OCTAVE SPECIALTY GROUP INC 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations Following this summary is a discussion addressing the consolidated results of operations and financial condition of Ambac Financial Group, Inc. (“AFG”) for the periods indicated. References to “Ambac,” the “Company,” “we,” “our,” and “us” are to AFG and its subsidiaries, as the context requires. This discussion should be read in conjunction with Ambac’s Annual Report on Form 10-K for the year ended December 31, 2019 , the Cautionary Statement Pursuant To The Private Securities Litigation Reform Act Of 1995 below and Risk Factors set forth in Part II, Item 1A of this Form 10-Q and in Ambac’s Annual Report on Form 10-K for the year ended December 31, 2019 . This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) contains certain financial measures, in particular the presentation of Adjusted Earnings and Adjusted Book Value, which are not presented in accordance with U.S. generally accepted accounting principles (“GAAP”). We are presenting these non-GAAP financial measures because they provide greater transparency and enhanced visibility into the underlying drivers of our business. We do not intend for these non-GAAP financial measures to be a substitute for any GAAP financial measure and they may differ from similar reporting provided by other companies. Readers of this Form 10-Q should use these non-GAAP financial measures only in conjunction with the comparable GAAP financial measures. Adjusted Earnings and Adjusted Book Value are non-GAAP financial measures that adjust for the impact of certain non-recurring or non-economic GAAP accounting requirements and include the addition of certain items that the Company has or expects to realize in the future, but that are not reported under GAAP. We provide reconciliations to the most directly comparable GAAP measures; Adjusted Earnings to Net income attributable to common stockholders and Adjusted Book Value to Total Ambac Financial Group, Inc. stockholders’ equity. CAUTIONARY STATEMENT PURSUANT TO THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 Management has included in Parts I and II of this Quarterly Report on Form 10-Q, including this MD&A, statements that may constitute “forward-looking statements” within the meaning of the safe harbor provisions of the Private Securities Litigation Reform | Ambac Financial Group, Inc. 46 2020 Second Quarter FORM 10-Q | Act of 1995. Words such as “estimate,” “project,” “plan,” “believe,” “anticipate,” “intend,” “planned,” “potential” and similar expressions, or future or conditional verbs such as “will,” “should,” “would,” “could,” and “may,” or the negative of those expressions or verbs, identify forward-looking statements. We caution readers that these statements are not guarantees of future performance. Forward-looking statements are not historical facts but instead represent only our beliefs regarding future events, which may by their nature be inherently uncertain and some of which may be outside our control. These statements may relate to plans and objectives with respect to the future, among other things which may change. We are alerting you to the possibility that our actual results may differ, possibly materially, from the expected objectives or anticipated results that may be suggested, expressed or implied by these forward-looking statements. Important factors that could cause our results to differ, possibly materially, from those indicated in the forward-looking statements include, among others, those discussed under “Risk Factors” in Part I, Item 1A of the 2019 Annual Report on Form 10-K and in Part II, Item 1A of this quarterly Report on Form 10-Q. Any or all of management’s forward-looking statements here or in other publications may turn out to be incorrect and are based on management’s current belief or opinions. Ambac’s actual results may vary materially, and there are no guarantees about the performance of Ambac’s securities. Among events, risks, uncertainties or factors that could cause actual results to differ materially are: (1) the highly speculative nature of AFG’s common stock and volatility in the price of AFG’s common stock; (2) uncertainty concerning the Company’s ability to achieve value for holders of its securities, whether from Ambac Assurance Corporation ("Ambac Assurance") and its subsidiaries or from transactions or opportunities apart from Ambac Assurance and its subsidiaries, including new business initiatives; (3) changes in Ambac’s estimated representation and warranty recoveries or loss reserves over time; (4) failure to recover claims paid on Puerto Rico exposures or incurrence of losses in amounts higher than expected; (5) adverse effects on AFG’s share price resulting from future offerings of debt or equity securities that rank senior to AFG’s common stock; (6) potential of rehabilitation proceedings against Ambac Assurance; (7) dilution of current shareholder value or adverse effects on AFG’s share price resulting from the issuance of additional shares of common stock; (8) inadequacy of reserves established for losses and loss expenses and possibility that changes in loss reserves may result in further volatility of earnings or financial results; (9) increased fiscal stress experienced by issuers of public finance obligations or an increased incidence of Chapter 9 filings or other restructuring proceedings by public finance issuers, including an increased risk of loss on revenue bonds of distressed public finance issuers due to judicial decisions adverse to revenue bond holders; (10) Ambac's inability to realize the expected recoveries included in its financial statements; (11) insufficiency or unavailability of collateral to pay secured obligations; (12) credit risk throughout Ambac’s business, including but not limited to credit risk related to residential mortgage-backed securities, student loan and other asset securitizations, public finance obligations (including obligations of the Commonwealth of Puerto Rico and its instrumentalities and agencies) and exposures to reinsurers; (13) credit risks related to large single risks, risk concentrations and correlated risks; (14) the risk that the Ambac’s risk management policies and practices do not anticipate certain risks and/or the magnitude of potential for loss; (15) risks associated with adverse selection as Ambac’s insured portfolio runs off; (16) adverse effects on operating results or the Company’s financial position resulting from measures taken to reduce risks in its insured portfolio; (17) disagreements or disputes with Ambac's insurance regulators; (18) our inability to mitigate or remediate losses, commute or reduce insured exposures or achieve recoveries or investment objectives, or the failure of any transaction intended to accomplish one or more of these objectives to deliver anticipated results; (19) Ambac’s substantial indebtedness could adversely affect its financial condition and operating flexibility; (20) Ambac may not be able to obtain financing or raise capital on acceptable terms or at all due to its substantial indebtedness and financial condition; (21) Ambac may not be able to generate the significant amount of cash needed to service its debt and financial obligations, and may not be able to refinance its indebtedness; (22) restrictive covenants in agreements and instruments may impair Ambac's ability to pursue or achieve its business strategies; (23) loss of control rights in transactions for which we provide insurance due to a finding that Ambac has defaulted; (24) the impact of catastrophic environmental or natural events, including catastrophic public health events like the COVID-19 pandemic, on significant portions of our insured and investment portfolios; (25) adverse tax consequences or other costs resulting from the characterization of Ambac Assurance’s surplus notes or other obligations as equity; (26) risks attendant to the change in composition of securities in Ambac’s investment portfolio; (27) changes in prevailing interest rates; (28) the expected discontinuance of the London Inter-Bank Offered Rate; (29) factors that may influence the amount of installment premiums paid to Ambac; (30) default by one or more of Ambac 's portfolio investments, insured issuers or counterparties; (31) market risks impacting assets in the Ambac’s investment portfolio or the value of our assets posted as collateral in respect of interest rate swap transactions; (32) risks relating to determinations of amounts of impairments taken on investments; (33) the risk of litigation and regulatory inquiries or investigations, and the risk of adverse outcomes in connection therewith, which could have a material adverse effect on Ambac’s business, operations, financial position, profitability or cash flows; (34) actions of stakeholders whose interests are not aligned with broader interests of Ambac's stockholders; (35) system security risks, data protection breaches and cyber attacks; (36) changes in accounting principles or practices that may impact Ambac’s reported financial results; (37) the economic and regulatory impact of “Brexit”; (38) operational risks, including with respect to internal processes, risk and investment models, systems and employees, and failures in services or products provided by third parties; (39) Ambac’s financial position that may prompt departures of key employees and may impact the its ability to attract qualified executives and employees; (40) fluctuations in foreign currency exchange rates could adversely impact the insured portfolio in the event of loss reserves or claim payments denominated in a currency other than US dollars and the value of non-US dollar denominated securities in our investment portfolio; and (41) other risks and uncertainties that have not been identified at this time. EXECUTIVE SUMMARY Company Overview: See Note 1. Background and Business Description to the Unaudited Consolidated Financial Statements, included in Part I, Item 1 in this Form 10-Q and Note 1. Background and Business Description | Ambac Financial Group, Inc. 47 2020 Second Quarter FORM 10-Q | in the Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for a description of the Company and our key strategic priorities to achieve our primary goal to maximize stockholder value. Ambac Assurance and Subsidiaries: A key strategy for Ambac is to increase the value of its investment in Ambac Assurance by actively managing its assets and liabilities. Asset management primarily entails maximizing the risk adjusted return on non-VIE invested assets and managing liquidity to help ensure resources are available to meet operational and strategic cash needs. These strategic cash needs include activities associated with Ambac's liability management and loss mitigation programs. Asset Management: Investment portfolios are subject to internal investment guidelines, as well as limits on types and quality of investments imposed by applicable insurance laws and regulations. The investment portfolios of Ambac Assurance and Ambac UK hold fixed income securities, including distressed Ambac-insured securities, and various pooled investment funds. Refer to Note 8. Investments to the Unaudited Consolidated Financial Statements, included in Part I, Item 1 in this Form 10-Q for further details of fixed income investments by asset category and pooled investment funds by investment type. At June 30, 2020 , Ambac and its subsidiaries owned $574 million of distressed Ambac-insured bonds, including significant concentrations of insured Puerto Rico and RMBS bonds, and excluding Ambac's holdings of secured notes issued by Ambac LSNI. Subject to applicable internal and regulatory guidelines, market conditions and other constraints, Ambac may continue to opportunistically purchase or sell Ambac-insured securities. Liability and Insured Exposure Management: Ambac Assurance's Risk Management Group focuses on the implementation and execution of risk reduction, defeasance and loss recovery strategies. Analysts evaluate the estimated timing and severity of projected policy claims as well as the potential impact of loss mitigation or remediation strategies in order to target and prioritize policies, or portions thereof, for commutation, reinsurance, refinancing, restructuring or other risk reduction strategies. For targeted policies, analysts will engage with issuers, bondholders and other economic stakeholders to negotiate, structure and execute such strategies. During 2020, successful risk reduction transactions included: • A commutation in January 2020, via a refunding, of a watch list public finance transaction with net par outstanding of $171 million at December 31, 2019; • A refinancing in February 2020 of an adversely classified asset-backed leasing transaction with net par outstanding of $86 million at December 31, 2019; and • Purchasing quota share reinsurance in June 2020 on a transportation revenue credit with net par outstanding of $33 million at December 31, 2019. The following table provides a comparison of total, adversely classified ("ACC") and watch list credit net par outstanding in the insured portfolio at June 30, 2020 and December 31, 2019 . Net par exposure within the U.S. public finance market includes capital appreciation bonds which are reported at the par amount at the time of issuance of the insurance policy as opposed to the current accreted value of the bonds . ($ in millions) June 30, 2020 December 31, 2019 Variance Total $ 35,276 $ 38,018 $ (2,742 ) (7 )% ACC 8,756 7,535 1,221 16 % Watch list 5,238 6,752 (1,514 ) (22 )% The decrease in total net par outstanding resulted from active de-risking initiatives, including the transactions noted above, as well as scheduled maturities, amortizations, refundings and calls. Additionally, total net par outstanding reduced as a result of the weakening of British Pounds as compared to US Dollars. The increase in ACC exposures is primarily due to the addition of credits impacted by COVID-19 (including $1,002 million of net par outstanding from the Watch List category), such as hotel tax, stadium, convention center and public house insured transactions, partially offset by active de-risking and paydowns or calls by issuers. The decrease in Watch List net par outstanding resulted from active de-risking initiatives, including the transactions noted above, $970 million of net par outstanding downgraded to ACC due to COVID-19, as well as scheduled maturities, amortizations, refundings and calls. In addition, as a result of the economic impacts from the COVID-19 pandemic, $2,686 million of net par outstanding in sectors such as mass transit, toll roads, and private higher education, among others, have been added to the Survey List. The Survey List is a categorization for enhanced monitoring of currently performing credits. We continue to experience stress in our exposure to Puerto Rico that consists of several different issuing entities (all below investment grade). Each issuing entity has its own credit risk profile attributable to discreet revenue sources, direct general obligation pledges and general obligation guarantees. Refer to Part 1, Item 1 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for additional information regarding the different issuing entities that encompass Ambac's exposures to Puerto Rico. COVID-19 In March 2020, the outbreak of COVID-19, caused by a novel strain of the coronavirus, was recognized as a pandemic by the World Health Organization, and the outbreak is widespread globally, including in the markets in which we operate. The COVID-19 outbreak had and continues to have a notable impact on general economic conditions, including but not limited to higher unemployment; a broad based and significant decrease in asset valuations; closure or severe curtailment of the operations and hence, revenues, of many businesses and public and private enterprises to which we are directly or indirectly exposed, such as hotels, restaurants, sports and entertainment facilities, airports and other transportation facilities, and retail establishments, mostly due to shelter-in-place orders, social distancing guidelines, travel bans and restrictions, and business shutdowns. While many states eased restrictions during the later portion of the second quarter of 2020, | Ambac Financial Group, Inc. 48 2020 Second Quarter FORM 10-Q | various U.S. States reversed course in late June to impose or reimpose social distancing guidelines and close down businesses that had begun opening as a result of a rise in new confirmed cases of COVID-19, raising the prospect of a delayed recovery. In addition, in March 2020 a disagreement between Russia and Saudi Arabia over oil production quotas coupled with lower global demand as a result of the COVID-19 crisis led to volatility and overall lower oil prices which continued through the second quarter of 2020. In the U.S., monetary policy and fiscal stimulus, particularly the Coronavirus Aid, Relief and Economic Security ("CARES") Act, have temporarily helped moderate the economic impact of COVID-19, along with stimulus and other actions taken by governments outside the U.S. Nonetheless, the U.S. and most large global economies materially contracted through the second quarter of the year. While a recovery is currently underway led by a sharp increase in retail sales in North America and the Eurozone in May and June, the trajectory and sustainability of the economic recovery is uncertain due to, among other things, the magnitude of job losses, the uncertainty or scaling back of government support measures and the rise of new COVID-19 cases in the U.S. For the Ambac insured portfolio, credit risk continues to remain elevated due to the uncertain economic recovery from the COVID-19 crisis. COVID-19 has also impacted Ambac's operating environment. Ambac has implemented a COVID-19 response plan designed to ensure the safety of our staff and business continuity. Our employees have transitioned to working remotely while maintaining full operational capabilities. In July 2020, Ambac opened certain of its offices to allow a portion of the workforce to safely return on a voluntary basis. We have not experienced and do not anticipate incurring material net incremental operating expenditures to maintain the current operating environment. In addition to our own staff, Ambac's critical third-party service providers are operating remotely and therefore we have conducted a review of these service providers and have not presently identified or experienced any limitations or operational constraints with respect to services provided in the current circumstances. Ambac does not believe that our current operating environment has resulted in a significant change to our disclosure controls or internal controls over financial reporting. COVID-19 has adversely impacted Ambac's financial position and results of operations as credit risk in the insured and investment portfolios has increased. The municipal, project finance, mortgage-backed and student loan sectors, as well as other asset securitizations, in particular, could be materially adversely impacted, and as a result, with the exception of the mortgage-backed sector, we have increased loss reserves across each of these and other sectors during the six months ended June 30, 2020. In the mortgage-backed sector, much lower interest rates have increased excess spread recoveries on previously paid claims and largely offset the impact of higher projected mortgage delinquencies and losses resulting from the COVID-19 pandemic. We are continuously evaluating and updating our view of the macro economic environment as well as our specific credit