AMBAC FINANCIAL GROUP INC - Quarter Report: 2013 March (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the Quarterly Period Ended March 31, 2013

Commission File Number: 1-10777

Ambac Financial Group, Inc.

(Exact name of Registrant as specified in its charter)

(212) 668-0340

(Registrant’s telephone number, including area code)

Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act): (Check one):

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of May 9, 2013, 45,000,000 shares of common stock, par value $0.01 per share, of the Registrant were outstanding.

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Ambac Financial Group, Inc. and Subsidiaries

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Part I Financial Information

AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES

(DEBTOR-IN-POSSESSION)

Consolidated Balance Sheets

See accompanying Notes to Unaudited Consolidated Financial Statements.

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AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES

(DEBTOR-IN-POSSESSION)

Consolidated Statements of Total Comprehensive Income (Unaudited)

See accompanying Notes to Unaudited Consolidated Financial Statements.

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AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES

(DEBTOR-IN-POSSESSION)

Consolidated Statements of Stockholders’ Equity (Unaudited)

See accompanying Notes to Unaudited Consolidated Financial Statements.

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AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES

(DEBTOR-IN-POSSESSION)

Consolidated Statements of Cash Flows (Unaudited)

See accompanying Notes to Unaudited Consolidated Financial Statements.

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AMBAC FINANCIAL GROUP, INC. AND SUBSIDIARIES

DEBTOR-IN-POSSESSION

Notes to Consolidated Financial Statements

(Dollar Amounts in Thousands, Except Share Amounts)

1. BACKGROUND AND BUSINESS DESCRIPTION

These unaudited consolidated financial statements and notes thereto should be read in conjunction with the consolidated financial statements and notes thereto included in Ambac’s 2012 Annual Report on Form 10-K. Certain reclassifications may have been made to prior periods’ amounts to conform to the current period’s presentation.

Ambac Financial Group, Inc.

Ambac Financial Group, Inc. (“Ambac” or the “Company”), headquartered in New York City, is a financial services holding company incorporated in the state of Delaware. On November 8, 2010, Ambac filed a voluntary petition for relief under Chapter 11 of the United States Bankruptcy Code (“Bankruptcy Code”) in the United States Bankruptcy Court for the Southern District of New York (“Bankruptcy Court”). The Company, as debtor and debtor-in-possession, filed a Fifth Amended Plan of Reorganization on March 12, 2012, which was confirmed by order of the Bankruptcy Court on March 14, 2012 and modified in accordance with orders entered by the Bankruptcy Court on April 29, 2013 (such Fifth Amended Plan of Reorganization, as so modified, the “Reorganization Plan”). On April 30, 2013, Ambac executed a closing agreement with the United States Internal Revenue Service (the “IRS”) to conclude the settlement of a dispute with the IRS (the “IRS Settlement”), and concurrently paid $1,900, while the Segregated Account (as defined below) paid $100,000, to the United States in connection with such settlement. This closing agreement represented the final material contingency under the Reorganization Plan required for the adoption of fresh start reporting. On May 1, 2013 (the “Effective Date”), the Reorganization Plan became effective and Ambac emerged from bankruptcy.

Pursuant to the Reorganization Plan, Ambac distributed 45,000,000 shares of new common stock on May 1, 2013, consisting of (1) 43,946,750 shares to holders of senior debt securities outstanding prior to the Effective Date with claims against the Company of approximately $1,246,129 that were discharged in the bankruptcy case; (2) 378,250 shares to holders of allowed general unsecured claims against the Company in the aggregate amount of approximately $14,328 that were discharged in the bankruptcy case; and (3) 675,000 shares to holders of subordinate debt securities outstanding prior to the Effective Date with claims against the Company of approximately $444,183 that were discharged in the bankruptcy case. We have reserved approximately 10,000 shares for possible future distributions to holders of disputed general unsecured claims when such claims are resolved. Under the Reorganization Plan Ambac also distributed warrants to (1) the aforementioned holders of allowed general unsecured claims, which entitle such holders to acquire an additional 42,424 shares of new common stock of the Company at an exercise price of $16.67 per share at any time on or prior to April 30, 2023 and (2) the aforementioned holders of subordinate debt securities, which entitle such holders to acquire an additional 5,004,714 shares of new common stock of the Company at an exercise price of $16.67 per share at any time on or prior to April 30, 2023. The new common stock and warrants were listed on NASDAQ and began trading under the symbols “AMBC” and “AMBCW,” respectively, on May 1, 2013. All such common stock and warrants were issued without registration under the Securities Act of 1933, as amended, or state securities laws, in reliance on Section 1145 of the Bankruptcy Code. The common stock of the Company in existence prior to the Effective Date was cancelled on the Effective Date and the holders of such stock did not receive, and will not receive, any distributions under the Reorganization Plan.

