What changed in this filing

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Item 2. Management’s Discussion and Analysis

2021-08-05 compared with 2021-05-10 · 444 added, 429 removed, 702 unchanged (55% of the section changed)

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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 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.

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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.

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 2020 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.

AFG’s and its subsidiaries’ (“Ambac”) 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) Ambac's inability to realize the expected recoveries, including RMBS litigation recoveries, included in its financial statements which would have a materially adverse effect on Ambac Assurance Corporation's ("AAC") financial condition and may lead to regulatory intervention;

(2) Ambac's inability to realize the expected recoveries, including RMBS litigation recoveries, included in its financial statements which would have a materially adverse effect on AAC’s financial condition and may lead to regulatory intervention;

(3) failure to recover claims paid on Puerto Rico exposures or realization of losses in amounts higher than expected;

(4) increases to loss and loss expense reserves;

(5) 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;

(5) inadequacy of reserves established for losses and loss expenses and

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possibility that changes in loss reserves may result in further volatility of earnings or financial results;

(6) uncertainty concerning the Company’s ability to achieve value for holders of its securities, whether from AAC and its subsidiaries or from transactions or opportunities apart from AAC and its subsidiaries, including new business initiatives relating to the specialty property and casualty program insurance business, the managing general agency/underwriting business, or related businesses;

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(17) 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;

(18) Ambac may not be able to generate the significant

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amount of cash needed to service its debt and financial obligations, and may not be able to refinance its indebtedness;

(18) 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;

(19) restrictive covenants in agreements and instruments may impair Ambac’s ability to pursue or achieve its business strategies;

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(31) risks relating to determinations of amounts of impairments taken on investments;

(32) 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;

(32) 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;

(33) actions of stakeholders whose interests are not aligned with broader interests of the Ambac's stockholders;

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(39) 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;

(40) disintermediation within the insurance industry that negatively impacts our managing general agency/underwriting business;

(40) disintermediation within the insurance industry or greater competition that negatively impacts our managing general agency/underwriting business;

(41) changes in law or in the functioning of the healthcare market that impair the business model of our accident and health managing general underwriter;

(42) greater competition for our specialty property & casualty program insurance business;

and (43) other risks and uncertainties that have not been identified at this time.

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Background and Business Description in the Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020, for a description of the Company and our key strategic priorities to achieve our primary goal to maximize stockholder value.

During 2021, AFG continued its progress in the development of its specialty property and casualty program insurance and activities included the following:

• AFG contributed additional capital to the Everspan Group in the amount of $82 million.

During 2021, AFG progressed the development of its specialty property and casualty program insurance business.

Developments included the following:

• AFG contributed $82 of additional capital to the Everspan Group.

• The Everspan Group platform received an A- Financial Strength Rating from A.M.

Best in February 2021.

• The Everspan Group launched its first insurance program in May 2021.

• To support expansion of the admitted insurance component of its business, during the second quarter of 2021 Everspan Group entered into stock purchase agreements to acquire several insurance shell companies.

These acquisitions are subject to the approval of the insurance regulators in the States of domicile of the companies to be acquired, which may occur in 2021.

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• During the second quarter of 2021, AFG made minority investments in certain insurance related businesses, including insurtech platforms, that we believe will be synergistic to our specialty property & casualty program insurance and MGA/MGU businesses.

AFG Net Assets

As of March 31, 2021, net assets of AFG, excluding its equity investments in subsidiaries, were $274.

As of June 30, 2021, net assets of AFG, excluding its equity investments in subsidiaries, were $281.

Cash and short-term investments $ 128

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Asset Management

Investment portfolios are subject to internal investment guidelines, as well as limits on types and quality of investments imposed by insurance laws and regulations.

The investment portfolios of AAC and Ambac UK also hold fixed maturity securities and various pooled investment funds.

Investment portfolios are subject to internal investment guidelines, as well as limits on the types and quality of investments imposed by insurance laws and regulations.

The investment portfolios of AAC and Ambac UK hold fixed maturity securities and various pooled investment funds.

Refer to Note 9.

Investments to the Unaudited Consolidated Financial Statements, included in Part I, Item 1 in this Form 10-Q for further details of fixed maturity investments by asset category and pooled investment funds by investment type.

At March 31, 2021, Ambac and its subsidiaries owned $615 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 internal and regulatory guidelines, market

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conditions and other constraints, Ambac may continue to opportunistically purchase or sell Ambac-insured securities.

At June 30, 2021, Ambac and its subsidiaries owned $611 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 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

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For targeted policies, analysts will engage with issuers, bondholders and other economic stakeholders to negotiate, structure and execute such strategies.

During 2021, successful risk reduction transactions included:

• In January 2021, AAC completed the purchase of quota share reinsurance on a portfolio of public finance credits with net par outstanding of approximately $823 at December 31, 2020.

Par ceded included general obligation ($347), lease and tax-backed revenue ($234), higher education ($161) and transportation ($81) and included $158 of watch list and adversely classified credits.

• In February 2021, AAC's exposure to an adversely classified stadium transaction with net par outstanding of $540 at December 31, 2020, was eliminated through the combination of a refinancing and quota share reinsurance.

The following table provides a comparison of total, adversely classified ("ACC") and watch list credit net par outstanding in the insured portfolio at March 31, 2021 and December 31, 2020.

AAC completed risk reduction transactions consisting of quota share reinsurance, refinancings, and commutations of $666 and $2,040 for the three and six months ended June 30, 2021, respectively.

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, 2021 and December 31, 2020.

Net par exposure within the U.S.

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Watch list 4,213 4,720 (507) (11) %

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.

The decrease in ACC exposures is primarily due to the de-risking of an adversely classified stadium transaction with net par outstanding of $540 at December 31, 2020 and the aforementioned purchase of quota share reinsurance in the amount of $59.

The decrease in Watch List net par outstanding resulted from scheduled maturities, amortizations, refundings and calls and the aforementioned purchase of quota share reinsurance in the amount of $99.

The COVID-19 pandemic has had, and continues to have, a notable impact on general economic conditions, including but not limited to higher unemployment;

The decrease in total, ACC and watch list credit net par outstanding resulted from active de-risking initiatives, as noted above, as well as scheduled maturities, amortizations, refundings and calls.

The COVID-19 pandemic had, and to a lesser degree, continues to have, a notable impact on general economic conditions, including but not limited to higher unemployment;

volatility in the capital markets;

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 social distancing guidelines, travel bans and restrictions, and business restrictions and shutdowns.

In the U.S., significant monetary policy actions, fiscal stimulus measures and other relief measures have helped to moderate the negative economic impacts of COVID-19, and have supported the economic recovery which began in the second half of 2020 and continues into 2021.

These measures include monetary policy decisions, such as quantitative easing, providing liquidity to financial institutions, providing liquidity to credit markets and the Paycheck Protection Program Lending Facility;

Congressional fiscal stimulus and other actions, such as the $1.9 trillion American Rescue Plan Act or ARPA, which was enacted in March 2021, and a number of programs enacted in 2020, including the $2.4 trillion Coronavirus Aid, Relief and Economic Security ("CARES") Act, the $483 billion Paycheck Protection Program And Health Care Enactment Act, the $190 billion Families First Coronavirus Response Act, and the $920 billion 2021 Consolidated Appropriations Act.

Collectively, these programs provide, among other things, direct payments to households, support for small businesses, renter assistance and funding for transport, airlines, healthcare, education and state and local governments.

In addition, housing measures, such as forbearance on mortgages and suspension of foreclosures and evictions, and various executive orders have helped to provide relief.

Outside of the U.S., and in the United Kingdom and Italy in particular, where Ambac has insured portfolio exposure, various monetary policy, fiscal stimulus measures and other actions have helped to moderate the economic impact.

In the U.S., the economic recovery, which began in the second half of 2020, continues through the first quarter of 2021, supported by the aforementioned monetary policy and fiscal stimulus measures as well as a rapidly increasing COVID 19 vaccination rate.

Economic recovery and, in particular, fiscal stimulus measures such as the $350 billion of assistance earmarked for state and local governments under ARPA and other funding to support households under ARPA and other programs, should be an overall benefit to most issuers in Ambac's insured portfolio negatively impacted by the COVID-19 pandemic.

Nonetheless, credit risk in the insured portfolio remains elevated due to, among other things, uncertainty over the trajectory and continuity of the economic recovery due to still high COVID-19 infection rates globally as well as the spread of new virus variants.

In addition, the near-term efficacy of fiscal stimulus and related measures on certain exposures in the insured portfolio impacted by the COVID-19 pandemic, such as those with exposure to the performance of hotels, restaurants, and entertainment centers, is uncertain.

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 social distancing guidelines, travel bans and restrictions, and business restrictions and shutdowns.

In the U.S., significant monetary policy actions, fiscal stimulus measures and other relief measures together with an increasing COVID-19 vaccination rate in the first half of 2021 have supported the economic recovery which began in the second half of 2020.

Overall, the ongoing global recovery should be a benefit to most issuers in Ambac's insured portfolio negatively impacted by the COVID-19 pandemic.

Nonetheless, credit risk in the insured portfolio remains elevated due to, among other things, uncertainty over the trajectory and continuity of the economic recovery due to still elevated COVID-19 infection rates globally as well as the spread of new virus variants.

In addition, the near-term efficacy of fiscal stimulus and related measures on certain exposures in the insured portfolio impacted by the COVID-19 pandemic is uncertain.

Since 2020, COVID-19 has adversely impacted Ambac's financial position and results of operations as credit risk in the insured and investment portfolios has increased.

In the insured portfolio, municipal, mortgage-backed and other asset securitization exposures have been adversely impacted and, despite the ongoing economic recovery, could still be materially adversely impacted in the future.

We are continuously evaluating and updating our

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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.

We continue to evaluate and update our view of the macro economic environment as well as our specific credit view of each of our insured exposures considering the 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 willingness and ability of issuers of insured debt and other counterparties to pay their obligations when due;

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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 increased our loss reserves across affected exposures.

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.

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Ambac has exposure to reinsurance counterparties for their portion of future financial guaranty claim payments.

Ambac has reinsured approximately 16.4% of its gross par outstanding to five reinsurance counterparties.

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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 on their financial obligations, whether as the result of insolvency, lack of liquidity, operational failure, fraud or other reasons.

Ambac is also exposed to the risk that contractual counterparties (including those under our RMBS litigations and derivative counterparties) may default on 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.

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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.

Our evaluation process incorporates the impact of COVID-19 on business prospects.

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 three months ended March 31, 2021, included the following:

The impact of foreign currency as reported in Ambac's Unaudited Consolidated Statement of Total Comprehensive Income for the six months ended June 30, 2021, included the following:

Net income (1)

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Ambac continuously monitors regulatory and industry developments related to the transition from LIBOR to alternative reference rates.

On April 6, 2021, New York State passed legislation addressing the cessation of U.S.

On April 6, 2021, New York State passed

legislation addressing the cessation of U.S.

Dollar ("USD") LIBOR and specified a recommended benchmark replacement based on the Secured Overnight Financing Rate ("SOFR") for certain legacy transactions.

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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”

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included in Ambac’s Annual Report on Form 10-K for the year ended December 31, 2020.

FINANCIAL GUARANTEES IN FORCE

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structured finance and international finance.

The following table provides a breakdown of guaranteed net par outstanding by market at March 31, 2021 and December 31, 2020.

The following table provides a breakdown of guaranteed net par outstanding by market at June 30, 2021 and December 31, 2020.

Net par exposures within the U.S.

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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

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 insured the notes issued by Ambac LSNI as defined in Note 3.

Variable Interest Entities in the Notes to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Quarterly Report on Form 10-Q:

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2021 December 31,

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Total net par outstanding $ 30,234 $ 33,888

(1) Includes $5,555 and $5,575 of Military Housing net par outstanding at March 31, 2021 and December 31, 2020, respectively.

(2) Includes $1,067 and $1,070 of Puerto Rico net par outstanding at March 31, 2021 and December 31, 2020, respectively.

(1) Includes $5,533 and $5,575 of Military Housing net par outstanding at June 30, 2021 and December 31, 2020, respectively.

(2) Includes $1,067 and $1,070 of Puerto Rico net par outstanding at June 30, 2021 and December 31, 2020, respectively.

Components of Puerto Rico net par outstanding include capital appreciation bonds which are reported at the par amount at the time of issuance of the related insurance policy as opposed to the current accreted value of the bonds.