view of each of our insured exposures considering the significant uncertainties brought upon us by the COVID-19 pandemic. The overall financial impact from COVID-19 has been and will be a function of (i) the ability of issuers of insured obligations and other counterparties to pay their obligations when due, whether due to operational or financial reasons; (ii) the impact of changes to interest rates on policy and derivative payments; and (iii) the performance of the investment portfolio. • Ambac’s insurance policies will be drawn in the event that the issuers of insured obligations do not make payments on their obligations when due. As a result of the COVID-19 related economic impact on issuers and markets where Ambac provides financial guarantees; including lower tax, project, and business revenues and increases in forbearances or delinquencies on mortgage and student loan payments, we have increased our loss reserves and may further increase them in the future depending on the duration and severity of the crisis. The crisis may also impair certain issuers' ability to pay premiums owed to Ambac; however, we believe such issuers currently have the ability to continue to pay such premiums timely, but this is subject to change. • Ambac has exposure to reinsurance counterparties for their portions of future claim payments. Ambac has reinsured approximately 13.5% of its gross par outstanding to four reinsurance counterparties. Each of these reinsurance counterparties is experienced in the business of reinsuring and/or writing financial guaranty insurance. All have current ratings of A+ (by S&P) or better and have sufficient collateralization or replacement triggers upon downgrade. Ambac actively monitors each of these reinsurance entities and currently believes they have the ability to perform under their respective reinsurance policies, but this is subject to change. • Ambac is exposed to the risk that contractual counterparties (including those under our RMBS litigations and derivative counterparties) may default in their financial obligations, whether as the result of insolvency, lack of liquidity, operational failure, fraud or other reasons. At present, Ambac has no concerns about the ability of our contractual counterparties, which include certain regulated exchanges in the case of interest rate swaps and futures, to perform under their contracts, but this is subject to change. • Asset prices declined substantially during the first quarter, particularly in directly affected industries such as tourism, airlines, hospitality, commercial real estate and manufacturing. While Ambac does not have significant investments in these asset classes, we did experience a negative total return for the investment portfolio of approximately (4.4)% during the three month period ending March 31, 2020. We evaluated and did not recognize credit impairments on the investment portfolio as of such date. However, in early April 2020, we monetized a material portion of our investments in certain assets classes; including corporate securities rated below the 'A' rated category, all directly owned CMBS (other than Military Housing bonds), and approximately 50% of all CLOs (all rated investment grade). While these positions were sold at a net gain, future investment losses and impairments may be possible. Asset prices partially recovered during the second quarter of 2020. Ambac recognized a total return for the investment portfolio of approximately 4.7% during the three months ended June 30, 2020. | Ambac Financial Group, Inc. 49 2020 Second Quarter FORM 10-Q | Given the economic uncertainties associated with the duration and effects of the COVID-19 pandemic, it is impossible to fully predict all of its consequences and, as a result, it is possible that our future operating results and financial condition may be materially adversely affected. Refer to "Financial Guarantees In Force," "Results of Operations" and "Balance Sheet Commentary" for further financial details on the current impact from COVID-19. With regard to Ambac's new business strategic objective, we continue to evaluate opportunities in a disciplined manner. Our evaluation process has been revised to incorporate consideration of the impact of COVID-19 on new business prospects as well as Ambac's existing business and operations. While we continue to pursue new business opportunities, we believe that the COVID-19 pandemic has caused a general slow down in activity as potential targets evaluate the financial and strategic impact of the pandemic on their businesses and due to the practical constraints of shelter-in-place orders, social distancing guidelines, travel bans and restrictions, and business shutdowns. AFG: As of June 30, 2020 the net assets of AFG were $481 million . ($ in millions) Cash and short-term investments $ 328 Other investments (1) 116 Other net assets (2) 37 Total $ 481 (1) Includes surplus notes (fair value of $57 million) issued by Ambac Assurance that are eliminated in consolidation. (2) Includes accruals for tolling payments from Ambac Assurance in accordance with the Amended Tax Sharing Agreement of $28 million. Refer to Note 10. Income Taxes for discussion over the timing of collection. Financial Statement Impact of Foreign Currency: The impact of foreign currency as reported in Ambac's Unaudited Consolidated Statement of Total Comprehensive Income for the six months ended June 30, 2020 , included the following: ($ in millions) Net income (1) $ 3 Gain (loss) on foreign currency translation (net of tax) (48 ) Unrealized gains (losses) on non-functional currency available-for-sale securities (net of tax) 11 Impact on total comprehensive income (loss) $ (34 ) (1) A portion of Ambac UK's, and to a lesser extent Ambac Assurance's, assets and liabilities are denominated in currencies other than its functional currency and accordingly, we recognized net foreign currency transaction gains/(losses) as a result of changes to foreign currency rates through our Unaudited Consolidated Statement of Total Comprehensive Income (Loss). Refer to Note 2. Basis of Presentation and Significant Accounting Policies to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q for further details on transaction gains and losses. Future changes to currency rates may adversely affect our financial results. Refer to Part II, Item 7A in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for further information on the impact of future currency rate changes on Ambac's financial instruments. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Ambac’s Unaudited Consolidated Financial Statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”), which require the use of material estimates and assumptions. For a discussion of Ambac’s critical accounting policies and estimates, see “Critical Accounting Policies and Estimates” in Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in Ambac’s Annual Report on Form 10-K for the year ended December 31, 2019 . FINANCIAL GUARANTEES IN FORCE Financial guarantee products were sold in three principal markets: U.S. public finance, U.S. structured finance and international finance. The following table provides a breakdown of guaranteed net par outstanding by market at June 30, 2020 and December 31, 2019 . Net par exposures within the U.S. public finance market include capital appreciation bonds which are reported at the par amount at the time of issuance of the insurance policy as opposed to the current accreted value of the bonds. Guaranteed net par outstanding includes the exposures of policies insuring variable interest entities (“VIEs”) consolidated in accordance with the Consolidation Topic of the ASC. Guaranteed net par outstanding excludes the exposures of policies that insure bonds which have been refunded or pre-refunded and excludes exposure of the policy that insures the notes issued by Ambac LSNI as defined in Note 1. Background and Business Description in the Notes to the Consolidated Financial Statements included in Part II, Item 8 in the Company's Annual Report on Form 10-K for the year ended December 31, 2019 : ($ in millions) June 30, 2020 December 31, 2019 Public Finance (1) (2) $ 16,473 $ 17,653 Structured Finance 6,877 7,508 International Finance 11,926 12,857 Total net par outstanding $ 35,276 $ 38,018 (1) Includes $5,615 and $5,654 of Military Housing net par outstanding at June 30, 2020 and December 31, 2019 , respectively. (2) Includes $1,105 and $1,123 of Puerto Rico net par outstanding at June 30, 2020 and December 31, 2019 , respectively. Components of Puerto Rico net par outstanding include capital appreciation bonds which are reported at the par amount at the time of issuance of the related insurance policy as opposed to the current accreted value of the bonds. | Ambac Financial Group, Inc. 50 2020 Second Quarter FORM 10-Q | The table below shows Ambac’s ten largest insured exposures, by repayment source, as a percentage of total financial guarantee net par outstanding at June 30, 2020 : ($ in millions) Risk Name Country-Bond Type Ambac Ratings (1) Net Par Outstanding (2) % of Total Net Par Outstanding IF AUK Mitchells & Butlers Finance plc-UK Pub Securitisation UK-Asset Securitizations BBB $ 938 2.7 % IF AUK Capital Hospitals plc (3) UK-Infrastructure A- 828 2.3 % IF AUK Aspire Defence Finance plc UK-Infrastructure A- 799 2.3 % PF AAC New Jersey Transportation Trust Fund Authority - Transportation System US-Lease and Tax-backed Revenue BBB- 772 2.2 % IF AUK Anglian Water UK-Utility A- 770 2.2 % IF AUK National Grid Gas UK-Utility A- 711 2.0 % IF AUK Posillipo Finance II S.r.l Italy-Sub-Sovereign BIG 698 2.0 % IF AUK Ostregion Investmentgesellschaft NR 1 SA (3) Austria-Infrastructure BIG 663 1.9 % PF AAC Mets Queens Baseball Stadium Project, NY, Lease Revenue US-Stadium Financing BIG 540 1.5 % IF AUK RMPA Services plc UK-Infrastructure BBB+ 529 1.5 % Total $ 7,248 20.6 % PF = Public Finance, SF = Structured Finance, IF = International Finance AAC = Ambac Assurance, AUK = Ambac UK (1) Internal credit ratings are provided solely to indicate the underlying credit quality of guaranteed obligations based on the view of Ambac. In cases where Ambac has insured multiple tranches of an issue with varying internal ratings, or more than one obligation of an issuer with varying internal ratings, a weighted average rating is used. Ambac credit ratings are subject to revision at any time and do not constitute investment advice. BIG denotes credits deemed below investment grade. (2) Net Par includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed to the current accreted value of the bonds. (3) A portion of this transaction is insured by an insurance policy issued by Ambac Assurance. Ambac Assurance has issued policies for these transactions that will only pay in the event that Ambac UK does not pay under its insurance policies ("second to pay policies"). Net par related to the top ten exposures reduced $392 from December 31, 2019 . Exposures are impacted by changes in foreign exchange rates, certain indexation rates and scheduled and unscheduled paydowns. The decrease from 2019 was primarily related to foreign exchange and scheduled paydowns. The concentration of net par amongst the top ten (as a percentage of net par outstanding) increased slightly to 21% at June 30, 2020 , from 20% at December 31, 2019 . However, certain credits within the top ten have had Ambac rating downgrades since December 31, 2019, primarily related to the impact of COVID-19, including Mitchells & Butlers Finance plc, New Jersey Transportation Trust Fund Authority and Mets Queens Baseball Stadium Project. Aspire Defence Finance plc's rating at June 30, 2020 , improved since December 31, 2019 . The remaining insured portfolio of financial guarantees has an average net par outstanding of $32 million per single risk, with insured exposures ranging up to $492 million and a median net par outstanding of $6 million . Given that Ambac has not written any new insurance policies since 2008, the risk exists that the insured portfolio becomes increasingly concentrated to large and/or below investment grade exposures. COVID-19 COVID-19 and the public health responses by the US federal and state governments have shut down significant portions of the US economy, including areas that Ambac's insured obligors rely upon to generate the revenues and cash flows necessary to service debts we insure. Governments outside the US, in markets in which Ambac operates, have implemented similar measures to the US. Ambac has undertaken a detailed analysis of the potential impact of the closure of certain portions of the US economy and certain other economies, including the UK, Italy, and Australia, to assess the impact of the current global economic contraction on its insured financial guarantee portfolio. The duration and depth of the economic contraction; actions such as monetary policy and fiscal stimulus, including the CARES Act in the US that was signed into law on March 27, 2020, and future fiscal stimulus programs; and our insured obligors' financial flexibility and ability to mitigate the operational and economic impact of the recession will determine the ultimate impact to Ambac's insured portfolio. CARES Act and Other Relief Measures: The $2.4 trillion Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") provides relief and stimulus funds for American consumers, businesses and industries impacted by COVID-19. The CARES Act has several measures that impacted US municipalities and other borrowers, including consumers, such as mortgage and student loan borrowers, represented in our insured portfolio, including: • A program for direct lending, loans, loan guarantees and investments to eligible businesses, states and municipalities, including to passenger airlines and cargo airlines; | Ambac Financial Group, Inc. 51 2020 Second Quarter FORM 10-Q | • A program for small business loans (Paycheck Protection Program, as amended by the Paycheck Protection Program and Health Care Enhancement Act (“PPP & HCE Act”)); • Business tax breaks, including payroll tax deferral • An allocation of direct aid to state and local governments to reimburse them for the costs of dealing with COVID-19; • The Public Health and Social Services Fund for distribution of grants to healthcare providers and hospitals (as amended by the PPP & HCE Act); • Grants for transit agencies; • Grants for airport authorities; and • Direct payments to households and for unemployment insurance. Despite the above provisions, which are designed to help mitigate the economic impact of the COVID-19 pandemic generally, the CARES Act contains certain provisions that may adversely affect Ambac. The CARES Act temporarily suspended payments on all student loans held by the Department of Education through September 30, 2020. Although the CARES Act provision did not include the private student loans owned by special purpose entities that have their securitized obligations guaranteed by Ambac Assurance, we have incorporated into our loss reserves analysis assumptions related to increased delinquencies for borrowers with private student loans who often also have federal student loans and have elected not to pay altogether. Despite the assumed increase in delinquencies and losses related to this phenomena as well as the general deterioration in consumer credit related to the economic downturn, Ambac Assurance does not anticipate making substantial claim payments on insured student loan transactions for several years due to the structures governing the insured bonds. Additionally, the federal government has provided temporary relief measures to which servicers of mortgage loans must adhere. The Federal Housing Administration ("FHA") of the US Department of Housing and Urban Development and the Federal Housing Finance Agency ("FHFA") are providing temporary relief measures that require mortgage loan servicers to offer relief to borrowers who suffer hardship as a result of COVID-19. The relief measures announced include moratoriums on foreclosures and evictions as well as the expansion of forbearance and subsequent repayment options. Such servicers are generally applying these guidelines to non-FHFA loans, including those loans owned by special purpose entities that have their securitized obligations guaranteed by Ambac Assurance. Moreover, several State agencies have issued similar guidance to mortgage loan servicers concerning loan forbearances and other relief for borrowers. Depending on the severity and length of the economic downturn, there may be increasing pressure to extend the duration of forbearances and subsequently to offer generous repayment plans. While the impact of these and other forbearance measures on Ambac Assurance's insured RMBS obligations are unclear, we have assumed that such measures, as well as the economic impact of the global recession, will have an adverse impact on delinquencies and home price appreciation for the mortgages that underlie our insured RMBS transactions. Consequently, we have anticipated that we will experience an increase in claim payments for certain of our insured RMBS obligations. However, we also anticipate that the significant decline in interest rates experienced during 2020 will likely generate additional excess spread recoveries on insured RMBS obligations that will likely more than compensate for such adverse effects. In addition to, as well as in connection with the CARES Act, the Federal Reserve has implemented a number of programs to improve liquidity and the functioning of the financial markets in an effort to help mitigate the impact of the COVID-19 pandemic on financial markets and the macro economy as well as certain displaced sectors of the economy, including those in which Ambac operates, including, but not limited to: • $500 billion for the Municipal Liquidity Facility; • $750 billion for the Primary Market Corporate Credit Facility and Secondary Market Corporate Credit Facility; and • $100 billion in loans for the Term Asset-backed Securities Facility In the UK all non-essential leisure, food and retail operations, including public houses were closed from March 20, 2020 as a consequence of the COVID-19 pandemic. Premises were allowed to gradually reopen from June 1, 2020 such that by July 4, 2020 the majority of outlets were permitted to reopen. The UK Government introduced a number of measures to mitigate the impact of these enforced closures including rebating employers 80% of staff salaries (up to a £2,500 per month per employee cap), tax deferrals, business loan schemes and property tax relief. These measures are slowly being withdrawn between August 1, 2020 and the end of the year. While Ambac expects the foregoing measures to help mitigate economic damage and aid the functioning of the capital markets, Ambac's exposure to credit risk as a result of the economic fallout from the COVID-19 pandemic remains elevated, and we could experience material losses that would adversely impact our future results of operations and financial condition. Insured Portfolio: Ambac established a set of base case assumptions that includes a deep recession during the first half of 2020 with a modest recovery in the second half of 2020 that still leaves the U.S. with an overall contraction in GDP for the full year. Economic growth for 2021, while positive, is expected to be tempered by the continued uncertainty related to the rising infection rate of COVID-19 in the U.S. Recovery to 2019 levels of economic output are not expected until 2022. Consequently, we expect pressure will remain on U.S. states and local governments which are currently facing significant budget deficits as tax revenues