)  
Fixed maturity investments accounted for as trading securities
  $ 46.1  
Other invested assets and equity securities
    75.5  
Interest rate futures and foreign exchange forwards
    17.6  
 
     
Total
  $ 139.2  
 
     
     Although representing only 11.6% of our portfolio, the other invested assets and equity portfolios collectively generated mark-to-market losses of $75.5 million, as equity markets, represented by the S&P 500, were down 14.0% during the quarter.
     The change in stock market valuations and fixed income credit spreads are primarily attributable to two major events in the capital markets: the credit downgrade of the U.S. Treasury and related securities in early August; and the continued economic and political turmoil surrounding European sovereign and bank credit risk. The combination of these two events, including multiple downgrades of sovereign credits, caused investors to seek safe havens in specific sovereign bonds (U.S., Switzerland, Germany and Japan). The sale of stocks and corporate bonds, coupled with less favorable than expected economic data increased concerns about an additional “double dip” recession in the United States and throughout Europe.
     Net realized investment gains of $116.9 million for the three months ended September 30, 2010 were primarily comprised of the following:
    Net realized investment gains of $32.6 million from the sale of securities.
 
    Net realized investment gains of $84.3 million primarily related to the mark-to-market adjustments for our other invested assets, equity securities and fixed maturity investments that are accounted for as trading securities.
Other Income
     The other income of $35.0 million for the three months ended September 30, 2011 represented a termination fee from our previously announced merger agreement with Transatlantic. There was no other income for the three months ended September 30, 2010.
Net Losses and Loss Expenses
     Net losses and loss expenses increased by $78.5 million, or 61.8%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The increase in net losses and loss expenses was due to lower net favorable prior year reserve development during the three months ended September 30, 2011 and higher catastrophe loss activity. We recognized estimated losses from catastrophes of $33.5 million, which included $27.0 million related to Hurricane Irene in the United States in the third quarter of 2011, unfavorable reserve development of $5.0 million from storms in the Midwestern United States, and $1.5 million

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related to the Australian storms occurring in the first quarter of 2011. During the three months ended September 30, 2010, we recognized estimated losses of $12.0 million related to the earthquake in New Zealand.
     We recorded net favorable reserve development related to prior years of $61.6 million and $101.4 million during the three months ended September 30, 2011 and 2010, respectively. The following table shows the net favorable reserve development of $61.6 million by loss year for each of our segments for the three months ended September 30, 2011. In the table, a negative number represents net favorable reserve development and a positive number represents net unfavorable reserve development.
                                                                                 
    Loss Reserve Development by Loss Year  
    For the Three Months Ended September 30, 2011  
    2002     2003     2004     2005     2006     2007     2008     2009     2010     Total  
                                    ($ in millions)                                  
U.S. insurance
  $ (0.1 )   $ (0.7 )   $ (1.1 )   $ (6.8 )   $ (1.8 )   $ (4.4 )   $ (2.7 )   $ (2.0 )   $ (2.3 )   $ (21.9 )
International insurance
    (0.2 )     9.2       (3.6 )     (4.8 )     (11.3 )     (8.1 )     (6.8 )     (0.5 )     6.2       (19.9 )
Reinsurance
    0.3       (0.4 )     (3.1 )     (4.6 )     (3.1 )     (9.7 )     0.3       (0.1 )     0.6       (19.8 )
 
                                                           
 
  $     $ 8.1     $ (7.8 )   $ (16.2 )   $ (16.2 )   $ (22.2 )   $ (9.2 )   $ (2.6 )   $ 4.5     $ (61.6 )
 
                                                           
     The net favorable reserve development is a result of actual loss emergence being lower than anticipated. The unfavorable reserve development in our international insurance segment for the 2003 loss year was primarily due to a directors and officers claim within our professional liability line of business related to a securities fraud class action suit.
     The following table shows the net favorable reserve development of $101.4 million by loss year for each of our segments for the three months ended September 30, 2010.
                                                                         
    Loss Reserve Development by Loss Year  
    For the Three Months Ended September 30, 2010  
    2002     2003     2004     2005     2006     2007     2008     2009     Total  
                                    ($ in millions)                          
U.S. insurance
  $ (0.6 )   $ (0.8 )   $ (9.0 )   $ (7.5 )   $ (1.3 )   $ (1.6 )   $ (3.3 )   $ (1.4 )   $ (25.5 )
International insurance
    1.9       (2.5 )     (6.2 )     (26.0 )     (12.3 )     (4.5 )     (11.1 )     (0.1 )     (60.8 )
Reinsurance
    (0.5 )     (0.4 )     (0.1 )     (10.7 )     (5.7 )     (0.3 )     2.0       0.6       (15.1 )
 
                                                     
 
  $ 0.8     $ (3.7 )   $ (15.3 )   $ (44.2 )   $ (19.3 )   $ (6.4 )   $ (12.4 )   $ (0.9 )   $ (101.4 )
 
                                                     
     The loss and loss expense ratio for the three months ended September 30, 2011 was 55.4% compared to 37.4% for the three months ended September 30, 2010. Net favorable reserve development recognized during the three months ended September 30, 2011 reduced the loss and loss expense ratio by 16.6 percentage points. Thus, the loss and loss expense ratio related to the current loss year was 72.0%. Net favorable reserve development recognized during the three months ended September 30, 2010 reduced the loss and loss expense ratio by 29.9 percentage points. Thus, the loss and loss expense ratio related to that loss year was 67.3%. The increase in the loss and loss expense ratio for the current loss year was primarily due to the $33.5 million of losses from catastrophes recognized during the three months ended September 30, 2011, as previously discussed, which contributed 9.0 percentage points to the current period’s loss and loss expense ratio. In comparison, $20.6 million of large individual losses contributed 6.0 percentage points to the loss and loss expense ratio for the three months ended September 30, 2010.
     The following table shows the components of the increase in net losses and loss expenses of $78.5 million for each of the periods indicated.
                         
    Three Months Ended        
    September 30,        
    2011     2010     Dollar  
    ($ in millions)     Change  
Net losses paid
  $ 194.5     $ 173.2     $ 21.3  
Net change in reported case reserves
    (10.4 )     (18.1 )     7.7  
Net change in IBNR
    21.4       (28.1 )     49.5  
 
                 
Net losses and loss expenses
  $ 205.5     $ 127.0     $ 78.5  
 
                 
     The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables.

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    Three Months Ended  
    September 30,  
    2011     2010  
    ($ in millions)  
Net reserves for losses and loss expenses, July 1
  $ 4,237.4     $ 3,988.0  
Incurred related to:
               
Current period non-catastrophe
    233.6       228.4  
Current period property catastrophe
    33.5        
Prior period non-catastrophe
    (60.9 )     (96.1 )
Prior period property catastrophe
    (0.7 )     (5.3 )
 
           
Total incurred
  $ 205.5     $ 127.0  
Paid related to:
               
Current period non-catastrophe
    18.1       20.4  
Current period property catastrophe
    25.6       17.1  
Prior period non-catastrophe
    148.3       131.9  
Prior period property catastrophe
    2.5       3.8  
 
           
Total paid
  $ 194.5     $ 173.2  
Foreign exchange revaluation
    (12.5 )     8.0  
 
           
Net reserve for losses and loss expenses, September 30
    4,235.9       3,949.8  
Losses and loss expenses recoverable
    1,009.6       940.0  
 
           
Reserve for losses and loss expenses, September 30
  $ 5,245.5     $ 4,889.8  
 
           
Acquisition Costs
     Acquisition costs decreased by $2.2 million, or 5.3%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The decrease in acquisition costs was primarily due to a reduction in profit commissions of $4.8 million on our reinsurance business due to declining profitability resulting from increased loss activity in 2011. Acquisition costs as a percentage of net premiums earned were 10.7% for the three months ended September 30, 2011 compared to 12.3% for the same period in 2010.
General and Administrative Expenses
     General and administrative expenses decreased by $3.9 million, or 5.6%, for the three months ended September 30, 2011 compared to the same period in 2010. The decrease in general and administrative expenses was primarily due to a decrease in performance-based incentive compensation expenses and the reimbursement of merger-related expenses by Transatlantic, some of which were incurred during the second quarter of 2011.
     Our general and administrative expense ratio was 17.8% for the three months ended September 30, 2011, which was lower than the 20.6% for the three months ended September 30, 2010. The decrease was primarily due to the factors discussed above while net premiums earned increased.
     Our expense ratio was 28.5% for the three months ended September 30, 2011 compared to 32.9% for the three months ended September 30, 2010 primarily due to the decrease in the general and administrative expense ratio.
Amortization and Impairment of Intangible Assets
     The amortization and impairment of intangible assets decreased by $0.1 million, or 11.1%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The decrease was due to the non-compete covenants related to the acquisition of Darwin Professional Underwriters, Inc. (“Darwin”) being fully amortized during 2010. No impairment of intangible assets was recognized during the three months ended September 30, 2011 and 2010.

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Interest Expense
     Interest expense increased by $4.2 million, or 44.2%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010, primarily as a result of additional interest expense on our 5.50% senior notes that were issued by Allied World Bermuda in November 2010.
Net (Loss) Income
     Net loss for the three months ended September 30, 2011 was $11.0 million compared to net income of $254.5 million for the three months ended September 30, 2010. The decrease was primarily the result of net realized investment losses, higher net loss and loss expenses and lower net investment income partially offset by the receipt of the merger termination fee. Net loss for the three months ended September 30, 2011 included a net foreign exchange loss of $3.0 million and an income tax expense of $5.7 million. Net income for the three months ended September 30, 2010 included a net foreign exchange gain of $1.4 million and an income tax expense of $13.6 million.
Comparison of Nine Months Ended September 30, 2011 and 2010
Premiums
     Gross premiums written increased by $146.6 million, or 10.7%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The overall increase in gross premiums written was primarily the result of the following:
    Gross premiums written in our U.S. insurance segment increased by $78.6 million, or 14.7%. The increase in gross premiums written was primarily due to increased new business, including new products, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. These gains were partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and increased competition.
 
    Gross premiums written in our international insurance segment increased by $9.6 million, or 2.5%, due to increased premiums in our healthcare line and new business including new products. These gains were partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and increased competition.
 
    Gross premiums written in our reinsurance segment increased by $58.3 million, or 12.9%. The increase in gross premiums written was primarily due to increased new business, including gross premiums written by our new global marine and specialty division and the continued build-out of our international platform. These gains were partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions).
     The table below illustrates our gross premiums written by geographic location for each of the periods indicated.
                                 
    Nine Months Ended              
    September 30,     Dollar     Percentage  
    2011     2010     Change     Change  
    ($ in millions)        
United States
  $ 821.5     $ 748.2     $ 73.3       9.8 %
Bermuda
    462.0       449.7       12.3       2.7  
Europe
    169.9       157.3       12.6       8.0  
Singapore
    58.8       13.8       45.0       326.1  
Hong Kong
    10.8       7.4       3.4       45.9  
 
                         
 
  $ 1,523.0     $ 1,376.4     $ 146.6       10.7 %
 
                         
     Net premiums written increased by $121.7 million, or 11.0%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The increase in net premiums written was primarily due to the increase in gross premiums written. Premiums ceded were reduced by $12.4 million due to the commutation of certain variable-rated reinsurance contracts that have swing-rated provisions. In commuting these swing-rated reinsurance contracts, we reduced certain premiums previously ceded and also reduced ceded IBNR by $11.5 million in accordance with the terms of the contracts. During the nine months ended September 30,

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2010, net premiums written included a $9.3 million reduction in premiums ceded for the commutation of certain variable-rated reinsurance contracts.
     The difference between gross and net premiums written is the cost to us of purchasing reinsurance coverage, including the cost of property catastrophe reinsurance coverage. We ceded 19.4% of gross premiums written for the nine months ended September 30, 2011 compared to 19.7% for the same period in 2010. The decrease in the cession percentage was primarily due to the reduction of premiums ceded of $12.4 million during the nine months ended September 30, 2011 compared to $9.3 million during the nine months ended September 30, 2010 related to the commutation of certain swing-rated reinsurance contracts.
     Net premiums earned increased by $44.8 million, or 4.4%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. This was primarily a result of higher net premiums earned for the U.S. insurance segment and our reinsurance segment, driven by premium growth. Additionally, the commutation of swing-rated reinsurance contracts during the nine months ended September 30, 2011 added $12.4 million to net premiums earned compared to $9.3 million during the nine months ended September 30, 2010.
     We evaluate our business by segment, distinguishing between U.S. insurance, international insurance and reinsurance. The following chart illustrates the mix of our business on both a gross premiums written and net premiums earned basis.
                                 
    Gross     Net  
    Premiums     Premiums  
    Written     Earned  
    Nine Months Ended September 30,  
    2011     2010     2011     2010  
U.S. insurance
    40.2 %     38.7 %     40.7 %     37.8 %
International insurance
    26.2 %     28.3 %     22.3 %     25.3 %
Reinsurance
    33.6 %     33.0 %     37.0 %     36.9 %
 
                       
Total
    100.0 %     100.0 %     100.0 %     100.0 %
 
                       
Net Investment Income
     Net investment income decreased by $43.5 million, or 22.4%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The decrease was due to lower yields on our fixed maturity investments as well as an increased allocation to equity securities, other invested assets, which contribute to our total return but carry little or no current yield. We increased our equity and other invested assets by $526.2 million between September 30, 2010 and September 30, 2011. The annualized period book yield of the investment portfolio for the nine months ended September 30, 2011 and 2010 was 2.6% and 3.4%, respectively, and the financial statement total return of our investment portfolio was 1.1% for the nine months ended September 30, 2011. Investment management expenses of $10.2 million and $7.9 million were incurred during the nine months ended September 30, 2011 and 2010, respectively. The increase in investment management expenses was primarily due to the increase in the size of our investment portfolio, as well as expenses from higher expense asset classes (equities).
     As of September 30, 2011, approximately 93.9% of our fixed income investments consisted of investment grade securities. As of September 30, 2011, the average credit rating of our fixed income portfolio was AA- as rated by Standard & Poor’s and Aa3 as rated by Moody’s. As of December 31, 2010, average credit rating of our fixed income portfolio was AA as rated by Standard & Poor’s and Aa2 as rated by Moody’s. The average duration of fixed maturity investments and cash and cash equivalents was approximately 2.1 years as of September 30, 2011 and 2.5 years as of September 30, 2010.
Realized Investment Gains/Losses and Net Impairment Charges Recognized in Earnings
     During the nine months ended September 30, 2011, we recognized $21.6 million in net realized investment losses compared to net realized investment gains of $289.4 million during the nine months ended September 30, 2010. During the nine months ended September 30, 2011, we did not recognize any net impairment charges compared to $0.2 million during the nine months ended September 30, 2010. Net realized investment losses of $21.6 million for the nine months ended September 30, 2011 were comprised of the following:
    Net realized investment gains of $40.3 million primarily from the sale of fixed maturity securities due to the rebalancing of our portfolio.
 
    Net realized investment losses of $61.9 million related to mark-to-market adjustments.

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    Mark-to-Market Adjustments  
    for the Nine Months Ended  
    September 30, 2011  
    ($ in millions)  
Fixed maturity investments accounted for as trading securities
  $ 0.8  
Other invested assets and equity securities
    48.9  
Interest rate futures and foreign exchange forwards
    12.2  
 
     
Total
  $ 61.9  
 
     
     Net realized investment gains of $289.4 million for the nine months ended September 30, 2010 were comprised primarily of the following:
    Net realized investment gains of $149.7 million from the sale of securities.
 
    Net realized investment gains of $143.7 million primarily related to the mark-to-market adjustments for our other invested assets, equity securities and fixed maturity investments that are accounted for as trading securities.
 
    Net realized investment loss of $4.0 million related to a U.S. treasury yield hedge transaction.
Other Income
     The other income of $35.0 million for the nine months ended September 30, 2011 represented a termination fee from our previously announced merger agreement with Transatlantic.
     The other income of $0.9 million for the nine months ended September 30, 2010 represented fee income from our program administrator operations and our wholesale brokerage operations. We sold our wholesale brokerage operations during the third quarter of 2010.
Net Losses and Loss Expenses
     Net losses and loss expenses increased by $197.9 million, or 36.1%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The increase in net losses and loss expenses was due to higher catastrophe loss activity in the current period totaling $233.1 million, which included estimated net losses and loss expenses incurred of $89.5 million for the Tohoku earthquake and tsunami, $51.2 million for the New Zealand earthquake, $47.9 million for the Midwestern U.S. storms, $27.0 million for Hurricane Irene and $17.5 million for the Australian storms. During the nine months ended September 30, 2010, we incurred $142.4 million of net losses and loss expenses related to a number of earthquakes, explosions and weather-related events. We also recognized lower net favorable prior year reserve development for the nine months ended September 30, 2011 compared to September 30, 2010.
     We recorded net favorable reserve development related to prior years of $161.1 million and $239.4 million during the nine months ended September 30, 2011 and 2010, respectively. The $161.1 million of net favorable reserve development excludes the impact of the commutation of swing-rated reinsurance contracts of $11.5 million. The following table shows the net favorable reserve development of $161.1 million by loss year for each of our segments for the nine months ended September 30, 2011. In the table, a negative number represents net favorable reserve development and a positive number represents net unfavorable reserve development.
                                                                                 
    Loss Reserve Development by Loss Year  
    For the Nine Months Ended September 30, 2011  
    2002     2003     2004     2005     2006     2007     2008     2009     2010     Total  
                                    ($ in millions)                                  
U.S. insurance
  $ (0.2 )   $ (2.2 )   $ (4.5 )   $ (19.5 )   $ 22.0     $ (6.5 )   $ (3.5 )   $ (2.3 )   $ 6.8     $ (9.9 )
International insurance
    1.0       5.2       (4.6 )     (28.3 )     (25.6 )     (29.9 )     3.4       (7.8 )     26.1       (60.5 )
Reinsurance
    (0.3 )     (3.3 )     (7.0 )     (29.3 )     (15.4 )     (16.8 )     (2.7 )     (9.6 )     (6.3 )     (90.7 )
 
                                                           
 
  $ 0.5     $ (0.3 )   $ (16.1 )   $ (77.1 )   $ (19.0 )   $ (53.2 )   $ (2.8 )   $ (19.7 )   $ 26.6     $ (161.1 )
 
                                                           

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     The net favorable reserve development is a result of actual loss emergence being lower than anticipated. The unfavorable reserve development of $22.0 million in our U.S. insurance segment for the 2006 loss year was primarily due to directors and officers claims within our professional liability line of business related to a class action suit filed against a number of private equity firms alleging collusion.
     The unfavorable reserve development in our international insurance segment for the 2003 loss year was primarily due to a directors and officers claim within our professional liability line of business related to a securities fraud class action suit. The unfavorable reserve development in our international insurance segment for the 2010 loss year was primarily due to a casualty claim emanating from an oil field service risk.
     The following table shows the net favorable reserve development of $239.4 million by loss year for each of our segments for the nine months ended September 30, 2010. The $239.4 million of net favorable reserve development excludes the impact of the commutation of swing-rated reinsurance contracts of $8.9 million.
                                                                         
    Loss Reserve Development by Loss Year  
    For the Nine Months Ended September 30, 2010  
    2002     2003     2004     2005     2006     2007     2008     2009     Total  
    ($ in millions)  
U.S. insurance
  $ (1.1 )   $ (2.5 )   $ (23.4 )   $ (20.0 )   $ (3.7 )   $ 0.6     $ 0.6     $ (0.6 )   $ (50.1 )
International insurance
    4.5       (9.3 )     (21.0 )     (69.9 )     (23.6 )     (12.0 )     (14.4 )     4.2       (141.5 )
Reinsurance
    (1.0 )     (1.5 )     (10.0 )     (18.7 )     (6.8 )     (2.5 )     (0.2 )     (7.1 )     (47.8 )
 
                                                     
 
  $ 2.4     $ (13.3 )   $ (54.4 )   $ (108.6 )   $ (34.1 )   $ (13.9 )   $ (14.0 )   $ (3.5 )   $ (239.4 )
 
                                                     
     The loss and loss expense ratio for the nine months ended September 30, 2011 was 70.3% compared to 53.9% for the nine months ended September 30, 2010. Net favorable reserve development recognized and the impact of the commutation adjustment during the nine months ended September 30, 2011 reduced the loss and loss expense ratio by 15.3 percentage points. Thus, the loss and loss expense ratio related to the current loss year was 85.6%. Net favorable reserve development recognized and the impact of the commutation during the nine months ended September 30, 2010 reduced the loss and loss expense ratio by 23.5 percentage points. Thus, the loss and loss expense ratio related to that loss year was 77.4%. The increase in the loss and loss expense ratio for the current loss year was primarily due to the $233.1 million of losses from global catastrophes during the nine months ended September 30, 2011, as previously discussed, which contributed 22.0 percentage points to the current period’s loss and loss expense ratio.
     The following table shows the components of the increase in net losses and loss expenses of $197.9 million for each of the periods indicated.
                         
    Nine Months Ended        
    September 30,     Dollar  
    2011     2010     Change  
    ($ in millions)  
Net losses paid
  $ 459.3     $ 438.6     $ 20.7  
Net change in reported case reserves
    218.4       60.3       158.1  
Net change in IBNR
    68.1       49.0       19.1  
 
                 
Net losses and loss expenses
  $ 745.8     $ 547.9     $ 197.9  
 
                 
     The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables.

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    Nine Months Ended  
    September 30,  
    2011     2010  
    ($ in millions)  
Net reserves for losses and loss expenses, January 1
  $ 3,951.6     $ 3,841.8  
Incurred related to:
               
Commutation of variable-rated reinsurance contracts
    11.5       8.9  
Current period non-catastrophe
    662.3       713.4  
Current period property catastrophe
    233.1       65.0  
Prior period non-catastrophe
    (152.7 )     (229.5 )
Prior period property catastrophe
    (8.4 )     (9.9 )
 
           
Total incurred
  $ 745.8     $ 547.9  
Paid related to:
               
Current period non-catastrophe
    29.2       34.5  
Current period property catastrophe
    35.8       36.4  
Prior period non-catastrophe
    375.4       348.7  
Prior period property catastrophe
    18.9       19.0  
 
           
Total paid
  $ 459.3     $ 438.6  
Foreign exchange revaluation
    (2.2 )     (1.3 )
 
           
Net reserve for losses and loss expenses, September 30
    4,235.9       3,949.8  
Losses and loss expenses recoverable
    1,009.6       940.0  
 
           
Reserve for losses and loss expenses, September 30
  $ 5,245.5     $ 4,889.8  
 
           
Acquisition Costs
     Acquisition costs increased by $0.1 million, or 0.1%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The increase in acquisition costs was primarily due to the increase in net premiums earned. Acquisition costs as a percentage of net premiums earned were 11.4% for the nine months ended September 30, 2011 compared to 11.9% for the same period in 2010.
General and Administrative Expenses
     General and administrative expenses decreased by $0.2 million, or 0.1%, for the nine months ended September 30, 2011 compared to the same period in 2010. The decrease in general and administrative expenses was primarily due to a decrease in performance-based incentive compensation expenses.
     Our general and administrative expense ratio was 19.0% for the nine months ended September 30, 2011, which was lower than the 19.8% for the nine months ended September 30, 2010. The decrease was primarily due to the decrease in performance-based incentive compensation expenses as well as our expense management while net premiums earned increased.
     Our expense ratio was 30.4% for the nine months ended September 30, 2011 compared to 31.7% for the nine months ended September 30, 2010 primarily due to a decrease in the general and administrative expense ratio.
Amortization and Impairment of Intangible Assets
     The amortization and impairment of intangible assets decreased $0.4 million, or 14.8%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The decrease was due to the non-compete covenants related to the acquisition of Darwin being fully amortized during 2010. No impairment of intangible assets was recognized during the nine months ended September 30, 2011 and September 30, 2010, respectively.

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Interest Expense
     Interest expense increased $12.6 million, or 44.1%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010 primarily as a result of additional interest expense on our 5.50% senior notes that were issued by Allied World Bermuda in November 2010.
Net Income
     Net income for the nine months ended September 30, 2011 was $91.5 million compared to $572.2 million for the nine months ended September 30, 2010. The decrease was primarily the result of net realized investment losses, higher net loss and loss expenses, and lower net investment income. Net income for the nine months ended September 30, 2011 included a net foreign exchange loss of $3.7 million and an income tax expense of $19.0 million. Net income for the nine months ended September 30, 2010 included a net foreign exchange loss of $0.2 million and an income tax expense of $27.2 million.
Underwriting Results by Operating Segments
     Our company is organized into three operating segments:
     U.S. Insurance Segment. The U.S. insurance segment includes our direct specialty insurance operations in the United States. This segment provides both direct property and specialty casualty insurance primarily to non-Fortune 1000 North American domiciled accounts.
     International Insurance Segment. The international insurance segment includes our direct insurance operations in Bermuda, Europe, Singapore and Hong Kong. This segment provides both direct property and casualty insurance primarily to Fortune 1000 North American domiciled accounts and mid-sized to large non-North American domiciled accounts.
     Reinsurance Segment. Our reinsurance segment has operations in Bermuda, Europe, Singapore and the United States. This segment includes the reinsurance of property, general casualty, professional liability, specialty lines and property catastrophe coverages written by insurance companies. We presently write reinsurance on both a treaty and a facultative basis, targeting several niche reinsurance markets.
U.S. Insurance Segment
     The following table summarizes the underwriting results and associated ratios for the U.S. insurance segment for each of the periods indicated.
                                 
    Three Months Ended     Nine Months Ended  
    September 30,     September 30,  
    2011     2010     2011     2010  
    ($ in millions)
Revenues
                               
Gross premiums written
  $ 201.5     $ 181.2     $ 611.6     $ 533.0  
Net premiums written
    157.3       140.5       470.1       407.3  
Net premiums earned
    150.5       129.6       431.8       384.5  
Other income
                      0.9  
Expenses
                               
Net losses and loss expenses
  $ 85.7     $ 55.1     $ 294.2     $ 222.8  
Acquisition costs
    19.5       18.1       56.5       50.9  
General and administrative expenses
    29.0       31.8       91.0       89.6  
Underwriting income (loss)
    16.3       24.6       (9.9 )     22.1  
Ratios
                               
Loss and loss expense ratio
    57.0 %     42.5 %     68.1 %     57.9 %
Acquisition cost ratio
    13.0 %     13.9 %     13.1 %     13.2 %
General and administrative expense ratio
    19.2 %     24.5 %     21.1 %     23.3 %
Expense ratio
    32.2 %     38.4 %     34.2 %     36.5 %
Combined ratio
    89.2 %     80.9 %     102.3 %     94.4 %

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Comparison of Three Months Ended September 30, 2011 and 2010
     Premiums. Gross premiums written increased by $20.3 million, or 11.2%, for the three months ended September 30, 2011 compared to the same period in 2010. The increase in gross premiums written was primarily due to new business from existing products and $15.1 million in premiums from new products, specifically in our general casualty and inland marine lines of business, where we believe profitable underwriting opportunities exist. These gains were partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and increased competition.
     The table below illustrates our gross premiums written by line of business for each of the periods indicated.
                                 
    Three Months Ended              
    September 30,     Dollar     Percentage  
    2011     2010     Change     Change  
    ($ in millions)        
Professional liability
  $ 57.0     $ 52.3     $ 4.7       9.0 %
General casualty
    54.6       41.5       13.1       31.6  
Healthcare
    42.1       38.9       3.2       8.2  
Programs
    26.6       30.9       (4.3 )     (13.9 )
General Property
    14.9       13.3       1.6       12.0  
Other*
    6.3       4.3       2.0       46.5  
 
                         
 
  $ 201.5     $ 181.2     $ 20.3       11.2 %
 
                         
 
*   Includes our inland marine and environmental lines of business
     Net premiums written increased by $16.8 million, or 12.0%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The increase in net premiums written was primarily due to higher gross premiums written. We ceded 21.9% of gross premiums written for the three months ended September 30, 2011 compared to 22.5% for the same period in 2010.
     Net premiums earned increased by $20.9 million, or 16.1%, for the three months ended September 30, 2011 compared to the same period in 2010 primarily due to the growth of our U.S. insurance operations during 2010 and 2011.
     Net losses and loss expenses. Net losses and loss expenses increased by $30.6 million, or 55.5%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The increase in net losses and loss expenses was primarily due to the growth of the U.S. insurance operations and lower net favorable reserve development recognized. We recognized estimated losses from catastrophes of $3.5 million, which included $2.2 million for Hurricane Irene and additional losses of $1.3 million from storms earlier in the year.
     Overall, our U.S. insurance segment recorded net favorable reserve development of $21.9 million during the three months ended September 30, 2011 compared to net favorable reserve development of $25.5 million for the three months ended September 30, 2010, as shown in the tables below. In the tables, a negative number represents net favorable reserve development and a positive number represents net unfavorable reserve development.
                                                                                 
    Loss Reserve Development by Loss Year  
    For the Three Months Ended September 30, 2011  
    2002     2003     2004     2005     2006     2007     2008     2009     2010     Total  
    ($ in millions)  
Professional liability
  $     $ (0.1 )   $ (0.1 )   $ (0.6 )   $ (0.4 )   $ (2.3 )   $ (0.5 )   $ (1.3 )   $     $ (5.3 )
Healthcare
    (0.1 )     (0.4 )     (0.5 )     (0.2 )     (1.1 )     (0.5 )     (1.6 )           (1.0 )     (5.4 )
General casualty
          (0.2 )     (0.3 )     (5.8 )           1.0                   0.4       (4.9 )
General property
                (0.2 )     0.1             (1.1 )           (0.6 )     (1.8 )     (3.6 )
Programs
                      (0.3 )     (0.3 )     (1.5 )     (0.6 )     (0.1 )     0.1       (2.7 )
 
                                                           
 
  $ (0.1 )   $ (0.7 )   $ (1.1 )   $ (6.8 )   $ (1.8 )   $ (4.4 )   $ (2.7 )   $ (2.0 )   $ (2.3 )   $ (21.9 )
 
                                                           

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    Loss Reserve Development by Loss Year  
    For the Three Months Ended September 30, 2010  
    2002     2003     2004     2005     2006     2007     2008     2009     Total  
                            ($ in millions)                          
Professional liability
  $     $     $ (0.1 )   $ (3.6 )   $ (1.7 )   $ (0.1 )   $ (1.4 )   $ 0.2     $ (6.7 )
Healthcare
    (0.3 )     (0.4 )     (1.6 )     (2.8 )     0.4       (1.3 )     (2.1 )     (0.5 )     (8.6 )
General casualty
    (0.3 )     (0.3 )     (7.2 )     (1.0 )                             (8.8 )
General property
          (0.1 )     (0.1 )     (0.1 )           (0.1 )     0.2             (0.2 )
Programs
                                  (0.1 )           (1.1 )     (1.2 )
 
                                                     
 
  $ (0.6 )   $ (0.8 )   $ (9.0 )   $ (7.5 )   $ (1.3 )   $ (1.6 )   $ (3.3 )   $ (1.4 )   $ (25.5 )
 
                                                     
     The loss and loss expense ratio for the three months ended September 30, 2011 was 57.0% compared to 42.5% for the three months ended September 30, 2010. Net favorable reserve development recognized during the three months ended September 30, 2011 decreased the loss and loss expense ratio by 14.5 percentage points. Thus, the loss and loss expense ratio for the current loss year was 71.5%. In comparison, net favorable reserve development during the three months ended September 30, 2010 decreased the loss and loss expense ratio by 19.7 percentage points. Thus, the loss and loss expense ratio for that loss year was 62.2%. The increase in the loss and loss expense ratio for the current loss period was primarily due to $3.5 million of losses from catastrophes and $3.7 million for an environmental loss recognized during the three months ended September 30, 2011, which combined contributed 4.8 percentage points to the current period’s loss and loss expense ratio. There were no comparable events occurring during the three months ended September 30, 2010.
     The table below is a reconciliation of the beginning and ending reserves for losses and loss expenses. Losses incurred and paid are reflected net of reinsurance recoverables.
                 
    Three Months Ended  
    September 30,  
    2011     2010  
    ($ in millions)  
Net reserves for losses and loss expenses, July 1
  $ 1,158.6     $ 1,005.7  
Incurred related to:
               
Current period non-catastrophe
    104.1       80.6  
Current period property catastrophe
    3.5        
Prior period non-catastrophe
    (21.7 )     (25.8 )
Prior period property catastrophe
    (0.2 )     0.3  
 
           
Total incurred
  $ 85.7     $ 55.1  
Paid related to:
               
Current period non-catastrophe
    10.5       7.7  
Current period property catastrophe
    0.8        
Prior period non-catastrophe
    32.3       49.9  
Prior period property catastrophe
    0.2       1.1  
 
           
Total paid
  $ 43.8     $ 58.7  
Net reserve for losses and loss expenses, September 30
    1,200.5       1,002.1  
Losses and loss expenses recoverable
    435.0       380.1  
 
           
Reserve for losses and loss expenses, September 30
  $ 1,635.5     $ 1,382.2  
 
           
     Acquisition costs. Acquisition costs increased by $1.4 million, or 7.7%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The increase was primarily caused by increased net premiums earned. The acquisition cost ratio decreased to 13.0% for the three months ended September 30, 2011 from 13.9% for the same period in 2010.
     General and administrative expenses. General and administrative expenses decreased by $2.8 million, or 8.8%, for the three months ended September 30, 2011 compared to the three months ended September 30, 2010. The decrease in general and administrative expenses was primarily due to a decrease in performance-based incentive compensation expenses. The decrease in the general and administrative expense ratio from 24.5% for the three months ended September 30, 2010 to 19.2% for the same period in 2011 was primarily a result of our expense management, the decrease in performance-based incentive compensation expenses and increased net premiums earned.

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Comparison of Nine Months Ended September 30, 2011 and 2010
     Premiums. Gross premiums written increased by $78.6 million, or 14.7%, for the nine months ended September 30, 2011 compared to the same period in 2010. The increase in gross premiums written was primarily due to new business from existing products and higher volume from new products, specifically in our general casualty, environmental and inland marine lines of business, where we believe profitable underwriting opportunities exist. These gains were partially offset by the non-renewal of business that did not meet our underwriting requirements (which included inadequate pricing and/or terms and conditions) and increased competition.
     The table below illustrates our gross premiums written by line of business for each of the periods indicated.
                                 
    Nine months ended              
    September 30,     Dollar     Percentage  
    2011     2010     Change     Change  
    ($ in millions)        
Professional liability
  $ 170.8     $ 149.0     $ 21.8       14.6 %
General casualty
    152.1       108.0       44.1       40.8  
Healthcare
    137.7       127.5       10.2       8.0  
Programs
    66.8       81.9       (15.1 )     (18.4 )
General Property
    61.4       59.9       1.5       2.5  
Other*
    22.8       6.7       16.1       240.3  
 
                         
 
  $ 611.6     $ 533.0     $ 78.6       14.7 %
 
                         
 
*   Includes our inland marine and environmental lines of business
     Net premiums written increased by $62.8 million, or 15.4%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The increase in net premiums written was primarily due to higher gross premiums written and the commutation of certain variable-rated reinsurance contracts that have swing-rated provisions of $12.4 million. In commuting these swing-rated reinsurance contracts, we reduced certain premiums previously ceded and also reduced ceded losses by $11.5 million in accordance with the terms of the contracts. The net impact of the commutation was a net gain of $0.9 million. For the nine months ended September 30, 2010, the commutation of certain variable-rated reinsurance contracts reduced premiums ceded by $9.3 million. We ceded 23.1% of gross premiums written for the nine months ended September 30, 2011 compared to 23.6% for the same period in 2010. The decrease in the ceded premium ratio was primarily due to the commutation of certain variable-rated reinsurance contracts with swing-rated provisions of $12.4 million during the nine months ended September 30, 2011 compared to $9.3 million during the nine months ended September 30, 2010.
     Net premiums earned increased $47.3 million, or 12.3%, for the nine months ended September 30, 2011 compared to the same period in 2010 primarily due to the growth of our U.S. insurance operations during 2010 and 2011. Additionally, the commutation of swing-rated reinsurance contracts during the nine months ended September 30, 2011 added $12.4 million to net premiums earned compared to $9.3 million during the nine months ended September 30, 2010.
     Net losses and loss expenses. Net losses and loss expenses increased by $71.4 million, or 32.0%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The increase in net losses and loss expenses was primarily due to the growth of the U.S. insurance operations, lower prior year net favorable reserve development and unfavorable prior year reserve development in the 2006 loss year related to directors and officers claims within our professional liability line of business concerning a class action suit filed against a number of private equity firms alleging collusion. We recognized estimated losses from catastrophes of $8.5 million, which included $6.3 million developing from events earlier in the year and $2.2 million from Hurricane Irene.
     Overall, our U.S. insurance segment recorded net favorable reserve development of $9.9 million during the nine months ended September 30, 2011 compared to net favorable reserve development of $50.1 million for the nine months ended September 30, 2010, as shown in the tables below. The $9.9 million of net favorable reserve development recorded during the nine months ended September 30, 2011 excludes the impact of the commutation of swing-rated reinsurance contracts of $11.5 million. The $50.1 million of net favorable reserve development recorded during the nine months ended September 30, 2010 excludes the impact of the commutation of swing-rated reinsurance contracts of $8.9 million. In the tables, a negative number represents net favorable reserve development and a positive number represents net unfavorable reserve development.

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Table of Contents

                                                                                 
    Loss Reserve Development by Loss Year  
    For the Nine Months Ended September 30, 2011  
    2002     2003     2004     2005     2006     2007     2008     2009     2010     Total  
    ($ in millions)  
Professional liability
  $     $ (0.1 )   $ (0.2 )   $ (1.9 )   $ 23.7     $ (4.6 )   $     $ (4.1 )   $ 7.0     $ 19.8  
Healthcare
    (0.3 )     (1.4 )     (2.3 )     0.1       (1.4 )     0.2       (3.3 )     1.2       (1.9 )     (9.1 )
General casualty
    0.1       (0.7 )     (1.6 )     (16.9 )           1.0             0.1       0.4       (17.6 )
General property
                (0.4 )     (0.6 )           (1.1 )     (0.4 )     (0.6 )     (0.3 )     (3.4 )
Programs
                      (0.2 )     (0.3 )     (2.0 )     0.2       1.1       1.6       0.4  
 
                                                           
 
  $ (0.2 )   $ (2.2 )   $ (4.5 )   $ (19.5 )   $ 22.0     $ (6.5 )   $ (3.5 )   $ (2.3 )   $ 6.8     $ (9.9 )