The table below shows Ambac’s ten largest insured exposures, by repayment source, as a percentage of total financial guarantee net par outstanding at March 31, 2021:

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, 2021:

Country-Bond Type

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IF AUK Posillipo Finance II S.r.l Italy-Sub-Sovereign BIG 2035 704 2.3 %

IF AUK Ostregion Investmentgesellschaft

Austria-Infrastructure BIG 2039 679 2.2 %

IF AUK RMPA Services plc UK-Infrastructure BBB+ 2038 571 1.9 %

IF AUK National Grid Electricity Transmission UK-Utility BBB+ 2036 550 1.8 %

IF AUK Catalyst Healthcare (Manchester) Financing plc (2)

UK-Infrastructure BBB- 2040 541 1.8 %

$ 7,569 24.9 %

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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.

(2) A portion of this transaction is insured by an insurance policy issued by AAC.

AAC 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").

(3) 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.

Net par related to the top ten exposures reduced $150 from December 31, 2020.

Exposures are impacted by changes in foreign exchange rates, certain indexation rates and scheduled and unscheduled paydowns.

The decrease from 2020 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 24% at March 31,

2021, from 23% at December 31, 2020.

National Grid Gas had an Ambac rating downgrades since December 31, 2020.

The remaining insured portfolio of financial guarantees has an average net par outstanding of $32 per single risk, with insured exposures ranging up to $530 and a median net par outstanding of $5.

Given that Ambac has not written any new insurance policies since 2008, the risk exists that the insured portfolio becomes

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increasingly concentrated to large and/or below investment grade exposures.

The concentration of net par amongst the top ten (as a percentage of net par outstanding) increased slightly to 25% at June 30, 2021, from 23% at December 31, 2020.

National Grid Gas had an Ambac rating downgrade since December 31, 2020.

Excluding the top ten exposures, the remaining insured portfolio of financial guarantees has an average net par outstanding of $32 per single risk, with insured exposures ranging up to $458 and a median net par outstanding of $5.

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 and the public health responses by the US federal and state governments at the onset of the pandemic resulted in a shut down for several months of 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.

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Ambac undertook 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 resulting global economic contraction on its insured financial guarantee portfolio.

The economic contraction and the subsequent recovery;

The economic contraction and the subsequent ongoing recovery;

actions such as fiscal stimulus and related programs and monetary policy decisions;

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.

and our insured obligors' financial flexibility

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and ability to mitigate the operational and economic impact of the recession will determine the ultimate impact to Ambac's insured portfolio.

Fiscal Stimulus and Monetary Policy

In the U.S., significant fiscal stimulus measures, monetary policy actions and other relief measures have helped to moderate the negative economic impacts of COVID-19 and have supported the economic recovery which began in the second half of 2020 and continues into 2021.

These measures include the $1.9 trillion American Rescue Plan Act or ARPA, signed into law in March 2021, which together with other fiscal stimulus measures put in place in 2020, provide for, among other things, funding to state and local governments, direct payments to households, support for small businesses, renter assistance and funding for transport, airlines, healthcare and education.

These measures included the $1.9 trillion American Rescue Plan Act or ARPA, signed into law in March 2021, which together with other fiscal stimulus measures put in place in 2020, provide for, among other things, funding to state and local governments, direct payments to households, support for small businesses, renter assistance and funding for transport, airlines, healthcare and education.

Monetary policy decisions have included quantitative easing and the provision of liquidity to financial institutions and credit markets.

In addition, housing measures, such as forbearance on mortgages and suspension of foreclosures and evictions, and various executive orders have helped to provide relief.

Outside of the US, and in the United Kingdom and Italy in particular, where Ambac has insured portfolio exposure, various monetary policy, fiscal stimulus measures and other actions have helped to moderate the negative economic impact and support recovery.

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.

Outside of the US, in the United Kingdom and Italy in particular, where Ambac has insured portfolio exposure, various monetary policy, fiscal stimulus measures and other actions have helped to moderate the negative economic impact and support recovery.

We continue to evaluate and update 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.

Despite the above measures, which are designed to help mitigate the economic impact of the COVID-19 pandemic generally, certain of these measures may adversely affect Ambac.

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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 include moratoriums on foreclosures and

evictions as well as the expansion of forbearance and subsequent repayment options.

The relief measures 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 AAC.

Forbearances increased sharply across the AAC's insured first lien RMBS obligations during the second quarter of 2020 and early in the third quarter of 2020, but then dropped later in the third quarter of 2020 through March 31, 2021, albeit to still elevated levels.

Forbearances increased sharply across the AAC's insured first lien RMBS obligations during the second and third quarters of 2020, but then began to drop later in the third quarter of 2020 through June 30, 2021, albeit to still elevated levels.

The ultimate impact of forbearances and other relief measures, such as foreclosure and eviction moratoriums, on AAC's insured RMBS obligations are still unclear.

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Consequently, we have anticipated that we will experience an increase in claim payments for certain of our insured RMBS obligations as these measures are unwound.

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 still experience material losses that would adversely impact our future results of operations and financial condition.

While Ambac expects the foregoing measures to continue 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 still experience material losses that would adversely impact our future results of operations and financial condition.

Insured Portfolio:

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economy is projected to grow strongly in 2021, exceeding 2019 levels of economic output during the course of the year.

Unemployment has recovered 80% from the highs of about 15% in April 2020, but still remains elevated at about 6% relative to pre-pandemic levels of about 3.5%.

Unemployment has recovered from the high of about 15% in April 2020, but still remains elevated at about 5.9% relative to pre-pandemic levels of about 3.5%.

Potential headwinds include rising COVID-19 infection rates globally and the spread of COVID-19 variants.

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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.

The ability of issuers of certain of these obligations to pay has been and may continue to be stressed although several issuers expressed a willingness to use their balance sheets to support their obligations and avoid defaults and thus far there have been no defaults of these obligations attributable to the COVID-19 pandemic.

Ambac's insured par outstanding, net of reinsurance ("NPO"), to these Public Finance sectors are as follows:

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Market / Sector Total NPO Total Debt Service Due Next Twelve Months

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Rail / Mass Transit 288 15

Higher Education Auxiliary 190 21

Hotels / Convention Centers 187 40

Higher Education Auxiliary 138 16

Stadiums 92 8

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Total Public Finance $ 1,525 $ 185

The RMBS insured portfolios were adversely impacted by the previously mentioned forbearances and the moratorium on foreclosures as well as the general uncertainty about the trajectory of the economic recover and the impact of fiscal stimulus on the U.S.

This has been offset by the benefit to excess spread within the securitization structures as a result of the reduction in interest rates over the past year, which will result in higher excess spread recoveries to Ambac.

Ambac insured exposure includes a number of international policies where the revenue of the issuer is demand dependent.

The RMBS insured portfolios were adversely impacted by the previously mentioned forbearances and the moratorium on

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foreclosures as well as the general uncertainty about the trajectory of the economic recovery and the impact of fiscal stimulus on the U.S.

This has been offset by the benefit to excess spread within the securitization structures as a result of the reduction in interest rates over the past year, which is expected to result in higher excess spread recoveries to Ambac.

Ambac's 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.

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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.

We continue to experience stress in our exposure to Puerto Rico (the "Commonwealth") that consists of several different issuing entities (all below investment grade) with total net par exposure of $1,067 as of March 31, 2021.

Each issuing entity has its own credit risk profile attributable to, as applicable, discreet revenue sources, direct general obligation pledges and general obligation

Each issuing entity has its own credit risk profile attributable to, as applicable, 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, 2020, for additional information regarding the different issuing entities that encompass Ambac's exposures to Puerto Rico.

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However, the Puerto Rico economy is currently in recovery with vaccination rates increasing and infection rates declining.

Hotel occupancy in the first week of April 2021 reached 84%, which is the highest level since March 2019.

Overall, the Commonwealth's general fund revenues in the eight-month period ending February 2021 were up 1.8% year-on-year to $6.75 billion from $6.63 billion and were $1.18 billion higher than the budgeted amount for the period.

As reported in the April 23, 2021, Commonwealth Fiscal Plan, Puerto Rico is also expected to benefit from about $43.5 billion in COVID-19-related federal funds from the initial CARES related measures in 2020 through the recently enacted ARPA.

Overall, the Commonwealth's general fund revenues in the 10-month period ending April 2021 were up 10.7% year-on-year to $8,900 from $8,000 and were about $540 higher than the budgeted amount for the period.

As reported in the April 23, 2021, Commonwealth Fiscal Plan, Puerto Rico is also expected to benefit from about $43,500 in COVID-19-related federal funds from the initial

CARES related measures in 2020 through the more recently enacted ARPA.

It is unclear if the recovery will hold, what this implies for the Commonwealth’s ability and willingness to pay debt service, and what if any lasting effects COVID-19 will have on the economic and financial profile of Puerto Rico.

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On April 23, 2021, the Oversight Board certified its own version of a new Commonwealth Fiscal Plan.

This most recent Commonwealth Fiscal Plan purports to incorporate the impact of the $120 billion of federal recovery money stemming from the 2017 hurricanes, 2019-2020 earthquakes, and COVID-19 pandemic, including the recently enacted American Rescue Plan Act or ARPA.

The current certified Commonwealth Fiscal Plan projects a surplus of $15.2 billion in years 2022-2035, with deficits beginning in 2036, whereas as May 2020's COVID-19 affected certified Commonwealth Fiscal Plan projected a surplus of $5.8 billion over a similar period.

Debt sustainability analysis in the new plan suggests a modest increase to $5.6 billion from $5.0 billion (based upon mid-point of ranges shown in the plan).

As with previous fiscal plans, the current certified Commonwealth Fiscal Plan may significantly inform the Commonwealth Plan of Adjustment in the Commonwealth's Title

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III proceeding.

This most recent Commonwealth Fiscal Plan purports to incorporate the impact of the $120,000 of federal recovery money stemming from the 2017 hurricanes, 2019-2020 earthquakes, and COVID-19 pandemic, including the American Rescue Plan Act or ARPA.

The current certified Commonwealth Fiscal Plan projects a surplus of $15,200 in years 2022-2035, with deficits beginning in 2036, whereas as May 2020's COVID-19 affected certified Commonwealth Fiscal Plan projected a surplus of $5,800 over a similar period.

Debt sustainability analysis in the new plan suggests a modest increase to $5,600 from $5,000 (based upon mid-point of ranges shown in the plan).

As with previous fiscal plans, the current certified Commonwealth Fiscal Plan may significantly inform the Commonwealth Plan of Adjustment in the Commonwealth's Title III proceeding.

However, as was also the case with previous versions of the Commonwealth Fiscal Plan, the current version of the Commonwealth Fiscal Plan lacks a high degree of transparency regarding the underlying data, assumptions and rationales supporting those assumptions, making reconciliation and due diligence difficult.

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Commonwealth Plan of Adjustment

On February 23, 2021, the Oversight Board, as representative of the Commonwealth of Puerto Rico, PBA, and the Employee Retirement System of the Government of the Commonwealth of Puerto Rico publicly disclosed the Second Amended Plan Support Agreement ("Second Amended PSA").

Assured Guaranty Corp.

and Assured Guaranty Municipal Corp.

("Assured") and National Public Finance Guarantee Corporation ("National") conditionally agreed to the Second Amended PSA.

On February 23, 2021, the Oversight Board announced that the Second Amended PSA had the support of 70% of all GO and PBA bonds claims, including the conditional support of Assured and National.

Assured and National originally had until March 31, 2021, to terminate their agreement to the Second Amended PSA, however, that date was extended a number of times, including most recently to May 5, 2021, due to ongoing negotiations between the Oversight Board and the two monolines regarding the treatment of certain revenue bond claims.

The Government of the Commonwealth of Puerto Rico and Ambac Assurance are not currently parties to the second Amended PSA.

On March 8, 2021, the Oversight Board filed with the Title III court a Second Amended Title III Joint Plan of Adjustment of the Commonwealth ("Second Amended POA") that purports to restructure approximately $35 billion of debt (including GO and PBA bonds) and other claims against the government of Puerto Rico and certain entities and $50 billion in pension obligations.

The Second Amended POA includes the terms of the settlement relating to the GO bonds embodied in the Second Amended PSA, dated February 22, 2021.

On April 12, 2021, the Oversight Board announced that it had reached an agreement in principle with Assured and National regarding the PRHTA claims, the Convention Center District Authority ("CCDA") claims and the Commonwealth treatment of deficiency claims.

In conjunction with this agreement in principle, the two monolines were granted further extensions to terminate their conditional support for the Second Amended PSA while the agreement in principle was further negotiated and documented.