In addition to the distributions described above, the Company may be required to distribute additional new common stock and warrants to claimholders in its Chapter 11 case and will need to make cash payments in respect of allowed administrative claims and professional fees relating to its bankruptcy. On or before the date that is thirty (30) days after the Effective Date, all entities holding claims arising from the rejection of executory contracts or unexpired leases must file such claims in accordance with the procedures prescribed by the Bankruptcy Court. Any allowed claims arising from the rejection of the Company’s executory contracts or unexpired leases would be classified as general unsecured claims, entitling the holders thereof to receive new common stock as warrants in accordance with the Reorganization Plan. On or before the date that is forty-five (45) days after the Effective Date, requests for the payment of certain administrative claims must be filed and served on the Company pursuant to the procedures prescribed by the Bankruptcy Court. The Company will pay any such allowed claims in cash. On or before the date that is sixty (60) days after the Effective Date, all entities holding claims for accrued professional compensation, must file and serve on the Company and certain other parties a final application for the allowance of such claims. The Company will pay any such allowed claims in cash.

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Pursuant to the Mediation Agreement, dated September 21, 2011 (the “Mediation Agreement”) among the Company, the statutory committee of creditors appointed by the United States Trustee on November 17, 2010 (the “Creditors’ Committee”), Ambac Assurance Corporation (“Ambac Assurance”), the Segregated Account of Ambac Assurance Corporation (the “Segregated Account”), the Commissioner of Insurance of the State of Wisconsin, as the court-appointed rehabilitator of the Segregated Account (the “Rehabilitator”), and the Wisconsin Office of the Commissioner of Insurance (“OCI”), the terms of which formed an integral part of the Reorganization Plan, Ambac Assurance transferred $30,000 from an escrow account to Ambac on the Effective Date. Additionally, the Segregated Account issued a Junior Surplus Note in the amount of $350,000 to Ambac on the Effective Date in accordance with the Mediation Agreement. No payment of interest on or principal of Segregated Account Junior Surplus Notes may be made until all existing and future indebtedness of the Segregated Account, including Segregated Account Surplus Notes, policy claims and claims having statutory priority have been paid in full. All payments of principal and interest on Segregated Account Junior Surplus Notes are subject to the prior approval of the OCI. If the OCI does not approve the payment of interest on the Segregated Account Junior Surplus Notes, such interest will accrue and compound annually until paid.

As of the Effective Date, the Company was generally discharged and released from all pre-Effective Date debts, liabilities, claims, causes of action and interests in accordance with the provisions of the Reorganization Plan. Holders of claims and equity interests are also generally barred from commencing or continuing any action or proceeding relating to such claims, causes of action or interests. The Reorganization Plan also provides for broad exculpation and releases of the Company, Ambac Assurance, the Segregated Account, OCI, the Rehabilitator, the board of directors and board committees of the Company and Ambac Assurance, all individual directors, officers and employees of the Company and Ambac Assurance, the Creditors’ Committee and the individual members thereof, and each of the respective representatives of such parties, for actions or omissions that occurred on or prior to the Effective Date.

