Gen Re, which Berkshire acquired in 1998, traces its roots to the 1921 merger of two Norwegian companies that plied the reinsurance field at a time when many Americans disdained it as akin to gambling. Gen Re pioneered the concept in the U.S. It brought legitimacy to the business by adopting a conservatism that became its trademark: only accepting reinsurance business when policies satisfied rigorous standards for quantifiable risk that could be properly priced in the premium, only investing in assets of high quality and low risk, and building large reserves greater than required to assure ability to cover multiple catastrophes.
By the 1970s, that success drew competitors and induced large companies to form captive insurance arms to self-insure against property and casualty damage. Gen Re’s business volume and profits fell. Departing from its traditional fortitude, it tried to offset the decline by acquiring a primary insurer. It soon learned the perils of insurance companies chasing new business and abandoned the effort. A contemporary executive explained that insurance is “no place for fast-moving profit hounds and that survival [is] the real measure of success in a business that, in a sense, depends on disaster.”47
In the 1990s, globalization and financial industry growth again pressured Gen Re’s traditional model. In response, Gen Re, among the world’s largest reinsurers, expanded into financial products and asset management. In 1994, it acquired 75 percent of Germany’s Cologne Re,48 the world’s fifth largest reinsurer—also the oldest, dating to 1846. On the domestic side, in 1996, Gen Re acquired National Reinsurance Corporation (National Re), a top-twenty reinsurer that shared the company’s strong conservative values while catering to smaller companies.49
In December 1998, Berkshire paid $22 billion of Berkshire stock to acquire Gen Re, whose ownership of Cologne Re had inched up to 82 percent. Berkshire’s acquisition of Gen Re was a watershed event, for both Berkshire and the insurance industry. The takeover was seen as the deal of the decade for the industry, making Berkshire a major player in reinsurance. The acquisition resulted in 18 percent of Berkshire being owned by new owners (though many sold their shares), and Gen Re’s CEO, Ronald E. Ferguson, was invited to join the Berkshire board (though he declined).50 Berkshire was attracted to Gen Re because of its reputation for conservatism, integrity, and earnestness.
Disclaiming any ability to improve how Gen Re or Cologne Re ran their reinsurance businesses, Berkshire’s ownership would give Gen Re’s management maximum freedom to exploit its strengths. Standing alone, Gen Re’s freedom was constrained by pressure to avoid earnings volatility.51 It would sometimes decline good business opportunities out of a fear that occasional large losses would produce wide swings in results, which customers, shareholders, and analysts disfavor. Berkshire’s capital strength and long-term horizon immunize Gen Re from such concerns, enabling it to make business decisions on the merits of the proposition rather than under the pressure of short-term second-guessing.
Buffett had known Ferguson, Gen Re’s chief executive, for many years. Berkshire and Gen Re had done significant business with each other, and Gen Re had helped with GEICO’s 1976 resuscitation from near-death.52 What neither Buffett nor Ferguson knew, however, was that Gen Re’s reserving practices and underwriting discipline had slipped. It had under-reserved for the risks it covered. Underwriters used those low reserve figures to set prices on new policies. Ensuing losses exceeded premium revenues. Underwriters also pursued business they should have rejected, often through excessive concentration in particular risks. Earnestness had been compromised.
From 1999 to 2001, Gen Re incurred underwriting losses adding to $6.1 billion.53 That meant related float cost Berkshire money. It took a couple of years for the festering problems to become evident to Buffett, as it takes time for insurance policies to run their course. Fallout from the terrorist attacks of September 11, 2001, revealed Gen Re’s cultural problems. For example, the company had covered an intolerable concentration of nuclear, chemical, and biological risks. Losses ran so high and problems so deep that, but for Berkshire’s ownership of Gen Re, the costs of covering the destruction of September 11 might have put it out of business.54
Shortly before September 11, 2001, Buffett replaced Ferguson with Joseph P. Brandon, a bright forty-three-year-old Gen Re executive, and promoted forty-five-year-old Franklin (“Tad”) Montross, a long-time Gen Re underwriting manager, to president. Buffett gave this duo increased authority to rapidly correct past errors and return Gen Re to its traditional conservatism.55 Corrective measures began with installing incentive compensation plans tied to float growth and the cost of float. Today, these are the metrics that matter most at Gen Re.