In general, the Second Amended PSA provides for lower Commonwealth debt service payments per annum relative to the Plan Support Agreement signed in February 2020 (Amended PSA), extends the tenor of new recovery bonds, increases the amount of cash distributed to creditors, and provides additional consideration in the form of a contingent value instrument ("CVI").

This CVI is intended to provide creditors with additional

returns tied to outperformance of the Puerto Rico Sales and Use Tax ("SUT") against certified 2020 Commonwealth Fiscal Plan projections.

More specifically, fixed consideration as part of the Second Amended POA includes a combination of cash, new GO current interest bonds as well as new GO capital appreciation bonds.

Recovery derived from fixed consideration is estimated to vary between approximately 67% and 77% (as of petition date) for GO creditors, and between approximately 75% and 80% (as of petition date) for PBA creditors.

Under the May 5, 2021, PRHTA/CCDA PSA, consideration for revenue bond creditors such as PRHTA, CCDA, or Puerto Rico Infrastructure Financing Authority ("PRIFA") Special Tax Revenue ("Rum Tax") bonds, on account of their deficiency claims ("Clawback claims") against the Commonwealth, consists of CVI tied to the outperformance of the SUT against the certified 2020 Commonwealth Fiscal Plan projections.

For years one through 30, a portion of the CVI consideration to be made available to the revenue bond creditors reflects a 40% share of cumulative outperformance, starting July 1, 2021, subject to a combined 95% outperformance limit with the subsequently mentioned amounts subject to a waterfall.

The other portion of the CVI consideration receives, on an annual basis, the lesser of (i) 50% of cumulative outperformance, less payments previously made, and (ii) 75% of annual outperformance, subject to a waterfall with the GO creditors receiving the first $100 of annual payments in years one through 22 and the Clawback creditors receiving the next $11.1 and any amount thereafter split pro rata with 90% going to GO creditors and 10% going to Clawback creditors.

For years 23 through 30, subject to the limits in (i) and (ii) above, 100% of the outperformance goes to the Clawback creditors.

Overall, CVI recoveries are subject to a lifetime cap of 75% of deficiency amounts.

The value of the Clawback CVI is highly uncertain given the contingent, outperformance-driven structure of the instrument coupled with the likely back-ended potential cash flows (years 23 through 30).

Changes in our assumed values of the Clawback CVI will cause a change in our reserves.

In addition, under the PRHTA/CCDA PSA, the PRHTA creditors would receive 'hard currency' in the form of new PRHTA bonds totaling $1,245 with maturities of up to 40 years and an average interest rate of 5.0%.

Of the $1,245 in new bonds, approximately $646.4 would be allocated to holders of PRHTA '68 bonds and approximately $598.6 would be allocated to holders of PRHTA '98 bonds.

PRHTA creditors would also share $389 of cash proceeds, including a $264 interim distribution, payable at the effective date of the Commonwealth plan of adjustment, and $125 of restriction fees and consummation costs, payable at the effective date of the PRHTA plan.

On July 30, 2021, the Oversight Board, as representative of the Commonwealth of Puerto Rico, the Puerto Rico Public Buildings Authority, and the Employees Retirement System of the Government of the Commonwealth of Puerto Rico, filed a Seventh Amended Title III Joint Plan of Adjustment of the

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Commonwealth of Puerto Rico (“Seventh Amended POA”) that proposes to restructure approximately $35,000 of debt and approximately $50,000 in pension obligations.

The Seventh Amended POA, among other things, incorporates the settlement reflected in the PRIFA Related Plan Support Agreement (“PRIFA PSA”) that was signed on July 27, 2021, by the Oversight Board, as representative of the Commonwealth of Puerto Rico, AAC, FGIC, and other holders of bonds issued by the Puerto Rico Infrastructure Financing Authority ("PRIFA").

On July 29, 2021, Judge Laura Taylor Swain of the United States District Court for the District of Puerto Rico approved the disclosure statement for the Commonwealth's plan of adjustment, thereby enabling the Oversight Board to proceed towards confirmation of the Seventh Amended POA.

Earlier in July 2021, Judge Swain approved several days between November 8th through November 23rd for a hearing to confirm the Commonwealth's plan of adjustment, although these dates may change.

A successful confirmation and consummation of the Seventh Amended POA would represent a significant step towards resolution of AAC's remaining Puerto Rico exposures;

however, the ultimate outcome of the hearing and the subsequent emergence of the Commonwealth of Puerto Rico from the Title III proceedings is not certain and subject to challenge and other developments.

The PRIFA PSA reflects a July 14, 2021, agreement between the Oversight Board, AAC and FGIC to resolve claims related to bonds issued by PRIFA.

Under the PRIFA PSA, PRIFA creditors will receive, on account of approximately $1,900 of allowed claims arising from PRIFA bonds, consideration in the form of (i) $193.5 cash and (ii) a contingent value instrument ("CVI") premised on outperformance of general fund rum tax collections relative to the certified 2021 Commonwealth Fiscal Plan's projections (the "Rum Tax CVI").

The Rum Tax CVI is subject to a lifetime nominal cap of about $1,300, and is also subject to various permitted rum tax waterfall deductions and caps on distributions, including the lesser of (a) 40% of cumulative outperformance (net of waterfall deductions), starting on July 1, 2021, less Rum Tax CVI payments made to PRIFA creditors in previous years, (b) 50% of annual rum tax outperformance (net of waterfall deductions), and (c) $30 annually.

Both the cash consideration and the Rum Tax CVI will be deposited into a trust held for the benefit of PRIFA bondholders (the "PRIFA Trust");

the PRIFA Trust will also be funded with a share (approximately 27%) of the Clawback CVI, described below.

The lifetime sum of the Rum Tax CVI and the Clawback CVI cannot exceed the $1,300 lifetime nominal cap (75% of allowed PRIFA claim) under the Seventh Amended POA.

Further, under the PRIFA PSA, AAC and other creditors may also receive fees in connection with negotiating the PRIFA PSA and supporting the restructuring agreement reflected therein.

The value of the PRIFA Trust is highly uncertain given the contingent, outperformance-driven structure of the CVIs coupled with the likely back-ended nature of most of the potential cash flows.

Changes in our assumed values of the PRIFA Trust or the actual performance of the CVIs could cause an adverse change in our reserves which could be material.

As a result, a decrease in our assumed values of the PRIFA Trust could have a material adverse impact on our results of operations and financial condition.

In addition to the PRIFA PSA, AAC signed a joinder to the PRHTA/CCDA Related Plan Support Agreement (“PRHTA/

CCDA PSA”) on July 15, 2021.

The PRHTA/CCDA PSA, originally executed on May 5, 2021, among other things provides for certain consideration for holders of bonds issued by certain Commonwealth instrumentalities, including PRHTA, CCDA, and PRIFA, on account of their claims against the Commonwealth arising from such bonds ("Clawback" claims).

This consideration consists of a contingent value instrument tied to the outperformance of the Commonwealth's sales and use tax ("SUT") relative to the certified 2020 Commonwealth Fiscal Plan's projections (the "Clawback CVI").

For years one through 30, a portion of the Clawback CVI consideration reflects a 40% share of cumulative outperformance, starting July 1, 2021, subject to a combined 95% outperformance limit with the subsequently described amounts subject to a waterfall.

The other portion of the Clawback CVI receives, on an annual basis, the lesser of (i) 50% of cumulative outperformance, less payments previously made, and (ii) 75% of annual outperformance, and is subject to a waterfall.

The waterfall provides that in years one through 22, (a) holders of general obligation ("GO") bonds will receive the first $100 of outperformance, (b) the Clawback creditors will receive the next $11.1, and (c) any amounts received thereafter will be split 90%/10% between GO creditors and Clawback creditors;

in years 23 through 30, subject to the limits in (i) and (ii) above, 100% of the outperformance goes to the Clawback creditors.

Overall, Clawback CVI recoveries are subject to a lifetime cap of 75% of allowed claim amounts under the Commonwealth plan of adjustment.

PRHTA creditors will receive an approximately 69% share of the Clawback CVI, subject to a lifetime nominal cap of about $3,700, and subject to a PRHTA-specific waterfall:

holders of PRHTA ’68 bonds will receive the first dollars of Clawback CVI, followed by holders of PRHTA ’98 bonds.

CCDA bondholders will receive a 4% share of the Clawback CVI, subject to a lifetime nominal cap of about $217.

PRIFA bondholders, as discussed above, will receive a 27% share of the Clawback CVI.

The value of the Clawback CVI is highly uncertain, given the contingent, outperformance-driven structure of the instrument coupled with the likelihood that cash flows in later years (years 23 through 30) will significantly exceed those in earlier years.

Changes in our assumed values of the Clawback CVI or in the actual performance of the Clawback CVI could cause an adverse change in our reserves which could be material.

As a result, a decrease in our assumed values of the Clawback CVI could have a material adverse impact on our results of operations and financial condition.

Under the PRHTA/CCDA PSA, the PRHTA creditors will also receive new PRHTA bonds with a face amount of $1,245, maturities of up to 40 years and an average interest rate of 5.0%.

Of the $1,245 in new bonds, approximately $646.4 will be allocated to holders of PRHTA '68 bonds and approximately $598.6 will be allocated to holders of PRHTA '98 bonds.

PRHTA creditors will also share $389 of cash proceeds, including a $264 interim distribution, payable at the effective date of the Commonwealth plan of adjustment.

In addition, certain restriction fees and consummation costs are payable at the effective date of the PRHTA plan.

Of the $264 interim cash distribution, $184.8 would be allocated to holders of PRHTA ’68 bonds and $79.2 would be allocated to holders of PRHTA ’98 bonds.

Claim recovery expectations for PRHTA creditors under the PRHTA/CCDA PSA are uncertain and subject to interpretation due to the current lack of clarity related to the aforementioned uncertainty related to the value of the Clawback CVI.

Under the May 5, 2021 PRHTA/CCDA PSA, CCDA creditors would also receive $112 of cash, inclusive of up to $15 related to restriction fees and consummation costs payable at the effective

Claim recovery expectations for PRHTA creditors under the PRHTA/CCDA PSA are uncertain and subject to interpretation due to the

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date of the Commonwealth plan of adjustment.

PRIFA was not part of the May 5, 2021 PRHTA/CCDA PSA and, consequently, there are no additional recoveries provided for in the agreement in principle or Second Amended POA for PRIFA beyond the proposed treatment of deficiency claims.

While we expect the Second Amended POA to be modified to reflect the settlements agreed in the PRHTA/CCDA PSA, it is unclear if the Second Amended POA will be otherwise modified further.

However, if the Second Amended POA were confirmed in its current form, Ambac's financial condition would suffer a material negative impact.

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aforementioned uncertainty related to the value of and/or the actual performance of the Clawback CVI.

Under the PRHTA/CCDA PSA, CCDA creditors will receive $112 of cash, inclusive of up to $15 related to restriction fees and consummation costs payable at the effective date of the Commonwealth plan of adjustment.

On July 27, 2021, Ambac joined the July 12, 2021, Amended and Restated Plan Support Agreement with the Oversight Board, as representative of the Commonwealth of Puerto Rico, PBA, and the Employee Retirement System of the Government of the Commonwealth of Puerto Rico ("Amended and Restated GO / PBA PSA").

In general, this PSA follows the Second Amended GO/PBA PSA, originally signed on February 23, 2021, which provided for lower Commonwealth debt service payments per annum relative to the Plan Support Agreement signed in February 2020 (the "Amended GO/PBA PSA"), and extended the tenor of new recovery bonds, increased the amount of cash distributed to creditors, and provided additional consideration in the form of a CVI, intended to provide creditors with additional returns tied to outperformance of the SUT against the certified 2020 Commonwealth Fiscal Plan's projections.

Fixed consideration as part of the Amended and Restated GO/PBA PSA, as in the Second Amended GO/PBA PSA, includes a combination of cash, new GO current interest bonds, and new GO capital appreciation bonds.

Recovery derived from fixed consideration is estimated to vary between approximately 67% and 77% (as of the petition date) for GO creditors, and between approximately 75% and 80% (as of the petition date) for PBA creditors.

While Ambac has now signed onto plan support agreements covering all of its remaining exposures to unrestructured Puerto Rico instrumentalities, it is unclear whether the Seventh Amended POA will be modified further, or whether the Seventh Amended POA, a prospective PRHTA plan of adjustment, and other plans of adjustment or Title VI agreements for PRIFA and CCDA that reflect these plan support agreements ultimately will be confirmed or approved.

It is possible that if the Seventh Amended POA is modified further, or the Seventh Amended POA or plans of adjustment or Title VI agreements reflecting the plan support agreements are not confirmed or approved, 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 Second Amended POA.

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.