As provided for in the Reorganization Plan, Ambac’s Amended and Restated Certificate of Incorporation and revised Bylaws became effective on the Effective Date. Pursuant to the Amended and Restated Certificate of Incorporation of Ambac, Ambac is authorized to issue 150,000,000 shares of capital stock, consisting of 130,000,000 shares of common stock, par value $0.01 per share and 20,000,000 shares of preferred stock, par value $0.01 per share. In accordance with the Reorganization Plan and the bylaws of the reorganized Company, the Board of Directors of Ambac now consists of Ambac’s Chief Executive Officer and three other Directors selected by the pre-Effective Date creditors of the Company. The Reorganization Plan provides for a fifth Director to be selected by the Creditors’ Committee within 60 days of the Effective Date.

Ambac’s Amended and Restated Certificate of Incorporation limits voting and transfer rights of shareholders in significant ways. Article IV contains voting restrictions applicable to any person owning at least 10% of Ambac’s common stock so that such person shall not be entitled to cast votes in excess of one vote less than 10% of the votes entitled to be cast by all common stock holders, except as otherwise approved by OCI. Article XII generally prohibits transfers of common stock to the extent that, as a result of such transfer, either (i) the transferee would become the beneficial owner of 5% or more of the Company’s outstanding stock or (ii) the percentage stock ownership interest in the Company of any existing beneficial owner of 5% or more of the Company’s outstanding stock would be increased. A purported transferee of such a prohibited transfer shall not be recognized as a shareholder of Ambac for any purpose whatsoever in respect of the shares of common stock which comprise the prohibited transfer. The Board of Directors of Ambac may grant exceptions to the restrictions of Article XII. Furthermore, on September 27, 2012, the Bankruptcy Court entered an order (the “Trading Order”), amending and restating an order entered on November 30, 2010, establishing procedures for certain pre-Effective Date transfers or acquisitions of equity interests in and claims (including debt securities) against the Company. The Bankruptcy Court retains jurisdiction after the Effective Date to enforce the Trading Order with respect to pre-Effective Date violations of the Trading Order.

Upon emergence from bankruptcy the Company will adopt fresh start reporting, as described more fully in Note 14. The adoption of fresh start accounting principles reflects the Company’s becoming a new entity for financial reporting purposes. Accordingly, the financial statements as of the Fresh Start Reporting Date (as defined in Note 14) and for subsequent periods will report the results of the new entity with no beginning retained earnings. Such financial statements will not be comparable to the financial statements prior to emergence.

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Segregated Account of Ambac Assurance Corporation

Ambac Assurance is Ambac’s principal operating subsidiary. In March 2010, Ambac Assurance established the Segregated Account pursuant to Wisc. Stat. §611.24(2) to segregate certain segments of Ambac Assurance’s liabilities, and OCI commenced rehabilitation proceedings in the Dane County, Wisconsin Circuit Court (the “Rehabilitation Court”) with respect to the Segregated Account (the “Segregated Account Rehabilitation Proceedings”) in order to permit OCI to facilitate an orderly run-off and/or settlement of the liabilities allocated to the Segregated Account pursuant to the provisions of the Wisconsin Insurers Rehabilitation and Liquidation Act. Net par exposure as of March 31, 2013 for policies allocated to the Segregated Account is $26,122,693.

In 2010, Ambac Assurance issued a $2,000,000 secured note due in 2050 (the “Secured Note”) to the Segregated Account. Interest on the Secured Note accrues at the rate of 4.5% per annum, and accrued interest will be added to principal quarterly. The Segregated Account has the ability to demand payment from time to time to pay claims and other liabilities. The balance of the Secured Note is $358,568 at March 31, 2013, including capitalized interest since the date of issuance. In addition, once the Secured Note has been exhausted, the Segregated Account has the ability to demand payment from time to time under an aggregate excess of loss reinsurance agreement provided by Ambac Assurance (the “Reinsurance Agreement”) to pay claims and other liabilities.