have faltered as a result of COVID-19 related shutdowns, job losses and travel restrictions. State and local governments have shed an estimated 1.5 million jobs and are facing tough choices to close budget gaps, including tax increases, furloughs, public safety cuts, planned capital expenditure cuts, pension funding holidays, and other measures. In addition states may need cut aid to local municipalities that are also under pressure from lost revenues. Monetary policy and federal stimulus through the CARES Act (and potential subsequent CARES Act programs) and other programs has benefited and is expected to continue to benefit in the overall economic recovery and more specifically provide some relief to state and local governments, including to issuers of municipal debt insured by Ambac, although the sufficiency of such benefits remains uncertain. | Ambac Financial Group, Inc. 52 2020 Second Quarter FORM 10-Q | As part of the detailed analysis of the insured portfolio, we have identified certain Public Finance sectors that are most susceptible to potential claims or impairments as a result of a prolonged or uneven recovery from the COVID-19 crisis. Our near-term concerns are concentrated on exposures substantially reliant on narrow, economically sensitive revenue streams. The ability of issuers of these obligations to pay is expected to be stressed although several issuers expressed a willingness to use their balance sheets to support their obligations and avoid defaults in the near-term. Ambac's insured par outstanding, net of reinsurance ("NPO"), to these Public Finance sectors are as follows: ($ in millions) Market / Sector Total NPO Total Debt Service Due Next Twelve Months Hotels / Convention Centers $ 257 $ 37.3 Stadiums 634 41.7 Airports 124 22.0 Dedicated Tax 410 78.0 Higher Education Auxiliary 252 26.9 Rail / Mass Transit 328 30.1 Toll Roads / Bridges 469 35.8 Total Public Finance $ 2,474 $ 271.8 The RMBS and student loan insured portfolios are expected to be adversely impacted by the previously mentioned forbearances and the general economic downturn. Expected to offset such impact for RMBS exposures is the benefit to excess spread within the securitization structures as a result of the significant reduction in interest rates, which will result in higher recoveries. Ambac insured exposure includes a number of international policies where the revenue of the issuer is demand dependent. Such transactions have been impacted by the reduction of revenue due to the COVID-19 pandemic. Ambac and its advisors are working closely with impacted issuers to review their plans and liquidity facilities in light of these events. Ambac's NPO with respect to these international demand dependent policies are as follows: ($ in millions) Market / Sector Total NPO Total Debt Service Due for Twelve Months Stadiums $ 203 $ 23.6 Higher Education 161 8.7 Airports 192 6.0 Asset Securitizations 938 78.9 Toll Roads / Bridges 719 57.0 Total $ 2,213 $ 174.2 At this time, there are significant uncertainties surrounding the ultimate number of claims and scope of damage resulting from this pandemic. Actual losses from these events may vary materially from Ambac's loss and loss expense reserves due to several factors, including the inherent uncertainties in making such determinations and the evolving nature of this pandemic. Potential losses from the economic consequences of the COVID-19 pandemic could be material and therefore may have a material adverse effect on our results of operations and financial condition. Puerto Rico Ambac has exposure to the Commonwealth of Puerto Rico (the "Commonwealth") and its instrumentalities across several different issuing entities with total net par exposure of $1,105 as of June 30, 2020 . Each has its own credit risk profile attributable to, as applicable, discrete revenue sources, direct general obligation pledges and/or general obligation guarantees. COVID-19 At this time, it remains very difficult to predict what the shape and timing of the post COVID-19 recovery will be for the Commonwealth of Puerto Rico, not least because the depth and length of COVID-19's impact is still uncertain. In the short-term, it is known that tax revenue to the Commonwealth’s general fund collections lagged projections by nearly $1.8 billion, or 16.8%, in fiscal year 2020 and were roughly $2.5 billion below fiscal year 2019 collections, according to the Puerto Rico Fiscal Agency and Financial Advisory Authority’s Treasury Single Account report, which is as of June 26, 2020. General fund collections slowed due to the COVID-19 outbreak and imposed lockdown. Separately, Puerto Rico Highways and Transportation Authority's ("PRHTA") total consolidated fiscal year 2020 revenues were $404.3 million, 36.3% lower than the $634.8 million budget projection. The underperformance was due to a variety of factors including a reduction in the traffic and toll collections due to COVID-19. Over the longer-term, Puerto Rico's recovery profile will be impacted by a wide range of factors including, but not limited to: • t he fiscal and monetary policies of the federal government which will shape the trajectory of the U.S. economy; • the speed and efficacy of targeted federal aid packages to (1) help Puerto Rico address the negative economic effects of the pandemic and (2) rebuild better and more resilient infrastructure post-Hurricanes Irma and Maria in 2017 and earthquakes in 2020; • supplemental Medicaid funding relief; and • the willingness and ability of the Commonwealth government to implement much needed fiscal and structural reforms. Fiscal Plans On May 27, 2020, the Oversight Board certified its own version of a new Commonwealth Fiscal Plan. The Oversight Board’s new Commonwealth Fiscal Plan purports to incorporate the impact of COVID-19 on the Commonwealth economy, and projects diminished growth, budget surplus, and debt capacity as compared to previous versions of the Commonwealth Fiscal Plan. The positive $19.7 billion 30-year cumulative surplus from the May 2019 Fiscal Plan is now a negative $22.2 billion in the new Fiscal Plan base case and negative $40 billion in the downside case. This is due to the Oversight Board’s projected impact of COVID-19 on the Puerto Rico economy and tax collections as well as related general uncertainty on the economic outlook. The Commonwealth Fiscal Plan will significantly inform the Commonwealth Plan of Adjustment, and the diminished economic performance described in the new Fiscal Plan implies worse outcomes than had been previously disclosed for creditors under the Commonwealth's Plan of Adjustment. | Ambac Financial Group, Inc. 53 2020 Second Quarter FORM 10-Q | On June 26, 2020, the Oversight Board certified its own version of the Fiscal Plan for PRHTA. The PRHTA Fiscal Plan states that based on cash flow projections, the existing PRHTA debt service will require significant restructuring and PRHTA’s full commitment to reforms. It's currently unclear what the Oversight Board's scope of debt restructuring will be. As for reforms, the PRHTA Fiscal Plan requires PRHTA to establish an independent board with experienced and knowledgeable directors, and requires six measures to improve revenue, including increases in toll fine collections, tolls, introduction of congestion pricing, and four measures to cut expenses, including reducing pension and employee healthcare costs. It is unknown if and when a PRHTA Plan of Adjustment will be filed by the Oversight Board or confirmed by the court overseeing the Title III proceedings of PRHTA. It is also unknown if and when other Puerto Rico instrumentalities, which have debt outstanding insured by Ambac Assurance, will be filed under Title III and what effect their fiscal plans and/or plans of adjustment may have on Ambac's financial position. No assurances can be given that Ambac's financial condition will not suffer a materially negative impact as an ultimate result of the Commonwealth Fiscal Plan, the Commonwealth Plan of Adjustment, or any future changes or revisions to Commonwealth fiscal plans or future fiscal plans and/or plans of adjustment for PRHTA or other Puerto Rico instrumentalities. Commonwealth Plan of Adjustment On February 9, 2020, the Oversight Board announced it reached an agreement in principle ("Plan Support Agreement") with certain creditors supporting the restructuring of the Commonwealth's General Obligation and PBA debt, and intended to file an amended Plan of Adjustment ("Amended POA") reflecting the terms of this agreement. On February 28, 2020, the Oversight Board filed an Amended POA and an amended Disclosure Statement to restructure $35 billion of debt and other claims against the Commonwealth of Puerto Rico, PBA, and ERS, as well as more than $50 billion in pension liabilities. The Amended POA would reduce Commonwealth debt and other claims from $35 billion to less than $11 billion, a 70% cut and would also reduce the Commonwealth’s annual debt service by 56%. Treatment for pension claims would include a reduction in pension payments by as much as 8.5% for retirees who currently receive at least $1,200 a month, such that 60% of retirees would not face any cuts, and the establishment of a pension reserve fund to help support retirement payments in future years. The Amended POA, as is, disproportionately disadvantages claims against the Commonwealth related to certain revenue bonds issued by Puerto Rico instrumentalities, including those insured by Ambac Assurance. The Amended POA provides for estimated recovery of 3.9% on claims against the Commonwealth related to PRHTA bonds, Puerto Rico Infrastructure Financing Authority (PRIFA) Special Tax Revenue (Rum Tax) bonds, and Puerto Rico Convention Center District Authority (PRCCDA) bonds. It is unknown if and how the Amended POA may be modified or what the final adjustments will be to the revenues available to the Puerto Rico instrumentalities addressed in the Amended POA or the recoveries on claims against the Commonwealth by creditors of those instrumentalities, including Ambac and Ambac-insured bondholders. However, if the Amended POA were confirmed in its current form, Ambac's financial condition would suffer a material negative impact. Refer to Note 6. Financial Guarantee Insurance Contracts to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q for the possible increase in loss reserves under stress or other adverse conditions, including the impact of the Amended POA. There can be no assurance that losses may not exceed such estimates. Currently, the schedule for confirmation proceedings regarding the Amended POA, and the hearings regarding the Disclosure Statement that must precede confirmation hearings, is not yet set. However, on July 15, 2020, the Oversight Board filed a status report in Court that included a request to provide the Court with an updated status report regarding the timeline for the debtors’ Plan of Adjustment and Disclosure Statement process by September 11, 2020. Judge Swain subsequently granted the request and directed the Oversight Board to file an updated status report, including a proposal for the debtors’ Plan and Disclosure Statement process, by September 9, 2020. Political Developments On July 1, 2020, Oversight Board Chairman Jose Carrion and Board member Carlos Garcia announced that they informed the White House they will not be available for re-nomination to serve another three-year term on the Oversight Board. Carrion said he is stepping down by October 5, and Garcia said he is resigning his post effective August 31. In a press conference, Carrion said he knows of “at least” one additional board member who does not intend to serve an additional term but said it is not up to him to make the announcement. It is unclear how the resignations will impact the debt restructuring process, negotiations, timing and ultimate outcome for Ambac. Governor Vazquez has recently come under fire for her termination (on July 3, 2020) of the Secretary of the Department of Justice, which was conducting various investigations into Vazquez and her advisors. The Governor’s replacement halted all such investigations and subsequently resigned on July 8, 2020 succumbing to political pressure. On July 20, 2020 it was announced that Governor Vazquez and five officials will be subject to investigation by a special independent prosecutor regarding emergency supplies management during the series of earthquakes that occurred in early 2020. Governor Vazquez may also face an investigation into recent government contracts and related procurement of COVID-19 tests. It is unclear how these investigations may affect the outcome of the August 2020 primary, where Vazquez is competing for the party gubernatorial ticket against former Resident Commissioner Pedro Pierluisi. Ambac Title III Litigation Update Ambac Assurance is party to a number of litigations related to its Puerto Rico exposures, and actively participates in the Commonwealth’s Title III proceedings before the United States District Court for the District of Puerto Rico. On January 16, 2020, Ambac Assurance filed motions which sought to lift the stay and allow Ambac and others to enforce their rights related to HTA, CCDA and PRIFA in an alternative forum. On July 2, 2020, Judge Swain issued orders denying, in large part, these motions. Supplemental briefing on the motions to lift the stay has concluded and a final decision is expected this fall. Ambac is unable to predict when and how the issues raised in these cases | Ambac Financial Group, Inc. 54 2020 Second Quarter FORM 10-Q | will be resolved. If Ambac Assurance is unsuccessful in any of these proceedings, Ambac’s financial condition, including liquidity, loss reserves and capital resources may suffer a material negative impact. Refer to "Financial Guarantees in Force" in Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in Ambac’s Annual Report on Form 10-K for the year ended December 31, 2019 and Note 11. Commitments and Contingencies to the Consolidated Financial Statements, included in Part I, Item 1 of this Form 10-Q for further information about Ambac's litigation relating to Puerto Rico. Mediation The status, timing and subject of any subsequent or future mediation discussion has not yet been publicly disclosed. However, Judge Swain issued a scheduling order on June 15, 2020, setting monthly omnibus hearings through the end of 2021. The timeline for resolution of Puerto Rico’s debt restructuring process is uncertain but may extend into 2021. It appears the Oversight Board will attempt to move forward with the Amended POA and Plan Support Agreement in some modified form over the intermediate term. The debt restructuring process status report the Oversight Board filed with the Court on July 15, 2020 stated, “Having completed the process of certifying the Commonwealth Fiscal Plan and corresponding Budget, the Oversight Board has resumed discussions with AAFAF concerning the terms of a Plan of Adjustment and what, if any, modifications or amendments need to be proposed to the Plan of Adjustment and Disclosure Statement filed with the Court on February 28, 2020. The Oversight Board anticipates that, in the coming weeks, the Oversight Board and AAFAF shall entertain discussions with creditors (those party to the Plan Support Agreement, as amended on March 13, 2020 and April 1, 2020, as well as other parties in interest), with the guidance of the mediation team led by the Judge Barbara J. Houser, to address the new reality created by the COVID-19 pandemic. The discussions with creditors will take into account, among other things, this Court’s July 2, 2020 decisions in connection with certain motions for relief from the automatic stay filed by holders and insurers of HTA bonds, CCDA bonds, and PRIFA Rum Tax Bonds. Furthermore, the outcome of the ongoing litigation regarding the ERS bonds will guide the parties with respect to claims, if any, that may impact the revision of the Commonwealth’s proposed Plan of Adjustment. While the Oversight Board has resumed Plan discussions, because of the fluid situation on the Island, the Oversight Board is unprepared at this time to propose a schedule for the Debtors’ Plan of Adjustment and Disclosure Statement processes." No assurances can be given that debt restructuring negotiations will be successfully concluded, that Commonwealth, Oversight Board and creditor parties will reach definitive agreements on debt restructurings, that any additional negotiated transaction, debt restructuring, definitive agreement or Plan of Adjustment will be approved by the court and completed, or that any transaction or Plan of Adjustment will not have a materially adverse impact on Ambac's financial condition or results of operations. Federal Aid The Commonwealth of Puerto Rico is projected to benefit from over $49 billion of federal disaster aid for infrastructure improvement initiatives or recovery efforts, as a result of the damage cause by hurricanes Irma and Maria as well as the earthquakes that began in late December 2019. To date, only about $16.5 billion of the total has been disbursed. More than $20 billion of Community Development Block Grants (CDBG) was appropriated by Congress for Puerto Rico for reconstruction following Hurricane Maria, but very little has yet been drawn down. The Department of Housing and Urban Development (HUD), which administers the CDBG program, has approved release of a second tranche of CDBG funds totaling $8.2 billion, which brings the total amount available for drawdown to nearly $10 billion (an additional roughly $10 billion has not yet been approved by HUD for release). In order to ensure federal taxpayer dollars are spent effectively and efficiently, HUD has conditioned release of the $8.2 billion on various requirements that Puerto Rico must meet. Governor Wanda Vasquez has agreed to these requirements, which include a prohibition on any of the funds from being used to rebuild the electric grid until (and unless) HUD publishes additional requirements on such spending; overturns an executive order establishing a $15 minimum wage for government construction projects using CDBG; requires greater Puerto Rico to provide greater transparency and implement enhanced financial controls; and requires CDFBG spending plans to be submitted to the Oversight Board for determination that they are in accordance with its certified budgets and fiscal plans. HUD has also appointed a federal monitor to oversee use of CDBG funds. The Oversight Board states, on their COVID-19 webpage, that Puerto Rico residents, businesses, and government appear to be eligible for approximately $14 billion in federal aid under the CARES Act. The full extent of federal government support to Puerto Rico is still uncertain as existing federal stimulus has not been fully implemented and additional measures are likely to be enacted. While the previously allocated federal disaster relief funds, Medicaid money, and the more recent COVID-19 crisis related funds are all expected to support economic recovery and growth and in Puerto Rico, there can be no assurances as to the certainty, timing, usage, efficacy or magnitude of benefits to creditor outcomes related to disaster aid and ensuing economic growth, if any. Summary Ambac has considered these developments and other factors in evaluating its Puerto Rico loss reserves. During the six months ended June 30, 2020 , Ambac had incurred losses associated with its Domestic Public Finance insured portfolio of $220 million , which was impacted by lower discount rates, the continued uncertainty and volatility of the situation in Puerto Rico, including the potential impact of the COVID-19 crisis on the Commonwealth and the developing potential impact of the COVID-19 crisis on other sectors in the Domestic Public Finance insured portfolio; and loss adjustment expenses related to the cost of defending our rights and pursuing recoveries. While management believes its reserves are adequate to cover losses in its Public Finance insured portfolio, there can be no assurance that Ambac may not incur additional losses in the future, particularly given the developing economic, political, and legal circumstances in Puerto Rico and the overall uncertain impact of the COVID-19 crisis on the | Ambac Financial Group, Inc. 55 2020 Second Quarter FORM 10-Q | Commonwealth and the Domestic Public Finance Insured Portfolio in general. Such additional losses may have a material adverse effect on Ambac’s results of operations and financial condition. Exposure Currency The table below shows the distribution by currency of Ambac Assurance’s insured exposure as of June 30, 2020 : Currency (Amounts in millions) Net Par Amount Outstanding in Base Currency Net Par Amount Outstanding in U.S. Dollars U.S. Dollars $ 23,734 $ 23,734 British Pounds £ 7,636 9,458 Euros € 1,520 1,708 Australian Dollars A$ 545 376 Total $ 35,276 Ratings Distribution The following charts provide a rating distribution of net par outstanding based upon internal Ambac credit ratings (1) and a distribution by bond type of Ambac's below investment grade ("BIG") net par exposures at June 30, 2020 and December 31, 2019 . BIG is defined as those exposures with an Ambac internal credit rating below BBB-: Note: AAA is less than 1% in both periods. (1) Internal credit ratings are provided solely to indicate the underlying credit quality of guaranteed obligations based on the view of Ambac. In cases where Ambac has insured multiple tranches of an issue with varying internal ratings, or more than one obligation of an issuer with varying internal ratings, a weighted average rating is used. Ambac credit ratings are subject to revision at any time and do not constitute investment advice. | Ambac Financial Group, Inc. 56 2020 Second Quarter FORM 10-Q | Net Par Outstanding Summary of Below Investment Grade Exposure ($ in millions) June 30, 2020 December 31, 2019 Public Finance: Lease and tax-backed (1) $ 1,235 $ 1,109 General obligation (1) 346 525 Housing (2) 310 311 Stadium 540 — Transportation 41 27 Other 41 42 Total Public Finance 2,513 2,014 Structured Finance: RMBS 3,081 3,362 Student loans 566 620 Other 10 33 Total Structured Finance 3,657 4,015 International Finance: Other 1,480 1,455 Total International Finance 1,480 1,455 Total $ 7,650 $ 7,484 (1) Lease and tax-backed revenue includes $996 and $1,014 of Puerto Rico net par at June 30, 2020 and December 31, 2019 , respectively. General obligation includes $109 and $109 of Puerto Rico net par at June 30, 2020 and December 31, 2019 , respectively. Components of Puerto Rico net par outstanding includes capital appreciation bonds which are reported at the par amount at the time of issuance of the related insurance policy as opposed to the current accreted value of the bonds. (2) Relates to military housing net par. The increase in below investment grade exposures is primarily due the addition of certain exposures driven by the COVID-19 pandemic (lease and tax-backed, stadiums and an international structured finance exposure) partially offset by the commutation of certain general obligation exposures and the impact of foreign exchange rates resulting from the strengthening of the US Dollar. Below investment grade exposures could continue to increase as a relative proportion of the guarantee portfolio given that stressed borrowers generally have less ability to prepay or refinance their debt. Accordingly, due to these and other factors, it is not unreasonable to expect the proportion of below investment grade exposure in the guarantee portfolio to continue to increase in the future. RESULTS OF OPERATIONS Net loss attributable to common stockholders for the three months ended June 30, 2020 , was $35 million compared to a net loss attributable to common stockholders of $128 million for the three months ended June 30, 2019 . The decreased loss was primarily driven by (i) lower insurance intangible amortization, (ii) net gain on derivative contracts in the current quarter, (iii) lower provision for income taxes, and (iv) lower operating and interest expenses, partially offset by: (a) increased losses and loss expenses, primarily due to the loss benefit in the three months ended June 30, 2019, driven by the Ballantyne commutation , (b) lower net investment income, and (c) lower net realized investment gains. Net loss attributable to common stockholders for the six months ended June 30, 2020 , was $315 million compared to a net loss attributable to common stockholders of $172 million for the six months ended June 30, 2019 . The increase in loss was primarily driven by: (i) lower net investment income, (ii) lower net realized investment gains, (iii) larger net losses on derivative contracts, (iii) lower net premiums earned, (iv) lower income on variable interest entities and (v) higher loss and loss expenses, partially offset by (a) lower insurance intangible amortization, (b) lower interest and operating expenses. A summary of our financial results is shown below: Three Months Ended June 30, Six Months Ended June 30, ($ in millions) 2020 2019 2020 2019 Revenues: Net premiums earned $ 11 $ 8 $ 21 $ 36 Net investment income 52 86 31 141 Net realized investment gains (losses) 10 36 18 53 Net gains (losses) on derivative contracts 2 (35 ) (68 ) (52 ) Income (loss) on variable interest entities — 3 3 19 Expenses: Losses and loss expenses (benefit) 16 (133 ) 132 (121 ) Insurance intangible amortization 14 226 27 263 Operating expenses 21 29 44 54 Interest expense 58 67 122 135 Provision for income taxes 2 28 (4 ) 30 Net income (loss) attributable to common stockholders $ (35 ) $ (128 ) $ (315 ) $ (172 ) Ambac's results of operations and financial position have been adversely impacted by the COVID-19 pandemic's effect on the global economy and financial markets. Significant interest rate declines during the first quarter of 2020 drove a net increase to loss reserves and losses on interest rate derivative contracts. Credit driven losses were also recognized in the three months ended March 31, 2020, within losses incurred (primarily from public finance insurance policies) and losses in counterparty credit adjustments on derivative asset valuations. Financial market disruptions were reflected through lower valuations of certain fixed income securities (recorded through other comprehensive income) and the majority of other investments (recorded through net investment income). During the second quarter of 2020, credit spreads partially recovered (impacting counterparty credit adjustments on derivative assets and valuations of investment securities). The scope, duration and magnitude of the direct and indirect effects of COVID-19 are evolving in ways that are difficult or impossible to anticipate. As a result, it is possible that Ambac's results of operations and financial condition may be further adversely affected by the evolving affects of the COVID-19 pandemic. For additional information on the risks posed by | Ambac Financial Group, Inc. 57 2020 Second Quarter FORM 10-Q | COVID-19, refer to “Part II, Item 1A-Risk Factors” in this Quarterly Report on Form 10-Q. During 2019, Ambac executed on a number of restructuring/commutation transactions that had significant impacts to the consolidated results of operations. As described further below, the completion of the these transactions, including the related changes to invested assets, intangible assets, loss reserves and debt of the Company, had a significant impact on the comparability of the results of operation for the three and six months ended June 30, 2020 and 2019 . The most significant transactions, which are more fully discussed in "Financial Guarantees in Force" in Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in Ambac’s Annual Report on Form 10-K for the year ended December 31, 2019 were: Puerto Rico COFINA Plan of Adjustment ("POA"). On February 12, 2019, the POA, including certain related commutation transactions, and subsequent distributions, became effective, resulting in a significant reduction of Ambac Assurance's insured net par exposure to COFINA. Pursuant to the COFINA POA, approximately 75% of holders of Ambac Assurance-insured senior COFINA bonds (including Ambac) elected to commute their insurance policy. Ballantyne Re plc ("Ballantyne") Restructuring. On April 25, 2019, Ballantyne commenced, under Irish law, a restructuring transaction ("Restructuring") in respect of its obligations, including obligations that were guaranteed by Ambac UK. The arrangement was approved on June 17, 2019. With the successful implementation of the Restructuring, Ambac UK has ceased to have any exposure with respect to the obligations of Ballantyne. The following paragraphs describe the consolidated results of operations of Ambac and its subsidiaries for the three and six months ended June 30, 2020 and 2019 , respectively. Net Premiums Earned . Net premiums earned primarily represent the amortization into income of insurance premiums. We present accelerated premiums, which result from calls and other accelerations of insured obligations separate from normal net premiums earned. When an insured bond has been retired, any remaining unearned premium revenue ("UPR") is recognized at that time to the extent the financial guarantee contract is legally extinguished, causing accelerated premium revenue. For installment premium paying transactions, we offset the recognition of any remaining UPR by the reduction of the related premium receivable to zero (as it will not be collected as a result of the retirement), which may cause negative accelerated premium revenue. Net premiums earned increased $3 million and decreased $14 million for the three and six months ended June 30, 2020 , respectively, compared to the same periods in the prior year. Normal net premiums earned and accelerated premiums are reconciled to total net premiums earned in the table below. The following table provides a breakdown of normal premiums earned by market: Three Months Ended June 30, Six Months Ended June 30, ($ in millions) 2020 2019 2020 2019 Normal premiums earned Public finance $ 5 $ 7 $ 10 $ 15 Structured finance 2 3 4 6 International finance 3 4 6 10 Total normal premiums earned 10 14 20 30 Accelerated earnings 1 (6 ) 1 6 Total net premiums earned $ 11 $ 8 $ 21 $ 36 The decrease in normal premiums earned in the three and six months ended June 30, 2020 , is primarily attributable to (i) the continued runoff of the insured portfolio in all markets and (ii) changes to allowance for credit losses on premiums receivables. Ambac adopted ASU 2016-13, Measurement of Credit Losses on Financial Instruments ("CECL"), on January 1, 2020, and will assess the allowance for credit losses on premium receivables on a quarterly basis. Prior to adoption of ASU 2016-13, Ambac assessed collectability of premium receivables in accordance with ASC 944 and recorded an allowance for uncollectible premiums. The three and six months ended June 30, 2020 , includes an increase in the allowance for credit losses since adoption of CECL of $2 million and $4 million, respectively, as compared to an increase of $1 million for the three and six months ended June 30, 2019 . Terminations and accelerations, including those which occurred in prior periods, result in lower normal premiums earned in current and future periods. Public Finance normal earned premiums for the three and six months ended June 30, 2020 , were also impacted by reinsurance cessions in the second half of 2019. The increase in accelerated earnings in the three months ended June 30, 2020 , as compared to the three months ended June 30, 2019 , is primarily driven by negative accelerations related to the Ballantyne commutation that occurred in June 2019. The decrease in accelerated earnings in the six months ended June 30, 2020 , as compared to the six months ended June 30, 2019 , is primarily related to the COFINA restructuring that occurred in February 2019, partially offset by negative accelerations related to the Ballantyne commutation that occurred in June 2019. Net Investment Income. Net investment income primarily consists of interest and net discount accretion on fixed income securities classified as available-for-sale and net gains (losses) on pooled investment funds which include changes in fair value of the funds' net assets. Fixed income securities include investments in Ambac-insured securities that are made opportunistically based on their risk/reward and asset-liability management characteristics. As described further below, investment income from holdings of Ambac-insured securities (including Secured Notes issued by Ambac LSNI, LLC) for the periods presented have primarily been affected by restructuring transactions involving Puerto Rico and Ballantyne bonds. Investments in pooled investment funds and certain other investments are either classified | Ambac Financial Group, Inc. 58 2020 Second Quarter FORM 10-Q | as trading securities with changes in fair value recognized in earnings or are reported under the equity method. These funds and other investments are reported in Other investments on the Unaudited Consolidated Balance Sheets and consist primarily of pooled fund investments in diversified asset classes. For further information about investment funds held, refer to Note 8. Investments to the Unaudited Consolidated Financial Statements, included in Part I, Item 1 in this Form 10-Q. Net investment income from Ambac-insured securities; available-for-sale and short-term securities, other than Ambac-insured; and Other investments is summarized in the table below: Three Months Ended June 30, Six Months Ended June 30, ($ in millions) 2020 2019 2020 2019 Securities available-for-sale: Ambac-insured (including Secured Notes) $ 16 $ 58 $ 32 $ 87 Securities available-for-sale and short-term other than Ambac-insured 10 20 25 38 Other investments (includes trading securities) 27 8 (25 ) 16 Net investment income $ 52 $ 87 $ 32 $ 141 Net investment income decreased $34 million and $110 million for the three and six months ended June 30, 2020 , respectively, compared to the same periods in the prior year. As described further below, the variances were primarily driven by pricing volatility within fund investments resulting from the impact of the COVID-19 pandemic on financial markets, a smaller allocation to higher yielding Ambac-insured securities and a lower overall invested asset base. Other investments income (loss) increased $19 million and decreased $41 million for the three and six months ended June 30, 2020 , respectively, compared to the same periods in the prior year. Other investment income (loss) for the three months ended June 30, 2020, reflects the partial recovery of fair value losses reported in the first quarter of 2020, which were primarily in hedge and other fund investments focusing on asset-backed securities, equities, high-yield, leveraged loans and private credit. The first quarter 2020 losses were driven by adverse changes in fair values stemming from an increase in risk premiums (including credit spreads) as a consequence of the economic and financial market impact of the COVID-19 pandemic. The extent of market recovery on Ambac's investments in these funds varied during the second quarter of 2020, but in aggregate returned over half of first quarter losses. Ambac currently views year-to-date unrealized losses on its fund investments as temporary, subject to any subsequent decisions to monetize certain investments in connection with changes in liquidity needs, investment strategy, market conditions, and/or other circumstances. Other investment income for the three and six months ended June 30, 2019, was driven primarily by gains on equity and high-yield and loan funds, partially offset by losses on insurance-linked securities. Investment income from Ambac-insured securities was lower in both the three and six month periods ended June 30, 2020, compared to the prior year periods due primarily to the effects of 2019 de-risking activities and ongoing redemptions of Secured Notes issued by Ambac LSNI, LLC. Ambac's holdings of insured COFINA and Ballantyne bonds were settled in connection with the February 2019 COFINA commutation and June 2019 Ballantyne commutation, respectively. In addition to the reduced amount of holdings subsequent to these settlements, the Ballantyne transaction resulted in accelerated accretion on the bonds in the three months ended June 30, 2019, accounting for the majority of the decrease in income from Ambac-insured securities for both comparative periods. Additionally, income from Secured Notes is down as a result of early redemptions as well as lower LIBOR indexed coupon rates effective for the three and six months ended June 30, 2020 , as compared to the three and six months ended June 30, 2019 . Net investment income from available-for-sales securities other than Ambac-insured securities decreased as a result of the favorable impact on income for the three and six months ended June 30, 2019 , of high yielding uninsured COFINA bonds received under the POA, as well as the impact of a smaller asset base and lower average yields in 2020. All of the uninsured COFINA bonds were sold from Ambac's non-VIE investment portfolio by December 31, 2019. Portfolio repositioning away from BBB rated corporates, commercial mortgage backed securities and certain CLOs in the second quarter of 2020 also contributed to lower net investment income from available-for-sale securities for the three months ended June 30, 2020. Net Realized Investment Gains (Losses). The following table provides a breakdown of net realized gains (losses) for the periods presented: Three Months Ended June 30, Six Months Ended June 30, ($ in millions) 2020 2019 2020 2019 Net gains (losses) on securities sold or called $ 9 $ 10 $ 16 $ 30 Net foreign exchange gains (losses) 1 26 3 23 Credit impairments — — — — Intent / requirement to sell impairments — — — — Total net realized gains (losses) $ 10 $ 36 $ 18 $ 53 Net realized gains on securities sold or called for the three and six months ended June 30, 2020 , are primarily from sales in connection with routine portfolio management. Net realized gains on securities sold or called for the three and six months ended June 30, 2019 , included $7 million and $26 million, respectively, of net gains related to the impact of the COFINA Plan of Adjustment, including sales of Ambac-insured Puerto Rico COFINA bonds and new uninsured COFINA bonds received in the commutation. Also included in realized gains for the three and six months ended June | Ambac Financial Group, Inc. 59 2020 Second Quarter FORM 10-Q | 30, 2019, are $23 million of realized foreign exchange gains arising from the settlement of Ballantyne bonds held in the investment portfolio. Impairments are reported through earnings if management intends to sell securities or it is more likely than not that the Company will be required to sell before recovery of amortized cost. Credit impairments are recorded in earnings only to the extent management does not intend to sell, and it is not more likely than not that the Company will be required to sell the securities, before recovery of their amortized cost. When credit impairments are recorded, any non-credit related impairment amounts on the securities are recorded in other comprehensive income. Net Gains (Losses) on Derivative Contracts. Net gains (losses) on derivative contracts include results from the Company's interest rate derivatives portfolio and its runoff credit derivatives portfolio. The interest rate derivatives portfolio is positioned to benefit from rising rates as a partial economic hedge against interest rate exposure in the financial guarantee and investment portfolios. As forward rates and interest rate exposures elsewhere in the company have declined over the course of 2019 into the first half of 2020, the economic hedge position has been adjusted. Net gains (losses) on interest rate derivatives generally reflect mark-to-market gains (losses) in the portfolio caused by increases (declines) in forward interest rates during the periods, the carrying cost of the portfolio, and the impact of counterparty credit adjustments as discussed below. Results from credit derivatives were not significant to the periods presented. Net gains (losses) on interest rate derivatives for the three and six months ended June 30, 2020 , were $1 million and $(67) million , respectively, compared to ($36) million and $(52) million for the three and six months ended June 30, 2019 , respectively. The net gain for the three months ended June 30, 2020, reflects a gain from reduced counterparty credit adjustments, partially offset by the impact of interest rate movements on the portfolio. The net loss for six months ended June 30, 2020, reflects significant declines in forward interest rates, triggered by the COVID-19 pandemic, and losses from the application of counterparty credit adjustments, described further below. The net losses for three and six months ended June 30, 2019 , were driven by the impact of declines in forward interest rates during the period. Net carrying costs were not significant to the periods presented. Counterparty credit adjustments are generally applicable for uncollateralized derivative assets that may not be offset by derivative liabilities under a master netting agreement. Inclusion of counterparty credit adjustments in the valuation of interest rate derivatives resulted in gains (losses) within Net gains (losses) on derivative contracts of $8 million and $(21) million for the three and six months ended June 30, 2020 , respectively, and $(3) million for the three and six months ended June 30, 2019 . The gain for the three months ended June 30, 2020, was driven by narrower credit spreads, in a partial reversal of first quarter 2020 results. The loss for the six months ended June 30, 2020, was driven by wider credit spreads, including the effect of a credit rating downgrade of a derivative counterparty by Ambac during the first quarter, simultaneous with an increase in the underlying asset value as interest rates declined. Income (Loss) on Variable Interest Entities . Included within Income (loss) on variable interest entities are income statement amounts relating to VIEs, consolidated under the Consolidation Topic of the ASC as a result of Ambac's variable interest arising from financial guarantees written by Ambac's subsidiaries, including gains or losses attributable to consolidating or deconsolidating VIEs during the periods reported. Generally, the Company’s consolidated VIEs are entities for which Ambac has provided financial guarantees on all of or a portion of its assets or liabilities. In consolidation, assets and liabilities of the VIEs are initially reported at fair value and the related insurance assets and liabilities are eliminated. However, the amount of VIE net assets (liabilities) that remain in consolidation generally result from the net positive (negative) projected cash flows from (to) the VIEs which are attributable to Ambac’s insurance subsidiaries in the form of financial guarantee insurance premiums, fees and losses. In the case of VIEs with net negative projected cash flows, the net liability is generally to be funded by Ambac’s insurance subsidiaries through insurance claim payments. Differences between the net carrying value of the insurance accounts under the Financial Services—Insurance Topic of the ASC and the carrying value of the consolidated VIE’s net assets or liabilities are recorded through income at the time of consolidation or deconsolidation. Additionally, terminations or other changes to Ambac's financial guarantee insurance policies that impact projected cash flows between a consolidated VIE and Ambac could result in gains or losses, even if such policy changes do not result in deconsolidation of the VIE. Income (loss) on variable interest entities was a loss of less than a million and income of $3 million for the three and six months ended June 30, 2020 , respectively, compared to income of $3 million and $19 million for the three and six months ended June 30, 2019 , respectively. Results for the three months ended June 30, 2020 , reflect the further reduction in value of net assets of a VIE driven by the ongoing shut-down of parts of the economy resulting from COVID-19. Results for the six months ended June 30, 2020 , were due primarily to realized gains of $8 million on sales of assets from the COFINA Trust partially offset by the lower valuation of net assets on a VIE driven by the economic uncertainty caused by COVID-19. Results for the six months ended June 30, 2019, were driven by the $15 million gain on consolidation of the COFINA Trust. Refer to Note 3. Variable Interest Entities to the Unaudited Consolidated Financial Statements, included in Part I, Item 1 in this Form 10-Q for further information on the accounting for VIEs. Losses and Loss Expenses. Losses and loss expenses are based upon estimates of the aggregate losses inherent in the non-derivative financial guarantee portfolio for insurance policies issued to beneficiaries, including unconsolidated VIEs. Ambac records as a component of its loss reserve estimate subrogation recoveries related to securitized loans in RMBS transactions with respect to which Ambac Assurance is pursuing claims for breaches of representations and warranties. Ambac does not include potential recoveries attributed solely to fraudulent inducement claims in our litigations in our estimate of subrogation recoveries. Generally, the sponsor of an RMBS transaction provided representations and warranties with respect to the securitized loans, including representations with respect to the loan characteristics, the absence of borrower fraud in the underlying loan pools or other misconduct in the origination process and attesting to the compliance of loans with the prevailing underwriting policies. Ambac has recorded representation and | Ambac Financial Group, Inc. 60 2020 Second Quarter FORM 10-Q | warranty subrogation recoveries, net of reinsurance, of $1,731 million and $1,702 million at June 30, 2020 , and December 31, 2019 , respectively. The increase in these recoveries was primarily driven by lower discount rates used to discount estimated cash flows. Refer to Note 2. Basis of Presentation and Significant Accounting Policies to the Consolidated Financial Statements included in Part II, Item 8 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for more information regarding the estimation process for R&W subrogation recoveries. The following provides details, by bond type, for losses and loss expenses (benefit) incurred for the periods presented: Three Months Ended June 30, Six Months Ended June 30, ($ in millions) 2020 2019 2020 2019 RMBS $ (35 ) $ (69 ) $ (118 ) $ (108 ) Domestic Public Finance 42 50 220 120 Student Loans 4 (4 ) 18 (7 ) Ambac UK and Other Credits 5 (111 ) 12 (125 ) Totals (1) $ 16 $ (134 ) $ 132 $ (121 ) (1) Includes loss expenses incurred (benefit) of $34 and $37 for the three and six months ended June 30, 2020 , respectively, and ($1) and $28 for the three and six months ended June 30, 2019 , respectively. Losses and loss expenses (benefit) for the three and six months ended June 30, 2020 , were driven by the following: • Higher projected losses in domestic public finance driven mostly by lower discount rates (primarily relating to Puerto Rico) and incurred losses related to transactions directly impacted by the economic impact from COVID-19; and • An increase in student loan losses as a result of lower discount rates and the impact from COVID-19; partially offset by • Favorable RMBS development as a result of the positive impact of lower interest rates on excess spread, reduced by the negative impact of lower discount rates and expected losses from COVID-19 related delinquencies/defaults. Losses and loss expenses (benefit) for the three and six months ended June 30, 2019 , were driven by the following: • Favorable development within Ambac UK and Other Credits primarily due to the Ballantyne commutation; • Favorable RMBS development as a result of credit improvement, a trustee settlement related to Lehman sponsored transactions of $19 million and the impact on excess spread from declines in interest rates; partially offset by, • Higher projected losses in domestic public finance driven mostly by lower discount rates and additions to Puerto Rico loss reserves. Insurance Intangible Amortization. Insurance intangible amortization for the three and six months ended June 30, 2020 , was $14 million and $27 million, respectively, a decrease of $213 million and $236 million over the three and six months ended June 30, 2019 , respectively. The decrease is primarily due to accelerated amortization as a result of the Ballantyne commutation that occurred in the second quarter of 2019. Operating Expenses. Operating expenses consist of gross operating expenses plus reinsurance commissions. The following table provides a summary of operating expenses for the periods presented: Three Months Ended June 30, Six Months Ended June 30, ($ in millions) 2020 2019 2020 2019 Compensation $ 11 $ 17 $ 25 $ 32 Non-compensation 10 12 19 22 Gross operating expenses 20 29 44 54 Reinsurance commissions, net — — — — Total operating expenses $ 21 $ 29 $ 44 $ 54 Gross operating expenses decreased $9 million and $10 million for the three and six months ended June 30, 2020 , respectively, compared to the same periods in the prior year. Operating expenses incurred relating to COVID-19 have been minimal for the three and six months ended June 30, 2020 . The decrease in operating expenses during the three months ended June 30, 2020 as compared to the three months ended June 30, 2019 was due to the following: • Lower compensation costs primarily related to lower salaries resulting from continued right sizing of staffing levels and incentive compensation costs related to changes in performance metrics primarily impacted by the Ballantyne restructuring and • Lower non-compensation costs primarily due to reduced legal and consulting services. The decrease in operating expenses during the six months ended June 30, 2020 as compared to the six months ended June 30, 2019, was due to the following: • Lower compensation costs primarily due to lower salaries resulting from continued right sizing of staffing levels and incentive compensation costs related to changes in performance metrics primarily impacted by the Ballantyne restructuring and • Lower non-compensation costs primarily due to a UK Value Added Tax (VAT) refund recognized in the six months ended June 30, 2020 , and reduced consulting services. Legal and consulting services provided for the benefit of OCI amounted to $1 million and $1 million during the six months ended June 30, 2020 and 2019 , respectively. Interest Expense. Interest expense includes accrued interest on the Ambac Note, Tier 2 Notes, surplus notes and other debt obligations. Additionally, interest expense includes discount accretion when the debt instrument carrying value is at a discount to par. | Ambac Financial Group, Inc. 61 2020 Second Quarter FORM 10-Q | The following table provides details by type of obligation for the periods presented: Three Months Ended June 30, Six Months Ended June 30, ($ in millions) 2020 2019 2020 2019 Surplus notes (1) $ 24 $ 24 $ 50 $ 48 Ambac note 27 37 58 74 Tier 2 notes 7 6 14 13 Other — — — — Total interest expense $ 58 $ 67 $ 122 $ 135 (1) Includes junior surplus notes The decrease in interest expense for the three and six months ended June 30, 2020 , compared to the three and six months ended June 30, 2019 , was primarily driven by optional redemptions and lower rate resets of the floating rate Ambac Note, and lower discount accretion on surplus notes, partially offset by interest compounding on the surplus notes and the Tier 2 Notes. Surplus note principal and interest payments require the approval of OCI. Since the issuance of the surplus notes in 2010, OCI has declined to approve regular payments of interest on surplus notes, although the OCI has permitted exceptional payments in connection with (a) increasing the percentage of deferred policy payments of the Segregated Account of Ambac Assurance from 25% to 45% in 2014 and (b) a one-time payment of approximately six months of interest on the surplus notes (other than junior surplus notes) outstanding immediately after consummation of the Rehabilitation Exit Transactions in 2018. In accordance with their terms, Ambac Assurance has not requested to pay interest on any junior surplus notes since their issuance. In April 2020, OCI declined the request of Ambac Assurance to pay the principal amount of the surplus notes, plus all accrued and unpaid interest thereon, on the scheduled maturity date of June 7, 2020. As a result, the scheduled payment date for interest, and the scheduled maturity date for payment of principal of the surplus notes, shall be extended until OCI grants approval to make the payment. Interest will accrue, compounded on each anniversary of the original scheduled payment date or scheduled maturity date, on any unpaid principal or interest through the actual date of payment, at 5.1% per annum. Holders of surplus notes will have no rights to enforce the payment of the principal of, or interest on, surplus notes in the absence of OCI approval to pay such amount. The interest on the outstanding surplus notes and junior surplus notes were accrued for and Ambac Assurance is accruing interest on the interest amounts following each scheduled payment date. Total accrued and unpaid interest for surplus notes and junior surplus notes outstanding to third parties were $323 million and $159 million , respectively, at June 30, 2020 . Provision for Income Taxes . The provision for income taxes for the three and six months ended June 30, 2020 , was $2 million and a benefit of $4 million , a decrease of $26 million and $35 million compared to the provision for income taxes reported for three and six months ended June 30, 2019 . The change for the three and six months ended June 30, 2020 , as compared to the three and six months ended June 30, 2019 , was primarily attributable to Ambac UK, which had higher taxable income in 2019 due to the Ballantyne restructuring and commutation, and a taxable loss, related to investment losses on pooled funds, in the three months ended March 31, 2020. LIQUIDITY AND CAPITAL RESOURCES Ambac Financial Group, Inc. ("AFG") Liquidity . AFG's liquidity is primarily dependent on its cash, investments, and net receivables totaling $481 million as of June 30, 2020 , and secondarily on its expense sharing and other arrangements with Ambac Assurance. • Pursuant to the amended and restated tax sharing agreement among AFG, Ambac Assurance and certain affiliates (the "Amended TSA"), Ambac Assurance is required to make payments ("tolling payments") to AFG with respect to the utilization of net operating loss carry-forwards (“NOLs”). AFG has accrued $28 million of tolling payments based on NOLs used by Ambac Assurance in 2017. In May 2018, AFG executed a waiver under the intercompany tax sharing agreement pursuant to which Ambac Assurance was relieved of the requirement to make this payment by June 1, 2018. AFG also agreed to defer the tolling payment for the use of net operating losses by Ambac Assurance in 2017 until such time as OCI consents to the payment. • Under an inter-company cost allocation agreement, AFG is reimbursed by Ambac Assurance for a portion of certain operating costs and expenses and, if approved by OCI, entitled to an additional payment of up to $4 million per year to cover expenses not otherwise reimbursed. OCI approved this $4 million reimbursement f or 2019 expenses, which was paid in March 2020. AFG's investments include securities directly and indirectly issued by and/or insured by Ambac Assurance, some of which are eliminated in consolidation. Securities issued or insured by Ambac Assurance are generally less liquid than investment grade and other traded investments. It is highly unlikely that Ambac Assurance will be able to make dividend payments to AFG for the foreseeable future and therefore cash and investments, payments under the intercompany cost allocation agreement and future tolling payments, if any, will be AFG’s principal source of liquidity in the near term. Refer to Part I, Item 1, “Insurance Regulatory Matters — Dividend Restrictions, Including Contractual Restrictions” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , and Note 8. Insurance Regulatory Restrictions to the Consolidated Financial Statements included in Part II, Item 8, in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for more information on dividend payment restrictions. The principal uses of liquidity are the payment of operating expenses, including costs to explore opportunities to grow and diversify Ambac; and the making of investments, including securities issued or insured by Ambac Assurance. Future uses of liquidity may include the acquisition or capitalization of new businesses. Contingencies could cause material liquidity strains. Ambac Assurance Liquidity . Ambac Assurance’s liquidity is dependent on the balance of liquid investments and, over time, the net impact of sources and uses of funds. The principal sources of Ambac Assurance’s liquidity are gross installment premiums on insurance policies; principal and interest payments from investments; sales of investments; proceeds from repayment of | Ambac Financial Group, Inc. 62 2020 Second Quarter FORM 10-Q | affiliate loans; and recoveries on claim payments, including from litigation and reinsurance recoveries. Termination of installment premium policies on an accelerated basis may adversely impact Ambac Assurance’s liquidity. The principal uses of Ambac Assurance’s liquidity are the payment of operating and loss adjustment expenses, claims, commutation and related expense payments on insurance policies, ceded reinsurance premiums, principal and interest payments on the Ambac Note, surplus note principal and interest payments, Tier 2 Note payments, additional loans to affiliates, tolling payments due to AFG under the Amended TSA, and purchases of securities and other investments that may not be immediately converted into cash. • The COVID-19 pandemic has had a negative impact on Ambac's available liquidity as a consequence of the adverse reaction of the capital markets, which led to a reduction in the value and marketability of our invested assets; derivative losses, which required either timely settlement or additional collateral posting; and higher credit risk within the insured portfolio, as further described below. Nevertheless, Ambac has not yet experienced incremental demands on its liquidity, from higher claims or expenses, other than the aforementioned impact of derivatives. • Claim payments may increase during the global recession and COVID-19 pandemic as issuers, particularly those with revenues that will be interrupted by the effects of the pandemic, including social distancing, other restrictions on activities and the increase in unemployment, may not have sufficient cash inflows to pay debt service on Ambac-insured debt. Refer to "Financial Guarantees in Force" in this Management's Discussion and Analysis for further discussion of the potential impact of the COVID-19 pandemic on claim payments. • Interest and principal payments on surplus notes are subject to the approval of OCI, which has full discretion over payments regardless of the liquidity position of Ambac Assurance. Any such payment on surplus notes would require either payment or collateralization of a portion of the Tier 2 Notes under the terms of the Tier 2 Note indenture. See Note 13. Long-term Debt in the Notes to Consolidated Financial Statements, included in Part II, Item 8, in the Company's Annual Report on Form 10-K for the year ended December 31, 2019 for further discussion of the payment terms and conditions of the Tier 2 Notes. As discussed more fully in "Results of Operations" above in this Management's Discussion and Analysis, OCI declined Ambac Assurance's request to pay the principal amount of the surplus notes, plus all accrued and unpaid interest thereon, on June 7, 2020. Ambac Assurance's intercompany loans are with Ambac Financial Services ("AFS"). AFS uses interest rate derivatives (primarily interest rate swaps and US Treasury futures) as an economic hedge against the effects of rising interest rates elsewhere in the Company, including on Ambac Assurance’s financial guarantee exposures. AFS's derivatives include interest rate swaps previously provided to asset-backed issuers and other entities in connection with their financings. Ambac Assurance loans cash and securities to AFS as needed to fund payments under these derivative contracts, collateral posting requirements and operating expenses. Intercompany loans are governed by an established lending agreement with defined borrowing limits that has received non-disapproval from OCI. Ambac Assurance manages its liquidity risk by maintaining comprehensive analyses of projected cash flows and maintaining specified levels of cash and short-term investments at all times. Ambac Assurance is limited in its ability to pay dividends pursuant to the terms of its Auction Market Preferred Shares (“AMPS”), which state that dividends may not be paid on the common stock of Ambac Assurance unless all accrued and unpaid dividends on the AMPS for the then current dividend period have been paid, provided that dividends on the common stock may be made at all times for the purpose of, and only in such amounts as are necessary for enabling AFG (i) to service its indebtedness for borrowed money as such payments become due or (ii) to pay its operating expenses. If dividends are paid on the common stock for such purposes, dividends on the AMPS become cumulative until the date that all accumulated and unpaid dividends have been paid on the AMPS. Ambac Assurance has not paid dividends on the AMPS since 2010. Ambac Assurance is also subject to additional restrictions on the payment of dividends pursuant to certain contractual and regulatory restrictions. Refer to Part I, Item 1, “Insurance Regulatory Matters - Dividend Restrictions, Including Contractual Restrictions” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , and Note 8. Insurance Regulatory Restrictions to the Consolidated Financial Statements included in Part II, Item 8, in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for more information on dividend payment restrictions. Our ability to realize RMBS representation and warranty ("R&W") subrogation recoveries is subject to significant uncertainty, including risks inherent in litigation; collectability of such amounts from counterparties (and/or their respective parents and affiliates); timing of receipt of any such recoveries, including uncertainty due to delays in court proceedings as a result of the COVID-19 pandemic; intervention by the OCI, which could impede our ability to take actions required to realize such recoveries; and uncertainty inherent in the assumptions used in estimating the amount of such recoveries. The amount of these subrogation recoveries is significant and if we are unable to recover any amounts or recover materially less than our estimated recoveries, our future available liquidity to pay claims, debt service and meet our other obligations would be reduced materially. See Part I, Item 1A. Risk Factors in the Company's Annual Report on Form 10-K for the year ended December 31, 2019 , for more information about risks relating to our RMBS R&W subrogation recoveries. Cash Flow Statement Discussion. The following table summarizes the net cash flows for the periods presented. Six Months Ended June 30, ($ in million) 2020 2019 Cash provided by (used in): Operating activities $ (112 ) $ (265 ) Investing activities 270 313 Financing activities (205 ) (85 ) Foreign exchange impact on cash and cash equivalents — — Net cash flow $ (47 ) $ (37 ) | Ambac Financial Group, Inc. 63 2020 Second Quarter FORM 10-Q | Operating activities The following represents the significant cash activities during the six months ended June 30, 2020 and 2019 : • Cash used in operating activities relating to debt service on the Ambac Note was $58 million and $74 million for the six months ended June 30, 2020 and 2019 , respectively. • Cash used in operating activities related to interest rate derivatives was $19 million and $51 million for the six months ended June 30, 2020 and 2019 , respectively. • Cash used by operating activities relating to operating expenses was $44 million and $46 million for the six months ended June 30, 2020 and 2019 , respectively. • Cash provided by operating activities relating to the investment portfolio was $58 million and $73 million for the six months ended June 30, 2020 and 2019 , respectively. • Net loss and loss expenses paid, includin g commutation payments, during the six months ended June 30, 2020 and 2019 are detailed below: Six Months Ended June 30, ($ in million) 2020 2019 Net loss and loss expenses paid (recovered): Net losses paid (1) $ 64 $ 298 Net subrogation received (2) (56 ) (114 ) Net loss expenses paid 53 10 Net cash flow $ 61 $ 194 (1) Net losses paid include commutation payments of $2 and $213 for the six months ended June 30, 2020 and 2019 , respectively. (2) For or the six months ended June 30, 2019 , subrogation received includes $36 of settlement proceeds related to Lehman sponsored RMBS transactions and $23 related to the COFINA Plan of Adjustment. Future operating cash flows will primarily be impacted by the level of premium collections, investment coupon receipts and claim and expense payments. Financing Activities Financing activities for the six months ended June 30, 2020 , include paydowns of the Ambac Note of $103 million and paydowns / maturities of VIE debt obligations of $99 million . Financing activities for the six months ended June 30, 2019 , include paydowns of the Ambac Note of $22 million and paydowns of VIE debt obligations of $92 million , proceeds of $19 million from the re-issuance of 1,386 shares of Ambac owned AMPS and proceeds of $12 million from issuance of Ambac UK debt. Collateral AFS hedges a portion of the interest rate risk in the financial guarantee and investment portfolio, along with legacy customer interest rate swaps, with standardized derivative contracts, including financial futures contracts, which contain collateral or margin requirements. Under these hedge agreements, AFS is required to post collateral or margin to its counterparties and futures commission merchants to cover unrealized losses. In addition, AFS is required to post collateral or margin in excess of the amounts needed to cover unrealized losses. All AFS derivative contracts containing ratings-based downgrade triggers that could result in collateral or margin posting or a termination have been triggered. If terminations were to occur, AFS would be required to make termination payments but would also receive a return of collateral or margin in the form of cash or U.S. Treasury obligations with market values equal to or in excess of market values of the swaps and futures contracts. AFS may look to re-establish hedge positions that are terminated early, resulting in additional collateral or margin obligations. The amount of additional collateral or margin posted on derivatives contracts will depend on several variables including the degree to which counterparties exercise their termination rights (or agreements terminate automatically) and the terms on which hedges can be replaced. All collateral and margin obligations are currently met. Collateral and margin posted by AFS totaled a net amount of $165 million (cash and securities collateral of $10 million and $155 million , respectively), including independent amounts, under these contracts at June 30, 2020 . Ambac Credit Products (“ACP”) is not required to post collateral under any of its outstanding credit derivative contracts. BALANCE SHEET Total assets decreased by approximately $558 million from December 31, 2019 , to $12,761 million at June 30, 2020 , primarily due to the negative total return for the non-VIE investment portfolio, payment of loss and loss adjustment expenses, and interest and operating expenses, lower valuation of certain VIE assets caused by the economic effects of the COVID-19 pandemic, as well as the decrease to consolidated VIE assets as a result of currency changes (strengthening of the US Dollar). Other significant changes during the six months ended June 30, 2020 , were higher subrogation recoverables primarily related to increases in excess spread on RMBS as a result of lower interest rates and lower premium receivables and intangible assets from the continued runoff of the financial guarantee insurance portfolio. Total liabilities decreased by approximately $151 million from December 31, 2019 , to $11,632 million as of June 30, 2020 , primarily due to lower consolidated VIE liabilities as a result of price and currency changes, as noted above, and lower long-term debt due to partial redemption of the Ambac Note, partially offset by higher loss reserves and increases in interest rate derivative obligations as a result of reductions in forward interest rates. As of June 30, 2020 , total stockholders’ equity was $1,129 million , compared with total stockholders’ equity of $1,536 million at December 31, 2019 . This decrease was primarily due to a Total Comprehensive Loss during 2020 . The Comprehensive Loss was primarily driven by the net loss attributable to common stockholders for the six months ended June 30, 2020 , of $315 million , unrealized losses on available-for-sale investment securities of $42 million and translation losses on the consolidation of AFG's foreign subsidiaries of $48 million. | Ambac Financial Group, Inc. 64 2020 Second Quarter FORM 10-Q | Investment Portfolio . Ambac Assurance’s investment objective is to achieve the highest risk-adjusted after-tax return on a diversified portfolio of primarily fixed income investments and pooled investment funds while employing asset/liability management practices to satisfy operating and strategic liquidity needs. Ambac Assurance’s investment portfolio is subject to internal investment guidelines and is subject to limits on types and quality of investments imposed by the insurance laws and regulations of the jurisdictions in which it is licensed, primarily the States of Wisconsin and New York. Such guidelines set forth minimum credit rating requirements and credit risk concentration limits. Within these guidelines, which in certain instances may be exceeded with the approval of the applicable regulatory authority, Ambac Assurance opportunistically purchases or sells Ambac Assurance insured securities given their relative risk/reward characteristics. Ambac Assurance’s investment policies are subject to oversight by OCI pursuant to the Settlement Agreement, the Stipulation and Order and the indenture for the Tier 2 Notes. The Board of Directors of Ambac Assurance approves any changes to Ambac Assurance's investment policy. Ambac UK’s investment policy is designed with the primary objective of ensuring that Ambac UK is able to meet its financial obligations as they fall due, in particular with respect to policyholder claims. Ambac UK’s investment portfolio is primarily fixed income investments and diversified holdings of pooled investment funds. The portfolio is subject to internal investment guidelines and may be subject to limits on types and quality of investments imposed by the PRA as regulator of Ambac UK. Ambac UK’s investment policy sets forth minimum credit rating requirements and concentration limits, among other restrictions. The Board of Directors of Ambac UK approves any changes or exceptions to Ambac UK’s investment policy. AFG's investment portfolio's primary objective is to preserve capital and liquidity for strategic uses while maximizing income. Refer to Note 8. Investments to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q for information about Ambac's consolidated investment portfolio. Ambac's investment policies and objectives do not apply to the assets of VIEs consolidated as a result of financial guarantees written by its insurance subsidiaries. In the second quarter of 2020, Ambac monetized a material portion of its investments in certain assets classes; including corporate securities rated below the 'A' rated category, all directly owned CMBS (other than Military Housing bonds), and approximately 50% of all CLOs (all rated investment grade) and acquired additional distressed Ambac-insured securities. These actions resulted in changes to the credit rating distribution of available-for-sale investments from December 31, 2019, to June 30, 2020, illustrated in the charts below. The following table summarizes the composition of Ambac’s investment portfolio, excluding VIE investments, at carrying value at June 30, 2020 and December 31, 2019 : ($ in millions) June 30, 2020 December 31, 2019 Fixed income securities $ 2,218 $ 2,577 Short-term 692 653 Other investments 401 478 Fixed income securities pledged as collateral 155 85 Total investments (1) $ 3,466 $ 3,792 (1) Includes investments denominated in non-US dollar currencies with a fair value of £278 ( $344 ) and €28.3 ( $31.8 ) as of June 30, 2020 , and £257 ( $341 ) and €2 ( $2 ) as of December 31, 2019 . Ambac invests in various asset classes in its fixed income securities portfolio, including securities covered by guarantees issued by Ambac Assurance and Ambac UK and other financial guarantors ("insured securities"). Other investments include diversified interests in pooled funds. Refer to Note 8. Investments to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q for information about insured securities and fixed income and pooled funds by asset class. The following table represents the fair value of other asset-backed securities, included in fixed income securities above, at June 30, 2020 and December 31, 2019 , by classification: ($ in millions) June 30, 2020 December 31, 2019 Other asset-backed securities Military Housing $ 228 $ 237 Other 60 50 Total other asset-backed securities $ 288 $ 287 | Ambac Financial Group, Inc. 65 2020 Second Quarter FORM 10-Q | The following charts provide the ratings (1) distribution of the fixed income investment portfolio based on fair value at June 30, 2020 and December 31, 2019 : (1) Ratings are based on the lower of Moody’s or S&P ratings. If ratings are unavailable from Moody's or S&P, Fitch ratings are used. If guaranteed, rating represents the higher of the underlying or guarantor’s financial strength rating. (2) Below investment grade and not rated bonds insured by Ambac represent 38% and 33% of the June 30, 2020 and December 31, 2019 combined fixed income portfolio, respectively. Premium Receivables . Ambac's premium receivables decreased to $392 million at June 30, 2020 , from $416 million at December 31, 2019 . As further discussed in Note 6. Financial Guarantee Insurance Contracts , the decrease is due to premium receipts, changes to the allowance for credit losses, and changes in foreign currencies, partially offset by changes in expected and contractual cash flows and accretion of premium receivable discount. Premium receivables by payment currency were as follows: Currency (Amounts in millions) Premium Receivable in Payment Currency Premium Receivable in U.S. Dollars U.S. Dollars $ 243 $ 243 British Pounds £ 103 127 Euros € 19 22 Total $ 392 Reinsurance Recoverable on Paid and Unpaid Losses . Ambac Assurance has reinsurance in place pursuant to surplus share treaty and facultative agreements. To minimize its exposure to losses from reinsurers, Ambac Assurance (i) monitors the financial condition of its reinsurers; (ii) is entitled to receive collateral from its reinsurance counterparties under certain reinsurance contracts; and (iii) has certain cancellation rights that can be exercised by Ambac Assurance in the event of rating agency downgrades of a reinsurer (among other events and circumstances). Ambac Assurance benefited from letters of credit and collateral amounting to approximately $129 million from its reinsurers at June 30, 2020 . As of June 30, 2020 and December 31, 2019 , reinsurance recoverable on paid and unpaid losses were $36 million and $26 million , respectively. The increase was primarily a result of adverse development in public finance and student loan insured exposures. Insurance Intangible Asset . At the Fresh Start Reporting Date, an insurance intangible asset was recorded which represented the difference between the fair value and aggregate carrying value of the financial guarantee insurance and reinsurance assets and liabilities. As of June 30, 2020 and December 31, 2019 , the net insurance intangible asset was $392 million and $427 million , respectively. Other than through amortization, variance in the insurance intangible asset is solely from translation gains (losses) from the consolidation of Ambac's foreign subsidiary (Ambac UK). Derivative Assets and Liabilities. The interest rate derivative portfolio is positioned to benefit from rising rates as a partial economic hedge against interest rate exposure in the financial guarantee and investment portfolios. Derivative assets increased from $75 million at December 31, 2019, to $97 million as of June 30, 2020 . Derivative liabilities increased from $90 million at December 31, 2019 , to $134 million as of June 30, 2020 . The net increases resulted primarily from lower interest rates during the six months ended June 30, 2020, with the effect on assets partially offset by higher counterparty credit adjustments. Loss and Loss Expense Reserves and Subrogation Recoverable . Loss and loss expense reserves are based upon estimates of the ultimate aggregate losses inherent in the non-derivative portfolio for insurance policies issued to beneficiaries, including unconsolidated VIEs. The evaluation process for determining the level of reserves is subject to certain estimates and judgments. Refer to the "Critical Accounting Policies and Estimates" and “Results of Operations” sections of Management’s Discussion and Analysis of Financial Condition and Results of Operations, in addition to Basis of Presentation and Significant Accounting Policies and Loss Reserves sections included in Note 2. Basis of Presentation and | Ambac Financial Group, Inc. 66 2020 Second Quarter FORM 10-Q | Significant Accounting Policies and Note 6. Financial Guarantee Insurance Contracts , respectively, of the Consolidated Financial Statements included in Part II, Item 8 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for further information on loss and loss expenses. The loss and loss expense reserves, net of subrogation recoverables and before reinsurance as of June 30, 2020 and December 31, 2019 , were $(401) million and $(482) million , respectively. Loss and loss expense reserves are included in the Unaudited Consolidated Balance Sheets as follows: Present Value of Expected Net Cash Flows Unearned Premium Revenue Gross Loss and Loss Expense Reserves ($ in millions) Balance Sheet Line Item Claims and Loss Expenses Recoveries (1) June 30, 2020: Loss and loss expense reserves $ 2,134 $ (238 ) $ (82 ) $ 1,814 Subrogation recoverable 120 (2,336 ) — (2,215 ) Totals $ 2,254 $ (2,573 ) $ (82 ) $ (401 ) December 31, 2019: Loss and loss expense reserves $ 1,835 $ (233 ) $ (54 ) $ 1,548 Subrogation recoverable 131 (2,160 ) — (2,029 ) Totals $ 1,966 $ (2,394 ) $ (54 ) $ (482 ) (1) Present value of future recoveries includes R&W subrogation recoveries of $1,757 and $1,727 at June 30, 2020 and December 31, 2019 , respectively. Ambac has exposure to various bond types issued in the debt capital markets. Our experience has shown that, for the majority of bond types, we have not experienced significant claims. The bond types that have experienced significant claims, including through commutations, are residential mortgage-backed securities (“RMBS”), student loan securities and public finance securities. These bond types represent 94% of our ever-to-date insurance claims recorded, with RMBS comprising 76%. The table below indicates gross par outstanding and the components of gross loss and loss expense reserves related to policies in Ambac’s gross loss and loss expense reserves at June 30, 2020 and December 31, 2019 : Gross Par Outstanding (1)(2) Present Value of Expected Net Cash Flows Unearned Premium Revenue Gross Loss and Loss Expense Reserves (1)(3) ($ in millions) Claims and Loss Expenses Recoveries June 30, 2020: RMBS $ 2,769 $ 707 $ (2,193 ) $ (13 ) $ (1,499 ) Domestic Public Finance 3,714 1,197 (344 ) (54 ) 799 Student Loans 445 269 (36 ) (4 ) 229 Ambac UK and Other Credits 896 24 — (11 ) 13 Loss expenses — 57 — — 57 Totals $ 7,824 $ 2,254 $ (2,573 ) $ (82 ) $ (401 ) December 31, 2019: RMBS $ 3,027 $ 634 $ (2,013 ) $ (13 ) $ (1,392 ) Domestic Public Finance 2,398 1,007 (344 ) (36 ) 627 Student Loans 472 248 (36 ) (4 ) 208 Ambac UK and Other Credits 271 4 — (1 ) 3 Loss expenses — 73 — — 73 Totals $ 6,168 $ 1,966 $ (2,394 ) $ (54 ) $ (482 ) (1) Ceded par outstanding on policies with loss reserves and ceded loss and loss expense reserves are $866 and $35 respectively, at June 30, 2020 , and $511 and $26, respectively at December 31, 2019 . Ceded loss and loss expense reserves are included in Reinsurance recoverable on paid and unpaid losses. (2) Gross Par Outstanding includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed to the current accreted value of the bond. (3) Loss reserves are included in the balance sheet as Loss and loss expense reserves or Subrogation recoverable dependent on if a policy is in a net liability or net recoverable position. | Ambac Financial Group, Inc. 67 2020 Second Quarter FORM 10-Q | Variability of Expected Losses and Recoveries Ambac’s management believes that the estimated future loss component of loss reserves (present value of expected net cash flows) are adequate to cover future claims presented, but there can be no assurance that the ultimate liability will not be higher than such estimates. It is possible that our estimated future losses for insurance policies discussed above could be understated or that our estimated future recoveries could be overstated. We have attempted to identify possible cash flows related to losses and recoveries using more stressful assumptions than the probability-weighted outcome recorded. The possible net cash flows consider the highest stress scenario that was utilized in the development of our probability-weighted expected loss at June 30, 2020 , and assumes an inability to execute any commutation transactions with issuers and/or investors. Such stress scenarios are developed based on management’s view about all possible outcomes relating to losses and recoveries. In arriving at such view, management makes considerable judgments about the possibility of various future events. Although we do not believe it is possible to have stressed outcomes in all cases, it is possible that we could have stress case outcomes in some or even many cases. See “Risk Factors” in Part I, Item 1A as well as the descriptions of "RMBS Variability," "Public Finance Variability," "Student Loan Variability," and "Other Credits, including Ambac UK, Variability," in Part II, Item 7 of the Company's 2019 Annual Report on Form 10-K for further discussion of the risks relating to future losses and recoveries that could result in more highly stressed outcomes, and "Risk Factors" in Part II, Item 1A of this Quarterly Report on Form 10-Q as well as the descriptions of "RMBS Variability," "Public Finance Variability," "Student Loan Variability," and "Other Credits, including Ambac UK, Variability" appearing below. The occurrence of these stressed outcomes individually or collectively would have a material adverse effect on our results of operations and financial condition and may result in materially adverse consequence for the Company, including (without limitation) impairing the ability of Ambac Assurance to honor its financial obligations; the initiation of rehabilitation proceedings against Ambac Assurance; decreased likelihood of Ambac Assurance delivering value to AFG, through dividends or otherwise; and a significant drop in the value of securities issued or insured by AFG or Ambac Assurance. RMBS Variability: Ambac has exposure to the U.S. mortgage market primarily through direct financial guarantees of RMBS, including transactions collateralized by first and second liens. Changes to assumptions that could make our reserves under-estimated include an increase in interest rates, deterioration in housing prices, poor servicing, and the effect of a weakened economy characterized by growing unemployment and wage pressures. We utilize a model to project losses in our RMBS exposures and changes to reserves, either upward or downward, are not unlikely if we used a different model or methodology to project losses. We established a representation and warranty subrogation recovery as further discussed in Note 6. Financial Guarantee Insurance Contracts to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q. Our ability to realize RMBS representation and warranty recoveries is subject to significant uncertainty, including risks inherent in litigation; collectability of such amounts from counterparties (and/or their respective parents and affiliates); delays in realizing such recoveries, including as a result of trial delays due to court closures related to COVID-19 or other events; intervention by the OCI, which could impede our ability to take actions required to realize such recoveries; and uncertainty inherent in the assumptions used in estimating such recoveries. Additionally, our R&W actual subrogation recoveries could be significantly lower than our estimate of $1,731 million , net of reinsurance, as of June 30, 2020 , if the sponsors of these transactions: (i) fail to honor their obligations to repurchase the mortgage loans, (ii) successfully dispute our breach findings or claims for damages, (iii) no longer have the financial means to fully satisfy their obligations under the transaction documents, or (iv) our pursuit of recoveries is otherwise unsuccessful. Failure to realize R&W subrogation recoveries for any reason or the realization of R&W subrogation recoveries materially below the amount recorded on Ambac's consolidated balance sheet would have a material adverse effect on our results of operations and financial condition. In the case of both first and second-lien exposures, the possible stress case assumes a lower housing price appreciation projection, which in turn drives higher defaults and severities. Using this approach, the possible increase in loss reserves for RMBS credits for which we have an estimate of expected loss at June 30, 2020 , could be approximately $35 million . Combined with the absence of any R&W subrogation recoveries, a possible increase in loss reserves for RMBS could be approximately $1,766 million . Additionally, loss payments are sensitive to changes in interest rates, increasing as interest rates rise. For example an increase in interest rates of 0.50% could increase our estimate of expected losses by approximately $40 million. Additionally, the RMBS portfolio is sensitive to the COVID-19 related forbearances and delinquencies caused by the general economic downturn. Due to the uncertainties related to the economic effects of the COVID-19 pandemic and other risks associated with RMBS, there can be no assurance that losses may not exceed our stress case estimates. Public Finance Variability: Ambac’s U.S. public finance portfolio consists predominantly of municipal bonds such as general and revenue obligations and lease and tax-backed obligations of state and local government entities; however, the portfolio also includes a wide array of non-municipal types of bonds, including financings for not-for-profit entities and transactions with public and private elements, which generally finance infrastructure, housing and other public purpose facilities and interests. The increase in public finance gross loss reserves at June 30, 2020 , as compared to December 31, 2019 , was primarily related to declines in discount rates; changes in assumptions on certain credits, particularly Puerto Rico; and the adverse impact on loss reserves from the global and issuer-specific economic impact of the COVID-19 pandemic. Total public finance gross loss reserves and related gross par outstanding on Ambac insured obligations by bond type were as follows: | Ambac Financial Group, Inc. 68 2020 Second Quarter FORM 10-Q | June 30, 2020 December 31, 2019 Issuer Type ($ in millions) Gross Par Outstanding (1) Gross Loss Reserves Gross Par Outstanding (1) Gross Loss Reserves Lease and tax-backed $ 1,468 $ 729 $ 1,075 $ 561 General obligation 614 (20 ) 681 (16 ) Housing 456 28 457 29 Transportation revenue 231 48 88 42 Other 945 14 97 11 Total $ 3,714 $ 799 $ 2,398 $ 627 (1) Gross Par Outstanding includes capital appreciation bonds, which are reported at the par amount at the time of issuance of the insurance policy as opposed to the current accreted value of the bond. It is possible our loss reserves for public finance credits may be under-estimated if issuers are faced with prolonged exposure to adverse political, judicial, economic, fiscal or socioeconomic events or trends. Additionally, our loss reserves may be under-estimated as a result of the ultimate scope, duration and magnitude of the effects of COVID-19. The COVID-19 related economic downturn has put a strain on municipal issuers, particularly those dependent upon narrow sources of revenues or dedicated taxes to support debt services, such as hotel occupancy taxes, sales taxes, parking revenues, tolls, licensing fees, etc. A prolonged recovery from the COVID-19 related economic downturn could put additional stresses on these issuers as well as other types of municipal finance issuers and result in increased defaults and potential additional losses for Ambac. Our experience with the city of Detroit in 2013 in its bankruptcy proceeding was not favorable and renders future outcomes with other public finance issuers even more difficult to predict and may increase the risk that we may suffer losses that could be sizable. We agreed to settlements regarding our insured Detroit general obligation bonds that provide better treatment of our exposures than the city planned to include in its plan of adjustment, but nevertheless required us to incur a loss for a significant portion of our exposure. An additional troubling precedent in the Detroit case, as well as other municipal bankruptcies, is the preferential treatment of certain creditor classes, especially the public pensions. The cost of pensions and the need to address frequently sizable unfunded or underfunded pensions is often a key driver of stress for many municipalities and their related authorities, including entities to whom we have significant exposure, such as Chicago's school district, the State of New Jersey and many others. Less severe treatment of pension obligations in bankruptcy may lead to worse outcomes for traditional debt creditors. Variability of outcomes applies to even what is generally considered more secure municipal financings, such as dedicated sales tax revenue bonds that capture sales tax revenues for debt service ahead of any amounts being deposited into the general fund of an issuer. In the case of the Puerto Rico COFINA sales tax bonds that were part of the Commonwealth of Puerto Rico's Title III proceedings, Ambac Assurance and other creditors agreed to settle at a recovery rate equal to about 93% of pre-petition amounts owed on the Ambac insured senior COFINA bonds. In the COFINA case, the senior bonds still received a reduction or "haircut" despite the existence of junior COFINA bonds, which received a recovery rate equal to about 56% of pre-petition amounts owed. In addition, municipal entities may be more inclined to use bankruptcy to resolve their financial stresses if they believe preferred outcomes for various creditor groups can be achieved. We expect municipal bankruptcies and defaults to continue to be challenging to project given the unique political, economic, fiscal, legal, governance and public policy differences among municipalities as well as the complexity, long duration and relative infrequency of the cases themselves in forums with a scarcity of legal precedent. Another potentially adverse development that could cause the loss reserves on our public finance credits to be underestimated is deterioration in the municipal bond market, resulting from reduced or limited access to alternative forms of credit (such as bank loans) or other exogenous factors, such as changes in tax law that could reduce certain municipal investors' appetite for tax-exempt municipal bonds or put pressure on issuers in states with high state and local taxes. These factors as well as more recent volatility in the municipal markets as a result of the COVID-19 related economic downturn and the building budgetary pressures at the state and local level related to the cost of fighting the virus could deprive issuers access to funding at a level necessary to avoid defaulting on their obligations. In addition, a judicial decision in connection with the PRHTA Title III proceedings could cause the loss reserves on our public finance credits to be underestimated. On January 13, 2020, the U.S. Supreme Court denied a petition for certiorari arising out of an appeal of the March 26, 2019 ruling by the U.S. Court of Appeals for the First Circuit. In the ruling, the First Circuit affirmed the decision by the U.S. District Court overseeing the PROMESA Title III proceedings for the PRHTA, which found that under Sections 928(a) and 922(d) of the U.S. Bankruptcy Code, municipal issuers of revenue bonds secured by special revenues are permitted, but not required, to apply special revenues to pay debt service on such revenue bonds during the pendency of bankruptcy proceedings for such municipal issuers. The First Circuit's decision challenges what had been a commonly understood notion in the municipal finance marketplace that municipal revenues bondholders secured by special revenues (as defined in Chapter 9 of the U.S. Bankruptcy Code) would continue to receive payment during a bankruptcy of the municipal issuer. This decision introduces uncertainty into the public finance market and it may make it more difficult for municipal instrumentalities to procure revenue bond financings in the future and increases the credit risk to bondholders of existing special revenue bonds, particularly those from weaker issuers. | Ambac Financial Group, Inc. 69 2020 Second Quarter FORM 10-Q | While our loss reserves consider our judgment regarding issuers’ financial flexibility to adapt to adverse markets, they may not adequately capture sudden, unexpected or protracted uncertainty that adversely affects market conditions, such as the developing COVID-19 related economic downturn. Our exposures to the Commonwealth of Puerto Rico are under stress arising from the Commonwealth’s poor financial condition, weak economy, loss of capital markets access and the severe damage caused by hurricanes Irma and Maria and other natural disasters. These factors, taken together with the payment moratorium on debt service of the Commonwealth and its instrumentalities, ongoing PROMESA Title III proceedings, and certain other provisions under PROMESA, the potential for restructurings of debt insured by Ambac Assurance, either with or without its consent, and the possibility of protracted litigation as a result of which its rights may be materially impaired, may cause losses to exceed current reserves in a material manner. See "Financial Guarantees in Force" section of Management’s Discussion and Analysis of Financial Condition and Results of Operations included in Part II, Item 7 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for further details on the legal, economic and fiscal developments that have impacted or may impact Ambac Assurance’s insured Puerto Rico bonds. In this Form 10-Q, refer to "Financial Guarantees in Force" in Part I, Item 2 in Management's Discussion and Analysis of Financial Condition and Results of Operation and Note 11. Commitments and Contingencies to the Unaudited Consolidated Financial Statements for further updates related to Puerto Rico. Material additional losses on our public finance credits caused by the aforementioned factors and including the possibility of a protracted recovery related to the COVID-19 crisis would have a material adverse effect on our results of operations and financial condition. For the public finance credits, including Puerto Rico, for which we have an estimate of expected loss at June 30, 2020 , the possible increase in loss reserves could be approximately $1,200 million . However, there can be no assurance that losses may not exceed our stress case estimates. Among other things, this estimate includes the possibility that the amended Commonwealth plan of adjustment (as discussed above in the Financial Guarantees in Force section of this Management Discussion and Analysis) were to become effective. Student Loan Variability: Changes to assumptions that could make our reserves under-estimated include, but are not limited to, increases in interest rates, default rates and loss severities on the collateral due to economic or other factors, including the COVID-19 related economic downturn. Such factors may include lower recoveries on defaulted loans or additional losses on collateral or trust assets, including as a result of any enforcement actions by the Consumer Finance Protection Bureau. For student loan credits for which we have an estimate of expected loss at June 30, 2020 , the possible increase in loss reserves could be approximately $30 million . Additionally, an increase in interest rates of 0.50% could increase our estimate of expected losses by approximately $20 million. Additionally, the student loan portfolio is sensitive to COVID-19 related payment moratoriums and delinquencies caused by the general economic downturn. There can be no assurance that losses may not exceed our stress case estimates. Other Credits, including