There can be no assurance that losses may not exceed such estimates.

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AAC 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, AAC, together with other monoline insurers, filed motions which sought to lift the automatic stay and allow Ambac and others to enforce their rights related to PRHTA, CCDA and PRIFA in an alternative forum.

Through orders issued on July 2 and September 9, 2020, Judge Swain largely denied the motions, while holding in abeyance further proceedings in the CCDA motion relating to a particular account over which it is undisputed the monolines have a lien.

AAC and the other movants appealed the PRHTA and PRIFA decisions.

On March 3, 2021, the First Circuit affirmed the District Court’s opinions denying the motions to lift the stay with respect to bonds issued by HTA and bonds issued by PRIFA on procedural grounds, leaving the question of whether the monolines have a lien with respect to such bonds to be resolved in the pending summary judgment proceedings before the District Court.

On January 16, 2020 the Oversight Board filed four adversary proceeding complaints against AAC, and other monoline insurers, seeking to disallow their proofs of claim against the Commonwealth as they relate to HTA, CCDA, and PRIFA bonds.

On April 28, 2020, the Oversight Board filed partial motions for summary judgment.

Briefing has concluded on those motions for summary judgment and oral argument was held on September 23, 2020.

On January 20, 2021, the District Court granted defendants’ request for deferral of the adjudication of the summary judgment motion until defendants have the opportunity to conduct certain discovery.

Discovery is ongoing.

AAC, along with other monoline insurers, filed a motion seeking appointment as trustees under Section 926 of the Bankruptcy Code to pursue certain avoidance actions on behalf of HTA against the Commonwealth of Puerto Rico.

The motion attached a proposed complaint detailing the avoidance claims that movants would pursue.

On August 11, 2020 the Court denied the motion and AAC and the other movants have appealed that denial.

Movants' opening brief before the First Circuit was filed on

February 17, 2021;

briefing is expected to conclude on May 24, 2021.

If AAC 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, 2020 and Note 12.

In connection with the July 27, 2021, PRIFA PSA, Ambac filed urgent motions to stay or dismiss various pending matters related to outstanding litigation in connection with the Title III proceedings.

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, 2020 and Note 12.

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.

The status, timing and subject of any past or future mediation discussion has not yet been publicly disclosed.

The timeline for resolution of Puerto Rico's debt restructuring process is uncertain.

The Oversight Board disclosed, in a status report filed with the Title III court in September 2020, that it has resumed formal discussions with creditors with the guidance of the mediation team led by Judge Houser.

Prior to the talks with creditors, the Oversight Board held discussions with AAFAF concerning the terms of a Commonwealth Plan of Adjustment and what, if any, modifications or amendments needed to be proposed.

On February 10, 2021, the Oversight Board disclosed that mediation resulted in an agreement in principle with certain GO and PBA bondholders.

The Second Amended PSA was publicly disclosed on February 23, 2021.

On April 12, 2021, the Oversight board disclosed that mediation resulted in an agreement in principle with Assured and National regarding the PRHTA claims, the CCDA claims and the Commonwealth treatment of deficiency claims.

On May 5, 2021, the Oversight Board published the PRHTA/CCDA PSA finalizing this agreement in principle.

No assurances can be given that debt restructuring negotiations will be successfully concluded, that the 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.

The full extent of federal government support to Puerto Rico is estimated to be $120 billion per the April 23, 2021, certified Commonwealth Fiscal Plan and stretch from FY 2018 to FY 2035.

The federal government support includes FEMA, HUD and other disaster relief funds stemming from the 2017 hurricanes and 2019-2020 earthquakes and includes about $43 billion of support related to the COVID-19 pandemic, including funding form the recently enacted ARPA.

While the previously allocated federal disaster relief funds and the more recent COVID-19 crisis related funds are all expected to support economic recovery and growth and in Puerto Rico, there

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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.

The full extent of federal government support to Puerto Rico is estimated to be $120,000 per the April 23, 2021, certified Commonwealth Fiscal Plan and stretch from FY 2018 to FY 2035.

The federal government support includes FEMA, HUD and other disaster relief funds stemming from the 2017 hurricanes and 2019-2020 earthquakes and includes about $43,000 of support related to the COVID-19 pandemic, including funding form the recently enacted ARPA.

While the previously allocated federal disaster relief funds and the more recent COVID-19 crisis-related funds are all expected to support economic recovery and growth in Puerto Rico, there can be no assurances as to the certainty, timing, usage, efficacy or magnitude of benefits to creditor outcomes related to disaster aid and ensuing economic growth, if any.

Ambac has considered these developments and other factors in evaluating its Puerto Rico loss reserves.

During the three months ended March 31, 2021, Ambac had incurred losses associated with its Domestic Public Finance insured portfolio of $9, which was impacted by the continued uncertainty and volatility of the situation in Puerto Rico, including the potential impact of the Second Amended PSA and the PRHTA/CCDA PSA.

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 Commonwealth and the Domestic Public Finance Insured Portfolio in general.

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Exposure Currency

The table below shows the distribution by currency of AAC’s insured exposure as of March 31, 2021:

The table below shows the distribution by currency of AAC’s insured exposure as of June 30, 2021:

Currency Net Par Amount

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Total $ 30,234

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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 March 31, 2021 and December 31, 2020.

BIG is defined as those exposures with an Ambac internal credit rating below BBB-:

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Ambac credit ratings are subject to revision at any time and do not constitute investment advice.

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Net Par Outstanding

Summary of Below Investment

Grade Exposure March 31,

Grade Exposure June 30,

2021 December 31,

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Total $ 6,031 $ 7,321

(1) Lease and tax-backed revenue includes $965 and $969 of Puerto Rico net par at March 31, 2021 and December 31, 2020, respectively.

General obligation includes $101 and $101 of Puerto Rico net par at March 31, 2021 and December 31, 2020, respectively.

(1) Lease and tax-backed revenue includes $965 and $969 of Puerto Rico net par at June 30, 2021 and December 31, 2020, respectively.

General obligation includes $101 and $101 of Puerto Rico net par at June 30, 2021 and December 31, 2020, 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 net decline in below investment grade exposures is primarily due to the de-risking of an adversely classified stadium transaction.

The net decline in below investment grade exposures is primarily due to de-risking activities.

Below investment grade exposures could increase as a relative proportion of the guarantee portfolio given that stressed borrowers generally have less ability to prepay or refinance their debt.

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.

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 increase in the future.

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Results of Operations

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A summary of our financial results is shown below:

Three Months Ended March 31, 2021 2020

Three Months Ended June 30, Six Months Ended June 30,

2021 2020 2021 2020

Net premiums earned $ 11 $ 11 $ 25 $ 21

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Interest expense 50 58 100 122

Provision for income taxes 2 (7)

Provision (benefit) for income taxes 11 2 13 (4)

Net income (loss) attributable to common stockholders $ (29) $ (35) $ (12) $ (315)

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 contributed materially to a net increase in 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 from counterparty credit adjustments on derivative asset valuations.

Significant interest rate declines during the first quarter of 2020 contributed materially to a net increase in loss reserves and losses on interest rate derivative contracts for the six months ended June 30, 2020.

Credit driven losses were also recognized in the six months ended June 30, 2021, within losses incurred (primarily from public finance insurance policies) and losses from counterparty credit adjustments on derivative asset valuations.

Financial market disruptions were reflected through lower valuations of certain fixed maturity securities (recorded through other comprehensive income) and the majority of other investments (recorded through net investment income).

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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 COVID-19, refer to “Part II, Item 1A-Risk Factors” in this Quarterly Report on Form 10-Q.

The following paragraphs describe the consolidated results of operations of Ambac and its subsidiaries for the three months ended March 31, 2021 and 2020, respectively.

For additional information on the risks posed by COVID-19, refer to Item 1A to

Part I, "Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2020.

The following paragraphs describe the consolidated results of operations of Ambac and its subsidiaries for the three and six months ended June 30, 2021 and 2020, 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.

We present accelerated premiums, which result from calls and other accelerations of financial guarantee 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

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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 $4 for the three months ended March 31, 2021, compared to the same periods in the prior year.

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 $0 and $4 for the three and six months ended June 30, 2021, 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 March 31, 2021 2020

Three Months Ended June 30, Six Months Ended June 30,

2021 2020 2021 2020

Normal premiums earned

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Total Net Premiums Earned (1)

The increase in normal premiums earned for the three months ended March 31, 2021, is primarily due to changes in allowances for credit losses on premium receivables, partially offset by the continued runoff of the insured portfolio in all markets.

$ 11 $ 11 $ 25 $ 21

(1) Specialty property and casualty net premiums earned included above is deminimis

The increase in normal premiums earned for the six months ended June 30, 2021, is primarily due to changes in allowances for credit losses on premium receivables, partially offset by the continued runoff of the financial guaranty insured portfolio in all markets.

Ambac adopted ASU 2016-13, Measurement of Credit Losses on Financial Instruments ("CECL"), on January 1, 2020, and assesses the allowance for credit losses on premium receivables on a quarterly basis.

The three months ended March 31, 2021, includes a decrease in the allowance for credit losses of $4 as c ompared to an increase of $2 for the three months ended March 31, 2020.

The three and six months ended June 30, 2021, includes a decrease in the allowance for credit losses of $2 and $6, respectively, as c ompared to an increase of $2 and $4 for the three and six months ended June 30, 2020.

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 months ended March 31, 2021, were also impacted by reinsurance cessions in the first quarter of 2021.

Public Finance normal earned premiums for the three and six months ended June 30, 2021, were also impacted by reinsurance cessions in the first quarter of 2021.

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Net Investment Income.

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and Other investments is summarized in the table below:

Three Months Ended March 31, 2021 2020

Three Months Ended June 30, Six Months Ended June 30,

2021 2020 2021 2020

Securities available-for-sale:

Ambac-insured (including Secured Notes) $ 15 $ 16

Ambac-insured (including LSNI Secured Notes) $ 14 $ 16 $ 29 $ 32

Securities available-for-sale and short-term other than Ambac-insured 8 10 15 25

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Net investment income $ 42 $ 52 $ 91 $ 31

Net investment income increased $70 for the three months ended March 31, 2021, respectively, compared to the same periods in the prior year.

Net investment income decreased $11 and increased $59 for the three and six months ended June 30, 2021, 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 and re-allocation of the investment portfolio during 2020 toward pooled funds and Ambac-insured bonds from investment grade corporate bonds, commercial mortgage backed securities and certain CLOs.

• Other investments income (loss) increased $79 for the three months ended March 31, 2021, compared to the same period in the prior year, reflecting strong performance for the three months ended March 31, 2021, particularly in hedge funds and equity funds.

Losses on Other investments for the three months ended March 31, 2020, were in hedge and other fund investments focusing on asset-backed securities, equities, high-yield, leveraged loans and private credit.

These losses were primarily driven by adverse changes in fair values, rather than realized losses, stemming from an increase in risk premiums (particularly credit spreads) as a consequence of the initial economic and financial market impact of the COVID-19 pandemic.

• Income from Ambac-insured securities was lower for the three months ended March 31, 2021, as compared to the three months ended March 31, 2020, due to the effects ongoing redemptions of Secured Notes issued by Ambac LSNI, LLC and lower LIBOR indexed coupon rates, partially offset by a higher allocation to Ambac-insured RMBS and Puerto Rico bonds.

• Net investment income from available-for-sales securities other than Ambac-insured securities decreased as a result of a lower asset base and average yield for this portion of the portfolio.

The lower asset base resulted primarily from re-allocation of the portfolio in 2020 toward pooled funds and Ambac-insured bonds from investment grade corporate and certain asset-backed securities.

• Other investments income (loss) decreased $7 and increased $72 for the three and six months ended June 30, 2021, respectively, compared to the same periods in the prior year.

Pooled fund investments have continued to perform well overall in 2021, particularly in hedge and equity funds.

Despite a higher asset base and sound returns in 2021, other investment income declined for the three months ended June 30, 2021, reflecting the challenging comparison against a very strong market recovery in the second quarter of 2020.

The increase in other investment income for the six month period reflects favorable performance and a higher invested asset base in 2021, compared to net losses on other

investments for the six months ended June 30, 2020.

The losses for the first six months of 2020, were primarily in hedge and equity fund investments driven by adverse changes in fair values as a consequence of the initial economic and financial market impact of the COVID-19 pandemic in the first quarter of 2020, partially offset by a generally strong second quarter 2020 market recovery.

• Income from Ambac-insured securities was lower for the three and six months ended June 30, 2021, as compared to the same periods in the prior year, due to the ongoing redemptions of Secured Notes issued by Ambac LSNI, lower LIBOR indexed coupon rates and sales and redemptions of RMBS, partially offset by a higher 2021 allocation to Ambac-insured Puerto Rico bonds.