Ambac Assurance is not obligated to make payments on the Secured Note or under the Reinsurance Agreement if its surplus as regards to policyholders is less than $100,000 (the “Minimum Surplus Amount”). As long as the surplus as regards to policyholders is not less than the Minimum Surplus Amount, payments by Ambac Assurance to the Segregated Account under the Reinsurance Agreement are not capped. At March 31, 2013, insurance liabilities for policies allocated to the Segregated Account were $6,211,471. At March 31, 2013, Ambac Assurance’s surplus as regards to policyholders of $159,451 exceeds the Minimum Surplus Amount.

On October 8, 2010, the Rehabilitator filed a plan of rehabilitation for the Segregated Account (the “Segregated Account Rehabilitation Plan”) in the Circuit Court of Dane County, Wisconsin in which the Segregated Account Rehabilitation Proceedings are pending (the “Rehabilitation Court”). The Rehabilitation Court confirmed the Segregated Account Rehabilitation Plan on January 24, 2011. The confirmed Segregated Account Rehabilitation Plan also makes permanent the injunctions issued by the Rehabilitation Court on March 24, 2010.

The Segregated Account Rehabilitation Plan has not been made effective and is subject to modification. On June 4, 2012, the Rehabilitation Court approved a motion made by the Rehabilitator to make partial interim policy claim payments to Segregated Account policyholders. In accordance with such approval, on August 1, 2012, the Rehabilitator promulgated Rules Governing the Submission, Processing and Partial Payment of Policy Claims in accordance with the June 4, 2012 Interim Cash Payment Order (the “Policy Claim Rules”). Pursuant to the Policy Claim Rules, with effect from August 1, 2012, holders of policies allocated to the Segregated Account were, and continue to be, allowed to submit policy claims for review and partial payment equating to 25% of the permitted policy claim amount. The Rehabilitator is considering seeking approval from the Rehabilitation Court for the Segregated Account to make cash payments in excess of 25% of the permitted policy claim amount (“Supplemental Payments”) with respect to certain insured securities so that cash flow in the related securitization trusts that would have been available to reimburse Ambac Assurance had it paid claims in full is not diverted to uninsured holders who would not have received such cash flow if claims had been paid in full. Without making such Supplemental Payments, Ambac Assurance would likely realize lower levels of reimbursements than currently contemplated by our reserves in the relevant transactions as cash flow that would have been available for the benefit of Ambac Assurance would be lost to such uninsured holders. It is presently anticipated that the Rehabilitator will initially identify approximately 14 transactions on which the Segregated Account would make Supplemental Payments.

The Rehabilitator has informed the Company that it intends to seek rulings from the IRS as to certain tax issues associated with potential amendments to the Segregated Account Rehabilitation Plan. Pursuant to such amendments, surplus notes would not be issued with respect to the unpaid balance of permitted policy claims, but such balance would be recorded by the Segregated Account as outstanding policy obligations which would accrue interest at a rate of 5.1%, compounded annually until paid (any such outstanding policy obligation, including accrued interest thereon, being a “Deferred Amount”). If favorable rulings are received by the Rehabilitator from the IRS as to such tax issues, then the Rehabilitator would likely file amendments to the Segregated Account Rehabilitation Plan to provide for Deferred Amounts to be established, rather than for surplus notes to be issued, with respect to the unpaid portion of permitted policy claims. The timing and likelihood of such amendments to the Segregated Account Rehabilitation Plan are presently unclear, but such amendments would result in a material change to our financial results.

2. DEBTOR IN POSSESSION FINANCIAL INFORMATION

Entities operating in bankruptcy and expecting to reorganize under Chapter 11 of the Bankruptcy Code are subject to the additional accounting and financial reporting guidance in ASC Topic 852 “Reorganizations”. In accordance with ASC Topic 852, following the date Ambac filed its Chapter 11 petition, we discontinued recording interest expense on debt classified as Liabilities subject to compromise, which amounted to $232,556 as of March 31, 2013. The stated contractual interest on debt classified as Liabilities subject to compromise amounted to $20,660 and $24,162 for the three months ended as of March 31, 2013 and March 31, 2012, respectively. As required by ASC Topic 852, the amount of the Liabilities subject to compromise represents our estimate of known or potential pre-petition claims to be addressed in connection with the bankruptcy. The Liabilities subject to compromise in the Consolidated Balance Sheets consists of the following:

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Professional advisory fees and other costs directly associated with our reorganization are reported separately as reorganization items pursuant to ASC Topic 852. Reorganization items also include adjustments to reflect the carrying value of certain pre-petition liabilities at their allowable claim amounts. The reorganization items in the Consolidated Statements of Total Comprehensive Income for the three months ended March 31, 2013 and 2012 consisted of the following items:

3. SPECIAL PURPOSE ENTITIES, INCLUDING VARIABLE INTEREST ENTITIES

Ambac, through its subsidiaries, has engaged in transactions with special purpose entities, including variable interest entities (“VIEs”), in various capacities. Ambac most commonly has provided financial guarantees, including credit derivative contracts, for various debt obligations issued by special purpose entities, including VIEs. Ambac has also sponsored two special purpose entities that issued medium-term notes to fund the purchase of certain financial assets. Ambac is also an investor in collateralized debt obligations, mortgage-backed and other asset-backed securities issued by VIEs and its ownership interest is generally insignificant to the VIE and/or Ambac does not have rights that direct the activities that are most significant to such VIE. In 2011, Ambac Assurance entered into a secured borrowing transaction under which two VIEs were created for the purpose of resecuritizing certain invested assets and collateralizing the borrowing. These VIEs are consolidated because Ambac Assurance was involved in their design and holds a significant amount of the beneficial interests issued by the VIEs or guarantees the assets held by the VIEs. VIE debt outstanding to third parties under this secured borrowing transaction was $10,521 and $14,588 as of March 31, 2013 and December 31, 2012, respectively. The debt represents the senior-most tranche of the securitization structure and is to be repaid from the non-insurance proceeds of certain RMBS securities which are guaranteed by Ambac Assurance. Such securities had a fair value of $218,735 and $201,329 as of March 31, 2013 and December 31, 2012, respectively. Refer to Note 8, Investments for further discussion of the restrictions on these securities.

Financial Guarantees:

Ambac’s subsidiaries provided financial guarantees in respect of assets held or debt obligations of special purpose entities, including VIEs. Ambac’s primary variable interest exists through this financial guarantee insurance or credit derivative contract. The transaction structure provides certain financial protection to Ambac. This financial protection can take several forms; however, the most common are over-collateralization, first loss and excess spread. In the case of over-collateralization (i.e., the principal amount of the securitized assets exceeds the principal amount of the debt obligations guaranteed), the structure allows the transaction to experience defaults among the securitized assets before a default is experienced on the debt obligations that have been guaranteed by Ambac’s subsidiaries. In the case of first loss, the financial guarantee insurance policy or credit derivative contract only covers a senior layer of losses on assets held or debt issued by special purpose entities, including VIEs. The first loss with respect to the assets is either retained by the asset seller or sold off in the form of equity or mezzanine debt to other investors. In the case of excess spread, the securitized assets contributed to special purpose entities, including VIEs, generate interest cash flows that are in excess of the interest payments on the related debt; such excess cash flow is applied to redeem debt, thus creating over-collateralization. Generally, upon deterioration in the performance of a transaction or upon an event of default as specified in the transaction legal documents, Ambac will obtain certain loss remediation rights. These rights may enable Ambac to direct the activities of the entity that most significantly impact the entity’s economic performance.

We determined that Ambac’s subsidiaries generally have the obligation to absorb the VIE’s expected losses given that they have issued financial guarantees supporting the liabilities (and in certain cases assets) of a VIE. As further described below, we consolidated certain VIEs because: a) we determined for certain transactions that experienced the aforementioned performance deterioration, that Ambac’s subsidiaries had the power, through voting rights or similar rights, to direct the activities of certain VIEs that most significantly impact the VIE’s economic performance because certain triggers had been breached in these transactions resulting in their ability to exercise certain loss remediation activities, or b) due to the passive nature of the VIEs’ activities, Ambac’s subsidiaries’ contingent loss remediation rights upon a breach of certain triggers in the future is considered to be the power to direct the activities that most significantly impact the VIEs’ economic performance. With respect to existing VIEs involving Ambac financial guarantees, Ambac is generally required to

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consolidate a VIE in the period that applicable triggers result in Ambac having control over the VIE’s most significant economic activities. A VIE is deconsolidated in the period that Ambac no longer has such control, which occurred in connection with insurance policies that were allocated to the Segregated Account, execution of remediation activities on the transaction or amortization of insured exposure, any of which may reduce the degree of Ambac’s control over a VIE.