Ambac UK, Variability: It is possible our loss reserves on other types of credits, including those insured by Ambac UK, may be under-estimated because of various risks that vary widely, including the risk that we may not be able to recover or mitigate losses through our remediation processes. For all other credits, including Ambac UK, for which we have an estimate of expected loss, the sum of all the highest stress case loss scenarios is approximately $370 million greater than the loss reserves at June 30, 2020 . Additionally, our loss reserves may be under-estimated as a result of the ultimate scope, duration and magnitude of the effects of COVID-19. There can be no assurance that losses may not exceed our stress case estimates. Long-term Debt: Long-term debt consists of senior and junior surplus notes issued by Ambac Assurance, the Ambac Note and Tier 2 Notes issued in connection with the Rehabilitation Exit Transactions, and Ambac UK debt issued in connection with the 2019 Ballantyne commutation. The carrying value of each of these as of June 30, 2020 and December 31, 2019 is below: ($ in millions) June 30, 2020 December 31, 2019 Surplus notes (1) $ 785 $ 769 Ambac note 1,659 1,763 Tier 2 notes 292 278 Ambac UK debt 13 13 Total Long-term Debt $ 2,749 $ 2,822 (1) Includes junior surplus notes. The decrease in long-term debt from December 31, 2019 , is primarily due to optional redemptions of $103 million of the Ambac Note, partially offset by the accretion on the carrying value of surplus notes, Tier 2 Notes and Ambac UK debt. VARIABLE INTEREST ENTITIES Please refer to Note 3. Variable Interest Entities to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q and Note 2. Basis of Presentation and Significant Accounting Policies and Note 3. Variable Interest Entities to the Consolidated Financial Statements, included in Part II, Item 8 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for information regarding variable interest entities. ACCOUNTING STANDARDS The following accounting standards have been issued but have not yet been adopted. We do not expect these standards to have a consequential impact on Ambac's financial statements. Defined Benefit and Other Postretirement Plans Disclosures In August 2018, the FASB issued ASU 2018-14, Compensation - Retirement Benefits - Defined Benefit Plans - General (Subtopic 715-20) - Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans . The ASU modifies various disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. Relevant disclosures that will be removed are: i) amounts in accumulated other comprehensive income expected to be recognized as net | Ambac Financial Group, Inc. 70 2020 Second Quarter FORM 10-Q | periodic benefit cost over the next fiscal year and ii) the effects of a one percentage point change in assumed health care cost trend rates on the (a) aggregate of the service and interest cost components of the net periodic pension cost and (b) benefit obligation for postretirement healthcare benefits. Relevant disclosures that will be added are an explanation of the reasons for significant gains and losses related to changes in the benefit obligations for the period. The ASU is effective for fiscal years ending after December 15, 2020, with early adoption permitted. The modified disclosures must be applied on a retrospective basis for all periods presented. Ambac will adopt this ASU on December 31, 2020. Simplifying Income Tax Accounting In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740) - Simplifying the Accounting for Income Taxes . The FASB issued this ASU as part of its initiative to reduce complexity in accounting standards. The ASU removes certain exceptions in the guidance related to investments, intraperiod allocations and interim period allocations. It further adds new guidance related to the allocation of consolidated income taxes and evaluating a step-up in the tax basis of goodwill. The ASU is effective for fiscal years beginning after December 15, 2020, with early adoption permitted. The modified disclosures must be applied on a retrospective basis for all periods presented. Ambac will adopt this ASU on January 1, 2021. Please refer to Note 2. Basis of Presentation and Significant Accounting Policies to the Consolidated Financial Statements, included in Part II, Item 8 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 , for a discussion of the impact of other recent accounting pronouncements on Ambac’s financial condition and results of operations. AMBAC ASSURANCE STATUTORY BASIS FINANCIAL RESULTS Ambac Assurance statutory financial statements are prepared on the basis of accounting practices prescribed or permitted by the OCI. OCI recognizes only statutory accounting practices prescribed or permitted by the State of Wisconsin (“SAP”) for determining and reporting the financial condition and results of operations of an insurance company for determining its solvency under Wisconsin Insurance Law. The National Association of Insurance Commissioners (“NAIC”) Accounting Practices and Procedures manual (“NAIC SAP”) has been adopted as a component of prescribed practices by the State of Wisconsin. For further information, see "Ambac Assurance Statutory Basis Financial Results," in Part II, Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations," and Note 8. Insurance Regulatory Restrictions to the Consolidated Financial Statements included in Part II, Item 8 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 . Ambac Assurance’s statutory policyholder surplus and qualified statutory capital (defined as the sum of policyholders surplus and mandatory contingency reserves) were $987 million and $1,527 million at June 30, 2020 , respectively, as compared to $1,088 million and $1,618 million at December 31, 2019 , respectively. As of June 30, 2020 , statutory policyholder surplus and qualified statutory capital included $574 million principal balance of surplus notes outstanding, $365 million principal balance of junior surplus notes outstanding and $138 million liquidation preference of preferred stock outstanding. These surplus and junior surplus notes (including related accrued interest of $507 million that is not recorded under statutory basis accounting principles), preferred stock and all other liabilities (including insurance claims and debt issued by Ambac Assurance) are obligations that have claims on the resources of Ambac Assurance that are senior to AFG's equity and therefore impact AFG's ability to realize residual value or receive dividends from Ambac Assurance. The significant drivers to the net decrease in policyholder surplus are primarily due to a (i) statutory net loss of $58 million for the six months ended June 30, 2020 (excluding dividends from subsidiaries); (ii) a decrease of $28 million in the fair value of pooled fund investments and investment securities that are recorded at the lower of amortized cost or fair value ; and (iii) contributions to contingency reserves of $9 million. Ambac Assurance statutory surplus is sensitive to multiple factors, including: (i) loss reserve development, (ii) approval by OCI of payments on surplus notes and junior surplus notes, (iii) ongoing interest costs associated with the Ambac Note and Tier 2 Notes, including changes to interest rates as the Ambac Note is a floating rate obligation, (iv) deterioration in the financial position of Ambac Assurance subsidiaries that have their obligations guaranteed by Ambac Assurance, (v) first time payment defaults of insured obligations, which increase statutory loss reserves, (vi) commutations of insurance policies or credit derivative contracts at amounts that differ from the amount of liabilities recorded, (vii) reinsurance contract terminations at amounts that differ from net assets recorded, (viii) changes to the fair value of pooled fund and other investments carried at fair value, (ix) settlements of representation and warranty breach claims at amounts that differ from amounts recorded, including failures to collect such amounts or receive recoveries sufficient to pay or redeem the Ambac Note and Tier 2 Notes, (x) realized gains and losses, including losses arising from other than temporary impairments of investment securities, and (xi) future changes to prescribed practices by the OCI. AMBAC UK FINANCIAL RESULTS UNDER UK ACCOUNTING PRINCIPLES Ambac UK is required to prepare financial statements under FRS 102 "The Financial Reporting Standard applicable in the UK and Republic of Ireland." Ambac UK’s shareholder funds under UK GAAP were £398 million at June 30, 2020 , as compared to £387 million at December 31, 2019 . At June 30, 2020 , the carrying value of cash and investments was £471 million , an increase from £470 million at December 31, 2019 . The increase in shareholders’ funds and cash & investments was primarily due to the continued receipt of premiums and foreign exchange gains, partially offset by losses within Ambac UK's investment portfolio and tax and other operating expense payments. Ambac UK is also required to prepare financial information in accordance with the Solvency II Directive. The basis of preparation of this information is significantly different from both US GAAP and UK GAAP. Available capital resources under Solvency II were a surplus of £180 million at June 30, 2020 , of which £166 million were eligible to meet solvency capital requirements. This is a reduction from | Ambac Financial Group, Inc. 71 2020 Second Quarter FORM 10-Q | December 31, 2019 , when available capital resources were a surplus of £188 million of which £178 million were eligible to meet solvency capital requirements. The eligible capital resources at June 30, 2020 , and December 31, 2019 , were in comparison to regulatory capital requirements of £242 million and £208 million respectively. Ambac UK is therefore deficient in terms of compliance with applicable regulatory capital requirements by £76 million and £30 million at June 30, 2020 , and December 31, 2019 , respectively. The deficit increased as at June 30, 2020 , due to an increase in regulatory capital requirements for non-life insurers in the credit and surety line of business and due to a reduction in eligible capital resources mainly caused by the fall over the period in long term discount rates. The regulators are aware of the deficiency in capital resources as compared to capital requirements and dialogue between Ambac UK management and its regulators remains ongoing with respect to options for addressing the shortcoming, although such options remain few. NON-GAAP FINANCIAL MEASURES In addition to reporting the Company’s quarterly financial results in accordance with GAAP, the Company currently reports two non-GAAP financial measures: Adjusted Earnings and Adjusted Book Value. The most directly comparable GAAP measures are net income attributable to common stockholders for Adjusted Earnings and Total Ambac Financial Group, Inc. stockholders’ equity for Adjusted Book Value. A non-GAAP financial measure is a numerical measure of financial performance or financial position that excludes (or includes) amounts that are included in (or excluded from) the most directly comparable measure calculated and presented in accordance with GAAP. We are presenting these non-GAAP financial measures because they provide greater transparency and enhanced visibility into the underlying drivers of our business. Adjusted Earnings and Adjusted Book Value are not substitutes for the Company’s GAAP reporting, should not be viewed in isolation and may differ from similar reporting provided by other companies, which may define non-GAAP measures differently. Ambac has a significant U.S. tax net operating loss (“NOL”) that is offset by a full valuation allowance in the GAAP consolidated financial statements. As a result of this and other considerations, we utilized a 0% effective tax rate for non-GAAP adjustments; which is subject to change. The following paragraphs define each non-GAAP financial measure and describe why it is useful. A reconciliation of the non-GAAP financial measure and the most directly comparable GAAP financial measure is also presented below. Adjusted Earnings (Loss). Adjusted Earnings (Loss) is defined as net income (loss) attributable to common stockholders, as reported under GAAP, adjusted on an after-tax basis for the following: • Non-credit impairment fair value (gain) loss on credit derivatives: Elimination of the non-credit impairment fair value gains (losses) on credit derivatives, which is the amount in excess of the present value of the expected estimated credit losses. Such fair value adjustments are affected by, and in part fluctuate with changes in market factors such as interest rates and credit spreads, including the market’s perception of Ambac’s credit risk (“Ambac CVA”), and are not expected to result in an economic gain or loss. These adjustments allow for all financial guarantee contracts to be accounted for consistent with the Financial Services – Insurance Topic of ASC, whether or not they are subject to derivative accounting rules. • Insurance intangible amortization: Elimination of the amortization of the financial guarantee insurance intangible asset that arose as a result of Ambac’s emergence from bankruptcy and the implementation of Fresh Start reporting. This adjustment ensures that all financial guarantee contracts are accounted for consistent with the provisions of the Financial Services – Insurance Topic of the ASC. • Foreign exchange (gains) losses: Elimination of the foreign exchange gains (losses) on the re-measurement of assets, liabilities and transactions in non-functional currencies. This adjustment eliminates the foreign exchange gains (losses) on all assets, liabilities and transactions in non-functional currencies, which enables users of our financial statements to better view the results without the impact of fluctuations in foreign currency exchange rates and facilitates period-to-period comparisons of Ambac's operating performance. | Ambac Financial Group, Inc. 72 2020 Second Quarter FORM 10-Q | The following table reconciles net income attributable to common stockholders to the non-GAAP measure, Adjusted Earnings (loss) on a dollar amount and per diluted share basis, for all periods presented: Three Months Ended June 30, 2020 2019 ($ in millions, except share data) $ Amount Per Diluted Share $ Amount Per Diluted Share Net income (loss) attributable to common stockholders $ (35 ) $ (0.77 ) $ (128 ) $ (2.79 ) Adjustments: Non-credit impairment fair value (gain) loss on credit derivatives (1 ) (0.01 ) — — Insurance intangible amortization 14 0.30 226 4.92 Foreign exchange (gains) losses (2 ) (0.04 ) (11 ) (0.25 ) Adjusted earnings (loss) $ (24 ) $ (0.52 ) $ 86 $ 1.88 Six Months Ended June 30, 2020 2019 ($ in millions, except share data) $ Amount Per Diluted Share $ Amount Per Diluted Share Net income (loss) attributable to common stockholders $ (315 ) $ (6.83 ) $ (172 ) $ (3.74 ) Adjustments: Non-credit impairment fair value (gain) loss on credit derivatives 1 0.02 (1 ) (0.01 ) Insurance intangible amortization 27 0.58 263 5.72 Foreign exchange (gain) loss (2 ) (0.04 ) (13 ) (0.29 ) Adjusted earnings (loss) $ (289 ) $ (6.27 ) $ 77 $ 1.68 Adjusted Book Value. Adjusted Book Value is defined as Total Ambac Financial Group, Inc. stockholders’ equity as reported under GAAP, adjusted for after-tax impact of the following: • Non-credit impairment fair value losses on credit derivatives: Elimination of the non-credit impairment fair value loss on credit derivatives, which is the amount in excess of the present value of the expected estimated economic credit loss. GAAP fair values are affected by, and in part fluctuate with, changes in market factors such as interest rates, credit spreads, including Ambac’s CVA that are not expected to result in an economic gain or loss. These adjustments allow for all financial guarantee contracts to be accounted for within Adjusted Book Value consistent with the provisions of the Financial Services—Insurance Topic of the ASC, whether or not they are subject to derivative accounting rules. • Insurance intangible asset: Elimination of the financial guarantee insurance intangible asset that arose as a result of Ambac’s emergence from bankruptcy and the implementation of Fresh Start reporting. This adjustment ensures that all financial guarantee contracts are accounted for within Adjusted Book Value consistent with the provisions of the Financial Services—Insurance Topic of the ASC. • Net unearned premiums and fees in excess of expected losses: Addition of the value of the unearned premium revenue ("UPR") on financial guarantee contracts, in excess of expected losses, net of reinsurance. This non-GAAP adjustment presents the economics of UPR and expected losses for financial guarantee contracts on a consistent basis. In accordance with GAAP, stockholders’ equity reflects a reduction for expected losses only to the extent they exceed UPR. However, when expected losses are less than UPR for a financial guarantee contract, neither expected losses nor UPR have an impact on stockholders’ equity. This non-GAAP adjustment adds UPR in excess of expected losses, net of reinsurance, to stockholders’ equity for financial guarantee contracts where expected losses are less than UPR. • Net unrealized investment (gains) losses in Accumulated Other Comprehensive Income: Elimination of the unrealized gains and losses on the Company’s investments that are recorded as a component of accumulated other comprehensive income (“AOCI”). The AOCI component of the fair value adjustment on the investment portfolio may differ from realized gains and losses ultimately recognized by the Company based on the Company’s investment strategy. This adjustment only allows for such gains and losses in Adjusted Book Value when realized. | Ambac Financial Group, Inc. 73 2020 Second Quarter FORM 10-Q | The following table reconciles Total Ambac Financial Group, Inc. stockholders’ equity to the non-GAAP measure Adjusted Book Value on a dollar amount and per share basis, for all periods presented: June 30, 2020 December 31, 2019 ($ in millions, except share data) $ Amount Per Share $ Amount Per Share Total Ambac Financial Group, Inc. stockholders’ equity $ 1,069 $ 23.34 $ 1,477 $ 32.41 Adjustments: Non-credit impairment fair value losses on credit derivatives 1 0.03 — 0.01 Insurance intangible asset (392 ) (8.57 ) (427 ) (9.37 ) Net unearned premiums and fees in excess of expected losses 396 8.63 414 9.09 Net unrealized investment (gains) losses in Accumulated Other Comprehensive Income (109 ) (2.38 ) (151 ) (3.31 ) Adjusted book value $ 965 $ 21.06 $ 1,313 $ 28.83 The decrease in Adjusted Book Value was primarily attributable to the Adjusted Loss for the six months ended June 30, 2020 , excluding earned premium previously included in Adjusted Book Value, and the impact of changes in foreign exchange rates resulting from the strengthening of the U.S. Dollar. Factors that impact changes to Adjusted Book Value include many of the same factors that impact Adjusted Earnings, including the majority of revenues and expenses, but generally exclude components of premium earnings since they are embedded in prior period's Adjusted Book Value through the net unearned premiums and fees in excess of expected losses adjustment. Net unearned premiums and fees in excess of expected losses will affect Adjusted Book Value for (i) changes to future premium assumptions (e.g. expected term, interest rates, foreign currency rates, time passage, (ii) changes to expected losses for policies which do not exceed their related unearned premiums and (iii) new reinsurance transactions.