• Net investment income from available-for-sale securities other than Ambac-insured securities decreased as a result of a lower asset base and average yield for this portion of the portfolio.

The lower asset base resulted primarily from re-allocation of the portfolio in the first half of 2020 toward pooled funds and Ambac-insured bonds from investment grade corporate and certain asset-backed securities.

Additionally, cash has been used to fund operations, early debt redemptions, and Ambac's acquisition of Xchange.

Lower yields in the three months ended March 31, 2021, compared to the three months ended March 31, 2020, reflect the higher rated securities purchased during the 2020 portfolio re-allocation, lower relative yields on new investments and near-zero short term rates prevailing during the first quarter of 2021.

Lower yields in the three and six months ended June 30, 2021, compared to the same periods in the prior year, reflect the higher rated securities purchased during the 2020 portfolio re-allocation, lower relative yields on new investments and near-zero short term rates prevailing during the first six months of 2021.

Net Realized Investment Gains (Losses).

The following table provides a breakdown of net realized gains (losses) for the periods presented:

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51 2021 First Quarter FORM 10-Q |

Three Months Ended March 31, 2021 2020

Three Months Ended June 30, Six Months Ended June 30,

2021 2020 2021 2020

Net gains (losses) on securities sold or called $ 1 $ 9 $ 7 $ 16

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Total net realized gains (losses) $ (2) $ 10 $ 1 $ 18

Net realized gains on securities sold or called for the three months ended March 31, 2021, included a gain of $4 realized on the sale AFG's equity interest in the Corolla Trust in connection with the Corolla Exchange Transaction.

Net realized gains on securities sold or called for the six months ended June 30, 2021, included a gain of $4 realized on the sale AFG's equity interest in the Corolla Trust in connection with the Corolla Exchange Transaction.

Other net realized gains on securities sold or called during both periods were primarily from sales in connection with routine portfolio management.

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.

Credit impairments are recorded as an allowance for credit losses with changes in the allowance recorded through earnings.

When credit impairments are recorded, any non-credit related impairment amounts on the securities are recorded in other comprehensive income.

If management either:

(i) has the intent to sell its investment in a debt security or (ii) determines that the

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57 2021 Second Quarter FORM 10-Q |

Company more likely than not will be required to sell the debt security before its anticipated recovery, then the amortized cost of the security is written-down to fair value with a corresponding impairment charge recognized in earnings.

Net Gains (Losses) on Derivative Contracts.

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Results from credit derivatives were not significant to the periods presented.

Net gains (losses) on interest rate derivatives for the three months ended March 31, 2021, were $25 compared to ($68) for the three months ended March 31, 2020.

The net gain for the three months ended March 31, 2021, reflects changes in fair value from rising forward interest rates and lower counterparty credit adjustments on certain derivative assets.

The net loss for the three months ended March 31, 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.

Net gains (losses) on interest rate derivatives for the three and six months ended June 30, 2021, were ($11) and $14, respectively, compared to $1 and $(67) for the three and six months ended June 30, 2020, respectively.

The net loss for the three months ended June 30, 2021, reflects changes in fair value from declines in forward interest rates and portfolio carrying costs as well as higher counterparty credit adjustments on certain derivative assets.

The gain for the six months ended June 30, 2021, was driven by higher forward interest rates during the period and lower counterparty credit adjustments on certain derivative assets, partially offset by portfolio carrying costs.

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 the 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.

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 $9 for the three months ended March 31, 2021, and $(30) for the three months ended March 31, 2020.

In addition to the impact of interest rates on the underlying derivative asset values, the changes in counterparty credit adjustments were driven by narrowing credit spreads in the three months ended March 31, 2021, compared to spread widening experienced in the first quarter of 2020 associated with the market disruption from the COVID-19 pandemic.

Inclusion of counterparty credit adjustments in the valuation of interest rate derivatives resulted in gains (losses) within Net gains (losses) on derivative contracts of $(3) and $6 for the three and six months ended June 30, 2021, respectively, and $8 and $(21) for the three and six months ended June 30, 2020, respectively.

In addition to the impact of interest rates on the underlying derivative asset values, the changes in counterparty credit adjustments are driven by movement of credit spreads.

Credit spreads were relatively unchanged in the second quarter of 2021, and narrowed in six months ended June 30, 2021.

Spreads narrowed in the second quarter of 2020 partially reversing the spread widening experienced in the first quarter of 2020 associated with the market disruption from the COVID-19 pandemic.

Other income (expense) .

Other income (expense) includes commission revenues of Xchange, various financial guarantee fees and foreign exchange gains/(losses) unrelated to investments or loss reserves.

For the three months ended March 31, 2021, other income includes Xchange revenues of $7.

Other income (expense) includes commission revenues of Xchange, ceding fees from the specialty property and casualty business and various financial guarantee fees and foreign exchange gains/(losses) unrelated to investments or loss reserves.

For the three and six months ended June 30, 2020, other income includes Xchange revenues of $6 and $13, respectively.

Net Realized Gains on Extinguishment of Debt .

Net realized gains on extinguishment of debt was $33 for the three months ended March 31, 2021, resulting from the exchanges of junior surplus notes below their carrying values.

Net realized gains on extinguishment of debt was $33 for the six months ended June 30, 2021, resulting from the first quarter 2021 exchanges of junior surplus notes below their carrying values.

Refer to Note 1.

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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 income of less than a million and income of $3 for the three months ended March 31, 2021 and 2020, respectively.

Results for the three months ended March 31, 2021, included realized gains of $1 on sales of assets from one VIE (the COFINA Trust) partially offset by the lower valuation of net assets on a VIE impacted by credit downgrades.

Results for the three months ended March 31, 2020, were due primarily to realized gains of $8 on sales of assets from the COFINA Trust partially offset by the lower valuation of net assets on a VIE impacted by COVID-19.

Income (loss) on variable interest entities was $2 and $2 for the three and six months ended June 30, 2021, respectively, compared to a loss of less than a million and income of $3 for the three and six months ended June 30, 2020, respectively.

Results for the three months ended June 30, 2021, were due primarily to gains on higher valuation of net assets on VIEs.

Results for the six months ended June 30, 2021 included realized gains of $1 on sales of assets, together with higher valuation of net assets on VIEs.

Results for the three and six months ended June 30, 2020, were due primarily to realized gains of $8 on sales of assets partially offset by the lower valuation of net assets on VIEs impacted by COVID-19.

Refer to Note 3.

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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.

Losses and loss expenses are based upon estimates of the aggregate losses inherent in the non-derivative portfolio for insurance policies issued to beneficiaries, excluding consolidated VIEs.

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52 2021 First Quarter FORM 10-Q |

58 2021 Second Quarter FORM 10-Q |

Ambac records as a component of its loss reserve estimate subrogation recoveries related to securitized loans in RMBS transactions with respect to which AAC is pursuing claims for breaches of representations and warranties.

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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 warranty subrogation recoveries, net of reinsurance, of $1,722 and $1,725 at March 31, 2021, and December 31, 2020, respectively.

Ambac has recorded representation and warranty subrogation recoveries, net of reinsurance, of $1,715 and $1,725 at June 30, 2021, and December 31, 2020, respectively.

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, 2020, 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 March 31, 2021 2020

RMBS $ (8) $ (83)

The following provides details for losses and loss expenses (benefit) incurred for the periods presented:

Three Months Ended June 30, Six Months Ended June 30,

2021 2020 2021 2020

Structured Finance $ (16) $ (31) $ (23) $ (100)

Domestic Public Finance (11) 42 (2) 220

Student Loans — 14

Ambac UK and Other Credits 6 7

(1) Includes loss expenses incurred of $10 and $3 for the three months ended March 31, 2021 and 2020, respectively.

Losses and loss expenses (benefit) for the three months ended March 31, 2021, were driven by higher projected losses in domestic public finance from adverse development related to Puerto Rico, partially offset by the positive impact of higher discount rates.

The underlying assumptions impacting our reserves for Puerto Rico during the three months ended March 31, 2021, were within the range of assumptions underlying our probability weighted reserves as of December 31, 2020.

Losses and loss expenses (benefit) for the three months ended March 31, 2020, were driven by the following:

• Higher projected losses in domestic public finance driven by lower discount rates (primarily relating to Puerto Rico), and incurred losses related to transactions directly impacted by the economic impact from COVID-19;

• 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.

Other 1 5 7 12

Totals (1) (2)

$ (26) $ 16 $ (18) $ 132

(1) Includes loss expenses incurred of $13 and $23 for the three and six months ended June 30, 2021, respectively, and $34 and $37 for the three and six months ended June 30, 2020, respectively.

(2) Specialty property and casualty loss and loss expenses incurred included above is deminimis

Losses and loss expenses (benefit) for the three and six months ended June 30, 2021, were largely driven by structured finance credits as a result of improved credit and the positive impact of interest rates on excess spread, partially offset by the negative impact of discount rates.

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 (primarily relating to Puerto Rico) driven by lower discount rates and estimated losses related to transactions directly impacted by the economic impact from COVID-19;

• Favorable structured finance 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 estimated losses from COVID-19 related delinquencies.

Intangible Amortization

Insurance intangible amortization for the three months ended March 31, 2021, was $19 an increase of $5 over the three months ended March 31, 2020.

The increase was driven primarily by de-risking activity.

Other intangible amortization for the three months ended March 31, 2021, was $1.

Insurance intangible amortization for the three and six months ended June 30, 2021, was $13 and $31, a decrease of $(1) and an increase of $5 over the three and six months ended June 30, 2020.

The YTD increase was driven primarily by de-risking activity.

O ther intangible amortization for the three and six months ended June 30, 2021, was $1 and $1, respectively.

Operating Expenses.

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The following table provides a summary of operating expenses for the periods presented:

Three Months Ended March 31, 2021 2020

Three Months Ended June 30, Six Months Ended June 30,

2021 2020 2021 2020

$ 14 $ 11 $ 30 $ 25

Non-compensation

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Total operating expenses $ 28 $ 21 $ 62 $ 44

Gross operating expenses increased $9 for the three months ended March 31, 2021 compared to the same period in the prior year.

The increase in operating expenses during the three months ended March 31, 2021, as compared to the three months ended March 31, 2020, was due to the following:

• Higher compensation costs due to the inclusion of Xchange compensation costs for the first time since its acquisition, accelerated expense recognition for retirement eligible stock-based compensation awards and lower capitalization for internal software projects, partially offset by lower bonus expense recognized in the three months ended March 31, 2021.

• Higher non-compensation costs primarily due to the inclusion of Xchange's commissions to sub-producers of $4, consulting and legal fees associated with the surplus note exchange transactions and a $1 UK Value Added Tax (VAT) refund which lowered expenses for the three months ended March 31, 2020.

Gross operating expenses increased $8 and $17 for the three and six months ended June 30, 2021, respectively, compared to the same period in the prior year.

The increase in operating expenses during the three months ended June 30, 2021, as compared to the three months ended June 30, 2020, was due to the following:

• Higher compensation costs due to a net increase in staffing resulting from the inclusion of the specialty property & casualty insurance and the managing general agency/underwriting businesses and performance based incentive compensation adjustments recorded in the second quarter of 2021.

• Higher non-compensation costs primarily due to the inclusion of commissions to sub-producers as part of the managing general agency/underwriting business of $4 for the three months ended June 30, 2021.

The increase in operating expenses during the six months ended June 30, 2021, as compared to the six months ended June 30, 2020, was due to the following:

• Higher compensation costs primarily due to a net increase in staffing resulting from the inclusion of the specialty property & casualty insurance and the managing general agency/underwriting businesses, higher incentive compensation costs and lower capitalization of compensation costs associated with internal software projects.

• Higher non-compensation costs primarily due to the inclusion of commissions to sub-producers of $7, costs associated with the Corolla exchange and junior surplus notes exchange transactions, a UK Value Added Tax refund in 2020 and increased software and legal fees.

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59 2021 Second Quarter FORM 10-Q |

Interest Expense.

Interest expense includes accrued interest on the Ambac Note, Tier 2 notes, surplus notes and other debt obligations.

Interest expense includes accrued interest on the LSNI 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.