Ambac Sponsored VIEs:

A subsidiary of Ambac has transferred financial assets to two special purpose entities. The business purpose of these entities is to provide certain financial guarantee clients with funding for their debt obligations. These special purpose entities are legal entities that are demonstrably distinct from Ambac. Ambac, its affiliates or its agents cannot unilaterally dissolve these entities. The permitted activities of these entities are limited to those outlined below. Ambac does not consolidate these entities because Ambac Assurance’s policies issued to these entities have been allocated to the Segregated Account, thereby limiting Ambac’s control over the entities’ most significant economic activities. Ambac has elected to account for its equity interest in these entities at fair value under the fair value option in accordance with ASC Topic 825, Financial Instruments. We believe that the fair value of the investments in these entities provides for greater transparency for recording profit or loss as compared to the equity method under ASC Topic 323, Investments—Equity Method in Joint Ventures. Refer to Note 7 for further information on the valuation technique and inputs used to measure the fair value of Ambac’s equity interest in these entities. At March 31, 2013 and December 31, 2012 the fair value of these entities is $14,230 and $14,557, respectively, and is reported within Other assets on the Consolidated Balance Sheets. The change in fair value of these entities is ($327) and ($756) for the three months ended March 31, 2013 and 2012, respectively.

Since their inception, there have been 15 individual transactions with these entities, of which 3 transactions were outstanding as of March 31, 2013. Total principal amount of debt outstanding was $464,495 and $466,938 at March 31, 2013 and December 31, 2012, respectively. In each case, Ambac sold assets to these entities. The assets are composed of utility obligations with a weighted average rating of BBB+ at March 31, 2013 and weighted average life of 8.7 years. The purchase by these entities was financed through the issuance of medium-term notes (“MTNs”), which are cross-collateralized by the purchased assets. The MTNs have the same expected weighted average life as the purchased assets. Derivative contracts (interest rate swaps) are used within the entities for economic hedging purposes only. Derivative positions were established at the time MTNs were issued to purchase financial assets. The activities of these entities are contractually limited to purchasing assets from Ambac, issuing MTNs to fund such purchase, executing derivative hedges and obtaining financial guarantee policies with respect to indebtedness incurred. As of March 31, 2013 Ambac Assurance had financial guarantee insurance policies issued for all assets, MTNs and derivative contracts owned and outstanding by the entities.

Insurance premiums paid to Ambac Assurance by these entities are earned in a manner consistent with other insurance policies, over the risk period. Additionally, any losses incurred on such insurance policies are included in Ambac’s Consolidated Statements of Total Comprehensive Income. Under the terms of an Administrative Agency Agreement, Ambac provides certain administrative duties, primarily collecting amounts due on the obligations and making interest payments on the MTNs.

There were no assets sold to these entities during the three months ended March 31, 2013 and 2012. Ambac Assurance earned premiums for issuing the financial guarantee policies on the assets, MTNs and derivative contracts of $30 and $145 for the three months ended March 31, 2013 and 2012, respectively. Ambac was not presented with claims on insurance policies issued to these entities during the three months ended March 31, 2013 and 2012, but did receive recoveries of $1,455 and $134 in respect of previously paid claims for the three months ended March 31, 2013 and 2012, respectively. Ambac also earned fees for providing other services amounting to $2 and $11 for the three months ended March 31, 2013 and 2012, respectively.

Derivative contracts are provided by Ambac Financial Services (“AFS”), Ambac’s derivative products subsidiary, to these entities. Ambac accounts for these contracts on a trade date basis at fair value. AFS paid $93 and $138 for the three months ended March 31, 2013 and 2012, respectively, under these derivative contracts.

Consolidation of VIEs:

Upon initial consolidation of a VIE, we recognize a gain or loss in earnings for the difference between: (i) the fair value of the consideration paid, the fair value of any non-controlling interests and the reported amount of any previously held interests and (ii) the net amount, as measured on a fair value basis, of the assets and liabilities consolidated. Upon deconsolidation of a VIE, we recognize a gain or loss for the difference between: (i) the fair value of any consideration received, the fair value of any retained non-controlling investment in the VIE and the carrying amount of any non-controlling interest in the VIE and (ii) the carrying amount of the VIE’s assets and liabilities. Gains or losses from consolidation and deconsolidation that are reported in earnings are reported within Income on variable interest entities.

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The variable interest in a VIE generally involves one or more of the following: a financial guarantee policy issued to the VIE, a written credit derivative contract that references liabilities of the VIE or an investment in securities issued by the VIE. The impact of consolidating such VIEs on Ambac’s balance sheet is the elimination of transactions between the consolidated VIEs and Ambac’s operating subsidiaries and the inclusion of the VIE’s third party assets and liabilities. For a financial guarantee policy issued to a consolidated VIE, Ambac does not reflect the financial guarantee insurance policy in accordance with the related insurance accounting rules under ASC Topic 944, Financial Services—Insurance. Consequently, Ambac eliminates insurance assets (premium receivables, reinsurance recoverable, deferred ceded premium, subrogation recoverable and deferred acquisition costs) and insurance liabilities (unearned premiums, loss and loss expense reserves and ceded premiums payable) from the Consolidated Balance Sheets. For investment securities owned by Ambac that are debt instruments issued by the VIE, the investment securities balance is eliminated upon consolidation. Ambac did not consolidate any VIEs solely as a result of purchases of the VIE’s debt instruments.

As of March 31, 2013 consolidated VIE assets and liabilities relating to 18 consolidated entities were $16,751,505 and $16,548,127, respectively. As of December 31, 2012, consolidated VIE assets and liabilities relating to 18 consolidated entities were $17,841,863 and $17,661,700, respectively. Ambac is not primarily liable for, and does not guarantee all of the debt obligations issued by the VIEs. Ambac would only be required to make payments on the guaranteed debt obligations in the event that the issuer of such debt obligations defaults on any principal or interest due. Additionally, Ambac’s creditors do not have rights with regard to the assets of the VIEs. Ambac evaluates the net income statement effects and earnings per share effects to determine attributions between Ambac and non-controlling interests as a result of consolidating a VIE. Ambac has determined that the net changes in fair value of most consolidated VIE assets and liabilities are attributable to Ambac due to Ambac’s interest through financial guarantee premium and loss payments with the VIE.

The financial reports of certain VIEs are prepared by outside trustees and are not available within the time constraints Ambac requires to ensure the financial accuracy of the operating results. As such, the financial results of certain VIEs are consolidated on a time lag that is no longer than 90 days.

The table below provides the fair value of fixed income securities, by asset-type, held by consolidated VIEs as of March 31, 2013 and December 31, 2012:

The following table provides supplemental information about the loans held as assets and long-term debt associated with the VIEs for which the fair value option has been elected as of March 31, 2013 and December 31, 2012:

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Variable Interests in Non-Consolidated VIEs

The following table displays the carrying amount of the assets, liabilities and maximum exposure to loss of Ambac’s variable interests in non-consolidated VIEs resulting from financial guarantee and credit derivative contracts by major underlying asset classes, as of March 31, 2013 and December 31, 2012:

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4. COMPREHENSIVE INCOME

The following table displays the changes in the balances of each component of accumulated other comprehensive income for the three months ended March 31, 2013:

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The following table displays the significant amounts reclassed out of each component of accumulated other comprehensive income for the three months ended March 31, 2013:

5. NET INCOME PER SHARE

Basic net income per share is computed by dividing net income available to common stockholders by the weighted-average number of common shares outstanding. Common shares outstanding includes common stock issued plus restricted stock units for which no future service is required as a condition to the delivery of the underlying common stock less treasury shares. Diluted net income per share is computed by dividing net income attributable to common stockholders by the weighted-average number of common shares outstanding plus all dilutive potential common shares outstanding during the period. All dilutive potential common shares outstanding consider common stock deliverable pursuant to nonvested restricted stock units. These dilutive shares totaled 109,738 and 114,269 from the assumed settlement of diluted nonvested restricted stock units at March 31, 2013 and 2012, respectively. The following table presents securities outstanding that could potentially dilute basic EPS in the future that were not included in the computation of diluted EPS because they were antidilutive for years ended March 31, 2013 and 2012:

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In connection with Ambac’s emergence from bankruptcy in the second quarter of 2013, Ambac’s pre-Effective Date common stock and equity interests, including stock options, warrants and other rights to acquire shares, have been cancelled. Accordingly, the stock options and restricted stock units referenced in the table above will not be antidilutive to the new common stock that was issued in May 2013.

6. FINANCIAL GUARANTEE INSURANCE CONTRACTS

Net Premiums Earned:

Amounts presented in this Note relates only to Ambac’s non-derivative insurance business for insurance policies issued to beneficiaries, including VIEs, for which we do not consolidate the VIE.

Gross premiums are received either upfront (typical of public finance obligations) or in installments (typical of structured finance obligations). For premiums received upfront, an unearned premium revenue (“UPR”) liability is established, which is initially recorded as the cash amount received. For installment premium transactions, a premium receivable asset and offsetting UPR liability is initially established in an amount equal to: (i) the present value of future contractual premiums due (the “contractual” method) or, (ii) if the underlying insured obligation is a homogenous pool of assets which are contractually prepayable, the present value of premiums to be collected over the expected life of the transaction (the “expected” method). An appropriate risk-free rate corresponding to the weighted average life of each policy and currency is used to discount the future premiums contractually due or expected to be collected. For example, U.S. dollar exposures are discounted using U.S. Treasury rates while exposures denominated in a foreign currency are discounted using the appropriate risk-free rate for the respective currency. The weighted average risk-free rate at March 31, 2013 and December 31, 2012, were 2.7% and 2.6%, respectively, and the weighted average period of future premiums used to estimate the premium receivable at March 31, 2013 and December 31, 2012, were 9.8 years and 9.6 years, respectively.

Insured obligations consisting of homogeneous pools for which Ambac uses expected future premiums to estimate the premium receivable and UPR include residential mortgage-backed securities. As prepayment assumptions change for homogenous pool transactions, or if there is an actual prepayment for a “contractual” method installment transaction, the related premium receivable and UPR are adjusted in equal and offsetting amounts with no immediate effect on earnings using new premium cash flows and the then current risk-free rate.

Generally, the priority for the payment of financial guarantee premiums to Ambac, as required by the bond indentures of the insured obligations, is very senior in the waterfall. Additionally, in connection with the allocation of certain liabilities to the Segregated Account, trustees are required under the Segregated Account Rehabilitation Plan and related court orders to continue to pay installment premiums, notwithstanding the Segregated Account Rehabilitation Proceedings. In evaluating the credit quality of the premiums receivable, management evaluates the internal ratings of the transactions underlying the premiums receivable. As of March 31, 2013 and December 31, 2012, approximately 40% of the premiums receivable related to transactions with non-investment grade internal ratings, comprised mainly of non-investment grade MBS, student loan transactions and a certain asset-backed transaction, which comprised 7%, 9%, and 15% of the total premiums receivable at March 31, 2013 and December 31, 2012, respectively. As of March 31, 2013 and December 31, 2012, $119,162 and $118,961, respectively, of premium receivables relating to a non-investment obligation were deemed uncollectable. Past due premiums on policies insuring non-investment grade obligations amounted to less than $500 at March 31, 2013.

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Below is the gross premium receivable roll-forward (direct and assumed contracts) for the periods ended March 31, 2013 and December 31, 2012: