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LIBERTY MUTUAL HOLDING COMPANY INC.
<br />Notes to Consolidated Financial Statements
<br />(dollars in millions, except per share amounts)
<br />(unaudited)
<br />(2) ACQUISITIONS AND GOODWILL
<br />On August 24, 2007 Liberty Mutual Group completed the acquisition of the Ohio Casualty Corporation ("Ohio Casualty'. Pursuant to the terms of the purchase
<br />agreement, the Company paid cash of $44.00 per share in exchange for all outstanding shares of the Ohio Casualty common stock for a total purchase price of $2,784.
<br />The results of operations for the acquired business are included in the financial statements subsequent to August 24, 2007. Net income for Ohio Casualty subsequent to
<br />acquisition was $57. The operations of Ohio Casualty merged into the Agency Markets strategic business unit. The Company believes that this acquisition will
<br />significantly strengthen Agency Mazkets' regional company independent agency business and enhance its relationship with its independent agents. Agency Mazkets is
<br />now the largest regional provider of property and casualty products distributed through independent agents in the United States.
<br />The total purchase price was allocated to the tangible and identifiable intangible assets acquired and liabilities assumed based on their estimated fats values. The excess of
<br />the purchase price over the aggregate fair values was recorded as goodwill. The fair value assigned to identifiable intangible assets acquired was primarily determined
<br />using the income approach, which discounts expected cash flows to present value using estimates and assumptions determined by management. The Company is in the
<br />process of finalizing the fair value of the acquired business and related restructuring efforts; therefore, the allocation of the purchase price is subject to refinement.
<br />Preliminary goodwill and intangible assets (including acquired in-force policy imangbles) recognized from the transaction was $1,479.
<br />ekes Si,gorta A.S
<br />On September 5, 2006, and during the course of the fourth quarter of 2006, the Company, through its Spanish subsidiary, Liberty Seguros Compania de Seguros y
<br />Reaseguros S.A. ("Liberty Seguros'"), acquired 90.425% of $eker Sigorta A.$., a mid-sized insurer located in Istanbul, Turkey. Goodwill recognized from the transaction
<br />was $102. The results of operations for the acquired business, which aze not material, are included in the financial statements subsequent to September 2006.
<br />(3) REINSURANCE
<br />The Company is party to retroactive reinsurance arrangements where a signiEcant portion of the consideration was retained on a "funds held" basis and interest is
<br />credited on the balance at a weighted average rate of approximately 7.7% annually. These contracts resulted in deferred gains (ncluding experience related profit accruals
<br />of $195) that are amortized into income using the effective interest method over the estimated settlement periods. At December 31, 2007, and 2006, defetted gains
<br />related to these reinsurance attangements were $786 and $839, respectively, and are included in other liabilities within the consolidated balance sheets. Interest credited
<br />to the funds held balances for the years ended December 31, 2007, 2006, and 2005 was $116, $125, and $113, respectively. Deferred gain amortization was $57, $95, and
<br />$89 for the years ended December 31, 2007, 2006, and 2005, respectively. Reinsurance recoverables related to these transactions including experience related profit
<br />accruals were $2,222 and $2,258 as of December 31, 2007, and 2006, respectively.
<br />Additionally, the Company has an aggregate stop loss program covering substantially all of Commercial Markets voluntary workers compensation business from the
<br />fourth quarter 2000 through the fourth quarter 2002 accident year periods. Under these contracts, losses in excess of a specified loss ratio are reinsured up to a maximum
<br />loss ratio and were accounted for as prospective reinsurance at inception. However, due to a material contract change at the January 1, 2002, renewal, any premium and
<br />loss activity subsequent to December 31, 2001, is accounted for as retroactive reinsurance for coverage provided from the fourth quarter 2000 through the fourth quarter
<br />2001 covered accident year periods. The retroactive portion of the aggregate stop loss program is included in the preceding paragraph. Approximately $(2) and $1 of
<br />additional (gains) losses were ceded to these retroactive and prospective contracts, respectively, during the year ended December 31, 2007, with additional premium of $1
<br />and $1, respectively. Approximately $45 and $32 of additional losses were ceded to these retroactive and prospective contracts, respectively, during the yeaz ended
<br />December 31, 2006, with additional premium of $29 and $23, respectively. Approximately $38 and $31 of additional losses were ceded to these retroactive and
<br />prospective contracts, respectively, during the year ended December 31, 2005, with additional premium of $24 and $22, respectively. The income statement impact of
<br />ceding the additional losses and premium on the fourth quarter 2000 through fourth quatter 2001 covered accident yeaz periods was deferred for GAAP purposes and is
<br />amortized into income using the effective interest method over the estimated settlement period.
<br />In 2006, Irberty Mutual Insurance Company ("LMIC'~ entered into multi-year property catastrophe reinsurance agreements with Mystic Re Ltd. ("Mystic Re's, a
<br />Cayman Islands domiciled reinsures, to provide $525 of additional reinsurance coverage for LMIC and its affiliates in the event of a Northeast hurricane. The
<br />reinsurance agreements are fully collateralized by proceeds received by Mystic Re from the issuance of catastrophe bonds and provide coverage for hurricane-related
<br />losses from Washington, D.C., to Maine based on industry insured losses as reported by Property Claim Services. In 2007, LMIC supplemented this reinsurance in a
<br />similar transaction with Mystic Re II Ltd. ("Mystic Re II'~ a Cayman Islands domiciled reinsures, to provide $150 of additional reinsurance coverage for LMIC and its
<br />affiliates in the event of a Northeast and/or Florida hurricane event. The Company has not recorded any recoveries under these programs. Neither Mystic Re nor
<br />Mystic Re II has any other reinsurance in force. Mystic Re and Mystic Re II are VII3s for which the Company is deemed not to be the primary beneficiary.
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