The following table provides details by type of obligation for the periods presented:

Three Months Ended March 31, 2021 2020

Three Months Ended June 30, Six Months Ended June 30,

2021 2020 2021 2020

Surplus notes (1)

Ambac note 25 31

$ 19 $ 24 $ 37 $ 50

LSNI Ambac note 24 27 49 58

Tier 2 notes 7 7 13 14

Other — — 1 —

Total interest expense $ 50 $ 58 $ 100 $ 122

(1) Includes junior surplus notes

The decrease in interest expense for the three months ended March 31, 2021, compared to the three months ended March 31, 2020, was primarily driven by lower discount accretion on surplus notes, together with optional redemptions and lower rate

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53 2021 First Quarter FORM 10-Q |

resets of the floating rate Ambac Note, partially offset by interest compounding on the surplus notes and the Tier 2 Notes.

The first quarter 2021 transactions resulting in the acquisition and retirement of all junior surplus notes in exchange for re-issuance of surplus notes did not significantly impact the interest expense for the three months ended March 31, 2021, compared to the prior year period.

The decrease in interest expense for the three and six months ended June 30, 2021, compared to the three and six months ended June 30, 2020, was primarily driven by lower discount accretion on surplus notes, together with optional redemptions and lower rate resets of the floating rate LSNI Ambac Note, partially offset by interest compounding on the surplus notes and the Tier 2 Notes.

The first quarter 2021 transactions resulting in the acquisition and retirement of all junior surplus notes in exchange for re-issuance of surplus notes did not significantly impact the interest expense for the three and six months ended June 30, 2021, compared to the prior year periods.

Surplus note principal and interest payments require the approval of OCI.

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The interest on the outstanding surplus notes and junior surplus notes were accrued for and AAC is accruing interest on the interest amounts following each scheduled payment date.

Total accrued and unpaid interest for surplus notes outstanding to third parties were $516 at March 31, 2021.

Total accrued and unpaid interest for surplus notes outstanding to third parties were $532 at June 30, 2021.

Provision for Income Taxes .

The provision for income taxes for the three months ended March 31, 2021, was $2, an increase of $9 compared to the provision for income taxes reported for three months ended March 31, 2020.

The change for the three months ended March 31, 2021, as compared to the three months ended March 31, 2020, was primarily driven by state income tax related to the gains on the surplus note exchanges, whereas 2020 was attributable to Ambac UK, which had a taxable loss, related to investment losses on pooled funds.

The provision for income taxes for the three and six months ended June 30, 2021, was $11, an increase of $8 compared to the provision for income taxes reported for three and six months ended June 30, 2020.

The change for the three and six months ended June 30, 2021, as compared to the three and six months ended June 30, 2020, resulted from the impact of the 2021 enactment of an increase in U.K.

tax rates on Ambac's deferred tax liability, and state income

tax related to the gains on the Corolla and junior surplus note exchange transactions, and in 2020 Ambac UK losses on investment in pooled funds.

LIQUIDITY AND CAPITAL RESOURCES

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("AFG") Liquidity .

AFG's liquidity is primarily dependent on its cash, investments (excluding equity investments in subsidiaries), and net receivables totaling $274 as of March 31, 2021, and secondarily on dividends and expense sharing payments from its subsidiaries.

• During the three months ended March 31, 2021, AFG further capitalized the Everspan Group with a cash contribution to Everspan Indemnity Insurance Company of approximately $82.

AFG's liquidity is primarily dependent on its net assets, excluding its equity investments in subsidiaries totaling $281 as of June 30, 2021, and secondarily on distributions and expense sharing payments from its subsidiaries.

• During the six months ended June 30, 2021, AFG further capitalized the Everspan Group with a cash contribution to Everspan Indemnity Insurance Company of approximately $82.

• Under an inter-company cost allocation agreement, AFG is reimbursed by AAC for a portion of certain operating costs and expenses and, if approved by OCI, entitled to an additional payment of up to $4 per year to cover expenses not otherwise reimbursed.

The $4 reimbursement for 2020 expenses was approved (by OCI) and paid (by AAC) in April 2021.

• AFG received its first distribution from Xchange in the second quarter of 2021 for approximately $3.

AFG's investments include securities directly and indirectly issued by and/or insured by AAC, some of which are eliminated in consolidation.

Securities issued and/or insured by AAC are generally less liquid than investment grade and other traded investments.

AFG has not received dividends from any of its subsidiaries during the first quarter of 2021 or the full year of 2020.

AFG's available liquidity from subsidiary distributions is dependent upon the subsidiaries' earnings, operating cash flow and applicable regulatory and contractual restrictions, as well as the strategic decisions of management.

• It is highly unlikely that AAC will be able to make dividend payments to AFG for the foreseeable future.

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Payments from Everspan to AFG may include expense allocation payments and tax payments.

• Xchange currently does not have any regulatory restrictions on its ability to pay dividends and AFG expects it to begin paying dividends beginning in the second quarter of 2021.

• Xchange currently does not have any regulatory restrictions on its ability to make distributions.

The principal uses of liquidity include the payment of operating expenses, including costs to explore opportunities to grow and diversify Ambac;

the making of investments, which may include securities issued or insured by AAC or Ambac UK and other less liquid investments;

the making of investments, which may include

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60 2021 Second Quarter FORM 10-Q |

securities issued or insured by AAC or Ambac UK and other less liquid investments;

and the acquisition or capitalization of new businesses.

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ceded reinsurance premiums;

principal and interest payments on the Ambac Note, surplus notes and Tier 2 Notes;

principal and interest payments on the LSNI Ambac Note (refinanced by the Sitka AAC Note as described in Note 1.

Background and Business Description to the Unaudited Consolidated Financial Statements included in this Form 10-Q), surplus notes and Tier 2 Notes;

additional loans to affiliates;

and purchases of securities and other investments that may not be immediately converted into cash.

• Although AAC has not experienced incremental claim payments as a result of the impact of COVID-19, such claims may occur as issuers, particularly those with revenues that have been interrupted by the effects of the pandemic (including social distancing, other restrictions on activities

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54 2021 First Quarter FORM 10-Q |

and the increase in unemployment) may not have sufficient cash inflows to pay debt service on Ambac-insured debt.

• Although AAC has not yet experienced incremental claim payments as a result of the impact of COVID-19, such claims may occur as issuers, particularly those with revenues that have been 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.

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As discussed more fully in "Results of Operations" above in this Management's Discussion and Analysis, OCI declined AAC's request to pay the principal amount of the surplus notes, plus all accrued and unpaid interest thereon, on June 7, 2021 and on each prior scheduled payment date.

AAC's intercompany loans are with Ambac Financial Services ("AFS").

AAC's intercompany loans are to 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 AAC’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.

AAC loans cash and securities to AFS as needed to fund payments under these derivative contracts, collateral posting requirements and operating expenses.

AAC loans cash and securities to AFS as needed

mostly to fund payments under these derivative contracts and collateral posting requirements.

Intercompany loans are governed by an established lending agreement with defined borrowing limits that has received non-disapproval from OCI.

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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, 2020, and Note 9.

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, 2020, for more information on dividend payment restrictions.

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, 2020, 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, including adverse rulings or decisions in our cases or in litigations to which AAC is not a party that set precedents or resolve questions of law that impact our own claims;

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See Part I, Item 1A.

Risk Factors in the Company's Annual Report on Form 10-K for the year ended December 31, 2020, for more information about risks relating to our RMBS R&W subrogation recoveries.

Risk Factors in the Company's Annual Report on Form 10-K for the year ended December 31, 2020, and Part II, Item 1A.

Risk Factors in this Form 10-Q, for more information about risks relating to our RMBS R&W subrogation recoveries.

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Cash Flow Statement Discussion.

The following table summarizes the net cash flows for the periods presented.

Three Months Ended March 31, 2021 2020

Six Months Ended June 30, 2021 2020

Cash provided by (used in):

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Operating activities

The following represents the significant cash operating activity during the three months ended March 31, 2021 and 2020:

• Debt service payments on the Ambac Note were $25 and $31 for the three months ended March 31, 2021 and 2020, respectively.

• Receipts (payments) for operating activities related to interest rate derivatives were $3 and $(25) for the three months ended March 31, 2021 and 2020, respectively.

• Operating expenses were $31 and $25 for the three months ended March 31, 2021 and 2020, respectively.

• Cash provided by the investment portfolio was $23 and $30 for the three months ended March 31, 2021 and 2020, respectively.

• Net loss and loss expenses paid, including commutation payments, during the three months ended March 31, 2021 and 2020 are detailed below:

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55 2021 First Quarter FORM 10-Q |

Three Months Ended March 31, 2021 2020

The following represents the significant cash operating activity during the six months ended June 30, 2021 and 2020:

• Debt service payments on the LSNI Ambac Note were $49 and $58 for the six months ended June 30, 2021 and 2020, respectively.

• Receipts (payments) for operating activities related to interest rate derivatives were $(3) and $(19) for the six months ended June 30, 2021 and 2020, respectively.

• Operating expenses were $45 and $44 for the six months ended June 30, 2021 and 2020, respectively.

• Cash provided by the investment portfolio was $44 and $58 for the six months ended June 30, 2021 and 2020, respectively.

• Net loss and loss expenses paid, including commutation payments, during the six months ended June 30, 2021 and 2020 are detailed below:

Six Months Ended June 30, 2021 2020

Net loss and loss expenses paid (recovered):

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Net cash flow

(1) Net losses paid include commutation payments of $0 and $2 for the three months ended March 31, 2021 and 2020, respectively.

Future operating cash flows will primarily be impacted by interest payments on outstanding debt, claim and expense payments, investment coupon receipts and premium collections.

Financing Activities

Financing activities for the three months ended March 31, 2021, include paydowns of the Ambac Note of $16 and paydowns / maturities of VIE debt obligations of $48.

Financing activities for the three months ended March 31, 2020, include paydowns of the Ambac Note of $77 and paydowns of VIE debt obligations of $66.

Financing activities for the six months ended June 30, 2021, include paydowns of the LSNI Ambac Note of $16 and paydowns and maturities of VIE debt obligations of $85.

Financing activities for the six months ended June 30, 2020, include paydowns of the LSNI Ambac Note of $103 and paydowns and maturities of VIE debt obligations of $99.

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.

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.

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All collateral and margin obligations are currently met.

Collateral and margin posted by AFS totaled a net amount of $124 (cash and securities collateral of $4 and $120, respectively), including independent amounts, under these contracts at March 31, 2021.

Collateral and margin posted by AFS totaled a net amount of $134 (cash and securities collateral of $14 and $120, respectively), including independent amounts, under these contracts at June 30, 2021.

Ambac Credit Products (“ACP”) is not required to post collateral under any of its outstanding credit derivative contracts.

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($ in millions)

Total assets decreased by approximately $380 from December 31, 2020, to $12,840 at March 31, 2021, primarily due to the payment of loss and loss expenses;

interest and operating expenses;

lower subrogation recoverables;

and lower VIE assets caused by lower

valuation on certain fixed maturity assets and the impact Corolla Trust Exchange described in Note 1.

Total assets decreased by approximately $313 from December 31, 2020, to $12,907 at June 30, 2021, primarily due to the payment of loss and loss expenses, interest and operating expenses, lower subrogation recoverables, lower consolidated VIE assets from paydowns of consolidated VIE liabilities, and the impact of the Corolla Trust Exchange described in Note 1.

Background and Business Description to the Unaudited Consolidated Financial Statements, included in Part I, Item 1 in this Form 10-Q.

Other significant changes during the three months ended March 31, 2021, were from partial redemption of the Ambac Note, lower derivative assets caused by rising interest rates, and lower premium receivables and intangible assets from the continued runoff of the financial guarantee insurance portfolio.

Total liabilities decreased by approximately $377 from December 31, 2020, to $11,697 as of March 31, 2021, primarily due to the payment of loss and loss expenses, lower long-term debt, resulting from the surplus note exchange transactions, and partial redemptions of the Ambac Note, lower consolidated VIE liabilities resulting from fair value changes (as noted above), and lower derivative liabilities caused by rising interest rates.

As of March 31, 2021, total stockholders’ equity was $1,123, compared with total stockholders’ equity of $1,140 at December 31, 2020.

Other significant changes during the six months ended June 30, 2021, were from partial redemptions of the LSNI Ambac Note, lower derivative assets caused by rising interest rates, and lower premium receivables and intangible assets from the continued runoff of the financial guarantee insurance portfolio.

Total liabilities decreased by approximately $310 from December 31, 2020, to $11,764 as of June 30, 2021, primarily due to the payment of loss and loss expenses, lower VIE and non-VIE long-term debt (from the surplus note exchange transactions and partial redemptions of the LSNI Ambac Note) and lower derivative liabilities caused by rising interest rates.

As of June 30, 2021, total stockholders’ equity was $1,123, compared with total stockholders’ equity of $1,140 at December 31, 2020.

This decrease was primarily due to the $14 increase to the carrying value of redeemable NCI which is offset directly against retained earnings.

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Refer to "Description of the Business — Investments and Investment Policy" located in Part I.

Item 1 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2020, for further description of Ambac's investment policies and applicable regulations.

Item 1 of the Company’s Annual Report on Form 10-K for

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62 2021 Second Quarter FORM 10-Q |

the year ended December 31, 2020, for further description of Ambac's investment policies and applicable regulations.

Refer to Note 9.

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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.

The following table summarizes the composition of Ambac’s investment portfolio, excluding VIE investments, at carrying value at March 31, 2021 and December 31, 2020:

The following table summarizes the composition of Ambac’s investment portfolio, excluding VIE investments, at carrying value at June 30, 2021 and December 31, 2020:

2021 December 31,

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$ 3,447 $ 3,544

(1) Includes investments denominated in non-US dollar currencies with a fair value of £314 ($432) and €42.7 ($50.1) as of March 31, 2021, and £317 ($434) and €39 ($48) as of December 31, 2020.

(1) Includes investments denominated in non-US dollar currencies with a fair value of £314 ($433) and €43 ($51) as of June 30, 2021, and £317 ($434) and €39 ($48) as of December 31, 2020.

Ambac invests in various asset classes in its fixed maturity securities portfolio.

Other investments include diversified interests in pooled funds.

Other investments primarily consist of diversified interests in pooled funds.

Refer to Note 9.

Investments to the Unaudited Consolidated Financial Statements included in Part I,

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56 2021 First Quarter FORM 10-Q |

Item 1 in this Form 10-Q for information about fixed maturity securities and pooled funds by asset class.

The following charts provide the ratings (1) distribution of the fixed maturity investment portfolio based on fair value at March 31, 2021 and December 31, 2020:

Investments to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q for information about fixed maturity securities and pooled funds by asset class.

The following charts provide the ratings (1) distribution of the fixed maturity investment portfolio based on fair value at June 30, 2021 and December 31, 2020:

(1) Ratings are based on the lower of Moody’s or S&P ratings.

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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 42% and 41% of the March 31, 2021 and December 31, 2020 combined fixed maturity portfolio, respectively.

(2) Below investment grade and not rated bonds insured by Ambac represent 43% and 41% of the June 30, 2021 and December 31, 2020 combined fixed maturity portfolio, respectively.

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Premium Receivables .

Ambac's premium receivables decreased to $356 at March 31, 2021, from $370 at December 31, 2020.

Ambac's premium receivables decreased to $345 at June 30, 2021, from $370 at December 31, 2020.

As further discussed in Note 6.

Financial Guarantee Insurance Contracts, the decrease is due to premium receipts and adjustments for changes in expected and contractual cash flows, partially offset by decreases to the allowance for credit losses and accretion of the premium receivable discount.

Insurance Contracts, the decrease is due to premium receipts and adjustments for changes in expected and contractual cash flows on financial guarantee insurance contracts, partially offset by decreases to the allowance for credit losses and accretion of the premium receivable discount.

Premium receivables by payment currency were as follows:

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Reinsurance Recoverable on Paid and Unpaid Losses .

AAC has reinsurance in place pursuant to surplus share treaty and facultative agreements.

To minimize its exposure to losses from reinsurers, AAC (i) monitors the financial condition of its reinsurers;

Ambac has reinsurance in place pursuant to surplus share treaty and facultative agreements.

To minimize its exposure to losses from reinsurers, Ambac (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 AAC in the event of rating agency downgrades of a reinsurer (among other events and circumstances).

AAC benefited from letters of credit and collateral amounting to approximately $108 from its reinsurers at March 31, 2021.

As of March 31, 2021 and December 31, 2020, reinsurance recoverable on paid and unpaid losses were $33 and $33, respectively.

The increase was primarily a result of adverse development in public finance exposures.

and (iii) has certain cancellation rights that can be exercised by Ambac in the event of rating agency downgrades of a reinsurer (among other events and circumstances).

Ambac benefited from letters of credit and collateral amounting to approximately $114 from its reinsurers at June 30, 2021.

As of June 30, 2021 and December 31, 2020, reinsurance recoverable on paid and unpaid losses were $30 and $33, respectively.

The decrease was primarily a result of favorable loss development.

Intangible Asset .

Intangible assets include (i) an insurance intangible asset that was established at the Fresh Start Reporting Date, representing the difference between the fair value and aggregate carrying value of the financial guarantee insurance and reinsurance assets and liabilities and (ii) intangible assets established as part of the acquisition of Xchange on December 31, 2020.

As of March 31, 2021 and December 31, 2020, the intangible assets were $391 and $409, respectively.

As of June 30, 2021 and December 31, 2020, the intangible assets were $377 and $409, 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).

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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 decreased from $93 at December 31, 2020, to $74 as of March 31, 2021.

Derivative liabilities decreased from $114 at December 31, 2020, to $86 as of March 31, 2021.

The net decreases resulted primarily from higher interest rates during the three months ended March 31, 2021, with the effect on assets partially offset by lower counterparty credit adjustments.

Derivative assets decreased from $93 at December 31, 2020, to $82 as of June 30, 2021.

Derivative liabilities decreased from $114 at December 31, 2020, to $98 as of June 30, 2021.

The net decreases resulted primarily from higher interest rates during the six months ended June 30, 2021, with the effect on assets partially offset by lower 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.

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Presentation and Significant Accounting Policies and Loss Reserves sections included in Note 2.

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 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, 2020, for further information on loss and loss expenses.

The loss and loss expense reserves, net of subrogation recoverables and before reinsurance as of March 31, 2021 and December 31, 2020, were $(414) and $(397), respectively.

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, 2020, 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, 2021 and December 31, 2020, were $(456) and $(397), respectively.

Loss and loss expense reserves are included in the Unaudited Consolidated Balance Sheets as follows:

Present Value of Expected

Net Cash Flows Unearned

Revenue Gross Loss

Balance Sheet Line Item Claims and

Expenses Recoveries (1)

March 31, 2021:

Recoveries (2)

Revenue Gross Loss

June 30, 2021:

Loss and loss expense reserves $ 1,881 $ (180) $ (59) $ 1,641

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Totals $ 2,160 $ (2,485) $ (72) $ (397)

(1) Present value of future recoveries includes R&W subrogation recoveries of $1,748 and $1,751 at March 31, 2021 and December 31, 2020, respectively.

(1) Includes a deminimus amount of loss and loss expense reserves for specialty property and casualty business.

(2) Present value of future recoveries includes R&W subrogation recoveries of $1,741 and $1,751 at June 30, 2021 and December 31, 2020, respectively.

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Financial Guarantee:

Ambac has exposure to various bond types issued in the debt capital markets.

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These bond types represent 93% of our ever-to-date insurance claims recorded, with RMBS comprising 75%.

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 March 31, 2021 and December 31, 2020:

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, 2021 and December 31, 2020:

Outstanding (1)(2)

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Expenses Recoveries

March 31, 2021:

RMBS $ 2,405 $ 599 $ (2,029) $ (11) $ (1,441)

June 30, 2021:

Structured Finance $ 2,647 $ 871 $ (2,069) $ (13) $ (1,211)

Domestic Public Finance 3,004 1,011 (293) (36) 682

Student Loans 399 270 (33) (2) 235

Ambac UK and Other Credits 1,186 41 — (14) 27

Other 894 37 (6) (10) 21

Loss expenses — 52 — — 52

Totals $ 6,545 $ 1,971 $ (2,368) $ (59) $ (456)

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Outstanding (1)(2)

Present Value of Expected

Net Cash Flows Unearned

Revenue Gross Loss

Reserves (1)(3)

Expenses Recoveries

December 31, 2020:

RMBS 2,530 669 (2,102) (13) (1,446)

Structured Finance $ 2,945 $ 940 $ (2,136) $ (16) $ (1,212)

Domestic Public Finance $ 3,016 $ 1,112 $ (349) $ (39) $ 724

Student Loans 415 271 (34) (3) 234

Ambac UK and Other Credits 1,612 40 — (17) 23

Other $ 1,612 $ 40 $ — $ (17) $ 23

Loss expenses $ — $ 68 $ — $ — $ 68

Totals 7,573 2,160 (2,485) (72) (397)

(1) Ceded par outstanding on policies with loss reserves and ceded loss and loss expense reserves are $807 and $33 respectively, at March 31, 2021, and $739 and $33, respectively at December 31, 2020.

Ceded loss and loss expense reserves are included in Reinsurance recoverable on paid and unpaid losses.

Total $ 7,573 $ 2,160 $ (2,485) $ (72) $ (397)

(1) Ceded par outstanding on policies with loss reserves and ceded loss and loss expense reserves are $781 and $30 respectively, at June 30, 2021, and $739 and $33, respectively at December 31, 2020.

Recoverable ceded loss and loss expense reserves are included in Reinsurance recoverable on paid and unpaid losses on the balance sheet.

(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.

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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 March 31, 2021, and assumes an inability to execute any commutation transactions with issuers and/or investors.

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, 2021, 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.

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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 2020 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.

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 2020 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 AAC to honor its financial obligations;

the initiation of rehabilitation proceedings against

the initiation of rehabilitation proceedings against AAC;

decreased likelihood of AAC delivering value to AFG, through dividends or otherwise;

and a significant drop in the value of securities issued or insured by AFG or AAC.

RMBS Variability:

Structured Finance Variability

Ambac has exposure to the U.S.

mortgage market primarily through direct financial guarantees of RMBS, including transactions collateralized by first and second lien mortgages.

Changes to assumptions that could make our reserves under-estimated include an increase in interest rates, deterioration in housing prices, poor servicing, government intervention into the functioning of the mortgage market and the effect of a weakened economy characterized by growing unemployment and wage pressures.

Changes to assumptions that could make our reserves under-estimated include an increase in interest rates, deterioration in

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65 2021 Second Quarter FORM 10-Q |

housing prices, poor servicing, government intervention into the functioning of the mortgage market 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.

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, including adverse rulings or decisions in our cases or in litigations to which AAC is not a party that set precedents or resolve questions of law that impact our own claims;

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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 $1,722, net of reinsurance, as of March 31, 2021, 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

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their obligations under the transaction documents, or (iv) our pursuit of recoveries is otherwise unsuccessful.

Additionally, our R&W actual subrogation recoveries could be significantly lower than our estimate of $1,715, net of reinsurance, as of June 30, 2021, 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 March 31, 2021, could be approximately $10.

Using this approach, the possible increase in loss reserves for RMBS credits for which we have an estimate of expected loss at June 30, 2021, could be approximately $10.

Combined with the absence of any R&W subrogation recoveries, a possible increase in loss reserves for RMBS could be approximately $1,725.

A loss of this magnitude may render AAC insolvent.

A loss of this

magnitude may render AAC insolvent.

Additionally, loss payments are sensitive to changes in interest rates, increasing as interest rates rise.

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There can be no assurance that losses may not exceed such amounts.

Additionally, the RMBS portfolio is

sensitive to the COVID-19 related forbearances and delinquencies caused by the general economic downturn.

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.

Student Loans:

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 impact.

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, 2021, the possible increase in loss reserves could be approximately $20.

Additionally, an increase in interest rates of 0.50% could increase our estimate of expected losses by approximately $15.

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.

Public Finance Variability:

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;

public finance portfolio consists predominantly of municipal bonds such as general, revenue, 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 March 31, 2021, as compared to December 31, 2020, was primarily related to adverse development related to Puerto Rico credits.

The decrease in public finance gross loss reserves at June 30, 2021, as compared to December 31, 2020, was primarily related to claim payments.

Total public finance gross loss reserves and related gross par outstanding on Ambac insured obligations by bond type were as follows:

March 31, 2021 December 31, 2020

June 30, 2021 December 31, 2020

Issuer Type Gross Par

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(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.

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-

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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 service, such as hotel occupancy taxes, sales taxes, parking revenues, tolls, licensing fees, etc.

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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.

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.

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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

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preferred outcomes for various creditor groups can be achieved.

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.

These factors as well as 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.

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certain other provisions under PROMESA;

expected restructurings of debt insured by AAC,

either with or without its consent;

uncertainty with regards to AAC's valuation of the CVI;

expected restructurings of debt insured by AAC, uncertainty with regards to AAC's valuation of the contingent value instruments or CVI to be made available as part of a final Plan of Adjustment;

and the possibility of protracted litigation as a result of which our rights may be materially impaired, may cause losses to exceed current reserves in a material manner.

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Financial Guarantee Insurance Contracts to the Unaudited Consolidated Financial Statements and Note 12.

Commitments and Contingencies to the Unaudited Consolidated Financial Statements for further updates related to Puerto Rico.

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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, 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 March 31, 2021, the possible increase in loss reserves could be approximately $660.

For the public finance credits, including Puerto Rico, for which we have an estimate of expected loss at June 30, 2021, the possible increase in loss reserves could be approximately $545.

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:

For student loan credits for which we have an estimate of expected loss at March 31, 2021, the possible increase in loss reserves could be approximately $25.

Additionally, an increase in interest rates of 0.50% could increase our estimate of expected losses by approximately $20.

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:

Other 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 $380 greater than the loss reserves at March 31, 2021.

Additionally, our loss reserves may be under-estimated as a result of the ultimate scope, duration

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and magnitude of the effects of COVID-19.

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 $365 greater than the loss reserves at June 30, 2021.

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 surplus notes issued by AAC, 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 March 31, 2021 and December 31, 2020 is below:

Long-term debt consists of surplus notes issued by AAC, the LSNI 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, 2021 and December 31, 2020 is below:

2021 December 31, 2020

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All junior surplus notes were acquired and retired in the first quarter of 2021.

The decrease in long-term debt from December 31, 2020, resulted form the impacts of the surplus notes exchanges of $71 and optional Ambac Note redemption of $16, partially offset by the accretion on the carrying value of surplus notes, Tier 2 Notes and Ambac UK debt.

The decrease in long-term debt from December 31, 2020, resulted form the impacts of the surplus notes exchanges of $71 and optional LSNI Ambac Note redemption of $16, partially offset by the accretion on the carrying value of surplus notes, Tier 2 Notes and Ambac UK debt.

As further described in Note 1.

Background and Business Description to the Unaudited Consolidated Financial Statements included in Part I, Item 1 in this Form 10-Q, on July 6, 2021, Sitka, Ambac's newly formed non-consolidated VIE, issued the Sitka Senior Secured Notes that were used to fund a portion of the full redemption of the LSNI Secured Notes issued by LSNI, with the remaining balance redeemed utilizing other available sources

of liquidity.

Comparable to LSNI, the Sitka Senior Secured Notes are secured by the assets of Sitka which include a new note receivable from AAC.

Following these transactions, the long-term debt consisting of a secured Ambac note decreased by $463 to $1,163.

VARIABLE INTEREST ENTITIES

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We do not expect this standard to have a consequential impact on Ambac's financial statements.

Equity-classified Written Call Options

In May 2021, the FASB issued ASU 2021-04, Issuer's Accounting for Certain Modifications or Exchanges of Freestanding Equity-Classified Written Call Options .

The ASU clarifies and reduces diversity in practice for an issuer's accounting for modifications or exchanges of equity-classified written call options (e.g.

warrants) that remain equity-classified after the modification or exchange.

The ASU requires an issuer to account for the modification or exchange based on the economic substance of the transaction.

For example, if the modification or exchange is related to the issuance of debt or equity, any change in the fair value of the written call option would be accounted for as part of the debt issuance cost in accordance with the debt guidance or equity issuance cost in accordance with the equity guidance, respectively.

The ASU is effective for fiscal years beginning after December 15, 2021, with early adoption permitted.

Ambac will adopt this ASU on January 1, 2022.

Convertible Instruments and Contracts in an Entity's Own Equity

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The ASU i) simplifies the accounting for convertible debt and convertible preferred stock by reducing the number of accounting models, and amends certain disclosures, ii) amends and simplifies the derivative scope exception guidance for contracts in an entity's own equity, including share-based compensation, and iii) amends the diluted earnings per share calculations for convertible instruments and contracts in an entity's own equity.

The ASU is effective for fiscal years ending after December 15, 2021, with early adoption permitted.

The ASU is effective for fiscal years beginning after December 15, 2021, with early adoption permitted.

Ambac will adopt this ASU on January 1, 2022.

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, 2020, for a discussion of the impact of other recent accounting pronouncements on Ambac’s financial condition and results of operations.

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, 2020, for a discussion of the impact of other recent accounting

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pronouncements on Ambac’s financial condition and results of operations.

INSURANCE STATUTORY BASIS FINANCIAL RESULTS ($ in million)

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Ambac Assurance Corporation

AAC’s statutory policyholder surplus and qualified statutory capital (defined as the sum of policyholders surplus and mandatory contingency reserves) were $733 and $1,288 at March 31, 2021, respectively, as compared to $865 and $1,413 at December 31, 2020, respectively.

As of March 31, 2021, statutory policyholder surplus and qualified statutory capital included $853 principal balance of surplus notes outstanding and $138 liquidation preference of preferred stock outstanding.

These surplus notes (in addition to related accrued interest of $571 that is not recorded under statutory basis accounting principles), preferred stock and all other liabilities (including insurance claims and the Ambac Note and Tier 2 Notes) are obligations that, individually and collectively, have claims on the resources of AAC that are senior to AFG's equity and therefore impede AFG's ability to realize residual value and/or receive dividends from AAC.

The significant drivers to the net decrease in policyholder surplus are statutory net losses of $153 for the three months ended March 31, 2021, partially offset by net investment gains of $20 recorded directly through surplus.

AAC’s statutory policyholder surplus and qualified statutory capital (defined as the sum of policyholders surplus and mandatory contingency reserves) were $774 and $1,331 at June 30, 2021, respectively, as compared to $865 and $1,413 at December 31, 2020, respectively.

As of June 30, 2021, statutory policyholder surplus and qualified statutory capital included $853 principal balance of surplus notes outstanding and $138 liquidation preference of preferred stock outstanding.

These surplus notes (in addition to related accrued interest of $589 that is not recorded under statutory basis accounting principles);

preferred stock;

and all other liabilities, including insurance claims, the LSNI Ambac Note (refinanced by the Sitka AAC Note as described in Note 1.

Background and Business Description to the Unaudited Consolidated Financial Statements included in this Form 10-Q) and the Tier 2 Notes are obligations that, individually and collectively, have claims on the resources of AAC that are senior to AFG's equity and therefore impede AFG's ability to realize residual value and/or receive dividends from AAC.

The significant drivers to the net decrease in policyholder surplus are statutory net losses of $111 for the six months ended June 30, 2021, partially offset by net investment gains of $30 recorded directly through surplus.

AAC statutory surplus and therefore AFG's ability to realize residual value and/or dividends from AAC is sensitive to multiple factors, including:

(i) loss reserve development, (ii) settlements or other resolutions 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 obligations of AAC, including the Ambac Note and Tier 2 Notes, (iii) approval by OCI of payments on surplus notes, (iv) 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, (v) deterioration in the financial position of AAC subsidiaries that have their obligations guaranteed by AAC, (vi) first time payment defaults of insured obligations, which increase statutory loss reserves, (vii) commutations of insurance policies or credit derivative contracts at amounts that

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differ from the amount of liabilities recorded, (viii) reinsurance contract terminations at amounts that differ from net assets recorded, (ix) changes to the fair value of pooled fund and other investments carried at fair value, (x) realized gains and losses, including losses arising from other than temporary impairments of investment securities, and (xi) future changes to prescribed practices.

(i) loss reserve development, (ii) settlements or other resolutions 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 obligations of AAC, including the Sitka AAC Note and Tier 2 Notes, (iii) approval by OCI of payments on surplus notes, (iv) ongoing interest costs associated with the Sitka AAC Note and Tier 2 Notes, including changes to interest rates as the Sitka AAC Note is a floating rate obligation, (v) deterioration in the financial position of AAC subsidiaries that have their obligations guaranteed by AAC, (vi) first time payment defaults of insured obligations, which increase statutory loss reserves, (vii)

commutations of insurance policies or credit derivative contracts at amounts that differ from the amount of liabilities recorded, (viii) reinsurance contract terminations at amounts that differ from net assets recorded, (ix) changes to the fair value of pooled fund and other investments carried at fair value, (x) realized gains and losses, including losses arising from other than temporary impairments of investment securities, and (xi) future changes to prescribed practices.

Everspan Indemnity Insurance Company

Everspan Indemnity Insurance Company’s statutory policyholder surplus was $107 at March 31, 2021, as compared to $26 at December 31, 2020.

The significant drivers to the increase in policyholder surplus were capital contributions of $82 partially offset by operating expenses during the three months ended March 31, 2021.

Everspan Indemnity Insurance Company’s statutory policyholder surplus was $105 at June 30, 2021, as compared to $26 at December 31, 2020.

The significant drivers to the increase in policyholder surplus were capital contributions of $82 partially offset by operating expenses during the six months ended June 30, 2021.

AMBAC UK FINANCIAL RESULTS UNDER UK ACCOUNTING PRINCIPLES (£ in millions)

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 £420 at March 31, 2021, as compared to £412 at December 31, 2020.

At March 31, 2021, the carrying value of cash and investments was £485, an increase from £481 at December 31, 2020.

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 £430 at June 30, 2021, as compared to £412 at December 31, 2020.

At June 30, 2021, the carrying value of cash and investments was £487, an increase from £481 at December 31, 2020.

The increase in shareholders’ funds and cash and investments was primarily due to the continued receipt of premiums and investment income, partially offset by loss expenses, foreign exchange losses, operating expenses and tax payments.

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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 £222 at March 31, 2021, of which £212 were eligible to meet solvency capital requirements.

Available capital resources under Solvency II were a surplus of £238 at June 30, 2021, of which £230 were eligible to meet solvency capital requirements.

This is an increase from December 31, 2020, when available capital resources were a surplus of £196 of which £184 were eligible to meet solvency capital requirements.

Eligible capital resources at March 31, 2021, and December 31, 2020, were in comparison to regulatory capital requirements of £246 and £256, respectively.

Therefore, Ambac UK remains deficient in terms of compliance with applicable regulatory capital requirements by £35 and £72 at March 31, 2021, and December 31, 2020, respectively.

The deficit reduced as at March 31, 2021, due to an increase in eligible capital resources mainly caused by the increase over the period in long term discount rates which reduced the value of technical provision liabilities over the quarter.

Eligible capital resources at June 30, 2021, and December 31, 2020, were in comparison to regulatory capital requirements of £250 and £256, respectively.

Therefore, Ambac UK remains deficient in terms of compliance with applicable regulatory capital requirements by £20 and £72 at June 30, 2021, and December 31, 2020, respectively.

The deficit reduced as at June 30, 2021, due to an increase in eligible capital resources mainly caused by the increase over the period in long term discount rates which reduced the value of technical provision liabilities.

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.

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NON-GAAP FINANCIAL MEASURES

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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.

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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.

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The following table reconciles net income (loss) 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 March 31,

Three Months Ended June 30,

($ in millions, except share data) $ Amount Per Diluted Share (1)

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Adjusted earnings (loss) $ (13) $ (0.30) $ (24) $ (0.52)

Six Months Ended June 30,

($ in millions, except share data) $ Amount Per Diluted Share $ Amount Per Diluted Share

Net income (loss) attributable to common stockholders

$ (12) $ (0.54) $ (315) $ (6.83)

Non-credit impairment fair value (gain) loss on credit derivatives

Insurance intangible amortization 31 0.68 27 0.58

Foreign exchange (gain) loss

7 0.16 (2) (0.04)

Adjusted earnings (loss) $ 27 $ 0.30 $ (289) $ (6.27)

(1) Per Diluted share includes the impact of adjusting redeemable noncontrolling interest to its redemption value

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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:

March 31, 2021 December 31, 2020

June 30, 2021 December 31, 2020

($ in millions, except share data) $ Amount Per Share $ Amount Per Share

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Adjusted book value $ 889 $ 19.25 $ 919 $ 20.05

The decrease in Adjusted Book Value was primarily attributable to the $13 reduction to retained earnings from the increase to the carrying value of redeemable NCI and the impact on expected future premiums from reinsurance and de-risking transactions, partially offset by the Adjusted Earnings for the three months ended March 31, 2021 (excluding earned premium previously included in Adjusted Book Value).

The decrease in Adjusted Book Value was primarily attributable to the $14 reduction to retained earnings from the increase to the carrying value of redeemable NCI, the impact on expected future premiums from reinsurance and de-risking transactions and the Adjusted loss for the six months ended June 30, 2021 (excluding earned premium previously included in Adjusted Book Value).

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.

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Quantitative and Qualitative Disclosure About Market Risk'

As of March 31, 2021, there were no material changes in the market risks that the Company is exposed to since December 31, 2020.

As of June 30, 2021, there were no material changes in the market risks that the Company is exposed to since December 31, 2020.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis